2007 Forecast Issue
In this issue we will be covering Global Stock Markets, interest rates, commodities, currencies, and what we believe to be the issues confronting these markets for the year. It is a tricky game this year, as so many things unfolding in the financial and economic world have not been seen in history. Creative finance, which many call innovation, is writ large across all markets. And the extraordinary breath is simply impossible for the mind to grasp in many areas.
Global Bond Market Conundrum Set To Be Resolved.
Commodities Are Still A Go.
Currencies Are the Battlegrounds For Global Governments.
Inflation And Wages Set To Soar, Money Supplies Are Now Out Of Central Bank Control.
In news coverage worldwide we hear of the generous global liquidity conditions, and the goldilocks economies they foster. And liquidity is abundant. The fractional banking system which allows a bank to take in $100, 100 British pounds, yen etc. and loan out 1000 to 3000 to borrowers is partially the culprit as reserve requirements have now shrunk to very small levels. And I have covered the Global central banks money and credit creation, which are on a runaway path to be sure.
Looking around the world, from the G-8 to the emerging markets and BRICS (Brazil, Russia, India, China) we can see rates of currency and credit growth ranging from 9.8% to 50% almost anywhere we look. On a compounded basis it equates doubling the money in circulation on anywhere from a 2 to 6 year basis depending on the country you are reviewing. How can currency in circulation double in 2 or 6 years and avoid prices on goods and services from doing the same? Inflation is the elephant in the room as governments worldwide provide a chorus of lies, which they feed to the public. So they can buy the publics support in the next election with their easy money policies. It is set to continue ad infinitum until something derails the Bread and Circuses routines of the policy makers.
But what is more troubling is that money and credit creation is now outside the central banks control, and is expanding on an almost geometric scale. Alan Greenspan has praised the new world of derivatives, and how because of securitization and creative finance such as Collateralized debt obligations (mortgages, car loans, real estate development, insurance obligations, etc.), Credit default swaps (insurance policies for bond and debt holders), risks can now be spread more widely which creates a more stable environment for financial markets. But now banking and financial companies have developed ways to create money out of thin air by buying and selling, and repackaging these instruments over and over and over again. Since 2000 the growth of these products has grown any where from 15 to 50% per year on an annualized basis. On a compounded basis it is geometric in nature. Take a look at the chart from figures provided by the Bank of international settlements, times to understand the size of the monster. And a monster it is.
As you can plainly see derivatives now total 800% of Global GDP, Securitized Debt 142 % of Global GDP, these are the purviews of the Independent Financial and Banking institutions I spoke about above. A fifty trillion dollar world economy leveraged 10 to one. MY GOD. The leverage is set to increase. The broad money supplies and central bank power money is reflective of the traditional financial systems we all grew up with. The first two categories (Derivatives and Securitized debt) are almost all accumulated over the last ten years. So....
Stocks Set To Soar, With Air Pockets Along The Way.
In the last issue we showed the footprints of the worlds stock markets, and the mirror like quality of the images we viewed. With the Big Banks and Financial institutions in the developed world in an orgy of profiteering, money and credit creation, and institutional profits at record highs. We can look to 2007 for more of the same. Financial Paper (bonds, currencies, financing for mortgages, private equity financing, Mergers and acquisitions, stock buy backs, etc. is abundant and easy to obtain) is multiplying at rates never before seen in history. This paper has to find a home, and stocks will be one of those places. As we have witnessed a lot of this money is going to emerging markets and they are almost parabolic, but the developed world has joined the party as well. The bull is alive and well.
Many people despaired at the hard pullbacks in emerging markets early in 2007, what did they expect? Those markets were going straight up in a parabola, like a rocket ship since July. At least we need to see orderly advances with corrections along the way or the respective markets will crash during corrective periods. But money, credit, and liquidity are now being created so fast that the vertical climbs are inevitable as stocks and bonds are the investments of choice for the public. The Stock markets from China to Russia to India to Europe are galloping higher. Pullbacks will either be non existent as we can see in the US which has now gone an astounding 3 years without a 10% pullback or a loss of over 2% in a day. Or we will see violent pullbacks that are quickly overcome such as we witnessed in May thru July in the emerging markets. And the governments of those emerging markets are scared. They are very aware that their stock markets are well ahead of themselves, from capital controls in Thailand, to restrictions on new mutual funds in China, they are trying to reign in the enthusiasm and flood of liquidity while keeping the party going.
Look for the same in 2007, the pullbacks will be violent or nonexistent depending on the market you are viewing, but there will be a deep pocket ready to take the positions off the small speculator as he gets killed during hard pullbacks. The biggest risk will be political as politicians try to control something that is out of their grasp ala "Thailand" or Chinese ham handed attempts at controlling something they don't understand. In China the publics appetite for wealth creation is unbelievable, "to get rich is glorious" as they say there. Hundreds of millions of people have been lifted out of poverty by Globalization, they can see it and feel it. From Russia to China, to India wealth is increasing, and they invest that money in stocks. It makes them go, go, go. It is why they work so hard for so little, they want what the West has and are willing to work hard for it.
Global Bond Market Conundrum Set To Be Resolved.
I believe 2007 will be the year that bonds finally break the bull Market that begun when Paul Volker broke the back of inflation in the early Reagan years. With liquidity now the order of the day, whether from the banks or the financial institutions, bonds will come to be seen as the certificates of confiscation that they are. If you hold bonds you want to get your money back! The public is told inflation is low, institutions pension funds and individual savers are doing what they have through history, buying bonds. Only this time it really is different as the opening chart illustrates.
As credit quality has plummeted, yields have collapsed. WHATS WRONG WITH THIS PICTURE? The developed world has moved into "la-la land" as illustrated by the chart above. The industrialized countries have allowed reckless expansion in the financial and banking sectors and we will pay the price for the lack of fiduciary oversight by the governments and their regulators. The Global economy is going "where no man has gone before" like in Star Trek. Industry professionals decry the low premiums emerging market debts command over G 8 Treasuries, but if you look closely, those emerging markets have huge and growing reserves and private sector savings. And growing middle classes. Investors are moving to those markets because they are becoming SAFER, ever heard of someone going broke with a great big savings account? This is a story I will cover in a future missive to you, it is ugly if you are in the US, Japan or Central Europe, and beautiful if you are in the emerging economies.
The yield curve has been inverted for over 6 months in the United States, and we can see some slowing in the second half of the 2006. But nothing will slow down the global money machines illustrated in the chart above, except maybe a global bond market collapse? Think about it, interest rates have been raised 17 times in the since 2003, with nary a blink in expansion. The only thing that will bring an end to the house of cards we see above is an unexpected collapse in Global bond markets. The UK, Australia, European union all are raising rates, but seeing great growth. The explanation is plainly evident in the Chart above. I believe we will see the yield curve widen back to normal levels as the global economy booms on the back of the liquidity creation we see above. Inflation is in the pipeline and set to explode as the money flies off the sideline to protect its worth by being in nonprintable assets which will just reprice in the paper in which its denominated, such as yen, dollars, pounds, Swiss francs etc. Bonds can reprice, but since they are in assets, which are printable. Bonds are vulnerable....
Commodities Are Still A Go.
In 2007 Commodities have undergone a slight pullback as institutions and Commodity related indexes rebalance and rotate their portfolios. Oil is diving but for reasons of Greed, short-term oil is vulnerable, and a buying opportunity in the making. You can also see the fingerprints of the Saudis and Dick Cheney as their most effective weapon against the power of Ahmadinajed in Iran and Hugo Chavez in Venezuela is lower oil prices, robbing these miscreants of the fuel they need to foment international tensions, and pacify their citizenry. Long term it is a huge bull market, as Governments around the world confiscate the reserve holdings of worldwide Oil companies. Pumping crude for short-term money while neglecting the fields themselves. Anyone hear of a national government planning for future production? NO WAY. Venezuela, Iran, Russia, and Middle East oil producers all are neglecting the future to profit more in the present. Do you really think they are investing for future production and growth? They don't know how to do it, there are always more pressing public needs.
People point to copper and say it is going down so the economy is in trouble, correcting from 300% gains is a painful process, there is four days worth of copper in the warehouses, do you think development in China, Brazil, India, or Russia is going to stop? This year or next? They are sitting on Trillions of dollars collectively. They want to spend them not hold them. They certainly don't want to accumulate more of them, they have enough already!!! How about Middle East Petro Dollars? Go visit Dubai and the business centers there, they are booming. We are no longer in a US centric world and every year we go farther from it. A problem with a slowdown in growth in the US, is not a global slowdown, it is a US slowdown. The chart at the beginning of this letter is ample example of the money in the pipeline to fund expansion globally.
Gold and precious metals, who wants paper? Nuff said. Grains are in short supply and going to the moon as everybody likes to eat in this new global community. Ethanol and biodiesel are here to stay.
The European Union is finally pulling out of its slumber, Germany has become an export powerhouse, through fiat currency depreciation, inflation and a long period of wage control courtesy of Globalization. The new entrants into the EU last may are for the most part flat tax, low wage emerging tigers eyeing the path to emulating present day Ireland. They want nice things and will work for it. Commodities are the building blocks. Commodities are still hot...
Currencies Are The Battlegrounds For Global Governments.
Everyone talks about the demise of the dollar, well think again. It is actually the demise of the Global currency systems as governments mimic each other's profligacy and irresponsibility in money and credit creation. Both on a government level and in regulating the private financial systems level as illustrated in the opening chart. It is set to continue and when the crisis finally emerges that brings about the violent end of the worldwide party. This event will probably trigger calls for a world currency, to FIX the broken mechanisms brought about by the Bretton woods system of floating currencies. This system created in the early 1970s, which ushered in the start of the system that is now becoming the ultimate cancer of previous fiat money experiments in history. The printing can go on longer than anyone can believe. It is why gold is going up in all currency terms worldwide.
Sovereign Politicians have manipulated their currencies for advantage in international trade, to avoid having to make the painful choices they must make for healthy growing economies. It is easy to print money, but hard to go thru the economic cycles necessary for healthy growth. Recessions are not good for reelection hopes, ipso facto, print money and have a SLOWDOWN, but never a recession. Business and labor leaders always and everywhere wish to protect their TURF and livelihoods, as they prey on politicians who call themselves public servants. And public servants they are as career politicians do what is necessary to be "reelected" rather than make practical solutions for long-term stability and economic growth. The founding fathers of the US never anticipated the scourge of career politicians. Currency manipulation is a primary tool and a beggar thy neighbor approach to covering up their mismanagement. Japan is a classic example of keeping their currency weak to prop up their economy, they have intervened in the Forex markets for years to the tune of 100's of billions if not trillions of dollars as they whittled away at the manufacturing base of the United States and other trading partners. China, Korea, Thailand, European Union, Russia, Italy, you name it, they all have devalued their way to export business and economic health through international trade. A competitive devaluation raceway.
Look for the long-term loser to be the United States Dollar as the irresponsibility is far and away the worst, as the Federal, State and local governments have built long-term debt and liability problems that I believe to be irresolvable. Currencies will trend as they have in the past, but everyone is confused about the "big picture" as it has grown to the point of incomprehensible size. The sums have grown to unbelievable size because of the fiat currency and credit creation. To illustrate what a trillion dollars is here is a description of a billion dollars;
How big is a billion? If a billion kids made a human tower, they would stand up past the moon. If you sat down to count from one to one billion, you would be counting for 95 years. If you found a goldfish bowl large enough hold a billion goldfish, it would be as big as a stadium.
WHAT IS A BILLION? - November 07, 2006
Here is something to tax your Grey Cells!
What Is A Billion?
The next time you hear a politician use the word "billion" in a casual manner, think about whether you want the "politicians" spending your tax money. A billion is a difficult number to comprehend, but one advertising agency did a good job of putting that figure into some perspective in one of its releases.
- A billion seconds ago it was 1959.
- A billion minutes ago Jesus was alive.
- A billion hours ago our ancestors were living in the Stone Age.
- A billion days ago no one walked on the earth on two feet.
- A billion dollars ago was only 8 hours and 20 minutes, at the rate our government is spending it.
While this thought is still fresh in our brain, let's take a look at New Orleans. It's amazing what you can learn with some simple division .. Louisiana Senator, Mary Landrieu (D), is presently asking the Congress for $250 BILLION to rebuild New Orleans. Interesting number, what does it mean? a. Well, if you are one of 484,674 residents of New Orleans (every man, woman, child), you each get $516,528. b. Or, if you have one of the 188,251 homes in New Orleans, your home gets $1 ,329,787. Or, if you are a family of four, your family gets $2,066,012. Washington, D.C ****O!!!... Are all your calculators broken??
A Trillion Is:
How much bigger than a billion is a trillion? One thousand times. Three zeros bigger. It's a number so big, it needs to be seen in a human context before we can really grasp its size.
So, we might say: It's the year 0, the beginning of the first millennium, and you have a trillion dollars to spend, at the rate of a million dollars a day. At just before three years, you've reached a billion. You keep spending, and now you are in the year 2001. You still have 737 years to go, spending a million every day, before you reach the end of your trillion-dollar pile.
If someone built block after block of $100,000 houses, ten houses to a block, ten blocks to a mile -- that's a hundred blocks per square mile -- how big would the project be when it reached a trillion dollars in value? It would be 10,000 square miles -- that's bigger than the State of Maryland.
If you were to go back to the Miocene Age, when mammals reached their greatest variety (19 millions years ago), spending one dollar every minute, day and night, seven days a week ($526,000 each year) you would just now run through your trillion dollars
This is why every currency in the world is experiencing strength against the dollar; these foreign governments have conducted their own economies in a manner that is just "LESS BAD" than the US. The political fights will just escalate in the capitals of the world as politicians jockey to keep their currencies and economies competitively priced in a global world. This will continue till the inevitable crisis that will arrive when the law of unintended consequences rears its ugly head. We will see wars emerge over the issue before it is over, but for 2007, look for the dollar to weaken in an orderly manner as the world is holding a lot of them and wish to spend them before they become worthless, no one will yell fire in a theatre, they have to much to lose... and on that note...
Inflation And Wages Set To Soar, Money Supplies Are Now Out Of Central Bank Control.
One of the themes anyone who reads international financial news is aware of is that labor is on the warpath and newly elected politicians are set to attack Capital and the owners of it. Elections of left leaning politicians have been a global affair. It does not matter whether it is The European Union, specifically Germany, Spain or Italy, or the Far East represented by China, Korea, Japan or the US or anywhere. Global labor arbitrage and the emergence of several billion new workers into the global workforce have created a prolonged period of low or no wage growth throughout the developed world.
Labor is cheap as there is a lot of it available, and when currencies are constantly losing their purchasing power workers are being paid less and less. They are mad as hell. In China they are complaining about the lack of sharing in the profits of their export partners. In Germany Unions are targeting wage concessions that are triple the rate of inflation. In the US they have Senators Chuck Schumer and Lindsey Graham leading efforts to devalue the dollar as manufacturers have taken it on the Chin. The minimum wage has just been raised 40% over the next two years by the New Democrat controlled congress.
These types of wage gains and expectations are the definition of inflation in Central banker terms, and the expectation of wage gains is what they fear the most. They can try to raise rates but that won't work anymore, tightening doesn't happen as they have lost control of the reigns of money and credit creation, it is on a runaway course, money is cheap and getting cheaper by the day. Workers want more and will get it through their public servants in political office. Inflationary wage pressures are brewing and on the way, but only in nominal terms, the purchasing power of the higher numbers will disappear through the money and credit creation seen in the opening comments. Frustrations will escalate as workers are paid more and more in dollars, yen, pounds, etc. but always take home a little less from the Grocery store....
In Conclusion, we are in a Global experiment that will not end soon. We may see isolated problems (i.e. US housing, amaranth) but they in general will be a blip as strong hands buy assets from weak ones during short periods of instability caused by temporary disruptions in liquidity or financial miscalculation on a huge scale. Inflation will erupt, but they can't pull the plug on the liquidity. They will lie about the inflation. Growth trumps all. Stocks go higher with sometimes-sharp pullbacks. Always quickly recovered when the new money moves in. Commodities and the emerging market, Up, Up and away. FOR NOW. Look for the exponential expansion of derivatives and structured finance as illustrated above to continue, but it is mega inflationary and will feed through to the broader economies of the world. It will be resistant to reigning in by the Central banks. And the shear volume of issuance will require constantly inflating currency values, as the next deal is not feasible without a higher price to justify the next borrower to the financing institution. I am sure the accumulated debts and future obligations of the US government are now approaching 80 to 100 trillion dollars on an economy that GDP is approximately 12 trillion a year. And the debts and obligations are growing at the compounded rate of inflation, real inflation, not the stated rate. In the US it is inflate or die, and Washington can always blame someone else. Long Term, bonds are vulnerable as they are the worst bet in town, they will be repriced to reflect the risk sooner or later, but they still are globally respected asset class for supposedly SAFE Money. So they will fall away slowly. If you enjoyed this please send it to a friend, subscriptions are free. Check out our archives section for this newsletter, you won't be bored. Thank you for reading Tedbits...