Oil Replaces Gold as the New Inflation Hedge

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No matter how you look at it, oil will be the center of attention and I believe this will be where the hot money will stay until next year.

Since gold was first used to back the US dollar, it has been the basic hedge against inflation. As with many of my writings, you have seen that I have thought we would see increased inflationary pressures throughout 2008. I still believe this to be the case, along with the premise that the stock market will rebound sometime in the late first quarter or second quarter of next year. The agricultural and commodity stocks have been right on, but gold as of late seems to be losing steam. Many of these scenarios have ended the same, with the miners buying back all of their hedges just in time for gold to go down. This time it looks to be no different.

I believe that we have seen a change in the US economy. I know everyone believes this time is different until they see that history does indeed repeat itself. The reason for it being different is a major shift into other markets. The majority of the problems facing our economy are related to energy. Our uncontrolled use of oil has placed us into a very difficult position....

When the US imports oil, it goes against our exports. In turn, we see increased demand for oil, plus China has been filling up its strategic oil reserves. This has placed large draw downs in oil inventories, even in a slowing economy. Not only is oil more expensive due to demand, but also our weak currency makes it more expensive, while buying oil increases our trade deficit and further weakens our dollar.

Realizing this vicious circle, those wanting to hedge against inflation have turned to buying oil. There are only a couple of ways to decrease the price of oil. The first is to decrease demand. This can be done by increasing taxes, or providing stimuli or bonuses to those who use less. It can also be done by hiking rates to inflate the dollar's value. The only problem with this is one of the worst housing crisis seen since the Depression. With the inability to hike rates, the Fed is hoping our slowing economy plus additional oil from Saudi Arabia will bring the price down. To go back to decreasing demand, this can be done when oil gets to expensive and people cannot to drive as much, and this may be the only way to clear this up. No matter how you look at it, oil will be the center of attention and I believe this will be where the hot money will stay until next year.

Look for the dollar to rebound very slowly, causing a gradual decrease in the value of gold. I believe the forward trend will cause rates to be hiked as oil prices are getting high enough that we will have the inability to cut anymore, even though I believe the Fed would still like to maintain a downward bias. Being stuck at this position will increase the time it will take to come out of this hole. Look for oil to be the main focus going forward and gold to continue to slide as the dollar recovers.

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