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Stocks, Gold, Oil, the Dollar, and Inflation - A Potpourri in the Current "Unwinding of Debt" Crisis

 


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I think that common stocks will regain their bull market status in the future, but that time may be years away. Until then, I believe stocks may trade in a wide range without reaching significant new highs.

I believe an environment may exist now where gold and oil resume in time their trend upward and finish the final vigorous stages of their bull market. But for now, we appear to be working through a correction, which could persist for many months. I expect, as happened in the late 1970's when inflation and inflation hedge investments increased in price dramatically, that a powerful resurgence in the gold and oil markets may come to pass in the coming year to year and a half.

Many have celebrated the return of a stronger dollar - but the rally has paused as the crisis over the Lehman bankruptcy, the buyout of Merrill Lynch by Bank of America, and the decimation of AIG's stock price unfolded. I believe that the rally we have seen in recent weeks in the dollar may be an upward countertrend rally in a fundamentally weak dollar scenario. If one looks at a monthly chart of the dollar index, one may conclude that the dollar is only snapping back toward its breakdown point (where it broke under a more than twenty year shelf of support in the first quarter of 2008). Should the dollar in time begin again to decline in earnest, this would likely bring added support to the gold market.

As the markets have been under extreme stress with the Lehman bankruptcy, and participants have been left wondering who may be next in line to fail - one may conclude that this unwinding of the debt markets could lead to a wholesale deflationary collapse if not checked by the Federal Reserve, the federal government, and/or a consortium of companies pooling funds. Since the stock market Crash of 1929, which was the last time there was wholesale debt liquidation - each business cycle of boom and bust afterward has built up more and more debt in the economic system. As each business cycle proceeded, it has taken more and more Federal Reserve priming to bring the economy out of recessions. As late as the recession that ensued after the Millennium bear market in stocks, Fed Chairman Greenspan had to bring interest rates down to 1% before the stimulus jolted the economy upward and the housing bubble ensued.

We are now experiencing, as I heard discussed on a popular financial news network, a deleveraging of debt. If there is a systemic collapse, then indeed there would be wealth wiped out on a mass scale - and there would be a likely deflation. But assuming that there is not a systemic collapse of the economic system - and that the authorities and players salvage the economy and manage the debt deleveraging effectively, then there is a strong case for inflation to resume and for inflation sensitive investments down the road to resume their bull trend upward. The inflation that is embedded in our economy could, at some point, begin to accelerate. Which scenario will unfold is unknown, but what is apparent at this posting is that the stock market may be like a deer on the highway looking into an oncoming car's headlights, halted in its steps as the car gets closer and closer.

More information on investing can be found here .

This article contains the opinions and ideas of its author and is designed to provide useful information to the reader on the subject matter covered. The author may or may not have current positions in the investments mentioned in this work, and the author may from time to time make investments in a manner that is not described here. Past performance is no guarantee or prediction of future results and any investments made, based on the opinions and ideas contained in this work, may or may not be successful. The strategies contained herein may not be suitable for every situation, and the author is not engaged in rendering legal, accounting, investment advisory or other professional services.

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