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Thursday, December 31, 2009

2009; 2010 to 2019

Lessons learned from 2009:

1) When the Fed pours $1.2 trillion and the U.S. government pours $787 billion of financial booze into the economy, you get one heck of a party.

2) When banks can borrow from the government at below 0.5% and lend at 4+%, they can experience HUGE loan losses and still make TONS of money.

3) When you combine 1) & 2) above, you get a HUGE rally in bonds, stocks and commodities, even without fixing the underlying problems that caused the economic mess in the first place.

Educated guesses of what may happen between 2010 and 2019:

1) Bonds will turn out to be much less safe than most people think.

2) Stocks and commodities will climb, then crash, then rally, then crash. Commodities will do better than stocks during most of the upcoming decade. When everyone thinks commodities are the only smart investment and stocks are for idiots--which will happen before 2019--a new secular bull market in stocks will be born.

3) China's experiment in command "capitalism" (not just a ridiculous oxymoron, but an invalid concept) will go form boom to bust, then from boom to wipe-out. Unless things change dramatically in China, it will end up looking like Japan over the last 20 years, but with civil war/revolution in the mix.

4) Gold will become a fad investment that will end in tears, but not until after dramatically out-performing stocks, bonds and other commodities for most of the decade.

5) The Middle East and South Central Asia will be a mess (that seems obvious...). At some point over the decade, oil prices will rocket because of conflict there, most likely due to problems with or in Iran. The influence of this part of the world will diminish toward the end of the decade as the issues of commodity scarcity fade into the background.

6) Japan will wallow in freakish misery for half the decade, then finally get to work solving its governmental debt problem and demographic issues (after multiple crises). It will lead the global bull market that starts in the second half of the decade.

7) Europe will continue to play fiddle as Rome burns. Western Europe will continue its decline as Eastern Europe continues its ascendancy, but both will become less important to the rest of the world (accept as a wonderful tourist destinations!).

8) The U.S. dollar will do much better than most think, then much worse, then much better. It will continue to climb because "everyone" thinks it must decline, then tank when markets fully grasp the U.S. debt (& obligation) to GDP ratio, then rally as policy changes finally emerge after multiple crises (like Japan, but over less time).

9) Canada, Norway and Australia will become more rich and powerful as commodities out-perform and each government remains more prudent than most.

10) Latin American and Africa will thrive during the early part of the commodities boom, but will succumb to the corruption that must result from a boom without the right political structure.

Happy New Year!

Nothing in this blog should be considered investment, financial, tax, or legal advice. The opinions, estimates and projections contained herein are subject to change without notice. Information throughout this blog has been obtained from sources believed to be accurate and reliable, but such accuracy cannot be guaranteed.

Thursday, December 24, 2009

Roaring into 2010

Merry Christmas Eve from cold and snowy Colorado. My gift to readers this year: short term optimism.

Optimism, you say, from me? Not possible! Yes, it's true. I'm optimistic about short term stock market returns.

How accurate is this short term prediction? Perhaps as good as flipping a penny, and worth about as much.

The reasons for my optimism?

1) The tsunami of government stimulus from all corners of the globe.

2) Extremely positive year over year comparisons with dreadful numbers from last year at this time.

3) Mutual fund investors are buying bond funds as if the sky is going to fall, and retail investors are almost never right

4) Most of the smartest investors I know are skeptical about the recovery, and almost always wrong in the short term.

Over the next 6 years, I expect 0-10% returns from the stock market. But, in the short run, I'm guessing we'll see much better than that.

Short term positive (next several months), intermediate term negative (6 months to 5 years), long term positive (5 years plus).

Have a very Merry Christmas!

Nothing in this blog should be considered investment, financial, tax, or legal advice. The opinions, estimates and projections contained herein are subject to change without notice. Information throughout this blog has been obtained from sources believed to be accurate and reliable, but such accuracy cannot be guaranteed.

Friday, December 18, 2009

Sovereign subprime

In my opinion, the next default wave (other than commercial real estate, Alt-A residential, and option adjustable rate mortgage residential) will be public instead of private debt.

Greece is working hard to illustrate why I'm worried about this, as is Argentina, the Baltic states, Spain, Italy, Portugal...you get the picture.

But, it's not just smaller countries that are getting into the subprime spirit, it also includes (currently) prime credits like Japan, the United Kingdom, and (shock, horror!) the United States.

And, it's not just countries, it includes other public debtors like California, New York, Dubai World, Fannie Mae, etc.

How did this mess get so bad? The same way subprime borrowers and lenders got into trouble. Namely, public bodies are spending more than they are taking in, and lenders are doing a lousy job making sure borrowers can repay. This is not rocket science.

Whether it's California, the U.K., or Greece, the problem is incurring too many obligations while not taking in enough revenue to pay.

Japan is unique in that it's as much of a demographic time bomb as anything else. Their real estate, stock market and banks collapsed 20 years ago, but they decided not to face the music. Added to this, their population isn't having enough kids to replace the elderly, and they won't allow enough immigration to make up for that deficit. Finally, a big dash of inflexible labor markets and decreasing savings rates and you get a country most likely unable to pay its debts.

How do countries go into default? If they are small, they tend to get bailed out by bigger countries or the International Monetary Fund. Big countries, on the other hand, tend to inflate their way out of debt. The trouble there is that when lenders (bond buyers) realize inflation is the solution, interest rates take off. Not a pretty picture.

The financial crisis of the last two years has made this problem dramatically worse. Instead of letting bad borrowers and lenders face the music, governments of the world have bailed out uneconomic borrowers and uncritical lenders. We haven't eliminated the debt problem, we simply shifted it from private to public. But, the scale is so large, as are the promises governments have made to pay future benefits, that the end-game is much sooner than anyone thought.

When will these defaults come about? Probably not for several years in the case of prime credits, but much sooner for smaller sovereigns. This is likely to stir credit markets and cause a lot of volatility in commodities and stocks.

It used to be you could count on countries, or at least the right countries, to pay their debts. But now, it costs less money to insure against the default of IBM than it does the U.K. May you live in interesting times, indeed.

This is a good time to be very selective of investments (especially debt), to be prepared for very volatile markets, and to expect higher interest rates and inflation. It may take some time to arrive, but when it does, you won't want to own low interest debt or highly indebted companies.

Nothing in this blog should be considered investment, financial, tax, or legal advice. The opinions, estimates and projections contained herein are subject to change without notice. Information throughout this blog has been obtained from sources believed to be accurate and reliable, but such accuracy cannot be guaranteed.

Friday, December 11, 2009

Got Growth?

The U.S. economy has really taken it on the chin over the last 2 years.

U.S. Gross Domestic Product shrunk the most since the Great Depression. Unemployment hit double digits for the first time since the 1970's. Our housing market dropped like a stone.

Added to this, the world economy turned down pretty much because of the economic collapse in the U.S. This makes sense when you think about it; the U.S. economy is larger than the next 3 largest economies combined. How could the world keep growing when it depends so much on U.S. consumers and capital markets?

At the height of the crisis, many Europeans seemed to bask in the glow of American failure. They seemed to wag their fingers at us and say, "I told you so!"

In some ways they were right, but not in the most important ways.

You see, the U.S. economy returned to growth last quarter, a whopping 3.5% annualized growth rate. This was far faster than anyone, including yours truly, predicted 9 - 12 months ago. And, economic growth in the current quarter looks good, too, projected at around 2.5%.

Amusingly to me, the European Union grew in the third quarter, too, but at only 0.4%. I'm not surprised we aren't hearing as much from European know-it-alls.

Why such a big difference in growth? I'm sure every economist and armchair economist has an opinion, and I do too: I think it's mostly due to our more flexible labor markets.

America has its share of problems, but we still have one of the most flexible and adaptive economies in the world. One reason for this is that U.S. companies are relatively free to hire and fire when compared to places like Europe or Japan.

This is not a one-sided benefit for employers, it benefits employees, too, who can quit and find better employment when they want. I think not being able to quit is as bad a sin as not being able to fire.

Contrary to popular belief, what will get U.S. and world economies growing again will not be stimulus, but adjustments of the economy to new economic realities. And, it's unlikely bureaucrats in any government position will be able to see this before businesses and entrepreneurs.

The places where labor and business flexibility are stifled, like Europe and Japan, will be mired in slow growth until they change. The economies that are flexible and adaptive, like the United States, will return to growth more quickly and will re-establish high growth rates.

That doesn't mean the U.S. will grow faster than Brazil, China, India, Korea or a host of other emerging markets, but compared to any developed market, I'll place my bets on the good ole U.S. of A.

Nothing in this blog should be considered investment, financial, tax, or legal advice. The opinions, estimates and projections contained herein are subject to change without notice. Information throughout this blog has been obtained from sources believed to be accurate and reliable, but such accuracy cannot be guaranteed.

Friday, December 04, 2009

Dubai debacle

I don't know what surprised me more about the debacle in Dubai last week, the fact that such a big deal was made or that anyone was surprised it happened.

Dubai World, a Dubai government-backed development group, said they wanted a 6 month pause in paying back a $60 billion loan. This may seem like a lot of money to you and me, but its chump change in the big scheme of things.

The financial crises over the last 2 years tended to be focused on multiple trillions, not billions. Added to this, Dubai is the second largest of 7 United Arab Emirates (UAE), with Abu Dhabi being the largest. Abu Dhabi's sovereign wealth fund is over $300 billion in size, so bailing out little brother wouldn't cause it to even break a sweat.

So, what was the big deal that tanked global markets? It simply shows that the credit crisis is not truly over and everyone is still sitting on pins and needles, despite their protests that everything is A-okay.

Credit markets are not healed, and the tremendous bad debt burden has simply been shifted from the private sector to government. The market sold off, in my opinion, because many expect credit problems to happen in the fullness of time and they were worried this was the first of many tremors.

This raises my second point. Why was anyone surprised?

Dubai only gets 6% of their gross domestic product from the petrochemical business. It decided to borrow a ton of money to build islands (shaped like palm trees and the earth), the tallest building in the world, an indoor ski mountain in the desert (I wish I were making this up) and vast ports so that it could become the world's new Hong Kong. This was Field of Dreams writ large--build it and hope they will come.

Unfortunately, not enough people came.

What a startling surprise! Someone borrows to build a tremendous real estate project only to find there's no real end demand for it. Sound familiar?

What did surprise me is that anyone didn't expect this.

Just think what could happen if another entity, say commercial real estate in the U.S., has trouble rolling over debt and doesn't have a rich big brother to bail them out, or that rich big brother (Uncle Sam) is so saddled with debt he can't help without going into bankruptcy himself!

We saw what happened when a measly $60 billion defaulted for 6 months, what will happen if a bigger problem arises?

It is for this reason I'm de-risking my clients' and my portfolios. Things look calm on the surface, but underneath the earth is trembling. Taking risk now may work well for a short time, but not over the long run.

Nothing in this blog should be considered investment, financial, tax, or legal advice. The opinions, estimates and projections contained herein are subject to change without notice. Information throughout this blog has been obtained from sources believed to be accurate and reliable, but such accuracy cannot be guaranteed.