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A second start for World Gold Council''s bullion fund

Section: Daily Dispatches

Brace for a bust as bubbles look set to burst

By Marc Faber
Financial Times
Monday, March 29, 2004

Credit has to be given to Alan Greenspan, the Federal
Reserve chairman.

He is the first head of a monetary authority who has not
only managed to create a series of bubbles in the
domestic economy but has also managed to create
bubbles elsewhere -- in the New Zealand and Australian
dollars, emerging market debts, government bonds,
commodities, emerging market equities, and capital
spending in China.

In fact, over the last 18 months U.S. monetary policies
have boosted all asset classes. This is most unusual
since it ought to be obvious that in the long run
commodities inflation and real estate inflation are
incompatible with a bond bull market.

Mr. Greenspan's monetary tribulations mark an
achievement no one else in the history of capitalism has
accomplished. It is also one investors will never forget
once this credit-driven, universal bubble bursts and it will
fill entire chapters of financial history books with economic
and financial horror stories.

We simply don't know how the end game of the current
speculative wave will be played out and when the bust will
occur but a painful resolution of the current asset inflation
and global imbalances is as certain as night follows day.

I used to believe that sometime in 2004 we would see the
beginning of diverging trends in the performance of different
asset classes, since bonds, commodities and real estate
cannot continuously rally in concert.

After all, one characteristic of a strong secular bull market
in one asset class is the simultaneous occurrence of a bear
market in another. The commodities bull market of the 1970s
was accompanied by a vicious bond bear market. The
equities and bond bull markets of the early 1980s were
accompanied by a persistent bear market in commodities
and, in the 1990s, stocks of developed Western markets
soared while Japan and emerging stock markets collapsed.

So, I was leaning towards the view that some assets would
continue to increase in value in 2004 while others, such as
bonds, would begin to fall by the wayside and enter
longer-term bear markets. After further consideration, I am
now increasingly concerned that sometime soon "everything"
could begin to unravel. When interest rates rise, it is
conceivable that bonds, stocks, commodities, and real
estate will all decline in value at the same time.

In the past I have had the tendency to dismiss the deflationist
views of some reputed economists and strategists as unlikely.
I now feel the current universal asset inflation and overheated
Chinese economy will be followed by a serious bust and
asset deflation, which will kill consumption in the United
States. The only question is when.

I'm at a loss as to when this bust will occur. But given the
overbought condition of the U.S. stock market, the extremely
high bullish consensus (indicative of market tops in the past),
the rising commodity markets, and the tendency of markets
to defeat central bankers who entertain the same erroneous
beliefs that central planners under the socialist ideology had
when they thought they could plan the best possible
economic outcomes, the bust could come sooner rather than

Moreover, we know from the experience of Japan in the late
1980s and Hong Kong in the mid-1990s that consumption
booms, driven by asset inflation, end with a colossal bust.
That can result from rising interest rates, or because
stagnating household incomes no longer support the asset
bubble as affordability diminishes, or additional supplies
coming to the market and exceeding demand.

So, given that consumption driven by asset inflation is
unsustainable in the long run and always ends badly, what
should the contrarian investor do?

The least desirable asset in the world is U.S. dollar cash.
The investment community can take everything in stride --
even a 70 percent decline in Nasdaq stocks. But interest
rates, as low as they are now, compel people to speculate
on everything from commodities, homes, and bonds to

Therefore, investors in the current speculative environment
should be extremely defensive and not be tempted by
short-term gains, which could be swiftly erased. Daily
moves of 5 percent in investment markets will become
common. Nickel recently fell 8 percent in a day, copper
by 5 percent, and the euro by 5 percent within a week.
Gold and especially silver may offer some protection but
once the current asset inflation bubble ends they could
also be in for a rough time.

Obviously, as I experienced in Asia in the 1990s, it wasn't
important to be "asset-rich" before the crisis of 1997 but
to be "cash-rich" after the crisis when financial asset
values had tumbled by 90 percent and when incredible
bargains across all asset classes were available.


Marc Faber is editor and publisher of The Gloom, Boom
& Doom Report and author of "Tomorrow's Gold."


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