Keynes is quoted as saying that markets can stay irrational longer than you can stay solvent.  This is probably one of the better things that Keynes said.  Austrian economics can teach us a lot, but it can’t really teach us how to time our investments very well.

That is one of the reasons that I am an advocate of the permanent portfolio (as described by Harry Browne in his book Fail Safe Investing) even for advanced investors and investors that understand Austrian economics.

Many libertarians will criticize the permanent portfolio for investing 25% in bonds.  They say interest rates will go up and bonds will be a loser.  These people will be right one day.  The problem is, when?  There were libertarians predicting higher interest rates 5 or more years ago.  Bonds have been a great investment over the last 5 years, especially compared to stocks.

I don’t disagree that interest rates will eventually rise and that bonds will fall.  The problem is that I have no idea when this will happen.  Most people are not rich enough to continue to bet against bonds.  And even if you just avoid them, then where will you put all of your money?  Stocks have been horrible.  Gold has done very well, but even gold could take a major hit if the economy goes into free fall again.

The most difficult thing about investing (for those that aren’t Keynesians and understand some free market economics) is the timing.  That is why I think everyone should put at least half of their money into a setup like the permanent portfolio.  Use the rest of your money for speculation if that is what you want to do.  And just remember that markets often seem irrational and the market doesn’t care about your reasoning or about your solvency.

This blog doesn’t address geo-political events that often, but it is important.  Not only is it important for the world we live in, but it can also affect our investments.  This article today claims that Pakistan has blocked a vital supply route for NATO troops fighting in Afghanistan.

Don’t be surprised to hear more stories like this.  The “operation” in Afghanistan is not going well and it will likely get worse.  It is hard to say how the Obama administration will react, but another “surge” would not be out of the question.  This in turn will only make the deficit worse and make money creation (sorry, quantitative easing) worse.

The U.S. empire continues to expand.  Afghanistan helped lead to the death of the Soviet Union and it will help lead to the death of the U.S. government.  The U.S. government is in over 140 countries throughout the world and fighting two wars (sorry Obama, Iraq is not done yet).  The deficit is running around 1.5 trillion dollars.  More than one-third of the money spent by the federal government is borrowed or created out of thin air.  We are probably already past the point of no return.

This doesn’t mean that America won’t exist.  It doesn’t mean that our culture will vanish.  It means that the U.S. government is bankrupt and will default on its promises.  There will be some tough times ahead for the American people, but a restoration of free markets would allow Americans to snap back quickly.  We should hope that more freedom and less government is right around the corner.

The occupations and wars will end eventually.  They will end through bankruptcy.

Gold has been holding above $1,300 per ounce for the last couple of days.  This is a new nominal high.  It continues to be a tug-of-war between the gold market and the bond market.  Interest rates remain low, which means bonds remain strong.

The bond market may see trouble ahead, but it isn’t inflation trouble.  The gold market also sees trouble ahead, but it sees more inflation and weakness of the dollar.  One of them will win out eventually.

Bonds could easily win out in the short-term.  If there is another stock market crash and another panic, people may flock to “safety”, which to many means bonds.  The reason “safety” is put in quotation marks is because bonds are not necessarily safe, especially with the threat of higher inflation and higher interest rates.

Ultimately, the gold market will win out.  The federal government is so far in the hole, that it is likely to default.  Whether it defaults outright by repudiating the debt (unlikely in the near term) or it defaults by creating money out of thin air (more likely), it will not be good for the bond market in the long-term.  While there are no guarantees, gold is a better long-term bet.

Should you invest in foreign currencies?  I’m not against investing in foreign currencies for speculation.  At the same time, there are better plays to hedge against the U.S. dollar.

If you live in the U.S. and work in the U.S. and your income is in U.S. dollars, then it is important to diversify yourself out of U.S. dollars.  But remember that your debts are also in U.S. dollars.  If you have a fixed rate mortgage, then you don’t really have to worry about inflation as far as that goes.  You do have to worry about your investments and your general cost of living.

While investing in foreign currencies may provide a hedge against a falling dollar, it is still a speculation.  All of the major currencies used on this planet are fiat currencies.  They are not backed by gold, silver, or anything else other than the taxing and printing power of the governments.  You could invest in Japanese yen or the euro to diversify out of the U.S. dollar.  It might work, but they might also go into free fall together.

That is why gold is still the best investment to hedge against the U.S. dollar.  You don’t have to worry about someone printing gold.  The only way there will be additional gold is by the hard work of mining.  Even then it is unlikely that there would be an explosion in the supply of gold.

If you want to speculate in the euro, yen, yuan, New Zealand dollar, or any other currency, then go for it.  Just remember that, just like the U.S. dollar, it is a fiat currency.

It is a good idea to have gold and gold related investments as part of your portfolio at all times.  It is even more important in our current times.  You should have a certain holding as a disaster hedge.

It is another thing to speculate with gold.  This would be buying gold at, say, $1,100 an ounce and selling it a month later for $1,200 an ounce.  Your short-term profit is $100 an ounce (excluding any transaction fees and taxes) in terms of dollars.

There was an article posted on LewRockwell.com today that talks about the short-term surges in gold prices and how they can range from 13% to 35%.  If we are currently in one of these surges, gold may go to $1,400 an ounce, easily, in the next few months.  It makes for an interesting speculation.  I am not bold enough to predict this outcome as it is impossible to do so.  But it does make sense that if you are adding gold holdings to your portfolio, to buy on dips.

However, if you don’t have any gold exposure or even very little, you shouldn’t wait to buy.  It is hard to time prices and you need your core position immediately.  The price could take off tomorrow and never go below $1,300 an ounce ever again.  Again, I’m not saying this is likely, but it is possible.

Like defense stocks, it is not a bad idea to have a small portion of oil and other energy stocks in your portfolio.  Five percent is not a bad number.  Energy stocks tend to be volatile.  They can be more volatile than the price of oil.  If the economy goes into free fall again, oil stocks may take a hit.  That’s why you should limit yourself to five percent.

Oil stocks provide a good hedge against a few things.  Most people use gasoline, so it is a good hedge against the price of gas.  The two things don’t move exactly the same, but there is certainly a strong correlation.  Oil and other energy stocks are also a good hedge against inflation in general.  Since oil is a commodity, it is likely to go significantly higher with high inflation.

The possibility of war with Iran has seemed to diminish, but it is another reason to hold oil stocks.  If there is war, Iran could retaliate by trying to stop the passage of oil through nearby waters.  This would be devastating for the whole world economy.  You could see oil go to $500 a barrel easily.  Hopefully Obama has his hands full enough and will not start anything there.

It is hard to pick stocks because any individual stock could go down even if oil goes up.  Look at energy mutual funds like Fidelity’s energy fund (symbol: FSESX).  Again, keep your exposure fairly low due to the possibility of another crash in the stock market.

Those who study Austrian economics and understand the business cycle that is caused by government/ central bank tampering, often have reason to be negative.  But we often forget that for as bad as the government is, the free market is a great force for good.  Even with huge government intervention, the market still often finds a way around things.

An article on LewRockwell.com today, by Dom Armentano, points out that not everything is gloom and doom.  This is important to remember.  While I think we have a lot of problems and that the economy may get worse before it gets better, it is probably not the end of the world.  There is a huge growth in the liberty movement due to the internet and these forces will eventually have an influence in weakening the government.

While you should certainly make some preparations, financially and otherwise, for things getting worse, it doesn’t mean that things won’t ever get better.  For all we know, a drastic reduction in government at all levels and a return to liberty and free markets might be right around the corner.  If we ever had the economic freedom of 19th century America with today’s technology, it is mind boggling to think of what could be achieved.  Our standard of living would go through the roof and everybody would be living like kings.

While we should be realistic, there is also good reason to be optimistic.

Should defense stocks be part of your investment portfolio?  My short answer is, yes, but only a very small portion.

Defense stocks have done ok in the last decade.  They have done better than the broad market.  We would have expected them to do even better considering the fact that there have been 2 major wars.

The stock market is still on very shaky ground.  The economy is trying to deleverage, but the government is trying to prop things up with stimulus packages and fiat money.  It is a tug of war.  The overall stock market is very risky right now if you are not diversified outside of the stock market.  Any one individual stock is highly risky at any time.  Therefore, if you invest in defense stocks, it would be best to diversify.  Fidelity has a nice mutual fund that you can invest in (symbol: FSDAX).

I wouldn’t put more than 2 or 3% of your entire portfolio in defense stocks.  They are just too risky.  The defense stocks may benefit from more war, but even that is questionable.

Some libertarians will question whether it is ethical to buy defense stocks because the companies are profiting off of war.  While that is an individual decision, my opinion is that buying some company stock isn’t going to affect whether or not a war will be fought.  As long as you aren’t cheering for more war because you are looking for bigger profits, then I don’t see a problem.  If it was a problem, then you also wouldn’t be able to buy U.S. government bonds and a whole host of other investments.

Houses are a consumer good.  People don’t see a house as being a consumable item, but it is.  It may be a necessity, but the reason most people buy a house is because they need a place for shelter.  It was during the housing boom that people really started viewing houses as investments, although that mentality did exist before then.

Houses are not quite like cars.  Cars die on us eventually and it is usually in less than 20 years.  Houses last much longer, but even most houses eventually die unless they are completely renovated.

The only reason that houses go up in value (not counting the last 4 years) is because of inflation.  It is because the money we use is a fiat currency and the central bank has a habit of inflating the money supply.  This is really the only reason that housing prices go up over time.  In a world of sound money, house prices would probably gently fall over a long period of time.  This is not a bad thing.  Houses would be more affordable.  You could still invest in houses as a business, but your profit would not come from capital gains (housing prices going up).  Your profit would come from the cash flow, if well managed.

There is a lot of discussion on what housing will do next.  Is the bottom here?  Will prices drop another 20% before recovering?  While these discussions are relevant, you should really buy a house because it is something that makes sense for you.  You need a place to live in.  Buying a big, fancy house isn’t a good investment, but it might be what you need and what you can afford.  You should buy based on your own circumstances and what you need.

It does baffle my mind that a bank will lend you money for 30 years at a rate around 4 to 4.5% these days.  While I don’t like inflation, it is probably inevitable.  If you take out a 30 year fixed-rate mortgage today that you can afford, your last payment 30 years from now will probably be the cost of a nice lunch.

This article today on LewRockwell.com gives some good arguments on buying silver.  The first good news about this piece is that he did not constantly talk about how there is a supply shortage of silver and that it won’t be able to keep up with increasing demand.  Those arguments have been going for decades and they are useless.

This article talks about the gold to silver ratio.  The author says that the ratio is unusually high and that it has been typically much lower in the past.  This is an interesting statistic to look at and keep an eye on, but at the same time, past results don’t necessarily indicate future trends.

Silver is the poor man’s gold.  There is nothing wrong with buying silver.  It is easier to buy a silver coin every week than buy a gold coin every week unless you happen to be wealthy.  With stocks and ETFs, it makes no difference.

Personally, I prefer gold to silver because gold is perceived to have monetary characteristics more so than silver.  Gold is also much less volatile.  Of course, if we have a bull market in metals, silver could easily outperform gold by huge percentages.

I recommend that you have both, but you should have far more gold and gold related investments.  If you have 20% of your portfolio in gold, then 5% of your portfolio in silver would be good.  In other words, I recommend you have about an 80/20 split in favor of gold.  If the metals go down, you won’t take as big of a hit with gold.  If they go up, at least you will have a small portion in silver to benefit from the huge gains.