With the collapse of the sub-prime lending stocks the leadership of the current bull market has narrowed. Expect it to get narrower. This narrowing down of best-performing stocks and sectors is also a classic sign of the late stages of an asset bubble. Leadership of the market becomes concentrated in fewer and fewer stocks as the breadth deteriorates and other stocks fall apart technically (and fundamentally).
What does that mean? If earnings quality and corporate profits are no longer driving the market, ‘liquidity’ won’t be enough to prop the weaker sectors up. One by one-from emerging markets to mortgage lenders to other especially risky assets-the most risk-exposed sectors of the market should go up in flames, like dry brush in the bush. That will leave a handful of standard-bearers to fly the colours for the bull market.
This, we believe, will be financial stocks-banks, brokerages, and the like-who have profited so much from easy global money conditions. These stocks-the Merrills, Lehmans, Macquarie Banks, and ANZ’s of the world-can accommodate all the risk refugees. And that is where this Super Bubble will make its last defiant stand (other, beaten-down sectors will already have taken the leadership of the next bull market over by then, but most eyes will still be on the last bull market.)
But that could be months if not years away. What about gold? Yesterday we ate fish and chips at the Limerick Arms on Clarendon Street in South Melbourne with a handful of dedicated gold bugs. The chief question, “Will shares correlate to the gold price in another share market correction/crash?” The answer? Nobody knows.
Last time gold went to the moon (in the late 1970s), it paid to own gold shares early in the gold market and gold bullion late in the market. Shares early, bullion late.
The reason being, we think, that in the early stages of a hyperinflation (a government response to too much debt), the inflation merely looks like a boon for assets, driving everything up. People see it as benign and even positive. A little inflation keeps the house price going up, now doesn’t it?
Later, when it becomes apparent that prices are not rising in real terms but only because the government has cranked up the printing press, gold (the metal) decouples itself from gold shares. Gold is not flamboyant, really. But it does have every reason to be out and proud as store of value.
During the early stages of publicly recognized hyperinflation, gold begins behaving more like its historical self, as a relative source of stability in an insane monetary world. That’s when it has paid, at least historically, to have your wealth stored in precious metals rather than shares. This is something all those boomers who are supposedly so well off because of rising stock and home values might want to consider (but probably won’t).
How can we have a hyperinflation when there is so much dis-inflation in consumer prices from China, you may be wondering. Good question. But it would take a long answer. Short answer: inflation is always and everywhere a monetary phenomenon. Increases in credit and the money supply eventually lead to a price-spiralling bust.
Markets and Money