INTERNATIONAL. With more than 40 years as an economist to his credit and claiming gold as the "biggest position in my life," Gloom Boom & Doom Report Publisher Marc Faber assures us that gold is nowhere near a bubble phase, but cautions that corrections of 40% are not unusual in a bull market.
At the end of March, Faber will share his secrets for surviving corrections at the World MoneyShow in Vancouver. In advance of that appearance, he sat down with The Gold Report for this exclusive interview where he discusses his bias for portfolio diversification in terms of geographies as well as asset classes.
The Gold Report: After Standard & Poor's (S&P) downgraded a cluster of Eurozone countries in January, you came out saying that downgrades should have been even deeper, depending on the country's credit-worthiness. S&P did give below-investment-grade ratings to Portugal and Cyprus—BB and BB+, respectively—but you indicated that some of these countries warrant CCC ratings. Do you anticipate additional downgrades?
Marc Faber: If you accounted for the unfunded liabilities of most European countries, as well as the U.S., the quality of the government debt would be significantly lower. In other words, yes, I do expect to see more and more downgrades over time.
TGR: Could that happen in 2012?
MF: Yes, and some thereafter.
TGR: Have the markets priced in further downgrades already or should we expect a bigger impact in the next round?
MF: I don't think the market has priced it in because the yield today on U.S. 10-year government bonds is 2%, and 3% on 30-year bonds. If the market were priced properly based on the quality of these bonds, the yields would be far higher.
TGR: Did yields change much with these recent downgrades?
MF: Yes, particularly in the U.S., where investors perceive U.S. government bonds as safe. The U.S. will pay the interest as long as it can print money. But suppose you buy a 10-year government bond that yields 2% and inflation is perceived to be 5–7%. To what extent would investors still buy these bonds? That question will arise one day.
TGR: You've discussed investors leaving the European markets in favor of a "safe haven" in the U.S. Would U.S. bonds continue with such low yields with the European downgrades?
MF: For a while, yes, but at some point people will wake up and realize that the U.S. will default through a depreciating currency—in other words, through printing money—or by not paying the interest on the bonds. I don't think the U.S. will stop paying the interest, but printing more money will weaken the currency and produce higher inflation in consumer prices, asset prices and commodity prices. So being in U.S. government bonds will result in losses to investors through currency depreciation.
TGR: You've pointed out that negative real interest rates force people to speculate, which creates enormous market volatility. That seems to be happening now, but apparently investors are keeping a great deal of money on the sidelines as well. If that comes in, would it make the markets even more volatile? Or would you say the smart money will stay on the sidelines and the speculative money is in play already?
MF: I think there is a lot of money on the sidelines. Some will stay there, because people who don't trust the system anymore will just keep it there. Some will be invested, but it may not go into equities. It could go into some other asset class, perhaps hard currencies such as gold and silver, or real estate, which is now relatively inexpensive in the U.S.
As for volatility, it increased sharply last year, but has diminished over the last three-months. I expect we'll see increasingly very high volatility in all asset classes in the next few years. The money in an environment of negative real interest rates will flow. It might flow into fewer and fewer stocks, or into fewer and fewer assets that could go ballistic on the upside.
TGR: Which asset classes would you expect on the speculative upside?
MF: We had the NASDAQ bubble 12 years ago, the housing market bubble probably five years ago, and I would say also a bubble in commodities in 2007–2008, when oil spiked to $147. What's next, I'm not so sure. I could imagine some stocks, maybe some precious metals, in a bubble stage—not the entire market necessarily.
TGR: Could you delineate characteristics of stocks that will appreciate versus those that will stagnate or lose value?
MF: If we look at the market, we have some stocks where the outlook is perceived to be particularly bright, and then there are others—for instance, Eastman Kodak Company (EKDKQ:OTBPK)—that are at the opposite end of the spectrum. It depends on the fundamentals and the imagination of investors.
I wouldn't necessarily buy up, so I'm not saying it will go down. Maybe it will go up further. But in general if you buy the company with the largest market capitalization in the world you're not going to make a lot of money.
TGR: What captures the imagination of investors?
MF: Basically mania fed by excessive liquidity, with more and more people convinced that something is the Holy Grail. It was the NASDAQ in 2000, Asia before 1997, housing from 2000 to 2006–2007, or more recently China. Exactly what it is, I don't know.
But when a market has been strong, the media write about it and people are attracted to it. Then some useless academics write books about why stocks, or real estate, always go up, and so forth. The media again write that up, and more people flow into that sector.
TGR: A couple of weeks ago James Turk told us that he thinks the low price for gold in 2012 was already established early in January. What makes you think it will pull back?
MF: The big rally into Sept. 6, 2011, took the gold price to $1,922/ounce (oz) and then it dropped until the end of the year, touching $1,522/oz on Dec. 29. It has rallied, and is now above $1,700 again, but I don't think the correction is entirely over. Corrections of 40% are nothing unusual in a bull market.
As an adviser, my duty is to always inform people of investment risk. I'm not saying I expect gold to collapse, but telling people the gold price will go up leads them to leverage up and speculate. If the gold price drops $50/oz, they're wiped out. All I'm saying is that, in my opinion, the gold price correction is not yet entirely completed.
I see significant support around the $1,500/oz level, but it could drop lower. It depends on global liquidity and on money printing by central banks. We could have a big correction if global liquidity tightens or they stop printing money.
TGR: Over what timeframe are you looking at the correction?
MF: This year the gold price may not exceed the $1,922/oz high that we reached on Sept. 6. Maybe it will. I'm not a prophet. I'm just telling people that I'm buying gold and holding it. I don't speculate in gold. If you buy gold, you better understand that the price could always move to the downside. If you don't understand that, don't invest in gold—or in anything.
TGR: Investment show commentators have been talking about gold being in one of those mania bubbles you described because it's been increasing for 11–12 years. Do you agree?
MF: No, gold is not in a bubble. It wasn't in a bubble in 1973, either, but it still corrected by 40% then. I don't believe gold is anywhere near a bubble phase. A bubble phase is characterized by the majority of market participants being involved in a market space. I saw a gold bubble in 1979–1980, when the whole world was dealing—buying and selling gold 24-hours a day, globally.
TGR: But not since then?
MF: No. If you went to an investment conference in 1989, 90% of the people there would have told you they owned shares in Japanese companies. In 2000, 90% of them would have said they owned NASDAQ shares. Only about 5% of the participants at an investment conference today would tell you they own gold. Very few people in this world own gold.
I don't believe that we're in a bubble.
TGR: Should people who aren't yet in gold or want to add to their position wait for a correction?
MF: I have argued for the last 12 years that investors should buy a little bit of physical gold every month and put it aside without concerns about corrections. If you don't own any gold, I would start buying some right away, keeping in mind that it could go down.
For the last 40 years in my business I've seen people always lose money when they put too much money into something and then it goes down. They panic and sell, or they have a margin call to sell—and lose money. I own gold. It's my biggest position in my life. The possibility of the gold price going down doesn't disturb me. Every bull market has corrections.
TGR: What do you think about silver as an alternative precious metal to hold?
MF: Gold and silver will move in the same direction, up together or down together. At times, silver will be stronger relative to gold, and at other times gold will be stronger relative to silver. My friend Eric Sprott thinks that silver will go ballistic. I don't know. I own gold.
TGR: You're on record as recommending that investors maintain diversified portfolios, with 20% to 30% each in gold, real estate, equities and cash. Focusing on equities, as we've discussed, means tremendous volatility. What are your thoughts? High value? Large cap? Dividends? Something more speculative, perhaps gold mining shares?
MF: Because I live in Asia, I am quite familiar with the Asian markets and economies. I have a bias toward Asian equities, especially because I can find deals in places such as Malaysia, Thailand, Singapore and Hong Kong—stocks that give me 4–7% dividend yields. With yields at those levels, at least I'm paid to wait. Even if they're cut 5%, I'd still get better cash flow than I would from, say, U.S. government bonds. Consequently, I feel reasonably confident owning such shares.
Because I have allocated only 25% of my portfolio to equities, if the markets were to drop 50%, I would have funds elsewhere in my portfolio to buy more equities. That's not a prediction for a 50% market decline; it's just to say that I'm positioned in such a way that I could put more money in equities through a) my cash flow, b) my income and c) my cash position. And I do own some gold shares through stock options, because I'm a director of several exploration companies.
TGR: Given that you're satisfied to, in essence, being paid to wait with dividend-paying stocks, do you consider yourself a buy-and-hold investor?
MF: With my asset allocation of 25% in equities, I can afford to hold them. If I had 100% in equities, I would be more inclined to take profits from time to time.
TGR: Let's get back to Asia for a moment. Headlines in the U.S. have focused lately more on what's going on in Europe, with Asia basically relegated to page 2. What's your perception of the markets and economies there?
MF: We don't have recessions yet, although there have been slowdowns in economic activity and some corporate profit disappointments. The big question is whether we have a problem in six months to one year's time that results from a meaningful slowdown or even a crash in the Chinese economy. That may happen.
Second, it's not everywhere, but in some cases I see bubbles in the real estate market, as there are in everything that relates to luxury—luxury properties, paintings, collectibles, the luxury department stores and shops, the Swiss watch companies. They're all doing very good business. I think there's a bubble essentially in everything at the high end of the market. That concerns me a little bit. It may continue for another year or so but will not last forever, so I'm relatively cautious.
Having said that, lots of companies in Asia do not cater to the high-end consumers but to the rising middle class. I believe they are reasonably well positioned to weather even a recession.
TGR: If China's bubble in those luxury goods and real estate bursts, would the Asian markets go down in tandem?
MF: Yes, I think so. Last year the Chinese markets—by the way, also India—grossly underperformed the U.S., so maybe the market has already discounted a Chinese slowdown to some extent. But because I happen to think that it hasn't discounted the Chinese slowdown entirely, yes, I think the markets are still vulnerable.
TGR: Are your investments in the Asian markets focused on companies that are not catering to the high-end, like food and items that the middle class buys?
MF: Yes, I have a mixed portfolio of both industrial and residential real estate, healthcare companies, retailers, food companies, agricultural companies, finance companies and banks. So, it's fairly broad.
TGR: Are those financing companies and banks Asian-based or internationally based? That sector is certainly out of favor in North America.
MF: I have no Chinese banks, but I own banks in Singapore and Thailand and finance companies in Singapore, Thailand and Malaysia. Actually, I'm also positive about some financial stocks in Europe and America. Simply because of the money printing, these financial institutions are benefiting at the expense of honest people who have savings that yield nothing while their cost of living is progressing at 5–10% per annum.
I took a taxi the other day from New Jersey to Manhattan. The Lincoln Tunnel has raised its toll by 50%, from $8 to $12. But the government, brainwashed by incompetent academics at the Federal Reserve, will tell you that inflation is 2%.
TGR: You mentioned liking finance companies in Europe and America because of money printing. How does that benefit them?
MF: I don't like them. In investing, it's not a question whether you like or dislike something. It's a question of price. The best company or the worst sector may be overvalued at one price and undervalued at another.
I happen to think that having weakened to around the 2009 lows last fall, when the S&P dropped to 1,074 on Oct. 4, the financial sector was very cheap. Since then, there have been big rallies for Citigroup Inc. (C:NYSE), Bank of America Corp. (BAC:NYSE) and other banks. I saw opportunities there, but with the market rallying so much, I believe it is now overbought and due for a correction. We will see whether it's just a correction or a resumption of a downtrend.
TGR: Which do you think it will be?
MF: I don't know. We haven't seen a correction yet. I think it's about to start. Then we will have to see the shape of the correction, which could last a month. After that, we'll have to look at the shape of the recovery—the number of stocks that will participate, the number of new highs and so forth.
TGR: You've indicated that your portfolio allocation includes real estate. Do you consider real estate a good value in North America now?
MF: I travel around the world all the time and I'm interested in the formation of prices so I have an idea about trends in prices. You have to consider real estate prices in the context of currency valuations.
For example, five years ago, homes in Australia and Canada were inexpensive and now they aren't, but not necessarily because prices have gone up. Although prices don't necessarily track with whether a currency increases or decreases in value, in those two cases, the value of the currencies also has increased.
The U.S. does have areas where real estate is incredibly low relative to other parts of the world. I can buy homes in Atlanta and Phoenix for less than I'd pay in Thailand, and because the GDP per capita in the U.S. is of course much higher than in Thailand, on a relative basis, those homes in Atlanta and Phoenix would be attractive.
As a foreigner, I am not interested in investing in U.S. real estate for various reasons, including taxation, management and regulation. But if I were a U.S. citizen, I would say now is a relatively good time to buy real estate and rent it out and net a yield of maybe 6–8%. Many of my friends who own rental apartments do very well on rental income. Many of the people who no longer qualify for mortgages can rent.
TGR: In terms of asset diversification, to what extent ought the average U.S. investor focus on international equities or real estate?
MF: I think U.S. citizens should focus very much on diversifying their assets internationally. Only Americans still believe that America remains the most important economy in the world. Everybody else knows it has become relatively less significant over the last five years.
Everybody, including Americans, should be global investors, and Americans should have at least 50% of their money outside the U.S. I would argue that a global investor should have maximum 40% in Europe and in the U.S., with the rest in Asia, Latin America, Africa, etc.
It's very difficult for Americans to open bank accounts overseas, but buying real estate overseas is one way to diversify, and that's not a problem. Maybe the U.S. will close this loophole one day, but for now U.S. citizens may buy real estate in South America, Europe or Asia—anywhere in the world. That's what I would do.
TGR: Do you consider investments in stocks that are based in international areas part of the diversification?
MF: Basically you want exposure to rapidly growing economies. This is best achieved by buying companies that have large exposure in the emerging economies rather than the U.S. and Europe. The Coca-Cola Company (KO:NYSE) is a U.S. company but the bulk of its business comes from outside the U.S.
TGR: You're scheduled to speak at the World MoneyShow, coming up in Vancouver March 27–29. We understand that in your presentation, entitled "The Causes and Investment Implications of Dishonest Money," you'll be discussing unintended consequences of large fiscal deficits and expansionary monetary policies. Would you give us some highlights of what you plan to cover?
MF: Basically I will try to explain that instead of smoothing out the business cycle, government interventions have created more economic and financial volatility and have had very negative consequences for the U.S. in particular. And as I pointed out earlier, these measures, such as some of the fiscal and monetary measures we've talked about, are based on erroneous economic sophism.
TGR: What do you think people will learn from listening to your presentation?
MF: That in this environment of money printing, cash and government bonds are not very safe and that you have to navigate through different asset classes. Under normal conditions, cash and government bonds are essentially the safest investments—not investments with the highest returns, but the safest. That is not the case today.
TGR: And we appreciate the pointers you've made about some of those different asset classes. Thank you very much.
About Marc Faber:
Swiss-born Marc Faber, who at age 24 earned his Ph.D in economics magna cum laude from the University of Zurich, has lived in Hong Kong nearly 40 years. He worked in New York, Zurich and Hong Kong for White Weld & Co., an investment bank historically managed by Boston Brahmins until its sale to Merrill Lynch in 1978.
From 1978 to 1990, Faber served as managing director of Drexel Burnham Lambert (HK), setting up his own investment advisory and fund management firm, Marc Faber Ltd. in mid-1990. His widely read monthly investment newsletter, Gloom Boom & Doom Report, highlights unusual investment opportunities.
Faber is also the author of several books, including Tomorrow's Gold: Asia's Age of Discovery (2002), which spent several weeks on Amazon's best-seller list and is being translated into Japanese, Chinese, Korean, Thai and German. He also contributes regularly to leading financial publications around the world.
Much also has been written about Faber. Nury Vittachi, one of Asia's most popular writers and speakers, published Riding the Millennial Storm: Marc Faber's Path to Profit in the Financial Markets (1998). The Financial Times of London described him as "something of an icon" and Fortune called him a "congenital contrarian and shrewd Swiss investment advisor."
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