The other night, watching the State of the Union address, I couldn’t help but be confounded by what I saw on the TV—a bunch of men and women, dressed like they are going to a wedding, hugging each other, smiling, laughing—and then it hits me. What are these people celebrating?

We have a Congress that each year increases the amount of debt the United States can legally borrow to new record levels. The government needs to borrow $0.40 out of every dollar it spends (The Globe and Mail, 1/26/11) and the U.S. Congressional Budget Office estimates that the U.S. government deficit will reach a record $1.5 trillion this year. What’s there to celebrate about this? I couldn’t take out my wife and celebrate if this were happening in my household.

If we take the $400 billion that President Obama says he wants cut from the budget, this will bring the annual deficit to $1.1 trillion. Let’s be generous and say we can get that deficit number down to $1.0 trillion a year. If we add a conservative average of trillion-dollar yearly deficits to the $14.0-trillion current national debt, we will be sitting on a national debt of $23.0 trillion by the end of this decade (not far off a White House report from 2010 that said our national debt will hit $20.0 trillion by 2020.)

In my calculations, I’ve left out any surprises that would increase our annual deficits. For the remainder of this decade, we will not be immune to new economic plunges, new wars or terrorist events, new natural disasters—all of which would spike the deficit should they occur. More importantly, I’ve left out increases in interest rates, which will all know will happen, pushing our deficit even higher.

Ben Bernanke et al. did the impossible: They fended off the Great Depression II. We’ll just call 2008 and 2009 the worst recession since the Great Depression. But the Federal Reserve itself has said on multiple occasions that we need to get government spending under control.

If we are optimistic and assume that U.S. Gross Domestic Product (GDP), the value of all the goods and services produced by the U.S., will rise 2.5% each year until 2020, our GDP will be $18.5 trillion in 2020—well below our national debt at that time.

My biggest question for my investor readers this morning: Under the scenario I just painted above, how can the value of the U.S. dollar not deteriorate significantly between now and the end of this decade? How can the price of gold not rise? How are you positioning yourself and how will you benefit from the possible demise of our currency?

Michael’s Personal Notes:

GDP unexpectedly fell in the United Kingdom in the quarter ended December 31, 2010—the first time in a year that the U.K. has seen a contraction in its quarterly GDP. Will it happen here in America? Of course it will.

In its effort to keep the bond vigilantes away, the U.K. (a sovereign state made up of four countries: England; Northern Ireland; Scotland; and Wales) cut spending in 2010, while it raised taxes. We would do the same here in America if foreigners stopped buying our bonds.

But, surprise; while fiscal tightening was the taste du jour in the U.K. in mid- to late-2010, inflation spiked. The official U.K. inflation rate is now 3.7%—more than double the inflation rate in America.

I don’t believe it is the U.K. inflation rate that will come down; I believe it is the inflation rate in the U.S. that will spike, closing the gap between the two. If businesspeople in America believe we are economically “out of the woods” and that we will not have a negative GDP quarterly report in 2011 or 2012, they are the ones who will be in for a surprise. See my opinion on the stock market below as it relates directly to the economy.

Where the Market Stands; Where it’s Headed:

The Dow Jones Industrial Average opens this morning up 3.5% for the year. Yesterday, the Dow Jones Industrials moved slightly above the 12,000 level and there was “Dancing in the Streets.” Financial web sites were quick to show pictures of traders celebrating as the market crossed the 12,000 level for the first time since June 2008. CNN Breaking News was even kind enough to send me an e-mail alert when the Dow Jones Industrials crossed the 12,000 mark.

Well, as we all know, the market closed below 12,000 yesterday, but I do expect the market to eventually close on the positive side of 12,000. After all, isn’t that what bear markets are all about? Take stocks down sharply in phase one of a bear market (to the lows we saw in March 2009); in phase two, bring the market back up sharply so investors believe all is well again (the period of March 2009 to now); and, in phase three, bring the market back down again (sometimes to a point lower than the original pullback).

Everywhere we that read the economy is getting better. Investors and analysts are turning bullish en masse. We even have the President telling America that the stock market is back up (State of the Union Address, January 25, 2011).

But, before you run off and sell your stocks because you, too, believe that we have reached a market top, remember the two cardinal rules of investing: 1) The “trend is your friend;” and 2) “Don’t fight the Fed.”

The trend has been very strong on the upside. We don’t bet against it. The Federal Reserve is pulling all the stops out to ensure great liquidity in the financial system. Don’t bet against the Fed’s efforts. In the immediate term, enjoy the market’s rise. In the short term, be prepared for a sharp reversal of the market’s fortunes.

What He Said:

“As investors, we need to take a serious look at our investment portfolios and ask, ‘How will my investments be affected by an American-grown recession?’ You should take what precautionary steps you can right now to protect yourself from a recession in 2007. Maybe you need to cut your own spending or maybe you need to sell some stocks that will take a beating during a recession. You know what tidying up you need to do. Don’t procrastinate…get to it now. And please remember: Recessions can happen quickly, stock markets don’t go up during recessions, and the longer the boom before the recession, the longer the recession. Just based on my last point, we have plenty to worry about in 2007.” Michael Lombardi in PROFIT CONFIDENTIAL, November 13, 2006. Michael was one of the first to predict a U.S. recession, long before Wall Street analysts and economists even thought it a possibility.

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Tags: bear market, Dow Jones Industrials, GDP, gold, national debt, price of gold, rising interest rates, U.S. dollar, U.S. government debt