How Much Stimulus Will Be Done by China, the EU and UK?

The 'Helicopter Economics Investing Guide' is meant to help educate people on how to make profitable investing choices in the current economic environment. We have coined this term to describe the current monetary and fiscal policies of the U.S. government, which involve unprecedented money printing. This is the official blog of the New York Investing meetup.

Much weaker than expected trade data out of China on Friday indicates more economic stimulus will be forthcoming there soon.  Even bigger stimulus is expected from the ECB as it revs up the printing presses to bail out Spain and Italy (unless Germany stops it of course). According to a recent released report, the recessionary economy in the UK may need massive doses of quantitative easing to recover.

Exports in China rose by only 1% year over year in July and this was well below forecasts of an increase of 8.6%. Imports were up 4.7%. For a country that has an export-based economy like China does, this is a serious problem. Like the U.S., Europe and Japan, China engaged in a massive amount of stimulus during the Credit Crisis in 2008/2009, spending $586 billion or 14 percent of its GDP in addition to cutting interest rates and lowering banking reserves.  This led to a big expansion of local government debt, a major housing bubble that has yet to burst and consumer inflation. Apparently, there are unfortunate side effects when governments apply a lot of economic stimulus (notice you rarely read about them in the mainstream media).
This time around, China has already cut interest rates twice and reserve requirement ratios for banks three times since November. Its economy has slowed for the last six quarters and probably by much more than official figures indicate (China's economic numbers should be taken with a grain of salt).
China is still in spectacular shape though compared to Japan, which had a massive trade deficit in the first half of 2012. Japan has been economically troubled for 22 years and despite zero percent interest rates and an unending number of stimulus measures its economy remains in the doldrums. While all the stimulus hasn't solved Japan's economic problems, it has led to a debt to GDP ratio of over 200% (worse than Greece's).
One reason China's exports are doing so poorly is the weakening economy in Europe. On Thursday, the ECB cut its growth forecasts and is now predicting the eurozone economy will contract by 0.3% in 2012.  They are still hopeful of slight growth in 2013 however. Maybe they think it will come from all the money they plan on printing to bail out Spain and Italy. The Eurozone is basically tapped out from all the bailouts it has already done in Greece, Portugal, and Ireland (Cyprus and banks in Spain are now on the list as well). Greece needs a third bailout and is struggling to make it through the month until it receives its next welfare payment in September. The situation there is potentially explosive. The IMF has stated Ireland will need another bailout by next spring.
When ECB President Draghi said on July 9th that the central bank will take any measures within its mandate to save the euro, the inevitable conclusion was that he was willing to engage in massive money printing. The amount of money needed for the huge bailouts that Spain and Italy would require simply doesn't exist so it has to be created out of thin air. The Draghi proposal is for the ECB to buy bonds, but the ECB has already tried buying bonds under the SMP program.  The moment the buying stopped, interest rates shot right back up. This approach is costly and only effective in the very short term — a typical government program. It won't prevent the Eurozone's failure, it will merely delay it and make it worse when it happens.
The UK is not part of the Eurozone, but its economy is also contracting. Citigroup economists have stated that the UK will need to print an additional £500 billion and lower interest rates to 0.25% to prevent continued stagnation. Apparently, they don't think there are serious risks if this approach is taken. Neither did the Weimar Germans in the early 1920s, the Zimbabweans in the 2000s, the Chinese in the 1940s, the Brazilians for most of the 20th century, the Yugoslavians in the 1990s or the Hungarians in 1946. In fact, countries that create hyperinflation always claim the risks of money printing are minimal before it takes place. And there are usually a large number of top economists that support this view.  

There are serious structural problems in the major economies today. The usual Keynesian quick fixes that have been applied since World War II no longer seem to work, nor will they. These have led to a world drowning in debt and all debtors eventually reach their borrowing limit. When this happens with countries, they then try to print their way to prosperity. History makes it quite clear that this doesn't work either. 

Disclosure: None

Daryl Montgomery
Author: "Inflation Investing - A Guide for the 2010s"
Organizer, New York Investing meetup
http://investing.meetup.com/21

This posting is editorial opinion. There is no intention to endorse the purchase or sale of any security.

The Risks to the Global Financial System in 2012

The 'Helicopter Economics Investing Guide' is meant to help educate people on how to make profitable investing choices in the current economic environment. We have coined this term to describe the current monetary and fiscal policies of the U.S. government, which involve unprecedented money printing. This is the official blog of the New York Investing meetup.   
As 2012 begins, markets are rallying as they did at the beginning of 2011 -- a year when the S&P 500 closed flat after many huge moves up and down. The problems in Europe that rattled markets in 2011 have not been resolved and new problems are or will be emerging in China and Japan. At the very least, investors should expect another rocky ride in the upcoming year.

The debt crisis in the EU is far from over. It is simply being momentarily contained by another short-term solution that will hold things together for a while until the crisis erupts again. The mid-December LTRO (long term purchase operations) announced by the ECB excited the markets as any money-printing scheme would. This new "solution" to the debt crisis is essentially an attempt to handle a problem of too much debt with more debt. Already close-to-insolvent EU banks are able to hold fewer assets for collateral in exchange for cheap funding from the ECB, which can in turn be used to buy questionable sovereign debt from the PIIGS. While this will keep Italy, Spain, Portugal and Ireland financially afloat for a longer period of time, it may collapse troubled EU banks sooner (the real epicenter of the debt crisis). 

Half way across the globe, problems are emerging in China. It is estimated that there are between 10 and 65 million empty housing units in the country that investors have purchased with the hope of selling at higher prices. There are in fact entire "ghost districts" there that are filled with new buildings and no residents. Prices have become so high that by last spring the typical Beijing resident would have to have worked 36 years to pay for an average-priced home. The pressure appears to be coming off though with new home prices dropping 35% in November. Beijing builders still have 22 months of unsold inventory and Shanghai builders 21 months. In the peripheral areas, existing home sales have plummeted -- down 50% year on year in Shenzhen, 57% in Tianjin, and 79% in Changsha. Investors should take note that the Chinese real estate bubble is far worse than the U.S. one that brought the global financial system to its knees at the end of 2008.

Twenty years ago, Japan had a massive real estate bubble and it is possible that prices have finally bottomed there, but that doesn't mean that they are ready to go up. Japan has had two decades of economic stagnation (and is heading toward a third, if it is lucky) because of the collapse of its real estate and stock market bubbles. Massive borrowing by the government has prevented the situation from getting worse. The debt to GDP ratio in Japan is now estimated to be 229% (well above the just over 100% in the U.S.).  More people are leaving the workforce there than entering it and this bodes ill for tax receipts. The aging population is using up its savings instead of adding to them. This is a potentially serious problem because the massive debt the Japanese government has incurred has been funded mostly internally by the savings of the Japanese people. A lot of old debt has to be rolled over in 2012 and additional debt is still being incurred. Where the money will come from is not clear.

None of the problems that could strain the global financial system originated in 2011. They have been building up for years and even decades. The first major blow up was the Credit Crisis in 2008. In every case, that problem was "solved" by more debt and money printing. This approach has of course only postponed the inevitable since taking on more debt only creates a bigger debt problem down the road and you can't create something of value out of thin air by printing money (although you will ultimately create a lot of inflation). The markets have already spent most of 2011 in an unstable state. It looks like continuing and even bigger crises await investors in 2012.
Disclosure: None
Daryl Montgomery
Author: "Inflation Investing - A Guide for the 2010s"
Organizer, New York Investing meetup
http://investing.meetup.com/21

This posting is editorial opinion. There is no intention to endorse the purchase or sale of any security

Manufacturing Goes Flat Throughout the World

 

The 'Helicopter Economics Investing Guide' is meant to help educate people on how to make profitable investing choices in the current economic environment. We have coined this term to describe the current monetary and fiscal policies of the U.S. government, which involve unprecedented money printing. This is the official blog of the New York Investing meetup.

Purchasing manager surveys in a number of countries indicate that the manufacturing sector of the global economy has stalled. Recent readings in Europe, North America, and Asia are either slightly above or slightly below 50, the dividing point between expansion and contraction.

The U.S. ISM survey released on September 1st came in at 50.6, down 0.3 from July. While the number was still clinging to positive territory after 25 months, key components such as New Orders, Production, and Backlog of Orders were in contraction mode. Backlog of Orders was the lowest at 46.0. The highest component, as has been the case throughout the expansion, was Prices -- a measure of inflation.  While this reached an astronomical 82.0 just six months ago in February, it was a relatively tame 55.5 in August.  Not only is the manufacturing index not adjusted for inflation, but higher inflation makes it look better and this has been the case during the entire expansion.  

While manufacturing was still just barely expanding in the U.S., it was slightly contracting in Europe. The August Purchasing Managers Index for the 17-nation eurozone came in at 49.0, down from 50.4 in July.  Germany, the Netherlands and Austria had readings still above the neutral 50 level, while France, Greece, Ireland, Italy, and Spain were just below. The UK, not part of the eurozone, also had a PMI reading of 49.0 in August. This was down from 49.4 in July and was at a 26-month low.

China was either in expansion or in contraction depending on which survey you believe. The official survey produced by the Chinese government had a reading of 50.9, while an independent survey less subject to bias came in at 49.9. In both cases, the numbers are around the no growth level.

If only one region of the world had weakened manufacturing activity, it might not be meaningful. However, when it exists on three continents in major production centers, it is impossible to ignore. There has been an approximate two-year period of expansion fed by various stimulus measures, massive budget deficits, quantitative easing, and rock-bottom interest rates. While the low interest rates are still with us, the stimulus measures have waned and there are now minimal attempts to reign in deficit spending from its outsized levels. Even though there is still a lot of government support for the economy, this still doesn't seem to be enough for manufacturing to grow. 


Disclosure: None

Daryl Montgomery
Author: "Inflation Investing - A Guide for the 2010s"
Organizer, New York Investing meetup
http://investing.meetup.com/21

This posting is editorial opinion. Like all other postings for this blog, there is no intention to endorse the purchase or sale of any security.

Quantitative Easing Has Sent the Dollar Into Free Fall

The 'Helicopter Economics Investing Guide' is meant to help educate people on how to make profitable investing choices in the current economic environment. We have coined this term to describe the current monetary and fiscal policies of the U.S. government, which involve unprecedented money printing. This is the official blog of the New York Investing meetup.


The U.S. dollar has been in free fall since the beginning of September. The Federal Reserve acting in concert with the ECB (European Central Bank) is behind the action. Most other countries are seeing rising currencies and this is going to hurt their economies and the American economy as well.

It's become a running joke globally that the U.S. follows a strong dollar policy because the evidence so blatantly contradicts this claim. Things have gotten even worse lately with the dollar-trashing activities of the Fed going into hyper drive in time for the November election.  The trade-weighted dollar (DXY) lost approximately 6% of its value in September alone. It is not coincidental that the Dow Jones Industrials went up more than 10% during the month or that gold hit one all-time high after another. Stock markets rise when a currency is being devalued. All commodities are priced in U.S. dollars, so all else being equal; a commodity's price has to go up when the dollar falls. Rising commodity prices under such circumstances do not indicate a robust economy, they indicate inflation.

A cheap currency is indeed a plus for a major exporter. Currently China is the prime example globally of a economy that benefits a great deal from a currency with a low value. The Chinese yuan (CYB) doesn't really float, it can only have a small change in value during any given time period, so it can remain underpriced. The EU has now joined the U.S. in demanding China let the yuan have a more realistic value. China denies it is manipulating its currency however. If this is the case, it should just let it float freely on world currency markets and the value would remain approximately the same. For some reason, China is reluctant to do this.

Unlike exporters, major importers like the U.S. do not benefit from declining currencies. For more than four decades, the U.S. has followed policies that have destroyed its industrial base. The private commercial sector is now 20% manufacturing and 80% services. A weaker dollar will give more business to the manufacturing 20%, while hurting the service sector's 80% with more inflation. It won't solve the U.S. unemployment problem. At the same time it will damage the economies of exporters by raising their costs for commodities and the prices of their goods. All in all, it's a lose/lose situation.

The Federal Reserve's new quantitative easing program, first announced in August, is what is undermining the dollar and wreaking havoc in global currency markets. The euro (FXE) has recovered to the 1.40 area, but this is also due to the almost $1 trillion Euro-TARP bailout of the EU currency. The Japanese yen keeps rising and hit another multi-year high today. The Japanese monetary authorities have intervened in the currency markets to stop the yen from climbing, but to no avail. The Swiss franc (FXF) broke above parity with the dollar in August. The Australian dollar (FXA) is about to follow the Swiss franc's lead. The Brazilian currency (BZF), one of the weakest on earth for much of the twentieth century, is beating the stuffing out of the U.S. dollar.    

The big drop in the dollar is not likely to continue much longer (although the charts indicate there could be another leg down). It is already causing destabilization in world markets and could lead to another global financial crisis if it does. If Fed Chair Bernanke continues with his enthusiasm for quantitative easing though, the dollar could hit an air pocket and wind up much lower overnight. While the Fed's interest in quantitative easing will probably cool suddenly after the election, it may continue to play its dangerous game of chicken with the dollar until then.

Disclosure: No positions.

Daryl Montgomery
Organizer, New York Investing meetup
http://investing.meetup.com/21

This posting is editorial opinion. There is no intention to endorse the purchase or sale of any security.

Quantitative Easing Means Foreigners Will Dump Treasuries

The 'Helicopter Economics Investing Guide' is meant to help educate people on how to make profitable investing choices in the current economic environment. We have coined this term to describe the current monetary and fiscal policies of the U.S. government, which involve unprecedented money printing. This is the official blog of the New York Investing meetup.


Stocks and gold rallied strongly yesterday on the news that Japan is doing more quantitative easing and remarks from Fed Chair Ben Bernanke that more quantitative easing (also known as money printing) would be good for the U.S. economy. The major, and possibly disastrous, downside risks were not mentioned in mainstream media reports.

Quantitative easing has been tried many times before in Japan. It has failed to produce any lasting results, which is why it needs to be done again. The Fed has already engaged in quantitative easing during the Credit Crisis (frequently referred to as QE1) and is also doing it again because it didn't have any lasting results. Moreover, it isn't clear that any positive results took place at all because of QE1. The Fed claims it was a great success, but hasn't offered any proof to support its contention. There is certainly proof that it didn't work. Exhibit one is the much higher unemployment rate that we currently have. Just the need to do quantitative easing again is in and of itself proof that this was a failed policy.

While the advantages of quantitative easing are dubious, the risks can be horrendous. The biggest danger is for a country with a massive debt held outside that country (this describes the United States, but not Japan) Printing money is inflationary. It devalues the currency of the country doing it. The trade-weighted dollar did indeed have a big sell off on the news. Inflation-sensitive gold hit another all-time high. Quantitative easing will encourage large foreign holders to sell U.S. debt and to not make purchases in the future, except for TIPS (treasury inflation protected securities). Even TIPS will ultimately be shunned because they reflect the understated official U.S. government inflation rate. Without this source of foreign capital, the U.S. cannot fund its budget deficit or its trade deficit. This would send the economy into a severe contraction. The only way to avoid that would be to print even more money...and then more money ....and then more money. Without the money printing, the U.S. economy would enter a severe depression. With money printing, the risk is hyperinflation.

The biggest foreign holders of U.S. treasuries are China, Japan, the UK, the Oil Exporters, Brazil, the Caribbean Banking Centers (off-shore money havens used to hide the parties involved in financial transactions), Hong Kong, Russia, Taiwan, Switzerland and Canada. Why would these countries continue holding U.S. government bonds if they know they are going to be paid back in devalued currency? Why will these countries want to buy more bonds in the future? According to TIC (Treasury International Capital) data, China held $939.9 billion in U.S. treasuries in July 2009. In July 2010, it held only $846.7 billion. It is also known that China has been selling long-dated paper and moving into the short end of the yield curve. Other countries would want to do the same in response to quantitative easing. This may be why yields on the two-year note keep hitting all-time lows.

The impact of the first round of U.S. quantitative easing shows up even more clearly in the amount of treasuries held by the Fed. At the end of the first quarter, the Fed held $5.259 trillion in U.S. government bonds - more than five times the amount of China, the largest foreign holder. The nightmare scenario of the U.S. having to print money to buy its own government bonds because it can no longer borrow enough money from foreign sources to fund its government operations has clearly already taken place. That the Fed is now doing more quantitative easing indicates a self reinforcing inflationary cycle is underway. Investors should act accordingly.

Disclosure: No positions.

Daryl Montgomery
Organizer, New York Investing meetup
http://investing.meetup.com/21

This posting is editorial opinion. There is no intention to endorse the purchase or sale of any security.

Japan's Economy Shows Limits of Keynesian Policies

The 'Helicopter Economics Investing Guide' is meant to help educate people on how to make profitable investing choices in the current economic environment. We have coined this term to describe the current monetary and fiscal policies of the U.S. government, which involve unprecedented money printing. This is the official blog of the New York Investing meetup.


Second quarter GDP figures show that the Japanese economy has fallen behind China's and is now only the third largest in the world. Japan has engaged in 20 years of massive government stimulus programs and kept interest rates low, but this has failed to reignite GDP growth. Instead, its economy continues to slowly sink.

In the 1980s, Japan was an unstoppable economic juggernaut that everyone feared. It all ended when a spectacular stock market and real estate bubble blew up in the early 1990s. These bubbles were the ultimate outcome of excessive stimulus over many decades. Initially, that stimulus acted to revive the Japanese economy from the ruins of World War II. In the end, huge asset bubbles resulted. These collapsed throughout the 1990s and the first decade of the 2000s. One government stimulus program after another during that time only had temporary impact on the economy. As soon as the stimulus ended, economic growth disappeared. The U.S. is currently finding itself in the same situation.

A continual backdrop of close to zero short-term interest rates, known as ZIRP - zero interest rates policy - also did not revive the economy. Japanese government longer-term bond interest rates also collapsed, with the 10-year rate falling below 0.5% at one point. Extremely low government bond rates indicate too much liquidity exists in an economy and the government is getting too big a share of it. Businesses can be starved for capital under such circumstances and this in turn limits economic growth instead of stimulating it. This same pattern is emerging in the United States right now. The two-year bond interest rate has been at record lows for weeks. Rates fell to 0.48% this morning. The lowest rate during the Credit Crisis was 0.60%.

Keynesian economics became the almost universal approach for economic policy in the developed economies after World War II.  Keynes recommended initiatives, stimulus during a downturn and paying off the stimulus debt during the recovery, got horribly mangled to more and more stimulus during a downturn and somewhat less stimulus during a recovery. This is essentially an ongoing money-printing scam. Like many scams, it works well as long as it doesn't get out of control. Eventually though some huge crisis becomes inevitable after decades of excessive stimulus and the economy falls apart. Stimulus no longer works then. After two decades, the Japanese have failed to realize this. The economic establishment in the U.S. is equally oblivious.

China is only in the early stages of the stimulus manipulation of its economy and is now the world's current economic powerhouse. It surpassed the UK (the world's largest economy until the U.S knocked it out of the box around 1880) in 2005, Germany in 2007, and now Japan in 2010. Media reports in 2009, estimated that China would overtake Japan in 2012 or 2013.  Time seems to be speeding up. The Washington Post also predicted last year that China could overtake the U.S. as early as 2027, which was much sooner than other predictions, which are as late as 2040. Even 2027 might prove to be optimistic however.

Disclosure: No positions.

Daryl Montgomery
Organizer, New York Investing meetup
http://investing.meetup.com/21

This posting is editorial opinion. Like all other postings for this blog, there is no intention to endorse the purchase or sale of any security.

The Curious Case of Copper and Its Compatriots

The 'Helicopter Economics Investing Guide' is meant to help educate people on how to make profitable investing choices in the current economic environment. We have coined this term to describe the current monetary and fiscal policies of the U.S. government, which involve unprecedented money printing. This is the official blog of the New York Investing meetup.


While traders are scratching their heads about how the stock market can continue to go up while the economic news continues to get worse, they also should be puzzled over the sharp rise in copper and other industrial metals in recent weeks. These metals move with building and manufacturing activity and a rise in their prices is not just an indication of an improving economy, but is also an indication of inflation - not the deflation that the Fed and its friends have been worrying about lately.

The base metals, copper, aluminum, nickel, zinc and lead, all bottomed in early June. They mounted lackluster rallies into the middle of July. Their rallies went into overdrive after Fed Chair Bernanke testified before congress that it might be years before the U.S. economy fully recovers. Stocks also mounted a significant rally on this gloomy news, which followed a host of economic reports with falling numbers that came in below expectations. Leading indicators had also turned down and were pointing toward an impending recession. Stocks and industrial metals should have tanked, but instead rallied strongly on the news. Only a lot of liquidity flowing into the financial system at that point could make something like this happen.

When trying to analyze the metals markets, the first place to look is China, the primary driver of demand. In June, China imported 212,000 metric tons (tonnes) of copper, 67,000 tonnes less than in May and a drop of 44% year over year. Moreover, projections came out for Chinese demand growth to ease for the industrial metals in the second half of the year. Then the HSBC Purchasing Managers Index for July came in below 50, indicating a decline in Chinese manufacturing. So far, none of this news has stopped the rally.

So if the news from China is bearish, the next place to look is the U.S. dollar. All commodities are priced in dollars and are affected by swings in the currency. The U.S. dollar peaked in early June at the same time that the industrial commodities bottomed. It has since lost about 10% of its value. However, much of this loss took place before Bernanke's congressional testimony and much of the base metal rally took place after. The metals rally has also been too big to be accounted for by the drop in the dollar alone. From the June low to the high of August 4th, Copper (JJC) rose 25%, Nickel (JJN) 24%, Aluminum (JJU) 23% and Lead (LD) 46%.

So we are left with a picture of strongly rallying stocks, even more strongly rallying industrial metals and lots of evidence of an economy falling apart. Has this situation ever existed before?  Indeed it has plenty of times in world financial history. This is what happens when there's massive inflation. It ruins the economy, but makes the prices of assets go up because people want to get rid of their currency. Yet the economic elites are currently worried about deflation and not inflation. Well, that's also happened before as well. In 1920s Weimar Germany, economists even managed to prove definitively that deflation existed and that inflation was not a worry, so it was OK for the government to print all the money it wanted to. Of course, after inflation reached a trillion percent, many people became skeptical.

Disclosure: No Positions

Daryl Montgomery
Organizer, New York Investing meetup
http://investing.meetup.com/21

This posting is editorial opinion. Like all other postings for this blog, there is no intention to endorse the purchase or sale of any security.

A Tale of 3 PMIs: China, the EU, and U.S.

The 'Helicopter Economics Investing Guide' is meant to help educate people on how to make profitable investing choices in the current economic environment. We have coined this term to describe the current monetary and fiscal policies of the U.S. government, which involve unprecedented money printing. This is the official blog of the New York Investing meetup.


Stock markets in Europe, Asia and the U.S. rallied strongly on August 1st even though reports from purchasing managers in China, the EU and the U.S. did not bode well for future economic activity.

In China, the HSBC PMI (purchasing managers index) for July was 49.4. This indicates Chinese manufacturing contracted last month (50 is the dividing point between expansion and contraction for all the PMI indices). The official Chinese government report though came in at 51.2, indicating a slight expansion was still taking place. China is the growth engine of the world economy and a downturn there has negative implications far and wide. Mainstream media tried to put a positive spin on the news by saying the Chinese government wanted to slow the Chinese economy down, so a drop in manufacturing activity is good news. What the government actually wanted to do was slow down the property bubble created by their massive stimulus program during the Credit Crisis. They did not wish to slow down activity related to exports, which is their bread and butter. That seems to be an unfortunate side effect of their actions however.

While the news out of China was unabashedly bad, traders in the EU were ebullient that the EU purchasing managers July number was revised up to 56.7 from a previous estimate of 56.5. This change is statistically meaningless. Based on the data available, it also looks like Germany was almost single-handedly responsible for the good number. Exports were the key. The big drop in the euro to 1.18 in early June (from around 1.50 late last year) would certainly have boosted exports from the EU since it made their goods much cheaper - and Germany's economy is export based. However, the report also indicated that export orders are slowing (as the euro rises) and new orders are well below this year's peak. The service providers in the report also had the most negative outlook for future activity in eight months.

The U.S. PMI was 55.5 for July, down from 56.2 in June. Of the components in the index, New Orders were down the most, dropping 5.0. The second biggest decline was in Production, which fell 4.4. The Backlog of Orders category was also lower by 2.5. All of these are indicators of future activity. The biggest increase in the report was Inventories, which were up 4.4. Looks like goods are being produced, but are piling up in the warehouse. Together, these components all seem to indicate that U.S. manufacturing will be slowing down later this year.

Manufacturing was the big success story of the stimulus spending that started during the Credit Crisis. This had a greater impact in China than in the Western economies because manufacturing is a greater component of their economy. In the U.S., the service sector is four times bigger than the manufacturing sector, so a buoyant manufacturing sector is not enough by itself to create a strong recovery. This is one reason the American economy remains lackluster despite $3 trillion in budget deficit spending in the last two years. Stimulus spending though will be declining in the U.S. and in the EU into the foreseeable future. We are already seeing what impact that will have based on the PMI reports coming out of China.

Disclosure: No positions.

Daryl Montgomery
Organizer, New York Investing meetup
http://investing.meetup.com/21

This posting is editorial opinion. Like all other postings for this blog, there is no intention to endorse the purchase or sale of any security.

8 More Reasons Why a Double-Dip is Coming

The 'Helicopter Economics Investing Guide' is meant to help educate people on how to make profitable investing choices in the current economic environment. We have coined this term to describe the current monetary and fiscal policies of the U.S. government, which involve unprecedented money printing. This is the official blog of the New York Investing meetup.


As earnings season continues and one company after another beats expectations, the economic numbers are continuing to come in below estimates. The data and indicators are increasingly painting a picture of an economy that is falling apart. Here are a few of the reasons why another recession is imminent:

1. U.S. orders for durable goods fell 1.0% in June. Economists expected them to rise 1.0%.  Excluding the volatile transportation sector, orders fell 0.6% and shipments were down 1.3%. Inventories rose for the sixth month in a row, indicating goods are being produced, but they're not moving out the door.

2. Industrial output in China fell 2.8% in June. A "potential weakening of the global economy" was cited as the cause.

3. The ECRI (Economic Cycle Research Institute) weekly leading indicators index has fallen as low as minus 10.5. There has never been a case when it has gotten this low and there hasn't been a recession.

4. The Consumer Metrics Institute's Growth Index has been negative since January and is now around minus 3.0 (it fell to around minus 6.0 in August 2008). It leads U.S. GDP by approximately two quarters.

5. The U.S. trade deficit widened in May and was the largest in 18 months. This happened even though oil imports fell over 9%. Rising oil imports are usually the factor that makes the trade deficit go up. The trade deficit subtracts from GDP.

6. After a sharp drop in June, U.S. consumer confidence fell even more in July. The Conference Board's latest reading was 50.4. As usual, economist's estimates were on the high side. A reading of 90 or above indicates a robust economy. Before the most recent recession, consumer spending was 72% of GDP.

7. U.S. weekly unemployment claims refuse to drop below 400,000, the approximate dividing line between recession and non-recession. At no point during the current 'recovery' have they gotten that low. The unadjusted number of claims for the week of July 17th was 498,000. Even though companies are reporting huge earnings increases and raising estimates for next quarter, more and more workers continue to lose their jobs.

8. The economic cheerleader-in-chief, Fed Chair Ben Bernanke, gave a gloomy report on the U.S. economy last week in his bi-annual testimony before congress. Bernanke didn't see the subprime crisis coming, nor did he realize the U.S. was in a recession in the spring of 2008, months after the recession had begun. So if even he admits the economy is weak, it must really be in bad shape. Bank of England Governor Mervyn King, has also recently stated, "Britain can't be confident that a sustained recovery is under way".

Disclosure: No positions.

Daryl Montgomery
Organizer, New York Investing meetup
http://investing.meetup.com/21

This posting is editorial opinion. Like all other postings for this blog, there is no intention to endorse the purchase or sale of any security.

What the Bear Market in Chinese Stocks is Telling Us

The 'Helicopter Economics Investing Guide' is meant to help educate people on how to make profitable investing choices in the current economic environment. We have coined this term to describe the current monetary and fiscal policies of the U.S. government, which involve unprecedented money printing. This is the official blog of the New York Investing meetup.


China has been the economic engine powering the global recovery, but the engine may be sputtering based on the behavior of Chinese stocks. The Shanghai Composite has been trading in bear market territory since May 6th.

Unlike the U.S., UK and EU, which have service based economies, China's economy is heavily industrial. What takes place in China provides important information about the state of the global manufacturing. Activity in China is a key driver of the markets for industrial metals, materials, and energy. It was just announced in the media that China has become the largest consumer of energy commodities globally; pulling ahead of the United States, but the Chinese government has denied it.

Since the major Western economies and the Chinese economy have different compositions, it is reasonable to assume that their stock markets could trade in different patterns. The bull market peaks came at about the same time however. The Shanghai market hit a bottom around 1000 in mid-2005 and entered a bubble pattern in 2006, which continued until a high of 6036 was reached on October 17, 2007. As the bubble burst, Chinese stocks fell 72% until the market reached 1707 on November 4, 2008.  Unlike U.S. stocks, which continued to fall until they reached their bottom in early March 2009, the Shanghai composite then began to rally. The prices for metals, materials, and the companies that produce them tended to follow the Chinese market and not Western markets - investors should keep this in mind for future reference. Oil didn't bottom until mid-February 2009 though.

Not only did the Shanghai Composite hit its low four months earlier than the U.S. market, its high from the rally that followed took place well before the top in Western stock markets. So far, Chinese stocks topped at 3471 on August 4, 2009. U.S. stocks peaked on April 26, 2010. By the end of August 2009 the Shanghai index was down more than 20% on a closing basis, but only briefly. After some recovery, stocks entered bear market territory again for a few days in the end of September. They then moved up and traded with less than a 20% drop from the August peak for many months until May 6th of this year. Chinese stocks have continued to trade at a bear market loss since that date.

Poor performance of Chinese stocks indicates weakness in the global industrial economy. Most commodities are likely to suffer declines as a result. This has more significance for the U.S. currently than it usually would ordinarily because the industrial sector of the economy has performed best during the recovery. The much bigger service sector has remained fairly anemic despite $3 trillion of federal deficit spending in fiscal years 2009 and 2010. If U.S. manufacturing turns negative, and behavior of Chinese stocks indicates is might, the U.S. economy is likely to follow.

Disclosure: No positions.

Daryl Montgomery
Organizer, New York Investing meetup
http://investing.meetup.com/21

This posting is editorial opinion. Like all other postings for this blog, there is no intention to endorse the purchase or sale of any security.

Market Going Down With the Ship?

The 'Helicopter Economics Investing Guide' is meant to help educate people on how to make profitable investing choices in the current economic environment. We have coined this term to describe the current monetary and fiscal policies of the U.S. government, which involve unprecedented money printing. This is the official blog of the New York Investing meetup.


This morning the Baltic Dry Index, a measure of freight rates for international shipping, was at 1700. It hasn't been at this level since April 2009, only four months after its Credit Crisis low and only one month after the stock market was at its bottom. 

Bloomberg News noted a week ago that the index had dropped continuously for the longest period in nine years. Yes, the current drop in the preceding seven weeks (from a high of 4209 in late May) has been bigger than anything seen during the Credit Crisis. The last drop of this magnitude was in August 2001 in the middle of that years recession. Lack of shipping activity from China, the engine for global economic activity, was cited as the main cause for the falling index. Charter rates for all types of ships tracked in the index are falling.

Prices for dry bulk shipping, which doesn't include energy commodities, tend to be very sensitive to economic activity. A sharp drop in rates indicates a significant drop in global trade. Based on historical charts it looks like the Baltic Index can lead, be coincident or lag movements in economic data and the stock market. The index seems to be most closely correlated with prices of industrial commodities and the industrial sector of the global economy. While this is not the largest component of the U.S. economy (the service sector is four times larger), it is the key sector in developing economies. It was manufacturing though that had the biggest rebound in the U.S. since last year. The service sector has remained lackluster.

The stock market will likely be following the Baltic Index down, although perhaps not with such a precipitous decline. The Index has dropped almost 60% since late May. With the exception of the small cap Russell 2000, none of the major stock indices have had even a 20% drop - at least not yet.

Disclosure: No positions.

Daryl Montgomery
Organizer, New York Investing meetup
http://investing.meetup.com/21

This posting is editorial opinion. Like all other postings for this blog, there is no intention to endorse the purchase or sale of any security.

Nasdaq Gives Bear Market Signal

The 'Helicopter Economics Investing Guide' is meant to help educate people on how to make profitable investing choices in the current economic environment. We have coined this term to describe the current monetary and fiscal policies of the U.S. government, which involve unprecedented money printing. This is the official blog of the New York Investing meetup.


As the mix of good earnings and weak economic reports continue, Nasdaq gave a bear market trading signal on Wednesday. It joined the Dow and S&P 500, which gave their own sell signals earlier this month.

While the technical picture for the market has improved somewhat after seven days of rally, the rally didn't prevent Nasdaq's simple 50-day moving average from falling below its 200-day. The Nasdaq closed at 2249.84, its 50-day fell to 2251.39, and its 200-day was at 2254.88. This means Nasdaq is also at a strong resistance point that it needs to break and stay above. Trading in the next ten days will determine if the Nasdaq continues to fall apart (and the rest of the market with it) or manages to turn around with a rising 50-day average. The recent rally has taken place with below average volume on Nasdaq every single day. The volume on the Dow Industrials was even weaker. From a technical perspective, this is another negative for the market.

Mixed news for the economy and earnings continues. JP Morgan reported a 77% Q2 rise in profits. Mainstream media accounts explained that "a slowdown in losses from failed loans helped offset a difficult spring in trading and investment banking". Huh?  Makes you wonder who does their numbers. Anyone who happens to believe that the big banks earnings reports have anything to do with reality should recall that Bear Stearns in March 2008 was rushing to get its positive first quarter earnings numbers out early, but the company went under before it could release the good news.

Meanwhile, the weekly unemployment claims rose last week, but the Labor Department reported they fell by 29,000. Huh? Makes you wonder who does their numbers. Apparently the magic of seasonal adjustments led to this 'sows ear as silk purse' news. Automakers aren't closing down for their usual summer retooling this year. Based on recent reports, there is no evidence that business in the sector is so good, or even good at all, that they can't afford the down time.

Industrial production figures in the U.S. were up by 0.1% in June. The number was only positive because of a big increase in utility output caused by increased use of air conditioning during the unusually hot month. Consumer goods seem to have been down across the board. As a reminder, consuming spending was 72% of the U.S. economy before the Credit Crisis hit. Business and industrial equipment were up, but it is likely we have exports to China to thank for that. The Chinese economy expanded by 10.3% in the second quarter, but this was below expectations. Even at the bottom of the Credit Crisis Chinese GDP was up over 6%. It was down by almost that amount in the U.S. The economy in China seems to be slowing and if this continues, watch out below.

Disclosure: No positions.

Daryl Montgomery
Organizer, New York Investing meetup
http://investing.meetup.com/21

This posting is editorial opinion. Like all other postings for this blog, there is no intention to endorse the purchase or sale of any security.

Reconciling Bad Economic Data and Good Earnings

The 'Helicopter Economics Investing Guide' is meant to help educate people on how to make profitable investing choices in the current economic environment. We have coined this term to describe the current monetary and fiscal policies of the U.S. government, which involve unprecedented money printing. This is the official blog of the New York Investing meetup.


So far this earnings season, company reports indicate that business is going gangbusters. U.S. economic reports are painting exactly the opposite picture however. This may not be as contradictory as it appears on the surface.

As for earnings, Intel reported record numbers yesterday, after Alcoa upgraded its forecast for global aluminum sales and U.S. railroad company CSX said shipments were up considerably. This morning however U.S. retail sales numbers disappointed again, falling 0.5% in June following a 1.1% drop in May. Mortgages for home purchases fell to a 14-year low. According to the non-farms payroll reports, close to a million people net left the U.S. labor market in May and June because jobs were so scarce that they simply gave up looking.  Later today, the Federal Reserve is expected to lower its expectations for second half U.S. economic growth.

One of the important things to note is that both Intel and Alcoa are global companies. While many people assume that the U.S. is Intel's major market, it isn't. East Asia dominates Intel's sales. Strong Intel numbers generally indicate a robust East Asian economy. Growth has indeed been strong there. Intel's biggest growth sector by far was servers, which were up 170%. These are used for the Internet. Intel also cited cloud computing as a driver of sales. It is possible for a new technology to grow while the economy declines. The best example of this is the growth of radio during the Great Depression 1930s.

As for Alcoa, its projections may prove to be much too bullish. Industrial metals appear weak across the board and this indicates global manufacturing could turn negative in the next few months. CSX's good numbers were dependent on auto shipments. That market in the U.S. peaked in the third quarter of 2009 because of the Cash for Clunkers program. In the June retail sales report, autos were the weakest component.

Investors should not make judgments for the U.S. economy based on figures for global companies, especially when the U.S. is only a minority of their business. The U.S. economy can be much weaker than Asian economies. Asia was in the driver seat pulling the world out of the Credit Crisis recession and the U.S. followed. The U.S. may lead once again though bringing the world into the next recession.

Disclosure: No positions

Daryl Montgomery
Organizer, New York Investing meetup
http://investing.meetup.com/21

This posting is editorial opinion. Like all other postings for this blog, there is no intention to endorse the purchase or sale of any security.

A GDP Canary in the Inflation Coal Mine

The 'Helicopter Economics Investing Guide' is meant to help educate people on how to make profitable investing choices in the current economic environment. We have coined this term to describe the current monetary and fiscal policies of the U.S. government, which involve unprecedented money printing. This is the official blog of the New York Investing meetup.


Singapore recently reported that its 2010 first quarter GDP increased by a whopping 32.1%. While a huge growth rate like this would be OK for an emerging market in its earliest stage of growth, Singapore is already an advanced economy. China, which is behind Singapore on the development curve, saw a GDP expansion of 11.9% in the beginning of this year and inflation is already starting to show up there.

While countries are always trying to increase their GDP growth rates, this is one of those areas where the proverbial 'too much of a good thing' can lead to trouble. There is a desirable band of GDP growth for every economy. Too little is not enough to keep the population employed and happy, too much creates more demand for resources than available supply and this causes inflation. The desirable level of economic growth for the U.S. is generally believed to be around 3% a year. It can be much higher for an emerging market.

Singapore is a trading economy and its current huge growth is an indication of how much Asian trade is picking up. It's first quarter GDP was a record increase. The central bank just began raising interest rates to tighten credit. Singapore also boosted its inflation forecast to the 2.5% to 3.5% level as a result of its GDP numbers. It will indeed be lucky if it can keep its inflation rate that low.

China's consumer prices were up 2.5% in March. China's economy grew by 8.7% in 2009, while the U.S. and EU economies stagnated. China is now arguably the second largest economy in the world and if it hasn't already moved ahead of Japan, it will do so very soon.  Almost half a trillion dollars in stimulus in a $4.9 trillion economy can be credited for maintaining China's spectacular growth rate. Stimulus creates inflation as well as growth though. The growth numbers were all very high for the first quarter. Retail sales were up 19.6%. Fixed asset investment was up 25.6%. Exports were up 29%. China, like most Asian economies has based its economic expansion model on export growth.

Not everyone in the world can be a net exporter however. Someone has to be buying those exported goods and that someone is the United States. The U.S. trade deficit widened by 7.4% in February (this subtracts from U.S. GDP and requires borrowing from foreign sources in order to fund it) and the deficit with China widened. The U.S. trade deficit is going up again because imports are rising faster than exports. The media reported that Wall Street economists were surprised. Apparently having a PhD in economics doesn't mean you can grasp the concept that increased exports from one country lead to increased imports in another. Many of these same economists also say there will be no inflation in the U.S. even though the government is engaged in substantial money printing.

Disclosure: Not relevant.

Daryl Montgomery
Organizer, New York Investing meetup
http://investing.meetup.com/21

This posting is editorial opinion. Like all other postings for this blog, there is no intention to endorse the purchase or sale of any security.

Why China is About to Change Its Currency Policy

The 'Helicopter Economics Investing Guide' is meant to help educate people on how to make profitable investing choices in the current economic environment. We have coined this term to describe the current monetary and fiscal policies of the U.S. government, which involve unprecedented money printing. This is the official blog of the New York Investing meetup.


Reports are out today, April 8th, that China is about to abandon its fixed rate currency policy instituted in July 2008. It is likely to let the renminbi revalue upward a small amount immediately and then trade in a narrow trading band on any give day after that. China took such an approach in 2005. The U.S. has been pressuring China for this change.

The Obama administration had a report that was supposed to be delivered to congress on April 15th on whether or not China was a currency manipulator. This has become an increasingly sore point in U.S. China relations. It was abruptly announced a few days ago that the report would be delayed. Treasury Secretary Geithner has since gone to China and met with officials to get them to be more flexible with the renimbi's exchange rate. The Chinese have remained adamant that their currency isn't undervalued. If that was indeed the case, they should simply let it float freely and everyone would be happy. There is of course zero chance that that is going to happen at this point in time.

Keeping the value of a currency artificially low is a boon for a country's exporters because it makes their goods cheaper. Business and labor interests in the country with the artificially high currency necessarily lose out. This is a good description of Japanese U.S. trade situation in the 1970s and early 1980s. Now China has a huge trade surplus with the United States and has accumulated approximately a trillion dollars in reserves of U.S. currency.  The U.S. gains from China's undervalued currency policy because China recycles the hoard of dollars its gets from its trade surplus by buying U.S. treasuries (Japan did the same thing). This allows the U.S. in turn to run massive budget deficits because it can borrow a lot of money from China. That game may be up however. China was a net seller of treasuries for three months in a row up to this January (the latest month for which figures are available).

Keeping a currency undervalued is not without its risks. One of those major risks is inflation. China has compounded that risk even further by engaging in a massive stimulus program while its currency was frozen. Inflation does seem to be bubbling up internally within the country and even beyond its borders in higher prices for commodities. Chinese buying is the key driver of commodity prices.  China is in fact the epicenter for potential global inflation and this will impact the U.S. despite any moves the Federal Reserve takes to try to dampen rising prices.

In the long-term, China will have to let the renminbi peg to the U.S. dollar, China will still need to maintain stringent capital controls to prevent big moves in its currency if the renminbi is inappropriately valued (many experts claims it would rise 40% if it floated freely).  Economic forces always win in the end and the Chinese leadership will eventually find this out.

ETNs that can be used to take a position in the renminbi are CYB and CNY.

Disclosure: None

NEXT: Currencies React to Ongoing Greek Debt Crisis

Daryl Montgomery
Organizer, New York Investing meetup
http://investing.meetup.com/21

This posting is editorial opinion. Like all other postings for this blog, there is no intention to endorse the purchase or sale of any security.

U.S. Stock Market in the First Quarter of 2010

The 'Helicopter Economics Investing Guide' is meant to help educate people on how to make profitable investing choices in the current economic environment. We have coined this term to describe the current monetary and fiscal policies of the U.S. government, which involve unprecedented money printing. This is the official blog of the New York Investing meetup.


Today is quadruple witching, a once every quarter event that takes place on the third Friday of March, June, September and December. On these dates, contracts for stock index options, stock index futures, stock options and single stock futures all expire. While media reports usually focus on volatility during the expiration date, far more important is the trading that takes place in the proceeding weeks. Prices will tend to move to minimize the value of outstanding options due to hedging, if not for other reasons. A negative outlook in February seems to have led to a nice rally in U.S. stocks during March.

Stocks started the year off with a mildly bullish tone and hit a peak in mid-January. The Nasdaq and Dow Transports hit a high on January 11th, the Dow Jones Industrial Average on January 14th and the S&P 500 and Russell 2000 on January 19th. All the indices sold off into February on news of reductions in liquidity from the U.S. Fed and restrictions on bank lending in China. The moves withdrew very little money from the global financial system however. The world's markets are still awash in liquidity. The U.S. dollar was also rallying during this time and since the stock market rally began in March 2009, the dollar and stocks have tended to move in opposite directions.

Stocks then started rallying off their February lows in a stronger dollar environment. This pattern first became evident recently in December 2009 when the trade-weighted dollar rallied strongly and so did stocks during the month. It would perhaps be more accurate to say the euro experienced significant weakness during these periods because of the crisis in Greece (the euro represents over half of the trade-weighted dollar). December represented a shift in trading patterns for the U.S. dollar and stocks for the current the rally.  Investors should note if the strong-dollar strong-stock pattern continues. While it was common in the 1990s, the opposite has been the case for much of the 2000s.

All the major indices hit new current year price highs recently. The Russell 2000 was the first on March 2nd, followed by the Nasdaq on March 5th, and the S&P 500 on March 12th. The Dow Transports hit a new high on March 10th before the Industrials hit a new high on March 17th. New highs are of course generally bullish.  Small caps have been doing best in the rally. This indicates higher risk tolerance on the part of investors and is also something that happens in inflationary environments. Small caps outperformed during the second half of the high-inflation 1970s following the deep recession of 1973 to 1975.

U.S. stocks can continue to do well as long as liquidity is being pumped into the financial system. Liquidity is the driver of prices and not the economy as the mainstream media constantly reports. Liquidity shows up first in the markets and later on in the economy if everything works according to plan. The Japanese in the 1990s and 2000s found that this Keynesian style plan didn't always work however. If things get too bad because too many excesses have built up in the financial system, the liquidity fix is no longer effective. U.S. investors also need to realize that money has flowed out of Europe and into the U.S. and a resolution of the Greek crisis will cause funds to flow out of the U.S. and back into Europe. Moreover, actions the Chinese take can also impact U.S. stock prices. China raising interest rates would be a negative for U.S. markets. Revaluing its currency upward would also shake things up.

Disclosure: None

NEXT: Who Really Benefits From the U.S. Healthcare Bill

Daryl Montgomery
Organizer, New York Investing meetup
http://investing.meetup.com/21

This posting is editorial opinion. Like all other postings for this blog, there is no intention to endorse the purchase or sale of any security.

Watch What China Does and Not What It Says

The 'Helicopter Economics Investing Guide' is meant to help educate people on how to make profitable investing choices in the current economic environment. We have coined this term to describe the current monetary and fiscal policies of the U.S. government, which involve unprecedented money printing. This is the official blog of the New York Investing meetup.


The Chinese have recently released statements indicating that they are not interested in buying gold and that they plan on remaining "responsible investors" in U.S. treasuries. China is not known for informing the market about what it is actually doing. It instead has a long history of keeping its actions carefully hidden. It would therefore be reasonable for investors to assume that China is buying gold and selling U.S. treasuries.

The case for China doing the opposite of what its official statements indicate goes well beyond mere assumption. When TIC (Treasury International Capital) data was released in November and December, the numbers indicated that China was a net seller of U.S. treasuries. This potentially explosive news got little mainstream media coverage. China also announced in April 2009, that its gold holdings were 76% higher than had been previously reported earlier in the decade. China didn't mention it was buying this extra gold while it was doing so. Don't expect it to announce its gold purchases in the future either.

In its announcement, the director of China's State Administration of Foreign Exchange stated that China is not interested in buying more gold because of its poor returns in the last 30 years. He didn't mention its excellent returns in the last 10 years or even over the last 40 years. A similar argument could have been made to not buy U.S. stocks in 1982 because of their abysmal returns in the previous 16 years. You would have missed out on an 1100% rally in the Dow. This type of argument is meant for the financially naive and unsophisticated.

The director went on to state that China did not want to politicize its trading in U.S. debt and wanted to remain a "responsible investor". It is not clear what charges he was responding to, nor who had made them. There have been attempts to explain away the TIC statistics from November and December by claiming that China was secretly buying U.S. treasuries indirectly through intermediaries in the UK and Hong Kong.  Since this would make China look like it was selling treasuries and potentially devalue its vast treasury hoard, this behavior would make no sense. Furthermore, if you accept that treasury purchases are being funneled clandestinely through intermediaries, it would be far more plausible to assert that the U.S. Federal Reserve has been buying treasuries through Caribbean island off-shore money havens as some bloggers have suggested. The Fed would have good reason to do this in order to hide the extent of its money printing activities.

Investors need to keep the simple rule of 'watch what they do and not what they say' in mind when interpreting the news. Talk is cheap and most governments will say whatever they have to in order to implement their plans.  The mainstream media dutifully reports whatever is said. Unfortunately, they are not very diligent in reporting on what is actually done. That is really the only news that matters and sometimes the only place you can find it is in the blogosphere.

Disclosure: None

NEXT: NovaGold, the Gold Market and the Euro

Daryl Montgomery
Organizer,New York Investing meetup
http://investing.meetup.com/21

This posting is editorial opinion. Like all other postings for this blog, there is no intention to endorse the purchase or sale of any security.

The U.S. Imports Inflation

The 'Helicopter Economics Investing Guide' is meant to help educate people on how to make profitable investing choices in the current economic environment. We have coined this term to describe the current monetary and fiscal policies of the U.S. government, which involve unprecedented money printing. This is the official blog of the New York Investing meetup.


U.S. import price data for January indicates a rise of 1.4% from December and a 11.5% rise year over year. The price rise in January was the sixth one in a row. Higher energy prices were the major cause of both the monthly and yearly increases. The implications are inflationary.

Prices for imported oil were up 4.8% in January (the U.S. imports approximately two-thirds of its oil). Non-fuel imports were up 0.4%, led by a 1.5% price increase in industrial materials. Metals and chemicals were responsible for most of that rise. The price for foods, feeds, and beverages were up 1.3%. The report clearly indicated that commodities were responsible for almost all of the rise in U.S. import prices in January. Since all commodities are priced in U.S. dollars and the dollar rallied 0.7% during the month, the jump in import prices could have been worse - and will be if the dollar continues selling off as it did for most of 2009.

There was indeed a stark contrast between price changes for commodities and manufactured goods in January's report. Consumer goods were up only 0.2%, while capital goods and automotive vehicles decreased by 0.1%. Inflation has yet to filter into manufactured goods, which are at the end of the chain for price increases. Commodities are at the beginning. The report also indicated significant drops in air fare and air freight prices, both of which will reverse if oil prices stay high.

Over the last year there has been a dramatic change in the inflation picture based on import prices. Year over year price changes were negative and dropped each month from January to July 2009. Yearly prices decreased 12.5% in January and were down 19.1% in July. Since then, a major reversal from deflation to inflation has taken place. In November the yearly import price change became positive and was up 3.4%. It increased to 8.6% in December. In only six months from July 2009 to January 2010, the yearly change in U.S. import prices went from -19.1% to +11.5%. These are truly shocking figures.

In the last month, central banks have indicated they are starting to worry about inflation - China increased required bank reserves twice, the U.S. Fed halted five Credit Crisis liquidity programs and the Bank of England paused its quantitative easing (read money printing) program. All in all though these actions are merely very minor adjustments in monetary policies that are still highly expansionary. Inflation takes years to work its way through the financial system and by the time it is recognized, it is well-entrenched and it is too late to stop it without taking drastic action. Investors should consider the U.S. import price figures as a warning of things to come.

Disclosure: None

NEXT: Gold Down on IMF Sales, Then Up on Inflation

Daryl Montgomery
Organizer, New York Investing meetup
http://investing.meetup.com/21

This posting is editorial opinion. Like all other postings for this blog, there is no intention to endorse the purchase or sale of any security.

China is Selling its U.S. Bond Holdings

The 'Helicopter Economics Investing Guide' is meant to help educate people on how to make profitable investing choices in the current economic environment. We have coined this term to describe the current monetary and fiscal policies of the U.S. government, which involve unprecedented money printing. This is the official blog of the New York Investing meetup.


China was a net seller of U.S. treasuries in December. It was also a net seller in November. Figures from the U.S. Treasury department indicate that China lost its position as top holder of U.S. government debt to Japan at the end of 2009. Despite China's selling, foreigners overall were nevertheless net purchasers of U.S. treasuries and notes in December. They were however net sellers of U.S. corporate debt for the seventh straight month in a row.

Chinese lending to the U.S. government was a key source of funding to support the U.S. spending spree in the first decade of the 2000s.  This is what allowed the U.S. to run budget deficits of around $400 billion in 2003, 2004 and 2008. These deficits were a record at the time and were considered outrageous. The U.S. is now facing a deficit of around $1.6 billion in fiscal 2010 - four times larger. Even if the Chinese substantially increased their lending to the U.S., it isn't likely they could do so by enough to fund this amount of U.S. borrowing. If the last two months of 2009 are any indication, it looks like China is not going to increase its purchases of U.S. treasuries at all, but will be selling them instead.

There is no other major external source for funding for the U.S. deficit. Every large economy has its own economic and bailout problems that it needs to worry about. The EU, which has flat GDP growth, will be putting together a bailout of Greece this week. Italy, Portugal, Ireland and Spain are waiting in line and will be looking for handouts in the future. Great Britain also has a weak economy and has been funding its operations with money printing. Japan has still not recovered from its 20-year economic malaise.  The U.S. has to compete with the needs of these countries for international capital.

There are two likely outcomes that will allow the U.S. to fund its deficit. Higher interest rates on U.S. government debt will bring more money into the U.S. bonds. Rates would have to be a lot higher than current levels though to bring in enough money though. The other option is more money printing or quantitative easing - the U.S. government purchasing its own bonds. Some combination of the two will take place. U.S. treasuries already lost 3.9% in 2009; bigger losses should be expected in 2010. Inflation protected TIPS were up 10% on the year however (not nearly as much as inflation sensitive gold's 25% rise). It looks like U.S. bond investors were already anticipating this year's funding problems last year.

Disclosure: None.

NEXT: The U.S. Imports Inflation

Daryl Montgomery
Organizer,New York Investing meetup
http://investing.meetup.com/21

This posting is editorial opinion. Like all other postings for this blog, there is no intention to endorse the purchase or sale of any security.

China Worries About Inflation, The EU Needs to Worry About Growth

The 'Helicopter Economics Investing Guide' is meant to help educate people on how to make profitable investing choices in the current economic environment. We have coined this term to describe the current monetary and fiscal policies of the U.S. government, which involve unprecedented money printing. This is the official blog of the New York Investing meetup.


The Chinese just announced a second increase in reserve levels for their banks. The first increase took place less than a month ago. That announcement was the earliest of three major withdrawals of liquidity from global markets. The other two were the U.S. Fed closing down five of its Credit Crisis liquidity injection programs on February 1st and the Bank of England temporarily halting its quantitative easing (read money printing) program shortly thereafter. Stocks and commodities started selling down with the first Chinese announcement and continued selling off with the others. Global markets got hit again with the second announcement and adding to their worries was a poor GDP report coming out of the euro zone.

China has been leading the world out of the global recession. This hasn't occurred by magic. It has engaged in a huge amount of stimulus to reeve up its economy. While doing so it also froze the value of its currency, the yuan, and this has kept it tremendously under valued compared to a free market price (some estimates are that the yuan should be 40% higher, even a greater amount is possible). Economic stimulus and undervalued currencies are both in and of themselves inflationary. The combination of the two in large amounts can be explosive. So China is understandably trying to lower liquidity in its economy by reigning in bank lending. While these efforts are minimal so far, traders are anticipating more serious efforts down the road. Food inflation is a particular danger for the Chinese and too much of it can risk political destabilization. Food prices are already rising in many parts of the world and reached over 19% in next-door India at one point in December.

While the Chinese have probably engaged in the most significant stimulus measures globally for any sizable economy, the euro zone has not been as nearly aggressive. While the U.S. lowered its funds rate to zero, and the UK to 0.5%, the interest rates in the euro zone were only dropped to 1.0%. Less stimulus in the euro zone means less inflation in the future, but also means less economic recovery now. Fourth quarter GDP figures came in at 0.1%, indicating overall growth is flat. Leading economy Germany had a zero percent quarter over quarter growth rate. Much troubled Greece's economy sank 0.8% from the previous quarter. Italy was down 0.2%. For all of 2009, the size of the 16-nation euro zone economy fell 4%. Growth in the 27 member EU (a number of countries in the EU don't use the euro) was also only 0.1% last quarter. No matter how you look at it, Europe is economically weak.

In mainstream media reporting of Europe's predicament, one major news service stated, "the recovery in the third quarter now appears likely to have been due to temporary factors like government spending boosts, a build-up in inventory levels and car scrappage schemes that pay people to trade in old cars". The exact same factors have boosted GDP in the U.S., although that wasn't mentioned. The U.S. reported 1.4% quarterly GDP growth for the last quarter of 2009 and this was triumphed in news coverage. Investors can expect that number to be revised downward as was the case with the original third quarter figure. Greater stimulus in the U.S. has been one reason that American GDP numbers have been better than in Europe. Another reason is that the U.S. is willing to engage in more blatant manipulation of its economic statistics.It's a lot easy to 'fix' the economic numbers after all than it is to actually fix the economy.

A slow down in the Chinese economy will have a strong impact on the Western industrialized nations. Much of the improvement that has taken place since the depths of the Credit Crisis in the fall of 2008 has been because of increased demand from China.  The economies in the U.S., UK, Japan and Europe are still very weak. Based on recent actions, the powers that be in the US and UK seem oblvious to this. European leaders seem to be no sharper. Proposed austerity programs in the troubled euro zone economies - Greece, Ireland, Italy, Portugal and Spain will only cause further economic contraction. The fix for the Greece's debt problems - details are still forthcoming - is likely to be a win/lose situation.

Investors should expect that industrialized countries will be on inflation watch for a while longer. At some point even the incredibly oblivious U.S. Fed Chair Ben Bernanke will realize that there are still economic problems that have yet to be solved. More stimulus will follow. Stimulus is what has been behind the global market rallies that began in March 2009. Reduction of stimulus is what is behind the sell off that started in January. Investors should watch for signs that stimulus is returning. Until then, stock and commodity prices are likely to be pressured.

Disclosure: No positions.

NEXT: China is Selling Its U.S. Bond Holdings

Daryl Montgomery
Organizer, New York Investing meetup
http://investing.meetup.com/21

This posting is editorial opinion. Like all other postings for this blog, there is no intention to endorse the purchase or sale of any security.