Chasing Value: Bonds, Gold, Stocks and Capital Flight

Then there is the competition between the deflation crowd investing in bonds and the inflation crowd investing in gold. You can be sure that both sides are doing their best to promote their view and one of them is going to be wrong -- but it may take a few quarters.

In any event the gold bugs have a major advantage on their side, Ben Bernanke and the Federal Reserve Board. The old adage, 'don't fight the Fed' is correct more often then not, and the Fed has spoken. They are going to allow the currency to depreciate and that, even with stagflation, will push up the price of gold. If the Fed has its way they will be looking to hold down interest rates for several more quarters.

The biggest wild-card is how the Federal Reserve under Ben Bernanke will deal with capital flight increases as other countries raise their interest rates and the dollar shrinks. It is hard to combat fear (currency related) and greed (interest rate related) driving investors in the same direction -- and that is out of the United States!

If inflation takes hold, even at a modest level, it will allow the Fed to gradually raise interest rates. Rising rates will be costly to current bond holders. This in turn will cause a rotation into shorter term bonds, commodities and the stock market, most likely blue chip dividend paying stocks.

While deflation might be a concern in the near future I think there is little doubt that a high level of inflation is the prognosis for the mid-term to long term outlook. That is, unless we want to live through a national austerity program the likes of which we have never seen. Washington bureaucrats may have the desire to take action but can they muster the will, I think not.

The conservative are in cash and bonds. The more adventurous and speculative are in gold, silver and Swiss Francs. In the long run I think the latter strategy will top the former, however, there might be more volatility than they would like. Of course there are those that have hedged their bets and covered both ends of the spectrum. As interest rates rise, they inevitably will, some of the money will move back into the stock market and some may gravitate to gold. The stock market will be the bigger winner. In particular, large cap dividend paying stocks with clean balance sheets and a major global footprint.

For those that do not yet think gold has reached the mania stage, consider this. I was in a local Pub chatting with the owner over lunch when I noticed a group of a dozen people listening to a presentation from a women that had hooked-up her laptop computer to one of the big screen TV's waving her arms making her case for something. Upon inquiry I was told she was making a presentation on the virtues of investing in gold.

My immediate reaction to hearing this was amazement and I wanted to rush over to that corner of the dining room and scream "Folks wake-up!, You are in a bar at lunch listening to an infomercial on gold with a bunch of people like yourselves that know nothing about the subject -- doesn't that tell you something!"

This along with vending machines selling gold and people discussing it at the water cooler, coffee shop and parties is a flashing red light. We have reached mania stage or we are nearing it soon. That said, I would be remiss in not reminding readers that the tulip mania in Holland went on for seven years.

Returning to stocks, here are eight companies that would fit the bill as described above, if you are looking to ease your way back into the market. They offer diversification, dividends, international markets, and are among the best bets for stability in a complex and rickety economic environment.

• China Life Ins. Co Ltd. (LFC) -- China
• Diageo plc (DEO) -- United Kingdom
• General Electric (GE) -- United States
• Johnson and Johnson (JNJ) -- United States
• Novartis (NVS) -- Switzerland
• Royal Dutch Shell (RDS.A) -- The Netherlands
• Telefonica SA (TEF) -- Spain
• Teva Pharmaceuticals ADR (TEVA) -- Israel

Look for a detailed analysis of each of these in the coming weeks.

Sheldon Liber is the CEO of a small private investment company and the principal for design and research at an architecture & planning firm. He writes the columns Chasing Value™ and Serious Money. Disclosure: He currently owns shares and/or options of DEO, GE, JNJ, NVS, RDS.A and TEF.