Preparing for Fallout (from U.S. debt)

We continue to expect the U.S. dollar to weaken and long-rates to skyrocket (as the virtual U.S. sovereign default becomes clearer) once the current flight to "quality"/liquidity dissipates. That could happen as investors begin to see a light at the end of the current deep recession, and shift money out of treasuries. Tremendous additional U.S. and global stimulus packages could start this process.

We may invest in this trend by buying gold (such as ETF: DGL) and the Rydex Inverse Government Long Bond fund (RYJUX), which rises as long-dated U.S. treasuries decline.

There are strong counter-arguments, one of which which goes like this: Non-U.S. economies such as China are slowing down even faster than the U.S. economy, with the hope for recovery even further away than for the U.S. If indeed this is the case, then the U.S. dollar will probably not crater versus foreign currencies, and U.S. rates would not rise sharply in a predictable time frame. Another counter-argument to the long-gold & short treasuries idea is that global economic weakness will continue to overwhelm policy stimulus for a long time, which could result in heavy losses for our trading strategy before seeing any gains.

Considerations like these make us rather frozen with U.S. equities in our long-term accounts, and cash holdings for our 0-5 year horizon. We'll argue this is prudence, and say that we'll commit to non-cash investments once a trend becomes clearer.