Words from the (Investment) Wise for the Week That Was (September 21 - 27, 2009): Part II

By: Prieur du Plessis | Sun, Sep 27, 2009
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Chart of the Day (Clusterstock): The Option ARM Armageddon
"The Option Arm Armageddon was supposed to strike in the spring of 2009. Across the country, option adjustable-rate mortgages (ARMs) were set to detonate and start a new wave of foreclosures.

"But it never happened. We made it well past when this chart from Credit Suisse showed the option ARMs were supposed to begin to hit. And the crisis didn't come.

"Why not? Well, when interest rates dropped to historically low levels as the Fed fought the financial crisis, the wave of resets was held off. Unfortunately, low interest rates won't last forever - they'll now likely strike next year and continue well into 2011. Many borrowers who now have the option of making payments so low that they don't even cover the interest are seeing their original loan balance grow, even as their home values continue to fall or remain flat.

"The chart below shows that the option ARM reset problem is comparable to the subprime problem, and will likely last for quite some time. Armageddon may have been forestalled but it hasn't been overcome."

Source: John Carney and Kamelia Angelova, Clusterstock - Business Insider, September 21, 2009.

The Huffington Post: Landmark decision promises massive relief for homeowners and trouble for banks
"A landmark ruling in a recent Kansas Supreme Court case may have given millions of distressed homeowners the legal wedge they need to avoid foreclosure. In Landmark National Bank v. Kesler, 2009 Kan. LEXIS 834, the Kansas Supreme Court held that a nominee company called MERS has no right or standing to bring an action for foreclosure. MERS is an acronym for Mortgage Electronic Registration Systems, a private company that registers mortgages electronically and tracks changes in ownership.

"The significance of the holding is that if MERS has no standing to foreclose, then nobody has standing to foreclose - on 60 million mortgages. That is the number of American mortgages currently reported to be held by MERS. Over half of all new US residential mortgage loans are registered with MERS and recorded in its name. Holdings of the Kansas Supreme Court are not binding on the rest of the country, but they are dicta of which other courts take note; and the reasoning behind the decision is sound.

"The development of 'electronic' mortgages managed by MERS went hand in hand with the 'securitization' of mortgage loans - chopping them into pieces and selling them off to investors. In the heyday of mortgage securitizations, before investors got wise to their risks, lenders would slice up loans, bundle them into 'financial products' called 'collateralized debt obligations' (CDOs), ostensibly insure them against default by wrapping them in derivatives called 'credit default swaps', and sell them to pension funds, municipal funds, foreign investment funds, and so forth.

"There were many secured parties, and the pieces kept changing hands; but MERS supposedly kept track of all these changes electronically. MERS would register and record mortgage loans in its name, and it would bring foreclosure actions in its name. MERS not only facilitated the rapid turnover of mortgages and mortgage-backed securities, but it has served as a sort of 'corporate shield' that protects investors from claims by borrowers concerning predatory lending practices."

Click here for the full article.

Source: The Huffington Post, September 25, 2009.

Bloomberg: Card defaults surge in August
"US credit-card defaults rose to a record in August and more losses may lie ahead as delinquencies climbed for the first time since March, according to Moody's Investors Service.

"Write-offs rose to 11.49% from 10.52% in July, Moody's said today in a report. Loans at least 30 days delinquent rose to 5.8% from 5.73%. 'Early- stage' delinquencies, or loans overdue 30 to 59 days, surged to 1.65%, from 1.41%, signaling higher losses in coming months. Banks typically write off loans after 180 days.

"Card issuers have struggled with rising defaults as the recession drove up unemployment to 9.7% and the impact of income tax refunds waned. Credit-card defaults typically track the US jobless rate since consumers tend to fall behind on payments when their income dries up.

"'We continue to call for a recovery of the credit-card sector to begin once industry average charge-offs peak in mid-2010 between 12% and 13%," said the Moody's report, which predicted unemployment may reach 10.5%."

Source: Peter Eichenbaum, Bloomberg, September 23, 2009.

MoneyNews: Wave of commercial property defaults ahead
"Once flourishing commercial property sales are expected to hit their lowest point in almost two decades this year, and analysts say the growing loan default rate may significantly lower gains in real estate investment shares.

"'There's no real way to sugarcoat it,' Real Capital Analytics managing director Dan Fasulo told Bloomberg.

"'A slowdown of this magnitude certainly hasn't occurred since I've been in the business.'

"'Some of the older folks in the industry I talk to said it has a similar feel to the early '90s, when transaction activity went to basically zero.'

"The volume of office sales in the second quarter was 97% less than the market's peak in the first three months of 2007, according to Real Capital, whose data indicates that only about $16 billion of sales for office buildings will complete by year's end.

"Moreover, fewer transactions make it more difficult for buyers and sellers to agree on prices, which in turn makes lenders less able to find the comparable transactions they need in order to evaluate loan worthiness.

"Returns on office investments this year have been running almost 1% higher than for moderate-risk long-term corporate bonds.

"Most commercial property mortgages made within the last few years are headed for default, says real estate financier Ethan Penner.

"'For anything originated after 2005, the chances of those loans going into default are very high,' Penner told The Dallas Morning News.

"'A large majority of the loans originated in this period will ultimately go into default.'"

Source: Julie Crawshaw, MoneyNews, September 17, 2009.

Financial Times: European property groups face debt time-bomb
"European commercial property owners face a wave of complex debt refinancings and restructurings that pose a threat to the sector, according to bankers and industry groups.

"Senior bankers and industry representatives in the UK used a meeting with the Bank of England in the summer to highlight the problems caused by billions of pounds worth of debt that needs to be refinanced or has breached banking agreements.

"They are particularly concerned about the amount of European debt packaged in complex bonds, known as commercial mortgage-backed securities (CMBS), where restructuring has proved especially difficult and highlighted this issue to the Bank for the first time.

"The group, which includes senior bankers and representatives from the British Property Federation, the Royal Institution of Chartered Surveyors and the Investment Property Forum, believes the CMBS market remains important to the property sector.

"It discussed with the Bank whether a central bank guarantee could be used to underpin the debt issued, or whether the real estate investment trust market could be used by banks to offload their loans.

"There is mounting concern among industry professionals about how to restructure or refinance the $2,100 billion of European commercial property loans, in particular the $200 billion in CMBS.

"A report from the UK industry group that met with the Bank highlighted that the UK commercial property sector could be in negative equity until 2017 and undercapitalised by up to £120 billion ($195 billion) based on current conservative banking refinancing terms.

"Close to £43 billion of loans to the commercial property sector are due for repayment this year alone, according to De Montfort University research.

"Half of the outstanding European CMBS market needs to be repaid in 2011 and 2012, and CMBS in default have already proved difficult to restructure.

"'The amount of outstanding CMBS that need to be refinanced poses an absolutely huge problem, which is waiting to hit the market,' said Edmund O'Kelly, head of real estate restructuring at KPMG. 'A lot of the technology for creating the structures was imported from the US, but they have never been tested in Europe. Restructuring CMBS is unchartered territory.'"

Source: Anousha Sakoui and Daniel Thomas, Financial Times, September 20, 2009.

Financial Times: Financial groups hit by surge in loan losses
"The US financial sector's losses on large loans exploded over the past year, exceeding the combined losses since 2001, with hedge funds and other members of the 'shadow banking system' hit the hardest, official figures revealed on Thursday.

"Regulators' annual review of 'shared national credits' - loans larger than $20 million shared by three or more federally regulated institutions - highlighted the toll taken by the crisis on financial groups outside the traditional banking sector.

"More than one in three dollars lent by non-bank institutions such as hedge funds, securitisation vehicles and pension funds, went sour, according to the figures, compared with 11.5% for US banks.

"The results will increase fears that, in spite of a recovery in the shares and balance sheets of many banks, the epicentre of the crisis has moved to the hedge funds and investors that gorged on cheap credit in the run-up to the turmoil.

"The importance of these non-bank institutions was underlined by the review's finding that they held 47% of problem loans, in spite of accounting for only 21.2% of the total loan pool.

"Overall, the US financial sector's losses on loans in early 2009 reached a record of $53 billion, almost triple the previous high in 2002.

"The number of loans edging into the danger zone has also surged.

"Some 15% of the $2,900 billion SNC portfolio was classified as 'substandard' - the second of the four categories used by regulators - and worse, up from 5.8% in 2008.

"The pace at which loans got into serious trouble accelerated significantly. The dollar volume classed as 'doubtful' or loss-making increased 14-fold over the past year to $110 billion. 'Doubtful' loans are so weak that collection or liquidation is highly improbable."

Source: Sarah O'Connor and Francesco Guerrera, Financial Times, September 25, 2009.

Financial Times: Liquidation of CDOs aids banks
"Billions of dollars' worth of the complex securities at the heart of the financial crisis are being liquidated, enabling banks, insurance companies and other investors to clear toxic assets from their books.

"Market participants say the unwinding is occurring in the market for collateralised debt obligations (CDOs), complex securities backed by the payments on mortgages, corporate loans and other debt.

"Hundreds of billions of dollars of CDOs have defaulted, but the structures can only be liquidated if the underlying collateral can be sold. In recent weeks, more investors have been buying the underlying assets at deep discounts, leading to increased trade and boosting prices for some existing CDOs.

"'There has been a significant increase in the amount of CDO liquidations,' said Vishwanath Tirupattur, analyst at Morgan Stanley. 'The rally across asset classes has given investors an incentive to liquidate.'

"CDOs were one of the main vehicles through which risky US mortgages were repackaged and sold to investors around the world. Much of their value was wiped out amid a wave of defaults on subprime mortgages. The inability to sell or unwind complex securities such as CDOs was one of the prime problems of the financial crisis. Now, the option to sell these so-called toxic assets is re-emerging. 'For a long time it may have made sense for investors to liquidate CDOs, but this was not possible when there was no market for the underlying collateral,' said Ed O'Connell, partner at Jones Day.

"The recent rally has been particularly marked for CDOs backed by corporate bonds and loans. Of the more than $500 billion of CDOs backed by asset-backed securities sold in the boom years, $350 billion have already experienced an 'event of default'.

"Once that happens, the holders of the top tranches, those once rated triple A, can opt to liquidate the CDO. This involves selling off the collateral. CDOs backed by corporate loans are now trading at levels last seen nearly a year ago, shortly after the bankruptcy of Lehman Brothers. Morgan Stanley estimates about $123 billion of these defaulted CDOs have been liquidated."

Source: Aline van Duyn, Financial Times, September 21, 2009.

Financial Times: BofA to pay $425 million over toxic assets
"Bank of America agreed late on Monday to pay $425 million to federal regulators to extricate itself from an agreement struck last December to protect the bank against $118 billion worth of toxic assets, most of which came from Merrill Lynch.

"The decision to pay the money to the US Treasury, the Federal Reserve and the Federal Deposit Insurance Corporation brings an end to one of BofA's financial entanglements with its overseers at a time when the bank is also trying to pay back $45 billion in funds to the troubled asset relief programme.

"The loss-protection agreement was part of a deal struck in December after Ken Lewis, BofA chief executive, told Hank Paulson, the then Treasury secretary, that he wanted to invoke a 'material adverse change' clause to abort his planned acquisition of Merrill Lynch.

"Mr Paulson, along with Ben Bernanke, the Federal Reserve chairman, encouraged Mr Lewis to proceed with the deal, and provided $20 billion in funds, on top of the $25 billion already earmarked for BofA and Merrill, to make sure the transaction was consummated. On top of the money, the regulators gave BofA a guarantee on $118 billion worth of troubled assets.

"BofA did not formally sign a contract for the ringfence protection and in May decided against entering into the insurance programme. For the past three months, the bank has been in negotiations with federal officials to determine the fair value of the perceived insurance provided by the guarantee.

"Meanwhile, the US Securities and Exchange Commission said it would consider adding charges to its lawsuit against BofA for allegedly failing to give investors details on executive bonuses."

Source: Greg Farrell, Financial Times, September 22, 2009.

MoneyNews: Foreigners snapping up Treasuries, still
"While foreign investors such as China have threatened for months to dump Treasuries they are instead grabbing every last one they can get their hands on.

"Foreigners have purchased 43.1% of the $1.41 trillion of Treasury notes and bonds issued so far this year, compared with 27.1% of the $527 billion issued at this point in 2008, government figures show, Bloomberg reports.

"The Merrill Lynch Treasury Master Index of US securities returned 1.18% in the third quarter after the worst first half on record. Demand at Treasury auctions from the investor group, which includes central banks, surged to record heights.

"China is the biggest foreign owner of Treasuries, making net purchases of $24.1 billion in July and raising the country's Treasury holdings 3.1% to $800.5 billion, the latest official data show.

"China's Treasuries kitty has gained 10% this year, after a 52% jump last year.

"'The interest rate on long-term Treasury bonds is at a very low level by historical standards,' David Dollar, the Treasury Department's economic and financial emissary to China said at a recent conference. 'That says that the market has confidence the U.S. will get the fiscal problem under control.'"

Source: Dan Weil, MoneyNews, September 24, 2009.

Bespoke: International equity market snapshot
"Below we provide our unique trading range charts for major country indices. For each index, the light blue shading represents between one standard deviation above and below the 50-day moving average. When the price is within this trading range, it is considered to be in 'neutral' territory. The red zone represents between one and two standard deviations above the index's 50-day moving average. Moves into or above the red zone are considered 'overbought'. Moves into the green zone (more than one standard deviation below the 50-DMA) are considered 'oversold'.

"With the exception of a few Asian countries, most indices are trading into overbought territory. China's Shanghai Composite is the only index trading below its 50-day moving average. Australia, Brazil, South Korea, Taiwan, the UK, and the US look to be the most overbought of the bunch. After trading in perpetual downtrends for nearly all of 2008 and the first few months of 2009, most countries have now been trading in solid uptrends for five months now, with only a brief pullback here and there. Brazil, China, Hong Kong, India, Malaysia, Mexico, Singapore, Sweden, Spain, South Korea, and Taiwan have all taken out their 52-week highs in recent months, while the rest still have a bit further to go."

Source: Bespoke, September 21, 2009.

Bespoke: Investors get back $18.31 trilion
"Below we highlight the total market capitalization of stocks both globally and in the US. At its peak in 2007, total world market cap was $62.57 trillion. By the lows this March, world market cap had dropped to $25.6 trillion! That's a loss of $36.97 trillion in stocks globally. Since the March lows, however, world market cap has risen $18.31 trillion back up to $43.9 trillion.

"In the US, market cap has risen $4.88 trillion from its low of $8.09 trillion in March. The peak in total US stock market value was $19.14 trillion in 2007, and the current value of all US stocks is $12.97 trillion. The US accounts for 29.5% of total stock market value in the world."

Source: Bespoke, September 21, 2009.

David Fuller (Fullermoney): Riding the stock market bull
"I maintain that we are still in the comparatively early stages of the second psychological perception stage of a bull market, characterized by the 'wall of worry'. This stage is often longer than its predecessor - disbelief during the base building phase, or the final euphoria during an accelerated peak. Today, many investors are still nervous, not least as we have yet to pass the anniversary of last October's low, when most of today's leaders bottomed.

"Today, I am not more bullish than earlier in the year when China and other favorites were so clearly leading the base formation development and completion stage. After all, the low hanging fruit in terms of valuation bargains has already been harvested. Nevertheless, momentum bull phases should not be underestimated, especially when interest rates remain low and monetary policy is still accommodative. Also, the earnings growth phase of this bull cycle lies ahead of us and this will be more robust in Asia than most other regions of the globe.

"As investors we need to remember that due to the human element, markets are much more volatile than changes in underlying fundamentals. Over the last year we have seen astonishing fundamental changes and even more dramatic price moves. We are moving into a period when fundamental surprises should be mainly to the upside, not least due to year-on-year comparisons for 4Q 2009 and 1Q 2010. Once again, this should favour Asia, export and some consumer stocks excepted.

"Meanwhile, investors will recall that even bullish momentum moves are sometimes punctuated by sudden reactions and consolidations. These may be triggered by a temporary news item or they may be random. It is difficult to time setbacks in an overall bullish environment although they are usually proceeded by overextensions relative to a mean such as the 200-day moving average. Mean reversions within an overall upward trend ... are usually buying opportunities.

"The next significant danger period for investors is unlikely to arrive until a few months after leading central banks have clearly signaled their intent to tighten monetary policy. Today, we hear plenty of discussion as to when this might occur but policies remain accommodative."

Source: David Fuller, Fullermoney, September 22, 2009.

Eoin Treacy (Fullermoney): Monetary conditions remain accommodative
"Interest rates have fallen about as low as they can go in the US and Japan and are only slightly higher in the UK and Europe. Most countries are now signalling that their next move will be upwards. However, this is not an immediate threat and central banks are only beginning to examine how stimulus can responsibly be removed. The process by which central banks are bailing out their respective financial sectors via the yield curve has been a tailwind for most stock and commodity markets.

"If we examine spreads between 10yr and 2yr yields across a range of countries a very similar pattern emerges. Spreads in the US, Eurozone, Canada and Switzerland are all close to historic highs. The corresponding spread for the UK is at new 17-year highs and continues to advance.

"These spreads clearly illustrate the loose monetary conditions permeating the global economy. These extraordinarily loose conditions will not last interminably and the current strong tailwind provided to risk assets will decrease over time. However, it will not turn into a significant headwind until the next time these spreads invert, with moves below 0%. When this occurs, it will be a warning that we are in the latter stages of what remains likely to be a multi-year stock market advance.

"No significant uptrend unfolds in a straight line. We can expect occasional corrections along the way. However, as long as monetary conditions remain accommodative, these are likely to be good medium-term buying opportunities."

Source: Eoin Treacy, Fullermoney, September 24, 2009.

MoneyNews: Rosenberg - stocks vastly overvalued
"Economist David Rosenberg says the stock market has way overdone it on the upside.

"The Standard & Poor's 500 Index has soared 60% from its March low.

"The S&P is at a level that should be reached in the third year of recovery from a recession, Rosenberg, chief economist at Gluskin Sheff & Associates Inc. in Toronto, told Bloomberg.

"'The market is being really fueled here by technicals and momentum,' the former chief North American economist for Merrill Lynch said.

"'It has overshot the fundamentals. I'm a little nervous, at least over the near-term.'

"Earnings for companies in the S&P 500 Index have fallen for a record eight straight quarters and will probably plunge 22% in the current period before growing 62% in the final three months of 2009, according to the average estimate of analysts surveyed by Bloomberg.

"Stock prices have surged to levels equal to almost 20 times reported earnings from continuing operations, the highest level in five years, according to weekly data compiled by Bloomberg.

"'The fair multiple for earnings should be 12 or 13,' Rosenberg said. 'We've blown right through that.'

"Rosenberg isn't the only bear.

"'We think the market ... is due for a pullback or setback only because it's gone so far and economic growth cannot go so far,' says Bill Gross, chief investment officer at bond giant Pimco, told CNBC."

Source: Dan Weil, MoneyNews, September 22, 2009.

MoneyNews: Odey - stock market bubble forming
"Stock markets are now 'entering a bubble phase' which could last until the end of the year, says high-profile hedge fund manager Crispin Odey.

"Odey, founding partner at Odey Asset Management and one of the first investors to call a possible bull market early this year, said quantitative easing had fuelled the bubble but said real assets still appeared cheap compared with cash and government bonds, prompting investors to rush in.

"'At some point the quantitative easing will have to come to an end but until it does this bull market is sponsored by HMG (Her Majesty's Government) and everyone should enjoy it,' the London-based manager said in a note to clients."

Source: MoneyNews, September 22, 2009.

MoneyNews: Faber - choose stocks over bonds, cash
"Investment guru Marc Faber sees stocks outperforming cash and bonds as the Federal Reserve's massive monetary stimulus props up the US economy.

"'I think that he (Ben Bernanke) will print (money) like never before in history.' As a result, the Standard & Poor's 500 Index can rise as high as 1,250 in a year, up 17% from midday Wednesday, Faber told Bloomberg.

"'Where there is inflation in the system as defined by money supply growth and credit growth, you have currency weakness. Stocks can easily go higher. If you print the money, they can go anywhere.'

"But the growing US debt burden isn't pretty, he points out. 'You just postpone the problem until the ultimate crisis happens. And that will happen one day. I don't know whether it will be tomorrow or in three years, five years, 10 years. But the next crisis will bring down the entire capitalist system.'"

Source: Dan Weil, MoneyNews, September 24, 2009.

CNBC: Bill gross bearish on stocks
"Bill Gross, of Pimco; Robert Doll, of BlackRock; and Daniel Tishman, of Tishman Construction, share their market insight."

Source: CNBC, September 21, 2009.

Richard Russell (Dow Theory Letters): Stock market rally is tired
"I'm studying the daily chart of the Dow below. RSI appears to have hit the overbought area (70) and has turned down from there. MACD has three declining tops with the blue histograms about to turn negative. The thin red line above volume has been steadily declining, indicating a contracting of volume as the Dow climbed. All this gives me food for thought. The rally is tired. But far more important, is the rally topping out? We should know over the coming two or three weeks."

Source: Richard Russell, Dow Theory Letters, September 24, 2009.

Chart of the Day (Clusterstock): Investor sentiment rebound could be a bearish sign
"42% of individual investors are bullish right now, according to most recent sentiment data from the American Association of Individual Investors (AAII). While investor sentiment has changed dramatically since March, we're still only moderately above the long-term average of 39%.

"The problem is that professional investors are likely to be more optimistic than AAII's investor sentiment, since they became optimistic earlier in the game this year. Overall bullish sentiment could thus be higher once you combine individual investors with these pros.

"The market could be approaching a tricky stage whereby one has to gauge the potential for new bulls to be disappointed versus that for further bears or fence-sitters to capitulate. Given the uncertain times, even moderately above-average bullishness, shown below, could signal a short-term sentiment peak."

Source: Vincent Fernando and Joe Weisenthal, Clusterstock - Business Insider, September 22, 2009.

Bespoke: S&P 500 net new highs
"The S&P 500 closed at another high for 2009 today, but it still remains well below its 52-week high of 1,255 (September 22, 2008). As the market has rallied, we have been watching the number of stocks in the index making new 52-week highs for confirmation of the rally. Even though the number has been relatively low, with each new high in the S&P 500, the number of stocks making new highs has increased. Today [Tuesday], however, was an exception. Even though the S&P 500 closed at a new high for the year, only 5% of the stocks in the index hit a 52-week high. This is down from last week's peak of 7.6% when the S&P 500 was at similar levels. Given that it has only been one day, we wouldn't read too much into this indicator yet, but it certainly warrants watching."

Source: Bespoke, September 22, 2009.

Bespoke: Polar opposites - equities vs US dollar
"While the inverse relationship between the dollar and stocks is well documented, the recent intraday movements of the two assets takes it to another level. The chart below shows the intraday chart of the S&P 500 over the last two days compared to the US Dollar Index on an inverse scale. In other words, a rising red line indicates dollar weakness while a falling red line indicates dollar strength. As shown in the chart, since the Fed's rate announcement yesterday, the dollar's strength has been in exact lockstep with the weakness in equities. Over the last two trading days, the S&P 500's correlation to the US dollar index has been -0.97. You can't get much more negatively correlated than that!"

Source: Bespoke, September 24, 2009.

John Normand (JPMorgan): This is not a currency crisis
"The latest sell-off in the dollar has prompted renewed talk of reserve diversification - but this is not the stuff a currency crisis is made of, says John Normand, global head of FX strategy at JPMorgan.

"'Quantifying reserve diversification is financial alchemy - often attempted and never successful,' he says. 'But there is decent circumstantial evidence that this process has accelerated since June.'

"Mr Normand notes that global foreign exchange reserves are growing at $100 billion a month, while official purchases of US assets are running near $50 billion. 'This sort of divergence is unusual in an environment where rate spreads between the US and the rest of the world are stable,' he says.

"Mr Normand points out that official investors are still sizeable net buyers of US assets, even if the dollar share of total reserve recycling appears to be declining.

"'We could pander to the dollar-crisis camp and claim that this divergence marks the beginning of the end for the dollar and US asset markets where foreign ownership dominates, but that course would be too easy,' he says. 'It would also be wrong.

"'The dollar crisis scenario still looks low-probability for the next three to six months since the US manages to attract a high absolute level of official financing, even though the US's relative share of global reserves may be declining.'"

Source: John Normand, JPMorgan (via Financial Times), September 22, 2009.

Ambrose Evans-Pritchard (Telegraph): HSBC bids farewell to dollar supremacy
"'The dollar looks awfully like sterling after the First World War,' said David Bloom, the bank's currency chief.

"'The whole picture of risk-reward for emerging market currencies has changed. It is not so much that they have risen to our standards, it is that we have fallen to theirs. It used to be that sovereign risk was mainly an emerging market issue but the events of the last year have shown that this is no longer the case. Look at the UK - debt is racing up to 100% of GDP,' he said

"Crucially, China and rising Asia have reached the point where they can no longer keep holding down their currencies to boost exports because this is causing mayhem to their own economies, stoking asset bubbles. Asia's 'mercantilist mindset' of recent decades is about to be broken by the spectre of an inflation spiral.

"The policy headache was already becoming clear in the final phase of the global credit boom but the financial crisis temporarily masked the effect. The pressures will return with a vengeance as these countries roar back to life, leaving the US and other laggards of the old world far behind.

"A monetary policy of near zero rates - further juiced by quantitative easing - is completely incompatible with circumstances in most of Asia, the Middle East, Latin America, and Africa. Divorce is inevitable. The US is expected to hold rates near zero through 2010 to tackle its own crisis.

"What is occurring is an epochal loss in the relative wealth and economic power of the old G10 bloc of rich countries compared to rising regions of the world. The euro, yen, sterling, Swiss franc and other mature currencies will be relegated along with the dollar in this great process of rebalancing, but the Greenback will bear the brunt.

"The Fed's super-loose policy is turning the dollar into the key funding currency for the next phase of the global 'carry trade', taking over the role of Japan during its period of emergency stimulus.

"Mr Bloom said regional currencies would emerge as the anchor for their smaller trading partners, with China, Brazil, or South Africa substituting the role of the US. Australia is already linking its fortunes to China through commodity ties."

Source: Ambrose Evans-Pritchard, Telegraph, September 20, 2009.

Yahoo Finance: IMF approves sale of some of its gold
"The International Monetary Fund approved on Friday the sale of a limited amount of its gold to help provide loans to poor countries and shore up its finances.

"The fund's executive board said it decided to sell 'a volume strictly limited to 403.3 metric tons' - one-eighth of its holdings - in a way that does not disrupt the sale of gold in commodity markets, which already were expecting the sale and discounted the IMF decision.

"The IMF, a 186-nation Washington-based lending organization, is the third-largest official holder of gold in the world, with 3,217 metric tons, after the United States and Germany.

"The board said the IMF could sell its gold directly to its members' central banks if any were interested or it could put the gold on the open market in phases.

"China, India and Russia have indicated interest in such purchases as a way of reducing their position in dollar-denominated securities and increasing their role in IMF operations. These countries and other developing nations have complained the IMF is dominated by the United States, its largest shareholder, and European nations.

"If the gold is sold on the open market, the IMF said it would inform these markets before any sale begins and report regularly to the public on the progress of gold sales.

"The IMF said it also would coordinate its sales with major central banks, who agreed last month on ceilings of gold sales amounting to 400 tons annually and 2,000 tons in total over five years.

"'Hence, on-market sales by the fund will not add to the announced volume of official sales,' the IMF said.

"The head of the IMF, Dominique Strauss-Kahn, expressed satisfaction with the board's decision.

"'I am delighted the executive board has given its overwhelming backing to a strictly limited sale of fund gold to put the finances of the IMF on sound, long-term footing and enable us to step up much-needed concessional lending to the poorest countries,' he said."

Source: Harry Dunphy, Yahoo Finance, September 18, 2009.

James Lord (Capital Economics): Baltic fall reflects China demand
"The recent sharp fall in the Baltic Dry Index is in part due to an increase in shipping capacity, but primarily reflects waning demand for commodities - especially in China, says James Lord at Capital Economics.

"'The BDI, which has almost halved since the start of June, reflects the cost of hiring a bulk cargo ship and as such is often seen as an indicator of the health of the global economy.

"'But we think the BDI's drop is due to conditions specific to the shipping industry and to China's reduced commodity stockpiling,' Mr Lord says.

"He notes that orders for new ships rose sharply during the boom years for the global economy - and as it takes up to two years to build these craft, many have only recently become available for lease.

"'However, the supply of new ships began to rise in January - well before the recent correction in shipping costs,' he says. 'We therefore believe the main driver of the recent BDI decline has been falling Chinese stockpiling of commodities.'

"Mr Lord says the global upswing may continue to underpin commodity prices for a while even though Chinese demand has tapered off. 'However, commodity markets have already priced in a strong recovery. We expect global growth to slow in the second half of 2010 - and as such we see commodity prices falling next year.

"'Indeed, the recent fall in the BDI may be an early warning sign.'"

Source: James Lord, Capital Economics (via Financial Times), September 24, 2009.

Bespoke: DOE US crude oil inventories
"In this morning's [Wednesday] weekly energy inventory report from the Department of Energy, crude oil stockpiles are expected to show a decrease of 1,400 barrels of oil. In the chart below, we compare the current inventory levels with the overall average since 1984. Even though oil is up more than 60% this year, inventory levels remain well above their long-term average. Just to get back to average, we would need to see a decline of nearly 15 million barrels."

Source: Bespoke, September 23, 2009.

Financial Times: New Zealand climbs out of recession
"The New Zealand economy grew in the second quarter for the first time since the end of 2007 marking the end of a prolonged recession.

"Gross domestic product rose by 0.1% in the June quarter - after five consecutive quarters of contraction.

"The quarterly rise surprised the market which was expecting a 0.1% contraction. News that the nation was emerging from a recession pushed the New Zealand currency to a 2009 high of 72.85 US cents.

"According to Helen Kevans, economist with JPMorgan, second quarter GDP growth would have been much stronger had inventories not dropped so sharply. The NZ$1.1 billion (US$792 million) plunge in inventories in June was the largest on record and took 2.3 percentage points away from GDP growth.

"Demand for exports was met with existing stock, according to Statistics New Zealand, but lower imports and a fall in manufacturing were also responsible for the dramatic fall. But Ms Kevans says the run down of inventories is positive for GDP growth in coming quarters as businesses will need to replenish stock as global demand picks up

"Export volumes rose 4.7% thanks to a surge in shipments of dairy products, forestry and logging. Import volumes dropped 3.8%.

"Although inventories were a drag on economic growth in the June quarter there were some encouraging signs. Household spending was up 0.4% on the back of record low interest rates, heavy discounting among the nations retailers, strong migration flows, and signs of recovery in the domestic housing market.

"Gross fixed capital formation rose 0.1% buoyed by investment in 'other' fixed assets, while investment in residential building remained weak as expected. Business investment was surprisingly firm, rising 1.3% despite credit constraints and tighter lending standards."

Source: Elizabeth Fry, Financial Times, September 23, 2009.

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Prieur du Plessis

Author: Prieur du Plessis

Dr Prieur du Plessis

Dr Prieur du Plessis

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.

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