20
THE GLOOM, BOOM & DOOM REPORT ISSN 1017-1371 A PUBLICATION OF MARC FABER LIMITED JULY 2010 When Everything Else Fails, Immortality Can Always be Assured by Making Spectacular Errors “The greatest contradiction of our time is the ability of our species to destroy itself, and its inability to govern itself.” Fidel Castro Ruz “It [the State] has taken on a vast mass of new duties and responsibilities; it has spread out its powers until they penetrate to every act of the citizen, however secret; it has begun to throw around its operations the high dignity and impeccability of a State religion; its agents become a separate and superior caste, with authority to bind and loose, and their thumbs in every pot. But it still remains, as it was in the beginning, the common enemy of all well-disposed, industrious and decent men.” Henry L. Mencken “The people who cast the votes don’t decide an election; the people who count the votes do.” Joseph Stalin “The American people will never knowingly adopt socialism, but under the name of ‘liberalism’, they will adopt every fragment of the socialist program until one day America will be a socialist nation without knowing it happened.” Norman M. Thomas (Leader, US Socialist Party, 1948) “Bankruptcies of governments have, on the whole, done less harm to mankind than their ability to raise loans.” R.H. Tawney (Religion and the Rise of Capitalism, 1926)

Marc Fabers the Gloom Boom Doom Report

Embed Size (px)

Citation preview

Page 1: Marc Fabers the Gloom Boom Doom Report

THE GLOOM, BOOM & DOOM REPORTISSN 1017-1371 A PUBLICATION OF MARC FABER LIMITED JULY 2010

When Everything Else Fails,Immortality Can Always be Assured byMaking Spectacular Errors

“The greatest contradiction of our time is the ability of our species todestroy itself, and its inability to govern itself.”

Fidel Castro Ruz

“It [the State] has taken on a vast mass of new duties and responsibilities;it has spread out its powers until they penetrate to every act of the citizen,however secret; it has begun to throw around its operations the high dignityand impeccability of a State religion; its agents become a separate andsuperior caste, with authority to bind and loose, and their thumbs in everypot. But it still remains, as it was in the beginning, the common enemy of allwell-disposed, industrious and decent men.”

Henry L. Mencken

“The people who cast the votes don’t decide an election; the people whocount the votes do.”

Joseph Stalin

“The American people will never knowingly adopt socialism, but under thename of ‘liberalism’, they will adopt every fragment of the socialist programuntil one day America will be a socialist nation without knowing it happened.”

Norman M. Thomas (Leader, US Socialist Party, 1948)

“Bankruptcies of governments have, on the whole, done less harm tomankind than their ability to raise loans.”

R.H. Tawney (Religion and the Rise of Capitalism, 1926)

Page 2: Marc Fabers the Gloom Boom Doom Report

2 The Gloom, Boom & Doom Report July 2010

Figure 1 Each Crisis Produced Additional Government Interventions

Source: Ed Yardeni, www.yardeni.com

INTRODUCTION

A recent letter to the editor of theFinancial Times (FT, June 14, 2010)caught my attention and sympathy.T.C. Smith, CEO of Tullet Prebon (aprovider of independent real-timeprice information), writes:

Sir, The recent letter from Frenchpresident Nicholas Sarkozy andGerman chancellor AngelaMerkel to the president of theEuropean Commission on thesubject of regulating short sellingand the use of credit default swapsreminds me of an incidentinvolving my father-in-law.When he was a headmaster hewas approached by the parents ofa boy who asked him to stop otherchildren from taunting their sonby calling him “Smelly”. He saidhe could perhaps make anannouncement in assembly askingthem to desist, but he alsosuggested a more radical solutionwhich would address the causesrather than the symptoms —

namely getting the boy to bathe.Perhaps if Europe’s political

elite stopped trying to get marketsto fund their grandiose designsand social engineering projectsthey would not need yet moreregulation to control markets. Infact, financial markets arereacting exactly as they should doin the face of this profligacy andattempt to bribe the electoratewith borrowed money. Of course,sadly in the current age my father-in-law would be reported forpolitical[ly] incorrect treatment ofa child who was soap-phobic[emphasis added].

I have to say that I love Smith’sletter to the FT because, in just a fewsentences, he addresses twoimportant points. Governmentsaround the world have for the mostpart addressed the symptoms of thecurrent economic crisis and not theircauses. Moreover, there is almost awitch-hunt-like madness —especially in the US — about“political correctness”.

As I have explained previously,since the 1980s it has been theeconomic policy of governments andcentral banks to intervene in freemarkets each time asset marketsbegan to sell off and economies wereabout to make the necessaryadjustments in order to clean theexcesses of the preceding boom inone or other sector of the economy(see Figure 1). I need to point outthat numerous economists, includingPaul Krugman, don’t believe that theexcesses brought about by a boomneed to be cleaned out by economicadjustments on the downside (whatJoseph Schumpeter calls the“excursion into depression”).

The problem with preventing thecleansing out of the excesses of aprevious boom with fiscal andmonetary interventions is, of course,that “new excesses” or “bubbles” arecreated, while at the same time theoverall economy’s financial positiondeteriorates. Taking the US as anexample, there should be no debatethat its financial position hascontinued to deteriorate since the

Page 3: Marc Fabers the Gloom Boom Doom Report

July 2010 The Gloom, Boom & Doom Report 3

early 1980s, because credit growthhas exceeded nominal GDP growth.From 140% of GDP, total credit (exunfunded liabilities) has risen tomore than 375% of GDP currently.Interestingly, for the interventionistsat the Fed and the Keynesians, itdoesn’t seem to matter when credit asa percentage of the economyexpands; however, when it is about tocontract, “extraordinary measures”need to be taken to create renewedexcesses. These, in turn, will lead tofuture problems, which it isacknowledged will have to be dealtwith “later”. (In the summer of 2009,Krugman said: “A new bubble nowwould help us out a lot, even if wepay for it later.”)

But it would appear that thepaying “later” has becomesuccessively more painful, andcertainly more expensive (althoughthe Krugman cohort don’t seemconcerned by this). The 1994 bailoutof Mexico led to further excesses inemerging markets — in particular inAsia, where in 1997/98 a very seriouseconomic crisis followed. The bailoutof LTCM led to, among others, theNASDAQ bubble in 1999/2000,which when it burst led the Fed,fearing a deflationary recession, tokeep interest rates at artificially lowlevels until the present time. In turn,these artificially low interest rates ledto a colossal low-quality credit bubblebetween 2001 and 2007 and theresulting housing boom.

Finally, to complement andcompound a series of majorinterventionist economic policymistakes, the Fed managed, byslashing the Fed fund rate to zeropost-September 2007, to produce acommodities bubble between the endof 2007 and July 2008 (see Figures 2and 3). The CRB Index soared from312 before the September 2007 ratecuts to 473 in July 2008 (seeFigure 3). This went against all theodds, since the global economy, andtherefore the demand for industrialcommodities, was already slowingdown in the second half of 2007. Thesharp increase in commodity prices inlate 2007/early 2008 burdened theconsumer with an additional tax. Inthe case of oil, US consumer

Figure 2 The Fed’s Slashing of Interest Rates Post-September 2007Led to a Commodities Bubble

Source: Ed Yardeni, www.yardeni.com

Figure 3 Following the Fed’s September Rate Cuts, CommoditiesExploded on the Upside

Source: www.decisionpoint.com

spending on oil (directly andindirectly) per annum soared fromapproximately US$500 billion in thefirst half of 2007 to almost US$1trillion in the summer of 2008 (seeFigure 4). In fact, the repeated policyerrors by the US Fed, which wereencouraged and supported by a wide

body of academics in the field ofeconomics, remind me of a famousSwiss professor of medicine who onone occasion, on emerging from theoperating theatre, proudly announcedthat the operation had been verysuccessful but that, unfortunately, thepatient had died.

Page 4: Marc Fabers the Gloom Boom Doom Report

4 The Gloom, Boom & Doom Report July 2010

Still, despite my criticism of theFed’s monetary policies, I have somesympathy for its policy errors.Politicians, investors, and the publicall wanted an “eternal boom”, andhardly anyone was concerned aboutthe consequences of excessiveleverage, which became all tooapparent in 2008 when asset marketsimploded. In addition, in the 1980sand 1990s, several very fortunateconditions were supportive ofexpansionary monetary policies.

The “rising wave” of theKondratieff Long Wave Cycle hadpeaked out in the 1970s and wasfollowed by a long “downward wave”in the 1980s and 1990s. Followingtheir peak in January 1980,commodities entered a long-termbear market, which ended between1998 and 2001 (see Figure 5). At thesame time, the opening of China,with its gigantic low-cost andindustrious workforce, began to putpressure on consumer goods prices. Inturn, declining commodity prices andintense competition from China inmanufactured goods industriesstimulated the search for ways to cutproduction costs. So, in the 1990s,major technological innovations inthe field of communications andinformation technology followed,which led to large productivity gains.

All these factors led to the famous“disinflation” of the 1980s and 1990s,which was accompanied by declininginterest rates (see Figure 6). I shouldremind our readers that since 1800,interest rates have tended to move upduring the “rising wave” of theKondratieff Long Wave and todecline during its “downward wave”(see also Figures 5 and 6). Now, itshould be clear that it is far easier fora central bank to pursue expansionarymonetary policies in a disinflationaryor deflationary environment of aKondratieff Cycle downward wavethan during the rising wave, whenthe overall price level tends toincrease at an accelerating rate. Inthe deflationary and disinflationaryenvironment of the downward waveof the Kondratieff Cycle, easymonetary policies don’t lead tohigher consumer price inflation. Infact, I could make the case that if

Figure 4 Soaring Oil Prices between September 2007 and July 2008Imposed an Additional US$500 Billion Tax on the USConsumer

Source: Ed Yardeni, www.yardeni.com

Figure 5 CRB Index, 1980–2010

Source: www.decisionpoint.com

monetary conditions had not beenexpansionary, and if debt growth hadnot been spectacular, it is probablethat we would have had deflation inthe overall price level post-1980 (seeFigure 7). Would outright deflationin the 1980s and 1990s have beennegative for the health of the US

economy? Hardly! It would havemade the US more competitive, andits financial position would today befar better in terms of total debt-to-GDP.

So, whereas in the downwardphase of the Kondratieff Cycle theincrease in the quantity of money

Page 5: Marc Fabers the Gloom Boom Doom Report

July 2010 The Gloom, Boom & Doom Report 5

and credit does not (for the reasons Imentioned above) lead to higherconsumer prices, the excessiveexpansion of credit inflates assetprices such as real estate,commodities, equities, and at timeseven tulips. We therefore find thegreatest investment manias in thedownward phase of the Kondratieff.The 1865–1873, 1921–1929, and1980–2000 stock market booms alloccurred amidst falling commodityprices and interest rates.

Also, to the extent thatexpansionary monetary policiesinduce investments in additionalproduction capacities and newproductivity-enhancing technologies,which increase the supply of goodsand lower their cost, expansionarymonetary policies can — for sometime at least — reinforce thedeflationary trend in manufacturedgoods. This sequence of events wasparticularly evident in China where,over the last 20 years, artificially lowinterest rates and ample liquidityhave brought about enormouscapacity expansions and largetechnological advances and, hence,productivity improvements.

What am I driving at?I think it is very important for

investors to consider whether we arestill in a Kondratieff downward wave,or whether the price cycle has turnedup. If we are indeed still within thedownward wave, it is likely thatconsumer prices will continue totrend down. Conversely, if we arealready in a Kondratieff upward wave,it is more likely that, in time,consumer prices will begin toaccelerate on the upside.

MEETING OF THE SUPERBEARS

A reader of this report, Gary Bahre,was kind enough to invite me to hisfamily’s estate situated on a vastpeninsula of Lake Winnipesaukee inNew Hampshire. I have seen manyluxurious properties in my life, butthe Bahre family’s NH residence isthe most impressive I have seen.Several buildings, all constructed tothe highest standard, are situated invery large and beautifully landscaped

Figure 6 A Favourable Interest Rate Cycle Assisted the Fed’sExpansionary Monetary Policies

Source: Ed Yardeni, www.yardeni.com

Figure 7 Without Rapid Credit Growth, the US Price Level WouldLikely Have Deflated

Source: The Bank Credit Analyst

Page 6: Marc Fabers the Gloom Boom Doom Report

6 The Gloom, Boom & Doom Report July 2010

grounds. The grounds — endowedwith impressive trees, lawns,walkways, and flower beds — areimmaculately kept under thesupervision of Gary’s mother, Sandy.They look as if an army of Swisscleaning ladies attend to them daily,removing any impurities and dustwith vacuum-cleaners and brooms. Inthe garage, Gary’s father Bob keepssome of the world’s most valuablevintage cars. The Bahre family,which is very low-key and humble,could not be nicer or morehospitable.

The purpose of the invitation wasfor me to participate in a discussionwith three of the currently mostvocal pessimists regarding the worldeconomic outlook: Gary Shilling,David Rosenberg, and NourielRoubini (privately, all rather cheerfulpeople, I should add).

In a nutshell, Shilling, Rosenberg,and Roubini expect a meaningfuleconomic slowdown in the secondhalf of the year (a double dip) amidstdeflation. Therefore, Shilling andRosenberg, in particular, recommendthe purchase of US long-termTreasuries. All three economistsexpected significantly lower stockprices (even a break below the March2009 lows, when the S&P 500 tradedat 666). Equipped with an arsenal ofcharts, Shilling pointed out thatinvestors had largely missed out on ahuge opportunity in long-termTreasuries over the last 30 years or so,and that the trend toward loweryields was still in place (see Figure 8).To his credit, Gary recommendedrepeatedly in the past the purchase oflong-term Treasuries. In the January2010 issue of his publication Insight,he wrote:

Buy Treasury Bonds. Long-termInsight readers know we startedrecommending long Treasurybonds back in 1981 when weforecast secular and huge declinesin inflation and interest rates. Sowe declared back then that “we’reentering the bond rally of alifetime.”

The yield on 30-yearTreasuries was 14.7% and oureventual target was 3%. Last year

[in 2008 — ed. note], yields blewthrough 3% to reach 2.6% atyear’s end [December 2008 — ed.note], so in our Jan. 2009 Insightwe declared “missionaccomplished” and removedTreasury bonds from ourrecommended list. But thenTreasuries sold off, pushing theyield on the 30-year bond to 4.7%at the end of 2009. So we’vereactivated the strategy with ourforecast of a return in yields to3.0% or lower. Treasuries willcontinue to be a safe haven in atroubled world and benefit fromdeflation as well as their threesterling features. They are the bestcredits in the world. They arehighly liquid. And they generallycan’t be called by the Treasury,and calls limit price appreciationwhen interest rates fall.

A decline in yields from 4.7%at present to 3.0% may not soundlike much, but the bond pricewould appreciate over 34%. If itoccurs over two years, then twoyears worth of interest iscollected, and the total return onthe 30-year Treasury would be44%. On a 30-year zero-couponTreasury, which pays no interestbut is issued at a discount, thetotal return would be about 64%— most attractive! Recall that in2008 when 30-year Treasuriesrallied from 4.5% to 2.7%, theirtotal return for the year was 42%.

Treasury bonds wayoutperformed equities in the1980s and 1990s in what was thelongest and strongest stock bullmarket on record. The superiorityof Treasuries has been even moreso since then. Figure 8 [in thisreport — ed. note], our all-timefavorite graph, shows the resultsfrom investing $100 in a 25-yearzero-coupon Treasury bond at itsyield high (and price low) inOctober 1981, and rolling it intoanother 25-year Treasury annuallyto maintain that 25-year maturity.In November 2009, that $100 wasworth $16,972 with a compoundannual return of 20.1%. Incontrast, $100 invested in theS&P 500 at its low in July 1982

was worth $2,099 in Novemberfor an 11.8% annual returnincluding dividend reinvestment.So Treasuries outperformed stocksby 8.1 times!

Gary also pointed out that long-term yields could stay down for a longtime — as was the case in the US inthe 1940s, and in Japan over the lastten years — despite growing fiscaldeficits (see Figure 9).

David Rosenberg was verynegative about the economic outlookin the second half of 2010, because ofrenewed weakness in housing(Shilling expects home prices todecline by another 20% or so) andbased on recent weakness in theEconomic Cycle Research Institute(ECRI) Weekly Leading Index (seeFigure 10).

Based on his negative outlook forthe economy, Rosenberg forecastedthat the yield on the ten-yearTreasury note would decline belowthe December 18, 2008 low, when ittouched 2.08% (see Figure 11). Healso made the point that, whereasinflows into bond funds had beenhigh, households were, if anything,underweight bonds (see Figure 12).

Rosenberg then made aninteresting point. According to him(I quote here from one of David’sdaily comments, which are wellworth a read), “As hedonistic as it is,the U.S. economy is the most flexibleand adaptable economy, and for awhole host of reasons. At the sametime, the national balance sheet isgrim. The national debt/GDP ratio isabout to pierce 100% [see Figure 13]and that does not include the state/local government morass nor thewave of off balance sheet items andunderfunded liabilities, which wouldthen take that ratio north of 500%.That is the grim truth.”

Rosenberg then argues that “evenwith low interest rates, the massivedebt bulge has become so large thatinterest charges on the public debtsare within three years of absorbing30% of the revenue base, which thenmakes it that much tougher to reversecourse [see Figure 14; from this figure,however, it would seem that interestcharges will absorb 30% of the

Page 7: Marc Fabers the Gloom Boom Doom Report

July 2010 The Gloom, Boom & Doom Report 7

Figure 8 The Performance of Stocks and Bonds since 1981

Source: Gary Shilling, [email protected]

Figure 10 US ECRI Weekly Leading Index, Growth Rate (percent), 1967–2010

Sources: Haver Analytics, David Rosenberg, Gluskin Sheff

Figure 9 Japanese Long-Term Government Bond Yields Stayed Low over the Last Ten Years

Source: Gary Shilling, [email protected]

Page 8: Marc Fabers the Gloom Boom Doom Report

8 The Gloom, Boom & Doom Report July 2010

Figure 11 New Lows for Long-Term Treasury Yields?

Source: www.decisionpoint.com

defense budget, my friends, andwe are up to 88% of federalgovernment outlays that are nextto impossible to reverse. So tellme — are we going to reversethis seemingly intractable runupin the public debt to GDP ratioby slicing 12% of the spendingpie that is discretionary? It won’tbe enough, even if all that 12%remainder “pork and barrel”spending were eliminatedaltogether.

According to Rosenberg, thefuture holds “higher taxes: very likelya national sales tax”, but obviouslywith higher taxes “the consumerdiscretionary part of the stock marketgoes into the penalty box for a fewyears”.

Rosenberg’s pessimism is alsobased on the Ricardian equivalence:

Indeed, while many a Keynesianwill point to the need for agovernment-led demand boost(see “That 30s Feeling”, by PaulKrugman, New York Times,July 17, 2010), the problem isthat when the deficits and debtsbecome structural, what isknown as the “Ricardianequivalence” sets in and thismeans that the fiscal stimulusdoes more harm than good forthe economy. Unfortunately,while the bailouts saved insolventbanks (oh, we’re not Japan at all)the stimulus from thisAdministration involved a seriesof short-term fixes that providedno long-term multiplier impact.At least FDR put people to work— not merely to pay them to beidle. [People are paid to be idle sothey can vote for Mr. Obama —ed. note.] At least Eisenhowerbuilt highways — with a long-runpayback.

I am very happy that some othereconomists have also begun tochallenge the Krugman, Summers, &Co. view that more fiscal stimulus isneeded.

The third bear, Nouriel Roubini,was very negative about the outlookfor Europe and, in particular, the

Figure 12 US Household Holdings of Treasuries and MunicipalSecurities as a Share of Total Household Assets(percent), 1950–2010

Sources: Haver Analytics, David Rosenberg, Gluskin Sheff

revenue base by 2020 — ed. note]. Inother words, the fiscal problem isbecoming increasingly structural andwe are already at the stage where evenif the economy were running flat out atfull employment, the deficit would stillbe over 7% relative to GDP. At somepoint, this will begin to impedeprogress.”

In particular, Rosenberg isconcerned about entitlement programs.

When you add up the entitlementprograms — you know, the onesyou can’t cut back on — andinterest payments on thegrotesque debt load, we have 65%of total government spending thatcan’t be touched. In the nextdecade, under status quopolicies, this “mandatory” shareof the spending pie goes to 72%[see Figure 15]. Tack on the

Page 9: Marc Fabers the Gloom Boom Doom Report

July 2010 The Gloom, Boom & Doom Report 9

Figure 15 US Federal Government Mandatory Outlays* (US$ billions), 1962–2010

*Includes current outlays on services and net interest (Forecast by OMB).Source: Gary Shilling, [email protected]

Figure 13 Public Debt as a Percentage of GDP,1970–2020 (estimated)

Sources: Haver Analytics, David Rosenberg, Gluskin Sheff

Figure 14 US Government’s Interest Paymentsas a Share of Total Revenues, 1970–2020 (estimated)

Sources: Haver Analytics, David Rosenberg, Gluskin Sheff

Page 10: Marc Fabers the Gloom Boom Doom Report

10 The Gloom, Boom & Doom Report July 2010

Euro, which he expected to declineto or below parity (see Figure 16). Forthe US economy, Roubini alsoexpected a double dip and lowerequity prices.

I have to say that it was a veryinformative gathering of economists,and I admire the Bahre family, led by84-year-old Bob, for going to thetrouble and expense of inviting us.The family is not involved in anyway in the financial services industry,except possibly as a client of severalmoney managers (I assume) who werealso in attendance. They includedSprott Inc. (managed by theoutstanding investor Eric Sprott),Pictet of Geneva, and Gluskin Sheffof Toronto, which specialises in themanagement of funds for high-net-worth individuals. (Rosenberg is theirchief economist.) I need to mentionthat Bob Bahre is a very unassumingself-made man and that, while a gueston his estate, I frequently felt that heshould be the one teaching useconomists how to make money —and not the other way around.

At the same time, I came awayfrom this gathering of economic bearswith the feeling that I was even morenegative about the world thanShilling, Rosenberg, and Roubiniwere, but for different reasons andalso with different investmentconclusions. Before making somecritical comments about theseeconomists’ views, I should like toemphasise that I have a high respectfor them all. I have known GaryShilling since 1973, when he joinedWhite Weld & Co., Inc. as a chiefeconomist (following the terminationof Alan Greenspan’s consultingagreement by White Weld), and Ican say that I learned a great dealfrom him over the years. Partly basedon his advice, I had a far largerallocation to bonds than to equitiesfrom the early 1980s up until veryrecently. Also, I have read andknown David Rosenberg for years,and I have always been extremelyimpressed by his ability to writeconcisely, and in an entertainingstyle, about economic trends. “Rosie”,as we call him, is also a very likeableindividual who can take a joke. (TheBahre invitation coincided with his

Figure 16 Euro versus US Dollar, 1998–2010

Source: www.decisionpoint.com

25th wedding anniversary, andeverybody teased him that he wouldhave to sleep with me. After a fewdrinks, he admitted that I wasstarting to look better!) I have alsobeen on panels with Roubini, andthere is little doubt that he is anaccomplished economist. So, if I havedifferent views about investmentstrategies, which I shall discuss below,it is not out of disrespect for any oneof these accomplished economists.

HOW TO PROTECT YOURWEALTH?

The Bahre family is atypical in thesense that they are all extremely low-key, humble, nice people who treattheir employees with the highestrespect. They enjoy a lifestyle ontheir stunning estate that very fewpeople can afford, and they have thenecessary staff and amenities to makethe most of it. (Their helicopter,flown by their pilot, Kurt, picked meup in Boston. I’ll admit that I’venever before been in such a niceflying machine — not that I’ve beenin many helicopters.) But aside fromsuch conveniences, the Bahres live avery modest, unostentatious lifestyle.

Where the Bahres are typical of theAmerican Dream is that they havehad successful businesses, including aracetrack that they sold at the righttime to NASCAR, and are now eagerto preserve the value of their assets.

How to preserve the value of one’sassets is the question most of myreaders — irrespective of whetherthey are fund managers, or wealthy orless-wealthy individuals, in whichcategory I include myself — askthemselves almost daily. In the past, Ihave advocated diversification bothof investment classes (real estate,equities, bonds, cash, commodities,precious metals, art, etc.) and of thecustody of assets. As a Swiss citizen,for example, I don’t wish to hold allmy assets through a Swiss legal entity.I want to hold some assets outside ofthe Swiss jurisdiction. And if I were aUS citizen, I would do exactly thesame. I would have some assets inCanada (of course, with Sprott Inc.and Gluskin Sheff), Europe, Asia,Australia or New Zealand, and somein Latin America with local banks orinvested in real estate. Obviously, Iam not a lawyer, and I cannot be thepersonal financial planner of each ofmy readers (and I seem to have

Page 11: Marc Fabers the Gloom Boom Doom Report

July 2010 The Gloom, Boom & Doom Report 11

enough problems already at USImmigration), but the point is this:Rather than worry 24 hours a dayabout whether stocks will move up ordown 10% in the next three months,I think that investors should considerthe geographical distribution of theownership of their assets verycarefully (and before it might be toolate to take the appropriate action).An analogy is how Abby Cohen (avery fine lady), while working atDrexel Burnham (where I alsoworked), continued to recommendstocks in 1989 and early 1990 whilethe firm she worked for wentbankrupt. What really amazes meabout so many investors is that, whenthey ask me to recommend a brokerin Asia or a bank somewhere else inthe world, they specify they want a“low commission” house. (I havenever heard of anyone asking to bereferred to a “cheap” doctor ordentist. Usually, people will ask for areferral to a “good” one.) No one hasever asked me to recommend a high-quality full-service firm. I deal withKim Eng Securities, Clariden Leu,and Schroders in Singapore, and myfirm has accounts with several banks— including a Chinese one — inHong Kong, but more than that Icannot say. Given my ultra-negativeview of the world (the replacement ofGeneral Stanley McChrystal byGeneral David Petraeus is not exactlya sign that the war in Afghanistan is

progressing well), I want to holdassets in different jurisdictions in thehope that I won’t lose everything allat once. That’s how negative I am.But aside from making decisionsabout where to hold assets, investorsneed to consider in what asset classesthey should hold their funds.

And here I am less dogmatic thanRosenberg and Shilling are. Forthem, a double-dip recession assureslower government bond yields anddeclining stock prices, so put all yourmoney in long-term US governmentbonds. (To be fair to Rosenberg, healso recommends the ownership ofgold and corporate bonds.) In theMay GBD report I mentioned thatretail investors’ sentiment aboutlong-term government bonds hadbecome very negative, and that atemporary rebound in bond priceshad become likely. But at the Bahreevent, I bet a bottle of whisky thatten-year US government noteswouldn’t decline below theDecember 2008 lows (2.08%),whereas Rosenberg bet they woulddecline below that level. Let meexplain where I take issue with bothGary Shilling and David Rosenberg. Iagree with Shilling that, over the last30 years or so, long-term USgovernment bonds (rolled over everyyear — see Figure 8 and above)significantly outperformed equities inthe US. But it is not necessarily that“Treasuries outperformed stocks by

8.1 times”, because Gary calculates“the results from investing $100 in a25-year zero-coupon Treasury bond atits yield high (and price low) inOctober 1981, and rolling it intoanother 25-year Treasury annually tomaintain that 25-year maturity”. Inother words, Gary compares onespecific sector of the bond market(25-year zero-coupon bonds) with abroad index of equities. If I were toturn around and take one specificsector of the stock market universe, Icould point out that the Hong Kongstock market, with dividendreinvested, would probably haveoutperformed US government bonds.From a low of 676, the Hang SengIndex rose to over 30,000 and stillhovers around 20,000 (see Figure 17).Or I could take a stock likeWal-Mart, which rose from US$0.38in 1982 to over US$60 and is nowhovering around US$50 (seeFigure 18). I am not suggesting thatShilling is wrong about Treasurieshaving outperformed equities. But inthe same way that the typical stockinvestor wouldn’t have put all hismoney in one stock or in one stockmarket (Hong Kong), the typicalbond investor wouldn’t have investedall his money in “a 25-year zero-coupon Treasury bond”. I am notcriticising Gary in any way, because Ialso owned — and still own some —zero-coupon bonds. But whencomparing the performance of

Figure 17 Hang Seng Index, 1982–2010

Source: Bloomberg

Page 12: Marc Fabers the Gloom Boom Doom Report

12 The Gloom, Boom & Doom Report July 2010

different asset classes, we need to becareful and compare how a typical oraverage investor would have investedhis money.

There is another point I shouldlike to make about comparing theperformance of different asset classes.The starting and ending points of thecomparison make a huge difference.Above, I mentioned that the risingwave of the Kondratieff Long WaveCycle had peaked out in the 1970sand was followed by a long downwardwave in the 1980s and 1990s.Following their peak in January 1980,commodities entered a long-termbear market, which ended between1998 and 2001 (see Figure 5). I notedthat since 1800 interest rates havetended to move up during the risingwave of the Kondratieff Long Wave,and to decline during its downwardwave (see Figures 5 and 6). I thenconcluded that, in the deflationaryand disinflationary environment ofthe downward wave of theKondratieff Cycle, easy monetarypolicies don’t lead to higherconsumer price inflation.

Now, if we compared theperformance of a 25-year zero-couponbond annually rolled over tomaintain the 25-year maturity and

that of equities between, say, the1940s and today, the performance ofthe long-term zero-coupon bondwould have been disastrous. In the1940s, an investor would havepurchased his first zero-coupon bondswith a yield of less than 2%. Sincethe investor didn’t benefit from anycash flow, which coupon bonds offer,he would almost certainly have lostmost of his money by 1981 whenyields exceeded 15% (see Figure 6).By investing in stocks, however,which the investor could havebought in the 1940s with an almostthree times higher dividend yieldthan what bonds were yielding, hewould have enjoyed the equitymarket appreciation of the 1950s and1960s. So, I think that it is fair to saythat in a Kondratieff downward wave,long-term government bonds arelikely to outperform equities; whereasin a Kondratieff rising wave, stocksare likely to outperform bonds. Butonce again, the starting and endingpoints of the comparison make all thedifference. (In the 1940s, stocks werevery inexpensive and bondsexpensive.) I should also like to addthat if I look at the list of theworld’s richest people over time,they were usually the owners of

equities (either directly in their owncompanies, or indirectly throughpublic stock ownership), real estate,and commodities (mines). On theother hand, bond holders havesuffered repeatedly fromhyperinflation and, periodically, fromdefaults.

But, the point I really would liketo make is that we need to decidewhether we are still in a downwardwave of the Kondratieff Cycle, orwhether a new upward wave isunderway. (Remember, theKondratieff is a price cycle and not abusiness cycle.) As my regular readerswill know, I believe that thecommodities cycle bottomed outbetween 1998 and 2001 and that“cost-of-living expenses” are going upby far more than what the ConsumerPrice Index would indicate.Moreover, as Rosenberg suggested,“taxation costs” are very likely toincrease. (I recently stayed in Bostonfor a night; cost of room: $640,Boston Convention Occupancy Tax:$17.60, Boston Local OccupancyTax: $38.40, Massachusetts StateOccupancy Tax: $36.48.) Also, theBP oil spill disaster will increase thecost of deep-sea offshore drilling andis unlikely to bring aboutmeaningfully lower oil prices.Healthcare costs will increase. Foodprices are increasing — in someemerging economies at an annualrate of close to 20% (see Figure 19).And, finally, Chinese product pricesare unlikely to decline much furtherbecause wage inflation is likely toaccelerate. So, it is my belief that thedeflationary forces that prevailed inthe 1980s and 1990s are largelybehind us.

Also, I am far less optimistic thanRosenberg and Roubini that fiscalrestraint will be implemented in theUS and Europe. In fact, I think thatmore stimulus measures will beimplemented. And given the increasein the US federal government’smandatory outlays (see Figure 15)and, in particular, the increase in theits interest payments as a share oftotal revenues (see Figure 14), Ibelieve that the Fed will keep the Fedfund far below the “real” cost-of-living increases and will continue to

Figure 18 Wal-Mart, 1985–2010

Source: www.decisionpoint.com

Page 13: Marc Fabers the Gloom Boom Doom Report

July 2010 The Gloom, Boom & Doom Report 13

Figure 19 UN Food Price Index, 1990–2010temporary real estate downsidecorrections aside, I believe that, overlonger periods of time, well-diversified and not overleveraged realestate investments are destined topreserve and increase wealth. I alsobelieve that the current slump in realestate prices in countries such as theUS and Spain will provide excellententry points over the next two tothree years. Real estate exposure canalso be obtained through thepurchase of farmland, plantations,property funds, and REITs. In Asia,companies such as Swire Pacific(19 HK), Sung Hung Kai Properties(16), Capitaland (CAPL SP), andCity Developments (CIT SP) shouldoffer a good long-term exposure tothe Asian property market. (I have apreference for Singapore REITS,which I have discussed in earlierreports, because of their relativelyhigh yield.)

Corporate bonds: Bond spreadshave narrowed considerably, but thecorporate sector is in a relativelyhealthy financial condition.Compared to equities, corporatebonds don’t seem to be particularlyexpensive.

Precious metals: It is nice topreach deflation and to forecast adouble dip. But the fact remains that,amidst deflation, central banks willfeel even more confident aboutprinting money (quantitative easing).That money will flow somewhere. Itmay not flow into stocks and realestate for now, but it is likely tocontinue to boost assets wheresupplies are very limited, such asprecious metals, rare art, preciousstones, and rare collectibles (oldstamps, vintage cars, coins, books). Iam by no means an art expert (myfriend Kenny Schachter — see hisreport below — is one), and I knowlittle about precious stones, stamps,etc. However, I should mention thatmy principal concern about gold isnot that its price will decline, butthat our Western governments,which are composed of a rare breed ofgeniuses, will one day take it awayfrom us gold holders. Theexpropriation of stamps, preciousstones, and rare art is far less likely.Therefore, I would consider that

Sources: United Nations, Gary Kuever, www.nowandfutures.com

monetise debts (negative real interestrates for as far as the eye can see). So,lack of fiscal restraint combinedwith easy monetary policies withinan upward wave of the KondratieffCycle should lead in time to farhigher inflation rates and a poorperformance of long-termgovernment bonds. This is not to saythat Treasuries cannot rallysomewhat further, but that it is morelikely that long-term Treasury yieldsare far closer to a secular low (seeFigure 11) than to a secular high, aswas the case in 1981 (see Figure 6).

Therefore, although I am verynegative about Western governments’economic policies, political, social,and geopolitical trends, future globaleconomic prospects, the ability ofmany Western countries to avoiddefaulting on their debts (eitherdirectly or through restructuring oftheir debts), while at the same timethe temptation for them to printmoney and to tax asset-rich people— or to expropriate their assetsaltogether — is increasing, I find thatinvestors might be better off by beinginvested in equities, real estate,commodities, and precious metals,rather than being heavily positionedin US government bonds.

So, what kind of asset allocationwould I recommend? I am aware thateach individual lives under differentconditions in terms of cash flow

(income), tax status, investmenthorizon, tolerance for pain, etc., butassuming that wealth preservation isa priority I would recommend thefollowing asset allocation: equities:20–30%, real estate: 20–30%,corporate bonds of differentmaturities: 20–30%, precious metals:10–20%, cash 20–30%.

A few observations: Equitieswould include a diversified portfolioof well-managed companies locatedin different geographical regions,with about 50% of the equityallocation invested in emergingeconomies. (Eight per cent of myequity investments are in Asia.) Asexplained above, I would holdequities with different custodians indifferent geographical locations.

Real estate: We all know that insome countries (the US, Spain, theUK, Ireland, Dubai, etc.) propertyprices have been very weak. But atthe same time, the expansion ofglobal liquidity courtesy of theAmerican current account deficit hasmassively inflated property values inmost emerging economies, and inparticular in resource-producingcountries such as Canada andAustralia, over the last ten years. (Iexpect that property values willdeflate quite badly in the resource-producing countries, as well as inChina, in the very near term, ascracks are becoming apparent.) But,

Page 14: Marc Fabers the Gloom Boom Doom Report

14 The Gloom, Boom & Doom Report July 2010

investors diversify part of theirallocation to precious metals into thejust-mentioned assets. I should addthat most of the hedge fund managersI know who collect art made moremoney from buying art in the last tenyears than from the performance oftheir funds (though not from the feesthey collected). Earlier this year,Roubini felt that gold was a “bubble”.This is not my impression. We have abubble in government wastefulspending, in money printing, and inKeynesian economic sophism, butnot in gold, which is still under-owned (see Figure 20). This is not tosay that gold cannot correct on thedownside to shake out the leveragedplayers (the bullish consensus is fartoo high), but strong support existsaround the US$1,120 level and thenaround US$980 per ounce. With zerointerest rates, and with the prospectthat real interest rates will remainnegative for as long as Mr. Bernankeand Miss Yellen are at the Fed, thebull market should continue. Asidefrom physical gold, investors shouldalso consider investments in goldshares (see Figure 21).

Cash: I consider cash to beunattractive. However, given thehigh volatility we shall experience, Ikeep a relatively high allocation ofmy assets in cash (diversified inseveral currencies) because it allowsme to take advantage of sharp marketdrops in one or other asset classes. Idisagree with Rosenberg, Shilling,and Roubini that stocks will retesttheir March 2009 lows (or even breakbelow these lows), but I concede thatthe stock market action and theperformance of some consumer-related stocks is far from encouraging(see Figure 22). So, my economistfriends might be right and I might bewrong, in which case I would havethe necessary reserves to increase myexposure to equities at a much lowerlevel. Still, I wish to reiterate that Iconsider holding 100% of one’s assetsin cash, as some of my readers do, tobe an extremely risky strategy in amoney-printing environment. As Ihave explained in earlier reports,there are times when the worse the“news” becomes, the more that stocksincrease in price. This year we almost

Figure 20 Gold — Still an Under-owned Asset Class

Source: www.contraryinvestor.com

Figure 21 Gold Stocks to Break Out on the Upside?

Source: www.decisionpoint.com

had a civil war in Thailand and yetstocks are up 8% year-to-date!

History has not been kind to thepurchasing power of paper currencies.Over time, they have all lost most, ifnot all, of their value. I suppose thatthis is the reason why the world’srichest families own assets investedconservatively in a geographically

diversified portfolio of real estate,equities, commodities, art, andcollectibles. I am aware that BillGross became extremely prosperousfrom investing in bonds; however,this had to do less with theperformance of bonds, than with thefees his firm collected for successfullymanaging assets.

Page 15: Marc Fabers the Gloom Boom Doom Report

July 2010 The Gloom, Boom & Doom Report 15

lows (1040 for the S&P 500) is adistinct possibility in the months ofSeptember and October. But, asexplained previously, once the S&Pdrops below 1000, the money-printing presses all over the worldwill be running on 24-hour shifts,which should again lift assets.

Below, I am pleased to enclosetwo reports. The first one is by my oldfriend Georges Karlweis, who hasmade his home in the Bahamas. I metGeorges in the early 1970s when hewas running Banque Privée Edmondde Rothschild in Geneva. I am notexaggerating when I say that Georges(he is now retired) belongs to a rarebreed of private bankers who possessa very high level of intellect and keeninvestment acumen. He also happensto be great company and a likeablebon vivant. In 1969 he set up, withsome of his friends and associates,Leveraged Capital Holdings, the first“Fund of Hedge Funds”. His report,“A Plea for Hedge Funds”, is wellworth a read, providing all theinvestment wisdom an investor needsto know. And for those of my readerswho constantly and nervously worryabout near-term stock marketfluctuations, I particularlyrecommend that they read the lastthree paragraphs.

Further below, my friend KennySchachter reports on the Basel ArtFair.

Figure 22 Weakness in Wal-Mart — a Negative Omen

Source: www.decisionpoint.com

In last month’s report I notedthat I was growing “increasinglyapprehensive that the late April USstock market high, which wasn’tconfirmed by a large number offoreign stock markets, may turn outto be a more important top that maynot be exceeded in the next sixmonths or so”. Late June stockmarket weakness brought aboutanother oversold condition, and for

the near term I would expect therecent lows at 1040 for the S&P 500to hold. However, I am concernedthat in the next six months theeconomic news could turnincreasingly disappointing (a sharpdeceleration in China’s growth,further home price weakness, noemployment gains, corporate profitestimates for 2011 coming down,etc.); therefore, a break below these

Page 16: Marc Fabers the Gloom Boom Doom Report

16 The Gloom, Boom & Doom Report July 2010

A Plea for Hedge FundsGeorges Karlweis, E-mail: [email protected]

For decades I have been shocked athow governments andadministrations immediately blamehedge funds whenever there is afinancial crisis.

The people most responsible forthe current financial, economic, andsocial disaster are the barons of WallStreet and a number of largeinternational banks. It was greed andlust for bonuses based on trumped-upprofits that caused them to disregardprofessional ethics. They sold toxicproducts — sub-prime debt,derivatives, and other junk — thatbrought them huge fees while ruiningtheir clients. Judging by their presentattitude towards their 2009 bonuses,these unsavoury characters have notlearned anything.

We should not forget that thereare some things that consumers andcustomers buy, and others that slickoperators sell to them by pulling thewool over their eyes. On the face ofit, numerous bankers are engaged inwool pulling, which in their caseamounts to professional misconduct.

The credit-rating agencies wereinept or even bought off, so farwithout paying the consequences.AIG, the world’s biggest insurer, wassaved from bankruptcy by a US$180billion credit line thrown by the USFederal Reserve. This also savedGoldman Sachs, whose former CEO,Hank Paulson, had become the USTreasury secretary.

The second group responsible forthe debacle are central banks, oftenrun by theoreticians who have neverhad any practical experience inbusiness or industry. Theirmanipulation of interest rates hasbeen one of the causes of instability.The 1% policy rate maintained bythe Fed for several quarters was anaberration in what we still call acapitalist world. This created theopportunity for the sale of billions ofsub-primes.

Moreover, central banks in generalhave been utterly incompetent whenit comes to monitoring commercialbanks and finance houses. They failed

to see the “shadow banking system”,comprised of contingent liabilitiesthat totalled 30 to 50 times the capitaland reserves of lending institutionslike Citicorp, Royal Bank of Scotland,and UBS (whose boards of directorsand top executives ought to be hauledinto court).

In 18 months, Citicorpshareholders lost nearly US$300billion after their shares witheredfrom US$60 to US$1, despite aUS$50 billion capital injection andUS$450 billion of loan guaranteesstumped up by the US government.Prior to the credit crunch, Citicorpwas considered a tried-and-trustedinvestment. Today, Citigroup sharesare worth US$3.50.

Nearly a dozen other Americanbanks had to be rescued.Governments also had to intervenein Europe and elsewhere in the world.

Before turning to hedge funds, aword first on the Madoff scandal.Bernie Madoff didn’t run a hedgefund; he was simply a crook. Therehave always been crooks, andcustomers for them to prey upon.Madoff’s victims should have beentipped of by the fact that he hadnever had a down year.

Hedge funds were classified ashigh-risk investments when they firstappeared. They were out of bounds tosmall-time savers. Yet, hedge fundmanagers typically have most of theirpersonal savings invested in theirfund, pooled together with theshareholders’ stakes. Thus, they don’tonly manage other people’s money.They share the same risk of loss astheir backers. If their fund goesbankrupt, they lose their investment.They have no golden parachute anddon’t cost the government a penny.

Not so for banks that speculatewith other people’s money (read“customer deposits”). If they take ahit, the loss is paid for by theirshareholders first and then bytaxpayers. Banks are the only casinoswhere you don’t have to buy chipsbefore sitting down to gamble.

Obviously, there is always a link

in life between the risk one takes andthe potential reward. You cannot getan annual return of 10% or 15% ifyou invest in so-called risk-freesecurities such as US Treasury paper,which used to yield 3–5% a year andnow yields 1–4%. To earn more youhave to take risks, and you cannotafford to be wrong too often.

When visiting New York brokersin the 1960s, I noticed that thebrightest analysts I met were allunder 30. When I returned to thesame firms and found them gone, Iwas told they had become investmentbankers or independent fundmanagers. By getting in touch withsome of these rising stars (who werecelebrated in A New Breed on WallStreet, a book published in 1968), Iwas plunged into the burgeoningworld of hedge funds, invented andmade fashionable by A.W. Jones.

The analysts who continued towork for a broker were usuallycompetent at their job. If they weregood salesmen as well, they couldearn good money. But those whowere confident enough in theirability to go into business forthemselves had one objective inmind: to become multimillionaires.Usually they had already amassed awad of capital by managing accountsfor their employer and sometimes forits partners, who became their firstinvestors. Such “smart money” was agood sign.

To me the new investmenttechniques used by the new breed ofmoney managers — selling short,speculating on interest rates andcurrencies — seemed to offerinteresting possibilities. Theseyoungsters, whose careers were ridingon such bets, had strong personalities,gumption, and high IQs. Some hadno university education and weremerely traders who had learned onthe job. In addition to experience,they had common sense and aprofound understanding of the waymarkets worked. (Eight times out often, the things we see happening nowhave happened before.)

Page 17: Marc Fabers the Gloom Boom Doom Report

July 2010 The Gloom, Boom & Doom Report 17

To judge for myself, I placed a fewhundred thousand dollars with six ofthese “gunslingers” (as Wall Streetreferred to them). After 18–24months, three of my returns oninvestment proved very good, onewas remarkable, and twodisappointed. In getting acquaintedwith hedge funds in this way, Idiscovered sources of profit that, asyet, few people were tapping into. Atthe time there were more specialsituations, too. I came to know thepeople behind hedge funds, theirpersonalities and way of seeingthings. Some had exceptional minds.All had drive, courage, and nerves ofsteel. Those first years, there wereabout 30 hedge funds, a number thatquickly grew to 50.

During the same period, a USmutual fund salesman named BernieCornfeld set up Investors OverseasServices (IOS) near Geneva. Thiscompany sold investment fund unitsto American servicemen stationed inEurope. It was he who came up withthe idea of creating a fund of funds sothat people could invest in a pick ofthe top-performing mutual funds (anarrangement that enabled him tocharge an extra fee). His “Fund ofFunds” turned out to be very popular:civilians throughout Europe weresoon subscribing shares as well,particularly in Germany. In itsheyday, IOS had US$2 billion ofassets at a time when the dollar wastrading at 4.30 Swiss francs. But thena former lawyer and a wheeler-dealergot control and started cooking thecompany’s books, before settlingdown to some all-out plundering.When there was only US$300million of assets left, the last chiefexecutive had the sum transferred tohis account and fled to the Bahamas.It was a major scandal.

That was sad, I thought, for theidea of a fund of funds was good initself. Applied honestly, it ought toresult in a highly effective investmentvehicle. Hence my decision to set upthe very first “fund of hedged funds”(in the parlance of the time) to offera pick of the new breed of moneymanagers who were bursting on tothe scene. I teamed up with somefriends and associates — in

particular, with Lucas Wurfbain, aveteran investment banker at PiersonHeldring & Pierson, the Rothschildfamily’s longstanding Amsterdamcorrespondent bank.

To my mind, a fund of hedgefunds would provide:

• the ability to spread risks(crucial in view of the sizeablegambles that hedge funds sometimestake);

• the hope that over time theassets managed by the best managerswould be multiplied by two, three, orfour; and

• the certainty that if any of theunderlying funds went under, wecould not lose more than the amountwe had invested in it. (This actuallyhappened twice in the first years ofour fund of hedge funds’ operation,within the first 18 months of ourrelationship with the funds inquestion when our outlay in themwas still small.)

Some hedge fund managers turnedout to be brilliant. George Soros, after40 years, still is. Mike Steinhardt wasfor 25 years, before retiring. JulianRobertson, who still sponsors new,talented managers. Joe Mcnay, DickMcKenzie, and more recently Ackmanand John Paulson, were otherstandouts. That said, one should neverinclude a hedge fund in a fund offunds without first meeting two orthree times with the manager. Onemust also be absolutely convinced thatone has understood why and how heperforms better than others whileabiding by the law and using leveragereasonably. It is useless and dangerousto talk twice to a candidate whoclaims to have a magic formula hiddenin a black box. And a manager whochanges his strategy completely — forexample, by switching from valuestocks to growth stocks, or vice versa— is a bad omen.

It was only from 1995 onwardsthat I heard of managers with MBAsand more dazzling credentials (likethe Nobel laureates at LTCM...)talking about risk management.Relying on this “science” soonresulted in excessive risk-taking. Inmy view only common sense, notcalculations or formulas, can tell ushow much is too much.

Webster’s defines a hedge as “atransaction tending to the oppositeeffect of another transaction, engagedin to minimize a potential loss on thelatter”. Experience has shown methat in practice long and shortpositions don’t necessarilycounterbalance each other.Sometimes one has to count them asseparate risks, as a precautionarymeasure. So the fact that we couldn’tborrow at the fund-of-funds level, thefact that our underlying hedge fundscould do it to increase their returnspenalised by the imperfect long/shortmatch, made me replace the word“hedged” by “leveraged”. Hence thename “Leveraged Capital Holdings”.

As a fund-of-funds manager withmy own understanding of themarkets, I judged money managersless on their track record and moreon their analysis of presentcircumstances and on what theyplanned to do in the event of a majorcrisis. The most fascinating managersare the ones who can foresee certaindevelopments and who, by what theysay and do, are able to influence themarkets and speed up the occurrenceof the inevitable. They don’t createan event but rather trigger it, asGeorge Soros did by pressuring thepound to the point where the Bank ofEngland had to throw in the toweland devalue.

To make a long story short, I cameto ask myself three questions about amoney manager whose fund we werecontemplating buying into:

1. Would he always performbetter than we could (since hemanaged assets full time, whereas wehad other responsibilities)?

2. Would he have the courage to“bet the ranch” if he believed thesituation called for it?

3. Was he prepared to lose nomore than 50% of his assets undermanagement (my application of theWall Street warning, “If he has noinstinct for survival, avoid him”)?

If after consulting with certainmembers of the InvestmentCommittee the answer to all three ofthese questions was “yes”, if ourinvestigation into the manager’sreputation and ethics was favourable,and if the auditors were trustworthy,

Page 18: Marc Fabers the Gloom Boom Doom Report

18 The Gloom, Boom & Doom Report July 2010

then we began to consider the termson which we would be willing tosubscribe the fund’s shares.

* * *

Today, after over 50 years in finance,I am still convinced that the bestvehicles for comprehensive assetmanagement are long/short hedgefunds on equities, currencies,interest rates, and commodities,provided they avoid excessive use ofleveraging and derivatives.

P.S. LCH shares, issued at US$20each, were split in 10 when theirprice rose above US$1,000. Now thisshare trades at US$240.

The first year was a bad one for theUS stock market: the S&P 500 indexfell from 98 to 69 starting inNovember 1969. In 1974 it tankedagain, to 62. This spelled disaster forLCH, whose NAV tumbled to a low ofUS$12 in January 1971. But considerthis: If the few brave souls who boughtin then still have their investment, itis now worth 200 times more!

In 40 years (from 1969 to 2009)the US Consumer Price Index rosefrom 37.5 to 217, and the S&P 500dividends reinvested (less 30%withholding tax) climbed fromUS$98 to US$2,750. In other words,the CPI was multiplied by a factor of8 (I would say at least 10) and theS&P 500 by a factor of 28. Gold roseby a factor of 34, LCH by a factor of120.

Page 19: Marc Fabers the Gloom Boom Doom Report

July 2010 The Gloom, Boom & Doom Report 19

Boffo BaselKenny Schachter, E-mail: [email protected]

There’s been a tectonic shift in themarket to conservative Impressionist,Modern, and classic Contemporaryart evident at the 41st Basel Art Fair,but I must admit it seemed as thougheverything was flying off the shelfindiscriminately. There was anorgiastic frenzy of activity, from arttransactions to hyper-networking; theboom is back. The fair layout reflectsa hierarchy of more established, bluechip art on the ground floor andcontemporary on the second.Nowadays, I would rather wait till itdrops down a floor so there’s morewheat, less chaff — it’s worth theextra hay.

Some of the best art in Basel wasthe graffiti seen through the trainwindow on entering town. Seriously,the overall quality of material ondisplay was staggering and would rivalthe best international institutions.The art market is like a fast train, butwith no destination. Can it sustainitself? Save for nuclear Armageddon,I fear to say it will. Look forcontinued strong, record-breaking,headline-making art activity in thenear future.

There should be a World Cup forhustling invites and passes at fairs.One morning after prodigious Baselparty hopping, I sent my suit to thecleaners. Housekeeping returned it,along with my passport, cash, and alarge taxi receipt for a fare from Baselto Zurich. Rough night; no one eversaid the art world was for the faint ofheart.

Museums are akin to books, fairsmore like magazines: a quick fix for

those with short attention spans anda need for immediate gratification.For a while, a 30% discount on artwas the new 10%; now, 10% is thenew 20%. The walls they werea-changing. With passing time thefair replicates itself in a new form,like a snake shedding its skin, asinventory is shifted when shifted andconstantly hung anew.

After hours of walking up anddown the aisles I was left with ahammering pain in my toe, morethan any recollection of specificartworks. Now I know why I hadobserved so many people on crutches.I never realised how anal the Swissare until I was scolded for publicphoning on various occasions bylocals who practically made citizen’sarrests. Also, while arguing withhotel security about entering acrowded bar, 15 peoplesimultaneously walked past. But theJean-Michel Basquiat retrospective atthe Beyeler Foundation... What asight to behold — warranting theastronomical figures the paintings arenow fetching, and going some lengthto explain their ubiquitousness at thefair. When an artist achieves a bigmuseum retrospective, or makes anunusually high number at auction,the works flood from the woodworkinto the booths and public sales.

Another “new” nine-foot-wideDamien Hirst jewel-cabinet, entitledMemories of Love, sold at Basel forUS$3.5 million. The price reflected a50% decline from an exact-samework sold at the £111.5 millionSotheby’s September 2008 sale —

Beautiful Inside My Head Forever —the day my headline would have read:“Merrill sold, Lehman fold”. Instocks, such market dumping isknown as “churn and burn”; withHirst, it should be known as “churnand earn”.

In 2008 I curated an exhibit withPritzker Prize winning Iraqi architectZaha Hadid at Sonnabend Gallery inNew York, upon which New YorkTimes critic Ken Johnson reflected:“No architect has ever made good artand this is no exception.” Suchsweeping generalisation is at bestdumb and at worst dangerous. Iwonder if he’s ever bothered to view aLe Corbusier painting. I helped tofacilitate another Zaha Hadid show atGmurzynska Gallery in Zurich duringthe fair (which fact seems to haveeluded the gallery) that is aninstallation incorporatingConstructivist masterworks byMalevich, Rodchenko, and Lissitzskyand Hadid herself. The installationuses the Public Square and façade ofthe building as a framing device,transforming what originated as a 2Drendering into a walk-in line drawingwith magical effect. Ken Johnsoncould cure his myopia if the New YorkTimes would splurge on a trip toZurich sometime before the exhibitends in September. Architecture asart is an up-and-coming, newcollecting category located betweendesign and sculpture, and is a greatnew way to domesticate progressivearchitecture in a home setting. Lookfor values to progressively rise.

Page 20: Marc Fabers the Gloom Boom Doom Report

Subscriptions and enquiriesMARC FABER LTDUnit 801, The Workstation, 43 Lyndhurst Terrace, Central, Hong KongTel: (852) 2801 5410 / 2801 5411; Fax: (852) 2845 9192;E-mail: [email protected]; Website: www.gloomboomdoom.com

Design/Layout/ProductionPOLLY YU PRODUCTION LTDTel: (852) 2526 0206; Fax: (852) 2526 0378; E-mail: [email protected]

Author & PublisherDR MARC FABER

Research Editor & SubscriptionLUCIE WANG

CopyeditorROBYN FLEMMINGwww.robynflemming.com.au

DISCLAIMER: The information, tools and material presented herein are provided for informational purposes only and are not to be used orconsidered as an offer or a solicitation to sell or an offer or solicitation to buy or subscribe for securities, investment products or otherfinancial instruments, nor to constitute any advice or recommendation with respect to such securities, investment products or other financialinstruments. This research report is prepared for general circulation. It does not have regard to the specific investment objectives, financialsituation and the particular needs of any specific person who may receive this report. You should independently evaluate particular investmentsand consult an independent financial adviser before making any investments or entering into any transaction in relation to any securitiesmentioned in this report.

THE GLOOM, BOOM & DOOM REPORT© Marc Faber, 2010

PLEASE NOTEOUR NEW

ADDRESS AS OFMAY 2010