Foolish Finance

As headline inflation skyrockets, it's deflation in financial assets that's catching folks off guard...

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Bill Bonner, reckoning today from Youghal, Ireland...

“Oh, the stories I could tell about the big house.”

Bringing readers into the conversation, a “big house” in Ireland usually refers to one owned by the “Ascendancy” of protestant, English or Anglo-Irish landowners. When the IRA was on the rampage, these ‘big houses’ were often the targets; many were sacked, looted or burned to the ground.

Our guest on Sunday knew her subject well, having lived in one of them all her life.  

“You know, the two classes didn’t mix. It’s better now. But back then it was a kind of ‘Upstairs, Downstairs’ thing. The people who worked, who cooked, cleaned and kept the dogs and the horses… they were generally local Irish. But the owner was almost always English… or closely connected with England.

“Well… Mr. H was the owner. He was born in Ireland, but to English parents and he inherited the estate from them. He said he didn’t trust the Irish to run the house.  So he got a Scottish woman… and brought her over to head up the staff. But he didn’t check her credentials very well.  

“She was an awful thing… bossy, no sense of humor… and it turned out she had a drinking problem and had been fired from her last job. What’s more, she couldn’t do very much because she had bad hips… or bad lungs… or bad something. And she kept a drawer full of painkillers of various types in the kitchen.

“She also had a fondness for cats. She collected strays. And pretty soon the whole estate was full of cats, more or less domesticated. Mostly less…

“And she also kept some pills for de-worming the kittens in the kitchen drawer.

“Mr. H knew about the pain killers. But he didn’t know about the worming pills.  And one day, the Scottish housekeeper was sprawled over one of the chairs, dead drunk. The kitchen was a terrible wreck. He had been yelling at the downstairs girls… and drinking heavily himself. He was so upset by the state of things that he had a terrible headache. And so, he reached into the drawer to help himself to some of the painkillers.  

“Well, you can imagine what happened. He was the only man in County Cork who was certifiably worm-free. And when we heard the story, the whole downstairs staff broke out in the most jolly laughter I’ve ever heard.”

The Inflationary Deflationary Scare

Meanwhile, back in the world of finance and foolishness… everything has changed. Everything is different. It’s Mr. Market who’s calling the shots now. And he’s de-worming the economy… purging it of the mistakes of the Greenspan-Bernanke-Yellen-Powell Fed.  

And now, it’s not so much inflation that you have to worry about. It’s deflation.  

At least, that is our hypothesis. An inflationary catastrophe doesn’t develop neatly or unambiguously. If it were otherwise, you wouldn’t have to worry about a bear market or inflation. You’d just move out of stocks as soon as prices begin to fall… or into gold when the inflation rate ticks up.  

But it’s never quite so obvious what is going on. Mr. Market teases us. Confuses us. He misleads us, toying with investors and making fools of policy makers. And often, an episode of heady inflation doesn’t really get underway until prices have already undergone substantial deflation.

That is, we believe, where we are now… at the beginning of a deflationary crisis.

But this matter requires some de-construction. The feds favor inflation. They live on it. They live by it. They want it. They believe they can stimulate their economies by causing inflation. They expect to pay their expenses by inflating the money supply. And they boost their own wealth by inflating the stock market.

It is no coincidence that all major currencies have lost value since 1971. Against gold, the dollar is down 98%. The British pound has lost 99%. The German mark and its euro successor, 96%. The Canadian dollar – down 99%.

That’s no accident, either. It’s a matter of public policy. All major governments prefer to devalue their own currencies; it’s probably the only government policy that is truly successful.

The Poverty Effect

But wait. Mr. Market doesn’t just rollover and disappear. He has his own agenda. Now, he’s large and in charge. And he’s a deflation guy.

Stocks are down about 20% so far. Bond yields too (the inverse of bond prices) are running much higher than they were a year ago. Case in point—the most important yield in the word, on the 10-year Treasury bond, has doubled.

Real estate is much more local and particular. But it too shows signs of being in an early downturn, thanks to much higher mortgage rates. Homebuilders are getting hammered. And foreclosures are returning to more normal levels too. KNEWZ in Los Angeles:

A year ago, thanks to various mortgage payment forbearance programs, there was minimal foreclosure activity across America.

This May, according to ATTOM, default notices, scheduled auctions and bank repossessions encompassed 30,881 U.S. residential properties, a 185 percent increase from the same time in 2021.

This is the opposite of the wealth effect… and the opposite of what the feds want.  So far, only asset prices are falling. Mr. Market is setting things straight. He began with the most obvious targets – overpriced cryptos and techs. Now, he’ll work his way from Wall Street to Main Street… and up and down the commercial chain… from retailers, to wholesalers, to producers, to raw material providers… from investors to businesses to households… chopping down years of inflationary growth.

But the open question is this: will the Fed allow him to finish the job?  

Stay tuned...

Bill Bonner

Joel’s Note: Newspapers here in London are warning of an inflationary “Hell on the Way.” Here are a selection of Friday’s front pages, courtesy of our investment director, Tom Dyson…

"Meanwhile,” writes Tom, “all I think about is how we're going to protect ourselves from deflation and falling prices. My operating investment hypothesis is that T-bills are now paying real yields of over 5%..."

Tom's been advising BPR readers to remain in "Maximum Safety Mode" of late, helping them preserve capital during these uncertain times. Except for a select few "tactical trades," which he judiciously executes - including trades which he closed out last week for 14%, 27% and 52% gains… - he's cautioning against fighting the tide. “Priority Number 1,” says Tom, “capital preservation.” 

You can follow along with Tom's strategy and his select trades as a Bonner Private Research member, here...