The Four Big Risks Massive Money Has Brought to the U.S. Economy

Written by Michael Lombardi, Profit Confidential

The bond market, dear reader, is becoming vulnerable. By keeping interest rates so low and by the Federal Reserve actually buying U.S. Treasuries, bond prices have climbed and climbed…and the low yields on U.S. Treasuries have sent investors to the stock market and junk bonds. Any tightening in monetary policy will send the bond market into a tailspin.

But there’s more…

Next, the stock market rose to atmospheric levels as easy monetary policy remained in effect. Even I’m surprised at just how high this market has gone. But at the very moment the Federal Reserve shifts its monetary policy towards normalization, the market will be in jeopardy. We saw a slight episode of this in a sell-off in the key stock indices last week, when the Federal Open Market Committee’s (FOMC) meeting minutes suggested some members of the committee think the Federal Reserve should start to slow the rate of its quantitative easing. (Source: Federal Reserve, May 22, 2013.)

Moving on, public companies are borrowing money cheaply as a result of the favorable monetary policy environment, but these companies are not putting the borrowed money to good use. Instead of making investments in plant, equipment, and people, companies are buying back their shares to eventually make their corporate earnings look better.

In 2012, American companies spent $400 billion to buy back their shares; a startling 2.6% of the gross domestic product (GDP) of the U.S. economy is going to buy stock? Something’s not right with this. Since the beginning of the year to March 7, American companies have announced share buybacks worth a total of $111.6 billion-an increase of 96% from the same year-ago period. (Source: The Economist, April 6, 2013.)

Last but not least, pension funds are falling victim to easy monetary policy. One of the most basic principles of calculating pension obligation is identifying future values. Because of lax monetary policy, namely low interest rates, pension funds need more capital to fulfill their obligations. (Source:Washington Post, May 24, 2013.) The longer interest rates remain low, the bigger pension deficits will become, not just for insurance companies, but for union, private company, and government pension funds as well.

Readers of Profit Confidential know where I stand; keeping interest rates artificially low and printing lots of paper money can only go so far to help a company before these actions actually hurt the economy.

Remember, dear reader, back in 2007, when the housing market was the sole catalyst of the financial crisis that hit America. Today, thanks to a $7.0-trillion increase in the national debt under President Obama and the $3.0-trillion balance sheet of the Federal Reserve, several catalysts have been created-none less important than a bloated, overvalued stock market and inflation knocking at the door.

Michael’s Personal Notes:

Yes, the amount of pessimism towards gold bullion is increasing daily. Data from Commodity Futures Trading Commission showed there were 79,416 short contracts (bets on the price falling) for gold bullion for the week ended May 21.

But while speculators increase their bets that gold bullion is going down in price, according to the International Monetary Fund (IMF), central banks from countries like Russia, Kazakhstan, Turkey, and Azerbaijan added gold bullion to their reserves in April in spite of falling gold bullion prices.

In April, the central bank of Russia added 269,000 troy ounces of gold bullion to its reserves, bringing its total holdings to 31.8 million ounces.

In the same month, gold bullion holdings at Turkey’s central bank grew by 586,000 ounces. The central bank of Azerbaijan bought the yellow metal for the fourth consecutive month in April-in December of 2012, this central bank didn’t have any gold bullion holdings at all.

The central bank of Kazakhstan has been accumulating gold bullion too. It bought more in April-adding another 85,000 ounces. The central bank of Kazakhstan now holds four million ounces of gold bullion in its reserves.

In the first quarter of 2013, central banks added a total of 109 tonnes of gold bullion to their reserves. What’s more interesting is that this first quarter was the seventh consecutive quarter central banks purchased more than 100 tonnes of gold bullion to add to their official holdings. (Source: World Gold Council, May 16, 2013.)

When I look at all this, it makes me more bullish towards gold bullion. As I have been harping on about in these pages for quite some time, through their actions, central banks will ultimately cause gold bullion prices to soar higher.

Central banks are considered to be the most conservative of all investors. As volatility in the foreign exchange market rises and the fundamentals of the world reserve currency (the U.S. dollar) come into question, why wouldn’t they buy even more gold bullion?

Central banks buying gold bullion in such high quantities shows me that they are losing trust in the fiat currency they usually hold in their reserves. They are looking for alternative ways to maintain their wealth, and gold bullion looks to be the only solution, as bonds are yielding next to nothing.

When it comes to gold bullion prices, I am not too concerned about daily fluctuations. I am keeping my focus on the long term, and as it stands right now, it’s bright.

What He Said:

“The Dow Jones Industrial Average, the S&P 500 and the other major stock market indices finished yesterday with the best two-day showing since 2002. I’m looking at the market rally of the past two days as a classic stock market bear trap. As the economy gets closer to contraction, 2008 will likely be a most challenging economic year for America.”

Michael Lombardi in Profit Confidential, November 29, 2007. The Dow Jones Industrial Average peaked at 14,279 in October 2007. A sucker’s rally developed in November 2007, which Michael quickly classified as a bear trap for his readers. By mid-November 2008, the Dow Jones Industrial Average was at 8,726.