June 2011

Reflation Trade Back?

As predicted, the market continued to contract in June, and despite the impressive rally during the final week still came up short with a loss of 1.67%. Our results have been posted on our performance page. Although the market appears to be spooked by some poor economic reports both here and overseas, the technicals remain supportive for a continuation of the the current cyclical bull market. What is interesting, however, is the apparent reassertion of the reflation trade (pricing of assets [gold, oil, commodities in general] based on the debasement of the dollar). Here are my thoughts on what we might expect from the economy, as well as what investments may do well in light of based on my research:

• Lower gasoline prices, supply chain disruptions from Japan diminishing, a slowing of the savings rate, and pent-up demand (e.g. auto sales of 11.8 million are 3 million short of what is needed to keep up with population growth) should provide for a pick up in growth and a decent environment for equities (source BCA).

• The Bank believes that the long uptrend in commodity prices should resume with the gradual improvement of the European debt situation, lessening fears of a deepening slowdown in the U.S. and a hard landing in the Chinese economy. If they are wrong on any of these predictions, I suspect that our gold holdings will decouple from silver as a safe haven play.

• Treasury yields are likely headed higher if the economy picks up strength in the second half, but a bear market in bonds is not likely with the Fed continuing to be on hold.

• Emerging markets are locked into a triangle pattern and approaching the apex. While a breakout to the upside or downside is possible, it is the opinion of the Bank, that with inflationary pressures easing, reasonable valuations, and a pause in monetary tightening, a move to the upside is most likely.

Clearly, this has not been an easy year for those of us who are investing to attain real returns (adjusted for corrupted currency and inflation), but I'm confident that our portfolios will compete in an up market while providing some downside protection should the contraction continue.

 

-Joe