Thursday, July 10, 2008

So what do we go long, and what does Abu Dhabi buying the Chrysler building tell us?

Okay, so not everyone wants to short stocks, as I lightly suggested we do in yesterday's post. What should you do if you want to go long? I personally wouldn't spend much time on the long side of this economy, but if you must, buy anything that will skyrocket along with inflation. As my brilliant friend Nemo points out, we can expect to see central banks start turning on the printing presses. It's an unfortunate side effect of borrowing so much money from other countries, that you come to the conclusion that it is just easier to steal from them than it is to pay them back properly.

Or to put it more politely, let's defer to my hero Warren Buffett. Mr. Buffett, who is once again the richest man in the entire world, wrote a brilliant article for Fortune many years ago entitled
Squanderville versus Thriftville.

Buffett was essentially warning us about the consequences of large trade deficits, which like every other deficit we hold under a supply-sider presidential administration is now record high. The part relevant to this post is here:

Let's think of it in terms of a family: Imagine that I, Warren Buffett, can get the suppliers of all that I consume in my lifetime to take Buffett family IOUs that are payable, in goods and services and with interest added, by my descendants. This scenario may be viewed as effecting an even trade between the Buffett family unit and its creditors. But the generations of Buffetts following me are not likely to applaud the deal (and, heaven forbid, may even attempt to welsh on it).

Think again about those islands: Sooner or later the Squanderville government, facing ever greater payments to service debt, would decide to embrace highly inflationary policies -- that is, issue more Squanderbucks to dilute the value of each. After all, the government would reason, those irritating Squanderbonds are simply claims on specific numbers of Squanderbucks, not on bucks of specific value. In short, making Squanderbucks less valuable would ease the island's fiscal pain.

That prospect is why I, were I a resident of Thriftville, would opt for direct ownership of Squanderville land rather than bonds of the island's government. Most governments find it much harder morally to seize foreign-owned property than they do to dilute the purchasing power of claim checks foreigners hold. Theft by stealth is preferred to theft by force.

So what Mr. Buffett is saying (in more diplomatic terms) is that we've borrowed so much money that we won't feel like paying it back. Therefore, on come the printing presses. The same can be said of many smaller countries that have borrowed a lot of money. Therefore, readers interested in protecting their wealth, if they aren't wanting to short financials, need to invest in places where they are heavily protected against inflation. For the average American, this comes from their own earnings power. In other words, you need to hold a job, because your paycheck can increase with inflaiton. For those folks who no longer work and who have invested long in assets that do not adjust well with inflation, they are in a heap of trouble. I would close out inflation-prone assets and/or go short financials.

The only long position I see right now that I personally like is Marvel Entertainment (MVL) which is currently at $30. I've spoken to friends and family about this stock many times. The quarterly report is going to be damn good, and the stock will do well for itself over the next few months. But the real money is in the shorts.

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