Is This the Biggest Worry for 2011?

Precious metals are skyrocketing.

An ounce of gold, selling for less than $300 a decade ago, now changes hands at more than $1,400. Investors of all types are worried that the Federal Reserve is putting us on the road to currency devaluation and soaring inflation. Their response is to buy hard assets like gold and silver.

So when I asked my Market Advisor readers to send me their investing questions for my first issue of 2011, I was expecting one or two about the dollar, gold, and inflation.

But judging by the amount of questions on the topic, I might have underestimated just how antsy investors are.

Now I’ve been around long enough to know if one reader has a concern, there are dozens more wondering the same thing. So I’ve decided to reprint here what I recently wrote my readers about the future for inflation, the dollar, and hard assets.

I hope you find the answer illuminating…

I have read reports from economists about the trillions [of dollars] being printed by the American government and the possible skyrocketing inflation that could result. What do you see happening to the American dollar over the next 5 years? Should we be 100% invested in gold and precious metals?
— Peter B.

#-ad_banner-#I would stop short of sinking my entire net worth in gold and other precious metals — if for no other reason, trying to buy groceries with gold krugerrands can be tricky.

But in all seriousness, I do think that everyone should have a sizeable portion of their assets denominated in something other than shaky U.S. dollars.

In my July issue of Market Advisor I shed light on some disturbing statistics. For example, even if we froze every penny of spending and immediately began tackling the debt by $10 million per day, it would still take 5,753 years to pay the whole thing off. Of course, that’s not going to happen. The government is spending well beyond its means and sinking $163 million deeper in the hole each and every hour.

Just since that issue was published, the debt has increased by a staggering $811 billion. Not coincidentally, the fund I recommended to counter this alarming situation, Jefferies CRB Global Commodity (NYSE: CRBQ), has jumped 27% since then.

We’re currently issuing new Treasuries to pay off maturing Treasuries, essentially kicking the can down the road. But with the deficit widening, the national debt will steamroll toward $20 trillion over the next decade, at which point the interest payments alone would be almost too much to handle. And keep in mind, Uncle Sam won’t always be able to borrow money for less than 2% — rising rates will make the burden that much heavier.

The other path is to implement strict austerity measures like those Europe is now facing, which could bring economic growth to a standstill (that doesn’t exactly paint a pretty picture for equities either).

Door number three is to take the easy way out and simply deflate the debt by intentionally devaluing the dollar. So when that dollar is repaid to creditors, it won’t be worth quite what it was before. This has the added benefit of quashing any threat of deflation.

Unfortunately, it’s you and me who shoulder the burden of this silent tax. Watching a crumbling dollar only buy $0.75 worth of goods and services isn’t any better than paying a 25% upfront income tax.

Here’s a sobering thought: When the Fed was established in 1913, it took one $20 bill to buy an ounce of gold. Now, it takes about 70 $20 notes to buy the same ounce. In other words, the good old greenback is only worth 1/70 of what it used to be relative to gold.

If you’re nervous about losing purchasing power, just think of the bankers in Beijing. China holds around $2 trillion worth of dollar reserves. And they have complained loudly about destructive dollar policies.

I think the dollar will remain the world’s reserve currency, largely because there are no viable alternatives. But we’re likely to see further erosion over the next few years, particularly if central banks continue dumping their stake in favor of gold, yen and other currencies.

Action to Take –> Fortunately, there are ways to safeguard your assets and even turn a nice profit. Gold is the obvious hedge, but there are other options (whose prices are also supported by strong emerging market demand).

Instead of complaining about gas prices at the pump, buy oil producers like ConocoPhillips (NYSE: COP). Tired of paying more for milk, cereal, and bacon at the grocery store? Fight back with PowerShares Global Agriculture (Nasdaq: PAGG).

In other words, convert your dollars into hard assets.

P.S. I think inflation is a serious threat, and like I mentioned above, I see it as nothing more than a tax on your money. That’s why I call it the “Hidden Inflation Tax” — or “Hi Tax” for short. To read about what could be in store with this hidden tax, I invite you to read this memo.