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Book Review: Currency Wars

Submitted by Rick McCallister on January 7, 2012

Currency Wars

James Rickards

Portfolio/Penguin

5 out of 5 Stars

For a couple of years now, I’ve enjoyed listening to James Rickards in podcast interviews. So when his book came out, Currency Wars, I was excited to pick up a copy. I was not disappointed – this is a great book!

Rickards splits the book into three parts. In the first, he tells a story of some actual war games put on by the Department of Defense. These were the first war games that the DoD held to model what a financial war might look like. In part two, Rickards walks the reader through the history of what he calls Currency War 1 (1921-1936), Currency War 2 (1967-1987), and the start of Currency War 3 (2010-). In the third part, he gives us his perspective on the current crisis and the possible endgames.

This book is timely reading, and I recommend it to everyone. In my opinion, Rickards’ analysis is spot on. If you doubt that we’re in the midst of a currency war, think about the U.S. reaction to China’s peg to the dollar, or the recent decline of the Euro, the Swiss Central Bank’s recent pledge to set a minimum exchange rate to the Euro, and Japan’s constant intervention in the currency market. The list goes on and on. Then reflect on this quote from the introduction:

“At best, currency wars offer the sorry spectacle of countries stealing growth from trading partners. At worst, they degenerate into sequential bouts of inflation, recession, retaliation and actual violence as the scramble for resources leads to invasion and war.”

That isn’t hyperbole; it is history. If you have an interest in understanding what’s happening in the world politically and economically and where events may be headed, this book is a must read.

Book Review: Boomerang: Travels in the New Third World

Submitted by Rick McCallister on December 23, 2011

Boomerang: Travels in the New Third World

Michael Lewis (author)

Dylan Baker (reader)

W.W. Norton & Company

5 out of 5 Stars

This is a review of the audiobook version of Boomerang. In the book, Lewis takes the reader through a “tour” of Iceland, Greece, Ireland, Germany, and California, and tells the story of how each location entered, handled, and is in the process of trying to exit the financial crisis. He traveled to each country and interviewed a variety of players in each location.

Apparently, each section of the book was already published as an article in Vanity Fair. However, I found the behind-the-scenes stories fascinating to listen to and really enjoyed some of the inside stories provided by his interviews. Baker was easy to listen to and I enjoyed his style.

The book contained some vulgarity that some folks may find offensive, especially in the chapter on Germany. Lewis also generalizes a great deal in the search for some underlying “truth” about each country that could explain why they all got into the situation they did. I remain unconvinced that his oversimplifications and stereotypes are correct, but that doesn’t really take away from the quality of the book, the stories, or the information it provides.

I highly recommend the audiobook, and if you prefer reading, I am certain that this book is a quick and easy read.

Economic Framework and Financial Market Outlook

Submitted by Rick McCallister on December 27, 2011

One of my go to professionals for economic information is Tom Nugent, Chief Investment Officer for PlanMember Securities Corporation. Many clients have portfolio's managed by PlanMember, Tom and his team.

Tom has just released his quarterly "Economic Framework, Financial Market Outlook and Portfolio Strategy" report, titled "A Period of Uncertainty." Recommended reading. Read it here.

Book Review: Trade Your Way to Financial Freedom

Submitted by Rick McCallister on November 17, 2011

Trade Your Way to Financial Freedom
Van K. Tharp
McGraw-Hill
4 out of 5 Stars

Trade Your Way to Financial Freedom, as the title implies, isn’t for the long-term investor, but for those who trade or want to trade financial instruments such as stocks, options or futures. As is so common with books in this genre, the title is designed to sell books rather than accurately describe the contents. The reader will not walk away from the book ready to be financially free, but will come away with some new ideas on how to trade.

The book is broken into three parts. The first talks about basic trader psychology and biases, the second and third parts go over trading systems and, finally, the fourth section contains the vaunted chapter 14 – position sizing. One of the things that Tharp is known for (and talks about throughout his book) is his view on position sizing. Chapter 14 is good, and alone it is worth the price of the book. Although I did not find anything particularly new in the chapter, it’s a very nice summary of the ways in which one can size one’s positions in a trading account.

For those interested in trading, I recommend this book. While I wouldn’t call it a classic, it is a “must-read” for traders. Van Tharp is a well-known figure in trading circles, and although he isn’t a trader himself, he is a trading coach and psychologist. As such, I think there may be more value in the psychological aspects that he discusses than some of the technical aspects of trading. Still, he has met great traders and discussed systems with them during his career, so even the technical aspects provide worthwhile information for the reader.

Rick McCallister
November 15, 2011

Inflation is Here!

Submitted by Rick McCallister on November 2, 2011

Source: U.S. Bureau of Labor Statistics

A simple glance at the chart above reveals an alarming growth in the rate of inflation through 2011, with inflation for September coming in at 3.9%.

Inflation is insidious. I hear from clients all the time about how their budgets are getting squeezed. They don’t have the money available to do the things they used to do, or buy the things they used to buy. They know something is wrong, but they can’t quite put their finger on it. The problem is inflation. If they haven’t received a 3.9% increase in income over the last year, they simply can’t buy what they used to.

Inflation causes you to lose purchasing power without even knowing it. The average 12-month CD currently pays 0.73%, according to bankrate.com. If you have $10,000 in the bank earning 0.73%, at the end of the year you would have $10,073. So you earned $73 in interest – hardly enough for a nice dinner for your family. But with inflation at 3.9%, you would have lost $392.80 in purchasing power! Compound that over 10 years and your bank account will have $10,754 in it, but that money can only buy $7,335 worth of goods!

I am concerned about inflation, and I think every investor should be concerned about inflation, too. So if you are worried, what can you do about it?

Do not keep all of your money in fixed rate accounts (meaning bank accounts, fixed annuities, bonds, etc.).
Diversify some of your investments into vehicles that give you the opportunity to keep up with inflation (I’ll list some of these below).
If you have a pension or expect to benefit from one, pay very close attention to how your cost of living adjustments (if any) work.
Pay off, and do not take on any more, variable rate loans (i.e., credit cards and home equity lines of credit).
If you’re a renter, consider buying a home and lock in a low, fixed-rate mortgage.
Spend less than you bring in.

What types of investments might you consider if you want to own inflation hedges? Typically, these are real assets – such as land, commodities, or precious metals (gold/silver). Treasury Inflation Protected Securities, i-bonds, or floating rate bank loans are other avenues that provide some protection against inflation. Natural resource stocks are something to consider. The overall stock market provides something of a hedge against inflation, historically better than fixed rate alternatives such as annuities or bonds, but stocks do not always perform well during inflationary periods.

You should also consider diversifying internationally, and move some of your money out of the dollar. Inflation means that the value of the dollar is depreciating. Investing internationally can help protect you against that risk.

Unfortunately, the unstable economic period we’re in extends internationally as well. The more you know about what is happening in Europe and Greece, the more unnerving the situation can be. Nonetheless, diversification overseas is important as I believe that we are going to see a weak dollar and inflation accelerate, if not immediately, then over the longer term.

Proper diversification of your investments requires that you not put everything into one basket, including inflation-hedging investments. Keeping some of your money in the typical safer accounts, such as banks, annuities, and bonds, is also important. You should consider having some of your investments in vehicles that aren’t correlated with your other investments, or with inflation. This could include such things as managed futures mutual funds, or merger arbitrage mutual funds, long/short mutual funds, etc. That is a discussion for another time.

Diversify. Pay attention. Be patient.

Before investing carefully read the prospectus(es) which contain information about investment objectives, risks, charges, expenses and other information all of which should be carefully considered before investing. For current prospectus(es) call (800) 874-6910. Investing involves risk. The investment return and principal value will fluctuate and, when redeemed, the investment may be worth more or less than the original purchase price. Mutual funds and money market funds are not insured nor guaranteed by the Federal Deposit Insurance Corporation or any other government agency. Although money market funds seek to preserve the value of $1 per share, it is possible to lose money by investing in these funds. Asset allocation or the use of an investment advisor cannot ensure a profit nor guarantee against loss.

How Does Greece Impact Me?

Submitted by Rick McCallister on October 13th, 2011

The article below, that I found on Peter Montoya's website, is a nice summary of what is happening in Greece. Greece's economy is only about the size of Connecticut. So why should we care?

The issue is twofold. Many of the major banks hold a lot of Greek debt. Greece is likely to default, and without intervention, those banks would likely go under. Think 2008 again. Second and even bigger, is that Italy, Spain, Ireland and Portugal have similar problems. Especially if Italy or Spain were to default, the ramifications would be enormous. Somehow, the Europeans need to find a way to allow a Greek default without blowing up their banks and encouraging Italy or Spain to default on their own debt. It is a very, very difficult problem. On to the article:

HOW does greece impact me?

Is it all negative, or are there opportunities to consider because of the crisis?

Many economists think a Greek default is inevitable. As we enter 4Q 2011, Greece has a debt-to-GDP ratio of about 160% (and that percentage is rising). While Greece accounts for less than 3% of Eurozone GDP, ripples from a Greek default could strain the European banking sector and global financial markets.^1,7

Struggling for the best worst-case scenario.Greece is redoing its financial system, but it is still facing one of five potential (and painful) outcomes.

Greece renegotiates its debts & forces its lenders into write-offs.Many Greek banks are nationalized; Greece endures a long recession.

Greece can’t renegotiate its debts.It sinks into a multi-year depression exacerbated by additional austerity measures.
Greece rejects further austerity cuts recommended by the EU.A standoff with the International Monetary Fund and European Central Bank results; the ECB and IMF blink and continue bailout payments to Greece; Italy and Spain see the way Greece made the ECB and IMF cave in and later wrestle the ECB and IMF into submission in the same way; Germany gets frustrated with all this and ditches the euro.
Greece rejects more austerity cuts & the EU stops bailout payments.Civil unrest jeopardizes the country. Its banks close; its public services halt. The CIA has advised that a coup may occur in Greece in such a scenario.
Greece lapses into a banking/cash flow crisis & leaves the euro.This is the “doomsday” scenario. Assume #4 occurs with Greece also electing to go back to the drachma. That could mean a run on Greek banks, and then Spanish and Italian banks. A return to the drachma could mean frozen borrowing for Italy and Spain and possibly lead to insolvency for major banks in Europe. Picture 17 nations trying to agree on and quickly implement an EU version of TARP. Havoc could result for stocks and the global economy.²

This all sounds very gloomy, but prospects may emerge from the gloom.

A(nother) golden opportunity? In the event Greece defaults, the search for safe havens could mean a quick flight to gold. If a Greek bailout succeeds, there may still be fiscal instability among EU members, and presumably an easy monetary policy fostering loose credit. If Greece defaults, then you could see big drops in the spot prices of currencies plus some competitive devaluation. All of this could make gold look very, very good.

On the other hand, if true systemic risk hits global markets, investment banks and hedge funds might need capital fast – and gold is easily liquidated. So a gold selloff could also possibly occur if the situation becomes dire.

What about Treasuries & the dollar?Treasuries remain popular, and demand for them could jump after a Greek default. What other choices do central banks have if they want to shop around for a stable, readily available, reasonably liquid investment? The euro is hardly a rival to the greenback right now.

How about emerging markets?Here is another option. The BRICs and some of the other emerging-market nations have managed to ride out the recent volatility fairly well – there has been some “decoupling”, if you will.⁸No one is saying these markets would be immune from a continental banking crisis or a flight from stocks, but you have to concede that emerging markets have the capability for independent behavior.

Would it still be worthwhile to own blue chips?Keep in mind that the Dow did not fall to 4,000 after the Lehman Bros. and Washington Mutual failures and the initial rejection of TARP by Congress. Stocks did pull out of that plunge, and spectacularly so; bargains abounded, for that matter. So it might certainly be worthwhile to hold onto stocks in the coming months, especially as some European governments have hinted at possible capital injections for banks if the need arises. On September 13, German chancellor Angela Merkel noted that the EU would not let Greece fall into “uncontrolled insolvency” and reports surfaced of China getting ready to purchase Greek debt. Treasury Secretary Timothy Geithner even got involved in the search for solutions in mid-September.³

Europe’s biggest private lenders may be deemed “too big to fail” by the EU and ECB, and if unwinding of any financial institutions is needed, the authorities should do everything within their reach to try and make it gradual.

It could be that Wall Street has already priced in a Greek default and will just wince, not stumble, at its confirmation – assuming the news arrives with more inevitability than frenzy.

The biggest fear of all: contagion.Italy and Spain may be “too big to fail” in the eyes of the EU and IMF, but they also face big debt problems. Standard & Poor’s cut Italy’s credit rating to ‘A’ in September; Moody’s Investors Service is weighing downgrades for Italy and Spain before November.^4,5

How diversified are you? These debt issues in Europe may linger for years.With the market so volatile, don’t forget the wisdom of having a diversely allocated portfolio.

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