The Little Old Lady School Of Applied Economics

Someone sent me a very interesting letter from Bedlam Asset Management, quite an apt name given the economic situation over the past 2 years. Read it and you'll want to go out and buy gold coins!

Depending on where you live and how much you earn, so in the last five weeks you have seen a significant seasonal event, un-remarked as usual. This was the day when employees and employers alike have been allowed to earn some money. For until that day, everything you have earned this year has gone to the government by way of taxes. Now, and for the rest of the year, what you earn you can keep. It is odd that in modern times even the poorest members of society must, for at least the first 20 weeks of each year, work whilst all the income from their labour is appropriated by their rulers. Delightfully it’s even more backwards than the feudal Middle Ages, because then at least the serfs were fed and housed for free - but apparently, this is progress.

Today’s modern feudal treasurers have different problems. For in the small hours of the night, tucked up in their silk covered beds and away from the prying eyes of subservient apparatchiks, chancellors and central bankers writhe in their sleep with recurring night terrors. Occasionally murmuring of forbidden love, their ecstasy is crushed by more frequent groans of utter despair. For their subconscious reminds them that what they most crave they can never have and they are doomed to failure.

The history of money

Pre-history, when homo cave-potato decided he’d rather buy a club than make one, he needed a medium of exchange, and thus experimented with various forms of money including furs, cowrie shells, very large stones with holes in the middle, iron bars and blocks of salt. Each was unsuccessful; so early society soon settled on gold as the most practical medium of exchange, substituting it where supplies were limited, or when paying junior staff, with cheaper metals such as silver and copper. Although paper money has a long history, it was always explicitly understood that banknotes could be exchanged for something more tangible.

Since 1855 the Bank of England has been writing a now historically ironic promise “to pay the bearer on demand….. [in gold]”, even though any payment ceased in 1931. (This confusion is compounded by the fact that the ‘pound sterling’ refers to a weight in silver.)

Almost all countries produce coins which look as if they are made from silver and copper to give them credibility. Early bankers soon worked out that not everyone would want to cash in these IOUs at the same time, so began issuing more notes than were actually backed by physical gold.

Occasionally these ruses were found out, hence bank crashes; but as a global system it worked pretty well until 1913, when restrictions were imposed. Rather than cause a savings panic amongst the newly-monied middle classes, the system was replaced with a “let’s pretend” gold standard, which allowed for intra-government transfers of gold between debtor and creditor nations. This scheme limped along between major nations until July 1944 when, as a result of record wartime paper money printing, it too collapsed, to be replaced by the Bretton Woods Agreement. Now all currencies would be fixed, forever, at an agreed exchange rate to the dollar, which in turn was initially backed by physical gold held in Fort Knox, Kentucky and valued at $35 an ounce.

There is an excess of turgid financial books on this. The facts are really pretty simple.

This scheme survived for an even shorter period, collapsing in 1971 when France’s Général de Gaulle, again in wartime (Vietnam) decided to cash in the excess dollars France had accumulated, in return for America’s gold. This did not run at all well in Washington.

America decided to renege on the agreement (in practice a form of sovereign default).
The next permanent solution was ‘fiat money’, i.e. paper backed by nothing at all. At the core of this structure were the beliefs that (largely elected) politicians would be prudent economic stewards and if necessary could pay any financial obligations through taxing their local populations. The immutable fact about fiat money is that, over time, all paper currencies become worthless. Hence the mighty dollar today buys the same as 3.8 cents in 1900. Sterling is worse, the Swiss franc best, losing only four-fifths of its value in the same period.

The history of gold

Up until 1913, gold could be owned by anyone. Credit availability then was far more limited than now and inflation was self-correcting. So there were few reasons why its price should have varied much, and it didn’t, even when supply surged from new gold fields in the Americas, South Africa and Australia. It was a true store of value – a key purpose of money.

From 1913 onwards, private ownership became more and more difficult. The price was increasingly controlled by various arrangements fixed by a handful of central banks. The collapse of Bretton Woods removed the old $35 per oz. price cap which was then largely set by the free market. As a consequence, central bankers suffered a decade of near panic; for their populations immediately and very rudely showed an utter contempt for their politicians and financial authorities by increasingly referring to own gold rather than the local funny money. Naked emperors do not like being figures of fun, so quietly agreed to regain control of the price. These various changes included taxing gold purchases, making its ownership illegal and, most important of all, prolonged and increasingly co-ordinated attempts to force the price down.

Thus, leaving aside ancient history, unlike all other commodities and currencies gold has only had one full cycle. Once freed in 1971, the price soared to a peak of $832 in 1980 and was then slowly brought back under central control at the turn of the century. A return to suppressing the price worked in part because of unprecedented international co-operation, and more because “new” forms of credit creation seemingly made gold’s monetary role as irrelevant. The collapse of this new credit paradigm in 2008 means it too has become history. Funny money has joined the cowrie shell and large rock with a hole in the middle as socially interesting but failed experiments.

A new cycle begins

May 7th 1999 is a day that Britain’s current “Prime Minister” (the real power is a recent appointee to the House of Lords) would choose to forget. As a truly awful market trader, he widely broadcast his intentions to sell over half Britain’s gold reserves. In the next three years, 400 tonnes were sold between $256 and $296, leaving a mere 315 tonnes. The money raised was about $3.5 billion; its value today would be $12 billion.

Less-widely publicized than his astonishing naivety is that heavy selling of gold by central banks was also a fashionable, pan-European phenomenon. They have dumped nearly 4,000 tonnes in the last decade. Countries as diverse as France, Spain, Netherlands, Portugal and Italy also bought into a novel theory that central banks could be great currency traders and investors. This new idea was not led by Mr Brown at all but surprisingly, the Swiss National Bank. Since 1999 it has sold 1,550 tonnes. In each case it is impossible to prove whether the proceeds of gold
sales actually produced a better return than continuing to hold its reserves against a crisis. In the case of the Swiss, the difference between sales proceeds and today’s price is about $22bn (a ‘loss’ of over $3,000 per yodeller); or to put it into another context, the amount received is about half the direct cash injections, write downs and capital raised by the single Swiss Bank UBS in the last 18 months. So empirically the money has not been well used.

The implication is that, in Switzerland and across Europe, there has been a very high opportunity cost. Slowly realising in 2004 how dumb they were all looking, fourteen of Europe’s central banks agreed a structure to limit how much of their gold reserves each could sell annually (the Central Bank Gold Agreement). With the usual clarity of hindsight, these sales signalled the last hurrah and the failure of a prolonged period of deliberately trying to distort the gold market.

Do as I say, not as I do

Even so, gold still accounts for 60% of Europe’s reserves. Yet the developing world -
suffering a post colonial inferiority complex - saw what their one-time masters were doing, so also eschewed gold. Thus it accounts for only 11% of their reserves. Meanwhile America (which years earlier had already given a strong hint of what it really believed about gold, by reneging on its IOUs to Général de Gaulle), still has 8,133 tonnes. This accounts for 79% of its reserves. For all the central bank learned papers and propaganda¹ that gold should play no meaningful part in national reserves policy, most developed western countries have steadfastly maintained gold at the core of their reserve systems, but the absolute and relative size of these reserves has shrunk considerably. In contrast, the size of reserves in Asian countries has grown like smoke, to the extent that just six ‘countries’² – China, Japan, Taiwan,
South Korea, Hong Kong and Singapore - now account for over half of the world’s estimated $7 trillion of reserves. Of these, 66% is held in dollars, about three times greater than that held in euros; the yen and sterling each account for less than 1.5%.

Given that the US remains by far the world’s largest economy and trading partner, and as most commodities are priced in dollars, there is logic to this. Yet there are two flaws to a fiat money, dollar-based reserve system. The first is that, whatever American leaders may occasionally say to placate their allies, both the government and population have almost no interest in the dollar exchange rate against any other currency. As an economy which at a pinch could (apart from oil) be almost entirely self-contained, this too is logical. The second flaw is that, also at a pinch, America could longer term be entirely self funding.

The recent implosion of the international banking system has led to all governments printing money at a record rate. The balance sheet of America’s Federal Reserve has increased by over a trillion dollars since the end of 2007. The target for this year’s budget deficit is $1.2 trillion. The Congressional Budget Office is forecasting a return to a budget surplus in 2019 (one underlying assumption is there will be no further recessions) and that by then, Federal debt will have increased from the current $11 trillion to $21 trillion. This excludes worrisome state (i.e. California) and local (such as school boards) budget deficits. The money printing is by any standard off the scale; one way to put this in context perhaps is that in ten years time, on official - thus optimistic - forecasts, America’s Federal debt will be $3,000 for every person
alive in the world today. Not that America is the worst, it’s just the biggest. That whacky Silvio in Italy has a far greater problem, as does the UK.

Central bankers know of course that all currencies eventually become worthless – it is one of their night terrors - but they prefer it does not happen too visibly or quickly on their watch. Moreover, as most had bought into the mantra of Europe’s industrialised countries that “gold is for girls and wimps” (despite ensuring most of their own reserves remain in that metal), they are embarrassingly naked. Of China’s vast, nearly $2 trillion, foreign exchange reserves, a mere 2% is in gold. China is now in a dollar trap of its own making.

If it seeks to reduce its estimated $1.5 trillion of reserves in dollars (mostly in government bonds) the price will collapse. Worse still, unless it picks up its ‘share’ of newly minted American bonds the price will also collapse.

This explains China’s sudden interest in, and many pronouncements on the international financial system, as well as the lifting of the veil of secrecy over its own reserves. Until this year, it had not commented on these in detail for the previous six. Now its Premier and central bank Governor have become almost garrulous; suggestions have included that the world should establish a new financial order, including perhaps the use of SDRs, lecturing US administration on fiscal prudence and curiously, threatening America that it might diversify and thus collapse the American bond market. (The equivalent of trying to mug someone with a stick of damp spaghetti). This threat included the sudden announcement that its gold reserves – last reported at 600 tonnes in 2003 - have since increased to 1,054 tonnes making it
no. 5 in the world after Italy, and showing it could diversify if America refuses to listen. (There may also be a sub-plot; as the new kid on the block, it could be expected that China wants to be close to the US over time in the absolute level of its gold reserves.)

The dollar dummies

Yet for all the current uncertainty and noise, China and the other large, and largely Asian, holders of foreign currency reserves (or ‘dollar suckers’) have already worked out that they must diversify away from their giant dollar holdings, although they remain uncertain as to how. Their problem is size. Supposing China was to buy all this year’s new mine supply, estimated at 2,500 tonnes. Leaving aside that such action would cause the price to soar, one tonne is worth approximately $30 million at $950 per ounce - so this would ‘only’ cost $75 billion, less than 5% of China’s reserves. It could buy all its oil requirements for the next six months. That would only absorb 8% of reserves. Other Asian countries suffering a similar squeeze have tried other routes: South Korea attempted to buy an area of farm land in Madagascar larger than Wales, until international political and ecological shrieks forced it to withdraw; Singapore’s Temasek (not officially part of the country’s reserve system) made such disastrous forays into buying large blocks of shares, that last year the value of its funds fell by 47% (although it has since clawed some back).

On a much smaller scale, China has also been trying foreign investment and larger political/infrastructure development in Africa, Sri Lanka and Bangladesh. For all the lack of success with these various experiments, the diversification urge will not stop. Moreover, some new policies are becoming clearer. It appears China will look to buy almost all its domestically produced gold production, a pattern which others may follow. From recently being a minnow in the sector, China is now the world’s largest gold producer, outstripping South Africa, Australia or Brazil.

Last year, the world’s central banks sold a mere 246 tonnes of gold, the smallest quantity in over a decade. These sellers were mostly Europeans, for the rest of the world’s central banks were net buyers of gold for the first time in 15 years. Under the various central selling agreements, the latest of which will probably commence in September this year, it is becoming clear that, as these banks watch their own paper money being printed at a breakneck speed and observe their neighbours doing the same, they have become keener to hang onto what gold they still have. Given that, since 1977, Europe’s central banks have been eager to hold the gold price down, their absence as the price fixer is a major change.

An absence of sellers?

There are an estimated 30,000 tonnes of gold above the ground in reserves. No-one has any serious notion of how much else there is elsewhere, on fingers, in teeth, in jewellery or coins and bars. Estimates for the total amount of gold ever mined vary between 250,000 to 350,000 tonnes, of which a significant portion will have been lost (buried hoards, at sea etc.). More recently, individuals have been the net accumulators, central banks the sellers. What exists above the ground is far more important than mine supply, which is likely to remain in a gradual downtrend. Current annual production of around 2,500 tonnes is down by over a third on peak levels of the 1970s and unlikely to rise much. Perhaps new giant deposits will one
day be found but meanwhile, gold mining is becoming more expensive, deeper and more difficult. Thus the only realistic sources of new supply can be America, the IMF or the ECB.

For the US, policy has long been blindingly clear: do nothing. Hence reserves (America has the largest gold backed reserves in the world, albeit small in relation to the size of the economy) have remained unchanged. It is unlikely Congress will allow any change. The IMF has notional control of 3,412 tonnes, of which 400 tonnes is due to be sold this year. Of all major international bodies, the IMF has the greatest, almost visceral loathing of gold, preferring its own whacky SDRs instead. These are the ultimate funny money, being a fiat currency based on a basket of other fiat currencies.

Yet the IMF too may be chary of significant official sales because of its earlier failure.
Between 1976 and 1980 “in a bid to reduce the role of gold in the international monetary system” it sold 1,600 tonnes. About half of this was at the official SDR35 price (about $58) back to underlying central bank owners. (This is so dumb: the ‘Brownian notion’ of prudent finances to an absurd extreme; the market price varied between two and 24 times greater).

The other half was sold through a series of public auctions, initially 150,000 ounces per month rising to a peak of over 850,000. The policy of turning up supply was a poker game, trying to scare the market into believing that demand would be crushed. Yet as supply increased arithmetically, the amount bid for increased geometrically. It actually created a fire storm in the gold market, moving the price from $103 to $832. As abject failures in market interventions go, the IMF was the clear winner. Thus it would be loath to do so again; and it has another problem. The IMF does not own all the gold it holds; it belongs to its member states, which have pledged it to the IMF and could unpledge or replace with paper money. As already mentioned, most members are developing a marked propensity not to sell any more gold. The third potential source is the ECB or its member countries; many are the same nations with egg all over their faces which have been the vanguard of selling a substantial proportion of their reserves at much lower prices. That leaves only Germany (No. 2 gold owner in the world with 3,412 tonnes, 72% of reserves), noticeable only for the government’s inability to agree how much to sell, or what to do with the proceeds. As important, the Bundesbank has always been a reluctant seller of significant quantities of the nation’s gold because of its Weimar hyperinflation history.

Conclusions

Four decades on from a financial experiment with fiat money, the evidence suggests it is failing. Although governments will continue with the current system, relying on their ability to tax future generations, poor demographics alone in all advanced nations mean the odds that the current fiat money regime will survive unchanged for long are worsening. As suggested in previous reports, change may be driven by this recession, followed by years of stop-go economic activity and a series of sovereign defaults – which are normal. The largest central banks have doubled or tripled their balance sheets in the last 15 months. This is an explosion in fiat money. Giant budget deficits and rising unemployment ensure that government money creation will remain explosive for the foreseeable future. These problems are exacerbated by a variety of new events, for instance Asia’s reserve diversification programmes and the marked reluctance of historic sellers to reduce their holdings further. It is simple school economics that a very finite supply of one form of money will respond to an
almost fission-like increase in the supply of other forms of money, such as the amount of dollars, yen or euros in circulation.

It is very easy to make a case that the gold price could enjoy or suffer (depending on your point of view) an explosive run. Given all economies (and businesses) are cyclical, then it is axiomatic that over time they will also revert to the mean. Therefore it can be expected that not just central banks, but also commercial banks and other financial institutions will revert to earlier policies of the 1970s and ‘80s – of holding a proportion of their ‘core’ capital in gold. (Bedlam has 10% of its balance sheet there already, and 10% -12% of all client portfolios are in gold shares.) Governments could try to prevent wider gold ownership as before, but new
forms of ownership - such as gold ETFs - make it difficult to do so unless all leading nations agree simultaneously.

We have commenced only the second gold cycle under fiat money. Whether it has actually peaked already, or will shortly double, we can only divine by looking at chickens’ entrails or throwing our rune-sticks. We use an average price of $850 per ounce in 2010 when valuing gold shares, as that is prudent, yet our damp rabbit’s foot hints at a much higher price before the end of 2010 because the triggers are already in place: the absence of meaningful new mine supply, the cessation of central bank sales, explosive growth in money supply and of course, rising political uncertainty, which is the Siamese twin of recessions. Top economic schools used to train their pupils to sneer at little old ladies who kept their savings in gold coins in a
sock rather than trusting national banks. Today it is clear which group are the financial dimwits; perhaps an inherent understanding of cycles can only be learned through longevity. We subscribe to the little old lady school of applied economics. We are therefore certain that central bankers’ nightmares will worsen as their paper currencies devalue against the most trusted store of value, and in bed, the thing they secretly lust after.

Regards
Bedlam Asset Management plc

This is buy far one of the most interesting emails I've received in a long time. Please keep them coming!

Australian Dollar To Hit Parity With US Dollar.

I sold my long position in CurrencyShares Australian Dollar Trust (FXA) today. I made a nice 6% in about two weeks on it. I sold it because it gapped down and looked like it was going to drop futher in the next week or two.



The US Dollar is due for a short-term bounce which will cause the price of FXA to drop, but thinking long-term, I think the Australian Dollar will hit parity with the USD within 18 months. It isn't a far fetched idea when you consider that 1 AUD = 1.20 USD in 1981.

Others agree with me. According to Chris Gaffney of Everbank.com:
"Fundamentals suggest the Aussie dollar will continue to rise in 2008. The economy is expected to expand by more than 4% next year, and inflation will accelerate. Overseas shipments of raw materials, which contribute about 14% to Australia's economy, helped drive 4.3% growth in the second quarter from a year earlier, the biggest increase in three years."

A technical analyst at Goldman Sachs suggested "a close above the resistance level 89.25 would set the Australian dollar free to reach parity".

The Aussie buck traded at 88 cents this morning. Parity is only 13% away.

But in the short term I'm looking for a bit of a pull back.

Canadian Dollar Hits Parity With US Dollar

Today the Loonie achieved parity with the US dollar for the first time in 30 years. Five years ago, 65 cents could buy you 1 Canadian Dollar. Since then the Dollar has devalued 50% against the CAD and nearly 100% against Gold. This has been partly due to a massive increase in the number of Dollars floating around, and partly because of the low interest rates which no longer attract much foreign interest.



The 50 basis point cut in the Federal Funds rate isn't going to save us from recession. What it definitely did do is weaken the dollar further against all major currencies.

How are you going to Hedge against a weakening dollar?

I been a strong advocate of investing in Gold and Silver for 2 years. Today Gold hit $735 after trading around around the $665 mark for the past year.

I realized that the Feds were going to drop the rate last week and put in an order to buy FXA. FXA is the CurrencyShares Australian Dollar Trust, an ETF that tracks the price of the Australian Dollar. Immediately after the Fed rate cut it jumped 3% and is up 4% for the week. It also pays an annual yield of approximately 5% on a monthly basis.

As the Dollar continues to weaken, I expect FXA to keep on appreciating. The question is how low do you think the Dollar will go?

Japanese Housewives Burned By Forex Trading

The New York Times has an interesting article, Japanese Housewives Sweat in Secret as Markets Reel about housewives losing a lot of money in trading forex.

Since the credit crisis started shaking the world financial markets this summer, many professional traders have taken big losses. Another, less likely group of investors has, too: middle-class Japanese homemakers who moonlight as amateur currency speculators.

Ms. Itoh is one of them. Ms. Itoh, a homemaker in the central city of Nagoya, did not want her full name used because her husband still does not know. After cleaning the dinner dishes, she would spend her evenings buying and selling British pounds and Australian dollars.

When the turmoil struck the currency markets last month, Ms. Itoh spent a sleepless week as market losses wiped out her holdings. She lost nearly all her family’s $100,000 in savings.

While a lot of people have made fortunes trading forex (like George Soros), when a large number of housewives enter the market, its a sure signal that the market top is in. The lay people are always the last people to enter any bull market and like we saw in the internet bubble in 2000, mark the last phase of speculators to rush to profit from quick, easy money.

Apparently this greed-driven mania manifests itself regularly, prompting Alan Greenspan to observe that humans might never be able to protect themselves from bubbles. The history of manias has been well documented going back hundreds of years in Extraordinary Popular Delusions & the Madness of Crowds. If you haven't read it I strongly recommend you pick up a copy at your local library. Another new book on the subject is Mobs, Messiahs, and Markets: Surviving the Public Spectacle in Finance and Politics, which is on my long and never-ending list of books to read and has come highly recommended.

Related Readings:
1. How the carry trade really works.
2. Turning Japanese.

Petro-Yen Instituted By Iran

More and more countries are growing weary of the US Dollar. Latest in the list is Iran.

Iran asked Japanese refiners to switch to the yen to pay for all crude oil purchases, after Iran's central bank said it is reducing holdings of the U.S. dollar.

Iran wants yen-based transactions "for any/all of your forthcoming Iranian crude oil liftings," according to a letter sent to Japanese refiners that was signed by Ali A. Arshi, general manager of crude oil marketing and exports in Tehran at the National Iranian Oil Co. The request is for all shipments "effective immediately," according to the letter, dated July 10 and obtained by Bloomberg News.

I guess they'd rather get paid in the world's most undervalued currency which has a good chance of strengthening over the next few years, rather than the USD which looks like its just going to keep on depreciating against all other currencies.

Warren Buffett has hinted that he's made a significant currency play but of course, he won't say which one. Speculation is that its either Japanese Yen, Indian Rupee, Chinese Remnimbi or Australian Dollar. But Buffett, like many foreign countries isn't too keen on keeping his US Dollars either.

The Yen is severely undervalued but until the BOJ increases rates, it'll likely stay weak. The good news is that the economy is strengthening, so this finally seems like a possibility.

With the Indian 10 yr Reserve Bank Bond yielding 7.5%, and it having appreciated 20% against the USD in the past 2 years, it doesn't surprise me that it made the list.

With a huge stake in Petro-china (PTR), investing the chinese currency sounds redundant, so I doubt Buffett would buy it.

The AUD has appreciated rather nicely against the USD over the past 2 years. That looks like a likely candidate too.

Dollar Hits A New Low

This week the US Dollar sank to 25 year lows against the Pound, AU/NZ Dollars and other currencies. There's a saying that money flows to where its treated best.

What does that mean? It means people are converting their money into currencies with the highest yields.

Yields on the AUD,NZD and South African Rand are quite a bit higher than here in the US. Their economies also seem to be growing faster than the US' too. SA Central bank Governor Tito Mboweni said last week that interest rates were 'too low'. The South African Reserve bank raised the benchmark lending rate by 50 basis points on June 7th and may raise them again on Aug. 16. Not surprizingly, the South African Rand is sitting at a six week high.

I don't know if its already too late to the party, but buying foreign currency ETFs or stocks with foreign exposure might not be a bad idea. I've done very well with Anglo Amercian (AAUK) and BHP Billinton (BHP).

That Crazy Loonie

In the wake of the commodities boom, the Canadian currency has appreciated almost 50% against the U.S. dollar since the beginning of 2002. In the last three months alone, strong economic data, inflows from mergers and acquisitions, buoyant commodity prices and above-target core inflation resulted in a rise of the Canadian dollar (CAD) of about 8%.

I'm really happy since I own a lot of Canadian Income Funds which pay out monthly dividends in Canadian dollars. So as the Loonie appreciates, my monthly dividend increases too!

Will the Loonie ever achieve parity with the US Dollar though? Some analysts are predicted it to hit $0.96 = C$1.00 which is awfully close.

What do you guys think?

Friday Rant

I came across this article last night, 32 Reasons Why The Stock Market Will Jump This Year.

While its written as a serious prediction, I personally feel its more like a christmas wish list or a list of finalist answers at the Miss World Beauty Pagent!. Here are some of the gems

#1. Housing and Auto-manufacturing weakness will subside
Based on what? Major layoffs in both industries?

#5. Unemployment with stay at record lows.
Hmm...with the massive layoffs in Housing and Auto-manufacturing, you really think so?

#7. Inflation will continue to decelerate, with CPI averaging around 2.0%.
Hmm...ever since the minimum wage was jacked up, small business around where I live jacked up the price of everything along with it. That doesn't sound like low inflation to me. Anyone who thinks that CPI is an accurate measure of inflation makes way too much money to begin with. Once you take out all the factors that cause inflation, of course you'll be left with 2%. What a doofus.

#11. The US Dollar will firmer up and even maybe become stronger
With almost all the worlds major currencies strengthening against the USD how is this going to happen? Oh yeah, Bank of Japan is enforcing a weak Yen policy. And of course the USD will strengthen against the Iraqi Dinar! And with China owning a Trillion USD do you think a strong Dollar is actually in our interest????

#12. The U.S. budget deficit, which is currently 1.5% of GDP, well below the 40-year average of 2.3% of GDP, will continue to trend lower as healthy economic activity continues to boost tax receipts substantially more than estimates.
Uh...isn't the US GDP is currently mainly comprised of government spending? Thats not really a show of healthy economic activity. Although it is true that the tax receipts are up more than estimated.

#15. The mania for commodities will completely end.
Yeah Right!!! All those millions of people in India and China who can now afford to buy a car and a decent place to live will choose to buy plastic go-karts and tents instead of regular cars and houses that use steel & copper. Is he completely blind to the global industrialization thats taking place? Every year China adds to its electricity generating capacity by the same amount as the entire UK. This electricity comes from coal and is used to make more cars and power more houses. The dude's smoking crack now.

#16. Oil falls to $35 to $40 per barrel and eventually $20-$25.
#19. Gas prices will drop below $4/mcf.
#20. Gold will drop below $550 per ounce
This was written on the 1st of Feb when Oil was around $50/barrel. Its since gone up to nearly $60 and is probably on its way up. Corn has quadrupled to over $4/bushel making ethanol almost as expensive as gasoline now. Similarly Gold is also up to $665. I actually bought some GLD (the gold ETF) 2 days ago and I'm already up 7%. I predict its going to $800 in 2 years.

#17. Peace in the Middle East.
HAHAHA.

Some of the points are actually valid, but the ones I've mentioned are pretty stupid. Like I've said before, I've taken exactly opposite bets in my stock investing, so of course my views are out of line with the authors.

What do you think?

Bad Day For The Dollar - Great For Retailers!

Today was black friday and atleast in San Diego it seemed like everyone was out shopping like its going out of style. The local best buy had great deals on TVs. I buddy picked up 2! One 32" LCD HDTV for $475[$400 discount] & another Plasma 47" HDTV for $1000[$700 discount]. Of course they only had about a dozen of these that sold out immediately but luckily we had friends camping out at various stores so with a few well placed phone calls we were able to get in on the action! He tried to pursuade me to get one too, but I'm really happy with my 19" regular TV! However I did buy a very nice laptop from Costco for under a $1000. The good thing about Costco is that if you aren't satisfied you can return your purchase at any time. Apparently people have been abusing the system so for laptops the cutoff is 6 months.

Anyway, today was a particularly bad day for the dollar. It was down against most major currencies including the Euro, Yen, Swiss Franc, Aussie & NZ Dollar and Indian Rupee. Just in time to make my vacation to south east asia just a tad more expensive!

Like I've been harping on before, I think the easiest way to get out of the multi-trillion dollar debt is for the Feds to inflate the value out of the dollar. This will provide the necessary "soft" landing for real estate. And by soft I mean a 20-40% price drop on the coasts, as opposed to a 50-60% drop. I belive its a trend that will continue for the next year or so. This will likely result in commodity inflation while the economy experiences deflation in terms of manufactured products, squeezing margins, profitability and wages. Not a good sign. [of course, this is just my opinion and could be wrong]

Gold was also uptoday to $637 and Silver is up to nearly $13.50. Finally my gold & silver coins are coming back up in value. I bought a lot of old goin coins & a few new ones for almost the bullion price. I think my average price is around $668/oz. Not bad considering a few of them are roughly 100 years ago and 2 of them are in the 200 year range! My belief is that once gold starts its upward trend again, coins will again become collectibles and will outpace the intrinsic value of the metal content.

Looks like the Indian Rupee is getting stronger

Not only is the Australian dollar strengthening against the US dollar, it looks like everything except the Canadian loonie is too!

Excerpt from today's daily pfenning...

Ashish Advani, the Head of Corporate FX here at EverBank, pointed out yesterday that India had split their two interest rates yesterday. Here is what Ashish pointed out to us after the rate announcement:

Reserve Bank of India (RBI) managed to completely surprise markets by raising repurchase rate (rate at which market borrows from RBI in a liquidity deficit situation) by 25 basis points to 7.25% while leaving the benchmark reverse repo rate unchanged. We were expecting a hike in both repo as well as reverse repo rate by 25 basis points each.

Why has RBI done this?

To balance out the risks of global deceleration with the risk of demand side inflationary pressures thawing domestic growth. With the global growth environment turning more uncertain and US economy showing signs of deceleration, the risk remains that excessive monetary tightening domestically could impact domestic growth. However, with domestic price pressures rising RBI cannot afford to sit on the sidelines and let inflation go beyond the tolerance band of 5-5.5%. RBI clearly recognizes the risk that India could be entering the overheating zone and asset price inflation too could hurt the real sector. Hence the RBI chooses to signal potential for higher rates by raising the repo rate but should growth outlook reverse dramatically impact on domestic economy is marginal. Also another signal, in our assessment is, should banks face tight liquidity conditions, the overall borrowing costs increases, thus the cost of money goes up in a situation of banks over extending credit.

Thanks to Ashish for bringing us all up to date on this unusual move by the Indian Central bank. This partial increase in the interest rates have caused the Indian Rupee to rally, increasing by almost .4% yesterday.

Dollar May Weaken

I regularly read the 'Daily Pfenning' by Charles Butler of Everbank.com.

Today's issue was especially bearish on the dollar.

The Yen finally started to move back up hitting a one month high over the weekend on speculation the Bank of Japan report tomorrow will show an improved economic outlook. The BOJ will make their rate announcement tomorrow before releasing a semi-annual report that will outline the bank's forecasts for prices and the economy. Any hint at higher rates before year end should propel the yen back toward 110.

Other Asian currencies gained last week also, with the Thai baht rising to a seven-year high. Thailand's central bank raised its growth estimate for next year to between 4.5 percent and 5.5 percent from a previous forecast of between 4 and 5.3%. It also lifted its prediction for export growth this year. While the gains in the Singapore $ were met with possible intervention by their central bank, the Bank of Thailand governor said the central bank would let the markets do their job in stemming the rise. So it looks like we have a green light for further increases in the baht.

The Australian dollar also had a good week with several reports showing the Asia-Pacific regions growth is picking up. Retail sales rose .5 percent after climbing .3% in August, and building approvals started to rise again. Australia's economy added more than 200,000 new jobs in the past five months, sending the unemployment rate to a 30-year low. Things continue to look up for the Australian dollar, a currency which continues to be one of our favorite.

Finally, India's central bank will likely raise interest rates for a fourth time this year as record economic expansion and loans growth stoke inflation. Expect a quarter point increase in interest rates tomorrow, which should strengthen the rupee. Many reports are now expecting the Rupee to strengthen to 44 by year end.

As previously mentioned, I bought some Australian Dollars and a Japanese REIT. A strengthening of the Yen will boost the value of my REIT, which buys apartment buildings in downtown Toyko.

I'm willing to share the info on the Japanese REIT with anyone who makes 10 posts on The Weekend Investor. Talk about a shameless plug!!!!

Gold was also up today. Its not too late to buy some and hedge against the devaluing dollar!

Why the Dollar Will Collapse!

A few days ago I posted an article on why the dollar hasn't collapsed. Robert Kiyosaki has a good counter-argument on why he thinks it will.

The Last Days of the Dollar
by Robert Kiyosaki

Tuesday, October 17, 2006

In 1966, I was traveling the Pacific aboard a freighter. I was 19 years old at the time and attending the U.S. Merchant Marine Academy at Kings Point, N.Y.

As part of my academy education, I spent a year as a student officer on freighters, passenger liners, oil tankers, and even tugboats. It was a great way to see and study the world.

An Instructive Exchange

One of the earliest lessons I learned at sea was about currency exchange rates. Even though currency valuation was not a subject taught at the Merchant Marine academy, my ship constantly traveled from one country to the next, so my education in what is today called FX -- or foreign exchange -- began.

Back then, the formal exchange rate in the banks was 360 Japanese yen to one U.S. dollar. On the black market in Hong Kong, I could get 366 yen to the dollar.

This made me aware of the games banks and countries play with their currencies: In 1966, the six-yen difference told me that Japan was buying more from Hong Kong, which is why yen was cheaper in the then-British colony.

A six-yen difference might not seem like much, but for a student earning just $105 a month every little bit counts. So I would wait for my ship to stop in Hong Kong and then trade U.S. dollars for yen. Then I would travel back to Japan and go shopping with the yen. Although the money I saved wasn't substantial, the lessons it offered in currency exchange were priceless.

The End of the Golden Age

It was pretty easy to understand foreign exchange back in the mid-‘60s, since much of the world was following the Bretton Woods Agreement. Enacted in 1944, this agreement made the U.S. dollar the global medium of exchange.

Because the U.S. dollar was pegged to gold, figuring exchange rates was a cinch. If we purchased too much from Japan, then the Japanese could ask us for gold. If we had less gold, we had less money.

In 1971, President Richard Nixon changed everything by removing the U.S. dollar from the gold standard. Suddenly, the dollar was still the world's currency, but now it was backed by nothing. The United States was free to print as much money as it wanted, and the world went along.

Because of this change, understanding foreign exchange became a bit more complex. Today, to understand the world of currency, you need to think a little differently -- essentially because things don't make sense.

For example, today, the United States is perceived to be the richest country in the world. In reality, though, we're the biggest debtor nation in the world. And who are we indebted to? What many consider to be a Third World country: China.

For Richer and Poorer

The irony is that many Americans think we're rich and China is poor. Exactly the opposite is true. This is because the removal of gold's backing from paper money has created a virtual explosion in credit and liquidity. The sheer amount of liquidity around the globe is incalculable.

This excess funny money causes people to feel rich and almost everything to be more expensive. Today, stocks, real estate, automobiles, and gasoline become more expensive as the dollar becomes cheaper.

While some people do become richer in this system, funny money actually punishes working people who save money. It devalues the value of your work and your savings, even though you may feel wealthier.

In overly simplistic terms, China and many countries in the world today lend us billions of dollars to buy their goods. They send us products like computers, televisions, cars, candies, and wines, and we send them funny money in return.

Since they can't spend those dollars at home, they simply lend them back to us so we'll buy more of their products. That would be like me going to my local grocery store and asking them for a loan so I could buy their tomatoes. A logical person would say, "That makes no sense." Yet it's exactly what happened after 1971, and to many highly educated people -- bankers and politicians, for instance -- it somehow does make sense.

An Uneven Trade

You can find current smaller examples of such financial insanity. For example, many people refinance their homes to pay off their credit cards. This makes no sense; you and I know that someday that debt will have to be paid.

Yet getting deeper into debt does make sense as long as you can repay your lender with cheaper dollars, and as long as your lender is willing to take those cheaper, less-valuable dollars. To use my earlier analogy, it would be like buying an orange for $1 on credit and then paying him back for it a year later with 80 cents. As long as the grocer is happy with this arrangement, things are fine.

In real-world terms, one of the reasons the U.S. dollar only buys approximately 110 yen instead of 360 yen today is because the Japanese allowed us to continually devalue the dollar -- that is, to pay our debts with cheaper dollars.

Over the years, the yen got stronger and the dollar got weaker simply because we, as a nation, printed more and more money, all the while consuming more and producing less. Japan would lend us money and we would buy their products. Japan's economy boomed, and so did ours.

Game Over?

The problem today is that China isn't willing to play the game the way the Japanese did. If we drop the purchasing power of the dollar, the Chinese, by pegging their currency to the dollar, also drop the value of their currency. The United States then pays back its debt with a cheaper dollar.

The irony is that we accuse China of playing games with their money. It's more honest to say that China just isn't willing to play the game we want to play.

But an even bigger problem is looming: It seems like the rest of the world is less willing to play our money game. That's why the European Union introduced the Euro. If China creates an Asian equivalent of the Euro (which, admittedly, is a long shot) then the U.S. dollar could be in real trouble.

If the oil-producing nations stop accepting the dollar and switch to gold or the Euro, things will definitely get sticky. The world might be tipped into a global recession and possibly even a depression.

For now, though, this funny money game continues. How long will it last? I don't know. I do know that throughout history, all paper money has eventually come back to its true value, which is zero. That's when the game truly ends, and a whole new cycle of pass the buck begins.

Why the Dollar Hasn't Already Collapsed

MSNBC has a good explanation on why the dollar is still holding up against the other currencies. Even though I'm bearish on the dollar for the next few years, its still a good read. I think the dollar will slide against a majority of foreign currencies including the yen and given that the Japanese real estate market has been flat for 15 years and only just picked up I think its a good time to get into the Japanese REIT market. But thats another post.

COMMENTARY
By John W. Schoen
Senior Producer
MSNBC

As the U.S. keeps adding billions to its trade deficit, and the government churns out billions more in Treasury debt, several readers are getting a little nervous about the value of the dollar. Just how come it's not falling?

What I'd really like to know is why the dollar isn't falling even faster: Given our status as the world's greatest debtor nation, what is holding it up? And ... why are people still pricing oil in dollars, rather than moving to a currency issued by a more solvent country, e.g. the yen, yuan or euro?
C. P. -- Houston, Texas

There are certainly plenty of economists out there who will tell you that the dollar is headed for a fall. If the rest of the world stops buying our IOUs, the Treasury Department would have to keep raising interest rates until it could find buyers. That could, in theory, throw the U.S. economy into tailspin.

But for all its vulnerability, the U.S. dollar is still the most powerful currency in the world. And one big reason is that the U.S. economy is still the largest and most resilient in the world.

China, though it is growing more rapidly than either Europe or the U.S., logged $8.9 trillion in 2005 GDP. But China only recently began to gently unhook the yuan’s “peg” to the dollar — it remains to be seen what will happen when that currency tries to stand on its own two feet. And while the Chinese economy is growing rapidly, it's not at all clear how long such rapid growth is sustainable. If they have a recession over there, it's going to be a doozy.

Globalization no doubt puts added strains on the greenback. But we’ve seen this movie before. In the mid-1980s, the great Asian economy was Japan. As its economy surged, the value of the dollar against the yen was cut in half from March 1985 to March 1988.

The yen surge touched off a wave of hand-wringing on U.S. editorial pages amid fears that the days of the American economic supremacy were numbered and the dollar would be knocked off its perch as the global currency of choice. With all those swollen yen, Japanese buyers began snapping up U.S. real estate. When Mitsubishi bought Manhattan's iconic Rockefeller Center in 1990, it seemed to some that the worst fears of the dollar's twilight were being confirmed.

Five years later, with Japan’s economy in shambles, Mitsubishi couldn’t make its payments and basically turned over the keys to the holder of the mortgage. Today, Japan is finally digging itself out of a depression that’s gone on for more than a decade.

True, a U.S. trade deficit now running at an annual rate of $776 billion, on track for a fifth straight record year, is troubling. But you can also view that trade deficit as a huge vote of confidence by the rest of the world — which is still willing to take our Treasury bills in payment for its goods. No one places near that much faith in the economies of Japan, Europe or China.

It’s also why oil traders still want to be paid in dollars when they sell their barrels. The surge in oil prices is a big reason the dollar has take a beating — and the trade deficit has swollen. And anything that pumps up inflation hurts the dollar because it erodes the purchasing power of every one in your pocket. But the recent slump in oil prices should help the dollar perk up.

U.S. gross domestic product — which is basically the value of all goods and services produced here — came to about $12.4 trillion in 2005, according to the CIA Factbook. (To arrive at that GDP number, you add up all spending by consumers, investors and government agencies — then add the value of exports and subtract the value of imports.) That represents about a fifth of the total worldwide. So one out of every five dollars in global economic value is created in the United States.

Total GDP for Europe was roughly the same ($12.2 trillion). But though it relies on a common currency, the European economy is nowhere near as unified as the U.S. — thanks to the 25 separate economic policies pursued by its member countries. And, as anyone who has tried to sell a product across Europe has learned the hard way, marketing in 20 different languages at once can get expensive.