Is Mr. Bernanke good news for equity and bond markets? (page 1 of 2)

The growth of foreign official dollar reserves is still declining, which is negative for global economic growth, emerging stock markets, industrial commodity prices, but favorable for the US dollar.

Therefore, when it will become more obvious - even to the eternally optimistic Fed - that the US economy is slowing down, as a consequence of tighter money, bonds could rally from the current somewhat oversold position.

But make no mistake! Once Mr. Bernanke realizes that the world's most productive economy is not as sound as he believed and sees that rising interest rates depress asset markets - in particular home prices and stocks -he will print money like there was no tomorrow. Certainly, recent weak auto sales and collapsing consumer confidence indices would argue that the US economy is already far weaker than is generally perceived by the investment community.

So, at latest by the middle of next year, I would expect the Bernanke money printing press to shift into high gear. This should lead to more consumer price inflation, a weakening US dollar and tumbling bond prices. From a longer term perspective, I expect Mr. Bernanke will be the greatest disaster that has ever hit the US bond market in the 200 years of capitalistic history.

Portfolio adjustments

So, how should investors adjust their portfolios, in light of Mr. Bernanke's nomination? I am usually asked what the best investment opportunities are. Sometimes, it might be more useful to ask what the worst investment will be. I believe that the worst long term investment will be to own a 30-year US treasury bond with the view to hold it for 30 years.

Granted, long term treasuries could rally somewhat from here for the next few months for reasons explained above, but new interest rates lows are most unlikely. With Mr. Bernanke at the Fed disaster will strike sooner or later and long term bonds will plunge precipitously once the market realizes Mr. Bernanke propensity to print money and if extraordinary conditions warrant it, to drop dollar bills from a helicopter onto the US in order to keep the by Mr.Greenspan initiated irresponsible and by ultra easy money and credit policies driven asset inflation party going.

After all it was the by excessive credit growth driven asset inflation, which, since 2001, fueled the consumption related economic recovery. By shorting long term US government bonds an investor is shorting a fixed interest security that will lose value as the purchasing power of the US dollar declines, in a - due to the country's external deficits - structurally very weak currency, and in a country whose government must be regarded as a living disaster in every respect. What better short could one expect to find?

Depending on the quantity of money that the Fed will print, equities will in the long term rally, but as will be the case for home prices, decline in real terms. So, should the forecasters be right, who in 1999 predicted the Dow to rise to 36,000, 40,000 or 100,000 it is almost certain that the Dow will decline against gold. So, if we were to assume that the Dow will rise to say 36,000 thanks to the money printing press, we could also expect the gold price to rise to $3,600 or even higher.

A flat earth policy

But what about Mr. Bernanke's 'formal inflation target' as a monetary policy tool? Mr. Bernanke is the epitome of US economic thinking. He is like a navigator in the 16th century who did not believe the earth to be round. There is no such a thing as an 'inflation target' except the increase in the annual supply of money, which the Fed does control.