Thursday, 3 December 2009

The financial typhoon is coming

John Mangun
Outside the Box
Business Mirror

It is the holiday season and we should be upbeat and positive. However, there are events unfolding in the global financial markets and economies that deserve immediate attention and consideration.

It is unfortunate that our leaders are preoccupied with next year’s elections and believe that it is just “business as usual.” Nothing could be further from the truth.

The global financial system is more fragile and precariously hanging by a thread today than ever in history. There is a risk, a real potential of a systemic global economic failure in the next six months.

Earlier this year, Iceland went bankrupt. That nation of 300,000 went out of business, rescued only by an International Monetary Fund (IMF) bailout of $6 billion. Last week, Dubai quit paying its debt and now needs a $50-billion cash infusion to stay in business.

Great Britain will see its economy shrink by 5 percent in 2009. The government needs an additional $300 billion for each of the next three years to fund spending. This money can only come from additional borrowings and the printing of currency.

The United States has borrowed to the highest level in its history, pumping more than $1 trillion into its economy. Yet the economic benefits are not there. Holiday spending is down from last year despite that trillion-dollar stimulus. The housing market is still a catastrophe with nearly 25 percent of all home loans greater than the market value of the house, making it better for mortgage holders to default than to pay. Commercial real estate is beginning to show the same signs of foreclosure and loan-default potential.

Countries have printed so much money that devaluation is reducing purchasing power daily. Further, because there is little chance that this devaluation will stop, combined with near-zero interest rates, people are borrowing dollars to buy any tangible asset in sight. Oil goes higher in spite of demand going lower. The prices of wheat and other grains go higher in spite of high prices nearly killing the US grain export market. Home construction in the US is dead, yet lumber prices go higher because “cheap” money is looking for “cheap” hard assets.

Stock-market prices go up and no one cares if the companies are making any profit or even if they will be in business in a year. The trading model is simply get out of cash and into anything and everything that has some intrinsic value.

And as hard assets increase in price beyond the theoretical demand-justified price, currencies become less valuable and, therefore, less valued, hence devaluation. Further, there is no indication that currency devaluation is going to stop anytime soon as all the developed countries (Japan is the latest) have made clear that they will continue the policy of low interest rates, continued spending and continued currency printing.

The risk of a monstrous financial armageddon grows every day because eventually we may reach a trigger point where prices will suddenly go berserk.

There may well come an incident that pulls the trigger.

A major sovereign failure could occur. Greece has a debt burden equal to more than 100 percent of its annual gross domestic product. The markets are worried about the potential of a $200-billion default. Ireland looks shaky also with some $70 billion in loans at risk. Either of these would cause a domino effect as foreign creditor banks would, in turn, require bailouts from their home countries, and there is just not enough funding available. The only alternative is to print more money creating a spiral of devaluation.

The US banking system is in worse condition than before the massive bailouts of these last two years. Another major bank failure there would create a ripple effect requiring billions of unavailable rescue funds.

How high is the risk of a global collapse? Higher than you may think.

Gold hit a high above $1,200 yesterday. Gold is up 20 percent in less than two months. Theoretically, there should be an equal drop in the value of the dollar. It has not happened. If gold prices continue to go higher, as I firmly believe they will, at some point, $1,400, $1,500, $1,800, the dollar will collapse, dragging the global financial system. One day in the near future, we may see gold jumping by increments of $20, $30, $50 and the dollar dropping by €2 or €3 with each trade.

Meanwhile, the Philippine government blissfully moves forward doing little, relying on the wisdom of Obama and trusting in Uncle Sam. Our central bank buys dollars and sells pesos. Others do the opposite. Sri Lanka buys 10 tons of gold and sells $375 millions. Mauritius bought two tons gold last month. India spent $6.7 billion for gold at an average price of $1,045. They all have made a 10-percent to 20-percent profit. How much money has the Bangko Sentral ng Pilipinas (BSP) earned on its dollar holdings?

Do not expect the Philippine government to do anything to protect your wealth.

Sell your dollars now. If you do not trust the peso manipulation by the BSP, buy yen and euros for the moment. Eventually you will be running back to pesos. As the dollar drives lower, there will be nothing the BSP can do to prevent peso appreciation to below 40 and more.

Buy the local stock market and real estate. Countries like the Philippines will become global safe havens for hard cash as the peso has plenty of appreciation room, interest rates are high by comparison (backed by sound banks), and Philippine assets have true value. Buy physical gold and silver coins from the BSP. Also be prepared for a large spike in oil prices early next year until the peso catches up with dollar devaluation.

This is not a worst-case scenario. What we have seen in the last 12 months is only the dark clouds before the typhoon comes.


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