Don’t Be Fooled

Posted on: Tuesday, September 30, 2014Written by: Richard Duncan 

 

Last week it was reported that the US economy grew by 4.6% during the second quarter. But don’t be fooled. The US economy is far weaker than that headline number suggests. In large part, the second quarter was strong because the first quarter was so weak. In that quarter, GDP contracted by -2.1%. During the first six months of 2014, the economy grew by only 0.6%, which translates into an annualized rate of only 1.2%. To put that into perspective, take a look at the following chart, which shows the US GDP growth numbers going back to 1980. There were only six years out of the past 34 when the economic performance of the Unites States was worse than it was during the first half of this year.

OK. It’s true that the very harsh winter caused the economy to be particularly weak at the beginning of this year. Therefore, it is almost certain that the economy will be considerably stronger during the second half of the year than it was during the first. Nevertheless, it is clear that the economy is suffering from something more than just cold weather.

Notice how much more slowly the economy has been growing during this decade than in the past. The economy grew by an average annual rate of 3.2% during the 1980s and the 1990s. So far during this decade, it has expanded by an average annual rate of only 2.0% - despite the massive government life support infusions it has received since the global economic crisis began. Over the last five and a half year, the budget deficit has exceeded $6 trillion, the Fed has injected $3.5 trillion of newly created money into the financial markets and the Federal Funds rate has been held at zero percent. That kind of stimulus should have created an economic boom of the first degree. That fact that it didn’t should serve as a warning that something is very fundamentally wrong with the US economy.

The financial markets have chosen to ignore the economy’s fundamental weakness and, instead, have seized on the strong second quarter GDP number as proof that the long-awaited US economic recovery is, at last, upon us. This belief, combined with the approaching end of the third round of Quantitative Easing and weak economic numbers out of Europe and Japan, have produced a meaningful bull market in the US dollar. Over the last couple of months, the dollar has gained 7% to 8% against both the Euro and the Yen.

This big move in the dollar is starting to have interesting implications. First, when the dollar strengthens, commodity prices (including the price of gold and silver) tend to weaken. That is what we are seeing now. The Thomson Reuters CRB Commodity Index, which measures a basket of commodities has fallen 10% since July. Many commodities are already under pressure due to either a surge in new supply (oil, corn, wheat) or weakening demand from China (most metals). Consequently, the currencies of the commodity-producing countries (such as Australia and Brazil) are taking a hit.

This strong dollar trend may continue for some time. If it does, some really exciting investment opportunities could arise. The market consensus view is that the Fed is going to stop its program of Quantitative Easing just as the European Central Bank launches one in Europe and the Bank Of Japan accelerates its Yen printing program in Japan. So long as this remains the consensus view, the downward pressure on the price of gold, silver, most other commodities and the currencies of the commodity-producing countries could continue until they are all considerably oversold.

The strong dollar trend is built on the belief that the US economy will become stronger as we move into 2015. I believe this view is mistaken. With QE 3 ending later this month, the US stock market is likely to experience a significant correction between now and next spring. When it does, the US economy will weaken again and that will cause the dollar to fall.

In that scenario, where the US economy moves back toward recession, the global demand for commodities would also weaken. Therefore, while commodity prices would benefit from a weaker dollar, they would suffer from reduced global demand. Global deflationary pressures would probably intensify.

What would happen after that would depend on the central banks. Ultimately, I believe the Fed will have to return as the Printer-Of-Last-Resort and launch he fourth round of Quantitative Easing on an aggressive scale. If I am right, when QE 4 is announced, the dollar will weaken further, while the price of old, silver, most other commodities, and the currencies of the commodity-producing countries would all rebound sharply.

As they say, timing is everything. Getting the timing right on these moves in currencies and commodities is going to be tricky. But, don’t allow yourself to be fooled. The US economy is much weaker than the second quarter GDP number would suggest. Therefore, the current strong dollar trend, while is could last for some time, is not underpinned by strong foundations.

KLCI: Sign of Weakness

Wow, it has been 9 months since the last posting. I have extremely buzy with my work for the last 9 months. I was involved in completing 2 M&A deals with a total value of RM120mil, one of which involve acquisition of a foreign company. Well it is time to put back life into this blog.

Recently, looking at the performance of KLCI, it seems that the equity market has been subtly retracing from the top and heading to serious correction.

The last market correction started in July 11 to Sep 11, lasted for 3 months. Market corrected almost 20%. Another incident was in early 2013 but it was not serious, market manage to pull back and heading higher. Again in July 2014, market has shown series of weaknesses but subtly. should the EMA20 persistently cross down EMA180, it appears to be a down side risk to 1770 level.

Lets start tracking now, good opportunity to short the market.

The Edge Weekly - No Room for Error

It is a snippet of an interview of Nazir:

·         Us recovery and QE tapering is real, this could cause tail-spin in Malaysian capital market but it is manageable.

·         Outflow of capital is manageable will not create chaos

·         Fortunately, Malaysia remain to have positive CA, ie we did not overspent when dollar is cheap

·         India and Indonesia have twin deficit ie fiscal and CA deficit

·         But Malaysia’s pro-long fiscal deficit and high level of national debts (55% GDP) pose a down-grade risk to the country

·         Malaysia – a high saving nation

·         Malaysian foreign currency denominated debts is low

·         BNM forex reserve is also high ~ RM140B enough to cushion out flows of US30B foreign investment in bond

·         Outflows of foreign funds does not pose major threat to Malaysia

·         But the local funds may exit the country if the confidence level slide down

·         Major local funds are EPF, PNB and KWAP remain faithful to the country

·         But private funds from HNI and corporate may move out the country

·         News and sound bites that Malaysian is investing overseas properties

·         Political stability should not be taken for granted. Country with stable politic outlook able keep foreign investment longer.

·         On overcoming corruption and strengthening transparency – to strengthen MACC and practice amnesty – let the bygones be bygones.

What’s all the Yellen About?

Posted on: Friday, November 01, 2013Written by: Richard Duncan 

 

Janet Yellen, unlike her predecessors Alan Greenspan and Ben Bernanke, bears no responsibility for causing the global economic crisis. However, as the next chairperson of the Federal Reserve, she will still inherit the mess they made. Therefore, it is very important to understand how she plans to deal with it. There is no need to guess about her intentions. She has been clear about how she will proceed. It is only necessary to read her speeches over the last few years to understand her thinking. In this blog, I will write about Mrs. Yellen’s game plan for managing the economy, as well as what I believe will be the short-term and long-term consequences of her policies.

What matters most is her position on Quantitative Easing – because QE is now the most important driver of the global economy. At present, the Fed is creating $85 billion each month and using that money to buy bonds. That policy pushes up bond prices and drives down interest rates, thereby boosting property prices. It also causes more money to move into equities, which fuels the rally in the stock market. Rising asset prices enable Americans to spend more; and that spending causes the economy to grow.

So, how does Mrs. Yellen feel about QE? The answer is, she likes it. She believes QE is working and she thinks it should “continue until there is a substantial improvement in the outlook for the labor market in the context of price stability.”

A recurring theme throughout many of her speeches is her concern for the unemployed, as well as her belief that high unemployment risks doing lasting damage to the US economy. The unemployment rate in the United States is 7.2%. This is a very substantial improvement relative to the crisis peak level of 10% in 2009. However, it is still considerably above the 5.2% to 6.0% range that the Fed considers the longer-run normal rate of unemployment. Moreover, the underemployment rate, which incorporates those people working part-time because they can’t find full-time jobs, is 13.6%. And, further, wages and hours worked per week remain stagnant and the labor participation rate remains very low, which suggests people have become discouraged and stopped looking for work. Mrs. Yellen has stated that she believes all of these factors should be considered when judging the outlook for the labor market.

The press release at the end of the Fed’s FOMC meeting on October 30th reiterated Mrs. Yellen’s position:

“The Committee…. will continue its purchases of Treasure and agency mortgage-backed securities (i.e. QE)… until the outlook for the labor market has improved substantially in a context of price stability.”

The inflation rate is now 1.2% (as measured by the core Personal Consumption Expenditure price index). That is below the Fed’s preferred level of 2%. Therefore, unless there is a spike in inflation, we should expect QE to continue until there is a substantial improvement in “the outlook for the labor market.” Such an improvement appears unlikely in the near-term. Over the last three months, most labor market indicators have been weakening, rather than improving, as was the case earlier in the year.

Mrs. Yellen will replace Ben Bernanke in January. The debt ceiling will be hit again in February and may provoke another political crisis in Washington. Moreover, the outlook for the labor market is unlikely to improve substantially before the spring. For these reasons, the majority of financial analysts now believe that the Fed will not even begin to reduce the pace of QE until March.

If that view is correct, and I believe it probably is, then the near-term outlook for the stock market is very bullish. QE will continue to pump fresh money into the economy and that money will drive up asset prices, particularly the price of stocks.

The greatest near-term risk may be that the stock market moves up too far, too fast. That might force the Fed to take some step to rein it in to prevent a new bubble from inflating. So investors should enjoy the ride, but remember that too much of a good thing could prove to be dangerous.

As for the longer-term, Mrs. Yellen and her colleagues have stated repeatedly that the Fed is unlikely to begin increasing the Federal Funds Rate (which has been near 0% since 2008) until well after QE ends and most probably not until 2015. Such abnormally low interest rates are storing up serious problems for the future by encouraging investments to be undertaken now which will become unprofitable when interest rates return to more normal levels. If this kind of “malinvestment” continues, the size of the eventual losses are very likely to be such as to cause another very costly systemic banking crisis in the not too distant future.

I do not envy Janet Yellen. She is walking into what looks like an impossible job. If she stops QE and returns interest rates to a normal level any time soon, the stock market and the property market will crash and the economy will be threatened by a new depression; but, if she continues to create massive amounts of fiat money and to hold interest rates at 0%, then the US (and the global) economy will become so distorted by malinvestment that a new depression may become unavoidable in any case.

I do not envy her, but I respect her. Her concern for the unemployed is genuine; and her fears about the consequences of long-term unemployment are well founded. I wish her the very best of luck – and so should you. Our future depends on her success.

NO TAPERING YET - Risky Assets to Continue North

After long speculation for many months, finally the answer is no tapering yet. What a joke! The tapering hype was so high when Bernanke indicated the the housing and unemployment rate in US is improving. 

May be Richard Duncan is the Guru now, from the past posting, he has been advocating that it is not possible for FED to stop printing. When the air-boat deflate, you just got to inflate it again by pumping more air. If one dose of QE not enough, more to come..........      

Obama is requesting the cabinet to lift the debt limit, otherwise the US will not be able to pay all its bills and go into default by mid October.

So there you go, all assets around the world will climb higher again. 

Gold bottom in July at 1200, is set to move up again.

 

Dow touched all time high again yesterday.

The US is so addicted to QE, that is really no other way out. The Americans have been enjoying good life for the last 30 years.Their perceived strong currency, enable them to buy "cheap" products and services from all over the world. Third world countries especially China is willing to accept Dollars and keeping it as reserve currency albeit knowing that the Dollars was just print out of thin air. The best part was China is willing recycle its excess Dollars reserve by lending it to the US for another round of consumption. The musical chair continues.

To China, it is critical to ensure the US continue "high" on consumption habit by funding the American even though they are broke. No other nation in the world can spend like the American. China calculation is simple, as long as musical chair continue, China production capacity continue to run, the worst case is getting a keep depreciating Dollars. But if musical chair stop, the China economy will collapsed. 50% of China export is to the US. The capacity built up over the last 10 - 20 years will decay anyway if not put in use. This will hit China badly as well.

The strategy is simple: As long as the China capacity is not fully depreciated, the musical chair will remain. In the meantime, China is also developing its own domestic consumption to absorb the production capacity. In my view that day may not come. The American being the most liberalise market in the world is presenting new invention and intellectual property that have impact to the whole world. Imaging how pervasive is usage of facebook, whatsapp, google, groupon, microsoft-window outside the US. Its economic impact is enormous. Once you use it you hooked on. when you buy it related product and service, Dollar is used. So how, party move on, musical chair continue and Dollar demise will not happen so soon. Put money back to risky assets again and hard to be wrong.