Weekly Review 10.30.2012

 

This was a record setting week! Literally 

Europe
Eurozone hit a record high debt of 90% from all 17 countries that use the single euro currency.  This is the highest level since 1999 when the EU currency was first implemented.
"The euro area economy remains stuck in a rut" said James Ashley, Sr. European economicst at RBC Capital Markets.
According to the Eurostat, five countries are in recession Greece, Spain, Italy, Portugal and Cyprus.  Many analyst expect the Eurozone to slip back into a recession next month when the official numbers are released. (recession is defined as two downward quarters of negative growth in a row)
Furthermore, PMI remains lowest in three years at 45.8  We can see this with BMW and VW, their exports have taken a hit on YoY basis. 


China
PMI- HSBC report showed Wednesday rising new orders.  3 month upward trend shows that the economy is slowly picking up.  However, this is not sustainable given US potentially falling off the cliff and the meltdown in Europe.  Nonetheless, PMI was 47.9(August)  49.2(September) and 49.8 in October.  This is still below 50 but indicates slow improvement and a moderate rebound of the worlds second largest economy.  Weak external demand and a slack job market are key factors, therefore one should expect more easing policies to secure recovery.

China's yuan reached a 19 year high against the US dollar.  Currency hit 6.2417 yuan per dollar, it has been appreciating since QE3 and the ECB bond buying plan.   HK monetary authority has injected more than $14B to stabilize Curreny.  Could this be the start of a currency war? Last weeks review we talked about Brazil's finance minister publicly scolding the US selfish actions at the IMF conference in Tokyo.   Chinese exports are sure to take a beating. 

Japan
Japan adds $9.4B to stimulus program to bump up growth as bond investors told government they were worried about delays and more spending.  Finance minister said this was necessary because Japan would run out of money if the bill was not passed.  This is only estimated to boost GDP by .1%.  Japan has the highest debt level among developed nations and has experienced 2 lost decades.  According to world renowned economists Rogoff and Reinhart  a Country with debt-to-gdp in excess of 90% is unsustainable.  Japan is at over 200%. (see book "This time is Different")

United States
Fiscal Cliff can be much worst than it is.  Many economist think every dollar of deficit reduction will subtract nearly the same amount from economic growth.  The IMF suggest 1$ could drain as much as $1.70.  With interest rates at near zero the pain will be much worse. Bernanke has acknowledged he would not be able to fully offset the pain if the economy runs into the fiscal cliff.  


The “fiscal cliff” and long-term government deficit issues are weighing heavily on the minds of finance professionals, and they do not expect business conditions to improve regardless of the results of the Nov. 6 presidential election.
Three-fourths of 949 executives who responded to a survey at the annual conference of the Association for Financial Professionals (AFP) this month reported that they believe overall economic conditions will weaken if various tax law provisions expire and mandated government spending cuts go into effect as scheduled in January 2013.
Respondents rated implementing changes to avoid the fiscal cliff as the second-most important issue for federal elected representatives to focus on after the election. The most important issue to respondents was resolving long-term government fiscal and deficit issues, identified by 63% of finance professionals in the survey.

Herman Venegas
 

Weekly Review - 10.15.2012

·      Starting off with Canada this week, it looks like the Bank of Canada will continue to keep interest rates low even though the housing market continues to cool off, the number of employed continues to increase, inflation remains at a historic low and business confidence remains almost non-existent. In a new report, CIBC predicted that Canadians might experience low interest rates into 2014 as economic and global conditions will probably worsen and risks will rise in the short-term.

·      Following up on last week’s update on the Venezuelan elections, now that Chavez has won another 6-year term as president, we can be confident that his country will continue to have the world’s best performing stock market until the end of the year. In the last year of his prior term as president, Chavez increased fiscal spending by 41% in real terms beating all growth expectations and making Venezuelan equities seem safer than they really are, but for how long?

·      Today the German finance minister addressed the second Bank of Thailand Policy Forum in Bangkok with an update on the situation in Europe. Wolfgang Schaeuble ruled out a Greek exit as the E.U. remains divided on how and whether to aid Greece climb its way out of the massive hole it is in right now. Spain finds itself in a similar situation as bonds slumped today. With Greek’s debt having been restructured in March, still not much has improved in the E.U. region.

·      Last quarter, the total money spent on IPO’s fell down to $21.3 billion. This is the second-lowest this number has been at since the market crash of 2008. One of the biggest contributing factors for the above is the poor performance of Facebook’s stock since its IPO in May. The Facebook stock has lost half of its value since then as its major growth instrument, the smartphone, is still the principal risk to its stock. The pessimistic global growth forecasts are of course another reason for the declining numbers of the last quarter. 

·      Ending this update with news from the United States, last week the national debt dropped to a six-year low as borrowing by homeowners and businesses both fell relative to the size of the economy. This leads us to question whether the credit rating agencies were right in downgrading the credit rating of the United States. The red, white and blue now has a GDP which is 30 percent of the nation’s debt.

Ali Kazerani

"Inflation is always and everywhere a monetary phenomenon." - Milton Friedman

Last week Ben Bernanke announced another round of quantitative easing (QE3).  This time around the FED's have planned to buy $40Billion of MBS per month.  That's another $480B per year.  Three rounds of massive stimulus have led many people to become concerned about inflation.  

As quoted by Milton Friedman “Inflation is always and everywhere a monetary phenomenon.”  Just ask Zimbabweans who have stopped publishing their inflation rates; last recorded rate was on 2008 Mid-Nov. of 89,700,000,000,000,000,000,000%.

What is inflation?

Simply put, inflation is a decline in ones purchasing power.  As more money is made readily available to consumers (money supply) and is circulated in the system (velocity) the prices of goods and services start to increase making it costlier for you and me. 

Lets take a look at how much money is currently in the system...

It doesn't get any clearer than this!  The massive spike represents billions of dollars freshly printed off the printing press starting sometime around 2008. 

Where is all this money hiding?

Banks have tremendously expanded their balance sheets in the recent years.  Taking a closer look at money in circulation we can see that banks have been hesitant to loan mortgages and consumers unwilling to apply for loans.  Even with ultra low interest rates, people are not taking on debt.

What does this all mean?

The spark!  So much fuel has been pumped into the system in the form of money that a spark to the economy will ignite the fire and then..... an explosion.  Once the economy gets heated and starts to pick up there will be big surprises in inflation rates.  Key numbers to be aware of are employment, consumer lending and housing starts.  These numbers will be a good indicator of the spark.   The Federal Reserve expects the economy to pick up by 2015. 

Portfolio Hedging Strategies

Protecting your investments is important! From a portfolio standpoint if you were holding a 60/40 equity bond portfolio throughout the highest inflation peaks of WWI, WWII and the 1970’s you would have a negative 10 year return real return on your portfolio.  

How can you deliver equity like returns in times of inflation?

Benjamen Graham the father of financial analysis has stated two plays.

     1. Inflation Protected Bonds   

          2. Real Assets (Gold, Commodity Futures, Natural Resource Stocks, REITS)

Taking a closer look at these assets.  I have provided their sensitivity (Beta) to inflation surprises        

Data - (1970-2011)

Assets	Beta
Gold	11.5
Commodity Futures	7.1
Natural Resource Stocks	3.0
Inflation protected bonds	0.8
Real Estate Investment Trusts	(1.5)

*inflation surprise is the difference between actual and real inflation

Bottom Line:  Protect your wealth! and be ahead of the curve.  A RAPID rise in inflation will surprise many investors.  Consider holding Gold, Commodity Futures, Natural Resource Stocks and Inflation Protected Bonds as these assets have preformed very well in inflationary periods.  

Spot Gold on Feds announcement

Herman Venegas

September.17.2012