What Will Happen When The Money Printing Stops?

For two years monetary stimulus has kept the US economy going. Now the Federal Reserve is about to pull the plug...

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What Will Happen When The Money Printing Stops?

For two years monetary stimulus has kept the US economy going. Now the Federal Reserve is about to pull the plug...

read more

Gold vs. the Dollar

Watching the Dollar die, one day at a time, by watching the price of Gold...

The WORLD HAS OFFICIALLY entered what we believe will be the final chapter of the US Dollar's reign as the world's reserve currency, writes Porter Stansberry in his Daily Crux round up.

The Dollars in your wallet now not only back bankrupt US money center banks and subprime home "owners". They are also officially backing all of the economies of Europe. The world's monetary system has evolved into a new kind of global socialism. We don't think that can be bullish for long.

Here are the facts we've been told so far...

• The European Central Bank (the ECB) will spend $1 trillion (€750 billion) bailing out Europe's sovereign borrowers (like Greece, Spain, and Portugal);
• The ECB will also purchase billions of troubled assets from Europe's largest banks – like UniCredit. The mechanisms for these purchases will likely be convoluted. The EU treaties contain a no-bailout clause, forbidding any member to "be liable for or assume the commitments of" another EU country. And the European Central Bank cannot lend to countries or buy their debt directly;
• To get around the technicalities, the EU created an off-balance-sheet entity that will "borrow" the money and lend it to countries in trouble. Whether this matters to the EU's creditors or not, we can't say... but we certainly wouldn't lend to an off-balance-sheet entity of a central bank that's not represented by any country.

Buying Euros used to be a game of "who owes me nothing." Now, it will be a game of "whose off-sheet entity owes me nothing." We doubt that will make Europe more creditworthy in the long term.

What does any of this have to do with the US Dollar? More than you'll ever hear anywhere else. On paper, the money is supposed to come from Europe's biggest governments and the IMF. But in reality, most of the money will be borrowed from the US Federal Reserve, which just happened to re-open its trillion-Dollar swap account with the ECB this weekend. Ironically, the Federal Reserve says these loans are risk-free because the counterparty is a central bank (or at least the off-balance-sheet entity of a central bank).

But if the ECB is truly creditworthy, why couldn't Greece, Spain, Portugal, Italy, or Ireland raise the money for themselves?

At the beginning of the year, we declared rising interest rates in the US as "the single most important trend in finance." We believe interest rates on long-term US government bonds will rise to compensate investors for the increased risk of owning paper-backed sovereign debt. Our logic is simple: The more money the US prints to bail out banks and other sovereign borrowers, the riskier the US balance sheet becomes.

By the first half of 2010, the Fed had already spent $2 trillion to bail out Wall Street's banks and the US mortgage market. And as we reminded subscribers just last Friday, because the world's banking system uses the US Dollar as its reserve currency, the Fed would eventually be forced to bail out Europe's economy. Indeed, that's exactly what happened over the weekend. The US Federal Reserve has officially become the world's lender of last resort. We would humbly suggest these policies will likely lead to a permanent loss of value for holders of US Dollars.

Why are we so concerned...?

Printing money to bail out borrowers around the world will not solve the problems of overleveraged governments or debt-ridden economies. It simply shifts the risks from private balance sheets to the US government's. The US Dollar has assumed all of these risks. Our currency has become a ticking time bomb.

You can watch the Dollar die, one day at a time, by keeping your eye on the growing spread between the value of long-term US bonds and the price of Gold. Over the last year – even as the US economy apparently improved – the spread widened by about 35%.

How best to Buy Gold today? "If there's an easier way, I've yet to find it," says one BullionVault user...

First GM, Now the US

What ailed GM now ails the United States, only on a truly vast scale...

IT'S NOT EASY being financially illiterate, writes Porter Stansberry, publisher of the Daily Wealth email.

Over three years ago, I began researching and writing about the impossible debt problems faced by several of America's largest and most trusted enterprises: General Motors, Fannie Mae, and Freddie Mac. The hate mail came into my office by the truckload. I can sum up the sentiment as, "Porter...you're brain dead. You're un-American. You've lost your mind."

I wasn't digging up hidden, insider facts. I simply performed a basic analysis of each of these companies' ability to take in cash, viewed against its ability to pay out cash to its creditors. The only possible future for all three was bankruptcy. As you know, each of these stalwarts went under...while their stooge managers collected enormous salaries, smiled in front of the cameras, and told you everything was fine.

I tell you this story because I'm getting hate mail again...but my prediction of a US government bankruptcy is much more serious...and the ramifications are much larger.

Simply put, just like GM, the US government has taken on ridiculous debts that it cannot pay back. But then the million-Dollar question arises: If Porter is right, what do I do with my money?

Stocks are trading at big multiples to earnings. High-quality names and low-quality names are just too expensive right now to be bought safely. Volatility in the market has almost disappeared: Stocks have gone nowhere but up for nearly a year. Isn't that a sign I must be wrong about all of these financial problems?

Not at all. The huge run-up in equities we've seen over the last year is merely proof our central bank is still powerful. The stock market rebound that's lifted shares in the United States started the same week the Federal Reserve began its $2 trillion program of "quantitative easing" – which simply means printing up money and buying debts with it.

The Fed's program is scheduled to end this month. That's when we'll have our first real test of the true appetite for risk. I bet we see a big correction in the stock market at exactly the same time.

So the first thing to do is stay cautious of the stock market. Stick with stocks that can greatly increase earnings during an inflationary period and/or have a large and safe dividend stream to protect you against a bear market.

Next, one of my favorite trades here is a wager that Gold Prices continue to outperform US long-dated Treasuries (TLT) – which you can see in the chart below:

Over the last six months, we've seen gold, measured here by the SPDR Gold ETF proxy, outperform long-dated US Treasuries by roughly 15%.

I expect this trend to continue and accelerate over the next six months as the Fed stops supporting the US Treasury market. Stay long gold, and stay long its hard-money cousin, silver.

Third, learn how to short stocks. Learn how to profit as stocks fall. You can find good explanations of short selling in any standard stock market or trading guide. When short selling, focus on companies that are frauds, overly indebted, or obsolete (for the "indebted" and "obsolete" columns, I like newspapers).

What most people don't understand about a period of increasing inflation is that even though growth in the money supply will increase earnings, matching increases to interest rates force equity valuations lower. And in the race between valuations and earnings, valuation almost always wins.

It's hard to make money in stocks (on the long side) if the market's overall earnings multiple falls in half. If stocks go from trading at 20 times earnings to trading at 10 times earnings (which is what I expect will happen), your stocks will have to double their earnings for you to merely break even, outside of what you're paid in dividends. So short sellers will have a tailwind at their backs.

As the great Richard Russell reminds us, "In a bear market, he who loses least, wins." I agree with Russell. It's hard to make money when markets fall. And while I can't guarantee sticking only with the safest stocks, betting on higher interest rates, owning gold and silver, and short selling stocks will make you rich, I can guarantee you'll be much better off than someone who ignores my advice...like the shareholders of GM did in 2008.

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Forex Trading: A Recipe for Disaster

The flood of "retail investors" into forex markets says currency trading may be about to blow up...

SEVERAL WEEKS AGO, I was invited to a client meeting in Miami held by the wealth-management firm AllianceBernstein, reports Porter Stansberry in the Daily Wealth email.

Bernstein's investment research has long been regarded as the best on Wall Street. Why? Because Bernstein does honest, thorough work. It doesn't engage in investment banking. It's paid to be right, not to sell retail clients down the river to pull off a public stock offering or sell a bond.

In Miami, the firm's head economist spoke about the dynamics of the global currency markets and explained AllianceBernstein's trading strategy. It borrows in four to six currencies with low interest rates and buys four to six currencies with higher interest rates. This diversified approach reduces risk substantially. And it has historically produced better average returns than the S&P 500 with less volatility.

The presentation was designed to entice wealthy US investors to open leveraged foreign-exchange trading accounts with AllianceBernstein. And I must say, the presentation was among the most sophisticated I've ever seen. The economist really knew his stuff. But...I was deeply troubled by it.

In my experience, whatever the big brokers are pitching to retail clients, that's the thing most likely to blow up next. One year it's dot-com stocks, one year it's mortgage backed securities, one year it's commodity futures, and so on...

I'd never seen a Wall Street firm give a leveraged currency presentation to retail clients before. While this kind of trading can be very profitable, it is extremely risky – especially right now.

For the first time since just after World War I, we have serious sovereign debt problems in all of the major currencies. And for the first time in the history of man, we have a global monetary base that's not anchored to any real asset.

In fact, the largest reserve assets of the world's monetary system are the obligations of a bankrupt nation (the US) that must print money to afford its own annual deficits.

This is a recipe for disaster.

I believe the entire system of paper money – globally – is coming unglued. The result will be a kind of volatility and disruption to the global economy the world hasn't seen since World War I, when the gold standard ended in 1914.

Ironically... ignorant of these enormous risks... retail investors are running full speed ahead into foreign-exchange trading.

Deutsche Bank reports its currency trading platform for retail clients saw a 40% increase in customers during 2009. In the US, foreign-exchange volume was up 28% last year – almost entirely because of retail trading.

I suspect these numbers will continue to grow for a while, but I urge you to avoid this looming disaster. It will be devastating to unsophisticated traders who don't practice sound position sizing and don't use stop losses.

While trading foreign currencies has been a good strategy for a long time...what will happen to those strategies as volatility soars and the large currencies collapse? No one knows. But one thing I do know for sure: It won't end well for retail investors.

Someone has to hold the bag for all of the world's paper money. Who do you think will end up holding the bag? Retail investors...or giant institutions like AllianceBernstein?

My advice for anyone itching for a currency trade: Trade worthless paper Dollars for Gold Bullion. Trade them for silver. Repeat as often as possible.

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Escape to Gold

The next 3 foreign lenders to abandon the Dollar keep barely 1% of their reserves in gold...

It's ONE OF THOSE numbers that's so unbelievable you have to actually think about it for a while, writes Porter Stansberry in his S&A Digest.

Within the next 12 months, the US Treasury will have to refinance $2 trillion in short-term debt. And that's not counting any additional deficit spending, which is estimated to be around $1.5 trillion. Put the two numbers together...then ask yourself:

How in the world can the Treasury borrow $3.5 trillion in only one year?

That's an amount equal to nearly 30% of our entire GDP. And we're the world's biggest economy. Where will the money come from?

How did we end up with so much short-term debt? Like most entities that have far too much debt – whether subprime borrowers, GM, Fannie, or GE – the United States Treasury has tried to minimize its interest burden by borrowing for short durations and then "rolling over" the loans when they come due.

Because, as they say on Wall Street, "a rolling debt collects no moss." And what they mean is that, for as long as you can extend the debt, you have no problem.

Unfortunately, that leads folks to take on ever greater amounts of debt...at ever shorter durations...at ever lower interest rates. Sooner or later, the creditors wake up and ask themselves: What are the chances I will ever actually be repaid? And that's when the trouble starts. Interest rates go up dramatically. Funding costs soar. The party is over. Bankruptcy is next.

When governments go bankrupt it's called "a default". Currency speculators figured out how to accurately predict when a country would default. Two well-known economists – Alan Greenspan and Pablo Guidotti – published the secret formula in a 1999 academic paper. That's why the formula is called the Greenspan-Guidotti rule.

The rule states:

To avoid a default, countries should maintain hard currency reserves equal to at least 100% of their short-term foreign debt maturities.

The world's largest money management firm, PIMCO, explains the rule this way:

"The minimum benchmark of reserves equal to at least 100% of short-term external debt is known as the Greenspan-Guidotti rule. Greenspan-Guidotti is perhaps the single concept of reserve adequacy that has the most adherents and empirical support."

The principle behind the rule is simple. If you can't pay off all of your foreign debts in the next 12 months, you're a terrible credit risk. Speculators are going to target your bonds and your currency, making it impossible to refinance your debts. A default is assured.

So how does America rank on the Greenspan-Guidotti scale? It's a guaranteed default.

The United States currently holds gold, oil, and foreign currency in reserve. The US has 8,133.5 metric tonnes of gold (it is the world's largest holder). At current Dollar values, the gold's worth around $300 billion. The US strategic petroleum reserve shows a current total position of 725 million barrels. At current dollar prices, that's roughly $58 billion worth of oil. And according to the IMF, the US has $136 billion in foreign currency reserves. So altogether...that's around $500 billion of reserves.

Our short-term foreign debts are far bigger.

According to the US Treasury, $2 trillion worth of debt will mature in the next 12 months. So looking only at short-term debt, we know the Treasury will have to finance at least $2 trillion worth of maturing debt in the next 12 months. That might not cause a crisis if we were still funding our national debt internally. But since 1985, we've been a net debtor to the world. Today, foreigners own 44% of all our debts, which means we owe foreign creditors at least $880 billion in the next 12 months –
an amount far larger than our reserves.

Keep in mind, this only covers our existing debts. The Office of Management and Budget is predicting a $1.5 trillion budget deficit over the next year. That puts our total funding requirements on the order of $3.5 trillion over the next 12 months.

So, where will the money come from? Total domestic savings in the US are only around $600 billion annually. Even if we all put every penny of our savings into US Treasury debt, we're still going to come up nearly $3 trillion short. That's an annual funding requirement equal to roughly 40% of GDP.

Where is the money going to come from? From our foreign creditors? Not according to Greenspan-Guidotti. And not according to the Indian or the Russian central banks, which have stopped buying Treasury bills and begun to buy enormous amounts of Gold Bullion. The Indians bought 200 metric tonnes last month from the International Monetary Fund. Sources in Russia say the central bank there is looking to double its gold reserves.

So where will the money come from? The printing press perhaps? The Federal Reserve has already monetized nearly $2 trillion worth of Treasury debt and mortgage debt, creating bank reserves to purchase T-bonds and other government-backed debt. This weakens the value of the Dollar and devalues our existing Treasury bonds. Sooner or later, our creditors will face a stark choice: Hold our bonds and continue to see the value diminish slowly, or try to escape to gold and see the value of their US bonds plummet.

One thing they're not going to do is buy more of our debt.

And which central banks will abandon the dollar next? Brazil, Korea, and Chile. These are the three largest central banks that own the least amount of gold. None own even 1% of their total reserves in gold.

How best to Buy Gold today? "If there's an easier way, I've yet to find it," says one BullionVault user...

The Fed is “Urging You to Buy Gold!”

Why a Fed forecast tells you to Buy Gold and dump bonds...

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Gold – Not Tomorrow, But 5 Years from Now

Wall Street's richest hedge fund manager on why he's Buying Gold today...

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Inflation Wins, You Lose

How to survive the largest creation of new money in credit since the Civil War...

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The Paper Deluge

The strongest reason to Buy Gold in one simple chart...

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