Thursday, January 23, 2014

Harry Dent vs. Bud Kress

A reader sends the following email: "Began reading your book, 2014: America's Date with Destiny recently.  I am sure you are familiar with Harry Dent.  He says deflation and crash that is coming will take gold down to 250oz. He says all asset classes will collapse because of deflation.  It seems logical to me.  How can you & Kress be at odds with him?  A little confusing to me.  What about hedge funds?  They as you say are levered to the moon.  If they have to meet margin calls, will they not have to sell everything like they did in 2008 including gold and silver?  I think the easy money has been made in the stock market since March 2009.  However, I am really confused about the metals.  Your response appreciated."

Answer: Kress always maintained (and I agree based) that gold performs best as a safe haven investment during two phases of the 60-year inflation/deflation cycle: the final "hyper-inflationary" phase of the cycle (e.g. late 1970s) and the final "hyper-deflationary" phase (e.g. the last 10 years or so).  With deflation comes investor uncertainty, which in turn causes them to search for financial safe havens.  Gold and bonds are the two most obvious choices in the minds of most investors.  

As far as deflation and equities go, it actually works both ways.  Initially, deflation can cause higher stock prices due to lower input costs for companies that produce things and higher profit margins.  Also, deflation tends to scare central banks into dramatically increasing monetary liquidity, which of course stock investors love.  However, the melt-up in stock prices caused by the initial onset of deflation sows the seeds of its own demise.  Since the run-up is unsustainable in an ongoing deflationary environment, a collapse usually follows.

As for hedge funds, I suspect they've sold out a substantial portion of their long positions in the metals over the last year or so.