CPA Gone Mad Issue 17: October 8, 2019
Understanding the Contradiction is Key
It’s the first day of the annual Legacy Research Group conference at the Hyatt Park Aviara in Carlsbad, California. The first presenter is renowned cryptocurrency expert Teeka Tiwari. Following Teeka is what first motivated me to invest in Bitcoin and Ethereum back in 2016.
For those who don’t know, Legacy Research Group includes under its umbrella several independent financial research newsletters founded by Doug Casey and Bill Bonner. Two strong proponents of the opinion that a market crash is on the horizon and owning gold is the key to surviving what’s about to hit us all.
Teeka walks on stage and begins talking about the inverted yield curve that occurred in August. The inverted yield curve is when the interest rate on two-year bonds is higher than it is on ten-year bonds.
It’s abnormal because it should cost more to borrow money for a longer time. Since you have a longer time to be paid back, you’re taking more risk and should be paid more for that risk.
If you pay attention to any financial news, you’ve heard everyone saying that an inverted yield curve means a recession is coming.
Per Stansberry Research, “It’s true, going back 60 years, this inversion has predicted every recession … and the stock market peaks in 1980, 1989, 2000, and 2007.”
My expectation is that Teeka is about to tell everyone that, because of the yield curve inversion, they need to own gold and bitcoin (which I refer to as digital gold).
The Stock Market Is Going UP
Imagine my surprise when the words bitcoin, cryptocurrency, and gold do not come out of Teeka’s mouth.
Instead, Teeka goes on to explain that productivity gains are creating a deflationary boom, which will result in an extended yield curve inversion. And we need to be invested in key innovative platform stocks (e.g., DNA sequencing, blockchain, energy storage, artificial intelligence, robotics)!
I was stunned. But this is the exact reason I enjoy going to these conferences. And reading the different financial newsletters I subscribe to.
I enjoy hearing differing views that are supported by research and facts. Then using my skill set to connect them and determine the best investment approach for me (and folks like me).
Teeka is suggesting that transformational technology is creating higher profits while lowering consumer costs. This leads to massive economic growth with very low inflation. Profits up and costs down create a deflationary boom, which can lead to an extended yield curve inversion. Without a market crash.
Teeka is extremely smart, and I agree with almost everything in his presentation. But I’m not sharing this story to tell you to go buy stocks immediately.
I’ll get to that in a little while.
The US Is the Best of the Worst
Because one of the next presenters walks out and shares a counterargument for why the ten-year bond interest rate is so low, causing the inverted yield curve.
Foreign economies are doing much worse than the US economy. This moves capital to the US and drives down the US ten-year bond yield. This makes sense if you understand that Germany and Japan are issuing negative-interest rate bonds.
Since we have a global economy, if you live in Germany or Japan, why would you buy a bond that yields negative interest when you can buy a bond in the US that yields some interest?
This nuance did not exist in the past and could be a cause of the inverted yield curve.
Also, quantitative easing, which is essentially printing money to buy more bonds, creates “counterfeit” money that is driving these interest rates further down. More money available to buy bonds creates lower interest rates.
The Market Is Going Both UP and DOWN
What do these opposing views mean for your portfolio?
Per Stansberry Research, “Now that the yield curve has inverted, history says we should expect big gains over the next six to 18 months. … The last three times the yield curve inverted, the market didn’t peak until 18 months later … each time. And stocks gained 21% on average.”
My interpretation of all this is that we don’t have euphoria in the markets yet. So we could see stocks rise in the short term while we still have a big crash looming in the intermediate term.
In other words, not every Joe Smith on the street is talking about how much money he’s making in stocks. And people aren’t quitting their day jobs to become day traders.
Thus, the market is going to crash, but not yet. Both views from these speakers could be correct even though they may sound contradictory.
How long will the market continue to go up? I don’t know.
But when I wrote my book in 2016, I suggested the crash was coming in three to seven years. I still believe in this time frame, which means in the next four years we’ll have a crash.
I firmly believe President Trump’s main path to reelection is keeping the stock market booming.
The two biggest headwinds to the stock market have been trade wars and the Fed beginning to raise interest rates.
Well, the Fed has since reversed course and started lowering interest rates (under pressure from the president), a tailwind for the stock market. And during the last Fed meeting, they suggested that expanding the balance sheet, a huge tailwind for the stock market, could begin soon.
Regarding trade, Anthony Scaramucci, briefly White House director of communications under Trump, was another speaker at the conference.
“The Mooch,” as he is called, suggested that he believes a trade deal will get done. That the Chinese want Trump to be reelected because he is shaking up historical global relations in the swamp, which the Chinese like.
Imagine if the Fed continues to lower interest rates and expand the balance sheet, causing the market to slowly grind higher through the end of 2019.
Then in 2020, when the election is heating up, Trump and the Chinese ink a trade deal. Removing all uncertainty over trade wars and tariffs, causing the market to shoot higher.
This, in my opinion, will lead to an easy Trump reelection. And could lead to the market euphoria that typically occurs before a crash.
The election is in November 2020 and the next term begins in January 2021.
Eighteen months after the August 2019 yield curve inversion — remember, per Stansberry Research, “The last three times the yield curve inverted, the market didn’t peak until 18 months later”) — would put us around February 2021.
That’s after what I predict will be Trump’s reelection and the start of his next term.
Remember, I’m not a Trump supporter, a Republican, or a Democrat. I’m more of a politician hater than anything else. So I’m not providing a political slant; I’m just calling things as I see them.
To summarize, while I believe a market crash could begin at any time and will happen before 2023, 2021 is the year I’m narrowing in on for the crash.
If during late 2020 and early 2021 you start hearing your friends, neighbors, and colleagues who usually don’t talk about investing suggest how much money they are making in the market or how they are becoming day traders, the top is here.
What Does This Mean You Should Do With Your Money?
Should you go invest heavily in stocks, since I just suggested the market is going to rise from now until early 2021, and potentially rise 20% higher?
Absolutely not!
Because there is no way you will sell directly at the top.
Another speaker came on stage and said something to the effect of the following:
“Can you afford a 50% drop in your portfolio and have enough time to HOPE you recover that loss, plus more, by the time you need the funds? If not, missing out on the next 15% to 20% upside in the stock market is okay, and trying to catch it is not worth the risk.”
This speaker made this statement because he suggested the Fed in effect has sedated investors since 2009. And that could lead to a market top without a euphoric blowup.
Again, what does this mean? Should you sell all your stocks?
No.
It means you should start trimming the stocks (or exchange-traded funds and index funds) that have big gains and don’t have good fundamentals (i.e., are trading at historically high multiples, aren’t making profits, have declining free cash flow, etc.).
Only maintain positions in the transformational technologies or companies that will continue to pay (and potentially raise) dividends forever. Keep only stocks you don’t want to sell even if they drop 40%.
Start trimming your stock position and raising cash now. Because you will not be disciplined enough to do it at the top.
What do you do with the cash you generate from beginning to trim your stock portfolio? (If you’ve read my book, this will be no surprise.)
Hold cash for opportunities to buy stocks, bonds, and rental real estate after the crash.
And own gold, as it’s going to rise from now and through the crash.
As you recall, gold is a commodity and is in the upswing of a commodity cycle. But people don’t own it yet.
Another speaker at the conference shared that only one-third to one-half of 1% of savings/investments are currently in precious metals.
Historically, the mean is 2% of investments, and the previous high was 8%. As people shift to the mean, yet alone the previous high, it’s going to drive gold much higher.
During lunch the first day of the conference, I was sitting next to one of the editors of a newsletter published by the Legacy Research Group.
He asked me what I’m invested in. I told him I have some value stocks, some cryptocurrencies, and some cannabis stocks, but the largest portion of my portfolio is in gold.
His response was “Great. What kind of gold stocks?”
I told him bullion funds, miners, royalty companies, and some speculative junior miners.
He told me royalty companies are the best way to play the coming boom. (See below for an explanation of royalty companies.)
We then engaged in a conversation about where gold is going.
I told him I started investing in gold before, through, and out of the bottom that occurred in late 2015-early 2016. And when gold hit $1,400 an ounce in the middle of 2016, I took some profits on the gold-mining stocks.
He asked me whether I remember what was going on in the financial news when gold hit $1,400 an ounce back in 2016. I said, “Absolutely. All they were talking about on CNBC was gold going higher and higher.”
He said, “Exactly. It was a speculative boom.”
He then asked me how much gold is today and I told him it’s a little over $1,500 an ounce.
His response was, “Correct. It’s higher than it was in 2016. How much do you hear on CNBC about gold right now?”
I responded, “Very little.”
“Exactly,” he said. “This is not a speculative boom. This is the real deal in the gold market. Gold’s previous all-time high was $1,900 an ounce, and we’re going to blow through that next year and hit $2,500 an ounce before anyone realizes what’s going on.”
I said, “That makes sense to me. Because typically you see gold and the stock market going in opposite directions. But this year, gold has been slowly grinding higher on market down days, which is typical, [but] also on market up days, which is not normal.”
He finished the conversation by saying, “Once gold is hitting $2,500 an ounce and people wake up and realize they should buy gold, it’s too late. You need to be in gold now. And royalty companies are the best way to invest.”
How to Invest in Gold
As I mention in my book, I recommend at least a 10% allocation to gold. I encourage 20%. And if you are over 20 years away from retirement, as I mention in my asset allocation guide, “Let the Allocation Build,” you can over-allocate in cheap assets. And as they become expensive, reallocate out of them into whatever’s cheap at that time.
Since gold is cheap and I believe it’s going to rise and become expensive, you can over-allocate into gold right now.
Determine how much you’re going to allocate to gold and put the largest allocation into a physical bullion fund, like CEF. This fund holds approximately 63% gold and 37% silver. It’s a fund backed by physical bullion held in a vault in Canada. I’m invested in this fund personally.
Remember, gold is taxed at your ordinary income tax rate, up to 28%, as opposed to the long-term capital gains tax rate of 15%. This is because it’s considered a collectible.
This includes bullion funds, like CEF and the big ETF GLD.
If you buy the funds in a retirement account, you don’t have to worry about these tax implications. However, if you buy the funds in a non-retirement brokerage account, these tax implications are something you need to think about.
There are ways around it, as I mention in my report “Demystifying Tax Strategies,” but you will need to file Form 8916 in the year you take the position, every subsequent year you hold the position, and take the passive foreign investment company election.
If this is how you are buying gold, I suggest you download my report and provide it to your tax accountant immediately so he or she can be prepared. I’m a CPA but don’t do taxes on a regular basis and can’t provide individual tax or investment advice, as I don’t know your personal situation. However, I’ve done the research and had my tax CPA (a college friend who previously worked at a Big Four accounting firm and now has his own practice) review the conclusions in the repot so you can use it as a guide with your personal accountant and investment advisor.
Once you determine the amount of gold you’re going to allocate in your portfolio, I recommend 50% to 70% in the bullion fund. I like CEF because it also includes silver, which should rise with gold — and potentially faster.
At the time of writing, CEF contains 63% gold bullion and 37% silver bullion and is trading at a 3% discount to its net asset value (NAV). You can check this any time by going to centralfund.com and clicking on the Net Asset Value tab.
CEF is a closed-end fund, which means it’s issued a fixed number of shares and does not create new shares to meet demand. In other words, based on demand, closed-end funds can trade at premiums or discounts to their NAV.
NAV is essentially what you would get if you liquidated the assets (in this case, the gold and silver bullion) at the current price. You should always check and make sure the fund is trading at a discount. When gold is not being talked about or in a huge speculative boom, like now, the fund usually trades at a discount.
But when gold starts shooting higher and everyone starts buying like I expect in the next couple of years, the fund could begin to trade at a premium when demand soars.
Royalty/Streaming Companies, Gold, and Junior Miners
Next, you should invest in some royalty or streaming companies. What are they?
They are companies that own a percentage of all revenue or bullion coming out of a mine without taking on all the risks of mining (i.e., they do not incur the capital costs of performing the actual mining).
Royalty companies earn a percentage of all revenue a mining company earns from mining. Streaming companies earn a percentage of all metal (e.g., gold) a mining company produces from a mine.
I’m not in the business of providing individual company analysis, as I pay other research advisories to do this for me. And that’s how I determine the individual companies I’m investing in. If you’re going to invest in these types of companies, I recommend purchasing a solid investment advisory from Stansberry Research or Casey Research to find specific investments.
I recommend putting 10% to 30% of your portfolio into these companies.
Next, you should buy the best mining companies. I own individual stocks; and again, you can obtain specific recommendations from good advisories such as Stansberry Research or Casey Research. But you can also buy SGDM (I am invested a little in this fund), which is a mining fund that owns the best mining companies.
Put the rest of your gold allocation (except for 1% to 3%) into these solid mining companies.
For the remaining 1% to 3%, you can speculate on junior miners. These companies may not have any actual gold, so they could go to zero. That’s why you put a very small percentage in these types of companies. And you buy a basket of different stocks.
SGDJ is my favorite basket of these junior miners (I am invested a little in this fund, too). As gold goes much higher, these companies have the highest upside potential.
There you go. That’s how you invest in gold to protect yourself from the coming crash. And you can create large gains even if the rest of your portfolio of stocks drops!
Just like with bitcoin, look for days gold is pulling back and begin establishing your positions.
Up next for me is the Stansberry Research annual conference at the Aria in Las Vegas.
To Your Health, Wealth, and Personal Freedom.
Chad A. Walker, CPA, MBA