The Rude Awakening
Laguna Beach, California
Thursday, July 12, 2007 ------------------------- - Combustible wealth vs. Tangible assets,
- The global financial cycle - Sydney to Shanghai,
Midwest to the Middle East…and back again, - A silver lining for your dollars on the way and more…
------------------------- Eric Fry, reporting from Laguna Beach, California… Yesterday was one of those days on Wall Street that Bill Bonner, editor of the Daily Reckoning, calls a D.U.G.D day - "dollar up, gold down." What he usually means by using that acronym is that things are doing what they should not be doing. Bill is partial to gold and to real estate and to most of the other investment assets that do not combust near an open flame. But these enduring assets do not always deliver short-term investment performance, which explains why so many hedge funds would rather own a credit derivative than a Krugerrand…even when credit derivatives are incinerating and Krugerrands are not. Yesterday, for example, investors turned a blind eye to the growing distress in the subprime mortgage sector - and to the related fallout in the credit derivatives market - as they snapped up shares of whatever stock got whacked the day before. In short, yesterday's trading action featured a standard-issue dead-cat bounce. Most of the stocks that dropped sharply on Tuesday, bounced a little yesterday. Curiously, however - and perhaps tellingly - the financial stocks did not bounce much, if at all. Their trading patterns more closely resembled a "splat" than a bounce. After tumbling nearly 3% on Tuesday, the KBW Mortgage Finance Index finished yesterday's session with only a microscopic gain. The unfolding distress in the American financial sector might not trouble the overall stock market immediately, but it is already troubling the financial stocks themselves. As the nearby chart illustrates, the KBW Mortgage Finance Index is sliding rapidly toward its lows for the year. 
That's good news for the Access Flex Bear High Yield Fund (AFBIX), a mutual fund that buys credit default swaps (CDSs). As we explained in several recent editions of the Rude Awakening, CDSs are exactly like insurance policies against a bond default. So if/as/when bond defaults become more likely - or SEEM more likely - the value of these "insurance policies" increases. We have no idea whether financial stocks ought to be sliding, or if the value of insurance policies against defaults ought to be rising…but they are. And that's just not a very encouraging sign for the overall stock market…or for the U.S. dollar…or for any other assets that combust near an open flame, as Dan Denning explains in the engaging column below. Dan, as the expansive thinker behind the Australian Daily Reckoning, expands upon some very disturbing - and timely - thoughts about the U.S. dollar…and a bunch of other interesting stuff. Read on… --- Free Market Investor Special Report --- Income + Growth + Safety = "An Immense Success" Get double-digits returns and income checks…from a secret and super-reliable "pension-payout plan" that's otherwise off-limits to everyday Americans… Details Here: Free Market Investor: Income Check Report -------------------------------------------- A Farewell to Dollars
By Dan Denning A perplexed reader writes: "Hi, I just started subscribing to your e-newsletter about a week or so ago. I think it is quite good, and I have recommended it to several people already. I notice, though, that it seems to devote a lot more time to the US than to Australia. I wonder if I have just caught an off week or if that is typical? If you do more on Aust. I would be interested to hear about how Aust. is fitting in with the Asian economies. Thanks. JM" The entire global boom quite literally begins in the iron ore of the Pilbara and the coal of Queensland. It's Australian resources that provide the raw materials for Chinese factories to crank out goods for American consumers. Aussie coal powers Japanse, Korean, and Chinese factories, too. The enabling agent in all of this is credit, which stimulates consumer demand to begin with. But in the physical scheme of things, Australia is the grand departure stage for the world's manufactured goods. We hadn't quite seen Australia in this light when we moved down in late 2005 to begin publishing a local version of the Daily Reckoning. The Daily Reckoning, or DR as it's known, is published in France, Germany, the UK, South Africa, Spain, and of course in the United States. Each local version is local in its own way, focusing on local stock markets and the problems investors have in their own country with their own currency and their own economy.
But the world is indeed round and incredibly integrated. Each country plays a different role in the global drama, with different strengths and weaknesses, different pitfalls and opportunities. The financial day starts, quite literally, in Sydney, moves to Tokyo, travels over the Silk Road through India to the oil fields in the Middle East, then that hedge fund haven in London, and on across the Atlantic to New York and Toronto, the mercantile exchange in Chicago, and also through the South American bolsas of Buenos Aires and Sao Paulo, and eventually back to Sydney where it all begins again. Round and round it goes…it never stops. The Daily Reckoning's founder - who's been writing every day, Monday through Friday, since 1999 - is Pennsylvania-born, Maryland-raised, Paris- dwelling, world-traveling publisher Bill Bonner. From the moment the Internet and e-mail made it possible, Bill began reckoning every day when. But more importantly, he realized continual analysis of the market - often a debunking of conventional wisdom and the mass manias that follow - was possible and pretty darn necessary in an age filled with so many financial frauds and con men. The whole thing has evolved from there, with a global cast of characters providing insights from their particular areas of expertise. Your editor was based in Europe during the last three years, but elected to move to Melbourne, after sensing all of the economic momentum (and opportunity) in the world was migrating East, away from North America and Europe and toward Australasia. So we moved to Australia almost two years ago and started up the Australian Daily Reckoning. There are now nearly 10,000 readers of our humble little missive. As for the focus on US events, well, much of what happens in the world today takes its lead from the consumption habits of the US consumer. So the fate of the American dollar, the impact of the implosion in the subprime mortgage market, the absurd contentions about money and energy emanating from the mouth of Ben Bernanke…these types of global events have local impact. You're also reading more about America this week because your editor, jet lagged and overfed, happens to be in North America right now, on a mini-investment conference tour, talking about Australian resource stocks to North American investors. That tour has brought us to Colorado and the National Fuel Cell Research Center, which is conveniently located about an hour from where we grew up, went to school, and enjoyed many a Rocky Mountain high (our home town, at the base of the Continental Divide, is at 2,286 metres). Back home, spending our old money, we realise all the dead presidents in our wallet are rather tired and not going as far as they used to. "We think the US dollar will continue to fall. But against what? That's the question," said Frank Trotter of Everbank a few days ago. "Whether you like it or not, everything still keys off the US dollar. Its fundamentals stick. Its yield advantage is strong against the yen, but weak against the pound, the euro, and the commodity currencies are kicking its butt. As bad as it's been for the buck, it'll get worse." What does this mean for the Aussie dollar and Aussie exporters? Well, it probably means parity, where one Aussie dollar buys you one US dollar. If you've ever wanted to visit the Grand Canyon, New York City, or see how a baseball game compares to cricket, now is the time. How soon will parity arrive? A year, maybe more. But before then, the dollar will probably lose even more value against physical things. And by things we mean tangible assets that are not currencies. Things like oil, gold, copper, zinc, lead, cotton, corn, wheat, orange juice, pinball machines, and paintings. What could screw it all up? Rising energy prices. Yesterday the International Energy Agency said the world's daily oil needs are growing, while the world's oil supply is not. "The IEA forecasts that the Organization of Petroleum Exporting Countries, the cartel that supplies more than 40% of the world's daily oil needs, will have little spare capacity left by 2012," reports today's Wall Street Journal. "Natural-gas markets also will be tight because of inadequate supply increases, limiting the ability of consumers to switch between oil and natural gas. Still, demand for oil and gas is expected to rise at a brisk pace in the next five years. It said global oil demand is projected to expand 2.2% a year, on average, reaching 95.8 million barrels a day by 2012, up from 86.13 million barrels a day this year. This forecast is based on global economic growth of about 4.5% annually. Oil demand is expected to increase most rapidly in Asia and the Middle East." Where is the extra nine million barrels of oil - per day! - going to come from, dear reader? Global production is already struggling to keep up with demand. It's one thing to say the world will need 95 million barrels of oil a day in five years. It's another thing altogether to find out if the world can actually produce 95 million barrels a day. Given the declining production at some of the biggest fields in the world and the lack of discovery of large reserves to replace producing assets, maybe it's time to consider the possibility that global oil production has peaked. We're on a bumpy plateau in which supply and demand are roughly in synch. But what's at the end of the plateau? That's a big fat unknown. From an investment perspective, we think it means a lot less oil use and an increase in a wide variety of alternative energy sources and technologies. That's the unconventional opportunity. Finally, some parting thoughts on the dollar: In the barter system, you could trade the products of your labor for the products of someone else's labor. This system worked up to a point. If you make something useful like bread, you can always trade it for shoes, clothes, wine, or a knife. But money as medium of exchange is a lot more useful than barter. As long as both parties agree on the value of the medium, the medium can be used to purchase anything in free exchange. The key is the mutual confidence in the value of the money. This, of course, is why gold has been around for so long. It's a pretty handy medium of exchange over time. It's supply is difficult to increase arbitrarily, which means it's value remains relatively constant over time. Good for consumers. Not as good for governments, which are fond of creating new money to pay for new wars and social programs. The US dollar is sliding inexorably toward intrinsic value - i.e. zero. That will be absolutely bad for dollar-denominated assets, and relatively good for gold. It will also be good for other paper currencies which are relatively more sound and stable than US dollar. Joel's Note: I don't know about pinball machines, but I've seen quite a few people multiply their wealth trading the other tangible assets Dan mentioned above - oil, gold, copper, zinc, lead, cotton, corn, wheat, orange juice etc. In fact, our very own resource trader, Kevin Kerr, wrote me the other day with news that, "We just grabbed remaining profits on our corn options for around %160 gains, just as the grains backed off due to the rain in the Midwest." If you're looking for somewhere to get those flailing dollars working for you, you might like to check out Kevin's trading service. His alerts, if you're interested, look something like this: Kevin Kerr's Resource Trader Alert - Silver Alert (Example Only) --------------------- Last Rude Word: Long-suffering readers of these humble pages will know that the decline of the dollar in relation to tangible assets is not a new beat for us. As Dan mentions above, Bill's been writing about this very interplay, Monday through Friday, since 1999. The question, Rude reader, is what can you, individual investor, do with this knowledge? Try asking your boss to shell out your paychecks in gold bars and see how well that goes over. Not likely. As it turns out, the Agora Financial editors have been working closely with an outfit known as EverBank. We discuss market trends, both long and short term, and try to come up with vehicles that allow you to back your combustible paper money with something more tangible, say gold or silver. Now, coming up this Tuesday (that's the 17th) we'll be announcing the release of a brand new MarketSafe Certificate of Deposit from EverBank that allows you to do just that. This particular CD tracks the spot price of silver, allowing you 100% of the potential upside while guaranteeing the full protection of your principal. We'll release more details as they come to hand but, in the meantime, look out for your 5-Minute Forecast arriving from Baltimore H.Q. shortly. Cheers, Joel | 
