Market Watch - September 4, 2015
Short-Term Outlook
For the first time in many years, “everybody” is making money. The chart tells the story of a financial recovery beyond any previous recoveries. While vacillating, the market remains strong, the economy is growing, employment continues to improve, and inflation remains low.
American corporate earnings should continue to hold their own, and increase, in spite of the dire economic conditions in South America, Europe and parts of the Far East. The reason is that we have enough cash in our economy to absorb most of what we produce. Due to a strong dollar, foreign goods are cheap for Americans, as is foreign travel. U.S. spending may, in fact, pull the rest of the world out of their economic doledrums.
The biggest news, in the short run, is going to continue to be the “Greek question”, which really isn’t about Greece at all. Rather, if Greece defaults on their economic obligations, and gets away with it for a third time, this could prompt other countries teetering on bankruptcy to do the same thing. Russia, Brazil, and Puerto Rico have already had currency crashes and defaults this year. Standing right behind them, and shoulder-to-shoulder with Greece, are Spain, France, Portugal, Italy, and finally, there are the hugely over-indebted major economies of Japan, the United States, the United Kingdom, Germany and China.
Short-term, we will see continued desperate attempts, to head off any further defaults by countries teetering on the brink. The problem with any of these economies crashing is that they owe money to the rest of us. If they cannot pay their debts, the result could be the crash of both U.S. currency values, and bond market values. All central banks are heavily invested in trying to prolong problems of this nature.
The stock market remains in an all-time high trading range despite the sell-off the last few weeks. There are 6 million jobs available in America. Citizens have never had so much cash. Disposable income is at record highs. Fuel prices are lower, more money than ever is being spent on leisure, and one wonders if it can get any better. All economic classes have been enormously helped from the surge in the economy. U.S. citizens have refinanced debt into long-term, low interest-rate bonds, and they are better capitalized than ever in the storied economic history of the United States.
Long-Term Outlook
The long-term outlook for the U.S. is interesting. Sometime in the next several years the world is going to have to face the impossibility of paying off the debts of the free world’s governments.
U.S. corporations should have the fewest problems during those adjustments, and they will probably prosper through whatever must happen. The U.S. dollar, however, because of U.S. corporations’ significant ownership of productive assets in other countries, could end up with a recapitalized currency favorable to the U.S. The Bretton Woods Agreement was favorable to the dollar in the 1940s. When Bretton Woods was initiated, the U.S. dollar was backed 100% by gold. Now, gold backs only 2.6% of our currency. Happily, with 8200 tonnes, the U.S. owns the world’s largest supply of gold. And in a re-capitalization based upon specie, the purchasing power of the dollar is likely to remain stronger than competing currencies.
In reality, future currency agreements will probably be favorable to the U.S. We represent roughly 30% of the world’s productivity, and U.S. citizens own about 30% of the world’s assets. The U.S. should do well simply because the well being of all other free-world economies is dependent upon U.S. consumption.
Question: Why is it that Market Watch doesn’t seem interested in a 2000 point drop in the market?
Answer: Historically, speculators are constantly in and out of the market. In hot markets, speculation intensifies. Hedge funds and derivatives are not economically productive assets. They are gimmicks. The amount of derivative obligations in the market place exceeds $500 trillion, many times the world’s GDP. All of that is nothing other than legalized gambling. Most of the cash invested in hedges and derivatives is loaned “on margin”. A sharp drop in the market in an industry loaded with speculative hedges causes banks to call the loans. Consequently, speculators have to quickly sell their positions, many times at a loss, causing a temporary desperate downturn in the market. U.S. stock markets are trading closer to historical values with the Dow at 16,000 than with the market over valued at 18,000 points.
Question: China is the world’s second largest economy. Is China’s recent devaluation of their currency, and crash of their stock market something that could affect the U.S. economy unfavorably?
Answer: China purposely devalues the purchasing power of the Yuan to discourage Chinese citizens from purchasing expensive foreign items, and to keep China’s products cheap in world markets. China has a massive workforce to keep employed. Since their economy does not have the cash to absorb Chinese production, excess production must be sold in world markets or China goes into recession, which is what China is now fighting. Chinese manufacturing in July fell to a 6-1/2 year low.
Question: Above it is mentioned that U.S. cash balances are at record levels. Cypress confiscated a significant percentage of depositor’s cash in banks to help solve their problem. Greece froze accounts and is preparing to do the same thing now. Many other desperate countries “are looking” at cash confiscation. Should Americans be concerned?
Answer: It’s certainly a possibility. When politicians are desperate, anything is a possibility, including operating outside of the limitations placed upon them by The Constitution. It has been during “desperate times” that governments gain more power. Their solution always encompasses rules and regulations that limit the power of the public, and increase the power and scope of the government, in order to solve the problem.
Question: Many prominent money men who have heretofore been silent are speaking up about the increasing U.S. indebtedness. How should we view their alarm?
Answer: Bill Gross, Carl Ichan, and a cast of respected businessmen and economists are publically voicing concern about U.S. debt. Bill Gross runs the largest bond fund in the world, and Carl Ichan is an example of a corporate raider whose use of debt has been ingenious. Men with backgrounds like this who are now concerned is a signal to the rest of us concerning how much we are at risk. These two men, and others, know more about debt than most people in the world, and they have used debt to make themselves billions of dollars. If they are concerned, we should keep our eyes open and be aware of fissures in the bond and currency markets that indicate the U.S. indebtedness problem is coming home to roost.
Conclusion
To avoid dire economic problems confronting America, we need to get our expenditures under control and quit borrowing money. That is unlikely to happen because the voters won’t let it happen. So there will be some painful recognition of our government debt. Whether the dollar will be recapitalized, or whether there will be a new “world currency”, we don’t know. We do know the record of government is the reckless management of money. The best way for investors to protect themselves is with hard assets. The thought of a U.S. currency crash is not unlikely. The dollar is leveraged almost 50 to 1 of debt over hard assets like gold, silver and real estate. These kinds of upheavals lead to terrible loss of individual liberties as governments jump in and “straighten out the problems” that the governments created to begin with.
As always, tangible assets like real estate, and gold and silver, preserve their purchasing power through turbulent economic times. And while these are not turbulent times, underneath the surface of our economy is brewing what could be the most turbulent economic upheaval in history.
Caveat Emptor.
George Rauch
September 4, 2015
