Tomorrow’s Investing World According To The Bond King

``Get your facts straight, apply them to the current valuation of the market, take decisive action, and then hold on for dear life as the mob hopefully comes to the same conclusion a little way down the road.”-William Gross, 2+2=4

The highly reputed Bond King PIMCO’s William Gross suggests that the global investment climate have radically been transforming where ``future of the global economy will likely be dominated by delevering, deglobalization, and reregulating”, from which the investment sphere would lead ``to slow global growth, a heightened risk aversion, a distrust of conventional investment model portfolios, and a greater emphasis on surviving as opposed to thriving.” (bold highlights mine)

Protectionism From Reregulation

Seen from a general sense, the idea seems true. For instance, aside from a sharp drop in global trade and investment flows as a consequence to the near US banking collapse last year, recent signs of deglobalization include the steep decline in migration trends especially from the corridor of Mexico to the US (New York Times) or the emergence of protectionism from policies aimed at “protecting ” locals-interest groups and not the local population-and the subsequent trade frictions in reaction to these policies such as the recent escalating row between the US and Canada over pipe fittings (Washington Post).

However, the chaotic reregulation in the misguided and the convoluted premise of the market’s inability to self-regulate is likely to spawn an even deadlier backlash.

Policy measures, which piggybacks on noble sounding myopic populism, have immediate beneficial solitary effects but at the expense of long term and far larger and wider damage to the system. And in the case of the pipe fittings, the political boomerang appears to have generated a greater impact than from the immediate intended benefits for the privileged groups.

And as the Washington post aptly reports, ``With countries worldwide desperately trying to keep and create jobs in the midst of a global recession, the spat between the United States and its normally friendly northern neighbor underscores what is emerging as the biggest threat to open commerce during the economic crisis.”

``Rather than merely raising taxes on imported goods -- acts that are subject to international treaties -- nations including the United States are finding creative ways to engage in protectionism through domestic policy decisions that are largely not governed by international law. Unlike a classic trade war, there is little chance of containment through, for example, arbitration at the World Trade Organization in Geneva. Additionally, such moves are more likely to have unintended consequences or even backfire on the stated desire to create domestic jobs.” (emphasis added mine)

Yet, this may serve as a casus belli for a global trade war which requires our vigilance. So reregulation seems to be inspiring more of “risk aversion” than containing it-again another unintended consequence.

Delevering Isn’t Equal

However where we depart with Mr. Gross’ outlook is on the premise of delevering.

The notion of delevering implies of a world, including the Philippines, equally swamped by an ocean of debt.

In the Philippines, it is the public sector and NOT the private sector (household or corporate) that has significant debt exposure. But the public sector has been “delevering” since the Asian Crisis in 1997. So this observation, while true in many or most of the OECD economies, is far from being accurate yet from many of the Emerging Market’s standpoint. I say yet because present policies could drive the public to indulge in a debt spree.

Moreover, the notion of delevering puts into the prism that the world revolves around the US only. Similar to the defective idea that “decoupling is a myth”, recent events have disproved much of this misplaced conventional academic expectations as the world seems to be recovering earlier than the US, see charts in Investing "Ins" and "Outs": US led Global Economic Recovery and Decoupling a "Myth". Thereby, deglobalization and reregulation will likely accentuate the decoupling process as previously discussed in Will Deglobalization Lead To Decoupling?.

In the layman’s perspective, globalization can be interpreted as a process of world integration via the trade, investments, migration, and financial channels. A more globalized world should imply of more “recoupling”. On the other hand, deglobalization does the opposite.

Further, while many debt overstretched private sector in the OECD economies have indeed been “delevering”, governments have been substituting these losses with its own massive debt expansion binge see figure 1.

Figure 1: Economist: Pumping It Up

Savings rich and foreign currency surplus laden Asian nations have commodious room to undertake lavish fiscal stimulus.

If the policy options for Asian economies has been to choose between stashing US dollars at the cost of risking currency losses from a devaluing US dollar and spending these domestically then it would appear that Asia has opted for a “politically favorable” profligate public spending option-that’s because they can afford it!

US And China Pursues Diametric Policy Directions

Yet while many economists ascribed the recent the recent “outperformance” to these government activities, our take is much more of the “unseen”- aggregate colossal liquidity, the inherent low systemic leverage in the region, high savings, greater thrust towards regional integration in spite of the financial crisis, the aftershock of “Posttraumatic Shock Distress (PTSD)” effects and creative destruction have been the major driving force around Asia’s resurgence.

For instance, while the US seems to be antagonizing its closest and friendliest neighbor and ally Canada with “closed door” policies, China, on the other hand, has been aggressively adapting “open door” policies with erstwhile archrival, Taiwan.

Recently both key Asian countries announced more transportation linkages via new shipping routes, and the expansion of direct airway routes, aside from the easing of once prohibited investments where according to the Time magazine, ``For the first time, mainland investments would be allowed in a broad range of Taiwan manufacturing and services companies. China Mobile, the mainland's largest cellular-service provider, has already agreed to invest about $530 million in Taiwan's Far EasTone Telecommunications, although the landmark deal has not been approved by Taipei.”

Tax incentives have also been extended by China to the Taiwanese investors (Bloomberg).

Moreover, such collaboration hasn’t been confined to the economic plane but also extends to the world of politics, again from the Times Magazine, ``In perhaps the most hopeful sign of change, China recently relaxed its longstanding opposition to Taiwan's inclusion in international organizations. After being rejected since 1997, Taiwan was finally invited this year to be an observer at the World Health Assembly, the governing body of the World Health Organization — the first time it has participated in a U.N.-related forum since Taiwan lost its U.N. seat to China in 1971.”

In short, the underlying trend of policies undertaken by the US and China have been running on a diametric path. So if incentives drive human action, seen from the vastly divergent aggregate policies undertaken, then obviously the expected returns, considering the risks variables, should likewise be different. This view runs in contrast to mainstream ideology, who does not believe in incentives but on the inexplicable effervescent impulses of “animal spirits”.

So yes, the atmosphere where “heightened risk aversion”, a “distrust of conventional investment model portfolios” and “greater emphasis on surviving as opposed to thriving” most probably is applicable to the defunct US centric financial paradigm and the fast evolving politicization of the US economy which seemingly has become increasingly hostile to its business environment.

But we suspect that this path shouldn’t necessarily apply to Asia or to emerging markets unless a global trade war erupts.

Delevering In A World That Rewards Leveraging, Profiting Around Regulations

Yet delevering should be seen in the “right” context and not from a generalized point of view. We shouldn’t interpret some trees as representative of the forest. This is the Achilles’ heel of macroeconomists whose inclination is to oversimplify events.

Specifically, delevering is a market process being experienced by the private sector (mostly the housing and financial industry) in key OECD economies. This has not been valid relative to its counterparts for most of the Asian or Emerging Market economies-especially in the Philippines.

Aside from the thrust to replace private delevering with government leveraging, the collective policy thrusts by global governments has been to resurrect the status quo ante of systemic leveraging by imposing aggregate policies (Zero bound interest rates, Quantitative Easing, etc.) that encourage the “buy, speculate and spend” incentives, which effectively penalizes savers.

So systemic delevering isn’t likely to happen yet unless a global government bond bubble goes ka-boom which isn’t distant from our perspective.

Incidentally, Mr. Gross has been staunchly supportive of the same unsustainable serial bubble blowing interventionist policies. Mr. Gross expects the US Federal Reserve to buy more long term treasuries in order to keep mortgage rates down. However, we can’t say as to how long artificial rates can be maintained by the US Federal Reserve’s manipulation and distortion of the marketplace, considering the huge amount needed to “fix” the price of the treasury markets. But we understand that interest rates in the US are ultimately headed higher, and Mr. Gross thinks so too as revealed by actions-PIMCO has reportedly been selling US Treasuries.

It would appear that world’s bond king’s alpha (extra or premium returns) has been to arbitrage from regulations and maybe that’s why his strong support for interventionist policies.

The Growing Dependence On US Government’s Inflationary Mechanism

``Inflation, in brief, essentially involves a redistribution of real incomes. Those who benefit by it do so, and must do so, at the expense of others. The total losses through inflation offset the total gains. This creates class or group divisions, in which the victims resent the profiteers from inflation, and in which even the moderate gainers from inflation envy the bigger gainers. There is general recognition that the new distribution of income and wealth that goes on during an inflation is not the result of merit, effort, or productiveness, but of luck, speculation, or political favoritism. It was in the tremendous German inflation of 1923 that the seeds of Nazism were sown.”-Henry Hazlitt, What You Should Know About Inflation p.130

Despite signs of recovery in the US stockmarket which most have imputed as “green shoots” of economic recovery, the immense inflationary policies, the unwinding of huge short positions, adjustments in accounting standards to accommodate financial statements of the banking sector, huge oversold levels, the PTSD effects and ‘positive’ earnings from the financial sector have all been significant factors which may have contributed to the recent rally.

Nonetheless here’s the message we’d like to repeat: inflation is a political and not a market process. When governments chooses the winners over the rest, through subsidies, loans, guarantees, bailouts, transfers, market maker or buyer of last resort or through fiscal spending-these are actions decided not by the marketplace but by the political authority. Price inflation as manifested in the markets or in consumer prices signifies as symptoms or the consequences emanating from the accrued policies of the past.

Today’s inflationary process has been driven by the promulgated desire by the global political authorities to cushion or jumpstart markets or economies from the recent crisis based on the economic ideology that governments can substitute for markets during “market failures”. In their ideology, it is assumed that markets always needs to go forward and should never falter- a misplaced perception of capitalism which is actually a profit and loss system.

The political process to inflate the market is seen as the only antidote against the market process, which had been recoiling based on natural economic laws against systemic over indebtedness or overleverage, overvaluation and a system built on excess capacity which produced supply surpluses against an artificially constructed debt inflated demand.

The most recent global collapse in the markets and economies simply reflected the natural state of markets which overwhelmed the untenable imbalances accreted in the system.

Yet by government’s opting to duke it out with market forces works to only delay and worsen the impact on the day of reckoning. Even more so are the policies which have been aimed to perpetuate the same unsustainable paradigm which had been at the root of the crisis.

We never seem to learn that the more imbalances built into the system, the bigger the impact of the next crisis.

And while inflationary policies appear to be gaining traction, which has managed to juice up the activities in marketplace or parts of the US and global economy over the interim, the ongoing market driven deflationary forces will most likely result to outsized volatility, especially in areas plagued by the recent bubble bust.

So those aspiring for “market timing” won’t likely get the same expected conventional patterns because the operational structure of the marketplace has been unprecedented in terms of the scale of government intervention and unparalleled in the scope of massive inflationary measures applied.

The same global inflationary process has apparently been manifesting its presence in the equity and commodity markets.

And that’s why most of the mainstream analysts have apparently been perplexed by the present developments, as economic figures and market signals have been in a deep disconnect. For the bulls, present market actions seem reflexive, they read today’s signals as signs of recovery, for the bears, market actions signify as overreaction and rightly the effects of manipulation. For us, today’s market action has been anticipated and represents as principally a function of inflationary dynamics.

Diminishing Federalism And The Emergence Of Centralized Government

Nonetheless, we expect that global governments to continue to use their “limitless” power to churn money from their printing presses to counter the adverse reactions from market forces.

The financing of US states could be an example why inflationary policies will persist. Presently, revenues in 45 out 47 states in the US have been sharply falling as shown in Figure 2.

Figure 2: Rockefeller Institute: Across The Board Slump in Taxes

And falling revenues against present level of expenditures implies of huge state budget deficits, this also translates to rising risks of state bankruptcies, if not the loss of the autonomous “federalist powers” from a deepening trend of dependency on Washington.

According to the USA Today, ``In a historic first, Uncle Sam has supplanted sales, property and income taxes as the biggest source of revenue for state and local governments.

``The shift shows how deeply the recession is cutting. Federal stimulus money aimed at reviving the economy and a sharp drop in tax collections have altered, at least temporarily, the traditional balance of how states, cities, counties and schools pay for their operations…

``Federal grants — early stimulus money plus conventional federal aid — soared 15% in the first quarter to a seasonally adjusted annual rate of $437 billion, eclipsing sales taxes, which fell 2%.”

Incidentally, California will hold a “special election” or plebiscite aimed at addressing the largest ever state budget gap next week (May 19^th). The electorate will vote on several proposed measures as raising taxes, paring down several social service programs, selling state landmarks and laying off some state workers. However, polls suggest that Californians will likely to vote down on the proposed measures which could translate to a credit rating downgrade or higher costs of financing.

Given the high chances of voter’s disapproval, the state of California will possibly have a harder time borrowing, which means that the odds for a bailout from the Federal Government loom larger, otherwise a state bankruptcy .

California could be a precedent for other states. And state bailouts by the US Federal government should translate to expanded deficits which will likely be met with more money printing, especially if the borrowing window shrinks (Financial Times). Yet if we look for signs from the recent actions in the auction market of US Treasury bonds, then government borrowing does not seem like a promising option.

So aside from inflationary costs, the other costs from state dependency on Washington, according to Conn Connell of the Heritage Foundation (bold emphasis mine) are, ``The costs of the loss of federalism to the American people are real. As Reagan outlined above federal aid to states blurs the lines of government accountability, making it easy for politicians to sneak in government-growing legislation and hard for voters to hold those politicians accountable. Moreover, as states become more dependent on federal funding, they begin to lose their ability to set priorities and make policy decisions that are best-suited to their specific needs. Finally, sending money to Washington, only so that it can later come back to the states, creates a fiscal detour of inefficiency and inequity.”

The point is: The Federalist structure of the US government appears to be evolving into a centralized platform gravitating around Washington, which has been using deficit financing as the primary instrument to shore up or consolidate power.

Entitlement Imbalances + Deficits From Present Crisis = Risk Of New Crisis

We may further add that recent developments have point to the imminence of the possible entitlement crisis encompassing the welfare programs of the US Social Security and Medicare as discussed in US Presidential Elections: The Realisms of Proposed “Changes”, see figure 3.

Figure 3: Heritage Foundation: Entitlement Crisis Dwarfs Current Spending

According to a report from Bloomberg (emphasis added), ``Spending on Medicare, the health insurance plan for the elderly, will reach a legal limit by 2014, the same year predicted in 2008, the trustees’ report said. It’s the third year in a row that Medicare’s trustees have pulled the so-called trigger, a law mandating that the president introduce legislation the following year to protect the program’s financing.

``The trustees’ annual report also estimated that Medicare’s hospital fund will be exhausted by 2017, two years earlier than predicted a year ago. The trust fund will need an additional $13.4 trillion to meet all its obligations over the next 75 years…

``Spending on Social Security is expected to exceed revenues in 2016, one year earlier than last year’s forecast, the report said. The trust fund will need an additional $5.3 trillion over the next 75 years to meet all scheduled benefits, the trustees said. The retirement-assistance program can continue to pay full benefits for about 30 years, the report said.”

In short, growing payments to beneficiaries are likely to be unmatched by revenue collections which should lead to expanded deficits. Again according to the same Bloomberg article,`` The government retirement system faces a cash shortfall because the number of retirees eligible for benefits will almost double to 79.5 million in 2045 from 40.5 million this year. By 2045, there will be 2.1 workers paying into the system for every retiree, compared with 3.2 workers this year.”

This implies another major source of pressure to raise financing.

Author and former Treasury Department economist Bruce Barlett in Forbes recently posited that the US may require taxes to rise by some 81% just to meet these coming budgetary shortfalls.

And considering the degree of deficit financing arising from today’s crisis, which if present programs don’t succeed to rekindle an immediate return to growth “normalcy” for the US economy, and combined with the growing risks of the entitlement crisis, all these could translate to a jarring future for Americans-the risks may not be one of deflation but one of bankruptcy or at worst hyperinflation.

On the same plane, the former comptroller general of the US David Walker recently warned at the Financial Times of a prospective downgrade of America’s AAA credit rating should current trends persist.

Hence it seems to be much ignored by the mainstream or by policymakers how the structure of the US political economy has been evolving to apparently increase dependence on the US government’s inflationary mechanism to support the status quo, as currently depicted by evidences of the diminishing Federalism and from the huge intractable welfare programs which looks increasingly like a Ponzi financing model.

As famed economist Herb Stein once said ``If something cannot go on forever, it will stop.”

Ignoble Deficits And The $33 Trillion Global Government Debt Bubble?

``Let us be clear, the Dow rally is not squaring Obama's economic circle. His policy of big government is — at best — guaranteed to retard economic growth. The bigger the government the more resources it commands and the more resources it commands the fewer resources there are for capital accumulation. Even without the suffocating effects of increased regulation the increased demand for resources will in itself reduce the amount of entrepreneurial activities. And it is entrepreneurship that drives economic growth while savings fuel it. Obama's policy — deliberate or not — is one of severely curtailing both. Gerard Jackson Dark clouds hover over US economy

It must be an uncanny feeling for an incumbent President to warn on unsustainable deficit spending when the present surge in deficits has been a product of no LESS than HIS own doing see figure 3.

So from our end, such moralizing looks very much like chutzpah more than a sincere declaration to curb profligate spending.

Figure 4: Heritage Foundation: Change We Believe In-Exploding Deficits

But rhetoric aside, we understand that action speaks louder than words.

And where the US government seems to have opted for an inflationary path, underpinned by a political structure increasingly becoming dependent on an inflationary mechanism, inflationary dynamics tells us that policies will be directed towards achieving such end.

Hence what the government wishes for, is what we most likely will end up with-i.e. to the extreme ends. This is the fundamental bubble character of inflationary dynamics.

Remember, mainstream economists and policymakers favor rising prices over falling prices. The former is equated with “growth” while the latter is construed as a dreaded menace. Hence, the embedded inflationary mindset of policymakers, supported by the coterie of experts, requires policies that can engender an accelerating pace of monetary inflation to keep prices continually rising in order to create the illusion of prosperity.

And as Ludwig von Mises wrote in his magnum opus Human Action chapter 20 section 6, ``The boom can last only as long as the credit expansion progresses at an ever-accelerated pace. The boom comes to an end as soon as additional quantities of fiduciary media are no longer thrown upon the loan market.”

Hence, like the Ponzi finance operating in a pyramiding framework, inflation begets accelerated inflation to maintain a trajectory of surging prices, until of course, like the previous bubble based on US housing industry which had been financed by mortgage securities and the subsequent alchemy of designer structured finance products, everything screeches to a halt-out of the unsustainable nature of such debt driven policies.

Political Goals and Present Administrative Requirements Don’t Match

The current deficit spending isn’t only a US phenomenon, it has been global. That means much of the world has been frontloading expenditures through governments to replace “lost demand”, in the hope that their respective economies will see a normalization of growth trends from which should enable them to pay off these liabilities overtime.

According to analyst Satyayit Das, `` In 2009, governments around the world will have to issue US$3 trillion in debt. The US alone will need to issue around US$ 2 trillion in bonds (a staggering US$40 billion a week!). This compares to around US$400-500 billion of annual debt that the US has issued in recent years. This debt must be issued at record low interest rates.” (bold highlights mine)

In other words, two thirds of the world government financing for 2009 will emanate from the US. And present policies to compress interest rates haven’t been merely for mortgage refinancing but also to enable the US to secure low interest rate debts.

Yet in the past, Asians through China and Japan because of the huge accumulated surpluses had been the biggest buyer of US sovereign debts. Asian economies virtually stockpiled on US treasuries for political ends- to keep their currencies competitive for export purposes.

Foreign ownership of all US treasury issuance comprise some 28% according to Wikipedia.org see figure 5.

Figure 5: Wikipedia.org: Ownership Profile of all US Treasuries

Japan and China owns about 45% of the treasury portfolio held by foreign and international investors.

Since Japan and China has undertaken even more intensive government stimulus efforts as shown earlier, this trend doesn’t guarantee a repeat of the same dynamics where savings rich Asian governments will continue to recycle their surpluses on US treasuries.

This implies that the deficit spending of the US government will have to be funded by local (household and corporate) savings.

Yet, this places the US government at a dire predicament or its policies at a crossroad-the policy thrust has been to promote borrowing and spending (or less private sector savings) at a time when government requires the same savings to finance its deficits! So policy goals and present administrative requirements don’t match.

So if there will be a lack of financing from abroad and equally insufficient source of financing from local savers then the US government will most likely have to print its needs away!

$33 trillion worth of Global Government Debt Bubble?

Moreover, one analyst, Neil Jensen of Absolute Partners suggests that the financing needs of the world could have been understated see Figure 6.

Figure 6: Absolute Partners/safehaven.com: $33 Trillion question

Mr. Jensen who uses the research work of Harvard Professors Carmen Reinhart and Kenneth Rogoff on previous banking crisis as benchmark for his own work, says ``The true cost is important, because it has to be financed through new bond issuance, and it is my thesis that the sheer size of this tsunami will eventually overwhelm the world's bond markets...Using the official IMF estimates, the twelve most industrialised of the world's G20 countries (in my book known as the Dirty Dozen) will have to issue about $10 trillion worth of new bonds to cover the cost of the current crisis.”

``However, if you (like me) believe that IMF underestimates the true cost of this crisis, Reinhart and Rogoff offer a more realistic approach. Using their least costly case study (Malaysia 1997) as our best case scenario, the true cost comes to $15 trillion. If one uses the average of 86% instead, the cost jumps to a whopping $33 trillion. I didn't even bother to produce a worst case scenario - it all got too depressing!”

So reverting to basics, we go by Dr. John Hussman’s definition of inflation (bold highlight mine) ``Inflation is not driven by monetary expansion per se, but by growth of government spending, regardless of how it is financed. Inflation basically measures the percentage change in the ratio of two “marginal utilities”: the marginal utility of real goods and services divided by the marginal utility (mostly for portfolio and transactions purposes) of government liabilities. [the torrent of bond issuance in the above example-my comment] Think ice cream cones – the first one has a very high marginal utility, but the second one you eat has a little less, and so on. So increased supply tends to depress marginal utility, while scarcity raises it.”

So it is not deflation we should be worried about but massive inflation!

Philippine Remittance Trends: Half Full or Half Empty?

The recent divergent reportage on Philippine remittance trends is an illustration of selective perception or how facts are presented or framed in media according to the biases of the reporter or the news outfit.

Is it a case of being Half Full?

The Inquirer.net bannered with ``Remittances hit record high in March Q1 total up 2.7% at $4.06 B"

chart from abs-cbnnews.com

Or it is a case of Half Empty?

The abs-cbnnews.com headlines flashed, ``Pace of remittance growth slows to 3% in March"

chart from abs-cbnnews.com

As shown above, both have been dealing with stated "facts"- slowing year on year growth but nominal volume is at record highs, yet news headlines from different mainstream media outfits portrayed an antipodal stance.

So a reader may ask which truly reflects the state of remittance trends?

Well, based on the expectations of the economic "consensus" whose sentiment or analysis has been reflected by the chart above from World Bank, the general trend for world remittances has been expected to decline because of the present crisis. Obviously by comparing the chart above and the previous chart this downshift in growth expectations have been essentially validated.

But the same consensus had also expected remittance trends to go negative. And this is where the 'positive' surprise or defying the consensus came in. 

The positive surprise can be construed as a Black Swan (in terms of expectations and possibly on the impact to the domestic economy), therefore, in my view merits a positive angle.

Why is this important? Because how information are framed can materially influence one's biases or analysis. 

It can be seen as some form of "power of suggestion" or sublime indoctrination or shaping the public's outlook in the manner how media wants you to see it. And biased or inaccurate analysis may lead to misdiagnosis, wrong prescriptions or decisions and eventual losses and angst. 

For instance, the consensus have latched their predictions on the fate of the Peso's value mainly on remittances. Thus, for them, falling remittances equals a weaker Peso (against the US dollar). The fact that remittances hasn't nominally collapsed and whose growth hasn't turned negative suggests that their projections have also been wayward. 

For us, aside from other "unseen" factors such as portfolio flows, expectations on inflation, yield differentials and economic growth, systemic low leverage, improving state of the financial markets, greater regional integration and others; the "positive surprise", which contradicts the consensus, further boosts the Peso's chances against the US Dollar over the medium to long term.

One must keep in mind that information doesn't automatically translate to knowledge.

Investing "Ins" and "Outs": US led Global Economic Recovery and Decoupling a "Myth"

Fads also do go by the investment world.

Last year, the opinion pages had been dominated by two main themes:

one, that any economic recovery from the present crisis would emanate first from the US and

second, decoupling was a myth.

Chart from Financial Times

Recovery appears to be an ex-US phenomenon.

As for decoupling from the perspective of economic growth...

From US Global Investors

I guess these experts must have read too much from the rear view mirror.

Mark Mobius Latest Outlook on Emerging Markets

Templeton's Mark Mobius gives us why he's bullish with Emerging Markets.

This from Franklin Templeton's April Outlook

Q&A on Emerging Markets with Mark Mobius

What's your assessment of the global economy?

The global economy is in a situation where individuals, companies and economies are in a strong position to overcome the global crisis with support from their governments and central banks. We also believe that emerging markets will play a much greater role in the global economy. Countries such as China and India are expected to emerge as leaders due to their relatively stronger macroeconomic and financial positions.

In which regions are you most optimistic about investment opportunities?

Since it’s usually possible to find at least a few bargains in most markets, all emerging market regions are looking exciting; this is especially the case now, in view of the recent corrections. While global growth has slowed, emerging markets are still expected to grow at a much faster rate than developed markets. The accumulation of foreign exchange reserves also puts emerging economies in a much stronger position to weather external shocks with reserves, for example, in China, totaling nearly US$2 trillion. More importantly, for us as value investors, the current valuations of emerging markets are attractive. Certain countries such as Turkey and Russia are now trading at single-digit price to earnings ratios.

Asia is the largest emerging market region in the world. Asian countries are also growing relatively fast. They include countries like China and India with very large populations whose per capita income is growing, and capital markets in those countries are undergoing rapid development. Economic growth remains relatively high, per capita incomes have been rising, valuations remain attractive and reforms continue, thus improving the region’s business and investment environment.

Valuations in Eastern European markets are also attractive, very attractive in some markets such as Hungary and Turkey which are trading at low single-digit P/Es. Poland is one of the few countries in the region that is expected to record positive GDP growth in 2009. Its valuations are, however, are not as attractive as some of its regional peers. Russia is another interesting market. With its huge land mass, large population and abundant natural resources, the country could become one of the fastest-developing economies in the longer-term.

Most Latin American economies are faring relatively well taking into account the current global macroeconomic conditions. There are selective countries which are more prone to the global downturn. For example, Mexico, but greater inter-regional trade has offset some of the adverse impact of lower export demand from the U.S. One of the region's main attractions is its huge consumer market with pent-up demand for goods and services and world-class companies that are at the same time under-leveraged and inexpensive. In addition, the region’s natural resources are among the largest in the world. Countries such as Chile and Peru which are among the world’s leading copper producers. Mexico is a net exporter of oil. Brazil is a major exporter of iron ore, and soft commodities such as soybeans and coffee as well. Colombia is also exports commodities such as oil, coffee, coal, and so on. While commodity stocks have been negatively affected by the recent decline in commodity prices, many companies are still profitable at current price levels.

In addition, frontier markets, which are the emerging markets of the future, are starting to look interesting. For example, the Middle East is of great interest and we believe the potential for economic growth and development remains considerable, especially if the current trend toward the implementation of political and economic reforms remains on course. Africa is another area we’re excited about. In addition to South Africa, regional economies are also beginning to look attractive.

In your opinion, what are the biggest threats to the global economy?

- loss of confidence
- excessive or poor regulation
- adoption of protectionist measures
- abandonment of the market economy philosophy

Why are you so positive about the outlook for emerging markets?

One key reason is the rapid growth of money supply, not only in the U.S. but all over the world. Governments are trying their best to avoid deflation by pumping money into the economic system. This money must find a home and current savings interest rates, for example, for the US dollar, is not very warm and cozy. Investors have already begun to show renewed confidence and are seeking better returns. The obvious choice is equities. (italics added)

Specifically for emerging markets, we are optimistic because emerging markets:

- are undervalued, trading at extremely attractive valuations and have strong fundamentals
- have undervalued domestic currencies
- are expected to grow, in aggregate, faster than the developed countries
- will emerge as leaders due to their relatively stronger macroeconomic and financial positions.
- have strong holdings of foreign reserves, allowing them to better withstand any external shocks
- follow prudent fiscal policies
- have expanding trade and economic relations with each other; lowering their dependence on developed markets
- represent a huge consumer market as well as a large labor force
- have abundant natural reserves in countries such as Russia, Brazil and South Africa
- have strong potential for development in areas such as infrastructure

Food Crisis Watch: Has The Recent Spike In Coffee and Sugar Prices Been Ominous of Food Inflation?

A recent article from the Financial Times caught my eye. It highlighted on the "shortages" in sugar and coffee which according to the report triggered an attendant surge in prices.

Quoting the Financial Times (emphasis added), ``Caffeine addicts face higher prices for their daily fix as the wholesale cost of both coffee and sugar rise sharply because of poor crops and robust demand.

``“We are in a dangerous situation,” Andrea Illy, chief executive of Italy’s leading coffee company, told the Financial Times, warning that prices could “explode” due to supply shortages.

``His comments echo those of other industry players – and point to a sharp shift in sentiment among analysts.

``Until recently, it was widely assumed that the global economic crisis would damp consumption and prices for coffee. However, that forecast proved wrong, since demand for coffee has remained high, even while consumers have moved from cafés to home drinking."

And since we think that the ocean of money flooding the world today would need to flow into assets or goods or services, we suspect that such surges have been part of the "inflationary seep through".

So far, traces of rising food prices seems generally contained. Nonetheless there seems some signs that food inflation may have just begun.

in Pig and Feeder Cattle prices (courtesy of Danske)...

and in wheat, soybeans and corn, aside from sugar

Meanwhile, rice prices appear to be "bottoming"

From ino.com

Credit Suisse's Top 10 Investment Themes

Giles Keating head of Credit Suisse Economics and Strategy group recently published their top 10 investment themes for 2009 at their emagazine.

It's a curiosity though that these predictions came already half way through 2009. Anyway here is the list:

1. Short to Medium-Dated Bonds

2. Guaranteed bank bonds

3. Inflation-linked bonds

4. Solid Blue Chip Equities

5.Tech Stocks

6. China

7. Consumers Trading Down

8. Infrastructure

9. Hedging out the US dollar

10. Gold

For details read the rest here

Howe’s Tom Jeffries interviews Marc Faber

Some Highlights
Part 1:
-Lots of stocks & commodites have bottomed out
-Short term overbought
-Escalating deficits and easy money=inflation
-No deflation
-Problem is when economy recovers and inflation pressures arise, US federal reserve should increase rates forcefully
-Federal Reserve will be reluctant to do so because they hold so much bonds
-By being reluctant to do so they will below the rate of inflation, below the rate of GDP growth, that will be very inflationary
-Next 20 years US bonds will be in a bear market
-No green shoots only better bad news-government massaged figures
-Inflationary policies to support asset markets may be temporarily successful –you will get a lot of volatility
-Markets peak out on good news and they bottom out in bad news if someone doesn’t understand that he shouldn’t invest
-Lots of commodities are very attractive
-If they print money they will drive commodity prices up more than equities


Part 2:
-Corporate moves are fragmented, selective opportunities
-Deposit rate is ZERO
-The FED is encouraging speculation
-Credit cycles tend build up over a number of years
-People are beginning to recognize gold as the ultimate cash where supply can’t be increased
-I didn’t sell my physical gold because I don’t trust central banks, I want to be my own central bank, my only worry is that central bankers and governments have now proven how dishonest they are that they will take your gold away one day
-There is enough food in the world it’s the distribution problems and it's the ability to pay for food, but the tragedy is that the world has much money to build total waste of arsenal of weapons to fight and kill each other but they don’t have money to distribute the world equally.
-Lots of mining stocks still inexpensive
-Indices are more overbought and you have to be selective
-Nibble on real estate around the world
-Mr. Obama is a total disaster personally
-The US has really had real bad luck: first Bush and now Obama, normally 2 and 2 equals four, Bush and Obama equals ZERO

Video on Bureaucratic Failure: Federal Reserve Inspector Doesn't Know What's Going On

Would you entrust governments to serve the best interest of the public when they can't seem to even know what is happening within their bureaucracy?

This video from Huffington Post reveals of a shocking example of blatant government incompetence or complicity.

If it can happen in the US, then it should apply elsewhere.

Quoting the Huffington Post (bold highlight mine):

``The inspector general tasked with overseeing and auditing the Federal Reserve knows pretty much nothing about what the Fed is doing. That's the conclusion that comes from watching the exchange Tuesday between Rep. Alan Grayson (D-Fla.) and inspector general Elizabeth A. Coleman.

``Coleman could not tell Grayson what kind of losses the Fed has so far suffered on its $2 trillion portfolio, which has greatly expanded since September.

``She appeared unaware that the Fed engages in trillions of dollars in off-balance-sheet exchanges.

``She is not investigating the role of the Fed in allowing the collapse of Lehman Brothers.

``She did not know where the Fed has invested its $2 trillion on the liability side of the balance sheet. "I do not know. We have not looked at that specific area at this particular point on," she said.

"We do not have jurisdiction to directly go out and audit reserve bank activities specifically," she said, though the IG's Web site proudly declares that her office "conducts independent and objective audits, inspections, evaluations, investigations, and other reviews related to programs and operations of the Board of Governors of the Federal Reserve System."

From the standpoint of today's crisis, either incompetence or deliberate opaqueness, you can be sure that present policy actions have less chances to be successfully reversed once inflation accelerates.

We are, thus, reminded of Ludwig von Mises who warned, ``Success and failure are of lesser importance than formal observance of the regulation. This is especially visible in the hiring, treatment, and promotion of personnel, and is called "bureaucratism." It is no evil that springs from some failure or shortcoming of the organization or the incompetence of officials; it is the nature of every enterprise that is not organized for profit."