July-October 2011

Prediction due October, 2011:


Regarding Nations…. US stocks will be higher. The US economy will continue to grow, and unemployment will decrease, again falling below 9% and perhaps below 8%. EUROPE will continue as it is now, with growth and contraction: GREECE’s $350 billion in debt will not be solved. Developing world growth will continue apace. CHINA’s inflation will increase and will likely force a continued rise in the Yuan; export growth will slow.



Measuring Markets…. Most base commodity prices will plateau or even decrease. Global food prices will continue to increase, forced by weather disruption and increasing middle class consumption. Consumer durable items will continue to decrease in price because of oversupply in manufacturing and falling overall demand in the US and Europe, however rising wages and Chinese inflation will begin to offset this.



Concerning Companies…. The combination of rising labor and high commodity costs have and will squeeze the profits of manufacturers because US and increasingly European consumers will not pay higher prices which companies will try to charge. This will hurt companies producing commodity consumer wares; beware clothing companies whose main cost is labor. Food companies will also see inflation hurt profits, perhaps with the exception of fast-food companies expanding in China. The internet will continue to grow quickly internationally. Shipping will grow with the US economy. Natural gas generators will be in demand, and perhaps we may be at the beginning of a long natural gas industry growth as efficient LNG gas transportation begins to operate. Medical expenditures will begin to rise. Software, privacy and efficiency related industries will grow.



Current Economy:



Stock valuations have fallen recently. Four regional economic bodies weigh on current stock valuations - the US, Europe, China and Japan. Uncertainty now leads to a highest-ever bid to have lunch with Warren Buffet and ask his advice. Newspapers suggest the US economy could stop growing and fall into a “double-dip recession”. The Euro may disintegrate. Modern China could have its first economic contraction due to its property market and general inflation. I do not agree with these opinions, and I will discuss each of the four regions briefly. China I will discuss in more depth.



Crisis Points: US, EU, China, Japan.



US: the coming end of US Federal QE2.

America has been devaluing the dollar now for three years without this “dispensed” cash really creating any obvious difference, and now we are at a “final moment”, when the US will stop buying its own debt, or printing money. Investors and companies are waiting and wondering, “is it gonna hold?” The largest worry is that the US will not be able to refinance its debt cheaply in coming years, squeezing the US government in unprecedented ways. If the US does not grow this could be the case. So there is caution, as there should be…

In the last month the US economy has slowed more than expected, and it has slowed even before the end of the Federal stimulus program QE2. US economic information could be read as caution across the board (hiring, investing, producing, buying), but the early onset of this US slowdown is also a result of Japanese manufacturing stopping during this period. US Car and computer companies have not been able to produce enough, and the second-hand car market has increased unexpectedly. Supply-line disruption from Japan has led to additional industrial slowdowns, but this is likely not a larger trend but a short-term affect that will reverse itself because there is demand for these products. I believe in August the US economy will grow faster than anticipated as Japanese companies begin producing again, US demand is higher because the US did not fall off a cliff in June, and Japan’s demand for imports increases to rebuild after its disaster (US exports to Japan are already increasing).

Assuming the US continues to grow in June, this current fall in stocks is likely now bottoming. However, if the US Fed ceases to create the money that is most used in the global economy this will have other effects. Commodities may fall in price, global interest rates may continue to rise, and the dollar should stop falling. Current cheap debt will grow more expensive in dollar denominations, while global inflation will likely ease (with the exception of China), thus letting debt from these countries cheapen. IF the US does not keep growing, a steep fall is likely for the stock market. It is interesting to note that while the greater stock market has declined, there is an internet service and social-networking IPO “bubble” in the US. This bodes well for the continued growth of the internet, but also reveals underlying confidence in the US economy as a whole (see below, European IPO’s). However, like any "bubble" this could pop, hurting the US economy. Hopefully Groupon's valuation does not fall until 2013.

I believe the US economy is now stronger than it looks. For the last two years small businesses and ventures have had no easy access to money through debt or stock, so there is now a supply of hardened companies that remain profitable but cautious. Now some of these small companies are buying bankrupt rivals. US banks are now the most “capitalized” in the world, which means they have more money to spend than any other nation’s banks. Loans are starting to appear for even the more risky firms that have survived until now, like global shipping companies. US unemployment has stopped its ascent.

After October…. Longer-term, the US government will have increasing trouble finding buyers for its debt because China has been now selling (not buying) US government debt, and Europe may resort to a QE2 of its own to keep Greece, Ireland, Portugal, Spain and even Italy solvent. All of this bodes for slow future growth until new developing regions go into high gear. It is the hope of the US that its own citizens will begin saving more, in banks, thus effectively buying US government debt. If they do not and the US economy does not grow (which would increase tax income), this will then be a crisis and probably require a QE3. Warren Buffet has said, the country that controls the global reserve currency can devalue its way through any crisis... Maybe.


Europe: Rising Debt and Current Debt Crises.

Europe’s stock market has not fallen as far as I think it should. Recently in Singapore the German leader told the world that the Euro currency is stable. In conjunction, a number of European “analysts” reported Europe’s problems were behind it, and the world should worry about America. That Europe’s problems are behind it is not true. While Germany’s economy is growing quickly, and it is now leading the world in IPO stock offerings of industrial companies, this also shows two things, that European investors believe German industrial and global growth will continue in the near term, but that global private investors are cashing out of German companies. Where this cash will go is anyone’s guess.

Europe as a whole is something Warren Buffet has said he will watch from afar, and I too have sold my European stocks (only to watch these rise). I expect European stocks to gradually fall into 2012 if Greece is not dealt with. Bloomberg suggests that Europe will likely wait until 2013 to let Greece default to give its banks time to sell assets and to let certain financial treaties come into effect before this shock. Politically Europe may be forced to act sooner. As this crisis drags on, it will likely depress European consumption and may spark political crises. Already banks are refusing any loans for ventures in Greece. And if Greece cannot get loans and start growing again, it will again default on its new debts, requiring a new bailout. This stretching may go on with a new Greece crisis every few months. As with Citibank in 2008, there are now some papers suggesting the Euro as a whole is technically bankrupt. If it is true that in Italy, Germany and France banks may also default if Greece and Ireland were to together stop payments on their debts, this may be the next financial crisis as short sellers corner the Euro. Of course, unlike a bank, Europe could print more currency if it had to. It is not mentioned much in the talk of world economies, but the EU is both the biggest world economy and China’s largest customer, so falling European imports and currency would depress China’s growth. Europe is also lobbying China to buy its debt.

China: Debt Crises in a Closed Bank System.

Because China has been raising interest rates to slow inflation (which is now China’s largest public problem) it has forced local governments to default on their loans quicker. Announced two weeks ago, the central government, Beijing, would assume local government debt of over $400 billion. This is like paying off Greece, and China has lots of extra money. However by forgiving local government debt, these governments will have renewed incentive to continue borrowing. This would push inflation even higher. So China’s central government, Beijing, will need to slow new bank loans to local governments. However, there are two issues here, one is that many loans in China are private, between individuals and companies and families, and China has to stop these from replacing state loans, especially to local governments. Also, the local government insolvent debts will all be concentrated in Beijing, who will now need to announce a plan for how it will pay its own banks the interest on these loans, and this may lead to added attention toward how internal Chinese debt from bankruptcies in 2005 have still not been accounted for. If they were, China’s growth would be less than published.

This action hasn’t been in the news traditionally, but it will be going forward because a number of large international investors are now actively promoting the idea of various Chinese problems, mostly regarding property prices. China is in a property building boom though some analysts claim by 2012 the country will already have enough apartments to house the entire population. So sometime in the future Chinese property prices will likely fall, and because new apartments are also investments among the rich, their prices might fall quickly and steeply. To push this problem into the future, new regulations may force those investing in second and third apartments to have to hold them for years. Money is also being spent on low income housing to ease the slowdown. Overall Chinese debt is the immediate problem because it is connected with consumer inflation and a trend of lower return on investment, generally, in China, and I think it is behind two stories recently in headlines. One is the death sentence given to a powerful female CEO who had been orchestrating informal loans for other companies, and the second is the $450 billion dollar bailout of China’s local governments. Both these actions, I believe, are trying to target inflation, which is now China’s largest problem. There are currently large-scale riots in three provinces over price increases, and there have been many over the last two years. They are increasing.

China has money to throw at this problem, and while there is no crisis (yet), this bailout action will have effects on the Chinese economy. The most obvious effect seems to be the likelihood of the RMB increasing in value. Currently China hopes to cover these loans with the implied credit of Beijing, thus indirectly insuring its banks. It can then control inflation by forcing the banks to only give loans to low-inflation projects, because the banks are run by the government, but this will also slow overall job growth, and it will decrease tax revenue (and this project can only work if informal loans are curtailed). China has tried raising wages but this will also increase inflation, so a likely step would be spending foreign reserves to permanently remove bad debt. It may prove necessary for China to use its foreign reserves to pay off these loans. If China does use its foreign holdings to pay off these debts, this will force an appreciation of the RMB’s value.

Going forward, China's growth in direct investment and in exports will slow because of internal implications and because of slowing European consumption. China will likely see some short term financial crisis which may offer a short-lived buying opportunity in Chinese stocks.

Japan: a last smile for now.

The tragedy and economic consequences of the Japanese nuclear disaster will unfold for the next decade and more, and as the extent of radiation poisoning in what was the cleanest country on earth becomes apparent, Japan may be in for the biggest economic crisis of the four economic zones discussed so far. In the near term however, Japan’s economy should not only grow but add to global economic growth beginning in August as it solves its electricity problems allowing its factories to run at full speed both to deliver on pent-up demand and to rebuild itself. Reconstruction projects should begin to run smoothly. And overall Japan to be growing in October.