Cutting Through All the Pessimism

02/09/2009 11:46 am EST


Terry Savage

Author, The Savage Truth on Money

A large but subdued crowd of investors gathered in Orlando, FL for the annual World Money Show last week. When asked for their outlook, fully a third of the audience believed the market could linger around the 8,000 level for a decade, similar to the market of the 1970s, which traded around the 800 level for nearly a dozen years.

Pessimism abounded, although each investment guru could find at least one sector worthy for investment. (The recent Investors’ Sentiment survey came to different conclusions.)

The greatest debate sub-text was the theme of inflation vs. deflation. And if you can’t get those possibilities sorted out, you can’t make smart investment decisions. Even day traders are impacted by this debate, which has contributed significantly to volatility.

For investors, the resolution of this question—and the timing of that resolution—is critical. If you believe the money creation of the TARP program and other aspects of the stimulus and bailout plans will create so much new money that inflation is just down the road, you’d want to avoid bonds. 

If you fear inflation around the corner, then gold around $900 looks like a bargain, and even energy stocks could see a big rally. And you might want to remember that stocks have consistently beaten inflation—over the long run.

On the other hand, if you think that asset values are draining out of the system faster than the government can print money—and faster than the banks will push money into the economy through lending—then you’ll find that medium-term corporate and municipal bonds are very appealing. 

The Federal Reserve may have pushed short-term yields to zero. And they may next target purchases of longer-term government bonds to keep mortgage rates low. But the Fed can’t buy up ALL bonds—especially those issued by corporations. There, you can earn two or three times the return of Treasuries.

So what’s your view? Are you buying bonds at these prices? Or are you more worried about the return of inflation, which would make bonds a sure loser? And I’ll give you another choice: Do you dare take the chance of buying medium-term corporate bonds for now to get those juicy yields, believing that you can get out before inflation pushes rates higher, causing bond prices in turn to fall?

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