Showing posts with label QE2. Show all posts
Showing posts with label QE2. Show all posts

Saturday 24 December 2011

What America Can Learn from the Greece Financial Crisis

Written by Lewis E. Lehrman
Thursday, June 30, 2011

Observations on the Greece financial crisis and what America can learn:


  1. Greece is only one example of an irresponsible, reckless, insolvent government, which is spending itself into bankruptcy. There are dozens of such countries, both developed and emerging.
  2. Central bank and commercial bank credit financing of the government budget deficits in every country leads to inflation. This mechanism leading to inflation is subtle but pervasive and inevitable.
  3. The solution to the problem is to prevent governments from requiring their central banks and commercial banks from creating new money and credit to finance government spending.
  4. In the case of America, the budget deficit and the balance of payment deficit affect the entire world because the world is on the paper dollar standard. The dollar is the official reserve currency of the world. These US deficits are financed by the Fed, the commercial banks, and foreign central banks with new money and credit which cause the depreciation of the dollar. The vast new Fed created credit of QE1 and QE2 floods the world banking system with excess dollars, causing world wide inflation.
  5. Greece is the concrete lesson for American public finance. Central bank and commercial bank financing of the government budget must be restricted or, even better, prohibited.
  6. The best institutional restriction on undisciplined Federal Reserve discretion to finance the budget and balance of payments deficit is to establish convertibility of the dollar by statute to a fixed weight of gold and to end the official reserve currency role of the dollar.
  7. When the dollar is convertible at a fixed parity to gold, then if the Fed and the banks create too much money and credit, causing inflation, the American people can protect themselves by turning in their undesired dollars for gold at the fixed parity. Since the Federal Reserve and the banks would be required by law to redeem the dollars in gold, the banks must then reduce the expansion of credit, tending to reduce inflation.


The gold standard, in a word, is democratic money. The sovereign American people should regulate the quantity of money and credit, not the Federal Reserve, a government agency. Gold is also the money of the Constitution as stipulated in Article I, Sections 8 and 10. Thus, the monetary system must be regulated by a democratic people, and not by economists manipulating the currency at the Federal Reserve Board and the Treasury.

Thursday 11 August 2011

THE CRASH IN CONTEXT: Stocks Are Still ~30% Overvalued

Henry Blodget | Aug. 4, 2011, 4:23 PM |
The DOW dropped 512 points today.
And that's on top of the several hundred points it dropped last week.
The S&P 500, a broader market measure, is now down more than 12% off its recent peak.
So what does that mean?
Is it a "buying opportunity"?
Over the short-term, who knows? If this carnage keeps up, a panicked Ben Bernanke will probably rush to announce some huge new quantitative easing program. Or Congress will quickly rethink its recent commitment to "austerity" and announce trillions of new spending. And those initiatives might boost stocks for a while.
The bigger picture, however, is less encouraging. Even after the recent plunge, stocks are still about 30% overvalued when measured on "normalized" earnings--which is one of the only valuation measures that works.
Specifically, even after the crash, stocks are still trading at 21X cyclically adjusted earnings, as we can see in the following chart from Professor Robert Shiller of Yale. Over the past century, stocks have averaged about 16X those earnings. So we're still about 30% above "normal."
Shiller PE Ratio
PE ratio = blue, 10-year interest rate = red
In recent months, eager to suggest that stocks are "cheap," most analysts have talked about the market P/E ratio relative to next year's projected earnings. And relative to those earnings, stocks do seem modestly "cheap" (12X, or something).
Unfortunately, measuring stock values against next year's projected earnings has a couple of flaws. First, no one knows whether those projections will materialize. Second, and more important, those projected earnings assume that today's near-record-high profit margins will persist. 
Over history, corporate profit margins have been one of the most reliably "mean-reverting" metrics in the economy. When margins get extended to super-high (today) or super low (2009) levels, they generally revert toward the mean. This radically changes the PE ratio.
And measured on average profit margins, not today's super-high margins, the stock market is still expensive. (We discuss this in detail here).
Sadly, this doesn't tell you anything about what the market will do next.  As you can see in Professor Shiller's chart, the market has spent decades above and below the average.
What this PE ratio does tell you is that stocks still have lots of room to fall--30%, just to get back to normal, much more than 30% if they "overshoot."
And it also tells you that long-term returns are still likely to be sub-par.
Through history, one of the most reliable predictors of next-10-year returns is the valuation level at the beginning of the period. Today's valuation level is not as high as yesterday's. But it's still higher than average.


Read more: http://www.businessinsider.com/the-crash-in-context-stocks-are-still-30-overvalued-2011-8#ixzz1UhBL6Oxm

Here's The Problem With This Market Crash...

Henry Blodget | Aug. 4, 2011, 10:05 PM |
great depression

See Also:

Well, it's deja vu all over again.
For anyone who followed the market crashes of 2000-2002 and 2007-2009--especially the crash of 2007-2009--the 512-point drop in the Dow feels awfully familiar.
And as those market crashes reminded us, the downdrafts can last a lot longer and be a lot more severe than most people initially think.
(They can also reverse themselves quickly and unexpectedly, and maybe that's what will happen this time. We can always pray.)
But there are also several very important differences between this market crash and the ones a few years ago:
  • The Fed has fired most of its bullets (interest rates are already at zero)
  • Our budget deficit is already out of control, and Congress has had it with "stimulus"
  • The public has had it with bailouts
That means the government's ability to do anything about this market crash is severely limited.
Yes, we'll almost certainly have a "QE3." And maybe that will prop things up a bit. But it won't fix the fundamental problems clogging the economy, just as QE1 and QE2 didn't permanently fix anything. (The only thing that will fix our economy is debt-reduction, discipline, and time.)
To get a good sense of how hamstrung the government is, you need only look as far back as last week, when Congress was so paralyzed that it almost put the country into default rather than raise the debt ceiling.
And you also need only note that, when the 2000 crash began, the US federal budget was running a surplus, and when the 2007 crash began, the deficit was only $200 billion. Now, the deficit's about $1.4 trillion:
Meanwhile, to get a good sense of how different the Fed's position is now than it was at the start of the last two market crashes, all you have to do is look at the chart below.
In 2000, when the market tanked, the Fed Funds rate was 6.5%. The Fed immediately began cutting rates and eventually took them all the way down to 1%. (Where it left them for far too long, thus helping to inflate the housing bubble.)
In 2007, when the market began to crack, the Fed Funds rate was 5.25%. The Fed immediately began cutting rates and eventually took them all the way down to 0.25%. Where they have been as long as anyone can remember. And where they still are today, just as the market is beginning to crash again.
In short, it IS different this time. And not in a good way.


Read more: http://www.businessinsider.com/heres-the-problem-with-this-market-crash-2011-8#ixzz1Uh6pP1g9

Sunday 26 December 2010

Ways to Profit from QE 2: EQUITY AND BOND STRATEGY

Key Points:

 The Fed announced an initial US$600 billion asset purchase
programme (QE2) which will be completed by the end of the
second quarter of 2011

 Double-dip recession is not the chief factor for QE2. The
Japanese history has told us QE2 aims at managing price
expectations

It is evident that the lack of credit creation mainly comes from
the demand side, that is, consumers’ unwillingness to borrow.
QE would be ineffective when there is an absence of borrowers
in an economy, as liquidity injected by the central banks cannot
be circulated in the banking system

 While the effect of QE2 is still controversial, one thing is sure:
markets are flushed with liquidity. Risky assets will benefit from
the programme as excess liquidity will flow into the asset
markets

 We identify three main investment trends amidst the QE period:
1. Risk-free asset will also be yield-free asset; Financial
Institutions like pension funds and insurance companies which
rely on the regular fixed income to maintain its cash flow will be
battered; The low cost of borrowing would encourage investment
which is a key positive catalyst for the re-rating in valuation

For the bond market, we favour high-yield corporate bonds,
Asian and emerging sovereign (EM) bonds on the back of
attractive yields and potential capital gains from currency
appreciation. We also expect investment-grade corporate bonds
to outperform as they will likely be the targets of the Fed’s asset
purchase programme

For the equity market, the emerging markets are likely to be the
biggest winners, compared with the developed markets in the
QE2. We think the Technology sector, the China A- and H-share
markets as well as the Hong Kong market are high ROE players
that are set for more upside. For value plays, Russia, Europe
and the Technology sector look attractive. Lastly, investors
looking for attractive yields may consider Taiwan and Europe
markets.

http://www.fundsupermart.com.my/main/research/viewHTML.tpl?articleNo=843

Thursday 18 November 2010

Asian bubble watch: shares due for a correction

Asian bubble watch: shares due for a correction
November 17, 2010 - 2:44PM

Asia's booming financial markets are not yet bubbling over, with investors drawing a line at exotic perpetual bonds, but some equity valuations in red-hot South-East Asian bourses appear stretched.

Asia ex-Japan, with its favourable economic fundamentals and stable balance sheets, has been a magnet for foreign capital, one whose attraction have been made all the more powerful by expectations that money will stay cheap in advanced economies for a long time.

A growing number of emerging economies in Asia and elsewhere in the world have been imposing or considering capital controls to keep the influx of speculative money from feeding potentially destabilising bubbles and complicating policymaking even further.

Visiting bankers from the West have been struck by the boldness of Asia's nouveau riche, who last month bought three bottles of 141-year-old Chateau Lafite Rothschild wine at Sotheby's in Hong Kong for $US232,692 each, nearly triple the highest estimate.

It's no surprise then that some analysts say if any asset bubbles form in Asia, it would be among the most anticipated in modern history. Indeed, the phrase "asset bubble" has appeared in more than 3000 articles so far in 2010, more than any other year in the past decade, Factiva showed.

Below are highlights of the bubble risks traders and investors face in Asia. For now the risks appear relatively low.

Shares

Bubble risks: Low to medium, on South-East Asia valuations, IPO frenzy

- Asia's hottest stock markets this year in the south-east may be due for a correction. Without one, they run the risk of forming a bubble.

- MSCI indexes for Indonesia, the Philippines and Thailand are trading at price-to-12-month forward earnings ratios that are 22 per cent above the five-year average.

- Valuations may contract, with the 30-day mean change in 12-month earnings estimates for the Philippines and Indonesia down 0.1 per cent, according to Starmine data.

- A gaggle of prominent shareholders liquidated nearly $US2 billion worth of equities in Hong Kong, South Korea, Indonesia and Malaysia last week, signalling a possible top of the market because of high valuations.

- Contrast that with Coal India's IPO on November 4, which encapsulated the frenetic year for IPOs. The $US3.5 billion offering drew $US52 billion in orders, and shares surged 40 per cent on the first day of trade.

- "When everyone at large starts talking optimism, that is the time to get cautious. Retail participation has increased a lot. There are plenty of 'tips' floating around. All these are danger signs." said Arun Kejriwal, director of research firm KRIS in Mumbai.

Bonds

Bubble risks: Low. Borrowers want to lock in long-term funding, but investors are asking for higher premiums.

- Risk on trading in the wake of the Federal Reserve's second round of quantitive easing has given way to profit taking in secondary markets as US Treasury yields spike.

- The issuance calendar is still full but upward pressure on yields and unfriendliness toward structures that push boundaries, such as perpetual bonds, may eventually cool primary markets.

- Perpetuals, which have no maturity and had not been issued by an Asian corporate in 13 years, issued by Cheung Kong Infrastructure, Hutchison Whampoa and Noble Group fared poorly in secondary trading after Noble's bond attempted to push through with what was viewed as an aggressive structure.

- Noble's 3-point drop in secondary trading was a reality check for bankers and a curb on bubble behaviour. Likewise, OCBC Bank's Lower Tier 2 bond with a 12-year non-call seven maturity - the first of its kind from an Asian bank - widened as much as 20 basis points two days after it was issued.

- Asia ex-Japan G3 currency bond issuance hit a record $US78 billion so far this year, with nearly six more weeks to go in 2010.

- Investors still are welcoming higher duration in both high-yield and high-grade names, for now. Watch how far down they go on the credit scale.

- Capital curbs have already cooled foreign inflows in some of South-East Asia's hot bond markets. While Indonesia has been hit by duration-cutting trades after posting equity-like returns for the second consecutive year, Thai bond yields have rocketed after Bangkok reimposed a 15 per cent withholding tax for offshore purchases of local bonds on October 13.

- In the Philippines, a US dollar shortage engineered by the central bank dimmed the relative allure of Philippine assets and weakened the peso sharply - one of the top performing Asian currencies so far this year.

Reuters

US stocks slide as global fears hit

US stocks slide as global fears hit
November 17, 2010

US stocks fell nearly 2 per cent on Tuesday as the prospect of more European bailouts and worries China will rein in inflation prompted investors to abandon risky assets.

The developments, especially questions about Ireland's financial stability, caused a spike in the US dollar, which hit commodity prices. That in turn sent equities lower, with natural resources companies leading the way down.

What you need to know

The SPI was 67 points lower at 4646
The $A was down at 97.66 US cents
The Reuters Jefferies CRB Index was down 3.2%

"Is (US) dollar strength just a correction in a larger trend of dollar weakness, or are we beginning to turn around here?" said Bill Strazzullo, partner and chief investment strategist at Bell Curve Trading in Boston.

"If it looks like the US dollar is finally stabilising here and gaining its footing, we're going to have a good-sized pullback in equities and commodities markets."

Asset classes have become increasingly entwined since investors placed bets ahead of the Federal Reserve's announcement of further quantitative easing. Now, many investors that bet on Fed stimulus are unwinding those risky positions.

One result was a slide in resource stocks, such as Alcoa Inc, which fell 2.8 per cent to $US13.03, and Exxon Mobil Corp, which dropped 2.2 per cent to $US68.94. US crude oil futures settled 3 per cent lower at $US82.34 a barrel, gold and metal prices fell and the US dollar index jumped 0.9 per cent.

The S&P materials sector gave up 2.2 per cent. Tech shares also stumbled, falling 1.9 per cent, as investors fled for safety.

The Dow Jones industrial average dropped 178.47 points, or 1.59 per cent, to 11,023.50. The Standard & Poor's 500 Index shed 19.41 points, or 1.62 per cent, to 1178.34. The Nasdaq Composite Index gave up 43.98 points, or 1.75 per cent, at 2469.84.

Ireland, which is grappling with a battered banking sector, said it was discussing stabilization measures with its European partners, while China is expected to unveil food price controls and crack down on commodity speculation to contain inflationary pressure.

The Chinese media reports increased expectations that China will further tighten monetary policy to help fight inflation.

The S&P found support around the 1176 level, which is roughly the 23.6 per cent Fibonacci retracement of the benchmark's recent rally from the 2010 low in July to its more than two-year high hit earlier this month.

After rallying nearly 13 per cent through September and October, the S&P 500 has given up nearly 4 per cent since November 5.

"If we don't see the S&P back above 1200 in the next couple days, then I think we're potentially putting in some sort of top here," said Strazzullo.

Continued speculation over whether the Federal Reserve will spend all of the $US600 billion it had earmarked for its latest round of quantitative easing also pressured the market.

St. Louis Fed President James Bullard said in an interview with Bloomberg Radio the central bank would scale down its planned purchases of Treasury bonds only if there was a strong improvement in the US economy.

Global developments overshadowed a favorable US corporate picture as Wal-Mart Stores Inc and Home Depot Inc raised their profit forecasts for the year.

The two companies were the only Dow stocks to rise. Wal-Mart added 0.6 per cent to $US54.26 after it also forecast positive same-store sales for the holiday season, and Home Depot rose 1 per cent to $US31.71, though it cut its full-year sales outlook.

Reuters

http://www.watoday.com.au/business/markets/us-stocks-slide-as-global-fears-hit-20101117-17w7w.html

Wednesday 17 November 2010

Addiction to cheap money

Addiction to cheap money
(China Daily)
Updated: 2010-11-05 14:26

The fresh round of quantitative easing launched by the US Federal Reserve Board (Fed) shows that the world's biggest economy, instead of abstaining, has become even more addicted to abnormally cheap credit.

In an all-out effort to shore up the US economy, on Wednesday, the Fed announced plans to purchase an additional $600 billion of longer-term US Treasury securities by the middle of next year.

The move, nicknamed QE2, does not bode well for the world economy, which is struggling to find a way out of the worst global recession in more than half a century.

Emerging market economies, the main engine of global growth, should take action to prevent the flood of cheap US money from sending their domestic inflation through the roof.

More importantly, the international community must work together to persuade the United States to give up its growing addiction to cheap money that, in all likelihood, will cripple any global effort to seek a rebalanced and lasting recovery of the global economy. There is little chance that the Fed can foster more employment while maintaining price stability with such an irresponsible monetary policy.

Compared with the painful fiscal consolidation that most debt-laden rich countries are undertaking to get their fiscal houses in order, quantitative easing, a roundabout process of printing money, looks a more tempting way to address debts and other economic woes. But, that will only be true if such cheap credit helps quicken a fundamental transformation of the US economy away from over-consumption toward investment-led growth.

The fact is that previous quantitative easing only prompted US banks to excessively increase reserves that are now a pool of inflationary fuel just waiting for the match of credit demand.

Worse, QE2 may even cause the US dollar to fall further, exerting a huge destabilizing influence on the rest of the world. The unevenness of the fragile global recovery means that most of the fast-growing developing countries are likely to fall victim to a surging inflow of international capital driven by the flood of cheap US credit.

When leaders of major developed and developing economies meet next week in South Korea to coordinate global efforts for a lasting recovery, they should not be misled by all the hoaxes about "currency wars".
Given the self-enhancing nature of this US addiction to cheap money, it is time to give the US a warning against going too far in its attempts to reflate its way out of the crisis.

It is irresponsible for the country with the world's major reserve currency to uphold the motto of "our currency, your problem". Nor is it fair for a rich economy to dilute its debts at the cost of the stability of the global economy and financial system, with developing countries bearing the brunt of its impact.

For the long-term benefit of itself and the world, the US should overcome its addiction to cheap money.


http://www.chinadaily.com.cn/business/2010-11/05/content_11508443.htm

China needs to raise rates to cope with QE2

China needs to raise rates to cope with QE2
(Agencies)
Updated: 2010-11-05 11:04

BEIJING - China needs to increase interest rates to curb capital inflows driven by US monetary easing, an official newspaper said in an editorial on Friday.

Although such a move would increase the rate differential between China and the United States, which might by itself attract further cash from abroad, the China Securities Journal argued that raising interest rates would provide a net benefit by cooling domestic asset prices.

"We must not forget the Japan lesson. We must tighten internal policies to deal with external easing so as to avoid the formation of asset bubbles," the leading financial newspaper said in a front-page editorial.

It said that Japan's interest rate cuts in the 1980s inflated asset prices and led to deflation when the bubbles burst.

China needs to be wary about asset bubbles because food-driven inflation pressure is on the rise and efforts to ward off hot-money inflows are less effective since other developing countries, including Brazil, South Korea and Thailand, are also trying to impose capital controls, it said.

"From this perspective, it's necessary for our country to enter a cycle of interest rate rises," it suggested. "The process of our capital account opening should also be controlled."

The editorial does not necessarily represent official policy, but it does reflect widespread worries in China about how to cope with a rise in international liquidity after the US Federal Reserve unveiled a fresh round of quantitative easing this week.

China raised interest rates last month for the first time in nearly three years, although the jury is out among economists about whether the next rate rise will come before the end of this year.

http://www.chinadaily.com.cn/business/2010-11/05/content_11507379.htm

Inflation does matter in China and the world

Inflation does matter in China and the world
By Huang Shuo (chinadaily.com.cn)
Updated: 2010-11-15 16:58

The growth rate of China's consumer price index (CPI) was 4.4 percent year-on-year in October, a 25-month high. The rate is up 0.8 percentage points from September. This is an alarming statistic for a country that for the past three decades has had steady economic growth. Inflation risks do matter for China.

In particular, the new factor of a rise in prices, main promoter for CPI growth, took up 3 percentage points of the 4.4 percent surge. Prices of agricultural products and food have been playing major roles in contributing to the CPI hike. Food prices surged by 10.1 percent compared with the same period of last year as a result of the price hike in international agricultural products, and the recent flood in South China’s Hainan province affected vegetable prices and oil prices, adding to the product costs, said Sheng Laiyun, spokesman for the National Bureau of Statistics (NBS).

In addition, daily essentials such as eggs and vegetables are leading the price increases in China's consumer market, followed by meat, oil and white sugar.

As the industry generally expected that about 4 percent would be the proper answer for CPI, the final data released by the NBS on Nov 11, 2010, was 0.4 percentage points higher than estimated, which astonished the public and drew lots of attention from domestic and foreign experts.

Consumer prices associated with social stability are the top concern of the public in China. The increase of CPI indicates that the surge in commodities prices is ongoing in the consumption market, closely linked with the daily lives of ordinary people. China’s income per capita still lags behind the United States, the European Union, and even some other emerging economies. How to increase income and stabilize or lower the prices in the market, especially for daily essentials, should be attached great importance by the government.

Livelihood is like the basis for constructing a building, which lays the firm foundation for a harmonious society. Whether people can lead a good life decides the quality of governance by central and local authorities. High consumer prices pose an unstable economic factor to improving the living standard of people.

More regulations are expected for the soaring Chinese CPI. As to that situation, the People’s Bank of China, the central bank of China, has noticed and adopted a measure increasing the required reserve ratio by 50 basis points and coming into effect on Nov 16, 2010, in order to ease the pressure from the second round of quantitative easing policy (QE2) by the Federal Reserve of the US and increasing liquidity caused commodity prices to rise in China. But is it enough to merely depend on national economic regulatory authorities?

Every economy released loose monetary policies to conquer the challenges brought by the international financial crisis in 2008 and get out of the recession. But side effects are inevitable. Rising inflation is one of the consequences. As a result, countries with expansion policies on issuing more currencies should work together and reach agreements to confront the emerging side effect -- inflation.

The author can be reached at larryhuangshuo@gmail.com.

http://www.chinadaily.com.cn/business/2010-11/15/content_11552427.htm

What is quantitative easing?

Quantitative easing (QE) is a monetary policy used by some central banks to increase the supply of money by increasing the excess reserves of the banking system, generally through buying of the central government's own bonds to stabilize or raise their prices and thereby lower long-term interest rates.

This policy is usually invoked when the normal methods to control the money supply have failed, i.e., the bank interest rate, discount rate and/or interbank interest rate are either at, or close to, zero. It has been termed the electronic equivalent of simply printing legal tender. (Source: Wikipedia)

Quantitative easing a form of currency intervention

Quantitative easing a form of currency intervention
By Wang Guanyi (HK Edition)
Updated: 2010-10-20 06:58


The recent dispute in currency policies between export-oriented economies and developed economies can be traced back to the 2008 financial crisis. Developed economies have chosen to print money in order to claw the effects of the 2008 financial collapse.

Quantitative Easing (QE) was introduced in early 2009 by the central banks in hope to jump start their domestic economies. This helped restore confidence in the financial markets but never accomplished its purpose of boosting their own countries' economies. None of the G7 countries have been able to regain GDP growth close to that of pre-crisis levels. Hoping to boost business activity, central bankers printed money, but commercial banks were unwilling to lend, which resulted in massive liquidity directed elsewhere. Through the highly efficient network of investment banks, most of the extra liquidity injected indeed flew into the financial systems and once again boosted prices of various financial assets, while at the same time causing the US dollar to depreciate significantly over the past six months.

On the other hand, emerging market economies, which at one point relied heavily on exports, are suddenly witnessing significant appreciation pressure on their own currencies. Many of these economies acted, through tax or other forms of capital control, to maintain the stability of their own financial systems from the flooding of currencies such as the yen and the dollar. From the perspective of emerging economics, QE is a form of currency intervention, and a way of exporting inflation. The developed countries are trying to walk out from the gloom of deflation by transporting inflationary pressure on others through currency depreciation.

China has always been responsive and takes part in its fair share of global social responsibility. The country chose not to appreciate the yuan in the 1998 Asian crisis, which made life for all the Southeast Asian countries easier during the period. However, the impact and implications of further yuan appreciation on the country's 1.3 billion citizens will be drastic and must be handled carefully by the country's leaders. Because of the scale of such a move, China needs to consider all measures in handling the matter and this is an issue on which it will not easily give way.

Over the past two years, Beijing has worked hard to stimulate its domestic consumption in order to push GDP expansion and find other ways of continuing its economic growth without relying too heavily on exports. However, this is no easy task and such a change will take a longer time to implement in an economy as large as China's. Moreover, manufacturers in China are already pressured by surging labor and commodity costs. A rapid surge in the yuan will not only be catastrophic to exporters but could also lead to a huge surge in unemployment and subsequently social instability. On the other hand, if the yuan appreciates at a healthy pace, this would allow the restructuring of the Chinese economy to take place and the gradual transfer of wealth from exporters to households. Additionally, emerging Chinese consumers may eventually be able to provide employment opportunities to help alleviate western unemployment problems.

The Chinese Central Government clearly has a road map on internationalizing the yuan and ultimately making it a free-floating currency. However, the road map would clearly rely on when the infrastructure, legal framework, domestic banking and financial systems are ready. The actions from the Plaza Accord and the bitter lessons that the Japanese learned after appreciating the yen is well remembered. It might be in the interest of China to lend to the US for consuming more Chinese goods. It will never, however, be in the interest of China to jeopardize the well being of its manufacturers, to inflate property and stock markets with hot money, and to risk wiping out the wealth accumulated by hard working. Everyone knows that when hot money retreats, bubbles will burst and this is something China is taking very seriously.

The author is a visiting professor at the Asian International Open University, an international financial commentator at NOW business news channel and founder of www.wongsir.com.hk.

(HK Edition 10/20/2010 page2)


http://www.chinadaily.com.cn/hkedition/2010-10/20/content_11431630.htm

Saturday 13 November 2010

The coming flight to quality stocks (Jeremy Grantham)

The coming flight to quality stocks
Posted by Scott Cendrowski, reporter
October 27, 2010 1:40 pm

Leave it to Jeremy Grantham to blast Fed Chairman Ben Bernanke and former chairman Alan Greenspan in a rightfully scary missive titled "Night of the Living Fed."



Jeremy Grantham, the institutional money manager in Boston who oversees nearly $100 billion, has been as critical of the Fed's interest rate policies over the past 15 years as he has been adept at spotting bubbles fueled by the low rates. He warned clients of tech stocks more than a decade ago and more recently called a worldwide asset bubble before the meltdown in 2008. (Though he's labeled a perma-bear, Grantham pounces on opportunities: on March 10, 2009, at the market's lows, he encouraged clients to load up on stocks in a note titled "Reinvesting When Terrified.")

His latest quarterly note reminds investors how dangerous it is for Bernanke and Co. to rely on ultra-low interest rates, and the resulting cheap debt, to promote economic growth. "My heretical view is that debt doesn't matter all that much to long-term growth rates," he writes. "In the real world, growth depends on real factors: the quality and quantity of education, work ethic, population profile, the quality and quantity of existing plant and equipment, business organization, the quality of public leadership (especially from the Fed in the U.S.), and the quality (not quantity) of existing regulations and the degree of enforcement."

A graph of total debt compared to U.S. GDP growth drives home the point: as the U.S. tripled its debt compared to GDP in the past three decades, GDP growth slowed to 2.4% from its 100-year average of 3.4%.

Read Grantham's entire note below (and we really encourage you to do so, even if it takes the better part of an afternoon). The most sobering section must be the effect that near zero percent interest rates has on retirees in the U.S.

"When rates are artificially low, income is moved away from savers, or holders of government and other debt, toward borrowers," Grantham writes. "Today, this means less income for retirees and near-retirees with conservative portfolios, and more profit opportunities for the financial industry; hedge funds can leverage cheaply and banks can borrow from the government and lend out at higher prices or even, perish the thought, pay out higher bonuses. This is the problem: there are more retirees and near-retirees now than ever before, and they tend to consume all of their investment income."

Flight to quality

Since Grantham is foremost a stock investor, we'll let you read his criticisms and instead highlight what he thinks it means for stocks. Grantham's takeaway: don't fight the Fed.

Stocks, which are overvalued by historical standards, can still run up 20% or more, he says.

Year three of a presidential cycle is typically a good time for stocks. Since FDR's presidency, some 19 cycles have passed with only one bear market. That, coupled with low short-term interest rates, leads Grantham to affix 50/50 odds on the S&P 500 Index reaching 1,400 or 1,500 in the next year.

"There is also the definite possibility that we could slide back into a double dip, so we may get lucky and have a chance to buy cheaper stocks," he writes. "But probably not yet. And, of course, if we get up to 1400 or 1500 on the S&P, we once again face the consequences of a badly overpriced market and overextended risk taking with six of my predicted seven lean years still ahead."

To cope with seven lean years (more here), Grantham still proselytizes high-quality stocks: the 25% of companies in the S&P 500 with low-debt and high, stable returns.

"For good short-term momentum players, it may be heaven once again," he writes. "Being (still) British, this is likely to be my nth opportunity to show a stiff upper lip." And it may be easier even for average investors, he observes, to buy high-quality blue chips because they are getting "so cheap" relative to the market.

Recently, in the largest stock rally since 1932, Grantham often notes, high-quality blue chips have trailed the speculative, debt-laden companies within the S&P 500. He writes that chances are one in three that, come another rally in the next year, high-quality stocks will join in. "….Quality stocks are so cheap that they will 'unexpectedly' hang in," he writes.

JG Letter Night of Living Fed 3Q 2010

http://finance.fortune.cnn.com/2010/10/27/the-coming-flight-to-quality-stocks/

Thursday 11 November 2010

Unknown consequences of QE2

Unknown consequences of QE2

2010-11-09 14:11
Unknown consequences of QE2
With oil hitting a two-year high, gold rallying to an all-time peak, and most global stock and commodities markets in a sharp upswing, the US Federal Reserve (Fed) has proved its capability to drive up the world's inflation expectations.
Yet, unfortunately, it remains unknown if the Fed's announcement last Wednesday to purchase $600 billion of Treasuries has any chance of succeeding in effectively reviving the sluggish US economy. Moreover, the second round of quantitative easing, or QE2, has given rise to international concerns that the move will only increase global economic uncertainty.
Last Friday, Zhou Xiaochuan, governor of China's central bank, pointed out that the Fed's move was "not likely" to benefit the global economy, because there may be a conflict between the international role and the domestic role of the US dollar.
The Fed's move to print more money may help boost employment and maintain a low inflation rate domestically, but it will bring a flood of liquidity to the global economy, especially to emerging economies, and drive inflation expectations to dangerous levels.
Last week, German Finance Minister Wolfgang Schaeuble criticized the Fed's capital-injection for its potential to "create extra problems for the world" and cause "long-term damage".
The German minister noted that the huge economic problems of the United States should not be tackled with more debt, as cutting deficits, rather than adding more, was one of the priorities among all developed countries.
Equally worried was Robert Zoellick, president of the World Bank, who even suggested a modified global gold standard to guide currency movements.
Admittedly, a return to using gold as an anchor for currency values is probably premature, even though gold prices are more solid than ever. But it is now quite obvious that the current international system cannot afford doing nothing about the latest US attempt to revive its economy with the help of the central bank's printing press.
If US policymakers turn a deaf ear to such international criticism over its latest attempt to stimulate its economy's slow recovery, they will risk undermining other countries' efforts to normalize their monetary and fiscal policies for a lasting recovery.
Worse, the phenomenal inflationary impact that QE2 has so far exerted on the global market could be just the tip of the iceberg. There will undoubtedly be unknown consequences of printing such a large amount of US dollars, a key international reserve currency that is widely used in international commodity trade, capital circulation and financial transactions.
The international community should make it an issue for serious discussion at the G20 summit in South Korea later this week. It is necessary to drive home the message that neither a country, nor the world as a whole, can reflate its way out of a crisis as wide and deep as the one that we are all still suffering from.

Monetary policies divide world into two camps: QE camp and non-QE camp

Monetary policies divide world into two camps

Updated: 2010-11-09 06:50


The US Federal Reserve acted last week on its much-anticipated second round of quantitative easing (QE2) by buying an additional $600 billion of Treasuries through June 2011. This expands on its record stimulus package and is an effort to reduce unemployment and avert deflation. Originally, it was reported that purchases might be higher but after a series of encouraging economic data and earnings reports, the case for a one-off large scale QE no longer seemed appropriate. Since December 2008, interest rates have remained low at 0 percent to 0.25 percent with core inflation at almost zero.

The impact of QE2 provides a welcome level of support for the US economy. Effectively, the US Fed has repaired its own balance sheet through purchases of treasuries in exchange for its mortgage-backed securities (MBS) and agency debt. By exporting its own inflationary pressures overseas through excess liquidity, corporate balance sheets may also improve on the back of higher asset prices. With the ability to change and act accordingly through securities purchases, the Fed has given itself the option to wait and see how the US economy will recover and to what extent assistance will be needed.

QE2 will increase inflationary pressures for some emerging countries and their asset prices will remain at high levels. The US Fed is using QE2 to increase the money supply in order to reduce the debt burden. US policymakers have accepted some levels of inflation in hopes of boosting domestic consumption and reducing the country's level of unemployment.

We believe the world falls in two camps: the first being the "QE Camp" including the US, UK, and Japan; the second being the "non QE camp" consisting of emerging market economies which is led by China.

  • The former has and will continue to loosen its monetary policy in efforts to revive economies, devalue currencies and inflate asset prices. 
  • The "non QE camp" is focused on containing inflationary pressures through tighter monetary policies.


In the "non QE camp", China has recently raised interest rates by 0.25 percentage point for both lending & deposit rates on the back of renewed inflationary concerns. In its third quarter macroeconomic report, the People's Bank of China raised warnings of rising food prices, wages and commodity prices. China's consumer price index (CPI) climbed to 3.6 percent year-on-year in September and is expected to rise to 4 percent year-on-year in October. This exceeded the Central Government's goal of keeping inflation below 3.5 percent - it was at 3 percent at the beginning of the year. The rising CPI is eroding the purchasing power of the people and the higher price of food, energy, rent, and wages, could weaken China's competitiveness.

Additionally, gasoline prices are at high levels and adverse weather conditions have created a shortage in soft commodities leading to further price increases in that segment. In 2010, China suffered from a series of droughts and dust storms. Moreover, floods in China began in early May 2010. Consequently, most soft commodities including agricultural goods such as corns, experienced record high prices.

China will be carefully watching the inflation level as it deals with other important issues such as the inflow of hot money, and yuan revaluation. The so-called "hot money" inflow has been a prolonged issue for China as this will directly inflate asset prices. As previously discussed, the yuan is also another major concern and China will have to gradually appreciate its currency according to the relationship between exports and domestic demand.

As we are approaching the year's end, central bankers around the world will watch carefully the impacts of QE from the "QE Camp" and monetary tightening from the "non QE camp". A measured pace of intervention by central banks and other regulators is what we have seen this year and expect to continue until year-end.

The author is a visiting professor at the Asian International Open University, an international financial commentator at NOW business news channel and founder of www.wongsir.com.hk.

http://www.chinadaily.com.cn/hkedition/2010-11/09/content_11519088.htm

Tuesday 9 November 2010

Oops, has the Fed done it again?

The Fed contributed mightily to 2 financial bubbles over the past decade. Now it seems bent on a course that will create another in the world's emerging economies.

By Jim Jubak

Who really 'owns' the Fed?
Is the Federal Reserve about to do it again? Is the Fed about to preside over the creation of another financial bubble?

Asset prices in the world's emerging economies are climbing on the crest of a flood of dollars from the Federal Reserve. Central bankers in the world's emerging economies have started to worry about what will happen if all the hot money flowing into their economies and markets suddenly starts flowing out.

"As long as the world exercises no restraint in issuing global currencies such as the dollar," Xia Bin, an adviser to the People's Bank of China, said, "then the occurrence of another crisis is inevitable."

Mr. Bernanke, call off the helicopters

(For more about reaction to the Fed's latest decision to push money into the economy, see my blog post "Everybody loves Ben's $600 billion -- at least in the short term.")

I think some degree of worry -- less than full panic but more than polite concern -- is appropriate at this stage. And that worry should play a role in shaping your investment strategy as the decade advances. In today's column, I'm going to lay out the "Oops, the Fed's done it again" scenario. Later this week, on MSN Money and my website, I'll tell you what I think you can do about that danger.

Just talking about exuberance
In 2000, I'd say the sin was one of omission. The Fed sat on the sidelines, aware that a stock market bubble was building but doing nothing to head it off.

Remember how then-Fed Chairman Alan Greenspan talked about "irrational exuberance"? Well, it was all just talk. The Fed, which had the power to try to moderate the bubble by tightening credit on Wall Street, believed that trying to manage bubbles was futile. All a central bank could do was watch from the sidelines and then help clean up the wreckage.

And quite a bit of wreckage there was and still is. The Nasdaq Composite Index ($COMPX) peaked at 5,048.62 on March 10, 2000, and bottomed at 1,114.11 on Oct. 9, 2002. That was a loss, top to bottom, of 77%.

Eight years after the October 2002 bottom, the Nasdaq composite is up handsomely -- 131% as of Nov. 5.
But 10 years after the bear market began in March 2000, the Nasdaq has barely recovered half its losses. From a high of 5,048.62, the market had clawed back to 2,578.98 at the close Nov. 5. That means the Nasdaq Composite Index is still down 49%.

Making a mess
I'd put the Federal Reserve's role in the financial and economic crises set off by the U.S. mortgage mess in a different class. The sin here was one of commission. The Fed played an active role in creating this global meltdown and in making it as bad as it was. (Or should that be "is"?)

To clean up the wreckage from 2000, the Federal Reserve lowered short-term interest rates. At the Nasdaq Composite's height in March 2000, the Fed's benchmark rate was 5.73%. The central bank kept rates above 5% for an additional year -- the benchmark rate was at 5.47% on March 7, 2001 -- but then it began to cut, and fast. By March 6, 2002, short-term rates were at 1.74%, and by the end of 2002 they were just 1.23%. By July 2003 the Federal Reserve had cut them to 0.96%.

And there they stayed. For too long, the Fed now concedes. A year later, through most of June, short-term interest rates were just 1.11%. That marked the turn in the cycle. Finally, on June 30, the Federal Reserve began to raise interest rates, though very slowly. By the end of the year they were at 2.27%. By November 2005, they had finally reached 4% again. And by June 2006, short-term rates crossed the 5% barrier.
But by that time, the low interest rates that had been intended to help clean up the wreckage of the bear market of 2000-02 had set off their own bubble, in real estate and lending.

In the fourth quarter of 2002, when short-term interest rates were 1.23%, the real median price of a U.S. house was $197,219. (All these prices are corrected for inflation.) By the fourth quarter of 2005, the real median price was up to $262,634. That's a 33% increase in the median price of a house in just three years -- without inflation. That's extraordinary appreciation for an asset like a family home in the United States.

And cheap money made it possible. It was possible to buy and flip for a quick profit. Possible to refinance and take money out to buy more stuff. Possible to buy more house than you could afford. Possible to find a lender who would lend you more than the house was worth. Possible to find a lender who wouldn't ask questions about your income or credit record.

By 2006, this price appreciation had peaked. The median real price of a house that year ranged from $250,000 to $263,000. But by the second quarter of 2007, it had dropped below $250,000. And it kept on dropping. By the bottom, which nationally may have been the first quarter of 2010, the real median price of a house was down to $169,158.

That's a drop of 36% from the 2005 quarterly peak to what may be the bottom in 2010. (And because the house they live in is by far the most valuable asset most families own, and because home ownership rates in the United States are much higher than stock ownership rates, that 36% drop in housing prices was more devastating for most families than a 77% drop in stock prices.)

Trust the Fed again?
That track record suggests that "What, me worry?" isn't a reasonable response to the Federal Reserve's two rounds of quantitative easing, a strategy that pumps money into the economy to try to get it moving more quickly. The first round, which ended only this spring, saw the Fed buy $1.7 trillion in Treasurys and mortgage-backed securities. The new round announced last week would add $600 billion of Treasury buying to the total.

The dangers of these two programs to the U.S. economy are scary enough. The Federal Reserve is buying all these debt instruments on the cuff. The Fed doesn't actually have the money to pay for these purchases.
Instead, it is creating dollars out of thin air -- printing them, figuratively at least -- and at the same time creating a huge liability on the Fed's own balance sheet. Of course, the Fed may be able to pay off that liability by selling the bonds back to the market someday, but you're entitled to wonder where the buyers for $2.3 trillion in U.S. debt and mortgage-backed debt are going to come from.

If you're the kind of person who worries when you see a big debt and no obvious way to pay it off, then the Federal Reserve's current balance sheet undoubtedly worries you.

But even if you shrug off the Fed's balance sheet, the Fed's current course presents -- what shall we call them? -- challenges for the U.S. economy. That $2.3 trillion in quantitative easing is potentially inflationary: Pumping that much money into the U.S. economy will, eventually, push up the prices of all sorts of things. (Which in the short run is what the Fed wants, as long as the gain in prices is no more than 2% annually. Good luck fine-tuning that one.)

Putting 2.3 trillion new dollars into the world weakens the U.S. dollar, making imports more expensive and driving down the U.S. standard of living. At some point, that $2.3 trillion also drives up U.S. interest rates, because you're got to pay people (mostly overseas people who are already holding a lot of U.S. dollars) more to take all those dollars, and those higher interest rates will reduce the growth rate of the U.S. economy.

Go overseas, young dollars

But those aren't the possibilities that worry me most or that have overseas central bankers screaming in protest. The big problem is what will happen to that $2.3 trillion created by the Fed. The dollars certainly don't all stay in the United States.

Would you, if you were a self-respecting dollar, stay here earning 0.13% (the yield on the three-month Treasury bill) or even 2.58% (the yield on a 10-year Treasury bond) when you could go overseas and earn 10.75% on Brazilian debt, 6.5% in Turkey or 4.75% in Australia? Would you stay home buying real estate in a market that's barely begun to show a quiver of life, or instead plunk yourself down in Hong Kong or Mumbai or Rio? Would you stay loyal to U.S. stocks, knowing that the U.S. economy is growing at 2% a year, or go cavorting off to join the fast company in China or India or Brazil?

Yes, indeedy, the really big asset bubbles that the U.S. Federal Reserve may be creating now aren't at home but overseas -- in the stock markets of Indonesia, in the real-estate markets of India, in commodity prices in Australia. Everywhere the flood of dollars created by the Fed might wash up.

And because many of these asset markets aren't anywhere near as liquid as those in developed economies, $2.3 trillion can create a huge problem. India is thinking of slapping on currency controls, because so far in 2010, the country has seen a record inflow of $25 billion in overseas cash as stock funds buy Indian equities.
Twenty-five billion dollars is a problem? When the Fed is talking about $2.3 trillion?

Part of the reason that overseas central banks are squawking is that it's unclear what they can do about the problem. The flood of dollars is creating dangerous inflation -- India's annual rate was reported at 8.5% in September -- so the Reserve Bank of India raises interest rates to slow the Indian economy? Besides the hardship that visits on the poor of India who need the jobs that faster economic growth provides, raising interest rates just makes that country a more attractive destination for all those dollars looking for a home.
The nightmare, of course, is that those dollars flow out as quickly as they flowed in. That's exactly what happened in the Asian currency crisis of 1997. Most of the world's developing economies are in better shape and less dependent on external cash flows than in 1997, but these economies certainly aren't immune to disruption.

And even if they don't go the way of Thailand in the 1997 crisis, a huge outflow of hot dollars would send asset prices plunging, with who knows what effects on national financial systems and capital markets. Look what the mortgage crisis did to Lehman Brothers. (Remember it?) The mortgage crisis caused what were comparatively liquid and large markets to freeze tight. Financial and nonfinancial companies couldn't raise even overnight operating capital.

No wonder Brazil's finance minister, Guido Mantega, said with resigned anger: "Everybody wants the U.S. economy to recover, but it does no good at all to just throw dollars from a helicopter. You have to combine that with fiscal policy. You have to stimulate consumption."

Fiscal policy? From a U.S. Congress? I wouldn't hold my breath. Congress punted on fiscal policy decades ago. Even the Clinton administration's vaunted (and real) budget surplus was achieved by a deal between the secretary of the Treasury and the chairman of the Federal Reserve. If the politicians in Washington were capable of conducting fiscal policy, the Federal Reserve wouldn't be implementing policies like quantitative easing. Ben Bernanke and company know exactly how dangerous this course is. But what's the choice?

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Jim Jubak has been writing Jubak's Journal and tracking the performance of his market-beating Jubak's Picks portfolio since 1997 on MSN Money. He is the author of the 2008 book "The Jubak Picks" and the writer of the Jubak Picks blog. He's also the senior markets editor at MoneyShow.com.

http://articles.moneycentral.msn.com/Investing/JubaksJournal/oops-has-the-fed-done-it-again.aspx

Saturday 6 November 2010

It's Time to Take Some Profits

GETTING GOING
OCTOBER 17, 2010

The stock market has had a heady few weeks. The Dow Jones Industrial Average has mustered above 11000 for the first time since April -- and it has managed to stay there through the early part of the third-quarter earnings season.
[sun1017gg]Sean Kelly
But the swift rise of the market -- the Dow is up about 10% from its Aug. 31 close -- comes against a backdrop of somewhat unsettling news. The jobless rate remains stuck just below 10% with little respite in sight. The housing market is still very weak, and is enduring further shocks as lenders' foreclosure problems keep getting worse. The political situation seems a bit chaotic. And the global recovery is uneven enough that the Federal Reserve is thinking of yet more extraordinary measures to get things rolling.
Even with those headwinds, the mood among stock investors as we near the end of October is surprisingly upbeat. Third-quarter earnings are coming in better than expected and optimism about the Fed's latest extraordinary plan -- quantitative easing part two, or QE2 -- is rampant in the stock market. We entered the dreaded September-October period in fear; we are leaving it with bliss breaking out.
Such sudden shifts in sentiment, especially with uncertainty on the rise, makes me a little queasy. Given the widespread gains, it might make sense to examine your portfolio now with an eye toward rebalancing, rather than wait for the end of the year. In so doing, you may want to pare back some of the bigger winners and salt away the gains for the coming year.
Here's where things get interesting. The big winners this year have come from several corners, and not just in the stock market. In the U.S., small-cap stocks have outperformed bigger stocks, with various small-cap indexes up 10% to 14% year-to-date. Outside the U.S., emerging markets, especially in Asia, have recorded robust gains. In other words, riskier stock investments seem to have done better than the safer, blue-chip shares.
Away from stocks, other assets also have had decent years. The Barclays Capital U.S. Government Bond index is up 9.4% year-to-date. The Barclays Capital U.S. Aggregate Bond Index is up 8.6% this year. Gold is up about 30%; oil has gained 10%; and food commodities have done well. The Dow Jones-UBS Commodity Index is at a 52-week high. The dollar had a great start to the year, but it has retreated and is down sharply against the yen and up a smidge against the euro.
The one asset class that hasn't done very well this year is cash. Interest rates for cash deposits are extremely low, reflecting the Fed's policy of record-low short-term interest rates. So, in the spirit of rebalancing, where we take from winners and add to the laggards, any portfolio trimming should get parked in cash. It feels terrible to park money in cash at these rates, but there's always something comforting about capital preservation.
In analyzing which winners to winnow, bonds have had a strong run for several years. Some believe that the bond market could be facing bubble-like trouble. Earlier this month, Mexico sold a 100-year bond with a yield of 6%, a highly unusual move that fed talk of a bubble. And corporations have gotten rock-bottom yields, too, with International Business Machines recently selling three-year bonds with a yield of 1%. All of these unusually low yields in the bond market have amplified the bubble chatter. If you've got an outsized bond position, trimming some winnings before year-end makes sense.
In the stock market, blue-chip stocks have underperformed. High-dividend-paying blue chips have grown in popularity recently, but these stocks have still trailed riskier sectors such as small caps, real-estate, transportation and Internet shares. Winnings here should be trimmed probably in the small-cap and real-estate areas first, with an eye toward maintaining (or even adding to) blue-chip positions.
Commodities, which should be less than 10% of your total portfolio, have had yet another good year. I've written critically about gold from $1,000 an ounce to $1,300 an ounce. Nothing like being wrong. Despite the gains, it's hard to see gold going lower when the euro, dollar and yen all want to be weaker.
If commodities have risen above 10% of your total portfolio, you should consider reducing the biggest gainers, which probably would include gold. But given the strong year for stocks and bonds, your commodity position may not require any slimming.
The main reason to rebalance is to keep your overall long-term strategy in place. Usually this means something simple, such as selling highflying bonds and adding to underperforming stocks. But so far this year, a lot of asset classes have done well, making the rebalancing exercise somewhat thornier.
But we live in somewhat thornier times. The Fed is preparing for QE2, which means it will essentially print more money, and central bankers are talking about a desire for more inflation. These are two things that would've been very difficult to imagine just three or four years ago. And they also are a bit contradictory.
Given the still extraordinary nature of our times, banking some winners might make the holiday season that much more enjoyable.
http://online.wsj.com/article/SB10001424052702304898004575556753777592096.html
Related:

The Anxiety of Selling

Taking Profit and Reducing Serious Loss

It's Time to Take Some Profits