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AN ILL INFLATIONARY WIND BLOWS
At the recent Jackson Hole shindig for the global economic elite, BoE member Charles Bean attempted to shake the rather the glib consensus when he asked whether the “tailwind” which globalization represented for final price formation was going “into reverse”. A few days later, the Banque de France examined in its monthly report whether “mondialisation” had also run its course in suppressing the monetary impact of excess liquidity on consumer prices, pointing out that surging raw materials prices and straining industrial capacity were beginning to push up labor costs, even in the developed world.
If so, this would be a sea change for, over much of this last cycle, the irresponsibility of the world’s monetary authorities has been greatly alleviated by those Asian nations which have enabled the profligate West to fund the vast sums it spends on its armies, its welfare programs, and its booming real estate sectors by supplying both copious cheap goods and – after recycling the export proceeds back to their source – the equally cheap vendor financing with which to acquire them. One hint that the benign zephyrs of globalization may be strengthening into a maddening Mistral of woe is to be found in China where a series of impending tax and regulatory shifts seems doomed to compound the problems being felt by firms already struggling to attract and retain skilled workers and executive talent. Yes, believe it or not, China – teeming, populous China – is suffering labour shortages all along its coastal powerhouses. And it is not only labor costs which are rising. Nor are input prices rising only in China. On the labour front, Vietnam has just seen fit to introduce a 25% hike in the minimum wage.
Ironically, in the land of BPO (business process outsourcing) itself, such is the dearth of available and affordable talent that Indian software giant Infosys – facing the prospect of having to hike programmers’ pay by 18% this year – is, the Boston Globe reports, now recruiting in America, of all places! With regard to land and property prices, these are also rising all across Asia. When even Japanese real estate is booming, after 17 long years in the doldrums, you know the cheap land party is over! And then there is one key element of input costs which concerns us most directly – namely, commodities.
Here it is interesting to note that the Asian Development Bank and the IMF each devoted a chapter to the topic in their latest publications. Suffice it to say, in summary of these, that both are happy to assume that real prices will decline from here to what the ADB, at least, admits is a rising trend – the seeming disparity being explained by the scale of the speculative rise which took place last spring and which each feels needs to be further excised. You may have your own views about whether the ADB and the IMF are more credible when they offer forecasts for demand or when they estimate supply, but, in any case, their professed notion that even the existing run-up in input costs has not yet been fully passed on into final goods prices is surely an unobjectionable one.
Overall, Asian export prices are beginning to reflect all of these factors, despite the attempt made by many of the regions’ governments to artificially suppress the value of their currencies and so to keep their customers’ unit cost as low as possible. Indeed, using the IMF’s own index, we can see that the long, 30% decline from 1995’s highs came to a decisive and clear-cut end at the end of 2001 – even before the full impact of the tech bust had worked itself out in the U.S. and Europe. Since then, the course has been only one way – upwards, rising 20% in the intervening 4½ years, as the contributions of Indonesia, Malaysia, Australia, Singapore, and Japan have offset the restraint exercised by the much more modest trends in Taiwan, South Korea and – to this point – China itself. Given that, for example, America’s bill for imported goods now amounts to fully 43% of a typical month’s retail sales, we can see why Costco might soon be adding a few “second round” effects to the price pressures emanating from Conoco and Teck Cominco, however fervently Chairman Ben Bernanke prays this will not be the case.
Commodities may have suffered a good deal of late, both as the spring’s speculative frenzy has been painfully unwound and as the U.S. economy rebalances away from its overheated housing sector, but out of such a tactical reversal will surely come the opportunity to play again for the grand strategic trend of Oriental renaissance and Occidental retrocession – a theme which seems ever more likely to be accompanied by a fixed income and equity multiple-sapping rise in the prices of consumer goods and services in Western stores – a phenomenon commonly (if erroneously) known as “inflation”.Link here.
SEPTEMBER’S SURVIVAL REPORT HAS SOMETHING TO SAY ON ALMOST EVERYTHING
In August, we noted that oil had been dropping in what would appear to be generally bullish news. We will revisit the crude chart in just a bit, but the big news seems to be commodity prices dropping pretty much across the board – oil, sugar, gold, silver, natural gas, and copper. We were correct to be cautious on energy, and we were also cautious on gold, watching it pull back another $50 or so since the last report. The drop in gold was not expected by most, since this is normally a strong seasonal period for metals. After a 5-year-straight up run in commodity prices, it is interesting to see that pension funds are now flocking to commodities for extra yield. Speculation in commodities is one of the reasons we have seen many commodity charts go hyperbolic. Yet only now are pension funds looking into them.
Eventually, pension funds chasing commodities, junk bonds, and high-flying tech stocks will be forced away from risky endeavors attempting to make close to 8% a year. We have seen two hedge funds blow up recently and fully expect to see some real pain at many pension funds chasing yield after these run-ups. These yield-chasing strategies contribute to the near-universal hatred (within the U.S.) of U.S. Treasuries. The pent-up demand for Treasuries is enormous. We are long-term commodity bulls for the most part, but too much is too much, especially in the face of what we believe will be a U.S. recession and worldwide slowdown that is likely to further cool commodity prices. For now, we are still waiting on the sidelines for an entry in gold and/or silver.
Although we were correct on commodities and Treasuries, we certainly did not get everything right since the August report. In what is normally a weak period for stocks (August–September), the markets have kept grinding higher. Yet we remain steadfast that this break in commodities shows a weakening economy and those fundamentals will eventually hit the stock market big-time. For now, the market still seems fixated on the “pause”. When we see further deterioration in housing, we expect to hear bullish “siren chants” on the basis of expected rate cuts. In the meantime, the Fed clearly has a problem. Housing is breaking badly, but credit is still holding up well. On that basis, the Fed may be reluctant to cut, and this pause may last longer than everyone thinks.
There is little change in the shape of the Treasuries yield curve except for rally (lower yields) at the very front end of the curve. If you look closely however, you can see that the entire curve itself has shifted lower by about 10 basis points with the 6-month yield dropping from 5.15% to 5.05%. The shift lower in the yield curve depicts further deterioration in the both the economy and inflation expectations. On September 18, MarketWatch reported, “U.S. Capital Inflows Fall Sharply in July”. We have seen numerous predictions over that last couple of years suggesting that Treasuries would sink if foreigners backed off. We were nearly alone in saying U.S. internal demand for Treasuries was vastly underestimated. We will be watching capital inflows closely to see if July was an outlier or the start of a major trend change. For now, we are sticking with two main beliefs: (1) There is major pent-up demand for Treasuries in the U.S. And (2) A recession is headed our way.
Once again, housing activity was lower as new sales, existing sales, and housing starts were all down. In addition, traffic was lower and unsold inventories continued to climb. This suggests a further downturn in sales, as well as falling prices. Traffic and sales are back at 1991 levels, but starts and permits have only fallen to 2003 and 2001 levels, respectively. This level of homebuilding is unsupported by actual demand, will add to the glut of housing inventory and further increase pressures on home prices. A pause or even a series of rate cuts by the Fed is not likely to help the situation much. We have yet to see a significant rise in credit lending standards, and that will only add to the misery when it comes. There simply is no pent-up demand for homes. Given that 40% of all homes sold in 2004 and 2005 were as second homes or for investment purposes, supply will be high and demand will be weak for years to come. Add it all up and it should be obvious that a housing bust has really just started.
Last month, we talked about the discrepancy between the intermediate goods Producer Price Index and the finished goods PPI. The above chart shows that it has been very difficult to pass on intermediate costs for four consecutive months. Last month, we asked, “Where is the pricing power?” I see we get to ask the same question this month. Stay tuned, because next month the PPI will be negative. Last month, we predicted that inflation as measured by the CPI had peaked. As of right now, we are pleased with that call, especially since energy prices are likely to show a huge decline next month.
In July, the official unemployment number rose for the first time in about six months, but ticked down by 0.1%, to 4.7%, in August. The low unemployment number is misleading for many reasons. For starters, if unemployment were calculated the way it was years ago, or the way it is in Europe today, the number would be close to or over 8%. The second way the number is misleading is that it does not track highly skilled individuals who are so in need of income that they take any job they can get. Chronic underemployment is a growing problem. Finally, the household survey itself is suspect, counting as employed all kinds of nearly frivolous jobs, such as selling trinkets on eBay, even when wages are almost nonexistent.
Last month, retail sales rose 1.4%, a call we certainly got wrong. But we also said those numbers would not hold up, and they did not. Here is an interesting chart of insider sales in the retail sector. If retail spending is ready to explode, why are insiders voting with their feet at such a staggering ratio? Here is the math: $693.6 million insider sales and $2.7 million insider buys. An astonishing 257-to-1 sell-buy ratio. With falling home prices, a negative savings rates, and job losses in a housing slowdown that has really only just begun, it is just a matter of time before retail sales decline for months on end. Whether that starts next month or in a few months remains to be seen.
The Fed paused in August as we expected, ending the streak of consecutive hikes at 17. The Federal Reserve Bank of Cleveland now has a Web site that shows Fed Funds Rate Predictions. According to the current outlook, the odds of additional pauses keep inching higher. At some point, we will see odds of rate cuts priced in, but that could be several months from now, as Bernanke will want to keep his “inflation fighter” stance for as long as he can. By then, housing could easily be in a free fall and the economy in or near a recession. We are sticking with our recession call starting late this year or sometime in 2007. Conditions continue to deteriorate. Inflation this cycle has peaked.
The big news in Japan this month is that land prices in big cities up first time since 1990. No one here thinks it is remotely possible for land prices to fall for 16 straight years. No one thought that in Japan, either. Yet it happened. Yes, we know the demographics in the U.S. are different, but U.S. consumers have more debt and the effects of global outsourcing are stronger now than when Japan was in deflation. Given that Japan is still reluctant to hike interest rates coming out of deflation, we reiterate our view that the yen is more likely to blow up than the U.S. dollar until Japan gets serious about having some sort of normal interest rate policy. When it does, expect more carry trade blowups.
In Europe, Reuters is reporting, “Hawkish ECB Suggests End to Rate Hikes Some Way Off”. Once again, we are willing to take the other side of the coin. Everyone seems to be underestimating the effect on the global economy that a recession in the U.S. will have. In addition, there are some Germany-specific concerns that are very likely to put an end to any recovery attempt in Germany. So far, ECB President Jean-Claude Trichet has talked a tougher game than Bernanke, but has failed to pull the trigger on many occasions. The ECB is likely to get in one more hike (not two), and that may be it for quite some time. The Bank of England is widely expected to raise its borrowing costs by a quarter of a percentage point, to 5%, in November. The whole world seems hellbent on hiking and/or increasing taxes smack in the face of a generally slowing world economy with rising unemployment. The results should be interesting.
Bloomberg is reporting that, “China and Japan Clash With U.S. on IMF Currency Policing Role”. The idea of policing “misaligned currencies” is, of course, a total farce. What about “misaligned interest rates” or “misaligned oil prices”? Who gets to make the determination? Where does the nonsense stop? Paulson proved he has as much common sense as Snow (none). As long as the U.S. Congress is willing to spend money it does not have and as long as the Fed thinks it knows better than the market what interest rates should be, the U.S. has no legitimate gripe about what China is doing. In the meantime, hot money flowing into China in expectation of a sudden large widening of the RMB versus the U.S. dollar is likely to be disappointed.
As we mentioned in last month’s Survival Report, the yen is in a precarious position. This chart shows the yen from 1990, and the line in the sand to pay attention to is the lower blue trendline. A break below would likely lead to a severe sell-off in the yen versus the U.S. dollar and other majors in the coming years. Those with assets in Japan should be watching for a break below 85–86 on the yen future.
Last month, we reported that oil has broken its trendline on the daily chart, but the weekly trendline was still intact. Now, if you agree with our trendlines, we busted through that. If the break holds, and we think it will (for now), allowing for a possible head fake above the line. Of course, if there is major unexpected news like bombing Iran or an overthrow of the Saudi government, all bets are off. While oil has broken significant trendlines, gold and silver are still holding theirs.
We have been highlighting the potential for the CRB commodities index to break the uptrend that has dominated over the past five years, and since the trend was broken in August, we have seen a precipitous decline. This is a very significant breakdown, and when we put the previous bullish trend in perspective relative to past periods of rising commodity prices, we will see how much downside risk there is even after the recent sell-off.
Despite the many opportunities it has had to turn down and continue its decline over the past few months, the S&P 500 has continued climbing higher, and has now retraced its entire May–June decline. So far, the market action has defied what we expected this summer in terms of its response to the 4-year cycle lows coming this fall. This cycle has seen all sorts of market reactions – the waterfall decline of 2002 and the stagnation of 1994. There have also been market declines that have come earlier than expected, such as the 1987 crash, and others that have come later. But looking back over the past 100-plus years, there has always been a market reaction to this cycle low. It seems that whatever the reaction to this cycle low will be, we have not seen it yet.
In many ways, the continued strength of the market through these very bearish cyclical forces is hinting that something larger is afoot. Every significant market top is unique unto itself, but there are common themes we can look for that are present at most market tops and bottoms, and we have been highlighting those over the past few months. One example is the Nasdaq-100, which remains well below its spring high near its 200-day moving average. Another is the small-cap Russell 2000 index. The basic concept behind following the Nasdaq and the Russell 2000 relative to the S&P 500 is that when the market is ready to enter a bull phase, speculative stocks will start to outperform more conservative stocks, and when the market is transitioning to a bear phase, the opposite will happen – speculative stocks will start to underperform more conservative indexes. We are now seeing exactly that.
The reason the continued strength of the S&P 500 is concerning is this: There is no question the market is signaling some kind of weakness is ahead. The lack of a significant decline so far may very possibly be paving the way for a more severe bear market. The other possibility is the 1994 example, when the market escaped the four-year cycle and took off throughout 1995 and beyond. Is a whole new bull market that would take the Dow industrials far beyond their all-time high in the offing? We have to say it is possible – the real issue is whether it is probable. In our opinion, which is based on our combined analysis of many market indexes, it is far more likely that all the market divergences and bearish economic signals will lead to a stock market decline, not a renewed bull market. Instead of a seasonal/cyclical decline into an autumn low, the longer time that this turn is taking makes us think this may be a top that lasts for some time after 2006.
The Treasury yield curve remains inverted, and 10-year and 30-year Treasury yields have continued to come down over the past month. The 10-year yield now sits right on top of significant support at 4.7%. Even if it is destined to break below 4.7% on its way lower, it is likely it could consolidate for a while above this support before breaking down – and during that time, the risk is to the upside. Until we see the 10-year yield is ready to continue its downtrend, we will hold off adding to positions. But keep in mind that this is just an attempt to mitigate short-term risk. It appears the long-term downtrend in Treasury yields remains intact. The yield on the 30-year Treasury bond has tested its long-term downtrend line and (for now, at least) decided to remain in the channel. Another decline to the bottom end will bring a very good return to those of us who bought in 2006.
Without a doubt, the commodities sector is one that had made the transition to running on speculative money some time ago. The signs of distribution were clear, and the public attention was too much to sustain a trend for long. And now, right on cue, just as the 5-year bull trend has been broken, we have a chorus of voices proclaiming that now is the time to buy. Let us make this point as clear as possible: Now is not the time to heavily invest in commodities. We think the “now is the time to buy commodities” talkers are the same as those who proclaimed in late 2000 that it was now time to buy tech stocks. They were incredibly wrong then, and they will likely be wrong again this time.
The chart below shows the CRB Index from 1980 to today. We defined bull markets with green trendlines and bear markets with red trendlines. You can see that without a doubt, the recent uptrend has been the longest-lasting and highest-returning bull market in the last 26 years. Below is a close-up from 2001. One of the reasons we had been sounding the warning call about this for so long was that we knew a break would most likely be followed by a rapid decline that would leave little time to get out. That is exactly what has happened, as the CRB has wiped out two years of gains in just two months. The average commodity bull market from 1970–2000 returned 45%, while the recently ended run returned 171% – over the 3 times the average run. This explains why the bullish sentiment will likely stay around for a while. But we have the advantage of having seen this trend change well in advance, and it is the reason why we have not recommended oil or commodity funds this year. If we had, you would likely be underwater now. Light crude was one of the last major CRB components to break down. Now that it has, it leaves no doubt that a new trend has taken hold.
We have thought long and hard about whether to short various commodity funds we see breaking down in concert with the indexes, but so far, we have decided to stay away. One of the reasons for this is that we think this past commodity bull was the largest in the past 26 years for a reason. On the one hand, it certainly spells out how much risk there is in this sector in the next few years, but on the other hand, we think it may be that this was the first move in a much larger bull market. If so, the coming declines will present a much better accumulation opportunity for the long term than any short trade would provide. We want to keep you on the right side of these major trends, and for now, its time to be completely on the sideline with commodities.
Now that we have seen that the tide is definitely going out for commodities, we can take a look at gold and silver in the proper context. We say “proper” only because one of the reasons we have remained on the sidelines with gold and silver this year is our anticipation of a breakdown of the CRB, and now that we have it, we begin to look for any tendency they may have to buck the broader trend of the sector. So far, gold and silver have been pulled down with the rest, but now is the time to be on watch for any hint that something else is brewing. Historically, oil and gold are very highly correlated. But like all correlations, they can break down at key moments. While oil has broken its bull market trend, gold is nowhere near doing so – the long-term uptrend line for gold is near $500. The silver chart is in the same situation as gold’s, with its uptrend line near $8.50.
The mining stocks are showing no sign that the current decline in gold and silver is approaching an end. We almost always see a short-term divergence between the stocks and the metals that lasts at least a few weeks before a meaningful turn. We are seeing no such thing as of yet. The XAU chart over the past year is, in fact, showing a possible head-and-shoulders top, which would project much lower if confirmed. A break below support at 120–125 would be bearish. A more long-term view of the HUI gives us a similar message. We have been expecting a decline to support at 250 for most of this year, and that decline looks to be under way.
We have been on the sidelines with gold, silver, and mining stocks not because we think there are not long-term opportunities here, but because the short-term risks have been high. Those short-term risks are coming out as we speak, but we need to keep our eyes on the long-term trends of gold and silver. Those uptrends remain intact, despite the breakdown of oil and the CRB Index. That distinction may prove to be critical in the coming years, and if so we will be in when the market tells us it is time.
One of the most difficult decisions for swing traders or short-term investors is deciding when to exit a trade. Day traders have no such problem. A typical futures day trader will have a known small stop loss and, regardless of whether or not a trailing stop is hit in either direction, will exit the trade at the end of the day. Using market context indicators – such as advance-decline ratios, bullish percent indexes, market breadth, leadership rotation, seasonal trends, and, most importantly, divergences – in addition to weekly charts has kept us out of many choppy and/or poor trades, and on the sidelines. As noted many times, we are long term bullish on gold, but we simply did not like the charts, the hyperbolic rise, and the corrective natures of all of the bounces after the huge pullback. Our position that the rally in gold that started mid-June was corrective has come to pass. Indeed, buying that last “breakout” in the HUI above 350 that looked so good to everyone else would have one easily 20% or more underwater on many miners.
Many traders are being whipsawed to death. I happened to have an interesting conversation with Lee Adler at The Wall Street Examiner last week, and he told me he has had 36 trend-change indications this year. That is an unprecedented number. Lee Adler is a swing trader, not a day trader (and a good one at that), so we are not talking short-term signals. This has been a very difficult environment for many, including us. If we were using every signal that came our way, while ignoring other indicators, we would have likely been whipsawed 36 times. We prefer to give our trades time to work, even if that means that some go against us for a while. Meanwhile, don’t chase breakouts or breakdowns, don’t pile on, and don’t overleverage.
Many traders we know have been long commodities, short Treasuries, short equities, and short the U.S. dollar over the past several months on the basis of perceived stagflation. Well, that stagflation call is a quadruple ouch and way wrong. In reference to a Meatloaf song, perhaps our “Two Out of Three Ain’t Bad,” especially since we have been advocating high-cash positions on the side. At the risk of being overly repetitive, we will restate our mantra of the last several months: “Cash is not trash,” especially in this difficult environment.Link here. PDF version here.
“DOCTOR COPPER” IS CALLING
Copper is often referred to as “Dr. Copper” because of its unique ability to forecast economic trends. On Sept. 15, I sent the following chart of copper to a friend. I proposed copper was about to break down. Technically, that near-perfect symmetrical triangle is a continuation pattern, which in this case would be a bullish formation. So why the “?” assuming down? (1) One of the biggest uses of copper is in housing, and housing has clearly fallen off a cliff. (2) Copper went into contango, rather than “backwardation” where the spot price is greater than the price for future delivery. In a previous conversation with this friend a few months back, we discussed the idea that the bull in copper would end as soon as copper went into contango. Boom! 2½ years of backwardation in copper is now officially over.
Back in December 2005, Sterling’s World Report asked the question, “Will Dr. Bernanke Get Along With Dr. Copper?” Although copper went on to soar way past $2.00/lb. all the way to well over $4.00/lb. in May 2006, the message from Dr. Copper seems quite different today. We now officially have a break in that symmetrical triangle. Let us take a look at the Sept. 22 chart of copper. The interesting thing to me is that hardly anyone is taking these trendline breaks seriously, even though there are breaks practically everywhere you look – oil, natural gas, sugar, the CRB itself, and now a technical failure in copper. Yet posts of charts like these on Silicon Investor and other places just bring a big yawn.
Has everyone really forgotten about the lagging effect of 17 consecutive rate hikes? Are the technical breaks in various commodities we see now akin to the technical breaks in JDS Uniphase, Lucent, Cisco, and Intel in 2000 that most disregarded? Right now it is hard to say, but the complacency and buy-the-dip mentality sure seem similar. Perhaps this is nothing more than a head fake lower on gold, silver, natural gas, crude, gasoline, sugar, and copper. Then again, perhaps the good doctor (along with confirming indicators such as M1 money supply, the inverted yield curve, and housing) is telling us that this patient (the U.S. economy) is very ill. I think you know which way I am betting: the weakness in housing is about ready to spill over into other areas. A consumer-led recession is on its way.Link here.
HITTING A BRIC WALL?
It is always risky to paint different pictures with the same brush. That is true of economies as well as financial assets. And it is especially true of the so-called BRICs construct that has taken investors by storm in recent years – driven by a fixation on the open-ended growth potential of Brazil, Russia, India, and China. The danger lies both in generalization and extrapolation. As cyclical risks to the global economy mount, the BRICs might be the first to crack.
For investors, BRICs have been especially alluring in a low-return world. In the year ending 22 September, local currency returns for MSCI equities were 12.8% in Brazil, 38.4% in Russia, 51.1% in India, and 39.1% in China. For the BRICs grouping as a whole, year-over-year returns are 30.4% – over twice the 13.3% returns of equities in the developed markets. Meanwhile, emerging market debt spreads are at near-record tights, and there is widespread conviction that risk is a thing of the past for what historically has been one of the world’s riskiest asset classes. On the surface, this outstanding performance seems well justified by equally impressive fundamentals. With the exception of Brazil, economic growth has been rapid and accelerating in the BRICs. And these countries have put their financial houses in order – building up massive reservoirs of foreign exchange reserves, reducing exposure to external indebtedness, turning current account deficits into surpluses, and adopting more flexible currency regimes. Who could ask for more?
Notwithstanding these impressive accomplishments, I suspect over the next couple of years the BRICs story will be one of differentiation rather than generalization. As the global economy now moves into more of a cyclical phase, each of these four developing economies and their respective financial markets is likely to be subjected to very different stresses and strains than has been the case in recent years. As the boom fades and the tide goes out, the broad-brush approach implied by the BRICs construct may be wide of the mark. Instead, I suspect each of the BRICs is likely to face some unique challenges in the years immediately ahead. That is especially the case for China – the gorilla of the group, which accounts for fully 58% of combined BRICs GDP as measured by the IMF’s purchasing power parity metrics. Over the past nine months, the world has come increasingly to view China as a perma hyper-growth story. I suspect that conclusion will be challenged in the year ahead.
The coming slowdown in the Chinese and U.S. economies is likely to have very important implications for the two commodity-intensive economies in the BRICs aggregate – Russia and Brazil. Of the four BRICs, Russia is, by far, the closest to a pure commodity play. There is no way a slowdown in the Chinese economy would not take a major toll on the commodity-intensive Russian economy. Russia, which benefited the most from the global commodity boom, could well suffer the most as the commodity cycle turns.
Brazil could also feel the heat in a softer global commodity demand climate. Of all the BRICS, the Brazilian growth dynamic has been by far the weakest – with GDP growth averaging just 2.2% per annum over the 2001-05 period. Moreover, within the BRICs universe, Brazil has the thinnest cushion of support from internal demand. A cyclical slowdown in those two economies could prove especially problematic for a relatively sluggish Brazilian economy.
India is best positioned of the four to withstand the vicissitudes of the global business cycle. It has an ample cushion of internal demand – private consumption of 61% of GDP in 2005 – and goods exports account for a relatively small share of its economy (12.9% of GDP). India’s main problem at this point is more political than economic – with a reform-oriented leadership increasingly stymied by the politics of coalition management. This is less of a cyclical problem and more of a structural issue, in my view. Within the BRIC universe, however, India suffers the most from a serious twin deficit problem – an 8.7% consolidated government budget deficit and a 1.5% current account deficit. In the event investors embark on a long-overdue shift to risk aversion, India’s currency and interest-rate vulnerability cannot be minimized.
The romance of the BRICs is one of the great siren songs of globalization – four large developing economies that collectively account for 27% of world GDP (on a purchasing power parity basis) and over 42% of the world’s population. If their development strategies flourish, the mathematics of extrapolation cast the BRICs in a powerful role in reshaping the world. But it is always the “ifs” that seem to get in the way. Brazil, Russia, India, and China each face unique and tough challenges as developing economies. Lumping them together as a seemingly monolithic aggregate conveys a false sense of resilience and dynamism to the current era of globalization. It also glosses over some tough and distinctly different adjustments that could lie ahead for each of these countries in what looks to be an increasingly cyclical climate for the global economy. For investors, that raises serious questions as to whether outperformance of the BRICs is about to give way to underperformance.Link here.
BOTTOM FISHING THROUGH BUSTED TECH IPO’S
Initial public offerings have helped fuel the staggering growth in semiconductors, computers, networking, wireless communications, e-commerce, biotechnology and many other technologies. In the process the new-issues market has brought enormous rewards to entrepreneurs, innovators and investment bankers. But where are the investors’ yachts? Since the turn of the century Wall Street has taken 427 technology companies public and raised $68 billion in new capital. (Counting only offerings at $5 or higher that raised at least $5 million.) Since it is difficult for the individual investor to get shares at the offering price, we use the first-day closing price as our starting point for calculating performance. By that score the tech stocks show an average loss of 39% and a relative-to-S&P 500 performance of 59 – where a score of 100 means tying the market.
Of the 427 stocks, 339 (79%) underperformed the S&P 500, and a similar number are now worth less than their first-day closing price. The usual pattern we have observed in new-issue results is clear here, namely, that busy years are bad years. In mania-driven 2000, underwriters took 238 technology stocks to market and raised $39 billion. These stocks have an average loss of 71% and a relative-to-market score of 34. And yet the elusive lure of the big score remains. Google is up 245% since its first-day close. Another 27 technology issues more than doubled in value.
It may be too late to double or triple your money with Google, but some technology offerings that were battered but are still standing are worth looking at. Paul Bard, vice president of research at Renaissance Capital, suggests looking for upcoming catalysts or events that might change the outlook of the company. Another tip from Bard is to seek companies with recurring and growing revenue streams. We describe a few such opportunities in “Trying for a Rebound”, below. Priced below their first-day close, these tech stocks look attractive based on their estimated P/E ratios relative to expected long-term growth rates: Atheros Communications, Cascade Microtech, Cogent, iPass, Mobility Electronics, Monolithic Power Systems, Omnivision Technologies, ON Semiconductor, PalmOne, and Silicon Laboratories.Link here.
RELATIVE ILLIQUIDITY OF SMALL STOCKS APPARENTLY NOT A PERFORMANCE HINDRANCE
The illiquidity of smaller stocks is the most credible argument against the existence of a small-cap premium and perhaps the one most difficult to dismiss. Small companies can be extremely illiquid, the argument goes. Active small-cap investments are therefore unlikely to replicate simple benchmark or historical results. Because the large-cap benchmarks are several times more liquid, however, active large-cap investment results are more likely to be representative of the historical data.
This argument suggests that the historical paper-based benchmark performance results, as seen in popular indices such as the Russell 2000, are perhaps several hundred basis points above actual investment returns. Remember that benchmarks such as the Russell 2000 and S&P 500 are simply paper-based calculations of stock prices as they are quoted on the exchange. The price of a stock can differ significantly, depending on how liquid the stock is, as investors attempt to make a purchase. The mathematics is sound. If the average bid-ask spread of a small firm is 2%, then one needs to subtract at least 2% from the annualized rate of return for small stocks.
Nonetheless, as research has shown, passively managed small-cap funds can nicely match their paper-based benchmarks. In a study of the U.S. small-stock market, Rex A. Sinquefield noted that the success of passive funds was primarily dependent on the managers’ attention to trading costs. Based on the illiquidity of small stocks, active small-cap managers might be expected to lag their benchmark results relative to their large-cap counterparts. Yet a look at active performance data suggests otherwise. Compared to large-cap investors, a greater proportion of active small-cap managers tend to outperform their benchmarks. The higher transaction costs associated with small stocks do not appear to significantly hinder the abilities of small-cap active investors. Ultimately, this edge exhibited by small-cap managers is compelling evidence that smaller stocks are less efficiently priced, and, as a result, allow investors to generate above-average results.Link here.
FIVE BEST STOCKS FOR 2007
According to the IMF, thanks to strong growth from China (projected at 10% in 2007 after 10% growth in 2006) and India (7.3% in 2007 after 8.3% in 2006), the global economy is likely to grow 4.9% in 2007. That would be just a slight dip from the 5.1% projected growth in 2006 – certainly good news for investors globally. But then the IMF had to go and spoil the party by listing all the things that could go wrong. The souring U.S. real estate market could go from bad to worse, taking U.S. economic growth with it. How bad does the housing slump have to get before it sends economic growth into a tailspin? Economic growth in the U.S. in 2007 will be down modestly, down significantly, or up from 2006. Pick your poison.
Macroeconomic trends are not everything when it comes to investing, of course, but I do like to have the wind at my back when I put my money in the market. Right now I cannot tell from which quarter the wind is blowing or how hard the blasts are likely to be. Which is why I favor a core of big-cap growth stocks for my portfolio in 2007. These stocks will churn out double-digit earnings if the economy slows slightly. Earnings will hold up well, even if the U.S. slowdown is bigger than expected, since these companies do business in so many economies that they can often balance slower growth here with faster growth there.
And these stocks actually get an extra performance kick from volatility. Because they are seen as safe havens, money flows into these issues when an up-and-down market scares money out of more volatile sectors. It has been a very volatile 12 months for stocks. To the degree that 2007 is also shaping up as a volatile year, I think blue chips will again outperform many more aggressive indices and sectors. And blue-chip growth stocks will offer even higher relative outperformance, I believe, if 2007 turns out to be worse than the IMF’s most likely scenario.
There is a significant chance that growth, especially global growth from China and India, will be at the high end of projections in the most likely scenario. In that case, I think investors want more exposure to global growth trends than what is provided by the average blue chip. Where do you look for this above-average growth potential? Among blue chips with exposure to the long-term growth trends in the global economy. Trends such as the rapid expansion of the middle class in Asia’s economies or the aging of the global population or the increasing integration of the global economy itself. So what five stocks would I pick from this list right now to own in the core of my portfolio for a very uncertain 2007?
Three that I already own in my 12- to 18-month portfolio: (1) American International Group (AIG) for its competitive edge in meeting the fast-growing demand for financial products, such as life insurance, among the middle classes of Asia. (2) Amgen (AMGN) for its competitive edge in developing new drugs for an aging population that demands to live not just longer, but also healthier lives. And (3) PepsiCo (PEP) for its competitive edge in bringing the great American combination of salty snacks and flavored water to the rest of the globe. To those I would add (4) Johnson & Johnson (JNJ) for its unique mix of consumer, pharmaceutical and medical devices and the company’s ability to innovate in all these segments. And (5) Procter & Gamble (PG) for successfully making the very tough transition to a truly global consumer-products company that will be able to grow sales at double-digit rates for years because it can tap into the phenomenal growth of the middle class in the developing economies of Asia.Link here.
TRADING BY THE NUMBERS
The old saying is, “Buy the rumor, sell the news!” It is usually good advice, but not always. Most big fundamental numbers are expected far ahead of time. It is not like traders do not know they are coming or something. Now, an act of terrorism, a hurricane, a refinery explosion, political strife – those things are unexpected fundamentals that can move markets rapidly, because they come out of the blue. The numbers that come out each week and month, usually come out the same day and time, are largely anticipated. Many analysts spend their whole lives just trying to predict those numbers, and traders are bombarded by the media whenever a number is pending, as if the whole world’s future depended on the coming announcement. Usually, it is not so dramatic. The rumor is often much more volatile (and scary) than the actual facts.
Speculation is based on this type of anticipation, and you can make a lot of money just riding the rumor higher – but be sure to get out or be flat before the number comes out. Holding a position through a number is pretty close to gambling – not a good word in the futures industry.
As traders, it is our job to look for value. But what is value, and how do you know if you are getting it? When you went to buy your last car, did you shop around until you found a good deal? Most likely you first decided on what car you wanted and then compared prices. After you found out the price, you began to negotiate and then eventually purchased the car. Trading is really no different. Our first step is to pick which commodity we want to trade. Then we need to find out where the market for futures and options is currently trading. We also need to see where the commodity has been trading recently, or even in the distant past (a long-term or seasonal chart is great for this purpose).
Fair value, like so many things in life, is subjective. With some technical indicators and charts, along with studies like Bollinger Bands (Bollinger Bands indicate when a market is overbought or oversold), a trader can get a good indication if he or she is buying the low or the high. Fair value can also be calculated by many computer models, or via different trading platforms that do the calculations automatically. In particular, it is important to determine what fair value is for the options based on where the futures price is at the present time.
When we want to get into a trade very badly, we can often rush into it. We fail to look before we leap. Always stop and think. Be sure to determine the fair value of a trade before you jump in. It will save much headache and stress later.Link here.
A SUDDEN RECOGNITION OF RISK?
This past week, the commander of Thailand’s army unexpectedly staged a coup d’état and ousted the government of the Prime Minister. The military declared itself in control and instituted martial law across the nation. There was also violence and widespread rioting in Budapest following the Hungarian Prime Minister’s taped admission that he had misled voters about spending plans and had lied “day and night” to win power ahead of last April’s elections.
Reports also surfaced that one of the world’s largest hedge funds had lost more than $5 billion – over half of its assets – in a matter of days because of a bad bet in natural gas futures, despite the firm’s billing as a sophisticated multi-strategy advisor with adequate risk controls. Meanwhile, Yahoo’s shares fell sharply after the technology bellwether lowered earnings guidance for the third quarter and warned that online advertising growth seemed to be slowing in some economically-sensitive categories, including autos and financial services. And finally, the Federal Reserve Bank of Philadelphia reported a surprising drop – in fact, the steepest monthly decline since January 2001 – in its general economic index, giving strong indications that the U.S. is heading for a slowdown.
Taken together, these seemingly unrelated events suggest that there has been an abrupt change in the investment risk equation. Yet they come at a time when investors have been complacent, as evidenced by the fact that share prices are near multi-year highs, the VIX Index of volatility, or “fear gauge”, is not far from its 2006 lows, credit spreads are at exuberant extremes, and the economy is widely seen as being in a Goldilocks-like state. Under the circumstances, an apparent disconnect between expectations and reality can sometimes trigger a dramatic reaction, where equity prices fall, government bonds rise, and funds flow from risky securities, sectors, markets and classes into safer ones—often in a very disorderly fashion. One might call this a sudden recognition of risk, where investors learn the hard way about the perils of taking too much for granted.Link here.
RISK-TAKERS, LOVE ‘EM AND LOSE ‘EM
It is rare to watch someone publicly take a huge risk and either win big or get eaten alive. Usually people take risks that are not so obvious to the rest of the world. Those of us who want to win big also face the risk of losing big but, still, we generally do it out of sight of others. Nobody is any the wiser unless we win so big that we can suddenly buy a second home on a Greek island, or lose so big that we have to move in with the in-laws. The knowledge that taking big risks can blow up in your face usually puts the kibosh on most outrageously risky behavior. But in these past few weeks, we have seen a few risk-takers suffer extremely public and painful misfortunes.
Take Steve Irwin, for example, the Crocodile Hunter who lived life large. This amusing Australian amazed us with his derring-do among the denizens of Down Under. He seemed fearless, even indomitable. Nothing could harm him – until he died after swimming not with the sharks but with a stingray. Apparently, he once told a magazine writer that he was more afraid of dying in a car crash than getting chomped by a croc. As people around the world mourned his death, it seemed inevitable that a huge risk-taker like Irwin would meet his fate this way. Did he calculate what could happen if something went wrong? Probably many times, but he had been so fortunate for so long that he had moved beyond that instant of catastrophically bad luck.
His string of good luck probably also helped Irwin to tamp down his fear of the worst happening. That same attitude can infect traders who have hit it big often enough without losing their shirts. They begin to think that they have become immune to the big loss, such as the kind that comes with making big bets on commodities futures. That is what happened at Amaranth Advisors hedge fund this month. It is bizarre to note that the fellow responsible for Amaranth’s recent $6 billion loss is named Brian Hunter – from Crocodile Hunter to Brian Hunter. Both lost more than they could have imagined when they set out to take their personal and professional risks that morning.
Hunter had made so much money on his Natural Gas bets after Hurricane Katrina that the managers at the hedge fund let him call the shots with more and more of the fund’s money. Then, he borrowed more so that he could make bigger bets. But when one of his bets went wrong, he single-handedly drove the hedge fund’s performance from 20+% gains to a 35% loss. That $6 billion is as shocking a loss by one trader as any I can remember since bank trader Nick Leeson lost $1.4 billion in derivatives trading in 1995. His trades-gone-wrong bankrupted Barings Bank, Britain’s oldest merchant bank.
“When bubbles burst,” write ElliottWave.com analysts Steve Hochberg and Pete Kendall, “they invariably unleash a negative social response against the most aggressive and successful exploiters of the preceding advance.” Hedge funds are the perfect scapegoat, and the “scandal meter is rising fast” in the hedge fund industry. The Fed’s entrance into a whole new world of financial fraud is signaled by the establishment of a presidential task force that is now “looking into hedge-fund fraud”. And now the FBI views hedge funds as an “emerging threat”, because smaller investors are finding their way into the risky world of hedge funds via institutional investors, such as their pension funds, and “taking a bath.”
Unlike the sorrow many feel over the Crocodile Hunter’s death, it is difficult to find the same kind of pity for those who lost so much money in Amaranth’s trades. They are faceless billionaires and institutions that, presumably, can afford to lose millions. I leave it to Sandi Lynne, publisher of WallStreetInAdvance.com, to bring home the real lesson to learn from the kinds of risks taken by Irwin and Amaranth:
“I’m thinking about Steve Irwin, and how it always struck me that he took unnecessary risks in his effort to ‘save the animals’ and fund his zoo. He was completely unlike Jack Hanna, of the Columbus (Ohio) Zoo, who is no less strident in his love of animals but tends to not only avoid risks but contain his handling of killer-instinct animals to the newborn, to those too young to be dangerous or to threaten the handlers.Link here.
“Amaranth was Irwin, and died swinging for the fences – putting itself out there in neon. Sometimes it pays to be Jack Hanna and play it a little quieter and safer – taking profits when the best opportunity arises. Otherwise, like Amaranth and Irwin, doing what you love and swinging for home runs can be your undoing. If you’re more comfortable as Jack Hanna than you are as Irwin, then don’t risk you profits, your kids, and everything else that lets you sleep at night. Make sure your risk matches your profile.”
IN THE SHADOWS OF DEBT
Business is being reshaped by a massive borrowing binge, but much of it is unseen, unregulated, and little understood.
This past summer Spanish company Ferrovial obtained huge, privately issued loans to buy control of BAA, the world’s largest airports operator and owner of London’s Heathrow, Gatwick and Stansted airports. Though Ferrovial was much smaller than BAA, the consortium it led beat buy-out specialists, such as Goldman Sachs. Of the £16.4 billion ($30 billion) it paid for BAA, more than half was borrowed. Ferrovial is among a growing number of companies exploiting a sophisticated grasp of the debt markets to make acquisitions that only a few years ago would have seemed impossible. “The market has changed,” says Richard Bartlett of Royal Bank of Scotland, one of Ferrovial’s main creditors. “Twelve or 24 months ago this would have been a very challenging deal to pull off.”
Indeed, the market has changed so fast that regulators are not sure if it is spinning out of control. On one hand, innovations in the credit markets have helped to provide a remarkable period of stability in the world’s financial system. In recent years, markets have lived through the end of the internet bubble, the collapse of Enron, the terror attacks of September 11th 2001, debt downgrades in the car industry and a stampede out of risky assets in May and June. Any one of these might once have triggered a financial crisis. But none did. Cheap and liquid financing has enabled companies to make more efficient use of their balance sheets, potentially boosting returns to shareholders and allowing managers to concentrate on profits and cashflow. Despite the increased lending, banks have increased the cushions of capital that they rely on to be a safeguard.
On the other hand, as the debt and derivatives markets have grown out of all recognition, they have moved increasingly into the shadows. Regulators worry that some of the complex financial instruments conjured up around the lending and borrowing of money – worth trillions of dollars – may sow the seeds of the next financial crisis. One of their biggest concerns is how much danger there may be to regulated banks from the faceless institutions they now do much of their debt trading with: hedge funds. At the forefront of concerned regulators is Timothy Geithner, president of the Federal Reserve Bank of New York and one of the financial world’s most powerful voices. He warned, “The same factors that may have reduced the probability of future systemic events, however, may amplify the damage caused by, and complicate the management of, very severe financial shocks. The changes that have reduced the vulnerability of the system to smaller shocks may have increased the severity of the larger ones.”
For most regulators, the safest thing you can have to protect against such shocks is liquidity, and this has been abundant for years. But as the old adage goes, a banker is someone who lends you an umbrella when it is sunny and asks for it back when it starts to rain. Liquidity in the debt markets has an annoying habit of disappearing just when you most need it.
The main drivers of innovation in the debt markets have been the buy-out specialists. Even companies avoiding the acquisition trail have raised borrowing levels to buy back shares – if only to keep private-equity groups at bay. Egging borrowers on are bankers, who sometimes admit to lending amounts, as a multiple of underlying cashflows, that are against their better judgment. This, they say, is partly because the competition to provide credit is so fierce, however cheap it is. Since 2003, the after-tax cost of raising debt has been much lower than the cost of issuing shares, even in the more expensive high-yield market.
No longer do banks have a cosy monopoly on finance. Years of low interest rates and abundant liquidity have led investors to pursue higher-yielding assets, even if that means taking on greater risk. This means new firms, such as hedge funds, have flocked into the loan market, where they can super-size yields by investing in tranches of debt with a higher risk of default, and by borrowing from banks to buy those loans. No longer do banks have a cosy monopoly on finance. Years of low interest rates and abundant liquidity have led investors to pursue higher-yielding assets, even if that means taking on greater risk. This means new firms, such as hedge funds, have flocked into the loan market, where they can super-size yields by investing in tranches of debt with a higher risk of default, and by borrowing from banks to buy those loans.
Partly thanks to the shared risk, record-breaking deals have been done with hardly a hitch. Though interest rates and debt have both risen around the world, this has not yet led to more defaults. Even when companies have run into trouble, the debt markets have just hiccuped and soldiered on. In May 2005 the bonds of the two largest and most actively traded issuers in the market, General Motors and Ford, were downgraded to “junk” status as the risk of default increased, leading to fears of a meltdown in the credit markets. But far from drying up, junk bond issues increased. Such is the staying power of the market that CreditSights, a consultancy, wondered this summer whether it was fair to call high-yield bonds “junk” after all. In the days of Michael Milken and Drexel Burnham Lambert in the 1980s, junk bonds helped reshape corporate America, no matter how unpopular they were at the time. But now they are being eclipsed by privately arranged loan transactions, especially “leveraged finance” (which carries a similar risk to junk bonds, but involves loans that are not publicly traded).
Leveraged finance is growing fast. The debt includes second-lien loans, which have a floating rate and give creditors lower levels of security, but potentially higher returns. In the riskiest end of the credit spectrum are mezzanine finance and payment-in-kind notes. A bit like the more toxic end of mortgage finance, nobody knows how liquid they will be when the credit cycle turns. On a global scale, the vast syndicated-loan market, including leveraged finance and more senior debt, is also growing more swiftly than public bond and share markets. More feverish still has been the popularity of newfangled derivatives with difficult names, such as credit-default swaps (CDSs). These are as complex as they sound. But they are also among the past decade’s most important financial innovations – and a cause of both regulatory hand-clapping and hand-wringing.
Credit derivatives, which behave a bit like insurance contracts, allow investors to buy or sell cover against default by a borrower, and the price moves depending on perceptions about the borrower’s creditworthiness. Increasingly, they are being pooled into collateralised debt obligations (CDOs), another form of investment vehicle that is growing as fast as a hedge-fund manager’s bank balance. Such products, known as “structured credit”, encourage liquidity, partly because they can be created out of thin air. They also allow banks to sell on the risk of loans turning bad, possibly enabling them to lend more. But they are also used for speculation, as well as hedging. The IMF recently warned that such “structured credit products” were one of its main concerns, especially if financial markets take a turn for the worse and liquidity dries up.
The problem, broadly identified by many regulators, is that not a lot is known about how structured-credit products behave in unusual conditions. Even if they normally mitigate risks, they might suddenly magnify them when financial conditions seriously deteriorate. The products have been developed in a decade when interest rates have been low, the appetite for risk high and liquidity ample. It is easy to assume they are always a benign influence. But it is hard to know how they will react when hard times return. Mr. Geithner, whose role at the New York Fed makes him supervisor-in-chief of Wall Street, appears to take them particularly seriously. He encouraged banks to deepen the margin cushion they extend to counterparties and sort out back-office processing of credit-derivative trades as short-term ways to shore up the system. He hinted that regulators might have to supervise large hedge funds directly, rather than indirectly, through banks.
But more scrutiny can be a double-edged sword. Some argue that the regulatory climate is partly what first drove public firms into private hands, encouraged the brightest bank employees to move to hedge funds, and spurred companies to borrow privately. According to Jonathan Macey, a professor at the Yale Law School, the people who such regulation is supposed to benefit – ordinary, non-professional investors – are those most likely to miss out from the trend to raise capital privately. Of course, they can always take part via their pension funds, although that will be little comfort if the credit cycle ever becomes a crunch.Link here.
PAST BUBBLE EXPERIENCE WAS DIFFERENT
What is the difference between those housing bubbles of the 1970s and the late 1980s and the U.S. housing bubble of today? There are four decisive differences.
(1) Those past housing bubbles developed in a generally inflationary environment of rising consumer and producer prices. Central banks tightened their monetary reins to fight inflation in general. (2) Those bubbles were pure price bubbles in the sense that house prices rose faster than the general price indexes. There were no major repercussions on the economy. (3) What the U.S. and many other countries are experiencing today is completely different from a house price bubble. Rising house prices are used as collateral to finance extraordinary borrowing-and-spending binges that virtually dominate economic growth in these countries. In 2005, consumption and residential building accounted for 92% of U.S. GDP growth. (4) Disclaiming that the rapidly rising house prices reflect inflation, the Federal Reserve has readily accommodated them. Rather, it hailed and celebrated the rising prices in a very positive sense as welcome “wealth creation”. Policymakers and economists openly invited and encouraged people to prime the bubble and to make as much use as possible of the borrowing facilities it offers.
Has Mr. Greenspan ever realized that he has turned the U.S. economy into a bubble economy? Who else among former and present policymakers and top economists on Wall Street has realized this? Some certainly have. In Japan, even policymakers frankly used this word in public. But in America, everybody painstakingly avoids this admission. U.S. economic growth is called neither “bubble driven” nor “debt driven”. Rather it is “asset driven” – a term especially invented for the American public to convey the good feeling that the U.S. economy is creating assets, while in reality, with its consumer borrowing-and-spending binge, it is consuming its capital, reflected in falling investment and soaring foreign indebtedness.
The first task, of course, is always to identify undesirable increases in asset prices, emphasis on “undesirable”, classified as “asset bubbles”. In this respect, Mr. Greenspan made his famous remark, “Bubbles generally are perceptible only after the fact. To spot a bubble in advance requires a judgment that hundreds of thousands of informed investors have it all wrong. Betting against markets is usually precarious at best.” Now compare this trivial talk of the world’s leading central banker with the reasoned assessment in an IMF study by the IMF, titled “Monetary Policy, Financial Liberalization and Asset Price Inflation”, published in May 1993. Here is a crucial part of the conclusions of this study: “To the extent that asset price changes are related to excess liquidity or credit, monetary policy should view them as inflation and respond appropriately. There is nothing unique about asset markets that would suggest that asset prices can permanently absorb overly expansionary policies, without leading to costly real and financial adjustment.”
The study explicitly and precisely pinpoints the key feature of asset price inflation. It is “a credit expansion in excess of the expansion of the real economy.” In 2005, a credit expansion of $3,335.9 billion in the U.S. economy was matched by nominal GDP growth of $752.8 billion and real GDP growth of $379.1 billion. Credit growth since the 1980s has developed increasingly in excess of GDP growth in the U.S., but during the past five years of recovery this discrepancy has widened to extremes that defy economic and financial reason. We regard this escalating gap between credit and GDP growth as a very serious, however completely unrecognized, problem, and it is rapidly escalating.
The most conspicuous cause is credit-financed asset purchases. In a country without domestic savings, any asset purchases inexorably depend on credit creation. A second major cause is the trade deficit. To compensate for the implicit extraction of spending and incomes in favor of foreign producers, additional credit expansion is needed to create spending for domestic producers. And a third rapidly growing cause of America’s unprecedented thirst for credit, as we have repeatedly explained, is certainly Ponzi finance. A large and growing part of the borrowing binge reflects the capitalization of unpaid, rapidly compounding interest. According to the available figures, barely one-quarter of the credit expansion is for GDP growth and three-quarters for these other purposes.
The question to ask in the face of these facts, of course, is whether this runaway credit expansion in relation to grossly lagging GDP and income growth is sustainable. It surely is not. All this prodigious borrowing and lending has been undertaken in the grossly flawed assumption that rising asset prices, rather than rising incomes, will some time in the future take care of interest payments and repayments. Debts have to be serviced and amortized by future income. The great mass of American consumers could never afford the debts they have incurred in recent years. For many, the borrowing has even been the substitute for lacking income growth.Link here (scroll down to piece by Dr. Kurt Richebacher).
NO SHORTAGE OF BUBBLES AND TROUBLES
The stock and bond markets rallied after the Federal Reserve held short-term interest rates steady at its September 20 meeting. Investors believe that the Fed has successfully steered the economy between too hot and too cold, and that we are headed for a just-right soft landing with inflation under control and the economy growing at a solid pace. The so-called “Goldilocks economy” will push both stock and bond prices higher. But I think it is premature to slap the Fed on the back and say “mission accomplished”. The truth is the Fed still has not pricked the financial bubble that it created with nearly a decade of easy-money policies.
Oh, the housing market bubble may be deflating, with or without the abrupt pop that ended the stock market bubble of 2000. But the Fed has not succeeded in sopping up the flood of cheap money it created when it drove short-term interest rates down to 1% in June 2003 and kept them at that level until June 2004. Now all of that cheap money is pushing up borrowing in the commercial real estate market fast enough to worry bank and savings and loan regulators. And that is not the only sector in the midst of a bubble.
It might be better to name this the “Lady Macbeth economy”. Cast Fed Chairman Ben Bernanke as Shakespeare’s bloody queen who cried, “Out, out damn spot,” as she vainly tried to wash the blood of a murdered king from her hands. In this economic version of the tragedy, however, Bernanke wanders the darkened halls of the Fed muttering, “Out, out damn bubble,” as he tries to wash away the financial curse left to him by his predecessor, Alan Greenspan.
When the Fed raised interest rates 17 times, it was supposed to make borrowers more reluctant to borrow and make it more expensive for lenders to raise the capital that they use to make loans. The amount of money available for lending is supposed to shrink, but that does not seem to have happened so far in the market for commercial real estate loans. If anything, too much money is chasing too few good loan opportunities, according to regulators. They fear that exactly the same situation is developing in the commercial real estate market as developed in the market for residential mortgages, when banks with more than enough money to lend chased after borrowers by lowering their credit quality standards.
Is this the only place in the economy where too much loan money may be chasing too few good borrowers? Not by a long shot. One place to look is the runaway market for mergers and acquisitions and private buyouts of public companies. The volume of leveraged buyouts, for example, tripled in the 12 months that ended in August from the same period a year earlier. Every private buyout that is announced is larger than the one that closed just the week before.
And I am pretty sure that mortgage lenders have yet a few more tricks up their sleeves to rope in a few more borrowers. American Express recently announced that buyers of condominiums at some projects in Manhattan will be able to charge their down payment on their green, gold or platinum cards. Borrowers will get reward points good for airline miles, of course. Sounds like the residential real estate bubble may still have some gas left in it. And that the commercial real estate and corporate mergers and acquisitions markets may be more than able to put any excess cash to work in pumping up their own bubbles.
There is simply too much cash in the world and too few good investment opportunities for that cash. The result is low rates for lenders and rising asset prices as all that money chases a limited supply of things, be they homes or commercial buildings or corporate buyout candidates. Until the underlying excess liquidity is removed from the system, deflating one bubble will just produce another bubble somewhere else. So far, the world’s central banks and sovereign governments have shown little ability – and in many cases, no real inclination – to slow the growth in the supply of global capital, let alone actually reduce it. So the Fed is left with a dangerous brew like that boiled up by the witches at the beginning of “Macbeth”. Remember what they chant: “Double, double, toil and trouble/Fire burn and cauldron bubble.”Link here.
UPDATING THE ARROW AFTER HOME PRICES DROP
The New York Times is reporting, “Home Prices Drop After 11-Year Ascent” – “… down 1.7% from August 2005.” On that news, I thought it was time to update my comparison of the U.S. housing bubble with that of Japan’s in the ‘80s and ‘90s. The current picture looks like this. ,. The reason is because national home prices have actually been declining for some time. I have commented on this many times before, but for new readers, homebuilders have been reporting “full-price sales”, while giving away hundreds of thousands of dollars in incentives, new cars, vacations, upgrades, reduced interest rates, etc., and chalking those expenses up as “advertising costs”. Mammoth price reductions from every national builder have been going on since the beginning of the year.
Here is a typical example from D.R. Horton. This ad came out on September 23 for the Daytona Beach/Palm Coast area. The price on the Grand Teton model was $282,445 and is now $197,445 – a 30% haircut. The entire subdivision was just repriced 30% lower (plus appliances). Any flipper who paid full price is now 30% underwater (not counting interest expenses, insurance, property taxes, etc. Can that flipper sell for $197,445? Of course not. A realistic price, IF one could find a buyer, might be $185,000. After all, who wants to by a used house when a new one is about the same price, has “free” appliances, and comes with a warranty? Add in real estate commissions and that flipper may be down by as much as 50% or more. Rent it out? Supply of rentals (especially condos) is exploding. Meanwhile, prices continue to drop.
This kind of action has been going on for over six months in most of the country to varying degrees. In addition to the enormous price reductions, there is a subtler portion of the ad that shows stress on homebuilders and prices. Right at the bottom of the ad in large type is the message “Realtors Warmly Welcomed”. A year ago, builders refused to split commissions with realtors. Now builders are offering triple commissions to realtors. That is a dramatic change and right off the bottom line of builders.
There is absolutely no indication of working through any housing inventory. In fact, inventory is now up to 7.5 months, compared with 7.3 months a month earlier. Furthermore, builders keep on building faster than home sales are rising, thus continuing to add to supply. REOs (real estate owned by banks due to foreclosures) are also rising … adding to supply. Massive rises in bankruptcies in the Rust Belt and Colorado are adding to supply. The demographics of baby boomers retiring will add to supply for years to come. There is simply no reason to expect either stable prices or inventory to be worked off in this situation.
More than likely, we will see prices drop 30-50% over 2-4 years, depending on the bubbliness of the area, then chop sideways or down (again, depending on the market) between 6-10 years. That is what it will take to get the average back to a normal 7% a year, given the unprecedented four standard deviations above the mean rise in home prices compared with both wages and rent since 2000. That may also be the best-case scenario. I have news for all the real estate wizards, flippers, and cheerleaders. Sustainable positive price growth is years away. We are closer to the peak (heading down) than the trough (about to head back up).Link here.
A drunk driving a Hummer a mile wide.
Like spectators gawking at a speeding drunk, we have been watching the housing bubble closely. We are wondering what he will run into. Most people seem to think he will run every red light in town and then just coast to a stop out by the dump. Then, he will have a chance to sober up without hurting anyone. Maybe so. But we doubt it. This drunk is driving a Hummer a mile wide.
Here is the hot news: For the first time in 11 years, no longer is the rate of growth in housing prices merely flattening. Now house prices are actually going down. Tech stocks could go down without doing much damage to the broader economy. You win some. You lose some. That is just the way it goes. But housing is too important to lose. Too many people count their blessings in housing. Too many people depend on it. Too many people have too much of their wealth tied up in the roofs over their heads. And too much of the nation’s GDP is linked to the bubbly housing market.
While a rising housing market pumped money into the economy, a falling housing market will suck it out. In the last two years, about $1.3 trillion was “taken out” of housing by way of refinancings and equity withdrawals, and shoved into the U.S. economy. But now there is no more equity to take out. And even in a flat market, the Institutional Strategist estimates that the owners of 8 million houses will have their mortgage payments increased by as much as 50% over the next 16 months.
Imagine what happens with prices falling. Suddenly, the equity disappears. Sellers – if they can get a bid – have to put the money back into housing. That is, one way or another, they have to make up the difference between what they borrowed against and what the house is really worth. In many cases, that will mean owners will walk away from their houses – putting more and more properties on the market at distressed prices. “The home-equity line has supported American consumer spending,” wrote Lon Witter in Barron’s last month, “but at a steep price: Families that tapped into their home equity with creative loans are now in the same trap as those who bought homes they couldn’t afford at the top of the market.”
Buyers have been strapped for cash from the get-go – even in the midst of the biggest bulge of liquidity the world has ever seen. As many as 70% of the people who took out ARMs (adjustable rate mortgages) ended up making the lowest permissible payment. As the bubble grew, mortgage lenders became more reckless – as if Avis or Hertz were to give young drivers a bottle of whiskey along with the car keys. Loans made with “reduced documentation” – wherein the borrower was allowed to state his own level of compensation, no questions asked – rose to 40% of the entire mortgage pool. Eventually, the Mortgage Asset Research Institute wondered how much lying borrowers were doing. They did a survey and found that 90% of borrowers inflated their income by at least 5%. Nearly 60% of them falsified the figure by more than 50%.
What are credits of that kind worth? Borrowers pretended to earn more than they actually did, so they could buy houses they could not afford. Lenders pretended the credits were good so they could sell them on to hedge funds, which pretended to know what they were doing. Now that prices are going down, we are about to find out what all that pretense will cost. We guess it will be more than most people expect.Link here.
More home buyers stretch truth, budgets to get loans.
Mortgage fraud continues to escalate in Southern California, FBI figures show, raising concerns of increased defaults and foreclosures as the housing market cools down. Lenders filed 4,228 reports of suspicious activity in the region during the first 11 months of the government’s fiscal year, which ends September 30, the FBI said. That puts 2006 on track to nearly double last year’s total.
The jump in reports of suspicious activity even as home sales have declined may stem in part from a lag in reporting. But the FBI and industry experts say the trend also reflects growing deceit by average borrowers who overstated their income, exaggerated their assets or hid their debts simply to qualify for a mortgage in the region’s sky-high housing market. During the boom, people who lied about their income to get a loan – and then struggled to make the payments – had the option of making ends meet by tapping their newfound equity through refinancing or by selling the property for a profit. But now, with prices flattening out or declining, those without sufficient equity could be forced to sell for a loss or even default on payments. That could accelerate any downturn in the market by swamping it with foreclosed and bargain-priced properties. “This is the calm before the storm,” said Steve Smith, a Redlands appraiser who lectures frequently about real estate fraud to industry groups.
When home prices in California began to throttle up in the early years of the decade, people needed bigger loans but sometimes could not prove they could handle the debt. To accommodate them, lenders started to offer loans that required little or no documentation. In a so-called low-doc loan, also known as a stated-income loan, the lender does not verify the borrower’s income. With a “no-doc” mortgage, the lender does not check income, assets or employment. Such loans, which carry higher interest rates than traditional loans do, were originally designed for people whose income swung widely, like the self-employed, or high-wage earners in unusual circumstances – a doctor who had just moved to a new community and had not set up a practice yet, for instance. As the state’s boom went on, the mortgages became so popular that they now account for a third of new loans.
Industry insiders have a nickname for low-doc and no-doc mortgages: liar’s loans. The phrase reflects the suspicion that many of the borrowers who get such loans do not have the income or assets to qualify the old-fashioned way. One lender recently compared 100 stated-income loans with the borrowers’ tax returns and found that only 10 of the borrowers were telling the truth about their wages. 60 of the borrowers had exaggerated their incomes by more than 50%, according to the institute, which did not identify the lender.
The loans first gained popularity in the 1980s, but many lenders got burned by them when property values turned down in the early 1990s, said the Mortgage Asset Research Institute founder, James Croft. “We’re seeing some of the same loans today, and so we’ll go through an ‘Oh, whoops’ realization and a tightening up.”
The recent boom in such loans also has been driven by people who bought homes in hopes of “flipping” them for a quick profit, industry experts say. “I saw a lot of people stretching their income to get into investment properties, and not disclosing the purchase of multiple concurrent investment properties,” said Rachel Dollar, a Santa Rosa, California, attorney who runs a blog documenting mortgage fraud cases. “They were buying more than they could afford, believing the increased equity was going to bail them out.”Link here.
WHAT IS MEANT BY “PINK SHEET” STOCKS?
The term “penny stock” has generally been used to describe low-priced securities issued by small companies. A penny stock is usually priced at less than $5 per share and is not traded on the Nasdaq or listed on a stock exchange where it may not meet listing requirements. Instead, these often speculative stocks trade on another component of the over-the-counter market commonly referred to as the “pink sheets”. Many years ago, the prices for these tiny stocks were disseminated on sheets of pink paper, hence the name. Unfortunately, the prices were often stale and investors would be forced to call their brokers, who would in turn call market makers to get the prices.
The name stuck, but the Internet has provided a much simpler way to get up-to-date quotes. Investors can now just go to PinkSheets.com for the latest quote. But before heading over to the site, it is important to note that the Pink Sheets market is often referred to as the “Wild West” of markets in the U.S. Unlike the major exchanges, there are no minimum quantitative standards for a company to list its stock on the Pink Sheets. In other words, buyer beware! And that is especially true when penny stocks are rallying.
“When you get down to the bulletin board, a lot of the trading is done by the public daytrader passing stocks and stories back and forth,” says Phil Roth, chief technical market analyst at Miller Tabak. “And in this environment, when stocks have advanced for a long time and people have confidence, they will buy anything. A 10-cent stock can go to 50 cents, just for lack of sellers.”
Manipulation is the biggest worry for traders playing with penny stocks, and those fears have only grown with the explosion of the Internet. Individual investors and NASD firms have been busted for various schemes involving stocks of small-cap, and even some large-cap, stocks, with the most famous scam being the “pump and dump”. Also known as “hype-and-dump manipulation”, this involves the touting of a company’s stock through false and misleading statements to the marketplace. After pumping the stock, fraudsters profit by selling their cheaply-acquired stock into the market.
Despite all of the problems with penny stocks, there are legitimate companies whose securities trade on the Pink Sheets. In fact, many struggling young companies start out on the Pink Sheets and eventually grow large and profitable enough to jump to a major, national exchange. It is also worth making the distinction between the Pink Sheets and the OTC Bulletin Board. Companies on the Pink Sheets are not required to meet minimum requirements or file with the SEC, whereas OTCBB companies are required to file current financial statements with the SEC or a banking or insurance regulator.Link here.
HOW DO YOU SHORT STOCKS, AND WHAT DOES A “SHORT SQUEEZE” MEAN?
Selling short is a way investors make money on stocks they believe are going to decline in price in the near future. The important rule to remember is that shorting, while offering a smart way to make bearish bets, carries significant downside risks. To sell a stock short, you borrow the shares from your broker, then sell the shares and hold the money and wait for the stock to fall. If it does fall, you buy the shares at the lower price and give them back to your broker, who gets a commission and interest for his troubles.
If you short a stock whose price rises, things can get hairy. You can wait to see if the stock will decline, or you buy the stock back at a higher price than you sold them and give them back to your broker (along with the other fees) and take the loss.
Covering your short position at a loss can get ugly during a short squeeze. A squeeze occurs when a stock that has been shorted by many investors rises. More and more short-sellers must buy shares to cover their short positions, putting greater upward pressure on the stock price. You can short a stock for as long as you want, unless your broker demands you give back the stock that you borrowed, which does not happen often. While short a stock, you have to pay any dividends the company hands out.
There are some restrictions on short-selling that may discourage some investors from giving it a go. You cannot short-sell stocks that are trading below $5. Also, the price at which you short a stock must be at the market price or higher – thanks to the uptick rule, which was instituted to avert continuous short-selling during a market decline, as was witnessed in the 1929 crash. (Exchange-traded funds, or ETFs, however, are not subject to the uptick rule.)
Even if you do an in-depth fundamental analysis of a company and determine the stock is overvalued, the share price can still climb because of market momentum, causing some serious damage. Investors looking to protect their short bets should consider two simple measures. First, set a limit on how much you are willing to lose on a short bet, and stick to it. Second, investors should consider hedging their bets by buying call options, which increase in value when a stock goes up.Link here.
A COMPANY WITH A SOLUTION TO A DEADLY PROBLEM
Over the last three years, shares of PW Eagle, Inc. (PWEI rose from $3.45 to as high as $37. The stock still has plenty of room to grow. PW Eagle makes and distributes PVC pipe and fittings used for potable water and sewage transmission, turf and agricultural irrigation, water wells, fiber optic lines, electronic and telephone lines and commercial and industrial plumbing. Just about any business involved in water purification or fresh water transportation is not only crucial to our very existence, it is a business worth investing in. Half of all hospital beds in the world are occupied by someone suffering from a water-related illness. In the developing nations, 80% of all diseases stem from consumption of, and exposure to, unsafe water. Contaminated water is deadlier than any other evil on earth, including AIDS, cancer, contagious diseases, and even than world wars. During the Second World War, one soldier died every eight seconds. Today, one human being dies every six seconds from drinking contaminated water.
Imagine living in an area where fresh water simply cannot be delivered. It is happening, and it is happening close to home right now. In mid-December, the premiers of Quebec and Ontario, along with the governors of eight U.S. states, signed a pact that will ban all large-scale water diversions from the Great Lakes basin. There is literally a war for fresh water going on all over the world.
PW Eagle is the #2 manufacturer of PVC pipe in the U.S., with a 13% share of the entire market. It makes and sells over 5,000 PVC and PE fitting products to over 1,800 customers across the country. 39% of all its revenues stem from the waterworks sector. The rest comes from the irrigation, electric and energy sectors. Making pipes is not super exciting, but there will always be a market for them. The EPA estimates over $600 billion in waterworks spending will be necessary over the next 20 years. That number may be very conservative. After all, the current infrastructure in the U.S. is old and not large enough to meet the needs of an expanding population.
As it stands right now, 15% of all treated water is lost due to leaking pipes. This is a stat that has the EPA convinced that 44% of all pipe networks will be classified as “poor”, “very poor” or “life elapsed” by 2020. Even the American Society of Civil Engineers’ Report Card for America’s Infrastructure recently gave water and wastewater infrastructure a “D”. It does not take a rocket scientist to figure out what is going to happen in the coming years and decades. PVC pipe manufacturers are going to get a lot of business. PVC accounts for 84% of all total pounds of plastic potable water pipes and 50% of all of plastic drain and sewer pipes. Since the 1960s, PVC has become the material of choice in the U.S. water and sewer market.
And PW Eagle is one of the major players in this space. Over the last five years, PW Eagle’s sales have grown from $246.13 million to $694.24 million – an annual compounded growth rate of 23%. And based on industry-wide projections, these sales figures will continue to grow into the future. Not only is this a growth story, but company’s financial fundamentals are improving. It has paid down $33.8 million in debt in the last year, and generated cash from operations in four of the last five years. And it has been free cash flow positive (albeit slightly) in three of the last five years. Sales rose 27% in the most recent quarter (Q2) versus the same quarter last year, and net income rose 7-fold.
In the company’s Q2 earnings release, CEO Jerry Dukes said, “Our record second-quarter results reflect strong volume across all parts of our business. Low inventories across the industry and at the distributor level helped to bolster demand as the construction season came into full swing. … The combination of strong volume and relatively high margins resulted in another quarter of excellent financial performance.” High margins, low inventories, and strong demand – all good things for investors. With a market capitalization of just over $300 million, there is a lot of room for this tiny small-cap company to grow. The water story is just beginning. You can still get in at the early stages.Link here.
BUY NATURAL GAS PRODUCER CHESAPEAKE ENERGY
The Farmer’s Almanac says we can expect bitter cold and plenty of snow for the winter ahead. Are you ready? What about your portfolio? If you heat your home with natural gas, securing your winter needs at today’s cheap prices might not be a bad idea. Likewise, if you are hoping to add some fire to your portfolio in the months ahead, investing in natural gas stocks at today’s cheap prices might not be a bad idea.
One of my current favorites is Chesapeake Energy (CHK). By almost any measure, Chesapeake is a top performer. It is the top independent onshore producer and the most active well driller in the U.S. It is the third largest independent producer of natural gas overall, behind only Anadarko Petroleum (APC) and Devon Energy (DVN). Chesapeake’s core strategy is to increase reserves through skillful property purchases and active drilling. The company relies on its depth of experience for competitive advantage, and the strategy seems to be working. Since 1999, Chesapeake’s proven reserves have increased 575%, from 1.2 trillion to 8.1 trillion cubic feet (tcf) equivalent.
More importantly, Chesapeake’s financial results are great too. Annual earnings per share were up 27% for 2004 and 58% for 2005. The company’s 5-year return on equity is a competition- stomping 25.5%, well above the 18% industry and 17.7% sector averages. With a PE ratio of around 8, Chesapeake is undervalued relative to its peer group. Price-to-tangible book suggests an even bigger discount. And insiders love the stock. Chesapeake Chairman and CEO Aubrey McClendon has been buying shares hand over fist. The overall ratio of insider buys to sells over the past year has been sharply bullish, with more than 5.5 million shares purchased to fewer than half a million shares sold.
So why has Chesapeake been on sale, relatively speaking? Blame natural gas. Its price has been tumbling for months. An unseasonably mild winter this past year, plus hefty storage numbers approaching 3 tcf as of this writing, have both pushed natural gas futures to almost 2-year lows. But it would not take much for this picture to turn on a dime. A nasty winter, or even just a normal one, could affect things greatly. Industry executive Fred Barrett tells The Wall Street Journal that, “It only takes five-10 days of cold weather to wipe out about 400-500 billion cubic feet (bcf) of gas.”
Chesapeake’s average daily production is 92% natural gas, making it about as close to a pure play as you can get. And now the company is adding another choice natural gas property to its portfolio. On August 3, Chesapeake announced it was the winning bidder for drilling rights on 18,000 acres of Barnett Shale Leasehold, beneath the Dallas/Fort Worth International Airport. Chesapeake, which plans to drill in between the runways, believes the area could hold 470 bcf of new reserves. CEO McClendon has described the Barnett Shale formation as “the last big prize,” expressing his opinion that virtually all of the great Western properties have now been snapped up. If McClendon is right about the dwindling availability of worthwhile gas fields, that could make Chesapeake itself an appealing takeover candidate for a hungry oil major.
When push comes to shove, Chesapeake is a high-quality company with significant exposure to natural gas. It has significant hedges in place for future production, but has more than enough net exposure for CHK to shine once the bullish case for natural gas reasserts itself. One way or another, we expect Chesapeake to bring a nice, warm glow to any investment portfolio.Link here (scroll down to piece by Justice Litle).
WE DON’T BUY GOLD TO MAKE MONEY. WE BUY IT NOT TO LOSE ANY
Gold has risen over our $600 target price. But barely. What is ahead for the metal? If only we knew! So far, there has been nothing unusual about the gold price action. It was under $300 when George W. Bush took office. Since then, it shot up with other commodities – to over $700 – far outpacing the returns you were likely to get from any other major asset class. As gold gathered momentum and press coverage, the need for a correction increased. From $725 an ounce on May 12, the price fell to $567 on June 20th. Since then, it has been up and down and nowhere in particular, “building a base,” say the pros, for another move upwards. We now may be at the beginning of that next move to the upside.
But this assumes that we are right about the major trend. We judge gold to be in a bull market. For two decades, the price of gold fell. Now, we figure, it is going in the other direction. Of course, it is more than that. A lot has happened during those two decades. The world’s supply of “money”, debt and credit has vastly increased. By contrast, the supply of gold has not even kept up with increases in GDP. And while there is no reason that gold should go up with increases in GDP, credit derivatives, beer or anything else … there is still a tendency for things to go wrong from time to time. And when things go wrong, people begin to hunker down … and wonder what they really have … and what it is really worth. They watch their hedge fund accounts blow up. They see their dollar bills shrink by inflation. They look at the news programs and realize their stocks are only worth a fraction of what they were a few days before. They talk to their neighbors and realize that their house is worth only half what they paid for it. What can they do?
They reach for something solid to hang onto. Something real. Something that holds up under pressure. They reach, traditionally, for gold. Gold is not a perfect money. Nor is it a perfect way to store wealth. But its defect in good times becomes its virtue in bad ones. When the going is good, the returns from gold cannot match what you get from a heavily leveraged hedge fund or a house in a hot market. But when the going gets tough, gold gets going – and soon passes all the burnt out hulks of hedge funds, bombed out houses, and worn-out bonds. We don’t buy gold to make money. We buy it not to lose any.Link here.
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