"...There are three possible endgames to the current situation:
a)There’s a global deflationary shock where all asset prices fall and fall hard. A la 2008. In this instance, central banks would go in all guns blazing with more money printing on an even grander scale. This would risk inflation if not hyperinflation as faith in currencies is diminished, if not lost.
b)You have a gradual global recovery and inflation stays tame enough for a smooth exit from current policies.
c) There’s a recovery but central banks are slow to raise rates and inflation gallops, which forces tightening and a subsequent economic slowdown.
My bet remains on the first scenario given intensifying deflationary forces from a China economic slowdown and Japan currency debasement (which aids exporters in being more price competitive).
If I’m right, there may be deflation followed by extreme inflation (or one quickly followed by the other). That makes investing a tough game. Under both of those scenarios, stocks and bonds would under-perform in a big way (my current call to own developed market government bonds is a 6-12 month one, not long-term)...."
Comments
Regards,
Ted
I do not think that there is going to be a global deflationary shock from the standpoint of printing will come in before you get to that point. Yellen, she of the desire for negative interest rates, clearly has no problem with that.
I'm not as worried about China as I am about Brazil, which I think - unfortunately - is just not in great shape. I owned a couple of companies in Brazil this Fall, but sold them (http://online.wsj.com/news/articles/SB10001424052702304795804579097412611960306 - "Bill Comes Due for Brazil's Middle Class".) I think Brazil is unfortunately problematic, but there are certainly others. China is certainly not without problems, but I do believe that they can manage through them. Not without bumps in the road, but I do continue to believe that they can navigate through them.
Japan, as I've said before, is trying to cheapen its currency in order to gain an export advantage but A:) When you have a country who pretty much needs to import ALL of its energy, not to mention a lot of other things, WTF happens when you may get the export advantage, but the cost of everything, including making those things you're trying to sell to the rest of the world - goes up?
B:) Does Japan think that everyone is going to step aside and let them have the significant export advantage? China and other Asian countries may have something to say about that after a while. Have "Beggar Thy Neighbor" (http://en.wikipedia.org/wiki/Beggar_thy_neighbour) periods ended well in history? No they haven't. Competitive devaluation and other issues will occur, maybe giving countries an advantage for a time period but not really creating anything sustainable or addressing core problems the country faces.
The whole situation with Japan is about throwing tons of money at the problems. It's not - in my opinion - about fundamentals. People are going to be tourists, and there's going to be volatility and they're going to give this whole thing some chances, but when it really becomes apparent that it ain't working, all of these "tourists" are going to flee like some sort of investment "Godzilla" is storming the land and that's going to lead to a whole slew of other problems. I think Kyle Bass is right on Japan - unfortunately - and like subprime, it may take a LONG time to play out to the point where people think those who are betting like Kyle Bass are are out of their freaking mind - and then things turn and all the people on CNBC are going to go, "Whocouldaknown?"
It's all about buying the reality that you want now versus having to actually make difficult and potentially unpopular decisions. It's about creating infrastructure, improving the lives of your citizens and doing what it takes to stay competitive on a global playing field. Throwing money at financial markets? It's not sustainable - and (in this country and others) we missed a huge opportunity to do things like infrastructure investment, smart grid and the like. A boom will lead to a bust - unless governments try their best to put off Winter. Can they continually put off economic Winter? No, and their attempts to do so just add to the eventual bill.
I own a lot of what I consider "productive assets". I own things like Freehold Royalties in Canada. Oil wells, company gets royalties. Inflation protection and an 8% yield in the meantime. I own real estate companies, oil companies, vineyard companies (land, not to mention wine - people are going to drink in good times and bad), credit card companies (which take a % of transactions - if dollar amounts go higher, a % of higher and higher $ amounts in an inflationary environment), pipelines (which can and do raise their "tolls") agriculture companies and an assortment of other things. Consumer staples are probably still on the overvalued side, but I do like "real needs" - people are going to need TP (Proctor and Gamble, Kimberly Clark), people are going to need that sort of thing inflation or not. I do think that P & G becomes interesting if it continues South. Healthcare companies are another sector.
If inflation happens, you want to be in real things. You don't want to be in Twitter.
I think the idea is a focus on productive assets, a focus on things or companies that provide a "value" (Costco is an example I use there) and companies that can pass off costs (because they offer things people are going to need, in many cases) and/or benefit from an inflationary environment. If they pay a nice yield, all the better.
I am not going to try and time a deflation-to-inflation move, if that's the way things go. I'll just sit and collect dividends, maybe get a few more of this and that.
I do not think that another 2008 will be allowed to happen. It seems like the Fed is not even wanting to allow a recession/normal business cycle to happen. If the market moved down 15-20% you would see QE pushed up again and it would become even more apparent the - as described on CNBC the other morning - "Hotel California" - "you can check out anytime you like, but you can never leave" - nature of QE.
There's also the feeling that there will be continued moving of goalposts when it comes to discussing changes to monetary policy.
I can see inflation down the road and certainly others have said the same thing, Buffett has warned of inflation. I don't think I see "hyperinflation", but it would not surprise me if, over the next decade, there is a retooling/rebalancing of the global monetary system where the dollar is not the reserve currency - and there may not be another country replacing the dollar as the global reserve currency, but possibly a basket of currencies (possibly something like the SDR? http://en.wikipedia.org/wiki/Special_drawing_rights)
One particular note in the Brazil WSJ article I linked above that I think can be used to describe the actions of more than a few OTHER countries.... "Part of the problem, some economists say, is that Brazil focused too heavily on policies designed to increase consumption instead of completing ports and roads to help economic production in the long term. Brazilians bought a lot of flat screens during the boom, but the country's ports are still so clogged some ships turn away instead of waiting."
You noted: " If I’m right, there may be deflation followed by extreme inflation (or one quickly followed by the other). That makes investing a tough game. Under both of those scenarios, stocks and bonds would under-perform in a big way (my current call to own developed market government bonds is a 6-12 month one, not long-term)...."
>>>What do you mean with this?: "my current call to own developed market government bonds is a 6-12 month one....
Do you mean you would only own short term gov't. bonds or ???
I am sure deflation remains a concern for some developed nations central banks. This is why some central banks retain current monetary policy.
Keep in mind that growth is an all encompassing target for many global economies; whether a slower growth, at a steady pace would be a problem is not for me to place to policies. I personally don't find a problem with slow growth, but that is not what the central bank economic policies are or have been based upon for many decades. If growth is only 1-2% per year, something must be broken somewhere. WHY?
And my bad states a politician if he/she can't announce their programs are not doing something to promote growth somewhere; even at the expense of "OPM" (other peoples money). Tis a long time and ongoing game that will be in play long after my tenure on this planetary rock.
Catch
I suppose the question I have is what is the real cost of a dollar of growth? Is it more than a dollar?
Scott:
"I do not think that another 2008 will be allowed to happen. It seems like the Fed is not even wanting to allow a recession/normal business cycle to happen."
Why is boom/bust taken to be inevitable? I never understood that. Why do people put up with it? Is it because, on the up-side, extremes rule the day? Like binge drinking? Then there is the hangover, of course. But then, it would seem that the drinker never learns not to indulge to excess?
Why on earth don't people, governments, policy-makers and everyone else create circumstances by which the "bust" simply doesn't happen? Moderation. Maybe more macro control by governments... ?
Human nature, I suppose, among other things. Politics plays a part, perhaps?
"Why on earth don't people, governments, policy-makers and everyone else create circumstances by which the "bust" simply doesn't happen?"
You mean don't create environments where people cannot just earn something on their money and are forced deeper into risk and malinvestment to get some manner of return until a financial "jenga" happens and the blocks topple? Hmmm, I dunno - interesting concept.
As for trying to keep a "bust" (or, as I like to call it, "Winter") from happening, I think you will get busts - it's human nature. The idea, however, of creating environments where you get boom/bust cycles on a shorter time frame.... it creates lasting problems. It's not about learning from busts and trying to make it so that we don't just do what got us there again, it's not about making difficult decisions, it's not about creating anything sustainable, it's just about politicians wanting a "reboot" to pre-bust as fast as possible.... and that really goes back to human nature. We aren't going to learn anything from the busts and we absolutely didn't learn anything as a country from 2008. I'm starting to see more and more things that convince me as much.
We'll have another bust at some point - it's not "fun" or "happy" but it's reality - and then what? More QE?
"There is no means of avoiding the final collapse of a boom brought about by credit expansion. The alternative is only whether the crisis should come sooner as the result of a voluntary abandonment of further credit expansion, or later as a final and total catastrophe of the currency system involved." - Mises.
"True, governments can reduce the rate of interest in the short run, issue additional paper currency, open the way to credit expansion by the banks. They can thus create an artificial boom and the appearance of prosperity. But such a boom is bound to collapse soon or late and to bring about a depression. " - Mises.
Just found, through another thread here, posted by Kenster:
(Grantham:) Is this bubble-and-bust cycle one that can and should be avoided?
"Of course it can and should be avoided. But by appointing Janet Yellen, you know there is no inclination on the part of officialdom to change the game. Bernanke and Yellen are guaranteed extensions of what I think of as the Greenspan experiment in stimulus and relatively lax regulation. It is a totally failed experiment, with enormous pain. Will they never learn?"
No.
>>>This "stuff" has been go'in on a long, long time.
I believe the word of description is: