Understanding the Setups for New Trends

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When I invest, I like to look at setups- I try to figure out what's going to happen so I can step in front of a trend. This leads to a lot of contrarian calls, which in turn leads to confusion about my views. A lot of readers have told me they are confused by my belief that stocks are going to explode in the years ahead given such obvious global economic headwinds. They think I'm ignoring the current crisis. However, I can assure you I'm not blind to what's happening; it was our leaders who denied this crisis existed, not people like me.

Anyone can tell you about current affairs, the trick is to know how current events affect future events. For example, when Gordon Brown sold half of England's gold in 1999, people were saying the end of gold was near. Of course it was the opposite, in part because central banks were exhausting their inventory to suppress prices in the future. Short-term bearish, long-term bullish. This was the setup for higher gold prices. At the time, the global economy was doing fine and stocks in America were booming. Anyone could have told you this. But how many people were predicting that gold was going to rocket launch? How many people saw the future trends?

Now let me bring this back to stocks. Even people who can't spell economics know about the sovereign debt crisis now. Everyone knows about the S&P downgrade. So why is everyone getting bearish now? The debt crisis was obvious before. What I do as an investor is look to the future, not to the present, and certainly not to the past.

Anyway, think of bond purchases as “sells” on stocks. The two markets compete with each other for capital; institutional investors have been conditioned to buy Treasuries on any perceived weakness in stocks. If we all agree that there is a global debt crisis and that America is in trouble, then we also agree that people will eventually sell U.S. government bonds. And if people sell bonds, they need to put their money somewhere, especially since the sell in bonds will be triggered by inflationary forces.

Short-Term Bond Market Manipulation

Recently, The Bank of New York started charging institutional clients for large deposits. In my opinion, this is a ploy to get money back into Treasuries. There will be all type of shenanigans- some obvious, some not so obvious- to get a steady flow of capital into the bond market. In the short run, these shenanigans work; in the long run, these shenanigans are bound to fail.

The collapse in bonds is going to happen, so don't get lulled to sleep by the current rally. Bonds are a huge bubble, and on a relative basis, money should be invested in stocks over bonds. Period. This is just the setup. All of this will make sense in a couple of years.

Understanding the Setups for New Trends is a post from: Expected Returns


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