Category Archives: Blog

Tall Skinny 2.0

Wednesday, June 19, 2013

Posted by: Matthias Paul Kuhlmey

Allow this blog to be somewhat anecdotal and a bit speculative in nature. This in mind, an alternate title could have been: “Will New York be the new London?!” Some time ago, we reported on several real estate topics, notably about Tall Skinny (Parts I and II), and the more distant Knightsbridge, the “center filet piece” of real estate in London. Recall my trip report from last year, in October: … “It is fascinating to understand that property prices in Central London have reached a new record high (July 2012 data), at 13.5% above the previous peak in March 2008, and that prices, overall, have risen by 49%(!) since the post-Credit-Crisis low of March 2009.” You think this was the end of it?  Nope! Prices for central London real estate are up another 7.2% over the last 12 months, and 3.2% in 2013.

As a long-term business traveler to the U.K., it has been amazing to see the city’s transformation from “jolly ol’ England-style” to a glamorous global metropolis. The wealth created, or better portrayed, in London is simply breathtaking; this stated, over the years, many Londoners have been priced out of more convenient “close-to-center” locations, with the effect (domino) that even more remote parts of metropolitan London have become very expensive, if not unaffordable. Let’s now bring this idea back to the Big Apple.

European austerity measures, caps on banker salaries in London, the rich getting richer, all paired with New York being a (relative compared to other metropolitan areas) good and affordable deal (to some), has led to money coming in! Notably, wealthy foreigners have been buyers of high-priced real estate in New York. A recent article in the German magazine, Spiegel, vividly explains the latest craze in Manhattan’s high-floor, high-priced real estate luxury apartment market. Off the charts, baby!

Real estate developer, Harry Macklowe, is back on track (after almost having faced bankruptcy in 2008), progressing with the construction of the tallest residential condominium building in the Western Hemisphere, on 432 Park Avenue (the site of the old and infamous Drake Hotel). Btw, in case you were wondering: The penthouse of the new “Tall Skinny” (2.0) has already been sold at a $95 Million price tag (you are out of luck). On the other side, (literally over the East River) in Queens, the number of foreclosures is skyrocketing. Let’s stick with the “other side”: “If the borough of Manhattan [presenting only one of the five NYC boroughs!] were a country, the income gap between the richest twenty percent and the poorest twenty percent would be on par with countries like Sierra Leone, Namibia, and Lesotho.”

Notable questions/conclusions: 1) Foreigners continue to “recycle” the flood of Dollars provided to them during the “booming years” into U.S.-dollar-denominated markets (e.g., real estate in the U.S.); 2) The economic recovery (still tbd) continues to be “uneven” at best, and has mainly provided benefit to the wealthy. In contrast, “some 46.2 million Americans now live in families where someone is working but earning less than the poverty line: $11,702 a year for an individual or $23,021 for a family of four”; 3) We need to question the quality of economic forecasting: it is a given fact that several components of reported Leading Economic Indicators are directly influenced by the Fed, e.g., housing data(!), equity prices, and consumer confidence readings (please see our entry, American Dream, for additional background); 4) Do the ultra-wealthy know something we don’t, balancing the onset of inflationary pressures with the potential of preserving wealth through prime real estate investments?

Additional historic background: The evolutionary spread of original (old) London to a “fresh” location is not a new concept. In 1609, English sea explorer, Henry Hudson (but sailing under Dutch flag), re-discovered the New York region (Giovanni da Verrazzano was first in 1524). Consequently, Dutch ownership of the island then called “New Amsterdam” changed in 1664, when King Charles II of England granted the region to his brother, the Duke of York. New London, however, was established, after all, as a somewhat charming seaport city in Connecticut, about 100 miles south of Boston. Now as it was then – all a massive real estate transaction that (so far) has held value over the long-term.

Cadence

Thursday, June 13, 2013

Posted by: Matthias Paul Kuhlmey

This piece is dedicated to our firm’s respected and very-impressive COO, Mr. Mike LaMena. In shaping an up-and-coming financial services firm, it is essential to “follow the right sequencing,” not only to address the needs of our partners and clients, but also to balance the appropriate infrastructure projects against market occurrences. Mike likes to think in terms of cadences, which is an interesting concept we should explore with respect to capital markets as well (also to stay true to our obligation in providing musical education).

“In Western musical theory, a cadence (Latin cadentia, “a falling”) is “a melodic or harmonic configuration that creates a sense of repose or resolution,” specifically a finality or pause. Given recent volatility in financial markets (stocks and bonds alike!), investors are eager to understand if the bull market in global stocks, since 2009, is simply pausing or potentially ending. “A cadence is considered as more or less ‘weak’ or ‘strong’ depending on its sense of finality”, and it is this potential “finality” we need to explore, region by region, to understand our availible investment choices.

Asia/Japan:  Recent price action in Japan, in both bond and equity markets, has become “living proof” of how inherently volatile our global financial system has become beneath the surface. Overly accommodative central bank policies, over the past years, have given the basis for a false sense of investor security. Whereas Japanese equities have been in corrective-mode lately, with significant volatility experienced, the focus should be on a far more problematic bond market: JGBs, for more than a decade have been priced for deflation, not inflation, the new policy objective by Mr. Abe’s Government, aka “Abenomics”!

A now-to-be-expected transition from deflation to inflation should further impact Japanese asset markets, including the Yen. Global investors need to understand the potential for high volatility, and potential contagion, as other markets continue to be supported by the very same central bank objectives, most notably in Europe. Japanese equities and the Yen should trade range-bound until the Japanese Upper House election in July. It is probably too early to consider the Japanese “equity story” to be over, as the impact of a far more favorable Yen should present itself in corporate earnings to come. Investors should continue to hedge their Yen exposure when investing in Japanese equities.

Europe:  Most European financial markets, with few exceptions, have experienced significant asset price deflation since 2008/2009. Recent economic data and leading Indicators, however, are supportive of a presumed bottoming process. The ECB, on the other hand, appears to be coming around to the idea that the economic system needs to be further supported in “Anglo-Saxon style”; whereas quantitative easing may not be the primary option, further accommodative adjustments can be made with respect to repo operations and the cost of marginal lending. Such measures will continue to support an ailing, but consolidating, European banking system – the key element to a sustained economic recovery.

On a relative basis, many European high-quality company stocks are more attractively valued, when compared to names in the U.S. or other parts in the world. Market participants that can endure volatility and have a longer term investment horizon should also consider an allocation to peripheral countries of the EU (Eastern nations). Those economies, and their favorable cost structure, especially with respect to cost of labor, continue to compete favorably with Asian nations. Volatility will continue to be elevated, and it may be opportune to hedge exposure to the Euro.

U.S.:  As already stated in our recent blog American Dream, domestic investors/consumers “never missed a beat”:  from the craze of the dot-com mania, to inflated housing, and to now ever-rising stock markets. Behind the scenes there has been an always committed and accommodating Federal Reserve Bank. Noting that the U.S. Consumer has contributed about 70% to GDP over the last decade, it is likely that Mr. Bernanke and his Fed (not dissimilar to what happened under Greenspan’s leadership) will be cautious to “take the foot off the gas pedal,” willingly allowing for the risk of over-stimulating the system.

With the grand “Bernanke Plan” in mind, the concept of asset price inflation will stay valid, with potentially higher equity prices to come (including a good portion of volatility), until the very last fool will have realized (and it may be someone at the Fed) that accommodative monetary policies, alone, cannot heal a system under deflationary pressure. Over-excesses of a multi-year credit cycle still have to “pass through the system.” This process will lead to subpar growth for years to come, but not necessarily to unattractive investment opportunities, at least on a relative basis. The U.S., compared to other markets, continues to be attractive.

In conclusion, once the financial system becomes too volatile (and you will notice the signs), understand the concept of a rhythmic cadence, “a characteristic rhythmic pattern that indicates the end of a phrase.” So far, it is rather harmonic than rhythmic … but stay tuned.

Wrong Track

Tuesday, June 11, 2013

Posted By: Matthias Paul Kuhlmey

Wrong track may be considered a bit of a stretch, but in our minds, we’ve at least delivered on our near-standard music reference to kick things off. Sticking with the concept of what may be “on the right or wrong track” these days, we can successfully “check the box” on our work. In one of our recent entries, Rocket Man, we suggested to review/rethink long-duration investments within portfolios, and this should still be a consideration on every investor’s mind: several segments in fixed income markets have been notably under pressure, and not only in the U.S.

Another party we should mention, in the midst of “checking the boxes of right vs. wrong,” is the Fed. It is without debate that Mr. Bernanke and team are “testing the waters,” not only as it relates to the overall experiment of providing massive stimulus to the financial system, but (more recently) also on how to withdraw it without causing a “disruptive element” to stock and bond markets (the latter, in particular). Our Fed Chairman has been an avid student of the malaise in Japan after the bursting of their asset bubble in 1989, and he is well aware of the socioeconomic implications of decade-long deflationary forces at work.

Past experience in mind, Ben Bernanke will keep an accommodative stance until it is very clear that economic growth can support the economic system with less (or without) monetary stimulus. The dilemma, however, is that market participants may lead the normalization of long-term rates before the economy can fully “catch-on” – this is exactly what appears to be taking place, with the new emerging buzz word being “taper,” instead of QE. Investors are concerned over likely stimulus withdrawal and are preparing their portfolios … stock in, bonds out … but not so fast!

Here is the catch, eloquently worded by our friend Scott Minerd at Guggenheim: “… the current economic expansion is dependent on further gains in housing, which would be adversely affected by a material rise in mortgage rates. Between one and two percent of GDP growth is coming from housing activity. The sluggishness in the rest of the economy is evident if you remove that number from the latest reading of 2.4 percent GDP growth for Q1. This dynamic underpins the Federal Reserve’s current dilemma over how to normalize monetary policy. I do not anticipate an easy ride for policymakers or investors over the coming months.”

Before you sell all of your bonds, consider the following: “The economic expansion following the 2008 recession has been the weakest of the post-World War II era and remains an outlier among postwar recoveries along several dimensions.” With this in mind, “tapering” may not lead the buzz charts for too long before our dedicated Fed will change the tone of things to come. Ergo, we could experience more asset price inflation and potentially higher stocks paired with volatility, as market participants try to figure out where to invest. Interest rates may “creep” higher, but should find some resistance as our current global environment is not exactly “priced” for high refinancing cost. And so, let’s play this tune again – right or wrong track decisions delayed, once more.

What do “the people” think about all of this? According to a recent poll, “60 percent [of Americans] say the country is on the wrong track, while just 32 percent say things are headed in the right direction. That’s the highest percentage saying “wrong track” since September [2012] and it comes amid continued concern about such issues as health-care costs and the national debt …”

P.S. For an extremely thoughtful way of understanding the Fed (or not?!), please see my partner Adam Thurgood’s work: A Circular Argument and A Circular Argument – Part II.

 

Rocket Man

Tuesday, May 21, 2013

Posted By: Matthias Paul Kuhlmey

Over the weekend, North Korea launched yet another short-range guided missile, upsetting neighboring nations, but especially her brothers and sisters to the South. South Koreans, these days, have been dealt a “difficult hand.” As the country steps closer to the brink of a conventional war, a recently launched “currency war” by the Japanese is causing the South Korean “export engine” to experience stress. With the Yen down nearly 20% (vs. the USD), the Japanese have created a significant price advantage for their products offered to the global marketplace, leaving other export-driven nations (e.g., South Korea) at a disadvantage.

Thinking of another “rocket launched,” how about Japanese stocks? For the year, the Nikkei is up +48% (in local terms), and about +25% for USD-based investors (accounting for losses in the exchange rate). Along with these outcomes, there are other, possibly undesired, results of the inflation-targeting “Abenomics,” policies (or experiment?) supported by Prime Minister, Shinzo Abe, to free Japan from decades of deflation. More recently, we warned that “… upon announcement of major stimulus (or money creation) by the Bank of Japan, the 10yr yield on JGBs (Japanese Government Bonds, or the equivalent to Treasuries) dropped to an all-time low (0.425%), only to almost double(!) a few hours later.” Not a big deal, one may think, as rates are still below 1%; but, for a nation that is already allocating about 50% of total public spending to debt service and social security, the trend is not pretty. Consider that Japanese Banks (in good recycling fashion) hold a majority of all outstanding JGBs, we can already spot another rocket in the distance – this one “nose down” … According to a recent IMF publication, a “[1 percent] rise in market yields would lead to mark-to-market (MTM) losses of 20 percent(!) of Tier-1 capital for regional banks (not taking into account net unrealized gains on securities).” More simply, small increases in interest rates can have a magnified negative impact on the required capital reserves of banks.

The “nose-down” scenario for banks in the U.S. was clearly averted by domestic Rocket Man, Ben Bernanke. His directed balance sheet expansion has eased funding stress and, on the “flip-side,” created quite the “launch” for U.S. stocks. The S&P 500 is now up 151% (price return) from the dismal levels of March 2009; this is a picture-perfect environment, also considering that U.S. bond yields have not moved “Japanese style,” still marked near historically-low levels at 1.94% (10yr). Here’s the catch: If our friends at mi2partners are correct, we may experience some sort of déjà vu of developments that took place in 2003. Back then, the world encountered a significant decline in global bond prices, preceeded by (read carefully) 1) the Japanese in dire need to bail-out their failed banking system, and 2) U.S. market participants having bet on QE, but caught by a far less accommodative FED … sound familiar?

If our preview is correct, the next “rocket to launch” will most likely be linked to yields in U.S. Government paper. As we cannot be sure if “it’s gonna be a long, long time” before this event occurs (if at all), you may want to check your exposure to long duration investments, and rethink your overall bond strategy.

P.S. The lyrics to the song “Rocket Man” were inspired by Bernie Taupin’s (Elton John’s writing buddy) sighting of either a shooting star or a distant airplane. The moral here: it doesn’t matter what actually triggered the launch of a great composition, a “hit is a hit.”

 

Hotel California

Tuesday, May 7, 2013

Posted By: Matthias Paul Kuhlmey

 

My colleagues consider my distinct (possibly questionable) assessment of good vs. bad hotels as “diva-ish” (some may even think I am an idiot). Possibly a full and extensive topic for another blog, I can assure you, that with nearly 20 years of combined personal and business travel experience, one begins to have a good sense of the “dark side” of accommodations hidden behind the shiny stars. This writing should have carried the title “Reality vs. Perception,” but in our attempt to not immediately reveal our planned course of writing, as well as to deliver on our traditional music reference, it turned out to be Hotel California, possibly the best-known song by the Eagles. 

 

In 1950, Robert Schuman (not the composer, but the French Foreign Minister) became the promoter of a united Europe by announcing plans of the formation of the European Coal and Steel Community, which became the Foundation for the European Union (and later the EMU). On the surface, Schuman had the objective to establish a common value system, but part of his hidden agenda was to create an environment for European countries to never again be at war with their neighbors. German Chancellor, Konrad Adenauer, recognized as the first statesmen to have reconciled the relationship between France and Germany after WWII, subsequently bought into Schuman’s plan. Voilà.

 

With much “civic love” and reconciliation having taken place over the years, Germany’s Banking system now carries about $2.62 trillion in exposure to debt of other Governments across the world (Q4 2012), including $996 billion to the Euro area. When segregating those numbers to the PIIGS (Portugal-Italy-Ireland-Greece-Spain), German Bank exposure totals a little less than $400 billion (BIS) of an estimated Euro 8.3 trillion ($11 trillion) banking system (assets) or nearly 11% of German GDP (ca. $3.6 trillion at 2012 figures). Not a small chunk. These numbers do not even account for all the “other stuff,” including regular lending activities among banks, derivatives, etc. I guess Adenauer didn’t see this one coming. 

 

Another lesson in perceived realities: On the “home front,” everyone appears to have gone “gaga” over the latest employment report and related unemployment rate of 7.5%(!). Admittedly, it is not too shabby compared to previous years, but underneath the surface the story is different. “In March, 7.6 million Americans who want more hours were stuck in part-time jobs, about the same as a year earlier and 3 million more than there were when the recession began at the end of 2007.” The job market is only improving on the “net line.” When considering more and more people leaving the labor force, along with an increasing number of “underemployed” workers, the real unemployment rate (U6) still stands at nearly 14%(!). More tragic is the development in youth unemployment across the globe, now being called “Generation Jobless”: “OECD figures suggest that 26m 15- to 24-year-olds in developed countries are not in employment, education or training; the number of young people without a job has risen by 30% since 2007 … Depending on how you measure them, the number of young people without a job is nearly as large as the population of America.” In Spain and Italy, respectively, youth unemployment ranges between 40 and 55%(!). The situation is unsustainable, but for now it’s a breeding ground for radical measures and political opinions. 

 

The lyrics to “Hotel California” describe a “luxury resort where ‘you can check out anytime you like, but you can never leave.’ On the surface, it tells the tale of a weary traveler who becomes trapped in a nightmarish luxury hotel that at first appears inviting and tempting” … but then things change (as always). The Germans may have created this very constellation for themselves. In other words, it’s quite an expensive undertaking to “leave” now – either you pay up and help your ailing neighbors, or you let them fail, likely implying that Mrs. Merkel and friends would have to “bail out” or possibly nationalize the German banking system. Regarding the young and unemployed across the globe (and especially in Southern Europe), they are “stuck” in a similar dichotomy; improving headlines assessed on an incomplete basis with an underfunded education system, and their respective economies in dire straits.

 

What does this all mean in terms of investing?:

 

1. Beware of the vibrant “headline” news; we are most likely being told “stories of convenience.”

2. Should a “story of convenience” prove to be inaccurate, beware of volatility in markets.

3. As economic conditions continue to be “sub-par,” accommodative policies will exist (QE).

4. With further increases in the monetary base globally, asset price inflation will continue.

5. It will be fundamental to distinguish “inflated assets” from those that rise on good valuations.

6. As long as Central Banks keep easing, equity markets will have a “floor” … and so should bonds!

7. Central Banks will “take turns”:  After the U.S., it is now Japan’s turn. Europe (likely) will be next.

8. No country can afford a strong currency (competitive devaluation). Identify future stores of value.

9. Don’t turn greedy and “chase” markets. Manage volatility. Understand risk-adjusted returns. 

 

As HighTower is all about our 360 concept (i.e., “a look around the industry”), please find, in addition, an excellent opinion piece on Europe by our friends at Lord Abbett, specifically by Milton Ezrati, their Senior Economist and Market Strategist.

 

Relativity

Wednesday, May 1, 2013

Posted By: Matthias Paul Kuhlmey

 

The headline reads: “U.S. Stocks Fall as Business Activity Unexpectedly Drops.” Unexpectedly?! – not so much, in our book. According to the MNI Chicago Business barometer, “the pressure is on,” with U.S. business activity declining for the first time in more than three years, and “The Bloomberg Economic Surprise Index, which measures the degree to which economic data is exceeding or missing projections,” falling to its lowest level since October. On the other hand, you have an ever-committed, optimistic U.S. Consumer with confidence readings still rising strongly, pretty much in an attempt to hold the crapshoot of an underperforming global economy together. In early conclusion, and as a subtle reminder, it appears as if financial markets, especially in the U.S., are trading far ahead of economic reality.

 

For some relative background consider Texas, the most significant manufacturing hub in the U.S. (9% overall contribution) and a place of economic superiority, when compared to many other U.S. States: According to the Dallas FED, general business activity was down from 7.4  to -15.6 just over the course of one month, the lowest reading since July 2012 and far short of what was expected to be a positive reading at 5.0. Oops. The consumer, reportedly happy (as above), is actually thriving based on recent housing data and stock market gains (the wealth effect!), not very dissimilar to what we have experienced in the pre-crisis years. This phenomenon, paired with a significant creation in consumer debt and somewhat flat income growth (0.2% in March), may not be the perfect combo. Nevertheless, so far, Mr. Bernanke is winning the “perception game,” with the true outcome tbd in the future.

 

Now consider “a bowling ball causes a dent in a mattress, and that dent changes the otherwise straight motion of a nearby marble on the same mattress” – this, according to my grandmother’s old neighbor, Einstein (a few villages down the road), and his Theory Of Relativity (actually two theories combined in one, but does not matter in our context). Einstein’s theory has been criticized and tested over and over again, and yet still proves to be correct after nearly 100 years since inception: Space and time are relative rather than absolute concepts; this in mind, the assessment of market returns will have to undergo a similar logic. With weaker corporate earnings (not only in the U.S.), unsustainable record-high profit margins, a potentially over-leveraging/optimistic consumer, and a disaster “brewing” in Europe (recession inclusive), let’s not get greedy. It’s all relative!

 

P.S. For excellent work regarding the “seasonality” of earnings (and more), please see my partner Adam’s Thurgood’s work (fresh off the presses): Slowin’ Down…Again!

 

Party All the Time

Friday, April 26, 2013

Posted By: Matthias Paul Kuhlmey

 

Yet another quick update on Germany, but please don’t worry: no chance of more Elvis or this blog turning into a self-serving homeland report (but the title would be wasted without a reference to Eddie Murphy and the late Rick James’ 1980s “classic” song). The Germans have their “hands full” these days. After just recovering from accusations of an ill-guided Cyprus rescue effort, there is more trouble brewing, but now domestically. According to a leaked court paper, the German Central Bank, “Bundesbank,” has been fighting the bond buying programs of the ECB. According to this information, “the Bundesbank argues that the OMT bond-buying program should be rejected by the German Constitutional Court. The Bundesbank argues the purchases should be outlawed because of credit risks that could undermine central banks.” 

 

Unfortunately, and brought to our readers attention some time ago, the Bundesbank is raising a valid point. The Treaty of Lisbon, constituting the relationship of all EU Member States, carries the so-known “No Bail-out Clause,” clearly prohibitive of “scratching each other’s back,” and allowing for the “mutualization” of debt. Even though the court hearings will start in June, it is expected that the Constitutional Court of Germany will not issue a verdict before the German elections take place in September, thus possibly allowing Chancellor Angela Merkel (and her party, the CDU) to be elected into her third 4-year term! 

 

Someone who is certainly playing along in the power-game is Jens Weidemann, the 8th President of the German Bundesbank. Unlike Merkel, Weidemann is more focused on domestic issues, rather than the “all for Europe” approach: In August of last year, Weidemann threatened to leave his post when (Super Mario) Draghi, the head of the ECB, made his infamous commitment to “do whatever it takes to save the Euro.” To top it off, we are dealing with a new found “Germanophobia,” a recent development mainly in Southern European nations, blaming the Germans for the strict position on the European dilemma.

 

On the other hand, whenever the mood in Germany is turning sour, a party will be formed (at least historically), and the newly established “AfD - Alternative für Deutschland” (no translation needed) has filled this need. Although brand-new, it is expected that this outspoken anti-Euro party could already obtain enough votes to enter the German Parliament in the September election. And then there is another, somewhat related, party – i.e., the one taking place in Foreign Exchange markets: The British Pound has gained substantially vs. the Euro, with investors selling Europe (the continent) and buying Europe (the island), after Jens Weidemann (yes, same guy as before) made a public announcement that the European recovery will take another decade. Read carefully, investors prefer to buy the currency of a country (U.K.) that was just downgraded and suffers quite a bit economically, rather than continental Europe – this is how “screwed-up” things really are.

 

The European dilemma is far from resolved: the Euro is most likely not the investment of choice; the European Union has already failed from a governing perspective (Treaty Of Lisbon); to avoid severe deflationary forces, the ECB will have no choice but to monetize the system further (unlawful or not). As a result, investors can line-up to participate in rising asset markets (after the U.S. and Japan, European stocks will be next – unless the Court will bring justice) … expect volatility, but start looking for bargains now …

 

Going Dutch

Wednesday, April 17, 2013

Posted By: Matthias Paul Kuhlmey

 

Sorry to disappoint your potential assumption (and sorry for controversy caused on our team at HighTower): The “Pennsylvania Dutch” are actually not Dutch (as in The Netherlands), but, rather, are of German descent. No, this is not a third update to our blog, “Germany - …,” but possibly an enhancement to our critical thinking skills. To close on the above “intro,” and oversimplified, “in the case of the Pennsylvania Dutch, the word ‘Dutch’ is also sometimes interpreted as a corruption (caused by similarity with the word “Dutch”) of the Pennsylvania Dutch endonym Deitsch, which is itself a local variant of the modern German endonym Deutsch, meaning German.” And this is how the world goes – we take something for granted until …

 

Among my partners, a rather popular research report has been circulated, and the “wow effect” was related to a table showing the (at that time) historic S&P 500 peaks in the years 2000, 2007, and now 2013. According to this data, the S&P is undoubtedly a “killer bargain” today, as compared to previous market peaks, based on Trailing-, Forward-, Normalized-PE, Price-to-Book Value, Dividend Yield, etc. Two major flaws in reviewing this data-set should become the basis for an informed investment decision: 1) why would one compare equities to the (very same) equities to make a decision with respect to “attractiveness”? (The better approach is to understand real alternatives and relative value!) and 2) if an investor would have compared the same data between the years 2000 and 2007, stocks (in 2007) would have looked almost equally as attractive as they do now; BUT, if one would have invested in the S&P 500 at that time, the subsequent 5+ years would have been a zero-sum game, not to mention the aggravation, drawdown, and volatility experienced during the financial crisis of 2008/2009. 

 

Moving on to another debacle: Gold has kept our investing minds quite occupied over the past several days, as the price of the yellow metal has experienced a significant event. Between Friday (of last week) and Monday, Gold lost more than 14% of its traded value, the biggest two-day decline since 1983. Reasons cited to explain the event are “the rise in the stock market, the slow, steady improvement of the U.S. economy, and the recent strength of the dollar.” Gimme a break! We are supposed to believe that the entire collective mind of our global investing community has changed over the course of 2 days, “trading-in” Gold for all the other valuable “stuff”? How about another perspective: Recently, there have been significant draw-downs of physical gold at the New York COMEX and at the J.P. Morgan Chase depository. As already reported in “Gold Gone Bad,” one must have enough Gold to satisfy outstanding (derivative) obligations. If this inventory runs low, it is better to “cover” shortfalls at a lower price. 

 

A few notable aspects should to be considered alongside the Gold sell-off: The, at first denied, and subsequent confirmation of Cyprus’s Central Bank selling +10 tons of Gold; an unfortunate computer-glitch of a Gold trading platform, preventing buys at lower prices the day of the sell-off; and the now-increased margin requirement for Gold. You may get the picture that someone needs a lower price … except for star Hedge Fund manager, John Paulson, who reportedly lost 1 billion dollars related to Gold. At the end of the day, we all have to split the bill on this fiasco – really Going Dutch, not Deitsch!

 

Happy trading, as Gold actually may not be a bad deal at current prices, after all …

 

P.S. We are not in the business of “Conspiracy Theories” – the above stated is based on facts!

 

Gold Gone Bad

Friday, April 12, 2013

Posted By: Matthias Paul Kuhlmey

 

Do you know what you are holding in your portfolio? … No, really, do you know what you are holding? We could, for dramatic staging of our question, ask again, but the point is made. Over the past years, seemingly everyone has accumulated ownership in Gold. People’s confirming answer to our question and nodding of their heads as an important gesture of “yes I do” have always made me laugh. When you grow up in Europe (or parts of Asia), you know what ownership of Gold really means. It is physical, often stored in basements, bank safety deposit boxes, or buried in the garden; we’re talking coins, mini bars, jewelry, and so on.

 

For years we have been educating our clients that holding an ETF, which has the name “Gold” in it and trades like Gold, listed on an exchange, is not equal to holding real Gold. Sorry to disappoint you, if this is “breaking news,” but most/all of the emerged “rock star ETFs,” in this respect, are not representative of physical Gold. Why should we care? The very essence of owning Gold, other than as a portfolio optimizer, is to participate in the price movement of the metal, to protect from inflation (even though we have made the point that it is hardly possible), and(!) to have “dough” available should the financial system fail; i.e., take your coins to the store.

 

Last point made above is the very problem: Most of the popular Gold ETFs do not allow holders to claim the physical metal, since all they really own is a proxy (as said, those instruments track the price of Gold, that’s it!). Most ETFs are not even fully allocated; in other words, for a client Dollar “invested in” Gold, only fractions of the investment (cents) are used to acquire and store physical Gold. The remaining cents are used to acquire Gold contracts/derivatives. Not surprisingly, then, prominent structures (ETFs) have even been compared to mortgage-backed securities and collateralized debt-obligations (you may recall this as the “stuff” that almost blow up the financial system in 2008/2009). 

 

It took a bit of explaining, but our base case is established. Last week, a news headline shook the Gold investor community: “ABN AMRO, the biggest Dutch bank, has sent a letter to its clients stating that they will no longer be able to take physical deliveries of the gold they have bought through ABN. Instead they are offered money at the current market rate for gold. Basically, instead of owning a risk free, physical asset (a gold bar or a gold coin), the bank’s clients now own a monetary claim on ABN AMRO, being exposed to the bank’s credit risk.” Message delivered, please check what you own.

 

P.S. A recent Forbes article is suggesting that Ammo (we are talking bullets, shotgun shells) may actually become the next Gold … it really has gone bad!