Wednesday, December 15, 2004


Investors hear how big the budget and trade deficits have become and try to hide; don't! Deficits are not all bad.

Perhaps the biggest bond market rally in the history of the US occurred during the deficits of the 80's. Ken Fisher, of Forbes magazine, points out that the stock market has worked the same way. The history is that markets are strong during periods of large government deficits and week when governments are in surplus. Remember that the bubble burst at the end of the 90's at a point in time when the government had a large surplus.

One explanation for the great depression was that the government accumulated a surplus and was at unwilling to spend the excess reserves. Roosevelt instituted massive government programs to spend money. The spending on these programs and the massive spending required by WWII created a strong economy, a strong stock market and a massive budget deficit. The large War deficit has never been paid off but the economy boomed in the 50's and 60's. Nixon was the first President in my life to run a budget surplus. This happened in 1972 one year before the start of the very tough 73-74 recession.

Ed Yardeni, a market economist I have followed for many years, says that OPEC has revenues of $409 Billion per year ($28 million barrel's at $40 per barrel) and that OPEC is loaning those dollars to the US which is keeping our rates low. For 2005, Yardeni forecast an additional decline in the dollar of 7 to 15%, S&P earnings increases of 7% and market increases of 15%. The increase in market value of 15% versus an earnings increase of only 7% is likely as the owners of some of the piles of scared money get tired of low yields. In other words, stocks are cheap relative to bonds, stocks will rise, as stocks rise more money will come out of the scared money piles and the P/E ratios will rise.

Without speaking much about deficits, Bush is going to push to allow folks to put some of their social security funds into stock investments. Doing so will require the government to borrow money to be repaid when the folks that opt out are no longer entitled to full payment from the Social Security Accounts.

Even with a republican majority in the house and senate, passing reform will not be easy. However, at the first hint that passage is likely, the market will begin to rise. No one will ring a bell. The market will discount the reform months before the reform actually occurs. The market action for the past two months may indeed be discounting the passage. Ironically, by the time folks can put some of their social security money in the markets, the markets will be much higher. Getting a massive reform bill through congress could easily take most of 2005.

Yardeni believes interest rates will not go up much this year. If he is correct about rates then I believe his market forecast of 15% gains is low. If his dollar decline forecast is correct then I believe gold will hit $540 or more. I am conflicted because I believe gold is at or near a nine year cycle top and I believe that rates will creep up and the dollar will turn by mid year. Stocks will do well but will have a rotational correction during the year which will require one to switch to the right kind of stocks to make big money. My bottom line is that I will stay 100% invested in stocks with zero% in gold and zero% in bonds. Have you adjusted your portfolio to today's environment or are you leaving money on the table?


Jack's Old Merrill Pal said...

I am sure I heard you mention but do not see it in your writings. A huge economic benefit has already been bestowed upon the American people in the form of the HSA or Health Savings Account. All Americans in high deductible health insurance plans can now contribute to their personal health plan. The basics are it is tax deductible, easy to manage with little government oversight and can be used tax free for health expenses.

Now how bout these two kickers, one, you write the checks personnally for the expenses when you wish to use the money for health costs and second, you can leave the money in to grow tax deferred and withdraw at 65 as normal income. In other words it serves as a potential second IRA.

Believe me the Doctor is right, this has the potential to relieve the pressures of nationalizing our healthcare.

People have not caught on to this great news yet. It will come!