Category Archives: Money & Finance

Entrepreneur, startup, and small business financing, money management, tax, invoicing, and saving tips.

Can Gold Keep Rising?

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There has been an endless amount of chatter about the price of gold being too high (it’s not) and perhaps representing a bubble. It also seems that fair amounts of ink and windage have been wasted on worries about the gold trade being “too crowded.”

In my daily column on my own Web site, on Sept. 17, I noted a remark by Dennis Gartman of The Gartman Letter that the gold market was “terribly, egregiously, preposterously, shockingly overpopulated.”

That day, gold closed at $1,014 an ounce. Here we are, about two months later, and gold is more than 10% higher.

In a bull market, worrying about an idea being too crowded with like-minded investors is not very productive. More likely than not, it will help to eliminate you from a winning position.

At some point, when the gold market is finally reaching a top, it will, in fact, be too crowded. But we’re almost nine years into this bull market in gold, and to me it seems that there are more people of the mind that “the trade” is too crowded than there are who say it isn’t.

We’ll know gold is overcrowded when . . .

For the long-gold trade to really become too crowded, certain events will need to occur:

  • Goldman Sachs (GS, news, msgs) will have had “bus tours” to a bunch of mines, like the tours it and other companies have arranged for different industries, particularly technology.
  • The public will have to be involved in a major way, and we’ll see ads on Bubblevision encouraging people to buy gold instead of prodding them to sell their jewelry, as is the case these days.
  • Banks will need to find a way to put money into gold — because no modern mania has ever ended without the banks finding a way to lose money in it.
  • We will most likely need to see a frenzy of mergers and acquisitions, and a leveraged buyout or two.
  • Last, BusinessWeek will have to put gold on the cover, telling us how it’s the wave of the future, or some variation of that theme.

I put this list together somewhat tongue-in-cheek, but over the past couple of decades, most of these events have occurred before a big mania has ended — be it energy in the late 1970s and early ’80s, stocks in the late 1990s or real estate in the middle of this decade.

So it seems to me that what’s crowded is not the long-gold trade but more likely the camp of folks who think it’s too crowded.

Dollar cries out: ‘Et tu, Mauritius?’

At the intersection of yellow dog and greenback, it’s worth noting that the tiny island of Mauritius became the third central bank to buy gold in the past month — specifically, 2 metric tons worth $71.7 million from the International Monetary Fund (following in the footsteps of India and Sri Lanka).

I don’t know what the fourth central bank will be, but I’m pretty sure there will be one.

Meanwhile, the Buttonwood column in last week’s Economist, “Paper promises, golden hordes,” cited the small quantity of gold that actually exists: “Two hundred metric tonnes of gold” — that’s what India bought — “would occupy a cube of a little more than two metres on a side; it would fit into a small bedroom.”

(For folks who might not know, all the gold that’s ever been found would fit into two Olympic-size swimming pools!)

The column noted the psychological sea change that appears to be taking place at the central-bank level: “For bullion bulls, the implication is clear: central banks no longer trust the creditworthiness of other governments. And if they have lost confidence, private investors should do the same.”

I think that pretty much sums up how the groupthink process gets started. Of course, that idea will have cut a wide swath through all levels of asset managers (witness my scenario above) before gold finally becomes too crowded and tops out.

Gold sky at morning, bonds take warning

The corollary of folks wanting to buy gold — i.e., having no faith in dollars and other colored paper — also has implications for the bond market. It’s what I have alluded to with my shorthand nickname “the funding crisis.”

That the Buttonwood column took this up for discussion is potentially an early sign that the concept of a funding crisis may now be going mainstream (at least sophisticatedly so):

“Developed-country governments have attempted to control bond yields through quantitative easing and to support stock markets through ultra-low interest rates. But they cannot support their currencies as well without risking problems in the bond and equity markets. Gold’s surge may indicate that investors fear the next stage of the crisis will occur in the foreign-exchange markets.”

That is a succinct warning of what I believe will likely be next year’s serious problem for the xera, where weakness is no longer described as just excess volatility but a genuine cause for concern.

We’ll know that it’s time to start paying close attention to a potential funding crisis when the bond market trades lower in lock step with the dollar trading lower. That will be an indication that the foreign-exchange market is calling the tune — the implications being higher interest rates and, I would think, lower price-to-earnings ratios and, ultimately, a weaker economy.

Dollar weakness is so widespread lately that even the Icelandic króna and the Latvian lats have been rallying against it, which suggests to me that the belief in our green paper as the world’s reserve currency is being questioned seriously everywhere.

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Beware of the Tax Man

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Let’s say you own a small business. You think you’re successful. You’re a pillar of your community.

Or you’re self-employed and doing well.

Or you just can’t resist putting money into overseas investment vehicles

The folks at the Internal Revenue Service want to get to know you much better. Not because they’re mean. (Well, maybe some auditors are.)

The larger reason is that some of you underreport your income. And according to the agency’s just-released 2010 game plan, they’re coming to get ya!

There is a gap between what taxpayers should pay every April 15 and what they actually pay. It comes to about $345 billion a year, Chris Wagner, the commissioner of the IRS’ Small Business and Self-Employed Operating Division, told a recent conference.

About 44% comes from small-business underreporting, he added.

His division, which is responsible for 41 million self-employed workers and 9 million small businesses with assets of less than $10 million, is investing heavily in personnel. By the end of 2009, the division expects to have hired 4,000 more people, including 1,100 revenue agents and 1,100 revenue officers. Revenue agents investigate possible criminal violations; revenue officers conduct noncriminal investigations and collections.

The agency expects to hire at the same level in 2010. And those folks are all after your money.

Wagner reported that IRS auditors will zero in on filers of Schedule C, the prime form used by self-employed people. Auditors will concentrate on deductions for meals and entertainment, and for travel, auto use and home office expenses.

How you can defend yourself

Now, don’t panic. Don’t get mad. You’re honest, right?

Well, here’s the secret word on how to deal with the IRS: preparation. Preparation means substantiation. If you have your receipts and checks in order, you have nothing to fear. Here’s what to do:

  • Meals and entertainment. A meal or tickets to entertain clients that cost $75 or more must be backed up with a piece of paper. Any expense under $75 can be substantiated with an entry in your day planner or diary. In both cases, you need the date, the restaurant or entertainment facility name, the address, the amount paid, the person or people you were with, and the business discussion. If there’s no business relationship or connection to your expense, you get no deduction. The tax pros call it the business “nexus.”
  • Travel. Here you’ll need copies of your bills and checks to prove they were paid. You’ll also need to establish the business nexus for the expense.
  • Auto use. This is easy. The IRS wants a contemporaneous record of the business miles and the total miles you put on your vehicle. Only the business miles, or the business percentage based on total miles driven, is allowed. Many of my clients keep a pocket tape recorder to record the miles driven and their purpose. They later transcribe the tapes and record the miles. Handing the transcripts and the tapes to an auditor usually eliminates the auto use issue.
  • Home office. This also should be easy. Diagram your office and have someone take a picture of you in it holding up the local newspaper with the date as clear as possible. Better still, display a copy of The Wall Street Journal to help justify your deduction of The Journal as an investment expense.

Remember, you can be audited up to three years after you file. So a 2009 return filed on time may be audited through April 15, 2013. You may have moved in the interim. Or perhaps you decided to discontinue your home office. In either case, the picture with the date establishes that you did have an office in 2009.

Watch out for the “regular and exclusive” use rule. If you use your office as anything other than an office, you lose your home office deductions.

If you’re asked if the computer in your home office is used 50% for business and 50% for personal use, or 90% business and 10% personal, the only right answer — if you want to keep the home office deduction — is 100% for business.

I also recommend that you have a sign-up book to establish that customers or clients have come to your home office.

A problem: What you don’t tell them

In every self-employed or small-business audit I’ve had in the last three years, the IRS has gone after unreported income.

The auditor is going to ask for all your bank statements, checking, savings and investment accounts. The IRS position is that every deposit is income.

We all know that’s ridiculous; even the IRS knows it is ridiculous. Deposits can be transfers between accounts, gifts, bequests, loans, etc.

But the IRS wants you to prove that it’s not income. Otherwise, it may tax the deposit.

Personally, I keep a record of every check I deposit. I note whom it’s from, and, if it’s not income, why it isn’t. That’s a lot easier to do when I get the check than if I have to reconstruct it two years later in the middle of an audit.

About your account in Switzerland . . .

The IRS has begun aggressively tracking down taxpayers who try to hide their wealth overseas. The IRS is also going after the promoters who push these schemes. (See “The hazards of hiding money overseas.”)

If you have a financial interest or signature authority over a bank, securities or other financial account outside the United States, you may be required to report that account under the Foreign Bank Account Reporting Act, or FBAR.

FBAR reporting normally applies only to accounts with at least $10,000. But President Barack Obama’s tax plan for 2010 contains a provision that creates a rebuttable presumption that all foreign bank accounts contain $10,000 and must be reported, unless you can affirmatively show that the account has less than $10,000. Once again, the burden is being shifted to you.

The feds are looking for unreported income. Reporting the account is an invitation to be audited. But not reporting an account that should be reported is even worse.

The civil penalty for willfully or knowingly failing to file an FBAR account is up to the greater of $100,000 or 50% of the value of the account at the time of the violation. You can also be hit with criminal fines up to $500,000 or 10 years in prison, or both, for willful failure. Knowingly failing to file the form can cost you $10,000 or five years in prison, or both.

So, yes, the IRS is coming to get ya. You’ve been warned, so get prepared — now.

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Why the Fed Loves Inflation

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The Bank of Japan sent pulses racing recently by announcing that it was going to hold an unscheduled meeting to discuss monetary policy — the net result of which (surprise, surprise) was a decision to spend about $115 billion in the form of quantitative easing. That’s when a central bank actually purchases financial assets, such as bonds, to stimulate the economy by pumping money into the system.

Japan’s economic malaise is, and ought to be, a reminder of what the consequences of financial bubbles can look like.

As we pursed our twin bubbles here in the United States, in tech and real estate, I was always amazed that so few people seemed to understand that in the aftermath of a bubble that creates a disaster, it’s not bad decision making after the fact that creates the disaster. It’s the bubble, and the misallocation of capital while it is building, that creates the disaster. (More in a second about misallocation, Dubai-style.)

That is not to say that decisions made in the aftermath can’t make things worse. They can. Perversely, nearly all decisions wind up making matters worse, as governments are loath to let negative events run their course.

Not all the selling was ‘made in Dubai’

When I first saw the news of Dubai’s debt crisis, I wasn’t sure exactly what to make of it, but the 4% swoon in world equity markets seemed a bit much to me.

My oft-cited friend the “Lord of the Dark Matter” offered his view, and it’s one that I share:

“In terms of scale, the problems of Dubai will potentially be not much larger than a big municipal bankruptcy in the United States, for example, and currently (at maximum) represent roughly 10% of the overall write-downs thus far from the global financial crisis. However, this does not diminish the fact that an important part of the Gulf would appear to have a substantial dollar-cash-flow problem.”

From what I’ve been able to discern, Dubai has been an overbuilt, debt-driven accident waiting to happen for some time now, and I suspect that in the coming months we’ll see more dead and/or wounded financial bodies popping up in various facets of businesses with a connection to the United Arab Emirates.

Dubai also demonstrates the fact that financial entities continue to be black holes. Since we still know little about them — i.e., what exactly they own and how what they do own is valued — folks can easily become fearful about what might lie beneath the surface.

It doesn’t take much to conjure up the ghosts of late 2008, when the full measure of all those toxic assets surfaced. From an investment standpoint, buying financial stocks should make you ask yourself the question posed by Clint Eastwood’s Dirty Harry: “‘Do I feel lucky?’ Well, do ya, punk?”

‘Bernanke at his word’

So read the headline of a recent article by Jim Grant, in which he reprised a speech that Ben Bernanke gave in Japan on May 31, 2003, as a Federal Reserve governor, three years before becoming Fed chairman. (You can find the article here; subscription required.) The topic that day: deflation.

Posing his own question and answer, Grant writes: “And what was deflation? Falling prices, pure and simple. Bernanke did not bother to distinguish between prices that fall on account of a banking or credit crisis vs. those that fall on account of advances in productive technology or improvements in economic organization. It was all the same to him — and all bad.”

The word “deflation” brings fear to the hearts of Fed heads and many other people, whereas I’d be willing to bet that virtually all consumers worldwide would be happy to see the price of most everything fall (though, of course, people are always upset when their assets fall). In any case, “deflation” has been tortured to the point that it’s the evil that must be prevented at all costs.

As Grant notes, the speech Bernanke gave on that particular day in Tokyo was more radical than his musings had been in the U.S., at that time or since. In Grant’s words: “It isn’t enough, after prices have begun to fall, to stop the decline, the chairman said. Rather, a central bank should push prices up to where they would have been if they had never weakened in the first place.”

Reread that. It is rather shocking.

What Japan heard from our whirlybird

In Bernanke’s words: “One might argue that the legal objective of price stability should require not only a commitment to stabilize prices in the future but also a policy of actively reflating the economy, in order to restore the price level that prevailed prior to the prolonged period of deflation.” (The emphasis is mine.)

It’s absolutely mind-boggling that this is in Bernanke’s DNA. Not only are all falling prices to be prevented, but prices must be driven back up to where they used to be.

To quote Bernanke further: “Because deflation implies falling prices while the target price level rises, the failure to end deflation in a given year has the effect of increasing what I have called the price-level gap. The price-level gap is the difference between the actual price level and the price level that would have obtained if deflation had been avoided and the price stability objective achieved in the first place.”

This is the core of Bernanke’s heart and mind, and anyone who thinks that this Fed is going to lift a finger to fight inflation anytime — before the unemployment level has dropped precipitously or the economy is nearly broken — is sadly mistaken. (For more on the effects of this and how to protect yourself, read “The case for inflation — and gold.”)

This man would cheer an inflation rate of some small percentage, partly because he appears to think that’s better, no matter how it comes about, and because I’m sure he feels he can snap his fingers and stop it once it gets started. But of course he is dead wrong.

As Grant says, “‘Helicopter’ is who he is.” He’s referring to the nickname Bernanke’s critics have given him because of his propensity to fire up the printing presses and airdrop money into problems.

I might tweak that slightly and say: Helicopter’s the name, gold’s the game.

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