"The Mother of All Bubbles"

 

In contrast to the dismal forecasting record of mainstream economists over the last few years, the forecasts that I have made regarding the dollar, oil, commodities, precious metals, global stock markets, inflation, and the U.S. economy have all come to pass. In addition, unlike the top economic oracles on Wall Street and in Washington, I can also point to similar accuracy in predicting the bursting of growing bubbles, first with technology in the late 1990's, and more recently with real estate. However, my long-standing prediction about the fate of the bond market has fared much worse. I still do believe this prediction was not wrong, but simply premature.

For years I have predicted that the falling dollar, persistent trade deficit, and the lack of domestic savings would combine to send long-term interest rates sharply higher. The effects of these fundamental drivers would undermine the Fed's efforts to lower short-term rates and compound the problems for the housing market and the U.S. economy. Yet as of today, the yield on the thirty-year Treasury bond still stands below 4.5%, within 40 basis points of a generational low. Either this is the one piece of the puzzle that I somehow got wrong, or other factors are working to temporarily confound fundamental economics and prop up the bond market. As you might imagine, I am confident that it is the latter and consider the U.S. Treasury market to be the mother of all bubbles.

I have often said that the only thing worse than holding U.S. dollars is holding promises to be paid U.S. dollars at some distant point in the future. However, this is precisely what U.S. Treasuries represent. Given all of the inflation that already exists, and all of the additional inflation likely to be created over that time period, why would anyone pay par value for the right to receive $1,000 in thirty years in exchange for a mere 4.5% coupon? Although it looks like the sucker bet of the century, the fools have been lining up to buy. Alan Greeenspan called this a "conundrum." I simply call it mass delusion of the same variety that brought us pets.com, and $800,000 tract homes in the middle of the California desert.

Just like dot coms or real estate, today's bond prices reflect a fantasy world. In this "Bizarro" reality, the dollar will remain strong, inflation will stay low, economic strength will persist uninterrupted, and Fed policy will be predominantly hawkish for the foreseeable future. But when the fog finally lifts, and investors come to grips with a sagging dollar, recession, gaping budget and current account deficits, and the most accommodative Fed imaginable, bond prices will collapse, sending long-term interest rates skyrocketing higher. Unfortunately, for investors who hitched their wagons to benign government CPI statistics and ignored real world evidence of inflation [rapid money supply growth, surging gold, oil and other commodity prices (wheat and soy beans prices catapulted to record highs this week), the sinking dollar, and actual increases in consumer prices,] the losses will be excruciatingly real.

It is important to remember that for every borrower there has to be a lender. For example, if a homeowner wants to refinance his mortgage, there must be someone willing to loan him the money. Practically everyone on Wall Street is hailing the Fed's recent rate cuts because they believe it will allow strapped ARM holders to refinance into more affordable mortgages. However, while low rates are great for borrowers, they are lousy for lenders. Why would anyone want to offer a thirty-year mortgage at an artificially depressed interest rate? As soon as the Fed raises rates again, as it clearly intends to do once the crisis ends, all that low yielding mortgage paper will collapse in value. Lenders can surely figure this out and will therefore refuse to volunteer to be the patsy in this plan.

Eventually, the world's lenders will reach similar conclusions with respect to U.S. Treasuries. No matter how low the Fed funds or discount rates get, private savers around the world will simply refuse to lend given the inherent risks and paltry returns. At some point the sheer absurdity of holding long-term, low-yielding receipts for future payments of depreciating U.S. dollars will be apparent to all. After all, it was not too long ago that investors thought holding subprime mortgages from financially strapped borrowers who could not possibly repay them was also a great idea -- so great in fact that many leveraged themselves to the hilt to buy them. Judging from the extremely poor demand at this week's $9 billion auction of thirty-year Treasury bonds, the day of reckoning may not be too far off.

For now there are a host of factors temporarily propping up the Treasury bond market, such as unrealistically sanguine inflation expectations, foreign central bank and hedge fund buying, short covering, credit spreads, problems in the mortgage market, recession fears, and flight to what is falsely perceived to represent the ultimately in safety and quality. When these props give way, look out below! As we have learned from previous bubbles they can inflate for a long time before they burst. As this one has been inflating longer then most it has amassed quite a bit of air. When it ultimately finds its pin the popping sound will be deafening.

For a more in depth analysis of the tenuous position of the Americana economy and U.S. dollar denominated investments, read my new book "Crash Proof: How to Profit from the Coming Economic Collapse."

 

 

(Sep 18, 2007)- "If the dollar loses value too quickly, it could wreak havoc on the economy and financial markets - driving up interest rates and inflation and slashing Americans' purchasing power" -Peter Schiff 

 

 

(Sep 19, 2007)- "People keep talking about Fed bailouts as if there is no cost. All the Fed can do is create new dollars. What that does is diminish the value of all the dollars everybody already has. They try to socialize the losses among all the holders of dollars" -Peter Schiff

 

 

Feb. 4 -  The stock market's down, jobs are tenuous, and a recession looms.  What else could go wrong? How about a little inflation? The nation's central bankers are still worried about rising commodity and consumer prices, even as they fight a separate battle to prop up jobs, stocks and the home-building business. When it cut interest-rate targets Wednesday for the second time in 10 days to ward off a recession, the Federal Reserve's Board of Governors warned: "It will be necessary to continue to monitor inflation developments carefully." Also that day, the Commerce Department said inflation rates rose in the fourth quarter, to 3.8 percent, from 1.8 percent in the third quarter, as oil, food and import costs rose despite the business slowdown. "Inflation is higher, and the consumer environment is a little tougher, and that always leads to a tougher competitive environment," Jeffrey Noddle, chief executive officer at Acme Markets' owner SuperValu Inc., told investors at a January conference call. Acme is the Philadelphia area's largest supermarket chain and one of its biggest employers. To cope with higher prices, some customers have been "trading down" from stores like Acme to SuperValu's no-frills Save-A-Lot outlets, Noddle added. "They are attractive to more stressed consumers," he said. Comcast Corp., the largest U.S. cable company, is also feeling pressure from consumers who are having trouble making ends meet.............

 

(Aug 16, 2007)- "The housing bubble has burst. Prices are going to collapse and sales are going to fall through the floor." -Peter Schiff 

 

 

(Sep 21, 2007)- "With the Federal Funds Rate cut, the Fed revealed that it has no interest in defending the dollar or containing inflation. This kind of irresponsibility is all gold needs to move higher from its current levels unless the Fed somehow finds its backbone within a year or two, then gold has a good chance to take out its inflation-adjusted high of nearly $2,000 per ounce within this decade." -Peter Schiff

 

"Gold Gains Return Confidence to Uptrend" - USA Gold Daily
 

(July 31, 2007)- "It's going to soon hit $90 and go north of $100 next year. We should see $150 to $200 oil in the next two to three years because of the drop in the dollar.'' -Peter Schiff