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March 23, 2008

Words from the (Investment) Wise for the Week That Was (March 17 - 23, 2008): Part II
by Prieur du Plessis

GaveKal: Fed and tape point to stock market rally
"In recent weeks, we have seen two of the oldest Wall Street adages - namely 'don't fight the Fed' and 'don't fight the tape' - in an open clash. And just as it looked like 'don't fight the tape' was about to win, the Fed took out the heavy artillery and a) slashed rates further (-75bp yesterday) and b) announced a new policy whereby all non-junk-rated paper could be deposited at the Fed.

"We are now in a situation where both the Fed and the tape are pointing in the same direction. This should mean that, if nothing else, the markets rally hard over the coming weeks."

Source: GaveKal - Checking the Boxes, March 19, 2008.

Bloomberg: Barton Biggs expects 1,000-point gain in Dow
"The decline in US stocks is 'way overdone' and the Dow Jones Industrial Average may rally 1,000 points, investor Barton Biggs said.

"'We're in a financial panic,' Biggs said during a telephone interview with Bloomberg Television from New York. 'We're setting up for a really big rally. I don't mean three or four hundred points on the Dow, I mean 1,000 points on the Dow. I don't know if we're going to get it next week or the week after. But this thing has gotten crazy and is overdone.'

"Biggs, a former Morgan Stanley strategist who now runs the $1.5 billion hedge fund Traxis Partners LLC, said stock markets from Germany to Hong Kong may bottom out soon after tumbling this year.

"'We're at a really crucial point,' Biggs said. 'This is a time to be buying stocks around the world and not to be selling them. Yeah, it's scary. It's always scary at bottoms. But I don't believe the economy is collapsing,' Biggs said. 'This is not the end of the world.'"

Source: Brian Sullivan and Michael Patterson, Bloomberg, March 14, 2008.

Bill King (The King Report): Merrill's Rosenberg - We're a long way from a stock market bottom
"We're a long way from a bottom. The sentiment is way too bullish and the calls for a bottom or to do bargain hunting are far too pervasive and far outnumber the calls for capital preservation.

"... [from] David Rosenberg's (Merrill Lynch) latest research piece: There is a legitimate case to be made that as bad as things are, we may only be at the halfway point of this bear market in equities in general and consumer cyclicals in particular ...

"Mr. Rosenberg echoes our view that few people on the Street have experienced a credit cycle turn or a vicious recession. The problem is that so many of the economists that are calling for a recession believe it will be mild. We are not sure why, except that many Wall Street pundits have lived through at most two downturns, and indeed, the last two recessions (2001 and 1990 to 1991) were mild by historical standards, both in terms of magnitude (a peak-to-trough 1.3% decline in real GDP for the former and -0.4% for the latter) and duration (both lasted just eight months). The models that economists use may be skewed by undue reliance on the experience of the last two recessions.

"David also asserts, 'monetary policy alone will not solve the problem; current backdrop has more in common with 1973-75 cycle.'"

Source: Bill King, The King Report, March 19, 2008 and The Wall Street Journal, March 20, 2008.

Reuters: US dollars tough to sell
"The US dollar's value is dropping so fast against the euro that small currency outlets in Amsterdam are turning away tourists seeking to sell their dollars for local money while on vacation in the Netherlands.

"'Our dollar is worth maybe zero over here,' said Mary Kelly, an American tourist from Indianapolis, Indiana, in front of the Anne Frank house. 'It's hard to find a place to exchange. We have to go downtown, to the central station or post office.'

"That's because the smaller currency exchanges - despite buy/sell spreads that make it easier for them to make money by exchanging small amounts of currency - don't want to be caught holding dollars that could be worth less by the time they can sell them."

Source: Svebor Kranjc, Reuters, March 18, 2008.

Times Online: US dollar tumble spells trouble for yen carry trade
"Deepening misery on Wall Street, prophesies of recession and the recent freefall of the dollar could set off a $300 billion time bomb in the global yen carry trade, dealers are giving warning.

"The carry trade, which involves cheaply borrowing the Japanese currency to buy other assets, comes unstuck in volatile currency markets. If the carry trade does implode, sending the yen to new heights against a wide basket of currencies, dealers say that the cast of victims could include individuals, corporates and hedge funds.

"The yen is at a 12-year high against the greenback and Tokyo-based economists are speculating that a severe crash in the carry trade could trigger a more devastating ruction in the $1 trillion overseas investments of Japanese mutual funds as the dollar/yen exchange rate edges towards the pain threshold of individual investors.

"Hedge funds have long used the carry trade for cheap leverage, but there are also thought to be vast exposures to yen volatility in the Thai, Korean and Indonesian banking sectors, where the Japanese currency has been borrowed heavily to meet funding needs. Because the trade has been so popular, Goldman Sachs analysts said yesterday that the sharp fall in the US dollar against the yen had prompted them to reassess the 'cash-call risks' for Asian banks and corporates.

"But the practice is also uniquely sensitive to general global risk appetites: when investors batten down the hatches, as they have done in the wake of the Bear Stearns collapse, the carry trade unwinds, often spectacularly.

"It was advanced fear of that unwind, currency analysts at Mitsubishi Tokyo UFJ said, that has caused so much volatility over the past few days in the so-called yen cross-trades - where the low Japanese lending rate is exploited to buy high-yield currencies such as the New Zealand dollar, the South African rand, the Mexican peso and the Icelandic krone. Sudden spikes in the yen against the Australian dollar, euro and sterling, Nomura dealers said, indicated a first wave of fleeing from carry trades as risk appetites collapse."

Source: Leo Lewis, Times Online, March 19, 2008.

Daisaku Ueno (Nomura): Yen intervention on the cards?
"The sharp strengthening of the yen has prompted talk of intervention by the Japanese authorities to stem the currency's advance, says Daisaku Ueno, senior economist at Nomura.

"Mr Ueno sees only a limited likelihood of Japan intervening on its own, as neither the Japanese government nor the Bank of Japan has adopted policies aimed at stimulating the economy. He adds that any impact from selling the yen to buy the dollar would likely be short-lived as long as the US continues to cut interest rates while Japan holds its rates steady.

"But he says the possibility remains of a co-ordinated international response if the dollar's weakness intensifies. 'The recent acceleration in the dollar's decline has lifted US inflation expectations, raising concerns of reduced leeway for US monetary policy,' he says.

"'If the dollar were to weaken further, we think attention would increasingly focus on co-ordination of monetary policy as well as whether the dollar appears headed for a steady recovery.'"

Source: Daisaku Ueno, Nomura (via Financial Times), March 19, 2008.

Richard Russell (Dow Theory Letters): Ride the gold bull
"What would be the reaction of the world's central banks be to deflation or even a slowdown? My guess is that they'll fight those trends tooth and nail. They'll fight it by creating more fiat money. You remember my old adage, my old warning - 'INFLATE or DIE'. I think that's where we're heading or maybe where we are.

"How will this affect gold? It should put bearish short-term pressure on gold and bullish long-term pressure on gold. Gold's first reaction to deflation? We're seeing it now, and the direction is down (besides, gold was technically overbought anyway). Gold's later reaction to central bank massive creation of paper - upward pressure on gold.

"I've been a bull on gold ever since 1999, and I've never tried to time the moves. My theme song has been: 'Ride the gold bull and don't let it buck you off', and so far that's been the way to go. I've always maintained that the hardest thing to do in this business is to get into a bull market early, stay with that bull market, and ride it to somewhere near its final top.

"I don't believe we've seen the phase of frantic global gold-buying yet. That phase, I'm convinced, lies ahead. The gold bull market should wind up with some eye-opening fireworks. It should end up in a state of speculative fever. Or as my old-timer subscribers remember, 'There's no fever like gold fever.' Believe me, we haven't seen the gold-fever yet - at least not during this bull market."

Source: Richard Russell, Dow Theory Letters, March 18 & 20, 2008.

MarketWatch: $2,000 an ounce gold is in the cards
"Frank Holmes, chief executive officer at US Global Investors, says that gold will hit $2,000 an ounce and that while the move won't be straight there from current levels investors should not be surprised by it.

"Holmes noted that virtually all commodities have gone through their 'inflation-adjusted 1980 price levels', with the notable exception of gold, and that to get to that range the price of gold would have to top $2,000 an ounce. Holmes said he expects a short-term pull-back in gold - based on a correction he sees coming in oil and a short rally in the dollar, both of which will impact gold prices - but that the long-term trend will be strongly upward.

"In a radio interview with Chuck Jaffe, MarketWatch senior columnist, Holmes noted that gold correlates to the price of oil 90% of the time - meaning it moves with oil prices almost all the time - and has an inverse relation to the dollar 70% of the time. With oil prices on the rise and the dollar weakening, it's a market condition that bodes well for gold, especially because gold is 'not at astronomical levels yet, when compared to other commodities ... There's a lot more room.'

"Holmes also noted that he's more concerned with the market entering a 'big deflationary cycle' than he is about Federal Reserve rate cuts sparking inflation, noting that 'inflation is easy to stop'.

"Holmes recommended that investors looking for a plan to follow through the current whipsaw conditions should take a long-term approach that divides a portfolio as follows: 25% in international investments, 25% in resources, 25% in domestic stocks and 25% in high-income and dividend-paying stocks."

Source: MarketWatch, March 18, 2008.

David Fuller & Eoin Treacy (Fullermoney): Commodities susceptible to medium-term corrections
"Commodity price headlines again today but this time for not maintaining record highs. I do not think that it has much to do with a global slowdown, which is mainly in the west. However I do think deleveraging is a big factor. A number of the better hedge funds with a global brief have done very well in commodities, as have many individual investors who have profited from commodities ...

"To risk a brave contrarian call today, I think many commodities, great secular theme that they undoubtedly are, have run ahead too quickly during the frenzy to buy the one sector with upside momentum. Those that have accelerated the most are increasingly susceptible to medium-term corrections, which I would describe as anything from a few months to two years.

"Undeniably, billions have flowed into commodities over the last few months, but given recent action, at least some of that money is being taken off the table. Additionally, the US dollar is looking quite oversold and ripe for a technical rally. This could encourage investors to go elsewhere in search of returns."

Source: David Fuller & Eoin Treacy, Fullermoney, March 17 & 19, 2008.

Richard Russell (Dow Theory Letters): Commodities topping out?
"One very negative development that I see is the potential topping out of commodities and materials. This provides early hints of a world slowdown in commerce and activity. Below we see a daily chart of Dr. Copper, long considered a barometer of global activity, since copper is used worldwide in almost everything that's manufactured. Note the rolling over of MACD on the chart below. Copper could be topping out. If so, that's not good, not good at all."

Source: Richard Russell, Dow Theory Letters, March 19, 2008.

John Hussman (Hussman Funds): Cyclicality in commodity prices to remain
"... the main downside risk for commodities is likely to emerge after the year-over-year CPI inflation rate falls below 10-year Treasury bond yields. We are not at that point, so my impression is that further weakness in the dollar will help to sustain commodity prices despite growing evidence of a recession (which we view as baked-in-the-cake).

"Still, it is again important to emphasize that commodity prices are cyclical, and there is no reason to believe that this has changed despite demand from China and other developing countries. We may observe higher levels of commodity prices in the years ahead, but cyclicality - the tendency for commodities to experience parabolic advances followed by precipitous drops - is likely to remain a feature of these markets."

Source: John Hussman, Hussman Funds, March 17, 2008.

Bill King (The King Report): Chinese behind commodity dump?
"On Wednesday, the market teemed with rumors and rationales for the commodity dump. We noted in Tuesday's missive that China Premier Wen Jiabao vowed to move against inflation. Except for gold and oil, commodities rolled over a week ago. Who and what was Wen signaling?

"For the past few years, China has adroitly played commodities. When prices surge too far, particularly copper, a Chinese official makes inflation warnings or issues policy directives aimed at curtailing inflation. This forces leveraged speculators out of commodities and gives the Chinese a later opportunity to keep building their strategic commodity reserves at better prices."

Source: Bill King, The King Report, March 20, 2008.

Reuters: China buyer defaults on US soy as CBOT slumps -trade
"Word that a Chinese buyer had defaulted on the purchase of a US soy cargo has stoked concerns that more defaults may occur, as international prices of oilseeds and vegetable oils slide from record highs early this month.

"'There has been a default on an expensive soy by a small player in Shandong. This has been confirmed,' said a senior trader at an international house. The trader added there had been some defaults on soyoil and possibly as much as 150,000-200,000 tonnes of palmoil."

Source: Nao Nakanishi, Reuters, March 19, 2008.

Minyanville: Fashionomics point the way
"Economists use an array of tools to forecast where the economy is headed - like hair length and hem lines. Whether the trends are bullish or bearish, Hoofy and Boo reveal what the latest fashions mean for finance."

Source: Minyanville

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Back to Part I

Dr Prieur du Plessis
investmentpostcards.com

With 25 years' experience in investment research and portfolio management, Dr Prieur du Plessis is one of the most experienced and well-known investment professionals in South Africa. More than 1 000 of his articles on investment-related topics have been published in various regular newspaper, journal and Internet columns. He also published a book, Financial Basics: Investment, in 2002.

He holds the following degrees: BSc (Quantity Surveying) (Cape Town), HonsB (B & A) (cum laude) (Stellenbosch), MBA (cum laude) (Stellenbosch); and DBA (Doctor of Financial Management) (Stellenbosch).

Prieur is chairman of the Plexus group of companies, which he founded in 1995. Previously he was general manager: portfolio management at Sanlam, responsible for the management of investment portfolios with total assets in excess of $5 billion.

Plexus is a pioneer in the mutual fund industry and has achieved a number of firsts under Prieur's leadership. These include the authoritative Plexus Survey, a quarterly analysis of the consistency of the performance of unit trust management companies, the Plexus Offshore Survey, the Plexus Unit Trust Indices, and the PlexCrown Fund Ratings.

Plexus is the South African partner of John Mauldin, American author of the most widely distributed investment newsletter in the world, and also has an exclusive licensing agreement with California-based Research Affiliates for managing and distributing its enhanced Fundamental Index™ methodology in the Pan-African area.

In 2001 Prieur received the Santam/AHI Business Leader of the Year award for corporate leadership, business acumen and entrepreneurial flair. He was also profiled in the book South Africa's Leading Managers (2006). Plexus received the AHI/Old Mutual Enterprise of the Year award in 1997 and was also included in the book South Africa's Most Promising Companies (2005).

Prieur is 52 years old and lives with his wife, TV producer and presenter Isabel Verwey, and two children in Welgemoed, Cape Town. His recreational activities include long-distance running, motor cycling and reading. He belongs to the Cape Town Club, Johannesburg Country Club, Gordon's Bay Yacht Club and Swiss Social & Sports Club.

Copyright © 2008 Dr Prieur du Plessis

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