The Loss of Momentum in the Markets All Too Apparent Now

An excerpt from Bob Chapman's weekly publication. August 17 2011:

Facing the music of the S&P downgrade, the loss of purchasing power, currencies falling against gold and silver, nobody will admit defeat and purge the system, correction now, rally into the election, what worth our safety, banks yet to recover, Fed knows monetization of the debt keeps the game going, nightmares of inflation of depression.

Since April the market as measured by the Standard & Poor’s stock index is off about 18% and momentum has fallen 40%. The recent catalyst for lower prices has been the drop in the debt rating by S&P of US Treasuries. In addition the economy is showing a pronounced slow down, as are many other countries. There is liquidity at major banks and corporations, but it has yet to be employed into the economy. Consumer spending is falling, as are savings and the use of credit has jumped again. Monetary surplus normally is put to work not only in the economy, but also in financial sectors, such as the stock market. This absent normal reaction presently is not present. If the banks and corporations won’t lend or invest then it is the function of the Federal Reserve to do so. That means QE 3 is needed not only to provide funds for purchases of Treasury, Agency and toxic debt, but also to spark and maintain a growing economy.

Personal consumption has fallen close to 2% and it continues under pressure. As we moved into the summer the manufacturing activity fell as well. Money supply has been increasing via QE 2 and stimulus 2 for 15 months, but has only been able to produce 1.3% GDP growth and the outlook for the second half of the year looks lower, as we predicted it would late last year. The rate of money and credit creation is close to 8% and has officially risen, which means we are still well into the system. Using 1980s formula inflation is 10.6% and climbing toward 14% by yearend. Deflationary bias has been overcome as it has been for the past 11 years. The flipside of this rescue plan is consumers are losing purchasing power and most all currencies continue to fall in excess of 20% versus gold and silver annually.

What the fed has to do is anticipate future needs of money and credit needed by the economy. One false step can lead to contractions of liquidity and a fall toward or into deflation. Thus far, recently the opposite has been true - there has been almost sufficient liquidity. The big problem on the other side is how to moderate inflation? As far as we know the Fed has not found that solution, nor has anyone else historically. We all know where double-digit inflation ends up. The next question is how to create real economic growth, which generally speaking has not as yet appeared. Further gunning the money and credit growth exacerbates inflation. Some $5 trillion in spending via QE and stimulus 1 and 2 has held the economy up, but has not provided real growth and wealth. This patchwork system has failed and the Fed has already embarked on QE 3, which will obtain the same result. The Fed knows this won’t work, but the only thing else they can do to solve the problem is to purge the system; they won’t do that because they will have to again admit defeat.

Some in the stock market community are recognizing the ongoing problems and they have moved in a large way into commodities and in a minor way into gold and silver related assets. Even sovereign nations have been buying gold. Thus, we believe finally a trend is in place toward the purchase of gold and silver and shares. We believe the stock market will move lower and additional funds will move into other opportunities. We have already seen this in gold and silver and we are now seeing accumulation of gold and silver shares, which we believe will continue. The positive aspects of the general stock market have exhausted themselves and real earnings could fall 30% over the next couple of years. It is better as well from a political viewpoint to have a correction between now and February with a presidential election on the way. That could set up for a rally, albeit transitory, into the election. Remember, there is no coincidences and nothing happens by chance. Deflation brings loss of control by the Fed and inflation allows control of the entire system. That has produced at least $2.5 trillion in additional money and credit via QE 1 & 2; most of which has been monetized and become inflationary. If you add in stimulus 1 & 2 you have a total out lay of about $4.2 trillion. If we are correct in our predictions QE 3 will aggregate about $2.3 trillion additional and that will keep inflation headed upward.

This kind of monetary inflation is classic and it is not surprising at all that those hoping to protect their assets have been moving their investment funds into gold and silver related assets. As you have seen the reaction in the stock market has been negative accompanied by wild swings. The downside was led by the financial sector, which is starting major layoffs and oil and gas companies that just saw oil fall $25.00 a barrel. At the same time worldwide sovereign bonds have been under pressure, the exception being the US Treasury market, which is perceived to be a safe haven supplying negative returns on a net basis. We could never understand the perception. Presently those investing in 10-year T-notes at 2.20% and looking at real inflation of 10.6% is a real loser of 8.4%. That makes no sense to us. Is supposed safety worth those kinds of losses? Perhaps in five years or so we can pick through the wreckage and discern whether these risk takers were correct in taking guaranteed losses.

The main reasons for higher gold prices has been 23 years of official suppression: ongoing inflation; zero interest rates at least for two more years; gold replacing the dollar as the world reserve currency; the denigration of sovereign bonds and the possibility some may default; the insolvency of many major banks worldwide; the ECB emulating the Fed by creating almost $1 trillion to buy bonds from collapsing countries and that people worldwide are finally realizing their fiat currencies are flawed to say the least. Who in their right mind would buy toxic sovereign debt except the Fed and the ECB and the Bank of England? On the other hand, who would say zero interest rates would be extended for two years?

The casinos known as banks have yet to recover from the credit crisis. They are trying disparately to recapitalize as housing and commercial real estate lie in a state of collapse. The economy has little or no growth and was it not for federal largess and Fed accommodation the economy would be in serious trouble. Without stimulus and QE 2 economic growth would be minus 5%, as price inflation stands at 10.6%. A QE 3 will buy Treasury and Agency bonds and assist in keeping US GDP from falling into negative GDP. There will be little room to supply stock market support. It will be there but on a limited basis. The “Presidents Working Group on Financial Marketsâ€