Forget the Debt Crisis, Start Buying These Now

Posted by Wealth Wire - Tuesday, August 9th, 2011

The downgrade of U.S. debt over the weekend is nothing more than a distraction.

Standard & Poor’s, one of the Big Three ratings agencies, is rarely ahead of the curve.

Ratings agencies have earned abysmal track records in recent years. They missed the housing bubble. Up until a few months ago, they had Irish debt as “investment grade.” To go back even farther, they didn’t cut Enron’s debt to “junk” status until a few weeks before the largest accounting fraud in history went bankrupt...

On top of that, the ratings agencies are quite liberal with their top ratings.

The chart below from the Financial Times shows how the more debt that has been issued, the greater share of debt gets rated AAA:


It’s the equivalent of your credit score going up the more you borrow. In other words, it's complete nonsense.

As a result of all this, the ratings agencies have no credibility. They’re only still in existence because of government protection.

So a downgrade from AAA to AA+ from the S&P really isn’t much to get worried about in the short term. But the herd will do what it does regardless of the facts. And the only thing you and I can do is bide our time, wait for the overreaction to pass, and get ready to take the opposite side of their trade.

There is, however, something to get extremely worried about right now. And the crisis-hopping media, ongoing political theater, and other events are merely a distraction from it.

This emerging trend is so large and going to last so long, you will get caught up in it. In fact, you are already in it.

As a result of it, fortunes will be made and lost. The majority of assets will be transferred from the many to the few.

The only question is Which side do you want to be on?

Read on to see how it’s all going to play out — and what you need to do about it right now.

It Can Be Just That Simple

The current financial scene is actually really simple... much simpler than most want to (or are capable of) making it out to be.

If you’ve spent some time with the history books, you’ll be well-versed on a single concept that will dominate the financial world for the next few years, probably even longer...

You see, we’ve entered an era of financial repression.

The concept has only recently started gaining attention. And it should. It will be the dominant theme driving markets, the economy, and your financial future.

It’s a simple concept, really. But it’s absolutely critical to understand what it is doing and will continue to do to your financial well being.

As defined by Harvard Professor Kenneth Rogoff:

Financial repression includes directed lending to government by captive domestic audiences (such as pension funds), explicit or implicit caps on interest rates, regulation of cross-border capital movements, and (generally) a tighter connection between government and banks.

It’s not new. The world has been through it many times before. The United States alone has undergone lengthy periods of financial oppression every time the government ran up a massive amount of debt.

It happened after the Civil War, WWI, and WWII. After all those massive run-ups of debt, inflation surged to above 50% per year, economics went into sharp recessions, and a few emerged from it all with massive fortunes.

Here’s how it works...

The dominant and most destructive trend behind all financial repressions is negative real interest rates. Official inflation could be 18% like the late 1970s, or just one or two percent like it is today. As long as interest rates are below the rate of inflation, the real (after inflation) rate is negative.

The impact of negative real rates is massive. Negative real rates lead to flat or declining real GDP growth. They’ll lead to steady — potentially very high — inflation. They’ll make returns on income-producing assets fall to near zero.

Negative real interest rates are the foundation of financial repression. The initial stages of it are here, the rest are coming, and it’s going to get worse.

But that’s not necessarily bad for stocks, bonds, gold, or other financial assets...

From the Many to the Few

The critical part of financial repression is you have to understand where it ends. Historically, the end result has always been a transfer of ownership of assets from the many to the few.

The many will be wiped out; years of poor economic growth, inflation, and limited investment opportunities will destroy savings and nest eggs.

The few will be exceptionally wealthy. I fully intend to be one of the few — and hope you do, too. This is how we can do it...

Best Buys in Era of Financial Repression

This era of financial repression will not be much different from the many of the past. Negative real interest rates will have a massive impact on the world economy and your portfolio.

But there are many ways to safely protect and grow your wealth through it all.

The table below shows the performance of many asset classes during the last period of negative real interest rates.

negative real asset chart

You’ll see many of the quickly-gaining-popularity stalwarts are there. Gold, silver, farmland, and timberland are some of the hottest investments in the world right now. And it’s all because of negative real interest rates.

There are, however, some that are still lagging. And those are the ones to buy more aggressively now.

When “Safe” is Risky and “Risky” is Safe

Take Venture Capital (VC), specifically.

I know what you’re thinking... Businesses are going under everywhere. Circuit City, Borders, Blockbuster, and dozens of others have gone belly-up.

That’s what most investors are thinking. And it’s why most of them are looking for safety, regardless of how risky “safe” has become.

This is a period where people are looking for safety. No one really knows what’s going on. They’re confused. They want safety (at least perceived safety), and they’re willing to pay a high price for it.

Why else do U.S. Treasuries yield 2% over 10 years and most savings accounts pay less than 1%?

A few investors, on the other hand, see the real opportunities...

VC is the riskiest investment you can make. Most VC opportunities are money pits. Most of them fail miserably and take investors’ money down with them. The small few that do pay off, pay off big.

Times like now — when most investors want “safety” of getting their investments inflated away and essentially guaranteeing a negative return — VC opportunities are their best. Entrepreneurs and the smallest companies are running bare bones operations and developing only the best of the best business ideas.

Meanwhile, most VC funds are still buried in their past investments. The luckiest of VC funds — those which are able to attract capital in this environment — often pump new capital into their old VC investments just to support them.

The end result of all this is VC capital is far more limited now than it has been in decades. Upstarts must compete more aggressively for funding. They have to hand over a much bigger piece of the pie to VC investors. Since VC investors have a greater stake at the start, their rewards are that much bigger.

That’s why VC may seem a terrible idea at first glance. History bears out VC is no different than any other investment class. The best returns come when there are the least amount of investors doing it.

Surviving the Era of Financial Repression

At the end of the day, we’re in an era of financial repression.

So as investors, the dominant themes will be negative real interest rates, increased government involvement in the economy, reduced access to capital for businesses and consumers, slow GDP growth or worse, and a global economy that jumps from panic to panic for years — if not decades — to come.

Get prepared. Get a plan together. Mentally be ready for every type of market... The last few days are a perfect example.

If you take these simple steps now, focus on the assets that do best in an era of financial repression, and buy when they’re temporarily out of favor, you’ll definitely be in position to be one of the “few” after all this global debt mess has been defaulted and inflated away (which it will!).

The current market swings — regardless of how severe they may feel — will eventually be viewed by history as nothing more than speed bumps on the road of the long, costly, and enormously profitable road of financial repression...

*Andrew Mickey is an analyst at Wealth Daily


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