Friday, January 30, 2009

Dr. Gideon Gono Yields! Zimbabwe Dump Domestic Currency

In the realization of the futility of maintaining transactions based on unlimited issuance of the domestic currency from the printing presses of the Mugabe-Gono regime, the Zimbabwe government has now relented to use alternative currencies as medium of exchange for its economy…

Click on this BBC video link.

According to the BBC (bold highlight mine),

``Zimbabweans will be allowed to conduct business in other currencies, alongside the Zimbabwe dollar, in an effort to stem the country's runaway inflation.

``The announcement was made by acting Finance Minister Patrick Chinamasa…

``BBC southern Africa correspondent Peter Biles says the Zimbabwean dollar has become a laughing stock. A Z$100 trillion note was recently introduced…

``Before the announcement, shops in Zimbabwe were increasingly demanding payment in US dollars - a reality acknowledged by Mr Chinamasa.

``"In the hyper-inflationary environment characterising the economy, our people are now using multiple currencies alongside the Zimbabwean dollar. These include the [South African] rand, US dollar, Botswana pula, euro and British pound among others."

``A Harare resident said even street vendors were refusing to accept Zimbabwean notes.

``Last year, the Central Bank was forced to slash 10 zeros from the local unit in an effort to make the currency more manageable.

In effect, Zimbabwe had been forced by the marketplace (and the economy) to junk its currency regime.

This demonstrates how markets are more powerful than governments. While the latter can manipulate the marketplace up to a certain extent, ultimately unsustainable trends will compel for a market based response or adjustment. Thus Zimbabwe's hyperinflation will be followed by deflation (different from debt deflation).

(HT: Charleston Voice)

Thursday, January 29, 2009

Does Mexico’s Falling Remittance Trend Bode Ill For The Philippines?

Mexico’s remittances suffered its first decline since remittance trends have been recorded. From Bespoke Invest, ``According to Mexico's central bank, remittances during 2008 to Mexico by Mexican workers in the US had their first ever annual decrease since the central bank began tracking these statistics in 1995.”

Courtesy of Bespoke

Why? Possibly because a big chunk of the Mexico’s migrant workers have been exposed to heavily affected industries. According to the Wall Street Journal, ``Mexico's Central Bank in October revealed just 5% of migrants today work on U.S. farms, while 38% are in construction and manufacturing, and another 57% in services.” (bold highlight mine)

Many of the economies in the emerging markets depend on remittances for growth, according anew to the Wall Street Journal, ``In the past two decades, workers in poor countries have grown increasingly dependent on job opportunities in countries experiencing sustained growth -- the U.S. for Latin American and Caribbean migrants; Western Europe for Africans and Eastern Europeans; the Gulf Emirates for Pakistanis and Filipinos…Remittances are the single largest source of national income in many countries. The Inter-American Development Bank reports high levels of dependence in Haiti (26%), Guyana (24%), Jamaica (18.5%) and El Salvador (18%).”

Nonetheless, rate of change on Mexico’s remittances has been on decline for a string of months, again from Bespoke, ``thirteen months where remittances have been negative, nine of them occurred during 2008.”

As for the Philippines, remittance trends continue to manifest robust growth: 14.1% during fourth quarter and 15% in first 11 months (Bloomberg) even as the government projects growth figures to moderate to 6-9% for 2009. We aren't confident with the optimistic forecasts.
Courtesy of DBS

Albeit the rate of growth underpinning the local remittance trends, despite the near nominal record levels, seems to be already tapering off.

While it is safe to lean on the camp that says remittance trends should decline similar to that of Mexico, especially based on the assumption that global economic growth seems likely to materially slow, or at worst, deteriorate sharply, one must be reminded that the composition of labor exports is distinct among emerging market economies, aside from the share of remittance to the national income. This implies that the sensitivity of remittances to the global slowdown could vary among EM economies.

Next, we aren’t fully convinced with the mainstream view that last quarter’s world merchandise trade crash portends of a worsening of the global trade trends. While we agree that world trade will definitely slow, the Lehman inspired October crash could account for as a banking induced credit trade finance “shock”, and may somewhat recover gradually than an outright slump. The evidence of economies resorting to go barter [see Does Growing World Barter Trade Suggests Of Bigger Cracks In Today's Monetary Order?] as alternative means of trade suggest of these.

Wednesday, January 28, 2009

Does Growing World Barter Trade Suggests Of Bigger Cracks In Today's Monetary Order?

One possible sign of the accumulating distress from today’s monetary disorder is that trades are being conducted in the form of Barter, as previously discussed in Signs of Transitioning Financial Order? The Emergence of Barter and Bilateral Based Currency Based Trading?

This new development from the Financial Times (bold emphasis mine),

``In a striking example of how the global financial crisis and high food prices have strained the finances of poor and middle-income nations, countries including Russia, Malaysia, Vietnam and Morocco say they have signed or are discussing inter-government and barter deals to import commodities from rice to vegetable oil.

``The revival of these trade practices, used rarely in the last 20 years and usually by nations subject to international embargoes and the old communist bloc, is a result of the countries’ failure to secure trade financing as bank lending has dried up.

``The countries have not disclosed the value of any deals, and some have refused even to confirm their existence. Officials estimated that they ranged from $5m for smaller contracts to more than $500m for the biggest.”

The article mentions barter as ‘rarely’ used trade practice. Barter is actually a primitive form of direct exchange which culminated with the emergence of money.

According to Murray Rothbard in “Money: Its Importance, Origins, and Operations” from the Mystery of Banking,`` Before coinage, there was barter. Goods were produced by those who were good at it, and their surpluses were exchanged for the products of others. Every product had its barter price in terms of all other products, and every person gained by exchanging something he needed less for a product he needed more. The voluntary market economy became a latticework of mutually beneficial exchanges.”

But problems accompanied barter as a means of exchange, namely:

1. Double Coincidence of Wants-difficulty of matching specific wants

2. Indivisibilities-the problem of precise adjustments and exchange of supplies

3. Business calculation-determining profit or losses

Thus adds Mr. Rothbard, ``Barter, therefore, could not possibly manage an advanced or modern industrial economy. Barter could not succeed beyond the needs of a primitive village.”

``But man is ingenious. He managed to find a way to overcome these obstacles and transcend the limiting system of barter. Trying to overcome the limitations of barter, he arrived, step by step, at one of man's most ingenious, important and productive inventions: money.

So if barter is a primitive way of conducting trade without money, why do nations today embark on such activities? The article says “failure to secure trade financing as bank lending has dried up”. This means the gridlock in the banking sector has impaired the facility of exchange, particularly in the payments and settlements functions.

Thus, temporarily nations have resorted to direct exchange. One must be reminded that most of the problems of credit paralysis have been centered on the US banking industry, which essentially operates as the main conduit for the US dollar standard. This implies that prolonged disutility of credit from the present system could lead nations to adopt an alternative “medium of exchange”.

So aside from the prospects of massive inflation, a persistent dysfunctional banking system could risk jeopardizing the role of the US dollar as international reserve currency.

Do Central Bankers Know What They're Doing?

Great video portrayal of the Fed's balance sheet expansion from's 'Fed Fail'...

Zimbabwe’s Dr Gideon Gono: To Ensure My People Survive, I Had To Find Myself Printing Money.

To all of you who are Dr Gideon Gono fans out there, here are some of his notable commentaries based on a Newsweek interview:

Dr. Gono: I've been condemned by traditional economists who said that printing money is responsible for inflation. Out of the necessity to exist, to ensure my people survive, I had to find myself printing money. I found myself doing extraordinary things that aren't in the textbooks. Then the IMF asked the U.S. to please print money. I began to see the whole world now in a mode of practicing what they have been saying I should not. I decided that God had been on my side and had come to vindicate me.

My comment: Political survival of the Mugabe regime drives Dr. Gono’s policies. Moreover, as Dr. Gono implies, you don’t need the borrowing and lending gobbledygook to debase a currency. 

And this is a lesson that applies even to developed economies faced with the present crisis. While they speak of doing these for the 'good of the people' or restore economic growth, the crux of the matter is that they are wantonly debasing their currencies to reduce real debt levels at the expense of the general public. Unfortunately mainstream economists, most especially the popular genre, don't seem to get it. Policies based on political survival don't match with the interests of the public. 

Dr. Gono: The stockbrokers were creating a money supply that wasn't there. I printed Z$1.5 quadrillion, but the exchange was operating with Z$100 sextillion. So I said, "Who is doing my job?" Unless there is more discipline and honor, the exchange will stay closed. I can't be bothered. I don't know when it'll open. It's a free market, a business which must be allowed to succeed or fail.

My comment: Dr. Gono hates competition and that’s why Zimbabwe stock exchange was closed. He hates it when people shun their currency to look for a substitute 'store of value'. 

Another probable reason could be due to the industry's desire to conduct transactions in foreign currency which obviously will compete and undermine his authority. Where Dr. Gono's power to wield control of his constituents emanates through its currency, a society's shift to an alternative medium of exchange effectively attenuates the vitality of the tyranical Mugabe-Gono regime.

Dr. Gono: It's a mystery to many how I have survived. I am modestly credited with the survival strategy of my country. The issue is if you want to break Zimbabwe and want it to fall, just deal with one man. You deal with Gideon Gono.

My comment: Another example of Fatal Conceit.

Dr. Gono: It's impossible to be directing the course of an entire economy and divorce yourself from politics. Politics are important because the turnaround of the economy hinges on political stability, but I can't tell when that will happen.

My comment: This is an example of an oxymoronic or “seemingly self-contradictory effect” statement. Political stability can't be attained because he and Mr. Mugabe are the cause of the miseries of Zimbabwe.

Video Ron Paul: Liquidate Debt and Get Rid of Malinvestments

Some notable excerpts from the media inquest of Congressman Ron Paul:

When government spend money they spend it on non-productive manner and every penny the government spends they have to take it out of a productive source of money, money has to come from somewhere.

The house is on fire and you think you are putting water on it and I think we are putting kerosene on it…yes we should put more money into the car industry but it should come from the private sources. It shouldn’t come from government because governments will divvy up the money politically...If there is anything of value it will be bought up…you have to allow real capital to flow in.

Fault in the thinking that we would need so much government

We should have more [regulations] on the Federal Reserves so that we know what they are doing as they are exempt from regulations

We gave treasury $325 billion dollars and we don’t even know where they spent it

If you understand leveraging up equities and debt you have to look at fractional reserve banking that’s where you pyramid debt. So they’re doing exactly what the federal reserve does, as they create money out of thin air and they pyramid debt. That’s where the bubble comes from. That’s why you have to look at monetary policy, you’re looking at the symptoms rather than the cause.

As long as you do it through debt financing it is impossible, ideally roads and bridges should be taken over by our states, it wasn’t designed by the constitution that the Federal government would take care of every bridge and every road. But that isn’t the worst type of spending and I think in the interim we certainly could cut the spending overseas. But we’re gonna bring ourselves to our knees we’re gonna have a dollar crisis, we’re doing exactly what Osama Bin Laden wanted to do what he did to the Soviets, he is bringing about financial chaos to this country, and we got to realize that excessive of spending is the problem it’s not that we need more government spending.

The reality is you have to liquidate debt and get rid of malinvestments, if you don’t do that you can’t do it. But what you are doing now is you are working on the destruction of the dollar, there is a pretense that you are going to improve things but you’re really gonna destroy the dollar and the financial crisis we have today is going to be a dollar crisis.

So you can’t blame the people who are trying to correct the problems on the unemployment you got to blame the people who created the bubble, the people who were delighted with all the billions of dollars they were making in the last decade...

Tuesday, January 27, 2009

Technology: From Imagination to Reality (and Business Opportunities too!)

New Scientist suggests of “Ten sci-fi devices that could soon be in your hands(pictures from New Scientist)

1 Super-vision…

The Super-vision technology will be introduced by ``the Prism 200 which can detect people through a brick wall by firing off pulses of ultrawide-band radar and listening for returning echoes.”

2 Disappearing act…

Harry Potter’s ‘invisible cloak’ turns real based on the technology of steering electromagnetic waves by virtue of metamaterials!

3 Hands-free healing…

A band aid kit in the future will possibly include high-frequency sound waves based portable scanner that would not only spot internal injuries (e.g. torn arteries), “but also heal them in a flash.”

4 Spider vs gecko…

Spiderman technology or hair based nanotubes that may allow vertical “stick to the wall” movements!

5 You power…

Gadgets like pacemakers that can be implanted and powered by electricity generators from our heart!

6 Jet packs…

James Bond move over, personal rocket belt jets are coming!

7 My other car is a spaceship…

Space travel coming to reality?!

8. Breathe underwater

Swimming with artificial gills ala Man from Atlantis

9 You speak, it translates

Forget language barriers. The evolving revolutionary technology in speech recognition and translation software is coming to close that gap!

10 Smell-o-vision

To make watching TV attain a vicarious experience, smell-o-vision will give off scents/smells that fit the scenes.

Our observations:

Technology, like any businesses undergo transformational cycles as they get accepted into our lifestyles (see above chart).

Such advances may dramatically progress if they are allowed to develop by means of competition and less regulation.

And dramatic improvements of technology should improve our lifestyles or business process flows the way the cellphones and the web has done (lower communication and transaction costs, ease of flow of communications or data, and etc.)

Moreover, technological progression also translates to huge potential investment opportunities, as the transformational cycle allows for greater diffusion of its application. In Austrian economics lingo: lengthening of the production structure.

Read the entire article and its gallery from New Scientist

Sunday, January 25, 2009

Are Stock Market Prices Driven By Earnings or Inflation?

``All political thinking for years past has been vitiated in the same way. People can foresee the future only when it coincides with their own wishes, and the most grossly obvious facts can be ignored when they are unwelcome. Political language... is designed to make lies sound truthful and murder respectable, and to give an appearance of solidity to pure wind.” -George Orwell, 1984

Theory, Experience and the Consensus Thinking

My first venture into this field gave me the impression that stock market prices had been fundamentally driven by company earnings. Thus I worked my way into the learning the ways to “project” earnings. Now years after, I’ve come to the conclusion that the importance of earnings is secondary.

Yet, such mindset continues to reflect on the consensus thinking. As most of the books, the preaching of the academe and especially the orientations of my peers that are regularly communicated either verbally or through transcriptions via newsletters persist to influence the investing public.

Nonetheless, during the early days, from a strict “fundamental” standpoint, experience altered my perception of the markets. Going along with my contemporaries, I was made to believe that profits involved NOT only earnings, but from special activities as “deals or mergers”. So the goal now shifted from studying corporate fundamentals to one of ascertaining advance information from insiders, and correspondingly took bets on them.

And obtaining insider information meant networking with many people, which prompted me to join forums and groups. Unfortunately, the hunt for financial glory, which turned out to be a profit tryst was nothing but systematic punt and which ultimately taught me an expensive and emotionally agonizing lesson when the market reversed.

Nevertheless during the heydays of the 90s and the subsequent depression, I came to realize too that there had been some blatant inconsistencies with what is understood by consensus based on the dogma of “earnings-as-drivers” and from those acquired through experience.

I realized that on good times everyone seemed energized as the stock market levitated, and on the contrary, during bad times, everyone was either somber or looking for a new endeavor outside the stock market.

Market Tides And Stock Prices

It was then from the classic book “Reminiscences of A Stock Operator” of Edwin Lefèvre or a.k.a the legendary Jessie Livermore that my empirical observations was reinforced.

Remember this Edwin Lefèvre quote which we used to warn of the transitioning bear market in 2007,

``I NEVER hesitate to tell a man that I am bullish or bearish. But I do not tell people to buy or sell any particular stock. In a bear market all stocks go down and in a bull market they all go up...I speak in a general sense. But the average man doesn’t wish to be told that it is a bull market or a bear market. What he desires is to be told specifically which particular stock to buy or sell. He wants to get something for nothing. He does not wish to work. He doesn’t even wish to think. It is too much bother to have to count the money that he picks up from the ground.”

In contrast to mainstream brokers who ceaselessly bombard you with the hackneyed “earnings-as-drivers” of the market, market reality shows otherwise (see figure 1)

Figure 1: Market Tides Applies to the Phisix Sectors and the World

The upper window is the performance of the sectoral or industrial indices of the Philippine Stock Exchange which spans from 1996 to the present. Do you notice of any material divergence? The answer is none. (chart index: green-Mining, blue-Properties, black-Bank, pink-Commercial Industrial, red-Holding, red orange-service)

The point is stock prices in general, as rightly observed by Mr. Lefèvre, sink or swim depending on market tides.

Do you not wonder why speculative issues or even shell companies greatly outrun cash flow backed fundamental issues during bullmarkets? Or has there been any domestic stock issue (speculative or blue chips) that has been spared from today’s grizzly bear market?

Case Study: Robinsons Land Corporation

Let us make an actual comparison. I will use Robinsons Land Corporation (RLC) as an example. My choice of RLC came about out of availability, it is the company that last reported a disclosure on January 23 (I don’t own RLC) and is likewise Phisix component.

According to the company’s disclosure, “audited consolidated net income by the end of the fiscal year 2008 (October 2007 to Sept 2008) amounted to Php 3.15 billion, up 29% from the same period last year.” Even in 2007, the same figures showed a 42% growth.

On the other hand, its stock prices have COLLAPSED EVEN AS REVENUES CONTINUE TO CLIMB, albeit at a slower DOUBLE DIGIT pace. RLC prices peaked on February 2007 at Php 23 and closed at Php 4.8 Friday or a loss of an astounding 79%!

Yet if stock prices function as forward discounting mechanism based on future earnings streams then the recent stock price trend of RLC conveys a message of a very steep collapse of revenues and earnings, possibly similar to those in the US. Remember, RLC’s stock price slump has been two years old (in 2007 +1.5%, in 2008 -70%)! Usually markets are ahead of fundamentals by 6 months.

And at the close of November of 2008, which is not far from where RLC last traded Friday, according to the PSE, RLC has a dividend yield of 9.14%, 154 basis points higher than the Philippine government 10 year bond (!!!), a price-to-earnings of 5.82, a price to book of .73 and a debt equity of .78.

So the point is, if the market is CORRECTLY pricing future earnings then the company’s balance sheet and income will deteriorate tremendously over 2009 almost 24 months into the RLC price summit. On the other hand, the market may NOT have been reflective of the fair market value of the company and has been INFLUENCED BY OTHER FACTORS HARDLY CORRELATED with the company’s fundamentals.

And if we apply the same logic, the Philippine benchmark the Phisix or the PSEi which has lost nearly 55% from peak-to-trough, has a dividend yield is 5.63%, a PE ratio of 9.76, Price to Book at 1.28 and debt equity of 2.78. Yet the collapsing stock market doesn’t square with the economic figures which registered moderate but POSITIVE growth and NOT a recession.

In short, evidence defies consensus thinking. (I have seen the same story in 2002)

Bubble Cycles Defines Today’s Risks Environment

And curiously we see the same developments overseas. Going back to the chart, from 1999, seen from the lower window, exhibits some of major global benchmarks-S&P 500 (black), Brazil’s Bovespa (blue), Japan’s Nikkei (violet), Hong Kong’s Hang Seng (red) and the Phisix (green)-have ALL moved synchronically.

You might object, but what about my old mining and oil issues that became wall papers? Doesn’t this signify the need for fundamentals?

Well the answer to that question is shown in figure 2.

Figure 2: Cyclical nature of Commodity prices over 200 years

Let us put this into perspective.

This isn’t simply a matter of “speculative” issues that had gone kaput. The fact that Enron, once the 7th largest company in the US, went bankrupt in 2001, today’s quasi nationalization of the world’s former 18th largest public company in American International Group (AIG), the bankruptcy of Lehman Brothers, founded in 1850 (!) and was the fourth largest US investment bank, the forced merger of Bear Stearns-also founded in 1923 and was one of the largest US investment banks- with JP Morgan and importantly, the DEMISE of the US investment banking industry (Economist) or the transformation of its relics to bank holdings, only goes to show that whether it is a defunct speculative mining issue in the 1980s or erstwhile blue chip behemoths as today, they are subject to the risk influences of bubble cycles.

And an unwinding bubble cycle,

1. strips the CHIMERICAL INVINCIBILITY of industry leaders (e.g. US investment banks, real estate industry, mortgage lenders and etc…),

2. unmasks FRAUDS and corporate SKULLDUGGERY (e.g. Madoff and Enron) and

3. bankrupt UNVIABLE companies (old speculative mining issue)…

…all of which had been founded or built upon unsound business models.

The Philosopher’s Stone

Bubble cycles are shaped by monetary policies which are aimed at inciting PERMANENT boom conditions by omniscient ‘Powers That Be’, particularly interest rate manipulation.

Yet defying basic economic laws, when interest rates are forced below market levels or at the rate at which the demand for and supply of capital are equalized, excess credit, which the central bank creates, unduly expands demand for assets. Worst of all, by discouraging or even punishing savings, it encourages expanded risk appetite or speculation.

In other words, business projects that shouldn’t have existed at all are given false signals from which they rush in to take advantage of.

Yet, the ensuing illusionary boom distorts the capital structure and overvalues the currency through the intertemporal misallocation of resources or malinvestments, thereby increasing unpredictability into entrepreneurs’ plans. Moreover, an overvalued currency induces a shift of manufacturers overseas.

Hence, the onrush of demand for assets lowers the demand for money which leads to increases in interest rates and which ultimately impacts the feasibility of these unsound business model based companies.

Hence, the boom eventually turns into a bust, where according to Ludwig von Mises, ``The boom is called good business, prosperity, and upswing. Its unavoidable aftermath, the readjustment of conditions to the real data of the market, is called crisis, slump, bad business, depression. People rebel against the insight that the disturbing element is to be seen in the malinvestment and the overconsumption of the boom period and that such an artificially induced boom is doomed. They are looking for the philosophers' stone to make it last.”

Nonetheless some invaluable insights from the late University of Vienna Professor Fritz Machlup (1902-1983) in The Stock Market, Credit and Capital Formation, on the tight relationship between inflation, bubble cycles and the stock market (bold emphasis mine):

-A continual rise of stock prices cannot be explained by improved conditions of production or by increased voluntary savings, but only by an inflationary credit supply.

-Extensive and lasting stock speculation by the general public thrives only on abundant credit.

-Abundant funds, especially those of inflationary origin, may not find ready outlets in real investment.

-Any decrease in the effective supply of money capital is likely to cause disturbances in the production process.

-An inflated rate of investment can probably be maintained only with a steady or increasing rate of credit expansion. A set-back is likely to occur when credit expansion stops.

-The use of credit for financing working capital does not assure "self-liquidation" or liquidation free of disturbance. For the economy as a whole circulating capital mostly constitutes long-term investment and, if the volume of production is to be maintained, even permanent investment.

-The start of a general business upswing can be financed out of surplus cash balances without an expansion of bank credit. The temporary surplus cash balances, dishoarded at the beginning of the upswing, are set free again when the crisis is liquidated; they are then disposable for another upturn.

-If bank reserves are controlled by the monetary authorities, credit inflation should not be attributed to the stock-exchange boom. However, margin regulations may be an effective means of checking the expansion.

Conclusion and Recommendations

Overall, here are our observations and recommendations:

1. Seen from the overseas perspective, the transmission mechanism of inflationary policies from the US abetted by global policies geared towards financial globalization or the facilitation of cross border capital flows have narrowed national idiosyncrasies (decoupling) and reinforced synchronization of movements among major global stock market benchmarks (integration) during the recent boom cycle.

The same reverse effects from the credit bubble deflation can be seen today unfolding around the world today. And this convergent stock market deflation theme even applies to most of the US markets (see figure 3) or even to Warren Buffett’s flagship Berkshire Hathaway’s portfolio.

Harry Markowitz, the economist who popularized the Modern Portfolio Theory appears to have been invalidated with the recurring inflation deflation cycle. Today’s market conditions reveal that “diversification” under inflationary policies hasn’t been applicable…yet.

Figure 3: Gavekal: Deflating Margin Debt=Deflating Stock Market

2. Edwin Lefèvre’s empirical observation that individual stock prices move in the general direction of the markets is greatly supported by the role of central bank policies.

3. Monetary authorities have been aware of the significance of this stock market-inflationary policy relationship; hence have partly crafted policies in support of such outlook. As evidence, US Federal Reserve Chairman Ben Bernanke wrote in his A Crash Course for Central Bankers, ``History proves, however, that a smart central bank can protect the economy and the financial sector from the nastier side effects of a stock market collapse.”

4. Inflationary/deflationary environments shape risk taking appetites. Under loose monetary conditions or boom cycles, augmented risk appetites translate to a stretching for yields. This also means that the selection breadth by market participants of the asset horizon widens.

In general, like tea poured into a teacup that is filled to the brim, the tea spills over to the saucer and eventually out to the table and to the floor. An easy money landscape extrapolates to a “rising tide lifts all boat” as excess money diffuses to the general market.

And conversely, when the liquidity tide goes out or in bust cycles, you will learn that many have been caught swimming naked (estimated $30 trillion in 2008), to paraphrase the world’s best stock market investor Warren Buffett.

5. Because the Philippine stock market is largely underdeveloped, have low penetration level of exposure, have low degree of sophistication and whose domestic participants have inadequate understanding of the markets and thinks that they are some form of “gambling casinos”, an inflationary environment extrapolates to surging speculative activities which often directs punts to high volatile “issues”.

6. In advanced and sophisticated markets as the US, the weightings of “earnings as driver” may have bigger contribution to pricing relative to underdeveloped markets but as the Berkshire Hathaway portfolio shows has been impacted by the inflation deflation cycle.

7. Unlike typical brokers who will frame and impress on the public with the “earnings as drivers” theme, our advice is to understand not so much of “micro” fundamentals and “market timing”, but more from the unorthodox standpoint of comprehending the market, economic, political-inflationary and business cycles. Markets ultimately as seen today are driven by inflationary actions in the era of fractional standard based modern central banking.

8. Most brokers spread the wisdom of “earnings-as-drivers” theme but tacitly intend to induce trades, where earnings do not seem to matter. They will ask you to open a position based on fundamentals (e.g. PE ratio) and close the same position based on price actions (e.g. sell on resistance). Remember, “fundamentals” and “technical price actions” are distinct tools in approaching the market. Avoid the confusion by identifying, planning and implementing these tools (one or the other or a mix of) before going into any trade/investment.

9. Lastly Professor Fritz Machlup drives a very important point about the prospects of recovery, he says ``The start of a general business upswing can be financed out of surplus cash balances without an expansion of bank credit. The temporary surplus cash balances, dishoarded at the beginning of the upswing, are set free again when the crisis is liquidated; they are then disposable for another upturn”.

Again against consensus thinking, SAVINGS AND NOT CREDIT is likely answer for the recovery.

San Miguel’s Shifting Business Model: Risks and Opportunity Costs

``An investment operation is one which, upon thorough analysis promises safety of principal and an adequate return. Operations not meeting these requirements are speculative.”-Benjamin Graham

We recently read with interest how San Miguel has been scaling down on its Beer business model and has been phasing into the energy sector gradually.

Note: Our comments here are not intended for any recommendation but serves as to analyze on the possible opportunity costs of the shifting corporate strategy of the second largest publicly listed company ( of the Philippines.

Although we are not clear about the details of the proposed changes in the structure of ownership of San Miguel, Japan’s Kirin Holdings which has reportedly acquired a cumulative 19.7% stake in the company in 2001 and 2005, is reportedly in talks to acquire a majority share.

According to Finance Asia, ``Japan’s Kirin Holdings and San Miguel Corporation yesterday announced that they have signed a memorandum of understanding which includes an exclusivity clause for Kirin to acquire a further 43.25% stake in San Miguel Brewery. No financial details were disclosed, but based on San Miguel Brewery’s last traded share price, the stake is estimated to be valued upwards of $1.25 billion.”

Yet, recently San Miguel [SMC: SMCB] acquired the 27% stake of the Philippine Government Service Insurance System (GSIS) in Meralco ( and a 50.1% stake in Petron from a London-incorporated investment fund Ashmore Investment Management Ltd while dabbling on the idea to enter the telecoms industry with Qatar Telecom (

Thus, San Miguel’s business model is being overhauled over a very short period of time.

The Risk Variables

From our point of view, the shift in San Miguel’s corporate strategy comes with the following risk variables:

1. Competency risk. As the company veers away from its métier, it will incur a learning curve. While the company may “acquire” experience to reduce the costly interfacing of such learning curve, the drastic changes in the business path could entail some challenges in the operational, management and or corporate culture by way of frictions.

2. Country concentration risk. San Miguel which used to diversify its business internationally seems to be putting all of its eggs into one basket-banking on the Filipino consumers.

3. Restrained Profits. The consumer based energy industry is a heavily regulated industry with attendant regulatory profit caps. Meanwhile growth prospects are likely to follow the growth conditions of the local economy’s growth.

4. Political Risks. Extreme price changes in consumer energy could lead to highly volatile social mood swings. In times of political extremities, where governments can turn “outside-in”, the risk of nationalization could play a significant ‘sword of Damocles’ over the company’s new business model.

5. Late Mover Disadvantage. The telecom industry is a highly competitive capital intensive environment. Trying to gain market share from the existing players at time where the mobile user’s penetration level is at 60% seems quite challenging. It would be better for the company to acquire one of the existing players or adopt a ‘pail and shovel’ approach by introducing technology related which could cater to the industry.

The Opportunity Cost

San Miguel’s decisions will also mean lost opportunities. And this will include the loss of capitalizing on:

1. Asian consumption growth.

While today’s financial crisis is expected to hurt consumer spending everywhere, it is simply part of the business cycle which ultimately will segue into a recovery.

From our point of view, today’s crisis should be used as an opportunity to position for such cyclical transitions and eventually reap on the rewards of the prospective dynamism of the fast growing region.

According to the Economist in 2007, ``CHINA has the world's biggest thirst for beer, comfortably outstripping the country in second place, America. But the Chinese market is highly fragmented. Around half of all the suds sold in America is produced by Anheuser-Busch, brewer of Budweiser. Snow, China's most popular cold one, commands only around 5% of that country's market.”

Figure 4: Economist: Top TEN Beer Markets

In short, a fragmented market in a rapidly growing economy like China can translate to enormous potentials to secure added market share and expand profits.

2. Currency regional currency gains. Exposure overseas extrapolates to revenues in localized terms. With our expectations of Asian currencies to appreciate over a longer horizon, the potentials of such currencies gains could compliment profits will be missed.

3. Exploit Other Global Opportunities. San Miguel could have used the present opportunities to expand into consumer related industries parallel to their field.

The Boston Global Group in their 2008 New Global Challengers identifies the possible success dynamics for companies in Rapidly Developing Economies (RDE) over the coming years, see figure 5.

Figure 5: Boston Consulting Group: 2008 New Global Challegers

According to BCG, ``Our analysis of the 2008 BCG global challengers reveals globalization dynamics that are already affecting every market and industry, reshaping the world’s economic landscape.”

The BCG candidates for the world’s fastest growing companies come from mostly the BRIC (Brazil, India, Russia and China) zone. While our neighbors have some representative Indonesia (1), Malaysia (2) and Thailand (2), the Philippines have none.

The 6 BCG models quoted from Atlantic community

``1. Taking RDE Brands Global: Having established their brand identity in their home markets, companies attempt to take their brand global. Usually their expansionary growth is entirely organic, as witnessed at India’s Bajaj Auto or Brazil’s Nature cosmetics.

2. Turning RDE Engineering into Global Innovation: Low labor costs and strong R&D performances offer RDE companies global competitive advantages, as with Brazil’s Embraer, the world’s third biggest aviation company.

3. Assuming Global Category Leadership: Faith in their own product’s strength drives some of the challengers to an attempt to assume a leading role in their line of business. China’s battery producing BYD has successfully realized such a strategy.

4. Monetizing Natural Resources: Spurred by soaring commodity prices, the challengers can increasingly use mergers and acquisitions (M&A) to expand globally and to secure viable growth. An example would be India-based Hidalco’s recent purchase of Canada’s Novelis.

5. Rolling Out New Business Models to Multiple Markets Companies such as the Mexican mobile-network operator America Movil adapt their branding and marketing strategies to different regions, while retaining their basic business model. This has allowed them to expand their business into new markets while localizing operations in each.

6. Acquiring Natural Resources Assisted by their government, some challengers — especially Chinese ones — focus on securing their access to resources to ensure long term growth.”

Basically, San Miguel’s main opportunity cost is the cost of globalizing its business model.

There could be two possible angles from which we suspect could have shaped these strategy shifts:

One, the San Miguel management believes that recent globalization trends might be reversed over the long term and thus has positioned defensively by going domestic or

Second, the company’s chairman Eduardo Cojuangco Jr., who is founder of the National People’s Coalition and has ran against Fidel V Ramos for the 1992 presidency but lost, could possibly have politically associated strings to these acquisitions with the 2010 elections only a year away.

Saturday, January 24, 2009

Burgernomics: 2008 Financial Crisis Cheapens Asia's Big Macs

According to the Economist, ``THE dollar's recent revival has made fewer currencies look dear against the Big Mac index, our lighthearted guide to exchange rates. The index is based on the idea of purchasing-power parity, which says currencies should trade at the rate that makes the price of goods the same in each country. So if the price of a Big Mac translated into dollars is above $3.54, its cost in America, the currency is dear; if it is below that benchmark, it is cheap. There are three noteworthy shifts since the summer. The yen, which had looked very cheap, is now close to fair value. So is the pound, which had looked dear the last time we compared burger prices in July. The euro is still overvalued on the burger gauge, but far less so than last summer."
True. Applied to Asian currencies, after a nearly broad market rout during the last semester (see below from ADB Bond Monitor), except for the Japanese Yen and China's remimbi, most of the region's purchasing power parity computed Big Mac Index became more affordable relative to the US dollar. Thus, the region's currencies are likely to have more potential exchange rate value appreciation over the long run.

Credit Default Risk Update: Bond Vigilantes Around the Corner

An updated list of credit default swap (CDS) prices and changes to default risk based on 38 countries courtesy of Bespoke Invest.

In general, sovereign default rates have been higher.

But the biggest the surge in default risks on a year to date basis have been in European countries, particularly in Ireland which jumped 58%, Belgium 53%, Spain 52% and Portugal 51%.

And the banking based financial turmoil has weighed heavily even on its major European economies as Germany, UK and France.

The regional pecking order of default concerns appears to be: Europe, Latin America and Asia.

Fortunately, the Philippines have so far had inconsequential changes.

Perhaps recent success of its latest bond offering which had been well received was reflected by such the seeming equanimity of CDS spreads (see see Philippines Secures Funding Requirements; Return Of The Bond Vigilantes?).

The following is the table of CDS prices…

In terms of CDS prices, according to Bespoke, ``As shown, Argentina and Venezuela have the highest default risk, followed by Iceland, Kazakhstan, Russia, and Egypt. While the UK and US have relatively low default risk compared to most other countries, their CDS prices are getting worrisomely high. At the start of 2008, it cost about $8 to insure $10,000 of UK and US debt. It now costs $135 to insure UK debt and $75 to insure US debt. Japan has the lowest default risk of all of the countries highlighted, followed by Germany and France.”

As far as we are concerned, the Bond vigilantes seem to be lurking around the corner.

Top 10 Global Business Risk

A report by Ernst & Young and Oxford Analytica vets on what they perceive as the top 10 business risks for 2009.

The report had been based from the “views of more than 100 analysts from around the world and more than 20 academic disciplines”, according to Research Recap.

The list as follows:

And the distribution of risk concerns applied to major industries…
Read the entire report here

Friday, January 23, 2009

US Politics: Extrapolating Hope and Change to Presidential Term Realities

In politics “hope” and “change” are common catchphrases which may help serve as a useful ticket to winning elections.

According to the Economist, ``BARACK OBAMA is fond of hope and change. By one tally, he said “hope” nearly 450 times in speeches delivered on the campaign trail. (By contrast, his rival John McCain only used the word 175 times.) “Change”, too, was a campaign buzzword. In his inaugural speech Mr Obama made three mentions of hope and only one of change (plus a “changed”). He mentioned America seven times, followed by “work” and “common” (six times each).

``While hope has found a place in each of the 26 inaugural addresses, change is used more sparingly. Seven inaugural speeches did not contain the word; six more made use of it just once. Presidents coming to office during economic booms, such as Calvin Coolidge and Warren Harding in the 1920s, Dwight Eisenhower and then George Bush junior, have been heavier users of hope than those who were inaugurated during leaner times.”

The Economist list the number of times “hope” and “change” were used in all previous presidential inaugurations.

Why the prominent use of hope and/or change by politicians? To market themselves…even after elections.

As Seth Godin explains, ``The reason is simple: people need more. We run out. We need it replenished. Hope is almost always in short supply.

``The magical thing about selling hope is that it makes everything else work better, every day get better, every project work better, every relationship feel better. If you can actually deliver on the hope you sell, there will be a line out the door. Hope cures cynicism. Hope increases productivity. Hope needs no justification.”

Yet, marketing and delivering promises are two distinct things. In the political sphere, sloganeering can be possibly shaped by the prevailing economic conditions or by just plain rhetoric.

To advance this perspective, we will attempt to get some clues by comparing these to several indicators.

But we will have to narrow the Economist list starting from 1953. The abridged ranking is as follows:

1. Dwight Eisenhower (1953,1957), 2. George Bush Sr (1989), 3. George Bush Jr. (2005), 4. Richard Nixon (1969), 5. Lyndon Johnson (1965) 6. Ronald Reagan (1985), 7. John Kennedy (1961), 8. Harry Truman (1949), 9. Ronald Reagan (1981), 10. Bill Clinton (1993, 1997), 11. George Bush Jr. (2001), 12. Jimmy Carter (1977) and 13. Richard Nixon (1971).

And we will concentrate on the top 5 heavy political rhetoric (PR)…

From the GDP standpoint there seems to be little correlation between the top PRs and economic rate of change.

What seems noteworthy however is that the GDP volatility had been materially been narrowing from the Eisenhower to the Reagan Period (1953-1981) compared to the Reagan to Bush era (1981-2009).

The next chart is the measured against unemployment.

The top 4 out of 5 PR Presidents: Eisenhower, Bush Sr., Bush Jr. and Nixon saw unemployment surge as their inaugurals nearly coincided with the US economy’s transition to recession periods.

Only President Lyndon Johnson presided over a declining unemployment rate.

But noticeably for the two term Presidents in Eisenhower and George Bush Jr., the trend had mostly been up during their entire tenure!

The above chart from the Wall Street Journal exhibits the approval ratings during their tenure.

Some noticeable points:

-Harry Truman and George Bush Jr. had the highest approval ratings but spectacularly collapsed at the culmination of their term.

-George Bush Sr., who also had a surge in ratings possibly due to the Iraq war, likewise saw a sharp decline but not as steep as George Bush Jr. or Harry Truman.

-Dwight Eisenhower, who oversaw a sharp rise of unemployment, managed to end his term with exceptionally high approvals rating similar to Bill Clinton. Could this be due to the Korean war?

-Except for President Bill Clinton every past Presidents saw lower exit ratings compared to when they assumed office but the degree of variances are dissimilar. Nonetheless, in his inaugural address, Bill Clinton had the highest use of the word "change" among the Presidents.

-only George Bush Jr. seemed to score low in terms of popular ratings combined with a tenure of rising unemployment.

The high approval ratings can be expressed in terms of public approval of perceived actions or satisfaction of economic conditions or influenced by nationalistic fervor (war, 9/11 etc.) or expectations of hope or change and cannot be directly measured as economic performances.

Yet high approval ratings tend to be followed by a collapse over the years.

Finally we find no strong general association between political rhetoric and economic performance or whether politicians delivered the goods they promised.