Dear Sure Money Investor,
You're likely hearing talk on CNBC or Fox Business about how China is going to grow at 6 or 7%. This is ridiculous.
The mainstream financial media is in denial about China's economic slowdown and the real danger - and opportunity - it presents to investors. As usual it's left to me to be the bearer of hard truths, but I'm happy to do that, knowing it may save good people from financial hardship.
This hard truth is that country's economy is probably shrinking. China may have overtaken the U.S. to become the biggest economy in the world in 2014, but it's a diseased economy. At the root of this disease is debt.
After seeing its debt quadruple from $7 trillion before the financial crisis to more than $30 trillion today, China is left with overcapacity in its commodity industries, a landscape littered with massive ghost cities, an underdeveloped consumer economy, and no way to repay all of the debt that it incurred to battle the 2008-09 financial crisis. China's economic model is unsustainable and has reached its economic, physical, and environmental limits. It continues to produce and ship mountains of iron ore, aluminum, copper, zinc, and anything else that isn't nailed down to the rest of the world, pushing down global commodity prices to levels that are bankrupting the global commodity complex. China has announced some cuts in commodity production but any slowdown in production will further reduce its already shrinking growth.
This may all seem far away for you. Maybe you don't have any investments in China. Maybe you never plan to set foot in the country. You still need to know about what's happening, and now.
The truth is, China is just a symptom of a larger problem, one I've been talking about non-stop, and we're starting to feel the full-blown disease.
Sooner or later markets get religion and sins get punished. That time is now. That means investors should get religion before they end up meeting the Devil in person.
One way to do that - the best way, in my view - is to buy precious metals, and I'll show you what this means for gold, silver, and platinum. First...
The consequences of China's slowdown are manifold:
But the damage is just beginning because the global financial system and the U.S. financial system are more leveraged than ever before. This is a very important point, so I want to take a quick moment to discuss it.
Today, U.S. non-financial corporations (meaning corporations other than banks) have 40% more net debt (i.e. debt net of cash) than they did in 2007.
The current situation in China is clearly unsustainable and the country is either going to have to slow its currency interventions, raise interest rates or tighten capital controls in the near future.
Chinese authorities are going to resist a massive devaluation of the yuan and use their massive resources to effect as gradual an adjustment as possible. While they do so, they will roil global markets, but the prospects of a total collapse or a radical revaluation of the yuan are small. There are serious questions about the depths of China's $3.3 trillion of currency reserves since they have fallen rapidly from $4.0 trillion a year ago and roughly $1.2 trillion of them are illiquid.
But China is not going to collapse tomorrow or, for that matter, next month or next year. I do not recommend betting the farm on an imminent collapse of China. There is a huge difference between developing an investment thesis and timing how that thesis is going to play out in the real world.
We hear a lot of talk about how U.S. corporations have high cash balances. That's true but that statistic is very misleading. First, a lot of this cash is sitting offshore and would have to be taxed if brought back to the U.S. Further, the brilliant analyst Stephanie Pomboy of MacroMavens points out that the top 25 S&P companies hold half of the $1.6 trillion of this cash while the bottom 250 companies have just $89 billion among them. This cash shortage among the "have-nots" will be a big problem when they have to refinance their debt at higher rates due to the fact that their bond prices have crashed and their cost of capital is much higher than it was than during the post-crisis bond bubble. And the situation is much worse among smaller high yield borrowers who aren't large enough to be included in the S&P 500. So most U.S. companies are not cash rich at all.
The low interest rates created by the Fed's seven years of zero interest rate policy and QE disguised a lot of sins. They allowed China to play host to the biggest debt bubble in history. That bubble is now popping. And they allowed U.S. corporations to borrow more money than at any time before in history.
Sooner or later markets get religion and sins get punished. That time is now. Take cover in 2016 with the antidote - precious metals.
I've recommended that my investors allocate 10-20% of their portfolios to precious metals and tangible assets. That recommendation still stands.
My recommendation is to allocate most of that to gold rather than silver, and to stay away from platinum altogether. Overall, gold is a much better long-term investment than silver because it's a currency rather than a metal and it protects against both inflation and deflation. I've put this all in one place in an investor's report, including a run-down on my favorite dealers and gold investment opportunities for 2016. Click here if you would like to read that.
Of course, silver can be more attractive to many investors because it's lower-priced and a lot easier to accumulate in quantity.
The major difference is that gold is a currency while silver remains a metal. Silver has a lot more industrial uses than gold, is also more volatile, more dependent on the state of the industrial economy (which isn't very good right now), and very beaten down right now. (As I write this, Silver Trust iShares ETF [SLV] is trading below $14, well below its price in 2011 when it hit $48.70/oz.). The strong dollar, China's implosion, and a variety of other factors have all hurt the price of silver.
While silver won't protect you from the Super Crash in the same way that gold will, it does have unusual resiliency. It will drop lower with a crash, but it also displays great ability to bounce back after a crash.
Look at what happened after the big drop of 2008. Silver bottomed at a record $8.88/oz, but investors who had the patience to hold on saw prices gradually rise again - peaking with a 132.9% gain in 2011 when it peaked at $48.70/oz .
If you're going to buy silver, it's a good idea to take advantage of the lower prices, hold on for now, and wait for the inevitable rebound. It may take a while, but it will pay off in the end.
If you're interested in including silver in your portfolio, my suggestions are below. I don't follow the individual companies as much - these are macro calls, so I generally stick with the ETFs and, as I said, prefer gold to silver over the long term.
Silver Long Plays:
In addition, Central Fund of Canada Ltd. (CEF) and Sprott Physical Gold Trust (PHYS) own silver as well as gold.
Platinum is often referred to as "rich man's gold," just like silver is "poor man's gold."
This terminology is misleading. There's only one kind of gold: gold.
Platinum prices are largely driven by the auto industry, where platinum is a key component in catalytic converters. In recent years, American and Japanese manufacturers started shifting away from platinum to recycled catalytic converters or less expensive palladium. This reduced demand for platinum. Volkswagen's emissions scandal also reduced demand for platinum. As a result, demand for platinum is down sharply. Anglo American Platinum, a major producer, recently announced that it was placing all expansion projects on hold.
The price of platinum is primarily driven by its use as an industrial metal - and it's so volatile that it's a terrible long play.
As long as economic growth remains sluggish, the outlook for platinum is dim. And when the market crashes, you can expect a dramatic bottom in platinum as well.
That, of course, makes platinum an ideal short play - but please, keep it out of your portfolio.
Thank you for subscribing to Sure Money. We'll be following these dangers and opportunities in the weeks ahead together.
Sincerely,
Michael Lewitt Editor, Sure Money 2016