Juggling Dynamite

Jim Bianco offers his usual sober look at the numbers.

One of the biggest challenges in the financial business is that once you are seen as an “expert” people start asking you to forecast the future. Worse, whenever you are asked to speak at a conference, panel or media spot, most often the interviewers want you to bring your “buy ideas” and by that they usually mean specifically equity buy ideas. If you say you aren't keen on equity valuations and have no screaming buys on your list at a given time, the general response is one of disappointment that you are so bearish. You start feeling like the smelly kid at the high school dance.
The most sought after speakers are typically the one's that are the most confident, bullish and sure of their predictions. Even though in reality, these are the worst possible people to listen to. The guys that are telling you without a blink that oil will be $200 by the end of 2011, or that gold will be $2,000 in 6 months, or there is no downturn in sight and the Dow will be 14,000 within the next year…all very dangerous. I am reminded of Galbraith's infamous quip, “there are only two kinds of forecasters those who don't know what is going to happen, and those who don't know they don't know…”
Another excellent quote on this comes from the Big Picture blog today:
“One of the painful things about our time is that those who feel certainty are stupid, and those with any imagination and understanding are filled with doubt and indecision.”
-Bertrand Russell
For the record, I am painfully aware of the danger and complexity of the future and especially when it comes to intensely emotional things like publicly traded financial markets. I have learned over the years that those who are most useful in this area are those who have trained themselves to watch for key, objective markers that suggest upside and most importantly– downside risks. The bulk of financial participants and pundits are fixated only on the upside of their particular investment product, idea or thesis. This wilful blindness makes them dangerous. If we miss some upside opportunity it can be frustrating no doubt, but where we fail to see and plan for downside risks it is frequently devastating.
This all ties in nicely with a clip I saw on BNN last night (I'll watch anything to get through my heart-thumping 45 minutes on the Elliptical machine).
Author Dan Gardner was explaining his new book Future Babble which outlines a recent study on what attributes make the best and worse financial forecasters.
It is an interesting discussion, according to Gardner the more confident and far in the future one puts their predictions the least likely they are to be correct. The most important link to accuracy is one's “style of thinking”. It's not that there is no value to making forecasts; we have to make an effort to foresee the future. But the rare useful forecasters are the one's who know their limitations and are comfortable with complexity and uncertainty even though this is not what the average listener wants to hear.
Watch the clip here.“In 2008 the price of oil blew past $140 a barrel and was predicted to be on its way to $200. It plummeted to about $30. From the price of oil and gold to US homes, economists, pundits and market makers have been notoriously wrong when it comes to predicting the future. Are we doomed to repeat the mistakes of the past when we try to predict the future, BNN speaks to Dan Gardner, author of Future Babble.”

Following World Bank President Robert Zoellick's comments yesterday that Group-of-20 economies should evaluate using gold as a reference point for market expectations about inflation, deflation and currency values, gold broke through $1,400 an ounce confirming to bulls that the sky, for the glittering rock, is truly the limit.
Our friend Dennis Gartman includes the following chart in his morning letter today showing that the US monetary base is presently less than 20% backed by actual gold reserves, and around the level it has maintained over the past decade.

Nouriel Roubini points out that the deficit of gold reserves is in fact common to most of the world's central banks today, where financial leverage of 40 and 50 to 1 is the norm. Roubini maintains that a return to the gold standard today is really impossible, see Roubini: Here's why a gold standard won't work, to wit:

“…many who support a gold standard would say that limiting the ability of central banks to increase their leverage would be a benefit of adopting the gold standard.
Aside from the issue of central banks insufficient current gold reserves, there are the issues that historically plagued gold standard economies. One of the most intractable of those issues was the impact that the gold standard had on traditional business cycles.
… “When you had a traditional gold standard, boom and bust with severe swings in economic activity were the norm—really big ones. It was only once we moved to fiat money that central banks were able to smooth the business cycle, and make it less volatile, as we did during the financial economic crisis…”

Of course, it is reasonable to argue that the business cycles of the past decade have been anything but smooth, and there is no doubt that reckless leverage across households, banks and governments has been the root cause of our present crisis in the world economy. History does support the need for systemic control on spending and leverage, its just that physical gold is an even more impractical candidate today than it was in the 1800's when US banks used to pass around a shared bullion cart from vault to vault in order to fool the auditors who were coming to confirm the mandated reserves were held in each basement.
This is a global, complex mess we have got ourselves into. There is no quick fix. Endless waves of QE are a pathetic treatment aimed at stalling not curing the problems.
As Chinese analyst Andy Xie writes:
“The world is heading towards high inflation and political instability. It's only a matter of time before there is another global crisis. The first sign would be a collapsing treasury market. The Fed is controlling the yield curve through its QE program. But, it is irrational for other investors to play this game. The only reason to stay in is that the Fed won't let the market fall. But, the underlying value is evaporating with rising money supply and the inflationary consequences. When all the investors realize this, they will run for the exits and the Fed won't be able to stop the stampede. If it prints enough money to take over the whole market, the people with freshly minted dollars would surely want to convert their money into other assets. The dollar would collapse too.
The world seems on course for another crisis in 2012. The same people who caused the last crisis are still in charge. They'll get us into another. Iceland is sending its former prime minister to court for causing the banking crisis. A worse fate awaits the people who are causing the next crisis.” See: To Hell through QE for a global overview of the fall out from the US Fed's policies.