Here’s the news of the week – and how we see it here at McAlvany Wealth Management:

1. Stumbling Into the Future. In Wednesday’s FOMC meeting, Bernanke should get partial credit for his first major attempt at “doublespeak,” something Alan Greenspan was known for in attempts to keep a lid on transparency (only to investors, not the banks).   Bernanke stated that “record stimulus” will be maintained, while the $600B bond-purchase program will end this month as planned.  The usual platitudes about inflation, now spoken of as “temporary,” and the recovery, now more moderate than before, were offered up – but they left traders hanging as to the question of QE3.

It’s somewhat obvious to us that the Fed has time to make this decision.  After all, Congress has yet to expand the debt ceiling, so there won’t be an unwanted supply of bonds on the market any time soon.  And with the economy fading, bonds have been supported by the “risk off” trade.  Congress meanwhile takes the heat off the Fed if it skips a payment in Treasuries (default), and triggers the next financial meltdown.  Bernanke is probably in the best position in months in terms of PR.

Markets were up nicely earlier in the week on hopes of QE and a possible Greek resolution, but picked up speed to the downside not long after Bernanke’s comments – limiting the week’s gains in stocks to a little over a 1% (poor earnings in tech were ignored).  The Dow Industrials posted the only real loss on the week, slipping 0.51%.  Commodities slipped (frequency traders ruling) 1.91%, while bonds and the dollar rose modestly for the week.  Gold and silver were clubbed for 2.0% and 3.47% respectively on the dollar’s strength – more on this later.

U.S. economic data showed no real signs of improvement.  In abbreviated format, for the month of May, existing homes sales fell 3.8%, Mortgage applications fell 5.9%, new home sales slipped 2.1%, durable goods orders rose 1.9% (Japan), ex-transportation orders rose less than expected – 0.6%.  Initial jobless claims rose to 429K (from 414K), and continuing claims rose to 3,697K (from 3,675K).  Payrolls have dropped in over 27 states, with California and New York among the worst. GDP was as expected, rising 1.9%.  Personal consumption was flat (statistics show folks robbing their savings) at 2.2%. The GDP Price Index rose to 2.0% vs. expectations of 1.9%, while the core PCE jumped to 1.6% vs. expectations of 1.4%.  Again, inflation data may drop in absolute terms in coming months as the economy cools – but not relative to incomes due to the deteriorating job market.

Of particular note in the headlines this week, it appears our government is truly bipolar.  Democrats, proponents of raising the debt ceiling, also called on Wednesday for additional spending to boost our sluggish economy.  At the same time, among other budget issues, the government is set to stop payment on $800 million owed to the U.S. Postal Service pension fund and will cut Medicaid funding previously doled out under the first stimulus plan to the states.  It seems that the government is great at creating bills, but just not paying them at the moment … we will see more of this as default looms.

2. What’s In Your wallet? Overseas, the Greece fire continues without a definite solution.  The Euro is stuck, for the moment, in a trading range around 1.40 in USD terms. The Greek cabinet did take a step forward to appease their creditors with the expected passage of a 5-year, €78B austerity plan,  Germany is still insisting that future bailout capital be matched with funds from private sector investors.  Meanwhile the rest of the European financial wildfire continues to spread.  Moody’s has threatened to downgrade Italian sovereign debt and Jean-Claude Trichet has warned that risk signals for financial stability in the euro area are “flashing red” as the debt crisis threatens to infect banks all across Europe.

Kuwait and the Saudis have decided to produce more oil, against the wishes of other OPEC nations.  To their dismay, they have been met with a shortage of buyers.  It makes you wonder why Obama raided the U.S. strategic oil reserve to aid Europe in the struggle with Libya.

Carry trading in China is becoming extremely difficult as short rates are exceeding longer dated contracts.  It appears that China may be winning the battle against the speculators with recent rate hikes.  What that means, though, is that as inflation heats up, the billions parked in leveraged bond and stock funds will ultimately feel the pinch – and be forced to “de-lever,” exacerbating the declines we now see in those particular markets.

It still surprises us how easily gold can get caught up with the selling in the general stock market, or on news of a slowing economy.  Stocks are productive assets; gold on the other hand is not.  The charts of the two are very different, in the sense that gold has continued to motor higher over the past several years, regardless of economic or monetary setbacks.

Moving forward, gold should continue to benefit as interest rates climb, whether from the effects of inflation or, more likely, an outright credit/currency crisis.  (Mining shares have shown resilience in this market lately, refusing to set new lows.  They often indicate a shift in sentiment, suggesting that the downside for gold may be short lived.) The “risk off” trade into bonds and cash that Wall Street embraces continues to gain momentum, although at a declining pace, in our opinion – simply because the bond market may be more risky than stocks, given the funding problem.  This all begs the question, what would you want to hold in your portfolio as the crisis heats up?

Have a great weekend!

David McAlvany
President and CEO

David Burgess
VP Investment Management