Can Turtles Fly?

Given the drastic changes in bond yields of late, I thought I would update the charts I produced a few years ago showing bond yields during three major deflationary busts. It's almost as if we had gone full-circle over the last two years. The present yield (as of end of August, 2011) on the 10 year US Treasury is lower than what it was back in 2008! You may want to read the original post I wrote to get more details about the following charts and the source of the data (the original post also has a few more charts I didn't update). American Bond Yields in the 2000's The following chart shows the bond yield of the 10 year US Treasury, up to the end of August of 2011.

It looks like my post on Keynes from a few days ago got picked up by FT Alphaville, setting a record for page hits on my blog... anyway... Those following the markets closely may have noticed that US government bond yields have ticked up, while the US$ has sold off (the Canadian dollar index, which includes the US$ as a major component, has been somewhat flat and this leads me to believe the US$ isn't as weak as it appears). So the question is, are we seeing the beginning of the inflation that inflationists have bet on for years? Let's take a look.

I lean towards deflation, although I don't expect outright deflation* in a country like USA, so I always pay attention to one of the few deflationists around: Gary Shilling. Writing for MarketWatch, Paul Farrell, summarizes Gary Shilling's thoughts in his new book, The Age of Deleveraging. I haven't read any of Shilling's books but I do plan to get to them eventually—at the rate I'm going, it might take 249 years ;) Shilling has been somewhat of a deflationist for almost a decade and his call in the late 90's turned out to be wrong. Needless to say, no one can predict the future precisely. However, some of his correct calls were very significant calls, such as the bullish call on US Treasuries in the 80's. With that said, you will find below a Farrell's summary of Shilling's key calls. Most of the calls are similar to what Shilling has said in the past and as should be expected with a deflationist, it goes against the consensus (big time!). As ...

The Globe & Mail quotes a Scotia Capital analyst's arguments against deflation . Derek Holt, the Scotia Capital analyst, gives the following reasons [ my comments in square brackets in italics ]: "Goods price deflation was what the 1930s was all about. Today's U.S. economy is two-thirds service sector oriented, and service sector prices are stickier than tradeable goods. Have the prices you pay for hair cuts, the trades, and auto repair fallen like the prices of flat screen TVs?" [I don't think there is any evidence of this. About 60% of Japan's GDP is consumer spending and about 66% is the service economy and prices have actually fallen in Japan in the last decade.] "Main street doesn't believe it. Price components to consumer surveys like the Conference Board's consumer confidence index point to inflation expectations that are far removed from the price pressures economists point to in CPI releases. As such, there is no evidence right now...

I hate losing articles and such was the case with one I was typing up earlier this week grr :( One area I have been researching lately is the historical behaviour of large-cap and mega-cap stocks. Some of you may have noticed it but I find it very bizarre that the market is pricing large-cap and mega-cap American stocks at relatively low valuations. In fact, depending on the measure you use, the market is pricing them lower than small-caps and mid-caps even. As an example, consider the P/E ratios of the following (I'm not recommending any; just picked some random big ones): Microsoft has a forward P/E of 9.7 and a trailing P/E 12.3. Intel (cyclical) has a forward P/E of 9.7 and a trailing P/E of 12.3. IBM has a forward P/E of 10.4 and trailing P/E of 12.1. ExxonMobil (cyclical) has a forward P/E of 8.8 and trailing of 13.4. JP Morgan (vulernable to dervatives implosion) has a forward P/E of 8.8 and trailing of 11.9. Pfizer (potential value trap) has a forward P/E of 6.7 an...

Some of you may have heard him say it before—there is a reason Robert Prechter is considered by some to be a perma-bear—but his opinion seems more apocalyptic than before. The New York Times catches up with Robert Prechter and gets his latest take on things: WITH the stock market lurching again, plenty of investors are nervous, and some are downright bearish. Then there’s Robert Prechter, the market forecaster and social theorist, who is in another league entirely. Mr. Prechter is convinced that we have entered a market decline of staggering proportions — perhaps the biggest of the last 300 years. ... His advice: individual investors should move completely out of the market and hold cash and cash equivalents, like Treasury bills, for years to come. (For traders with a fair amount of skill and willingness to embrace risk, he suggests other alternatives, like shorting the market or making bets on volatility.) But ultimately, “the decline will lead to one of the best investment opp...

Even though bond yields are somewhat low—10-year US bond is yielding a little over 3%—inflation expectations remain quite high IMO. Although not perfect, one of the few market-based measures of inflation expectation is the TIP spread (this is the difference between a "normal" bond and an inflation-indexed bond of same maturity.) The following chart plots the spread as of today (I notice a typo in the title but oh well :| ).

This month I will attempt to answer the entrance examination for the Chinese civil service. That is to say, I will attempt to tell you everything that I know. In doing so, I will argue that this year's rally in inflationary assets, from emerging stock markets to industrial commodities to the fall in the US dollar, could be a FAKE. Let me explain why. — Hugh Hendry, Nov '09 Eclectica Fund Manager Commentary One of the difficulties with contrarianism is that it is never clear whether you are being contrarian for the sake of being contrarian; or if you are actually right and the crowd is wrong. Such is the case with Hugh Hendry of Eclectica Asset Management. Whenever I look at his comments, it is hard to tell if he is going overboard by taking an extreme contrarian stance (I have a habit of doing this too :( ). His latest commentary touches on all sorts of issues and is an interesting read for macro-oriented investors (if link doesn't work, try the posting at Zero Hedge ). Th...

Here are some written words that may benefit you... The paradox of the US dollar & interest rates (The Economist): Buttonwood touches on an issue that has been puzzling me for months. Buttonwood wonders if the US dollar is destined to decline significantly, whereas I look at it from the bond yield point of view. Namely, why are US government bond yields remaining low if all assets are rising and the US dollar is declining? Sure, it could be due to Quantitative Easing but that doesn't seem to be very large (also, haven't the central banks started reducing their QE?) It's also possible a US$ carry-trade has developed but it is hard to say. (Highly Recommended) Jae Jun looks at Microsoft's Earnings Power Value (Old School Value): I am not familiar with Earnings Power Value (EPV), a method that seems to have been developed by Bruce Greenwald, but it looks interesting. Jae does an excellent job running through the analysis and I recommend that you take a look at it ev...

(Sorry about the lack of posts. I wrote this post over several months so the text is a bit rambling and incoherent. Hopefully someone finds it useful :) ) Deflation is probably the last thing on anyone's mind. After all, gold has surpassed $1000, oil is up over 100% from its low this year, and, well, stocks are on fire. But then again, this is a contrarian blog and I don't quite think like the mainstream. This doesn't necessarily mean that I am right so it's up to you to figure out if my thinking is right. I haven't altered my stance, which amounts to a tilt towards deflation. Apart from specific stocks, I have been investigating a macro bet on deflation. Apart from shorting select assets, you really don't have many choices if you are betting on deflation. The simplest bet is to overload on cash—cash is king during deflation—but the classic investment is long term government bonds (assuming the issuing government is solvent.) As I mentioned a while ago , Hugh He...

( Minor Update: Altered the link for Geoff Castle's piece on Japan so that it links to his site directly. The GuruFocus title was very poor.) Posting on this blog is going to be erratic for the next few weeks, or possibly even months. I'm starting to look for a new job due to various reasons. Doing this in the thick of a severe recession, with forecasts of a jobless recovery, is not the ideal time; I should have done this a long time ago but I guess I'm a slow-moving turtle :( But as capitalists (I'm not a "true" capitalist), we know that heroes—whether individuals or businesses or countries—are born during tough times. So we'll see how my life turns out. I hope I find something by the end of this year. Wish me luck. As usual, I am also checking out a bunch of films at the Toronto International Film Festival and that is going to keep me busy for the next two weeks or so. I usually purchase 10 tickets each year. I'll be watching 8 films this year, wit...

Most of the world celebrates Labour Day on May 1st but in Canada and America it's the first Monday of September. Labour Day is going to be quite ironic and possibly unfortunate for me and I'll briefly mention why next week. In any case, on to investing... Here are some articles you may find worth checking out... (Recommended) Andy Grove of Intel, a legend (The Economist): The Economist published its Technology Quarterly —you can purchase a printable PDF for $4.95 if you wish—which is always interesting for the stories it picks up on cutting-edge technology. The linked article profiles one of the giants of the computer industry, former CEO of Intel, and probably employee #3, Andy Grove. Gordon Moore will always be thought of as the #1 techie at Intel but Andy Grove is, and will be, more famous for his business vision. He is definitely one of the top American businessmen in history. Interesting thought in this article well worth reading. (Recommended) Potential liquidation of ...