Month: March 2012

By MoneyMorning.com.au

Ed Note: At “After America“, business futurist David Thomas made a strong case in favour of investing in the four BRIC nations. It’s an interesting idea but not everyone agrees. Investing in Russia, for example, has its dangers, as Martin Hutchinson points out.

The re-election of Vladimir Vladimirovich Putin means even more crony capitalism in Russia.

With Putin in power nothing will change.

In fact, it’s laughable that Russia is still even considered among the group of the world’s most glamorous emerging markets – otherwise known as the “BRICs.”

The truth is Russian prosperity will last only as long as the price of oil keeps rising by 25% a year, and not one second longer.

Of course, that hasn’t stopped one of Russia’s boosters, Moscow broker Prosperity Capital Management from claiming that Russia is the third fastest growing economy in the world.

But since Russian growth is only expected to be 3.2% in 2012, according to The Economist, Prosperity’s definition of the word “world” is as little suspect.

Presumably Prosperity is only including the wealthy countries, most of which are much richer than Russia and should be expected to grow more slowly.

The Economist actually ranks Russia 18th of the 58 countries it surveys, based on projected 2012 growth rate.

That looks reasonably impressive, until you realise that this modest growth is being achieved in a period of sharply rising oil prices. Oil is Russia’s largest export.

After all, one of the countries that beat Russia, with a 4.2% growth rate, is Venezuela. Needless to say, few people outside Hugo Chavez’ immediate family would claim that country was economically well run.

Apart from corruption and cronyism, Russia’s main problem is its state budget, which depends crucially on oil revenues and hence on the oil price.

Before 2008, its budget was balanced at an oil price of around $90 per barrel, already up from a break-even of $30 per barrel earlier in the decade. Now according to the Finance Ministry as reported in Atlantic Monthly, today the oil price must be $117 per barrel for Russia to balance its budget.

In reality, since Putin announced $260 billion of spending programs during the election, plus a defense program totaling $763 billion, the oil price needed for balancing next year’s budget is likely to be around $140 a barrel, rising continually thereafter.

Needless to say, the rest of the world is likely to be tipped into recession by any oil price that will make Russian budget managers happy.

In terms of oil, Russia is playing a game that will never add up.

What Russia Needs to Do Be One of the BRICs

Russia needs to diversify from energy into high-skill industries; after all it has a relatively well-educated workforce.

However, at present it’s going the other way. Energy exports have risen since 2000 from 45% to 69% of exports, while at the same time equipment and machinery exports have declined.

As well as this imbalance in the economy, Russia suffers badly from its corruption.

Russia ranked an appalling 143rd on Transparency International’s 2011 Corruption Perceptions Index, along with such trustworthy stalwarts as Nigeria and Belarus and well below Syria and Nicaragua.

It’s a long-standing problem, but in 2001 Russia ranked 79th, and in 2005 90th, which while not good were considerably more respectable.

While two other BRICs, India and China, can manage economic growth with fairly high corruption levels, Russia is currently well beyond the levels compatible with prosperity – except for the oligarchs extorting from the system.

Meanwhile, Russians themselves are voting, if not with their feet then with their rubles. Capital flight from Russia totaled $38 billion in the fourth quarter of 2011, and there is no sign of it slowing.

Putin’s Russian End Game

Whereas President Reagan had to undertake a very expensive defense buildup to defeat the USSR, taming Russia today is much simpler and cheaper: fire Ben Bernanke, and maybe free up offshore oil drilling and onshore oil fracking.

Once Bernanke is gone, and interest rates revert to a more normal level of around 5%, say 2% above today’s inflation rate of 3% or so (they may have to go higher if we delay) there will no longer be the cheap-money-driven upward pressure on commodity and energy prices.

If interest rates are allowed to move naturally, the price of oil will decline, because with $100 oil over the last few years, we have found gigantic new sources, especially through the development of fracking technology to extract oil and gas from shale.

In a very few years, possibly even within months, the re-imposition of normal interest rates would cause the oil price to decline to $50-60 a barrel, just enough to allow the most efficient tar sands and shale extraction companies to run at a profit.

And a bunch of very unpleasant regimes, notably those of Hugo Chavez and Vladimir Putin, will be left gasping for money, as their state budgets careen into bankruptcy.

Suddenly, $763 billion defense budgets will become completely unaffordable.

If Putin is not thrown out he will have to learn real economics, and allow the superbly educated Russian entrepreneurs (the real ones, not the billionaire crooks) to create engineering export giants.

Once that’s done, Russia will be a much happier and more stable society, and most of its oligarchs would be left only with their Swiss bank accounts.

At that point, and only at that point, will Russia be worth investing in.

Today, Russia remains a threat to the world, and a source of endless criminal activity. Putin’s election changes nothing.

How Russia is still one of the BRICs is mystery to me.

Martin Hutchinson
Global Investing Strategist, Money Morning (USA)

Publisher’s Note: This article originally appeared in Money Morning (USA)

The “After America” Archives…

‘After America’: The World Reset
2012-03-17 – Callum Newman

‘After America’: Threats and Opportunities
2012-03-16 – Callum Newman

China and The Revolution
2012-03-15 – Callum Newman

Cocktails and Central Banks
2012-03-14 – Callum Newman

Prelude to ‘After America’
2012-03-13 – Callum Newman

With Putin in Power it’s Laughable Russia is One of the BRICs

By MoneyMorning.com.au

After we reversed out of our driveway yesterday morning and over our limelight shrub (again) we noticed we only had a quarter of a tank of petrol.

As we drove past a couple of service stations, something became obvious. Petrol was almost $1.60 per litre. “We’re not paying that!” We said to ourselves. So we let our V8 cough and splutter its way to the Money Morning office here in St Kilda.

Yes – it’s getting too costly to travel. However, if history is anything to go by, high petrol prices could be giving you an important investment signal…

Oil Price to Fall?

Back in June 2008, petrol prices nudged $1.60 a litre in Melbourne before the crude oil price fell 71.73% from its peak. The knock-on effect didn’t take long. By November, petrol prices had dropped to $1.15.

But before you start watching the news every night for information on the oil price, know this…

The benchmark for Australian fuel prices is the Singaporean Tapis Crude Oil contract. And while the Tapis price is derived from the Brent Crude oil price, it’s always slightly higher because it includes the ‘cost of carry’. A fancy economic term that factors in the cost of storage and transport.

Currently, Tapis is trading at USD$133.80 per barrel, compared to Brent’s USD$124.24 per barrel.

So, let’s look at what happened last time petrol prices pushed above $1.50.

Between 29 May and 24 July 2008, the Melbourne petrol price was above $1.50. It peaked at 1.58 on 9 July.

Why the spike? Well, oil prices were high for several reasons: political risk, Middle East tension, terrorist risk and supply fears. Another reason was that investors were flocking to oil as a hedge against inflation and a weakening US dollar.

In fact, the US dollar Index was down 12% during this period… while the price of Brent crude was up 112%!

But not long after the oil price hit a high of $150.70 per barrel, it fell to $49.93 a barrel.

And it looks like the market is ready to fall again, with similar reasons as 2008 behind the fall.

You see, the dollar index is 4 % higher since November last year. As the US dollar gains some strength, the oil price will start to weaken.

And just as it warned 4 years ago, the Organisation of Petroleum Exporting Countries (OPEC) is worried about the impact of the higher oil price on developed economies.

Twice this year, OPEC has lowered its forecast for oil consumption. It dropped it to 88.76 million barrels per day (mbpd) in February. And less than a month later, it lowered it to 88.63 mbpd.

On top of that, OPEC reported non-OPEC members have increased production by 300,000 barrels a day. Meaning stockpiles are growing while use is declining.

The International Energy Agency is concerned the higher prices are already hurting developed economies. It said last week, ‘Demand growth will likely remain stunted by weaker economic prospects, the more so if prices stay high.’

Just like 2008, there’s some speculation at play. The Mexican standoff between Iran and the US is helping to sustain oil prices.

Even so, the current high petrol price could be your signal to get ready for a fall in oil prices. If we see a repeat of 2008, now could be the time to get ready for short selling crude oil.

Shae Smith
Editor, Money Weekend

The Most Important Story This Week…

Joseph Schumpeter, an Austrian economist once said: “Early in life I had three ambitions. I wanted to be the greatest economist in the world, the greatest horseman in Austria, and the best lover in Vienna. Well, I never became the greatest horseman in Austria.” His general fame in all areas has sadly fallen since his death in 1950. But his famous phrase lives on: “creative destruction”. His lesson was that at the edge of every economy are innovators ready to hijack the established way of doing things.

Today, with the headlines full of troubled news, it’s easy to forget these entrepreneurs are still there. These are the companies you want to discover. You can take a speculative position in them with the hope of making ten times (or more) your money. But which industry now? Maybe one of the oldest of them all – manufacturing. This story is not only fascinating but could be a trend to bet big on for the next decade, as it says in 3D Printing: How “Desktop Factories” Will Create the Next $1 Trillion Industry.

Other Highlights This Week…

Kris Sayce on Investing 2012: Property, Dividends and Warren Buffett: “Warren Buffett – the world’s greatest investor – wouldn’t be half the investor if it wasn’t for a quirk of fate. Until the start of the credit boom, Buffett was an average-to-good businessman. When the boom kicked off in the 1970s, he was simply in the right place at the right time.”

Aaron Tyrrell on How to Invest in the Fastest-Growing Energy Business of the 21st Century – Before it’s Worth $96.4 Billion Dollars: “Because, as you’ll soon see, this opportunity has nothing to do with buying the last of the beat-down uranium stocks from the ‘Fukushima Fire Sale’… Giving terrorists access to nuclear fuel… Or subjecting anyone, anywhere, to the risk of radiation poisoning.”

Shae Smith on A Surprising Way to Offset Your Electricity Bill Thanks to the Mining Tax: “Because brown coal can blow up for no reason, most power stations are located within a very short transporting distance from the coal… some companies have developed ways to press out brown coal’s high moisture content – the main reason behind the spontaneous combustion. But most importantly, it makes coal safe to transport.”

Dr. Alex Cowie on Oil Getting Ready For Its Next Rally: “The ‘Iran situation’ has been the tipping point, sending oil prices soaring. Iran was threatening to close the busiest oil-shipping waterway in the world, which would send oil prices above $200. But the real reason prices has climbed is that sanctions on Iran are biting, and they are exporting less oil. This leaves a gap in the market – which no one else can fill.”

Shah Gilani on how “Jerry Maguire” Waves Goodbye to Goldman Sachs and its Muppets: “There are always sacred cows at every firm that aren’t messed with and are treated with white gloves. Why? Because they’re either too big to lose, too lucrative to mess with, or too high profile to ever get into a pissing match with. As far as the rest of the clients?”

To End the Week…

Petrol Prices Peak Like it’s June 2008

This twelfth trading week of 2012 comes to a close with investors analyzing the latest housing data indicating that the housing market may be a long way from a recovery. Hi.

The past week in monetary policy saw 8 central banks announcing monetary policy decisions.  Of those that changed interest rate levels, Mauritius cut its rate -50bps to 4.90%, and Ukraine cut -25bps to 7.50%, while Iceland increased +25bps to 5.00%.  Those that held interest rates unchanged were: Nigeria 12.00%, Egypt 9.25%, Thailand 3.00%, Taiwan 1.875%, and Colombia 5.25%.  On the required reserves front, Egypt cut its banks required reserve ratio by 200 basis points, Ukraine also eased reserve requirements, and the People’s Bank of China selectively eased reserve requirements for 396 branches of the Agricultural Bank of China.

Looking at the central bank calendar, the week ahead sees the central banks of Israel, Hungary, Turkey, and South Africa meeting to review monetary policy settings. The base case would be for no change among all of these emerging market central banks. Elsewhere next week features speeches from Fed Chairman Ben Bernanke, ECB president Mario Draghi, Bank of Canada Governor, Mark Carney, and the Bank of England puts out its quarterly bulletin.

The Central Bank of Colombia held its monetary policy interest rate unchanged at 5.25%.  The Bank said [translated]: “The risks to inflation from expectations have moderated. Which may arise from the behavior of credit demand or remain. According to the present assessment of the balance of these risks, the Board decided to keep interest rate unchanged for intervention. The new information will enable new monetary policy actions to follow. The Board will continue careful monitoring of the international situation, behavioral, and projections of inflation, growth, behavior of asset markets and reiterated that monetary policy will depend the new information.”

The Central Bank of Colombia last hiked the rate 25 basis points at its January and February meetings this year, while its previous change was an increase of the interest rate by 25 basis points to 4.50% at its July monetary policy meeting, following a 25bp increase in June last year.  Colombia reported annual inflation of 3.55% in February, 3.6% in December, 3.96% in November, 3.73% in September, 3.27% in August, 3.42% in July, 3.23% in June, 3.02% in May, and 2.84% in April; which compares to the Bank’s inflation target of 3% (+/- 1%).

The National Bank of Ukraine cut its discount rate by 25 basis points to 7.50% from 7.75% previously. The bank also cut the rate for transactions backed by treasury bills and the rate for non-collateral transactions by the same margin to 8.50% and 10.50% respectively.  The bank also eased reserve requirements in order to boost lending to the real sector of the economy.  Ukraine reported inflation of 3% in February and 3.7% in January this year.  The Ukrainian economy grew 4.6% on an annual basis in the December quarter (6.6% in Q3, 3.8% in Q2).  Ukraine’s currency, the Ukrainian hryvnia (UAH), last traded around 8.03 against the US dollar.

By The Sizemore Letter

In an interview with Henry Blodget this week, Gary Shilling expained that the “Japan train wreck was accelerating.”

It is easy to dismiss Shilling as just another Japan doomsayer.  They have been plenty of analysts and money managers over the past 20 years who have forecast the country’s impending collapse, and yet Japan continues to muddle along.

You should listen to what Shilling has to say, however.  I covered many of Shilling’s points in an article earlier this year (see “Japan’s Endgame Nears“), and I agree with his basic premise: Once Japan has to access the international bond markets, the country is looking at a debt crisis that makes Europe’s look mild by comparison.   

Japan has been able to roll over its gargantuan debts–220% of GDP–because its large pool of domestic savers were willing to accept low yields in a deflationary environment.  International bond investors are not likely to be as generous.  Just look at the pressure faced by Italy and Spain last year–two countries whose sovereign debt loads are a fraction of Japan’s.

Take a look at what Shilling has to say:

If you cannot view the embedded video, please click here: Shilling on Japan

As an aside, I reviewed Shilling’s The Age of Deleveraging, and I highly recommend that you pick up a copy (see “Book Review: The Age of Deleveraging“).

 Shilling may prove to be early on Japan.  My own timeline on Japan’s demise is in the range of 1-5 years.  The fall in the yen’s value that Shiller highlights is not a warning signal in my view.  If anything, it is a sign of investor risk appetites returning; the yen had risen over the preceeding years due to the unwinding of the carry trade and a deleveraging of the financial sector.

The key in my view will be the 10-year Japanese bond yield.  When Japanese yields enter a prolonged rise, the game is up.  Japan will not be able to roll over its debts at an affordable rate, and Japan will be looking at a debt and currency crisis that would make the Greeks blush.

Keep an eye on the Japanese 10-year bond.

Coventry Health (CVH) was upgraded today by Goldman Sachs (GS) to buy from neutral with a price target of $42, as the firm believes that it is gaining market share in the public sector managed care business. Shares are about even in afternoon trading.

This is what’s in the news for Wednesday March 22, 2012. The Wall Street Journal reports the U.S. housing market is becoming less of a drag on the recovery as real estate markets show signs of life as falling prices spur buyer demand, lifting home sales and new construction. The Wall Street Journal also reports the boom in natural gas production has hit a new pressure point as the U.S. is running out of storage space. Reuters reports GM (NYSE:GM) will invest $1.04B in its Australian operations over the next decade after securing Australian government support to help it keep its auto plant open until at least 2022. Reuters also reports China’s economic momentum slowed in March as factory activity shrank for a fifth straight month, leaving investors concerned about the risks to global growth and anticipating new policy support from Beijing. Bloomberg reports Visa (NYSE:V) said China’s recent decision to let Citigroup (NYSE:C) issue credit cards may be the start of a broader market opening that will allow them to expand in the country. Finally, Bloomberg also reports Research in Motion (NASDAQ:RIMM) lost the top spot for smartphone shipments in Canada last year for the first time, trailing Apple’s (NASDAQ:AAPL) iPhone.

The Central Bank of the Republic of China (Taiwan) kept its discount rate unchanged at 1.875%, collateralized loan rate at 2.250% and unsecured loans rate at 4.125%.  Bank Governor, Perng Fai-nan, said: “On the domestic front, private investment was adversely affected by slack external demand that has weakened since the second half of last year. The Directorate-General of Budget, Accounting, and Statistics (DGBAS) forecast that in the year of 2012, the annual GDP growth rate of the first quarter would record a yearly low. However, the momentum is expected to gradually pick up in the subsequent quarters to expand by 3.85% in 2012 as a whole, slightly lower than last year’s 4.04%.”