"I am an optimist. It doesn't seem too much use being anything else." - Winston Churchill
Despite all the doom and gloom that is out there in the global economy I always try to find a glimmer of hope. Having traded stocks since 1984 I have been through my fair share of adversity but one thing I have learned is that there is always someone making money. Regardless of how poor the economy is some people are prospering. Money does not evaporate it just moves from one sector or country to another.
Back in the late 70's and early 80's South Africa was mired in a political struggle with apartheid. The rest of the world imposed crippling sanctions on the country and multi-national companies were forced to withdraw. Through this doom scenario a few very brave entrepreneurs took over the operations of a number of these companies and profited immensely from the vacuum created by this withdrawal. Wealth did not evaporate it transferred!
During previous recessions many great companies have been formed - AT&T, Disney and General Motors to name a few. So is it a good time to start a company? Certainly there are numerous pitfalls when starting a company during a recession. It is hard to get financing and customers are hard to attract and keep. Getting paid can be a problem and working capital can cripple the start-up before it gains traction. Competition from others can crowd your market quickly and desperate competitors can undercut your prices destroying temporarily the market for everyone. While most of these problems are around during good and bad business cycles they are magnified during slow economy times. So why start a business?
For one many people cannot find work so more and more of them turn to starting their own business out of desperation. This is not a benefit at all as a lot will fail however what a poor economy can do is create holes due to company cut backs. These holes can be filled by entrepreneurs that have the ability to fill the gap. Furthermore a laid off worker can use the skills that they acquired to compete and improve on an old business idea. Think about how many times you tell everyone how poor a job your boss is doing! With low overheads it is possible to gain traction and then grow. Furthermore a study suggests that entrepreneurs that begin their business during a down cycle do not make the same mistakes as their brethren who start out in a good economy with loose credit access. This conservatism protects them in the poor times and allows them to grow at their overly leveraged competitors expense.
Personally I believe that a business that has merit can be started in any economic environment. I have put my money where my mouth is by starting three companies in the last three years and I expect to start some more in the future. As an aside, all three are performing extremely well in the current market malaise. In addition, a company that can gain traction during these times is well positioned to benefit greatly when the economy expands as consumers typically reward those that have positioned themselves well during the difficult times over a newbie. Think about it, if you are hiring people in your local community when everyone else is laying them off who is going to be remembered more favorably?
Keys to success are numerous but a few things that you may want to consider are: can I personally finance the company or do I need outside capital, if you need outside capital how will you attract it, does the business just prosper in a bad economy or can it work in good and bad economies, can I start the business with a skeleton staff and work my way up or do I need to plow a ton of capital into office space or research and development, do my clients have the ability to pay me, is the hole in the market one that will be filled quickly by competitors or can I rely on some pricing power for the near future, do I have the expertise to run all functions of the company or do I need to outsource or hire some help. how quickly from inception to cash flow, do I love this business or am I just doing it to make ends meet? These are just some things to consider for starters but there is plenty more to think about. Make sure that you are able to adapt as time moves on and are not stuck in the past and enjoy your work and I believe that the rest will take care of itself.
Good luck, I know we all need a lot of it especially for those of you launching your own business this year!
Friday, January 27, 2012
Friday, January 20, 2012
Crowding Out
"Blessed are the young, for they shall inherit the national debt." - Herbert Hoover
In economics the term crowding out refers to an economic state where government involvement in an economy becomes so great that the private sector is “crowded out” of the market. As there are only so many goods and services available to be made or purchased increased government involvement can have the impact of taking the market away from individuals and companies. The same happens in the world of debt. By printing trillions of dollars a year the government is flooding the market and crowding out private debt. This was a necessary requirement at the beginning of the great recession (as some have come to term it) as the government needed to use its powerful intervention tools to offset what could have been the worst financial crisis of all time. However with the follow on quantitative easing rounds that followed the Federal Reserve began to crowd out the normal market.
Now with the deficit at virtually 100 percent of annual GDP studies are pointing to this crowding out effect taking one full percentage point off US growth in the future. As most economists expect the US economy to grow at a rate of around 2.5 percent this year, shaving 1.0 percent off this growth rate is enormous and could take the US into another recession. Is that possible so soon after the last one ended? More research points to the fact that once these levels of debt are reached that recoveries are muted and recessions become more common place. Hence the likelihood that there is a US and possibly a global recession in 2012 as countries around the world struggle to contain their spiraling debt levels.
I had an investor the other day mention that high levels of debt have been around since the 60’s so why are they such a problem now? The bull theory goes that it is just a matter of time and all of this will pass and we will be back to business as usual. The problem is that until recently the debt level in the US was at a manageable level. In 2007, before the most recent recession began, the US debt to GDP ratio was at around 70 percent. With the unprecedented increase in the level of debt from helicopter Ben, this ratio has moved to around 100 percent in just over three years. This sudden explosive rate of growth of the government debt has brought all of the dismal metrics with it and for these reasons I have a negative outlook on the economy.
Sluggish economic growth in Europe, Japan and the US will feed into China and other emerging world economies. These anemic growth rates are a direct result of the massive amounts of capital and energy required to deal with this problem. So how do we deal with the problem so that I can get back to buying stocks? The only way to do this is to reduce the debt level as a percentage of GDP by either growing GDP or paying off the debt or some form of both.
Let’s look at the first part of the equation, growing GDP. Either industry or the government needs to expand and create jobs which will result in an increase in output. However, as the numbers above suggest with GDP growth at 1.5 percent and a budget deficit of $1.5 trillion expected over the next few years, the debt level will actually expand by more than 10 percent in the next two years! So let’s go to the other side of the equation, reducing the debt level. The only way to do this is to cut government spending but at present there is little incentive on Capitol Hill to cut any of the government programs as this would lead directly to a recession, so I expect that this is off the table for the next few years.
The final way would be to create inflation and inflate our way out of the problem. The quickest way to do this is to let the dollar depreciate. The problem with this is that the dollar continues to move higher as the Euro problems are “benefitting” the dollar. Better to invest in the US than in Europe at present. Outside of that inflation normally is created when demand for goods and services exceeds supply. With massive capacity in both employment and global factories and with slow to anemic global growth projected it does not seem that this is a near term probability. All in all it looks as if for the next twelve months at least that the stock market provides a lot of risk for limited reward.
That is not to say that there are not good stocks out there. I am certainly not bashing all stocks I just believe in skewing the risk reward equation into my favor before going all in. So right now (in my opinion) prudence is required and investing in the stock market is not a good place in which to place your hard earned investment dollars.
In economics the term crowding out refers to an economic state where government involvement in an economy becomes so great that the private sector is “crowded out” of the market. As there are only so many goods and services available to be made or purchased increased government involvement can have the impact of taking the market away from individuals and companies. The same happens in the world of debt. By printing trillions of dollars a year the government is flooding the market and crowding out private debt. This was a necessary requirement at the beginning of the great recession (as some have come to term it) as the government needed to use its powerful intervention tools to offset what could have been the worst financial crisis of all time. However with the follow on quantitative easing rounds that followed the Federal Reserve began to crowd out the normal market.
Now with the deficit at virtually 100 percent of annual GDP studies are pointing to this crowding out effect taking one full percentage point off US growth in the future. As most economists expect the US economy to grow at a rate of around 2.5 percent this year, shaving 1.0 percent off this growth rate is enormous and could take the US into another recession. Is that possible so soon after the last one ended? More research points to the fact that once these levels of debt are reached that recoveries are muted and recessions become more common place. Hence the likelihood that there is a US and possibly a global recession in 2012 as countries around the world struggle to contain their spiraling debt levels.
I had an investor the other day mention that high levels of debt have been around since the 60’s so why are they such a problem now? The bull theory goes that it is just a matter of time and all of this will pass and we will be back to business as usual. The problem is that until recently the debt level in the US was at a manageable level. In 2007, before the most recent recession began, the US debt to GDP ratio was at around 70 percent. With the unprecedented increase in the level of debt from helicopter Ben, this ratio has moved to around 100 percent in just over three years. This sudden explosive rate of growth of the government debt has brought all of the dismal metrics with it and for these reasons I have a negative outlook on the economy.
Sluggish economic growth in Europe, Japan and the US will feed into China and other emerging world economies. These anemic growth rates are a direct result of the massive amounts of capital and energy required to deal with this problem. So how do we deal with the problem so that I can get back to buying stocks? The only way to do this is to reduce the debt level as a percentage of GDP by either growing GDP or paying off the debt or some form of both.
Let’s look at the first part of the equation, growing GDP. Either industry or the government needs to expand and create jobs which will result in an increase in output. However, as the numbers above suggest with GDP growth at 1.5 percent and a budget deficit of $1.5 trillion expected over the next few years, the debt level will actually expand by more than 10 percent in the next two years! So let’s go to the other side of the equation, reducing the debt level. The only way to do this is to cut government spending but at present there is little incentive on Capitol Hill to cut any of the government programs as this would lead directly to a recession, so I expect that this is off the table for the next few years.
The final way would be to create inflation and inflate our way out of the problem. The quickest way to do this is to let the dollar depreciate. The problem with this is that the dollar continues to move higher as the Euro problems are “benefitting” the dollar. Better to invest in the US than in Europe at present. Outside of that inflation normally is created when demand for goods and services exceeds supply. With massive capacity in both employment and global factories and with slow to anemic global growth projected it does not seem that this is a near term probability. All in all it looks as if for the next twelve months at least that the stock market provides a lot of risk for limited reward.
That is not to say that there are not good stocks out there. I am certainly not bashing all stocks I just believe in skewing the risk reward equation into my favor before going all in. So right now (in my opinion) prudence is required and investing in the stock market is not a good place in which to place your hard earned investment dollars.
Friday, January 13, 2012
Ratcheting Down 2012 Growth Already!
"While the crash only took place six months ago, I am convinced that we have now passed the worst and with continued unity of effort we shall rapidly recover." - Herbert Hoover
At the time that Herbert Hoover made these comments he was President of the United States. The statement was made on May 1, 1930 right at the beginning of the great depression. The statement may have been made out of utter lack of knowledge but I believe that he truly thought that he could fix the problem with some tinkering and some back to grindstone effort of the common man. This was not the case and the problems of the great depression dragged on for years to come.
One important point to remember about politicians and leaders is that they have their own agenda and saying that we will be in for some tough sledding is not going to attract votes. They are forced in some respects to propagate their story in the hopes that enough people believe them and change the inevitable. Time and time again this has proven to be incorrect. The only way to solve the problem is to take the bull by the horns and wrestle it to the ground. In this case the debt problem is not just going to magically disappear because we are in January, we have to find a way to pay it down without crimping growth!
I received my daily email from JP Morgan today and they are already ratcheting down their growth forecasts for 2012. According to my calendar it is only January 13. So in only 13 days they have decided that they are too aggressive with their 2012 outlook? In true salesman style they moved their growth numbers around so that the net effect was minimal move for the year (down only 0.1%) but they lowered the first quarter growth rate from 2.5% to 2.0% or a 20% reduction. This is significant and in my eyes still way too high. It is only a matter of time until all the other major houses follow.
In another headline this week Bill gross the head of Pimco the largest bond fund in the world commented that investors ought to expect far lower rates of return on their investment in the future than they had become used to. I have been crying that message for at least a year but now maybe people will listen as it comes from Bill. Regardless of this the point is that the market is not a place to be for 2012. With that said you need to understand that a return of 4% on your cash is as good as it can get unless you want to take on inordinate amounts of risk.
Your local stock salesman will want an investment in stocks and it is your job to tell him to find you something else in which to invest. I still believe that it is too early to get into housing and by my calculation the best risk to reward place that you can go is my very own fixed rate deposit investment. On a risk adjusted basis there is nothing that comes close. I know that this sounds very much tongue in cheek (great Steve bash the stock guys and push your own investment) but the fact of the matter is that based on my 2012 outlook of downside everywhere there is nothing that compares with this investment on a risk adjusted basis. I implore you to seriously look at the product to save yourself from an impending dump in the market and to earn a good rate of return on your assets in a safe, secure manner.
At the time that Herbert Hoover made these comments he was President of the United States. The statement was made on May 1, 1930 right at the beginning of the great depression. The statement may have been made out of utter lack of knowledge but I believe that he truly thought that he could fix the problem with some tinkering and some back to grindstone effort of the common man. This was not the case and the problems of the great depression dragged on for years to come.
One important point to remember about politicians and leaders is that they have their own agenda and saying that we will be in for some tough sledding is not going to attract votes. They are forced in some respects to propagate their story in the hopes that enough people believe them and change the inevitable. Time and time again this has proven to be incorrect. The only way to solve the problem is to take the bull by the horns and wrestle it to the ground. In this case the debt problem is not just going to magically disappear because we are in January, we have to find a way to pay it down without crimping growth!
I received my daily email from JP Morgan today and they are already ratcheting down their growth forecasts for 2012. According to my calendar it is only January 13. So in only 13 days they have decided that they are too aggressive with their 2012 outlook? In true salesman style they moved their growth numbers around so that the net effect was minimal move for the year (down only 0.1%) but they lowered the first quarter growth rate from 2.5% to 2.0% or a 20% reduction. This is significant and in my eyes still way too high. It is only a matter of time until all the other major houses follow.
In another headline this week Bill gross the head of Pimco the largest bond fund in the world commented that investors ought to expect far lower rates of return on their investment in the future than they had become used to. I have been crying that message for at least a year but now maybe people will listen as it comes from Bill. Regardless of this the point is that the market is not a place to be for 2012. With that said you need to understand that a return of 4% on your cash is as good as it can get unless you want to take on inordinate amounts of risk.
Your local stock salesman will want an investment in stocks and it is your job to tell him to find you something else in which to invest. I still believe that it is too early to get into housing and by my calculation the best risk to reward place that you can go is my very own fixed rate deposit investment. On a risk adjusted basis there is nothing that comes close. I know that this sounds very much tongue in cheek (great Steve bash the stock guys and push your own investment) but the fact of the matter is that based on my 2012 outlook of downside everywhere there is nothing that compares with this investment on a risk adjusted basis. I implore you to seriously look at the product to save yourself from an impending dump in the market and to earn a good rate of return on your assets in a safe, secure manner.
Friday, January 6, 2012
Gold or Bonds?
"We will never return to the old boom and bust." - Gordon Brown (2007)
Well obviously Mr. Brown timed his statement to perfection as right behind that came the housing bust! True to form the political leadership of the day while talking a good talk has absolutely no clue about the future or the economic perils that face our society. If they did there would have been no way that Mr. Brown would have said such an absurd comment right at the peak of the housing bubble.
There is a lot of talk regarding the gold bubble and the bond bubble. Both have appreciated significantly over the last few years. Gold is up more than 150 percent since 2007 and bonds are near historic low yields (bond prices move inversely to their yields). An argument is that one of these markets must be right and the other market must be wrong.
Typically gold appreciates when there is a high level of concern about inflation rates (so the argument goes), while bonds with such low yields point to a lack of concern for any inflation in our immediate future. As one is sky high pointing to inflation (gold) and the other is at historic low yields pointing to no prospect of any inflation in our future (bonds) one must crater.
I believe that this argument has one fatal flaw. Gold while a decent proxy for investor concern regarding inflation is also a hedge against fear as are bonds. I believe that both are being held at their respective highs due to this fear. If you remove the fear gauge I believe that the gold market would fall precipitously while the bond market would move lower (higher yields) but not to such an extent as the fall in gold. Why? At present inflation indications are mute.
Given the fact that fear is rife in the market and given that there is no chance that this fear will dissipate any time soon (unless you magically repair all the mess in Europe with one wave of the wand) I would imagine that this spread will remain intact for a while at least. Some fund managers I know are playing the spread game by selling gold and bonds short. To be honest if I were to play that as an investment I would go short gold and long the bond but I think the trade is a mugs bet given the uncertainty and fear that remains in the market.
There is nothing to suggest that the bond market will not climb higher in the next twelve months just like it did in 2011, and that gold will not rise as we progress through the year due to heightened fear levels . If I am correct in my prediction this will result in a terrible market for stocks and for the savers out there as yields will continue to fall. Just as with everything to do with the market, if consensus points one way you can almost bet that the opposite will happen! Keep the powder dry and good luck in 2012.
Well obviously Mr. Brown timed his statement to perfection as right behind that came the housing bust! True to form the political leadership of the day while talking a good talk has absolutely no clue about the future or the economic perils that face our society. If they did there would have been no way that Mr. Brown would have said such an absurd comment right at the peak of the housing bubble.
There is a lot of talk regarding the gold bubble and the bond bubble. Both have appreciated significantly over the last few years. Gold is up more than 150 percent since 2007 and bonds are near historic low yields (bond prices move inversely to their yields). An argument is that one of these markets must be right and the other market must be wrong.
Typically gold appreciates when there is a high level of concern about inflation rates (so the argument goes), while bonds with such low yields point to a lack of concern for any inflation in our immediate future. As one is sky high pointing to inflation (gold) and the other is at historic low yields pointing to no prospect of any inflation in our future (bonds) one must crater.
I believe that this argument has one fatal flaw. Gold while a decent proxy for investor concern regarding inflation is also a hedge against fear as are bonds. I believe that both are being held at their respective highs due to this fear. If you remove the fear gauge I believe that the gold market would fall precipitously while the bond market would move lower (higher yields) but not to such an extent as the fall in gold. Why? At present inflation indications are mute.
Given the fact that fear is rife in the market and given that there is no chance that this fear will dissipate any time soon (unless you magically repair all the mess in Europe with one wave of the wand) I would imagine that this spread will remain intact for a while at least. Some fund managers I know are playing the spread game by selling gold and bonds short. To be honest if I were to play that as an investment I would go short gold and long the bond but I think the trade is a mugs bet given the uncertainty and fear that remains in the market.
There is nothing to suggest that the bond market will not climb higher in the next twelve months just like it did in 2011, and that gold will not rise as we progress through the year due to heightened fear levels . If I am correct in my prediction this will result in a terrible market for stocks and for the savers out there as yields will continue to fall. Just as with everything to do with the market, if consensus points one way you can almost bet that the opposite will happen! Keep the powder dry and good luck in 2012.
Friday, December 23, 2011
2012 Outlook
"Don't worry about the world coming to an end today. It's already tomorrow in Australia." - Charles M. Shultz
Well we have almost made it to the end of 2011 and certainly a year that most of us would like to forget. Others however would like it to continue on forever, but such is life; there is always someone that benefits at the expense of the rest and 2011 was definitely one of those years.
Heading into 2012 I like to look ahead to see how to position my investments and in all honesty I doubt that I will be making many changes. My private equity investments are all looking relatively solid and all should continue to prosper in 2012, and based on my outlook for the global economy, my fixed rate deposit investment is looking very good. So what is my outlook for 2012?
When I was a boy growing up in Cape Town we used to have a "fort" where our neighborhood gang of boys would congregate to plan our next attack on the neighborhood girls. We were very fortunate that we lived right next to the girls only high school so we could spend tons of time working on plans that usually included insects and mud. Little did we know that a few years later we would be begging them to take notice of us but at that time the fun was to scare them.
To get to the clubhouse you had to climb an eight foot high wall, balance along the top for about 10 paces and then climb up the A framed roof of the garage. The roof was made of metal so when there was due or a rain it could be very slippery. There were more than a few times that we would slip and would be saved by the gutter at the bottom of the roof! Once you had navigated the ascent you then walked along the pinnacle of the roof to the edge and swung yourself over the edge lowering yourself down until hopefully your feet touched the hole in the wall. From there you would swing yourself into the "fort" which was the attic above the garage. I am still amazed that none of us ever fell the 20 feet onto the concrete below and even more surprised that our mothers even let us use the place, but it was a great place to hide!
So why am I wasting your time with this story. I think that it is a perfect summary of the market and how 2012 will play out. The pitfalls are enormous with everything from a collapse in Europe (falling 20 feet from the roof) to another global scare (slipping down the roof to the be saved by the gutter). It is wrought with pitfalls and the upside is limited. Undoubtedly there will be massive rallies that will be fleeting and these will be followed by sharp violent reversals. I would not be surprised by weeks of five plus percent moves in either direction all ending the year either where we started or lower.
Fear is still very much present and Europe is more than likely already in a recession. Any more slips and it will destroy what little the United States has achieved in the way of a recovery. Interest rates will remain low and may even continue to contract and it is looking more and more likely that the United States congress will be stuck in no-mans land unable to make any decisions that have a lasting benefit to society.
Not a happy environment to end the year but all of us should give thanks that we missed the mess this year and that we are well positioned for next year. Remove the stress, stay in cash and enjoy 2012. All the best for the holiday season and the New Year.
Well we have almost made it to the end of 2011 and certainly a year that most of us would like to forget. Others however would like it to continue on forever, but such is life; there is always someone that benefits at the expense of the rest and 2011 was definitely one of those years.
Heading into 2012 I like to look ahead to see how to position my investments and in all honesty I doubt that I will be making many changes. My private equity investments are all looking relatively solid and all should continue to prosper in 2012, and based on my outlook for the global economy, my fixed rate deposit investment is looking very good. So what is my outlook for 2012?
When I was a boy growing up in Cape Town we used to have a "fort" where our neighborhood gang of boys would congregate to plan our next attack on the neighborhood girls. We were very fortunate that we lived right next to the girls only high school so we could spend tons of time working on plans that usually included insects and mud. Little did we know that a few years later we would be begging them to take notice of us but at that time the fun was to scare them.
To get to the clubhouse you had to climb an eight foot high wall, balance along the top for about 10 paces and then climb up the A framed roof of the garage. The roof was made of metal so when there was due or a rain it could be very slippery. There were more than a few times that we would slip and would be saved by the gutter at the bottom of the roof! Once you had navigated the ascent you then walked along the pinnacle of the roof to the edge and swung yourself over the edge lowering yourself down until hopefully your feet touched the hole in the wall. From there you would swing yourself into the "fort" which was the attic above the garage. I am still amazed that none of us ever fell the 20 feet onto the concrete below and even more surprised that our mothers even let us use the place, but it was a great place to hide!
So why am I wasting your time with this story. I think that it is a perfect summary of the market and how 2012 will play out. The pitfalls are enormous with everything from a collapse in Europe (falling 20 feet from the roof) to another global scare (slipping down the roof to the be saved by the gutter). It is wrought with pitfalls and the upside is limited. Undoubtedly there will be massive rallies that will be fleeting and these will be followed by sharp violent reversals. I would not be surprised by weeks of five plus percent moves in either direction all ending the year either where we started or lower.
Fear is still very much present and Europe is more than likely already in a recession. Any more slips and it will destroy what little the United States has achieved in the way of a recovery. Interest rates will remain low and may even continue to contract and it is looking more and more likely that the United States congress will be stuck in no-mans land unable to make any decisions that have a lasting benefit to society.
Not a happy environment to end the year but all of us should give thanks that we missed the mess this year and that we are well positioned for next year. Remove the stress, stay in cash and enjoy 2012. All the best for the holiday season and the New Year.
Friday, December 16, 2011
The Dollar Breaks Out
"It's almost like seeing a guy show up at the soup kitchen in high hat and tuxedo. It kind of makes you a little bit suspicious." - Congressman Gary Ackerman
The above quote was said by Congressman Ackerman after Chrysler, Ford and General Motors executives went to capital hill with hat in hand to ask for a $25 billion bail out. While that in itself was not an issue at the time the problem was that they all showed up in their private jets!
Watching the dollar break out to the upside is similar in nature. The United States economy is hardly robust but when compared to the mess in Europe it looks like a great place to invest. The chart below shows how the dollar has recently surged to the upside and has broken through resistance. A longer tailed chart would show that it recently broke through its 50 week moving average for the first time since mid 2010 a significant achievement.
So what does all this mean to you and me? Well the first thing to realize is that a strong dollar normally points to a strong economy. This is not the case and this is troubling. In order for an economy to cure its ills it is normal for that country's currency to weaken thereby strengthening the export and local economy. The reason the local economy strengthens is that imports become more expensive making locally produced goods more affordable and with the added push of increased exports the economy recovers. This is a very basic analysis but for the purposes of this blog that will suffice.
As the dollar still remains the global currency of choice most commodities are traded in dollars. A strong dollar therefore makes the price of the underlying commodity weaken as it becomes more expensive in global terms thereby reducing demand for the commodity and forcing the price lower. A look at the chart below shows how the price of crude oil has recently rolled over (for those of you who read my last blog this will not be a surprise). A lower price of crude should result in a benefit to the United States economy as crude oil is one of the main drivers of inflation. Contain the price of crude and you have a good chance of containing the inflation rate.
Looking further it appears that the inflation and fear trade in terms of gold purchases has wained as depicted by the chart below. While gold serves as a gauge of fear it is also considered to be a hedge against inflation. Based on this chart and the one above it appears that the market is not anticipating inflation any time soon.
Typically in the situation as described above you would start to see a recovery in the United States however I do not believe that this is happening. Certainly all the pieces of the puzzle are there to ignite a recovery. You have low interest rates and limited chance of inflation in the near term as unemployment is high and there is masses of factory capacity. However the weakness in the United States persists due to a poor housing market that shows no sign of recovery for at least the next 12 months, a weak employment market, high levels of debt and a fragile global market. All a strengthening dollar is pointing to is that the United States is less weak than Europe not that it is recovering. In fact a strong dollar could be the final straw that breaks the back of the meager recovery that is in place.
The stock market is looking weak and any more poor news from Europe or China could derail that train in no time at all. Certainly not a place to be at present. Stay on the sidelines and if you must go into the market head for the large cap dividend players as they have the capacity to weather the impending storm. Furthermore with yields as low as they are (and I believe that they will remain low for far longer than anyone can imagine) you need to start to accept that your "safe" money will not earn anything north of one percent unless you are prepared to step outside the box. A number of you have turned to the fixed rate deposit investment that I have been touting for a year now but for those of you still thinking about it compare the rates at www.fixedratedeposits.com with what you can receive elsewhere and I think you will be very pleased at what you find.
The above quote was said by Congressman Ackerman after Chrysler, Ford and General Motors executives went to capital hill with hat in hand to ask for a $25 billion bail out. While that in itself was not an issue at the time the problem was that they all showed up in their private jets!
Watching the dollar break out to the upside is similar in nature. The United States economy is hardly robust but when compared to the mess in Europe it looks like a great place to invest. The chart below shows how the dollar has recently surged to the upside and has broken through resistance. A longer tailed chart would show that it recently broke through its 50 week moving average for the first time since mid 2010 a significant achievement.
So what does all this mean to you and me? Well the first thing to realize is that a strong dollar normally points to a strong economy. This is not the case and this is troubling. In order for an economy to cure its ills it is normal for that country's currency to weaken thereby strengthening the export and local economy. The reason the local economy strengthens is that imports become more expensive making locally produced goods more affordable and with the added push of increased exports the economy recovers. This is a very basic analysis but for the purposes of this blog that will suffice.
As the dollar still remains the global currency of choice most commodities are traded in dollars. A strong dollar therefore makes the price of the underlying commodity weaken as it becomes more expensive in global terms thereby reducing demand for the commodity and forcing the price lower. A look at the chart below shows how the price of crude oil has recently rolled over (for those of you who read my last blog this will not be a surprise). A lower price of crude should result in a benefit to the United States economy as crude oil is one of the main drivers of inflation. Contain the price of crude and you have a good chance of containing the inflation rate.
Looking further it appears that the inflation and fear trade in terms of gold purchases has wained as depicted by the chart below. While gold serves as a gauge of fear it is also considered to be a hedge against inflation. Based on this chart and the one above it appears that the market is not anticipating inflation any time soon.
Typically in the situation as described above you would start to see a recovery in the United States however I do not believe that this is happening. Certainly all the pieces of the puzzle are there to ignite a recovery. You have low interest rates and limited chance of inflation in the near term as unemployment is high and there is masses of factory capacity. However the weakness in the United States persists due to a poor housing market that shows no sign of recovery for at least the next 12 months, a weak employment market, high levels of debt and a fragile global market. All a strengthening dollar is pointing to is that the United States is less weak than Europe not that it is recovering. In fact a strong dollar could be the final straw that breaks the back of the meager recovery that is in place.
The stock market is looking weak and any more poor news from Europe or China could derail that train in no time at all. Certainly not a place to be at present. Stay on the sidelines and if you must go into the market head for the large cap dividend players as they have the capacity to weather the impending storm. Furthermore with yields as low as they are (and I believe that they will remain low for far longer than anyone can imagine) you need to start to accept that your "safe" money will not earn anything north of one percent unless you are prepared to step outside the box. A number of you have turned to the fixed rate deposit investment that I have been touting for a year now but for those of you still thinking about it compare the rates at www.fixedratedeposits.com with what you can receive elsewhere and I think you will be very pleased at what you find.
Friday, December 9, 2011
Oil Prices - Where To From Here
"Behind every great fortune there is a crime." - Honore de Balzac
If ever there is a commodity that has its fair share or more of crimes it must be oil. For the last few months oil prices have been spiralling higher from a low of around $74 a barrel in October to over $100 a barrel earlier this month. As such it is time to have another look at the commodity that shapes much of the global economy and has a great impact on global growth.
Sometimes I have the misfortune of tuning in to a news cast of the day's market activities and I always have a laugh when I hear the analysts crowing over how high the price of oil has moved that day, or week, or for the year. It is as if the upward movement in price is a good thing. Well in all likelihood it is a good thing for the trader if he is long the position. It is also a great thing if you are an oil producing nation, but what of the majority of countries that are oil importers? Furthermore is this not a massive sign of impending inflation?
The problem with oil prices is that they are based on very poor data. On the one side of the equation is the supply of oil. How much oil is there available and how easily is it accessible? These two questions are almost impossible to answer as most of the oil lies in fields that are governed by notoriously shady characters in parts of the world that are mired in violence and corruption. Furthermore as technology advances and techniques for extraction improve, places that were once considered inaccessible are suddenly viable and wells that were thought to be dry can now be re-drilled and provide additional supply. Finally it is never known exactly how much oil can be extracted from a given well even when the total supply is fairly well known. Some wells dry up well before they were supposed to while others continue to produce for years after they were supposed to be depleted. Adding all of this up to determine supply and adding to that an estimate of unfound reserves means that the amount of oil remaining is unknown.
The second problem is that while the oil may be accessible, it can be disrupted by a war or a coup. As very little of the oil comes from economies that are considered "stable" in western eyes, there is a fear premium attached to the price of oil.
On the supply side things are a little more quantifiable. A good and growing world economy would drain the supply of oil faster leading to an increase in the price of oil, however as the price creeps up so do the incentives to producing fuel efficient vehicles, machinery and equipment. This can create a situation where less oil is used even while the economy expands.
So why in this poor of an economy is the price of oil going up so fast and does this point to inflation and an expanding economy? With new fields being tapped in Brazil and others coming online in Canada and the United States it appears that there is more than sufficient supply to handle the current economy. Furthermore it is my opinion that with the technological advances in extraction and seismology that we will find massive oil fields dotted all around the world that will become accessible. It is also my contention that as the world turns "green" that consumers in developed economies will start to rely more and more on alternative energy sources and move away from the toxicity associated with oil burning options. So that leaves the developing world.
To the developing world the cheapest option is the most viable. That said the price of oil is rapidly becoming uncomfortably high again so I believe these economies will start to feel the pinch of high oil prices and will begin to reduce their consumption. Furthermore the current state of the global economy does not warrant the current price of oil and these price levels will start to affect growth as more and more money of an already strapped consumer is swallowed up by the oil monsters. As such the global economy will not be able to continue to support these price levels.
Looking forward I believe that the current price levels are unsustainable and are set to fall. Weak global fundamentals and a burgeoning supply of oil from places like Brazil will put a lid on this move and will stave off any concerns that these price levels will start to move inflation. On the flip side of this, if prices remain elevated for much longer then you will start to see a ratcheting down on economic growth rates as consumer spending will be impacted and company profits will become squeezed.
Oil companies have been a recent benefactor from the rise in the price of oil however their rise has not been in line with the price of oil as the share prices are under performing the commodity move. Furthermore the chart of oil company stocks is looking decidedly weak. So while this group of stocks has aided the stock market rise it signals a level of distrust for the recent commodity price rise. Going forward if the price of oil falls to a more manageable level these benefactors will be levelled and will put a drag on the stock market advance.
If ever there is a commodity that has its fair share or more of crimes it must be oil. For the last few months oil prices have been spiralling higher from a low of around $74 a barrel in October to over $100 a barrel earlier this month. As such it is time to have another look at the commodity that shapes much of the global economy and has a great impact on global growth.
Sometimes I have the misfortune of tuning in to a news cast of the day's market activities and I always have a laugh when I hear the analysts crowing over how high the price of oil has moved that day, or week, or for the year. It is as if the upward movement in price is a good thing. Well in all likelihood it is a good thing for the trader if he is long the position. It is also a great thing if you are an oil producing nation, but what of the majority of countries that are oil importers? Furthermore is this not a massive sign of impending inflation?
The problem with oil prices is that they are based on very poor data. On the one side of the equation is the supply of oil. How much oil is there available and how easily is it accessible? These two questions are almost impossible to answer as most of the oil lies in fields that are governed by notoriously shady characters in parts of the world that are mired in violence and corruption. Furthermore as technology advances and techniques for extraction improve, places that were once considered inaccessible are suddenly viable and wells that were thought to be dry can now be re-drilled and provide additional supply. Finally it is never known exactly how much oil can be extracted from a given well even when the total supply is fairly well known. Some wells dry up well before they were supposed to while others continue to produce for years after they were supposed to be depleted. Adding all of this up to determine supply and adding to that an estimate of unfound reserves means that the amount of oil remaining is unknown.
The second problem is that while the oil may be accessible, it can be disrupted by a war or a coup. As very little of the oil comes from economies that are considered "stable" in western eyes, there is a fear premium attached to the price of oil.
On the supply side things are a little more quantifiable. A good and growing world economy would drain the supply of oil faster leading to an increase in the price of oil, however as the price creeps up so do the incentives to producing fuel efficient vehicles, machinery and equipment. This can create a situation where less oil is used even while the economy expands.
So why in this poor of an economy is the price of oil going up so fast and does this point to inflation and an expanding economy? With new fields being tapped in Brazil and others coming online in Canada and the United States it appears that there is more than sufficient supply to handle the current economy. Furthermore it is my opinion that with the technological advances in extraction and seismology that we will find massive oil fields dotted all around the world that will become accessible. It is also my contention that as the world turns "green" that consumers in developed economies will start to rely more and more on alternative energy sources and move away from the toxicity associated with oil burning options. So that leaves the developing world.
To the developing world the cheapest option is the most viable. That said the price of oil is rapidly becoming uncomfortably high again so I believe these economies will start to feel the pinch of high oil prices and will begin to reduce their consumption. Furthermore the current state of the global economy does not warrant the current price of oil and these price levels will start to affect growth as more and more money of an already strapped consumer is swallowed up by the oil monsters. As such the global economy will not be able to continue to support these price levels.
Looking forward I believe that the current price levels are unsustainable and are set to fall. Weak global fundamentals and a burgeoning supply of oil from places like Brazil will put a lid on this move and will stave off any concerns that these price levels will start to move inflation. On the flip side of this, if prices remain elevated for much longer then you will start to see a ratcheting down on economic growth rates as consumer spending will be impacted and company profits will become squeezed.
Oil companies have been a recent benefactor from the rise in the price of oil however their rise has not been in line with the price of oil as the share prices are under performing the commodity move. Furthermore the chart of oil company stocks is looking decidedly weak. So while this group of stocks has aided the stock market rise it signals a level of distrust for the recent commodity price rise. Going forward if the price of oil falls to a more manageable level these benefactors will be levelled and will put a drag on the stock market advance.
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