The summer is fast approaching and already we are experiencing late spring and summer weather in much of the northern hemisphere. Monty, Tony and other Guild Investment analysts have been traveling a lot and will be continuing to travel to visit companies at their offices and factories as well as at conferences where the CEO’s of energy, precious metals, basic materials, seed and fertilizer companies congregate and speak about their businesses.
The summer is a good time to get to Europe on business assuming you don’t do it in August when much of the continent is on holiday. We have been spending a great deal of time in Asia in the last few years. Europe and South America will get more attention this year.
Much of the world is worried about the supply of food. Informed sources tell us that drawdowns of global grain inventories in seven of the last eight years, and the change of diet in much of the world toward a more protein centric diet (that we have often discussed in these pages) will keep food prices at elevated levels for years to come.
The obvious solution to this problem is to produce more food. What are the elements necessary to do this? Land, labor, equipment, and capital are necessary, but so are many other components. What are the sub-elements needed to get more yield per acre? Better seeds, fertilizers, transportation and storage systems for the food once it is produced (so that it gets to the consumer in a timely and inexpensive manner) are needed. Also, an efficient retail distribution system and a consistent food quality control system that allows consumers to know that the food they receive meets certain standards are important.
There are many opportunities for investment in food which we expect will do well in the coming years in the above mentioned industry sectors. Currently, we are investing in companies in the fertilizer, transportation, seed, equipment and water sectors.
WHY GOLD WILL GO UP…AND WHY FREEDOM, ESPECIALLY PRIVACY AND ECONOMIC FREEDOMS HAVE ALWAYS BEEN IMPORTANT IN TURBULENT ECONOMIC TIMES
During difficult economic times, even the world’s democracies have been guilty of very undemocratic practices. The U.S. and many other democratic governments have done some very undemocratic things during times of economic hardship or war.
May we draw to your attention to an excellent opinion article that was in the Wall Street Journal on June 5, 2008 about the history of gold in U.S. commerce and finance from Amity Shlaes, who is a senior fellow in economic history at the Council on Foreign Relations and an author.
We suggest that after you have read it, you too will see why it will be harder to keep inflation in check going forward.
Contracts as Good as Gold
By AMITY SHLAES
People these days fear inflation. We also fear changing rates of inflation. And most of the tools we might use to protect ourselves, such as the Treasury Inflation-Protected Securities bond or gold stocks, are imperfect. TIPS are, after all, based on an inflation-measure whose accuracy is itself controversial – the Consumer Price Index.
So it’s worth remembering that, 75 years ago today, President Franklin D. Roosevelt destroyed an inflation hedge that was literally as good as gold: the so-called "gold clause." This helped prolong the Depression and has been causing damage ever since.
Consider an investor in the gold standard era. An ounce of gold was worth $20.67 and you could, at least in theory, trade your greenbacks for gold at the bank. The gold standard checked a government’s willingness to inflate, since it started losing gold when it did so. Those who traded bonds knew a confidence we can never know.
Washington, like all governments, could occasionally cheat on the gold standard – suspend it, limit the ability of citizens to convert paper into gold, and so on. But investors could protect themselves by writing a gold clause into their contracts. Such a clause promised a borrower that he could be repaid "in gold coin of the United States of America of or equal to the present standard of weight and fineness." The gold clause fostered economic growth in the late 19th and early 20th centuries by making it easier for young industries to raise capital. Since investors protected by these clauses knew they would get their money back, interest rates were lower. To finance World War I, Washington even inserted gold clauses into Liberty Loans.
The powerful deflation of the early 1930s gave Roosevelt the excuse to end the gold standard. Dirt-low commodity prices, starving farmers, bank seizures of homes, 20% unemployment: All these miseries shouted, "looser money now!" The agricultural community, including eccentric Agriculture Secretary Henry Wallace, viewed the end of the gold standard as the ultimate revenge of the farmers punishing Wall Street for its 1920s prosperity.
One night in April, 1933, FDR surprised a bunch of advisers, saying "Congratulate me." He’d taken the country off the gold standard, and now planned to personally manage the dollar’s exchange rate and price levels. Hearing the news, colleagues "began to scold Mr. Roosevelt as though he were a perverse and particularly backward schoolboy," recalled Ray Moley. Secretary of State Cordell Hull, the great free trader, "looked as though he had been stabbed in the back. FDR took out a ten-dollar bill, examined it and said ‘Ha! . . . How do I know it’s any good? Only the fact that I think it is makes it so.’"
Congress then drafted a joint resolution declaring gold clauses – protection against any damage Roosevelt might do – to be "against public policy." Roosevelt couldn’t wait to see the resolution become law. Henry Wallace wrote that Roosevelt "looked up at the clock and put down 4:40 p.m., June 5, 1933 and signed his name."
Randall Kroszner, a governor at the Federal Reserve Board, has studied this period and has noted that the price went up on most stocks and bonds, even gold-clause bonds, when the Supreme Court eventually validated FDR’s action. Mr. Kroszner and others argue that the abrogation of the gold clause had some virtue because it reduced the cost and inconvenience of debt renegotiation in a period of credit crisis.
But you can also argue that those price movements were more an expression of relief that a futile battle was over rather than a vote of approval. In my own review of the period I found evidence that snatching away from investors the perfect inflation hedge hurt the economy.
The market rally in the spring of 1933 slowed as investors watched FDR fiddle with the dollar and commodities over the course of the fall. In 1934, FDR thought better of it all and fixed the dollar to gold again, albeit now at $35 dollars an ounce. But the abrogation of the gold clause suggested that Washington had no regard for property rights. The general uncertainty generated by government economic policies did not abate. Capital went on strike. The Great Depression endured to the end of the decade. The positive transparency that the Securities and Exchange Commission or the creation of deposit insurance brought to markets was offset by losses like that of the gold clause.
And from then on, the federal government enjoyed wider license to inflate. Without the gold-clause option, citizens tried out other hedges – today a line about the CPI may stand where the old gold line once stood. In the 1970s, Sen. Jesse Helms pushed for repeal of the old abrogation, and eventually, with the support of Treasury Secretary William Simon, he won. But the average investor never used the clause to the same extent.
Today, as in the last days of the gold clause, officials like Mr. Kroszner of the Fed’s Board of Governors are weighing a difficult choice between efficient crisis management and property rights. People don’t talk more about the damage of monetary uncertainty because that damage is so spread out – harder to discern than, say, a single giant event like the implosion of Bear Stearns. But the old gold clause footnote explains why we may see yet more angst over the Consumer Price Index, the TIPS bond, or even LIBOR, the London Interbank rate. We have lost our bearings and our confidence in money generally.
After a majority of the Supreme Court upheld the constitutionality of the gold clause abrogation, Justice James McReynolds read the dissent. Today McReynolds is generally regarded as an irrelevant reactionary, a footnote himself. But his rueful words ring true for those trying to reckon the dollar’s future. It was, he said, "impossible to estimate the result of what has been done."
WHAT WE READ
As some of you know, we read a lot of books in addition to the periodicals, newspapers, articles, research reports and company financial statements, company announcements and industry research.
Altogether, Monty Guild reads between forty and fifty hours per week, Tony Danaher reads twenty to thirty hours per week, and our other analysts at Guild Investment Management usually read over thirty hours per week.
In essence, analytical work is not just examining the financial information for a company and the company’s pronouncements about their present and future prospects, it is reading about and understanding the dynamics pertaining to an industry and speaking to the key participants in an industry.
These activities allow an analyst to understand the social, political, economic, financial, and tax implications of anything that happens in the industry. They also must understand the way the stock market views the industry. Other details such as when the companies will be having analyst meetings, speaking at conferences, meeting with government officials and how these and many other actions can impact the stock price are important data points that are gathered through our research.
RECENTLY READ BOOKS WORTHY OF RECOMMENDING
BAD MONEY-by Kevin Phillips.
This is an analysis of U.S. economic policy. One of its great contributions is to describe in detail how succeeding U.S. administrations manipulated the consumer price index and other economic data to serve their own ends by understating inflation.
THE SINGULARITY IS NEAR-by Raymond Kurzweil
A fascinating, scientifically based book about the interface of man and machine with many predictions of how men and machines will interact and combine talents in years to come. THIS IS EXCELLENT READING FOR INVESTORS INTERESTED IN HOW THE WORLD MAY WORK IN THE FUTURE.
GANG LEADER FOR A DAY-by Sudhir Venkatesh
A graduate student of East Indian descent imbeds himself within a drug gang in Chicago’s toughest housing project and learns more about how gangs work than any other sociological or economic researcher has ever understood. The story is gripping and the insights fascinating.
India’s recent inflation news is not good. India does not seem to be able to deal with the Communists in the ruling coalition. They are way behind the curve in raising subsidized energy prices. Gasoline prices are 25% of the world market price and people are talking about rolling them back. Inflation is about 9% in India and will get worse. In general, we are avoiding most Indian stocks due to the government’s inability to come to an agreement which will do the right thing; stimulate sustainable growth and minimize inflation.
As has historically been the case in India, any of India’s many small interest groups can bring the government to an impasse and slow or hurt India’s growth prospects.
GLOBAL INVESTMENT STRATEGY
Those who have doubted that the U.S. is in a recession may reconsider their opinions now that the U.S. has an unemployment rate of 5.5%…the highest in a long while. We do not see how current gasoline, natural gas, heating oil and food prices will not lead to a continuing economic slowdown in other sectors of the economy.
We continue to focus on companies in the following industries: food related [see above], energy, precious metals, and companies which transport these goods. China will be OK for stock investment. The Chinese stock market has had a big decline and now appears attractively priced. We advise investors to stick to areas of the Chinese economy where the government will not institute price controls or other unwise policies. China remains a socialist country…fast growing…but definitely socialist.
We continue to avoid financial stocks in the U.S. and Europe. They will have difficulties for several years to come. If you are a short seller you might want to sell financials short after rallies.
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