The Best Way to Protect Yourself When the Global Liquidity Bubble Pops

SAN JOSE DE LOS PERROS NICARAGUA (Markets and Money): Down here in the tropics it is easy to lose interest in the financial markets. Against the bright sun…the waves crashing on the beach…the trees, flowers, monkeys…the price of the Dow or the dollar seems to fade away.

We fight against it, on your behalf.

There is no question that the world is enjoying an unprecedented flood of liquidity. The question is ‘how durable is it?’ And the answer to that question is: We don’t know.

But while we have nothing but doubts about the future of the world financial markets, we have nothing but certainty as to what you should do in preparation for it. Because no matter how we look at it, we see much more to lose than to gain from further inflation of the liquidity bubble. The higher prices go, the further they will have to fall.

Yes, as long as liquidity continues to expand, you can make a fortune. Maybe you could flip paintings of the Trivial School…or leverage yen credits. There’s money to be made. But it feels like the last days of the Internet bubble of the late ’90s to us. Even then, you could have made a lot of money by starting up a dotcom and taking it public. The poor sods in the public markets would have bought the thing from you; they, too, were hoping to get rich. If you moved fast enough, you could have walked away with millions.

You just didn’t want to linger too long. Every bubble pops sooner or later. This liquidity bubble will explode too. We just don’t know when. If you’re feeling lucky…go ahead, see what you can get out of it. But if you’re not feeling so lucky…we urge caution.

Besides, what glory is there in profiting from a bubble? It is like learning that an ATM machine is on the blink. You rush over to see if you can score a few 20s before it gets fixed. Yes, it’s easy money…but what pleasure can you take in it? What did you do to earn it? And having said hello to the cash so casually, wouldn’t you expect to say ‘goodbye’ to it just as easily?

It’s not worth it. You would be taking a big risk in order to get something that wouldn’t be worth having – easy money. It’s better to focus on protecting the money that is worth having…and making more.


The first thing, of course, is to protect your income. If you are a real estate agent, for example, you might want to consider alternatives. Even if the residential property industry stabilises, it will be at a level considerably lower than the peak. We read in yesterday’s news that the legal profession was already gearing up for the next stage.

“Lawyers ready for a boom in bankruptcy,” says the Chicago Tribune.

And if your business is selling granite countertops, perhaps a diversification is in order. Tombstones maybe.

Once your income stream is secure, look to your investments. Here, a pop in the liquidity bubble could do some real damage; stocks, bonds, real estate…they should all go down. We keep our ‘Crash Alert‘ flag flying in recognition of the fact that they could not merely go down…but go down in a hurry.

And what seems to us most exposed is the dollar itself. The United States must finance nearly $3 billion worth of trade deficit every day of the week. That means, the foreigners must buy, net, $3 billion worth of U.S. dollar assets. Well, in December, the foreigners must have gotten a little sick of sending their money to the United States. Net inflows from foreigners were only $15 billion – about $75 billion short. Oops. If that continues, the dollar is doomed. And so are the other assets in which the dollar figures prominently – notably U.S. stocks and bonds.

How do you protect yourself? Gold is one way. While the dollar supply has been increasing at about 9% per year for the last 10 years, the quantity of gold increases only at 2%. You can do the math later. But the trend is clear; gold has some catching up to do. It rose 23% against dollars last year. So far this year, gold is up 4% against dollars – and not only dollars.

Another way to protect yourself is to buy the currency that everyone else has sold – the yen. We do not suggest you become a currency speculator, but as we explained last week, much of the hot air in this liquidity bubble comes from borrowing yen at low interest rates, exchanging it for dollars, and using those dollars to buy financial assets. When the liquidity bubble stops expanding, however, a lot of speculators are going to be in line to exchange their dollars back into yen. The dollar will fall; the yen will rise. And yen-based assets, such as stocks listed on the Tokyo exchange, will rise too.

According to the Big Mac index, the yen was overvalued by 100% in 1995. Now, it is undervalued by 30%. The way the index works is simple. A Big Mac contains ingredients that are priced at world levels. So, you just compare prices to figure out which currency is overvalued or undervalued in terms of its purchasing power. Right now, the yen is a bargain…because people are so eager to sell it. The yen ‘carry trade,’ in which speculators borrow yen only to sell them, is said to be a trillion dollar business. Even if the game were merely reduced to half its present size, it would mean a lot of pressure off the yen…and on the dollar.

Bill Bonner
Markets and Money

Bill Bonner

Bill Bonner

Since founding Agora Inc. in 1979, Bill Bonner has found success and garnered camaraderie in numerous communities and industries. A man of many talents, his entrepreneurial savvy, unique writings, philanthropic undertakings, and preservationist activities have all been recognized and awarded by some of America’s most respected authorities. Along with Addison Wiggin, his friend and colleague, Bill has written two New York Times best-selling books, Financial Reckoning Day and Empire of Debt. Both works have been critically acclaimed internationally. With political journalist Lila Rajiva, he wrote his third New York Times best-selling book, Mobs, Messiahs and Markets, which offers concrete advice on how to avoid the public spectacle of modern finance. Since 1999, Bill has been a daily contributor and the driving force behind Markets and Money.

Bill Bonner

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