Another predictable crisis?

February 4, 2014 by Jon

The so-called crisis in emerging markets was entirely predictable. That’s why those in the know aren’t that worried…

Some people were asking me over the weekend what I made of the Emerging Markets Crisis.

Whoa. Hang on. We’re in a crisis already?? That was quick. I’d better check with the Google.

Yep. Sure enough. There it was. “Emerging Markets Crisis.” In some of the more sophisticated publications it’s been labelled the GEC (Global Emerging Currency Crisis.) Wait, should that be GECC?

Anyway. I read it on Google. It must be true. The world has been thrown into the pit of another crisis.

But I’m as suspicious of the internet as I am of the main-stream media.

“Restore value to your currency with this one weird trick.”

So let’s back it up a bit and see what’s going on.

It is true that we saw some pretty wild devaluations to a lot of currencies last week. Three particularly large emerging markets in particular were rocked hard. The ‘ART’s. Argentina, Russia and Turkey.

But Argentina bore the worst of it. It even fell a massive 8 percent in one day, and event then that was only because the central bank got involved, once it saw that the peso was down 15 percent and it wasn’t even morning tea time.

Ok, sure, the peso has never been a bastion of stability, and it’s been on the slide against the USD for two years now. But in a week when a lot of currencies were on the skids, it was fuel to the fire for the crisis narrative.

At the same time, Russia’s ruble was posting all-time lows against the Euro, and the Turkish lira was also in free fall. Turkey’s central bank jacked up rates from around 7 to 12 percent just to try and stem the bleed.

So far, not so bad. 3 countries does not a crisis make.

Thing is, they weren’t alone.

Currencies were heading south in Brazil, South Africa, Mexico, Malaysia and Indonesia. In fact, they’ve all been coping a beating over the past year.

All up, a Bloomberg tracker of 20 emerging market currencies is now at its lowest level since 2009, while emerging equity and bond funds have witnessed outflows of almost $5 billion in the year to date. That adds to over $50 billion from last year.

That’s some serious coin.

And yes. It’s starting to sound like a crisis.

But this “crisis” feels different. It’s not like the South American crisis of the 80s or the Asian crisis of the late 90s. In those crises, the impact was felt in a particular region.

This time round it’s happening to a whole range of countries across the world. And what do the Russian and Argentinian countries have in common?

In that way, the term “Emerging Market” Crisis hides more than it reveals. Emerging Market can describe almost any economy. And not all emerging markets are in crisis.

However, the “crisis” does have a single origin.

The US.

Back in the GFC, people pretty much gave up on America. The banks were run by crooks, the government couldn’t do anything about it. The population were up to their eye-balls in debt.

And the Fed, having already run interest rates into the ground, turned to Quantitative Easing (Q.E). Effectively, it just pumped trillions of ‘fictional’ money into the banking system in a hope that it would fix the problem.

The smart money was a lot of places those days, but it wasn’t in America. The economic prospects were bleak and the Fed had gone crazy. It was only a matter of time before money printing lead to inflation.

And so money fled the US. It didn’t really know where to go, and it kinda didn’t care as long as it was out of the US. The BRICS (Brazil, Russia, India, China, South Africa) ended up with a lot of it.

In part it did reflect superior performance. In 2009, when GDP fell 3.4% in the advanced economies, emerging market economies grew 3.1%.

But in part, it was also any port in a storm.

But now the story has reversed. The Fed is starting to unwind QE, already tapering it’s spend by $20bn a month. And so it turns out, the world got it wrong. The US currency didn’t implode, and there was hope the US was coming through the storm.

Whether you believe this narrative or not, the world is ‘normalising’. The money that fled the US in a massive flight to safety, it’s now looking past safety, and is hunting for returns.

The first stage in this dynamic was the massive unwind in gold positions over the past 12 months or so.

And so now the unwind is calling the chickens home to roost from the emerging markets.

As such, there’s method to the madness. Argentina has finally given up on currency control, and with massive inflation, an outflow of capital was to be expected. Russia’s economy is flagging, and Turkey is beset by political unrest.

But money is not fleeing those EMs that are doing well. Places like the Philippines, Sri Lanka or Vietnam.

If this is a crisis, it is a very selective one.

So what does it mean for us?

Well, the short answer is, not much.

Some of the money that fled the US ended up here, and the recent depreciation we’ve seen in the Aussie reflects some of that money going home, but we’re still looking strong. The factors that brought the money here – economic stability, relative high interest rates – they’re still in play.

There is a chance that the Fed might take a bit of a breather to see how EMs adjust to the new QE levels. They don’t want to knock over one of their biggest export destinations.

And that means the money taps will stay on for longer. And that will keep the money flowing into real assets like property.

It will be interesting to watch how it unfolds, but it doesn’t change the investment game-plan.

Keep calm and carry on.

Inflation Shock: You must NOT panic!

January 28, 2014 by Jon

The inflation data gave everyone a shock last week. Do they really mean a rate rise is on the cards? Not if you look at where that inflation’s actually come from.

The inflation data last week went down like a fart in an elevator. And it was a rude shock to markets, who had been feet up in the sun, drinking martinis, safe in the knowledge that Cap’n Glenn was taking us all the way to cheap-town.

Suddenly, with one wild bit of data, that story’s all come undone. Suddenly, out of nowhere, a rate hike is on the cards…

… apparently.

Just calm your farm there sonny. Let uncle Jon take a look at the problem and see what’s going on.

First up, this graph here charts the underlying inflation rate. Remember the RBA has a mandate to try and keep that measure of inflation running at between 2 and 3 percent a year.

Well, look at that. 2.6% Smack bang in the middle of the target band. Makes you wonder what’s got everyone so worked up.

If there’s a wolf got in the hen house, it’s not obvious from here.

But it was really the change in the quarter that came as a shock.

The market consensus prior to the release was for a 0.5 percent change in ‘core’ prices in the quarter. Core actually came in at 0.9 percent.

That’s a big difference.

And that’s what put all those bees in all those bonnets. If inflation keeps this pace up, we’ll be up over the target band by the end of the year.

And if that happened, then you could pretty much lock in a rate rise. Glenn’d have no choice.

But I don’t think that’s going to happen.

Because if you go looking at where this pick-up in inflation came from, most of it seems to have come from the fall in Aussie dollar over the past 6 months or so.

The big-kicker items in the quarter were overseas holidays, audio and visual goods (all imported) and imported fuel. All things we buy form overseas and all things which are now, thanks to the fall in the AUD, more expensive.

On the domestic front, the only stand out threat to inflation is coming from house prices themselves. House prices were up 1 percent in the quarter thanks largely to ongoing growth in Sydney.

Another way to get at this idea is to look at the split between tradeables (things that can be bought and sold across country borders, like computers, and non-tradeables, which can’t – like fresh fruit and veg.

That’s what this graph here shows:

Non-tradeables have gone nowhere in the past couple of years. It’s the tradeables that have driven all the action. And most recently they’ve spiked. As I said, thanks to the fall in the Aussie dollar.

And so the surprise numbers last week are not a story about an economy starting to run a little hot. They’re all about a falling currency feeding through into higher prices for the things we buy from overseas.

And remember, inflation is all about measuring the change in prices. The level doesn’t really matter. That means that something like a fall in the dollar has an immediate impact on prices, but then washes out over time.

We’d only see more currency-related inflation if the currency fell further. That could happen, but it’s not something to worry about yet.

So step back and think it about it from Glenn’s perspective.

You’ve been banging on for ages about how you like to see a lower Aussie dollar – about how you think an over-valued Aussie is hurting the economy.

Finally, the Aussie dollar steps down a rung or two. But this creates some temporary feed-through into inflation.

But, there hasn’t been enough time for the lower dollar to light a fire under the domestic economy. There have been early signs of improvement, even in manufacturing, but it’s still early days.

Not only that, some of your other measures of economic performance are actually running a little lean. The week before the inflation data the jobs numbers surprised on the soft side. The unemployment rate was mostly unchanged, but a fall in full-time employment raised a few eyebrows.

And the outlook is far from certain. You’re still banking on the global economic ship not running aground or running into mines. And you’re still waiting to see how orderly the transition away from the mining boom at home is going to be.

And so even if you wanted to raise rates, it’d be a very hard-sell. You’d cop a lot of flack for it. You know at least Jon Giaan would come after you with a very big stick.

Put it altogether, and a rate rise seems practically impossible.

And so I reckon the only thing that changes with the latest inflation data is the timing of the next rate cut. I had been looking for something mid-year. Now, it might be a little later. Say September?

But one things for sure. Glenn’s going to be in no hurry to raise rates. He would know that rate hikes have no become a double-barrelled shot-gun.

In one barrel, there’s the shot to the domestic economy. Higher rates would crimp lending and activity, put a brake on consumption, and be an all-round poop in a bag.

But in the other barrel is a stronger dollar. If Glenn raised rates, AUD denominated assets would pay a better return, and demand for them would increase. This increased demand would increase the price, and the Aussie would go up.

Now Glenn’s already told us a hundred times how bad the over-valued Aussie has been for the economy. He won’t want to take us back there.

And so Glenn will be more than happy to sit on his hands, knowing that he’s got a powerful double-barrelled shot gun under his coat that could quickly restore things to balance if the inflation data turned out to be worse than we expected.

But he has the luxury of letting it run for a while before he needs to show his hand.

And so, for my money, all this means is that a rate hike is still off-the-table, and my money is still with another rate cut before the year is out!

RBA Guv'na reads my blog..?

November 27, 2013 by Jon

Turns out Glenn Stevens is an avid reader of my blog.

Early last week, I was talking about how Glenn had taken to jawboning the Aussie dollar, trying to convince everyone that it should be a whole lot lower.

And I also explained why it wasn’t working.

That was Tuesday. On Thursday, he’d taken my advice that some light jaw-boning wasn’t going to do the trick, and Glenn started getting heavy. All of a sudden markets were jumping all over the place at the sight of ‘gun-happy’ Glenn waving his piece all over the place.

He let people know he had the cash and the will to try and drop the dollar if needed.

It was more jawboning, but it wasn’t the lite stuff we’d seen before. This was some ‘full-cream’ jaw-boning.

The dollar’s too high and I’m not going to stand for it!

Pow! Pow! And it worked! The Aussie dollar broke through support at around 92 cents, and free of the range that has held it captive for months.

Markets applauded the sheer power of his voice, the fathom of his speech, the persuasiveness of philosophising.

Such a cunning linguist.

But while I’m a fan of Glenn Stevens, I think we may at risk of casting him in a mythical light, and giving him more power than any man (even a central bank governor) could have.

So let’s recap. It all started with a speech the Guv’na gave celebrating the float of the Aussie dollar. After a fairly bland lesson in economic history, he came to the juice.

He opened by restating a theme the RBA’s been running with for a while now (and as I picked up in my blog last week) – the dollar’s higher than it probably should be, and we’d like to see it a whole lot lower.

In his words:

My judgement is that the Australian dollar is currently above levels we would expect to see in the medium term.

That’s a straight as straight talking gets. But as I said, it hasn’t been enough. And so Glenn took it to the next level.

Here’s the money shot:

So far, the Bank has not been convinced that large-scale intervention clearly passed the test of effectiveness versus cost.

But that doesn’t mean we will always eschew intervention. In fact we remain open-minded on the issue.

Our position has long been, and remains, that foreign exchange intervention can, judiciously used in the right circumstances, be effective and useful… it remains part of the toolkit.

I’ve got a gun and I’m not afraid to use it.

Note that he didn’t say he was going to use it. He was just reminding people that he had one, and if the circumstances required it, he might just do that.

I seems bland to us ordinary folk with our ordinary language. But in the world of markets and central bank governors, these were stern words in deed.

If you ask me, what Glenn and the RBA have been doing for the past month or so is trying to get people to focus on AUD fundamentals. For a long time all the significant movements in the AUD/USD exchange rate have come from the other side of the balance – from what’s going on with the US dollar.

It’s had such a huge effect, that people stopped looking what was going on in Australia, and were only worried about what was going on in the US. Glenn was just trying to bring attention back to ‘Aussie fundamentals’ – the terms of trade, the economic outlook etc. – none of which supported the level of the Aussie where it was.

Trouble was though, no one was listening. What was going on in America, the madness of QE and the coming taper – it was all too exciting, too sexy.

So Glenn had to get some attention.

Reminding people he had a gun, got people wondering if he was going to use it. Why would he wave that thing about if he wasn’t?

And if I bet with the Governor, back a falling dollar, will the market support me? What actually are the Aussie fundamentals?

And suddenly everyone’s talking about Aussie fundamentals. The newspapers are full of it.

Genius. Such a cunning linguist.

This is a longer term play. Bringing attention back to Aussie fundamentals will get momentum going south over the next couple of months. Well played Mr Stevens.

But it’s wrong to say that last week’s fall in the Aussie was all due to Stevens’ fighting words.

Because the really big news last week was reports from the US Fed that the Taper was back on… From the Fed Minutes:

…During this general discussion of policy strategy and tactics, participants reviewed issues specific to the Committee’s asset purchase program. They generally expected that the data would prove consistent with the Committee’s outlook for ongoing improvement in labor market conditions and would thus warrant trimming the pace of purchases in coming months.

This is real news. And it dwarfs any posturing on Stevens part.

Because the markets, and Glenn, know full-well there probably isn’t much that the RBA can do about the currency anyway. The RBA just doesn’t have the pockets.

Global currency markets are massive. MA-A-A-A-A-SIVE. And the AUD-USD pair is the fourth most traded currency in the world.

Central banks just don’t have the reserves to take that kind of battle on – to push markets where they don’t want to go.

And it opens up the possibility for currency speculators to start betting against you. Betting that you don’t actually have the money to keep the currency where you want it to be. Think George Soros in the Asian financial crisis.

Once the speculators side up with the market, you’re on a hiding to nothing.

Glenn’s talking tough, but he’s not stupid enough to start picking fights with the market.

The best he can do is exactly what he’s done. Get people thinking that the AUD is currently overvalued, and that is has a ‘true’ equilibrium value closer to 80 than 90 cents.

Bravo Glenn. It’s a clever play. I hope for your sake (and ours) it pays off.

P.S. Obviously I can’t be sure if Glenn actually reads my blog. My opening question is tongue-in-cheek. You get that, right? But what is certain, is that what I recommended actually happened. Like a lot of other things that I have predicted in the last 12 months. What does it all mean?

…It’s worthwhile reading my blog and being part of my community.

Interest rates up or down? Here’s what I think…

November 19, 2013 by Jon

I saw a recent survey that said 83% of economists now think that the next interest rate move is likely to be up. That’s almost a dead-ringer for it going the other way.

Here’s what I think…

But first, before we get to that… Let’s look at two big issues that are giving the RBA headaches.

Let’s start with a chart that shows just how much the game has changed in Australia over the past 20 years.

This is the share of export trade going to our three biggest trading partners – the US, Japan and China.

It’s a stark reminder of just how important China has become. The share of exports to Japan and the US have been in steady decline over the past twenty years. China on the other hand has gone bang.

China’s share has gone from less than 5 percent at the turn of the millennium, to just shy of 35 percent this year. Over one third of our exports are now going to China!

This is an incredibly rapid ascendancy into an amazingly dominant position. We have become hugely reliant on the fortunes of China, and just how much of our stuff they can buy.

To a large degree this is a resources story. If you look at the breakdown of Aussie exports, there’s been a similar surge in the resources share of exports, again kicking off around the turn of the millennium.

But while resources have dominated the China story, we’re also exporting rural (=food) and services to Chinese buyers.

And this is why everyone is watching China so closely these days. China does have a big impact on how things are flowing here.

What’s interesting about the explosion in exports to China is that it’s come at a time when the Aussie dollar has remained persistently and stubbornly high. And it’s remained a thorn in the side of policy makers – especially poor ol Glenn at the RBA.

Because the high dollar – and pretty much everyone agrees it’s too high – is real headache for those Aussie businesses that have to compete with companies overseas.

When the Aussie dollar is strong, it’s not just the price of our exports goes up and foreigners don’t want to buy as much. It’s also that the price of competing imports goes down.

So if you’re an Aussie manufacturer – making cars for example – a higher AUD makes your overseas competitors’ cars cheaper.

And so you’ve either got to cut your price as well (decreasing profitability) or find ways to cut costs, or both.

But the AUD’s been high for a long time now. The low-hanging fruit of efficiency gains have been picked. And so it’s tough times for Aussie companies.

This chart here sums it up.

It compares inflation (the annual change in prices) of tradeable and non-tradeable goods and services in Australia. Tradeable goods are those goods where an import from overseas would do just as well – like cars. Non-tradeables are those things were you can’t import them from overseas – like haircuts.

What it shows is that inflation in non-tradeables has been pretty consistent – hovering around 4 percent over the past three years.

Prices of tradeable goods and services however have been falling since the beginning of 2012. Inflation has been negative from that time on, and is only now just starting to push back towards positive territory.

It’s likely that the high AUD has a lot to do with this.

But what that means is that if you’re a company producing tradeable goods and services, then you’ve had to cope with a climate of falling prices. You’ve either had to cut your own prices as well, or risk being priced out of the market.

This, of course, would eat into your profit margins and make for very lean times.

And so the high AUD is making for tougher economic times. If it’s hurting company profits, then it’s also taking a swipe at employment, which in turn means consumer confidence and retail sales.

And so everyone would like to see the dollar move lower.

But it won’t.

It’s currently stuck in a band a few cents either side of US 95c, and has been for months. And the fortunes of the dollar are largely being dictated by what’s going on overseas, and there’s very little anyone here at home can do about it.

And for the time being, the headwinds coming off the high AUD are keeping downward pressure on rates. If the AUD is slowing us down, then interest rates need to be speeding things up.

(We could be asking fiscal policy to chip in here as well, but the Abbott government went to the election with a cost-cutting agenda, so they’re on the side-lines for now.)

Glenn Stevens would like to avoid cutting rates if he can. With official rates already down to 2.5 percent, and a lot of nations already pushed to the zero-bound, he’ll be doing everything he can to avoid a similar fate.

Once rates go to zero, your options really narrow down. And you end up with crazy experiments like Quantitative Easing.

And so it would be a dream come true if the AUD fell another 10 to 15 percent. It would make Glenn’s job a whole lot easier. And it would be a big shot in the arm for the Aussie economy.

But the AUD just won’t move.

Glenn’s even got into the ‘jawboning’ game. At the beginning of the month he threw up his hands and took the unprecedented step of trying to talk the Aussie down.

He said: “these levels of the exchange rate are not supported by Australia’s relative levels of costs and productivity. Moreover, the terms of trade are likely to fall, not rise, from here. So it seems quite likely that at some point in the future the Australian dollar will be materially lower.”

It might not sound like such tough-talking to us, but for central bankers and markets, these were fighting words.

And it worked… for a bit. Glenn’s statement knocked more than a cent of the Aussie dollar that day.

But the effect was only temporary, and was unwound when another central banker – this time in Europe – said that Europe could be on the way to quantitative easing too, and the AUD jumped again.

And the net effect is that this month, the AUD has held fairly steady.

Stevens is right. In theory the dollar should be lower. And everyone would like it to be lower. But it doesn’t matter. It’s what happening overseas – particularly in the US that’s driving the dollar’s fortunes.

And this means, that for the time being, the RBA’s easing bias remains in effect.

Investing in a Rigged Game

November 8, 2013 by Jon

I just wanted to follow up on a couple of the comments I got on my last post.

In that post, in cased you missed it (it was a cracker), I explained why I wasn’t buying gold.

I don’t think the price will go up, (more than likely will have further to fall from here) so I’m not a gold speculator. And I don’t really think gold at these prices will protect my wealth should there be some sort of economic calamity. I’m not a gold insurer.

And I’m not a gold investor, because gold doesn’t pay you any returns.

So I’m not buying gold.

Now, pretty much every time I run this line (in these blogs, at dinner parties, at committal hearings) people accuse me of having my head in the sand.

The system’s corrupt, our currencies are fantasies, a global meltdown in inevitable.

Winter is coming.

So first of all, let me make it clear that I’m not some profit/loss Pollyanna, skipping through sunlit fields of blue birds and butterflies.

I’m well aware that there are dozens of icebergs lurking in these waters. At any one time, there are dozens of roads that would take us to economic ruin town.

But will they?

Murphy’s Law doesn’t apply to economics. Just because something could go wrong, does NOT mean that it will go wrong.

I mean I could think of any number of scenarios that could lead to a house price bust from here.

Maybe for some reason the US banks decided to monetise their massive balance sheets. This leads to run away inflation in the US. The world’s reserve currency collapses, global trade shrivels up, Australia follows the rest of the world into depression.

Maybe the reform program in China comes off the rails, or the Chinese property bubble pops. Chinese demand shrinks, wiping out what’s left of the mining sector’s contribution to the Australian economy. Incomes fall, unemployment rises, and the collapse in housing demand leads to a ‘Steve Keen’ correction to prices.

Or maybe the Italians and Spaniards follow Greece into debt delinquency, the European Union collapses, Germany starts an “Occupy Rome” movement, and the following debt crisis paralyses global credit markets. Home lending at home freezes.

I’m not ignorant to the risks.

They’re all perfectly reasonable scenarios. All perfectly feasible. And if they did occur, future generations would wonder how we could have been so blind to the risks. Hindsight is 20/20.

But the question is not ‘could’ they happen? But ‘will’ they happen? Just because the trigger exists, doesn’t mean it will be pulled.

People have been talking about all sorts of economic boogeymen since before the dog was a pup – the break-away colony of America, the rise of fascism, communism, the departure from the gold standard.

Oh that last one was a classic. People were predicting that the new currency wouldn’t last five years. That gold was again the only way to store your value.

But that was over 40 years ago.

That’s not to say that there were no risks. There were risks. There still are. It just didn’t play out that way.

There are always things that could go wrong.

But I tend to think that a heightened level of risk is just the price you pay for living in a complex global economy. It’s like driving a sports car. If your top speed is 240km/hr, then there’s obviously a lot more that could go seriously wrong.

But that’s also the point.

Likewise, we live in an era of unprecedented leverage, trade and economic speed. There are more risks associated with such a system, but I for one wouldn’t be taking us back to the 1950s.

As much as I love Elvis.

The other argument I don’t get in all this is from all those people crippled by conspiracy theories.

The central banks are owned by space reptiles. The currency has no real value. The Illuminati pulls the strings of government. The whole financial system is about implode. Justin Beiber has genetically modified talent.

Again, I’m not saying I’m ignorant to the stories that are out there. And I certainly believe that if individuals found themselves with the ways and means to twist the fate of the planet to their own benefit, they would.

And there’s a lot of things about 9-11 and the GFC that make me very, very suspicious.

But what I don’t understand is why this is a reason to buy gold.

I mean, if there was going to be a market that the Illuminati would get their claws into first, surely it would be gold.

And according to the official figures (as much as you can believe them) the biggest holders of gold are the global central banks. They account for 18% of the gold ever mined. And 72% of that is held in the US (most of it belonging to foreign central banks).

(Just why does Bundesbank store their gold at Fort Knox?)

So what would the central banks do if the sh$t hit the fan? Would they resign themselves to the will of the market? I doubt it.

To me, gold seems like a very unlikely commodity to put your faith in. Particularly if you don’t actually have the gold sitting in your basement.

“Excuse me space reptile, but now that Armageddon is here I’d like to exchange this piece of paper for some shiny metal.”

But who knows what the actual truth is. I don’t. And if I did I’d probably be lock up in Guantanamo Bay.

But am I going to let this stop me from getting ahead in life?

No way!

You’ve just got to do the best you can with what you’ve got. Life’s just like that.

Maybe the game is rigged, but it’s still a game. And it’s a game that’s treated me very well up til now.

You can’t conscientiously object to the current economic system (which is not to say we couldn’t change it over time if we all worked on it). But for now, it’s all there is.

And so you’ve just got to do your best with what there is. Be the best person you can be. Invest your money as best you can. Be a loving friend and family member.

Choose to be an active investor. Not a side-line philosopher.

One last thing… Sometimes I read the comments on my blog and think, “Dude, we’re just not meant to be together.”

Oil and water don’t mix.

I don’t mind people disagreeing with me, I’m always happy to consider another view of the world. But if you vehementtly oppose my views, opinions and call me an idiot then I suggest you get off my bus and find yourself another one that’s a bit more to your philosophical views and likings.

Gold is NOT a safe investment

November 6, 2013 by Jon

This will surely create some controversy…. Add to that the conspiracy theories and certain stock market reports that use gold as the ultimate fear-axis to get attention, what you end up with is a lot of disillusioned and misled investors.

The only truth is the result.

If you only had one chart to wrap up what’s happening in global markets right now, it would be this one – The price of Gold.

Since a 2011 peak at around $1900 an ounce, the price of gold dipped… and then sank… and is now trading around $1300 an ounce, with every threat that it could be falling further.

That’s a 30% fall in less than two years.

The golden days of gold seem to have run their course. For a long while it could do no wrong, from a launching pad of around $250 an ounce before the turn of the millennium, it posted gains from pad to peak of over 600%.

And all this through the most ‘challenging’ of economic times – through the popping of the dot.com bubble, the Enron scandals, The Iraq wars, and even the GFC.

Gold was the thinking man’s safe haven of choice.

But not this year. Gold’s been on the skids since George Soros indicated in April that he thought that gold was no longer the safe haven it used to be, and the smart money was getting out. Then in October, Goldman Sachs’ head of commodities research said gold was a “slam dunk” sell and that it was headed for $1,050 an ounce.

(No, I don’t know what a ‘slam dunk’ sell is, but it sounds serious.)

But you still hear people saying that gold is a ‘safe investment’.

So let me spell it out loud and clear, in flashing neon lights…

GOLD IS NOT A SAFE INVESTMENT

First of all the idea that gold is ‘safe’ is ludicrous now. “Safe” investments are things like term deposits, that pay you a predictable amount of sod-all a year, with zero volatility.

“Safe” investments DO NOT fall by 30% in 18 months, or have volatile lurches in price every time Bernanke farts.

Secondly, as I’ve argued, gold is not really an ‘investment’. Not as I see it. Gold doesn’t pay you a return. There’s no rent or dividends.

If you’re buying gold, then you’re probably doing it for one of two reasons. The first is that you expect that the price will keep going up, and you’ll be able to sell it for more than you bought it. This isn’t gold investing, this is gold speculating.

But if you’re speculating then you’re completely at the mercy of the market. You’re “investment” is only worth as much as everyone thinks it’s worth, and if George Soros tells everyone that it’s not worth as much as they thought it was worth, then you take a hit.

The second reason people have bought gold, especially since the GFC and the launch of the Quantitative Easing era, is as a way to preserve wealth in the face of global economic calamity. If the economic system completely melts down, or even if we only have run away inflation, then gold offers you a way to preserve your wealth.

In this sense, it’s really just a shiny insurance policy.

But you know, I’ve never really understood this.

Let’s say a door-to-door sales comes to your house and offers to sell you zombie apocalypse insurance.

“If you pay us a certain fee, we promise to return your wealth to current levels, should there be a zombie apocalypse.”

There’s a few things you’ve got to ask yourself.

How did this guy get past the security gate?
How likely do I think a zombie apocalypse actually is?
If there is a zombie apocalypse, is this guy actually going to be able do what he’s promising? If the world is actually taken over by brain-eating zombies, who’s going to give me my pay-out? What will a pay-out even be worth if I don’t own a shot gun?

Now, when it comes to gold, I think most people get to 2., but never make it to 3.

What’s the risk of total economic melt down? I’d actually have to say to me, it looks like an incredibly small risk. Our standards of living are built on the foundations that the current economic system survives and prospers. Everyone wants to see the game continue – from the vested interests of Wall Street, to the mums and dads of back street Australia.

So a bet that the economic system will fail is to bet against the ingenuity and endeavour of the entire human population. I’ve seen humans do some pretty crazy and amazing stuff. For my money, if we had to find a way to avoid economic ruin, I reckon we could. We have the social, political and technological will.

But more to the point, if the economic system did collapse, what would a piece of paper that said you owned a chunk of gold in a basement in London actually be worth? Who’s going to honour it?

If there’s total economic collapse then no one’s paying the police. There’s a break down in the rule of law. Even if you had it in your hands, would some one give you their last can of beans for it, if there was no food to be found?

My point is, when people buy gold to insure themselves against economic collapse, they forget that a post-collapse world would be fundamentally and radically different, and if that is what they’re worried about, a piece of paper that says they own some fairly useless metal isn’t going to save them.

And before you say I’m missing the point that QE is debasing the USD, and inflation is inevitable… if that’s your argument, look at the inflation data. 5 years into QE inflation is falling not rising.

Who knows how it’s going to end? It’s radical stuff. But there is nothing to say that it has to end in hyper-inflation. If there was such a certainty, then it would have been priced into the market already.

Nope, the gold boom was a gold bubble. The further we get from economic calamity, the more it will unwind.

So if you want to speculate, buy something else. If you want insurance, buy a shot-gun and a bunker of canned food.

And if you want to invest, buy property.

But you knew I’d say that, didn’t you?

The big interest rate debate rages…who wins?

October 30, 2013 by Jon

Will rates go up? Will rates go down?

Come in spinner!

There’s a lot of people talking interest rates in both directions right now.

The inflation data last week sparked a few rounds of grumble and rumbling that maybe a rate hike was now on the cards. A few eyes were watching the fall of the coins very nervously.

Could that be true? Are rates on the rise?

It’s true that the inflation figures did come in stronger than expected, but not by a lot. Headline CPI rose by 1.0 per cent in the September quarter, to be 2.3 per cent higher over the year.

That’s still squarely within the RBA’s target band.

Remember, the RBA targets annual inflation of between 2 ~ 3 percent.

But it’s the quarterly strength that took a few people by surprise. Annualise that rate and you’re looking at inflation of 3.5 ~ 4 percent. A CPI print of 4% would likely be enough to provoke an immediate response from the bank.

4 percent is way outside the target band, at least by the standards of recent experience (though of course some countries would be very happy with inflation of 4%!). The RBA has one of the best track records in the world in terms of hitting its inflation targets, and inflation’s been anchored firmly to the target band for almost twenty years.

It’s a stellar achievement.

In fact, inflation’s pretty much fallen from the public mind. No one really worries about it any more. I wonder if a lot of people even remember that that inflation is the RBA’s primary focus.

It’s not the economy, as such. Ideally it wants to keep a lid on inflation AND keep the economy humming along.

But if push came to shove, and the RBA had to chose between inflation and growth, it’d shoot for inflation, every time.

In fact, that’s the agreement it has with the government. The RBA, like pretty much every central bank in the world now, is an inflation targeter.

The idea is that interest rates on their own can’t be used to fix both inflation and growth. Sometimes, it’s one or the other.

And a key force keeping inflation down is the belief itself that inflation is going to stay down. Inflation expectations have a huge impact on inflation outcomes.

So the policy response to inflation needs to be ‘credible’. But credibility only comes if the public believes that if push came to shove, growth would be sacrificed for the sake of keeping a leash on inflation.

It sounds a bit scary, but it’s a doctrine that has served us incredibly well. With inflation and inflation expectations anchored to the RBA’s target band, we’ve been able to bring rates down to 50-year lows.

That has freed up the financial sector. With capital flowing more freely to business (and of course to investors like us), the economy has expanded quickly.

Everyone’s a winner.

But these wins did not come cheaply. Central banks had to ‘break the back of inflation’ first. That meant super high levels of rates, which meant recessions and a very grizzly public.

So the RBA would be very unwilling to let their hold on inflation be taken from them. Once it’s gone, it’s expensive to get it back.

And so you’d still have to think Glenn wouldn’t be thinking twice if push did actually come to shove.

I’m sure Glenn’s been happy to be every body’s hero with the rates cuts we’ve seen under his watch. But I’ve seen that steel in his eye. He looks to me like a man who’s as happy kicking heads as he is handing out flowers.

And he knows that his reputation, and the bank’s credibility, is built upon him doing just that.

And everybody in the markets knows that too. So that’s why a stronger than expected CPI print, sent a quick shiver down people’s spines.

brrrrrr.

So is a rate hike on the cards now? Could the RBA be forced into raising rates at the same time as the AUD bumps back toward parity, and growth outcomes remain soft?

It’s not a pretty scenario.

Personally, I don’t think it’s something to worry about for the time being. And I certainly don’t think they’re hitting the panic buttons down at Martin Place just yet.

Partly the CPI data had a couple surprises, but if you look at the ‘underlying’ (more stable) inflation measures, there’s no sign of an inflation break out there.

Second of all, a higher AUD actually offsets some of the risk of inflation.

That is, if the AUD is stronger, the things we buy overseas are cheaper for us, which means the final price when those goods hit Australian shores, is cheaper. Inflation falls.

So the increases we’ve seen in the Aussie dollar in recent months, will in the next 6 months or so, put back some downward pressure on inflation.

And if inflation remains a non-issue, which I expect it will, that puts the focus back on growth outcomes. And as the RBA noted in the last minutes, economic growth is still expected to remain “below trend over the next year or so.”

And at the same time, the AUD keeps pushing higher. And with a taper to Quantitative Easing now pretty much completely off the table in the US, there’s nothing driving US dollar strength, which means we could see the AUD trade even higher against the Yankee Doodle.

If that happens, and that happens before the a solid pick up in non-mining investment, particularly housing construction, then I think the RBA will have no choice but to cut rates even further.

But it’s too early in the game, and too late in the year for the RBA to do anything about that now. They’ll want to see how it plays out in the near term, and will be closely watching what happens to retail sales through the Christmas period.

If the Grinch is haunting Christmas, then I reckon we’ll see another rate cut, possibly in March or April next year (of course, in the absence of any other major surprises).

And so as investors, we can take heart that rate hikes still remain a long way off. And that also means that the fire that’s been lit under the property market will be left to run on full bore.

And the emerging boom in property we’ve seen will just keep charging ahead in the time being.

So let the CPI data be a reminder. At some point, the RBA may need to raise rates. That’s what they do. We need to build that into our planning.

But for the time being, under the firm hand of captain Glenn, it’s steady as she goes.

Predictions: Sorry…. I was right (Part 1)

August 29, 2013 by Jon

How did my predictions turn out in the last 12 months?

Now I know I put across a lot of controversial views in these posts. Partly I do it for fun. I’ve always been a bit of a sh*t-stirer.

But mostly I just see that as my job. To tell it like it is – even if that means that a lot of people won’t agree with me, or I end up tipping some sacred cows.

As my old man said, ‘make money, not friends.’

Actually, don’t listen to Dad. That’s terrible advice.

But my point is I don’t do this for popularity, or for a bit of an ego boost. That’s what karaoke’s for.

I’m just sharing with everyone my view of the world and what’s going on – and how I reckon you can make money in times like these.

But now that this election is being defined as a battle between who you can and can’t trust, I thought I’d step forward, and let my record speak for itself.

Comparing my trust-worthiness against politicians might be setting a low bar, but bear with me. What have I been saying over these past year, and did I get it right?

And if you followed my advice, did you make money?

Well to start with, I’ve been saying for a long while now that arguments that Australia was on the brink of bursting property bubble or economic calamity were totally overblown. In my words:

“Claims that Australia is facing a financial meltdown are rubbish.”

I’ve been saying that for a while. And how’d I do on that one? Well if we had had an economic meltdown, or a property bust, you’d know about it. You wouldn’t be hearing about anything else this election.

Ok, perhaps that was an easy one. It always seemed unlikely (to me at least). But there were a lot of people predicting the end of the world, and just for the record, I wasn’t one of them.

But let’s go for something more specific. House Prices

In November last year I wrote:

“If you take the last three rate cutting cycles (1996, 2001, 2008) as a guide, you’d normally expect house prices to be up between 15 and 20 percent this far into a rate cutting run.

And that means house-prices have some catch up to do. The rough maths suggests that they’re at least 15 percent behind the curve…”

I was highlighting the fact that house prices had a lot of upside potential, especially since interest rates had fallen to such lows.

When I made that call, there had only been one quarter of decent growth posted – certainly no clear trend starting to assert itself.

But since then, we’ve had three quarters of solid growth. According to the ABS, house prices were up 2.4 percent in June and 5.1 percent over the year. Still some way to go to 15 percent, but we’re certainly moving in the right direction.

And if you take the June quarter pace of growth, even if there’s further acceleration from here, you’re still looking at 10 percent year on year. A steady pace puts 15 percent within reach in less than 18 months.

But there’s every chance that prices will keep accelerating, and we could get there a lot quicker.

So on my books, that core promise is still well on track.

What about interest rates?

In February this year, Paul Bloxham, Chief Economist at HSBC was saying that the rate cutting cycle was over and the next move was up. I thought he was nuts:

“Interest rates are going nowhere.

Why?

…what’s inflation doing?

Nothing. It’s going nowhere. It’s right at the bottom of the RBA’s target band and going nowhere fast.

So if the RBA was worried about this “asset price inflation”, they’d have to make the argument that 1. there was a bubble, 2. that the bubble was about to burst, and 3. when it bursts it’s going to take the economy down with it and drive inflation through the floor.

That’s a pretty big call to make.

And could you imagine just how much of it would hit the fan if Glenn came out and said, “Hey, we’re jacking up rates and adding 300 bucks to your mortgage. Why? Because we think your homes are worth too much.”

Forget it. He’d be torn to pieces. And once the dust settled, he’d be lucky to still have a job guiding tours around the currency museum.

Rates aren’t going anywhere, buddy.”

And then in another piece around the same time, commenting on RBA forecasts:

“…the thing that really jumps out at you is just how many uncertainties there are in the outlook – or more specifically, the lengths the RBA went to point them out.

They’re giving themselves plenty of room to cut rates further if they want to. I’d say they’d be expecting their hand will be forced at least once or twice more this year (in the best case scenario!!)”

And what have we had since then? Two rate cuts. And there’s ample scope for at least another one before the year is out.

Perhaps I could be chief economist at HSBC

The point is that over the past year or so, my predictions have pretty much been on the money.

Not bad for a fly-by-the-seat-of-his-pants ruffian, hey?

But the real question is, if you followed my advice, did you make money?

Two types of savings… One is good, the other is really bad for you.

August 6, 2013 by Jon

Last week I wrote a couple of blogs about what’s going on in the consumer mindset, and what that means for the direction of the economy from here.

In short, households have rebuilt their balance sheets, but they still saving more and more of their income.

I was talking about these posts over dinner with some friends on the weekend. One of them is one of the most successful investors I know. I won’t tell you his or her name. But just to make it easy, let’s call him Bill Gates.

(It’s not Bill Gates.)

Anyway, Bill was saying that getting the saving mindset right is one of the hardest things facing investors.

We all agreed. Saving is hard. For a lot of people, putting money away, somewhere where they can’t touch it and blow it on frivolous things, is a real challenge.

“That’s not what I mean,” he said. “There’s a challenge with saving for sure. But that’s not really a challenge for the investors we know. Most folks we know are already well past that stage in their relationship to money.

“The real challenge for investors like us in getting the ‘savings mindset’ right.

“There are two mental approaches to saving,” he said. “There’s creative saving and there’s defensive saving. One’s a road to wealth. One’s a road to nowhere.”

Now Bill’s not in the habit of saying much. He’s normally happy just to let the conversation bubble along. But when he does feel a need to speak, he has the habit of dropping some real pearls of wisdom.

So the room went quiet as we waited for him to go on. Just some progressive jazz floating from the other room.

(man, I hate jazz.)

“It seems that right now, a lot of people are locked in a defensive saving mindset. It’s not just consumers, it’s everywhere – even in the investor community where people should know better.

“They’re caught in a defensive saving trap – when the only thing driving your decision to save is fear.

“We all know it. It’s the fear that one day, the good times are just going to end. It’s the fear that the great cosmic plumber in the sky is one day just going to turn off the flow of wealth and abundance, and we’ll all be screwed.

“But it’s just fear. And if you give energy to it – by letting it determine how much you save and spend and invest – then you’re just giving power to fear. And no good will come of it, mark my words Mr Baggins.”

Bill’s doing his ever-popular Gandalf impression at this stage.

“And it’s completely disempowering. It’s a statement of belief that if and when things get tough, I won’t have the resources or skills to deal with it. The only thing that will protect me and my family is some wads of money.

“And to top it all off, it’s a statement of belief about the kind of world we live in. It like saying that the economy is inherently risky and unstable, and the world is a dangerous place.

“If you give too much power to that idea – even at a subconscious level – then that will shape the kind of investor you’ll be – timid, cautious, always taking cover in the herd. You’ll never get anywhere.”

“But c’mon,” said Mary, who was the first to finish her fish. “You can’t be an investor if you’re not saving.”

“Of course,” said Bill. “I’m not saying saving is bad. But we’ve got to get our thinking straight. We’ve got to get our mindset right.

“We’ve got to think about saving as a creative act – as something affirming and empowered. We’ve got to think about it as a means to an end. As a tool for achieving what we want to achieve.

“It’s a very different thing to say, ‘I’m saving 10% of my income so that in 18 months I can put a deposit down on an investment property,’ than it is to say, ‘I’m saving as much as I can because the future is uncertain and scary’.

“It’s a totally different mindset. And it’s our mindset that shapes our habits, and our it’s our habits that shape who we are.”

There was no disagreement on that point. That was something everyone there that night had experienced for themselves.

“The other trap”, continued Bill, “is that if you’re saving to defend yourself against an unknown enemy, how will you ever know if you’ve got enough?

“You’ll always have the nagging thought in your head, that maybe I should be saving more.

“But if you’re carrying that thought around, you’ll never feel good about spending your money – about enjoying your money.

“And what’s the point of having money if you never let yourself enjoy it? You may as well be poor!”

We didn’t get much more out of Bill that night, but that’s our Bill. What he lacks in quantity he makes up for in quality.

And these are wise words I reckon. There’s defensive savings and there’s creative savings, and a world of difference between them.

Making sure our attitudes to saving (and all forms of money) are coming from a space of empowered creativity, rather than a fear-based defensiveness is an incredibly important lesson.

In fact, I’d say that all the successful investors I know would subscribe to this idea in one way or another, even if they didn’t use Bill’s terms exactly.

They would all think about wealth-building as a creative act – as an expressive art. It requires skill and craft, but it also requires a clarity of intention – and a discipline for always making sure that we’re always coming from a brave and empowered place.

There’s no room for fear here. Not at my table.

GFC is dead… RIP.

July 26, 2013 by Jon

The ‘gold bugs’ are waking up in an unfamiliar house, wondering where their pants and their car keys are…

Woah. What happened?

I don’t know when the GFC’s actual time of death was. Probably sometime early 2012. But I do know that we held the wake in May of 2013.

And that knees-up left the gold bugs with a helluva hang-over.

In short, the gold price got smashed. It fell 23 percent between April and June – the sharpest quarterly fall in 90 years!

The price first plunged in early April, diving from around $US1600 to around $US1300 an ounce. After steadying around the $US1400 an ounce level for a while, oops, over it went again, falling to below $US1250.

So what’s going on? If you backed gold over the past decade, you probably did quite well for yourself. The price was rising, in a major way, for 11 straight years in a row.

But now the gold bugs are waking up in an unfamiliar house, wondering where their pants and their car keys are. Woah. What happened?

If you ask me, the answer is this: There has been a fundamental shift in the global economic narrative. For a long while, since the start of the GFC, we’d been running with a kind of “Nightmare on Elm St” plot line, with monsters in every cupboard and you just now it’s going to end badly.

Now, it’s more like “Mighty Ducks” – a feel-good coming of age movie where a cast of lovable characters rise to the challenge of impossible odds.

And the man in the armchair, making sure everyone can see the pictures in US Fed Reserve Governor Ben Bernanke.

The gold tumble began in April when the markets picked up on a strengthening of language being used by Fed members around a possible exit from the QEIII quantitative easing program. There were a lot of hints and winks and reading between the lines, but by June is had been broadly confirmed that the ‘tapering’ off of QEIII would begin sometime this year.

Cue inspiring montage, hopeful music.

Effectively the Fed was laying out a new narrative. The worst was over. The corner was turned. QE had worked and the economy looked, more or less, like it was back on track.

At the very least the spectre of a triple-dip recession was nowhere to be seen.

You could maybe argue that the Fed was overplaying its hand. There had been some mild improvements in the labour market. Housing prices had found a floor. But there were no shortage of monster footprints through the economic forest if you were looking for them.

But in the end, that doesn’t matter. What matters is that the Fed said that things are looking better, that they’re going to stop sending so much booze to the party, and everybody believed them.

This news was the anvil tied to gold’s foot. It hammered the gold price in two distinct ways.

First, and this often gets overlooked, is that the stronger narrative surrounding the US economy led to a strengthening of the US dollar. Gold prices are denominated in US dollars so a stronger dollar means a lower gold price.

The dollar is up about 10-15 percent against major trading partners, so maybe half of the gold fall is due to the dollar alone.

Secondly, a huge part of the run up in the gold price was a bet on economic disaster. If you think that a currency is about to collapse (through say inflation or debt), or you think that the entire economic framework is about to be undone, then gold becomes a very attractive place to preserve your wealth.

And for a long time, when the Nightmare on Elm St plotline was in effect, economic collapse seemed like a real possibility.

And the critics of quantitative easing argued that it was effectively just money printing (which it was) and money printing has always led to run-away inflation (which it has).

But we haven’t’ seen inflation stick it’s head of its gopher hole in years, and it seems like there might just be time for the loveable characters at the Fed to unwind the inflationary stimulus of QE before it does any real damage to the currency. (Can’t you hear the music? That means we’re on the brink of a real triumph and some valuable life lessons.)

And if its one thing I’ve learnt in this game is that being right in theory doesn’t make you rich in practice.

People (including some of the largest fund managers in the world) who bought into gold had a tonne of excellent theory on their side. But economics, especially over a longer run, is an incredibly complex beast. It’s tougher than long-range weather forecasting.

But personally, I think they underestimated how much vested interest everybody has (and not just governments) in keeping the game kicking along. No one wants to see the economy reduced to ruin. Even, deep down, the gold bugs.

And so our cast of lovable characters keeps muddling through.

But whatever it was, the bet on economic calamity never paid off. And now that the narrative has shifted – now that the consensus seems to be that the economy is getting back to normal – is going to be back to business as usual.

And by that I mean I think we can see an even bigger shift away from calamity bets like gold. (Gold was trading at around $800 an ounce before the GFC. It’s still up around $1300 today.) There’s a lot more scope for a gold unwind yet.

And as that happens, we’ll see money flowing back into actual assets – assets that, unlike gold, pay investors some sort of return.

And that of course, means property.

This, together with growing confidence in the economy, should see property prices return to long run growth rates over the medium term. In the short term though, depending on how quick the gold unwind is, we could see a real spike in prices.

So if you’re willing to bet against further economic collapse – which is effectively a bet on human ingenuity – property is an excellent place to position yourself to benefit from the unwind in the current overhang of calamity bets….

…and get the girl, and learn some valuable life lessons from a summer you’ll never forget.

Produced and directed by
Jon