There are major imbalances in the world. One of them is inflation. The developed countries have low inflation (though it’s rising). Developing countries have high inflation and are looking for ways to reduce it. One of their problems is they’ve linked their currencies to the dollar. So, they’re importing the Fed’s easy monetary policy. They don’t want to change their currencies’ values relative to the dollar, because that would make their goods more expensive to U.S. investors.
But it appears they need to make a change soon, and they’re beginning to recognize it. Recently, some emerging economy leaders were talking about restraining inflation through capital controls. That’s always been a loser, a crippler of economies. It looks like they’ve realized that and are looking at other steps, and changing the value of currencies relative to the dollar is the most logical step.
South Africa’s finance minister and Indonesia’s deputy central bank governor said last week that stronger currencies may quell rising prices. Russia’s finance minister said Feb. 21 the central bank will favor a “very flexible” exchange rate. Brazil Finance Minister Guido Mantega, who spoke of a “currency war” in September when he pledged to buy dollars to curb the real, declared a “truce” two months later. Peru, China, Colombia, Indonesia and Russia raised interest rates this month.
“If your main macro-economic problem shifts from one of too weak growth to one of too high inflation, then that is going to lead you to look at tightening monetary policy,” said Jens Nordvig, a managing director of currency research at Nomura Holdings Inc. in New York. “The quickest way to put a cap on inflation is to look at ways that would strengthen your currency.”
Look for currency appreciation in many emerging economy currencies, with the big move coming from China.
Longtime readers know I’m a critic of some widely-held investment strategies, especially the Nobel Prize-winning strategies that are math-based and try to give markets and investments a precision that isn’t accurate. One of these strategies is the Black-Scholes model for pricing options. Warren Buffett’s been critical of these same academic and Nobel-winning strategies over the years. He’s exploited the fallacies of the models profitably, though he’s endured some short-term criticism over the years while waiting for his investments to pay off.
As the financial bubble inflated a few years ago, Buffett entered into some options or derivatives agreements with unnamed firms. Buffett essentially insured the counterparty against stock market losses. He took money from the counterparty and promised to pay the difference between the actual value of the stock market index on given dates in the future and the value he guaranteed. If the index is at or above the guaranteed level, Buffett keeps the premiums and his investment returns from investing them. If the index is below the guaranteed level, Buffett pays the difference. He took a lot of heat in 2008, because it looked like he’d have to pay a large amount. But Buffett’s not a short-term investor. The guarantee dates are well in the future.
The puts obliged Berkshire to pay its unnamed counterparty at the end of the contact period, in this case between 2021 and 2026, if certain equity indexes such as the S&P 500 declined over the course of the contract. In a worst case scenario, in which puts expired with the indexes at zero, Berkshire would have been obliged to pay its counterparties in this and similar contracts a total of $38 billion at expiration.
Things are looking much better for these investments now, as he reports in his shareholder letter. Read a detailed summary of this strategy and its history.
I always encourage readers to take a look at Warren Buffett’s annual letters to shareholders of Berkshire Hathaway. The latest edition, covering the 2010 calendar year, was issued on Saturday. You can view all the letters here. You’ve pobably seen news summaries, such as this one. It’s worth your time to read all or most of the letter. This year Buffett went out of his way to be fairly optimistic and give Americans a pep talk:
Money will always flow toward opportunity, and there is an abundance of that in America.
Commentators today often talk of “great uncertainty.” But think back, for example, to December 6,
1941, October 18, 1987 and September 10, 2001. No matter how serene today may be, tomorrow is always
uncertain.
Don’t let that reality spook you. Throughout my lifetime, politicians and pundits have constantly
moaned about terrifying problems facing America. Yet our citizens now live an astonishing six times better than
when I was born. The prophets of doom have overlooked the all-important factor that is certain: Human potential
is far from exhausted, and the American system for unleashing that potential – a system that has worked wonders
for over two centuries despite frequent interruptions for recessions and even a Civil War – remains alive and
effective.
Some of the retrospectives about how the global debt and real estate bubbles developed and popped are fascinating. It’s easy to look back now and ask how bankers and others could have lent the money they did. The best examples appear to come from Ireland. It doesn’t get as much attention as some of the other countries and markets. But because of its size and the amount of debt that found its way to the island, it’s a great study of the bubbles. Theodore Dalrymple in the City Journal paints a great picture of the Irish bubble:
The madness that gripped the country can be gauged from a few examples. A 25-acre piece of land on the edge of Dublin on which a derelict factory stood sold in 2006 for $550 million. After the banking collapse two years later, it was valued by the National Asset Management Administration, the public-sector organization set up to handle the banks’ toxic assets, at $80 million, a sum itself arbitrary in the absence of a flourishing market. The Anglo-Irish Bank, which eventually collapsed and left taxpayers a legacy of approximately $40 billion of debt, lent an average of $1.7 billion to each of six property developers; it lent more than $650 million each to another nine. A house in Shrewsbury Road, Dublin, sold for $80 million in 2005 but, now standing empty, is on the way to dereliction, and no house on the road—a millionaires’ row—has sold for the last two years, despite a fall in prices of at least 66 percent. During the boom, taxi drivers and shop assistants would tell you about the third or fourth house they had bought—on borrowed money, of course—and of their apartments in Europe, from Malaga to Budapest to the Black Sea Coast of Bulgaria. It was not so much a boom as a gold rush, or a modern reenactment of the Tulipomania.
Just a few weeks ago investors were the most bullish they had been in years. Stocks were in perhaps their strongest rally ever, and there seemed no reason the momentum wouldn’t continue for at least a few more months. Then people started to demonstrate and topple governments in North Africa and the Middle East. The result is a sharp change in investor sentiment. Take a look at sentiment as charted by the AAII survey. See more details here.
The labor strife in the National Football League could have widespread effects if it leads to a lockout of the players and a suspension of the 2011 season. Owners and players seem to have hardened into positions that make compromise impossible. Of course, the television networks will be hurt by a lockout. But local governments and some tax-exempt investors also could be hurt. Local governments financed large portions of new stadiums in recent years. They depend on revenue from the stadiums to pay their other bills. Of course, the money still will be spent somewhere, but it won’t go to the same local jobs and businesses. It very well could be spent outside the locality.
Some owe debt on the stadiums, but the debt payments shouldn’t be in jeopardy without ticket and concession sales.
Bondholders of both corporate and municipal debt tied to stadiums and other infrastructure would be protected by reserves of as much as 18 months of revenue or the proceeds of hotel and motel taxes pledged to repay bonds sold by municipalities. The rating company Standard & Poor’s said in 2008 that it didn’t expect the NFL owners’ rejection of the current contract to hurt repayment of seven stadium-related debt issues.
“If NFL games were not played, the stadium projects should have sufficient liquidity to withstand a prolonged labor action,” S&P’s Jodi E. Hecht and Craig Parmelee, both New York- based analysts, said in a bulletin.
But not every analyst thinks a lockout or shutdown will adversely affect the localities:
As businesses and governments that depend directly on games lose income, the impact on the economy in most NFL cities will be minimal as fans spend on other activities, said Andrew Zimbalist, who teaches sports economics at Smith College in Northampton, Massachusetts.
“It may be devastating to the psyche of a community, but not the economy,” Zimbalist said. “Instead of spending money at the stadium, fans will go bowling or do something else.”
We’ve been following the rise in commodity prices since last August and remarked how it is affecting governments and political stability in emerging markets, especially in North Africa and the Middle East. We’ve also fielded questions from readers about commodity investments. It’s not a good idea for most investors to chase commodity prices or to invest in them when they’re making headlines. These are thinly-traded markets for the most part. The investors on the margins who move prices tend to be hedge funds and other aggressive, short-term investors. Now, it looks like they’ve decided commodities have had a good run and they want to take profits.
Hedge funds are leading an exodus from agricultural markets, slashing bullish bets in the U.S. from almost the highest levels on record after grain prices slumped, money managers said.
The 8.6 percent plunge in wheat since Feb. 18 and a decline in corn and soybeans means speculators probably kept cutting positions this week, said Nic Johnson, who helps manage about $30 billion in commodities at Pacific Investment Management Co. in Newport Beach, California. Speculators reduced bets on rising wheat prices by 23 percent in the week ended Feb. 15, Commodity Futures Trading Commission data show. Bullish bets on soybeans fell 18 percent and those for corn slid 3.4 percent.
Don’t be like the folks who decided to buy oil as it neared the peak of $147 in 2008. In markets, existing trends don’t last indefinitely, so don’t project them into the future. Commodities can be a good diversifier in a portfolio, but you want to add them when they aren’t making headlines.
Sales on flat screen and big screen TVs are common these days. But you want to be sure you get real savings. The new TVs use a lot of electricity, much more than old televisions and about as much as a refrigerator. The largest user of electricity year round in most homes is the refrigerator. Buying a TV that is an energy hog can cost you an extra $200 or $300 annually. That’s not a good deal, regardless of the discount you get on the purchase price. You need to get all the facts before deciding to buy a new television.
If nothing else, do this simple thing: Download the specifications for the TV you want. If the specs say it uses less than 108 watts of power, you’re golden — that’s the most efficient, Cino says. Energy Star version 5 standards will require that any TV bigger than 50 inches in diameter can’t suck up more than 108 watts (down from 210 watts for 60-inch TVs, which is comparable to some refrigerators).
The world now is fixed on events in the Middle East, particularly in countries with large Muslim populations. Beginning with Tunisia, many residents now are protesting and demanding changes in governments, rights, economic conditions, and more. Much of the commentary is uninformed. George Friedman of Stratfor takes the long view and puts current events in the context of history and the culture of the region.
The danger is not radical Islam, but chaos, followed either by civil war, the military taking control simply to stabilize the situation or the emergence of a radical Islamic party to take control — simply because they are the only ones in the crowd with a plan and an organization. That’s how minorities take control of revolutions.
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If I were to guess at this point, I would guess that we are facing 1848. The Muslim world will not experience massive regime change as in 1989, but neither will the effects be as ephemeral as 1968. Like 1848, this revolution will fail to transform the Muslim world or even just the Arab world. But it will plant seeds that will germinate in the coming decades. I think those seeds will be democratic, but not necessarily liberal. In other words, the democracies that eventually arise will produce regimes that will take their bearings from their own culture, which means Islam.
Read more: Revolution and the Muslim World | STRATFOR. The entire piece is worth your time.
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