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How Long Does a Crisis Really Affect the Market?

Posted on 20 January 2015 by Kris Sayce

If trouble comes in threes, we’re in for one more surprise.

Last week the market had to deal with the Swiss and the end of the currency peg.

Then yesterday, China’s CSI 300 index fell a whopping 7.7%.

What next? Is there more trouble on the horizon?

Of course, but if you try to pick the exact crisis and when, well, you’ve got better odds of winning the lotto jackpot…

The two events that have happened over the past week are what you can call ‘Black Swan’ events.

We won’t get into the theory behind it, but in simple terms, it’s a way of describing events that are almost entirely unpredictable.

Therefore, because something is unpredictable, it’s a fool’s errand to try and predict them.

Now, some may argue that these two events don’t quite fit the mould as ‘Black Swan’ events. You could argue that there was an element of predictability.

We’ll concede that. But we will make one other key point — no one did predict them.

And yet, for the past six years, market watchers have fallen over themselves trying to identify and predict big market-changing events, all to no avail. That’s because most market watchers are lazy.

They use the scattergun approach of predicting everything will cause a crash…but then still missing out on the events that do cause a crash.

Besides, when it comes down to it, stocks have had a pretty good run over the past six years.

Stocks boomed from 2009 through to mid-2010.

They boomed again from mid-2012 through to mid-2014.

That’s right, there are plenty of investors who have already forgotten about that boom.

Sure, it wasn’t as big as the US stock market boom. Aussie stocks only went up 32%, compared to the 58% gain for the US S&P 500 index.

But heck, we’re not complaining. Because if recent history is anything to go by, once the dust settles, stocks could be about to lift off again.

Quiz time: name the crisis

Look at this chart of the Aussie stock market for the past 10 years:

Source: Google Finance
Click to enlarge

To be quite honest, it’s hard to pinpoint a time when someone hasn’t predicted an impending crisis.

In fact, as time passes, one event seems to blur into another — when was the Dubai crisis? Or the Cyprus crisis? What about the European debt crisis? Can you accurately pinpoint them on that chart, without looking up the dates?

And let’s not forget the one that was really supposed to tip the world over the edge into war and depression, the stoush between Russia and Ukraine over Crimea. It may feel like a distant memory, but it was actually just about this time last year that all that kicked off.

Each time a so-called crisis has reared its head, the market has had a little tantrum, but then roared back as though nothing had happened.

So, does that mean there’s nothing to fear?

Not quite. There’s always something to fear. If folks didn’t worry about anything, then you’d always pay full price for a stock. That means, in a weird way, it should actually please you when the market has a hiccup like this.

Look, this isn’t the first time that the markets have gotten nervous about something, and it won’t be the last time.

Stating the obvious

So, what’s the big cause of this current ‘crisis’? There’s only one place to pin the blame: central banks.

The reality is that as long as central banks are involved in the markets, there will always be instability.

In an article for the Financial Times that somewhat states the obvious, fund manager Axel Merk notes:

Few pity the speculators who lost money when the Swiss franc surged last Thursday after the Swiss National Bank removed the ceiling it had imposed versus the euro since 2011. However, the ensuing rout in currency markets suggests central banks may have become a potentially destabilising force.

May have become’? Mr Merk is clearly a bit slow on the uptake when it comes to the involvement of central banks in an economy.

Central banks have been a destabilising force for centuries. Their main purpose is to destabilise, because it’s up to them to manipulate the markets on behalf of their paymaster — the government.

The problem with central banks is that they tend to lengthen periods of boom and bust activity. Take the 2000s as an example. When the US Federal Reserve kept interest rates low, it stoked the fires of a boom.

Low interest rates encouraged excess borrowing and risk taking. And because the Fed was worried about raising rates too quickly, in order to avoid stalling the boom, it meant the boom would turn into a bubble, which would eventually collapse.

The same scenario is playing out again now. Interest rates have been at a record low for more than six years. Commodity prices boomed, fuelled by low interest rates and money printing.

Both of those policies are, by their nature, destabilising. It’s only because central banks exist that you get those destabilising forces on such a grand scale — negative interest rates, and trillions of dollars of freshly printed money.

Profit first, trouble later

That’s destined to lead to trouble.

There’s no doubt that these reckless policies must lead to a sticky end.

However, as bad as things may look, it doesn’t mean the worst will happen right now.

In fact, the odds are that the market will keep on booming in the short term, because the central banks have barely gotten into their stride.

If you want proof, here’s another story from the Financial Times:

The European Central Bank will this week set out plans for an ambitious programme of sovereign bond buying, as the bank steps up its efforts to stave off deflation and boost the eurozone’s flagging economy.

Money printing won’t 100% guarantee a booming market, but it’s about as close to a dead certainty as you can get.

We know that because we’ve seen it happen before…and we’ve helped investors profit from it before. So has my colleague, Tim Dohrmann. This time, reports suggest the European Central Bank (ECB) is ready to print US$635 billion to supposedly revive the European economy.

Will it work? In the short term it will. But take note of what happened in Switzerland. When the central bank can no longer support a market, the market will crash. That happened to the euro, and it will happen to European stocks when the stimulus ends.

But that’s potentially in the future. For now, as long as the ECB prints, you can expect the markets to respond with higher prices. It’s a high risk investing strategy if you bet on more stimulus, but it’s also a strategy few can afford to miss.


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The Market is Bigger than Any One Central Bank

Posted on 20 January 2015 by Greg Canavan

After taking a few weeks off for R&R, I’m back and ready to go for 2015.

The common theme so far? Volatility. Get used to it, because it’s here to stay. The market may be up strongly early this week, but that’s just a reaction from last week’s hammering.

Aussie stocks are caught in so many cross-currents they don’t know which way to go. The benchmark index, the ASX 200, is well off last year’s highs and is pretty much at the same level as it was in late 2013.

If you’re a bull, the good news is that as long as the lows from mid-December and mid-October hold (which are in the 5,100 to 5,200 point range on the ASX 200), then there is still the possibility that the upward trend in prices will continue.

I’m bearish and have been for some time. But to confirm my view, the ASX 200 needs to break below the support levels mentioned above. Until then, the market continues to be in a volatile holding pattern.

But that doesn’t mean there aren’t good opportunities out there. The stock pick I made in the December issue of Sound Money. Sound Investments. is already up over 40%, and I don’t even consider it a highly speculative play. It’s just an undervalued company coming onto investors’ radars.

My mate Tim Dohrmann, who writes the Australian Small Cap Investigator, had a cracker last year with his stock picks and he’s ready to go in 2015 too. If things work out for his latest pick, Tim reckons the upside potential is in excess of 700%.

There’s also a very big name behind this tiny company. You can read about Tim’s latest investment idea here.

While day-to-day market volatility makes for interesting viewing, it can detract from focusing on some big picture forces. So today’s article will take a step back from the noise and look at what’s going on in a broader sense.

The Swiss National Bank’s shock decision last week gives us a big clue.

As you probably know, the Swiss Central bank ended their euro peg experiment last week, which ended in massive losses for many FX traders.

The important point to keep in mind is that this isn’t an isolated event. The Swiss pegged the franc to the euro in 2011 to help maintain competitiveness. To do so, they had to buy massive amounts of euro debt to offset the flood of safe-haven money coming into the country.

With the first blast of euro QE (debt monetisation) likely coming this week, the Swiss realised that they would need to buy a whole bunch more euro debt just to maintain the peg. Doing so would end up costing the Swiss a huge amount of money, as the peg is effectively a Swiss subsidisation of the Eurozone.

Actually, it’s already cost them a bundle, and they didn’t want to get in any deeper.

So what clue does the Swiss move give us?

Well, it’s all about capital flowing around the world looking for safety. And the safe spots are getting fewer and fewer. Europe’s grand currency union looks shaky. Japan is hell-bent on devaluation to help revive its long suffering economy.

That leaves the US dollar as the only genuine safe-haven currency. It means capital will continue to flow towards the dollar, but this trend will have disastrous consequences.

Why? Because the US dollar is a global currency. Many nations have pegged their currencies to the dollar in an attempt to gain currency stability and respectability.

But the last thing anyone wants is a strong currency in this global environment of weak demand. So as the US dollar continues to strengthen, it will hobble many other nations.

This big picture trend has major implications for Australia. Perhaps the biggest currency peg in the world is the yuan/US dollar peg. For China to maintain this peg, it must buy huge amounts of US dollars. That’s why its FX reserves are massive at nearly US$4 trillion. 

But there are flow on effects. Maintaining currency pegs when there is a fundamental difference between the value of the currencies involved leads to other market distortions.

In Switzerland’s case, trying to peg the franc to the euro led to a blow out in FX reserves and a destabilising property boom. Pretty much the same thing happened in China.

If currency values were left to the market, and not to politicians, you would not get such destabilising reserve build-ups or asset price booms. The yuan/US dollar peg is one of the reasons China’s economy is so imbalanced.

As the US dollar continues to strengthen, my prediction is that China will have to abandon the peg. What the ramifications of this will be I don’t yet know.

It’s likely to have some major implications for the US treasury market as China holds a huge amount of the outstanding stock of US debt. I don’t think it will happen for a while yet, but the chances are that it will happen.

When it does, expect ever greater amounts of volatility in currency and asset markets.

In fact, you can expect increasing volatility from now on, thanks again to last week’s action of the Swiss central bank.

More than anything, the decision to end the peg was a big blow to confidence. That is, confidence in central bankers to maintain control. The fact that the Swiss made the decision out of the blue meant big losses for many players.

The market just isn’t used to, and doesn’t like, central banks that don’t telegraph their moves months and weeks ahead of time. It will certainly create some nervousness in the future and mean fewer speculators take a central bank at its word, especially if the economics of a certain policy look dubious.

The point is, the market is bigger than any one central bank. Market forces will eventually overwhelm any central bank erected barriers — and those betting with the bank will lose big time.

In the language of the market, these players are ‘picking up pennies in front of a steamroller’.

So is this a crack in the central bank confidence game? It certainly is. The only question is whether the damage is limited or whether things start to deteriorate quickly from here.

We’ll find out as the year unfolds.

But for now, the message is this:

The whole post-1971 financial architecture is breaking apart. The euro project is in real trouble, and as the US dollar strengthens because of it, the global dollar pegs (China, other parts of Asia and the Middle East) will fall by the wayside too. Eventually, the deflationary effect of a strong US dollar will claim the US economy too.

By that stage we’ll have to start all over again with a new monetary system. But that’s still a few years into the future. And a story for another day…


Greg Canavan,
Editor, Sound Money. Sound Investments.

Ed Note: The above article was originally published in The Daily Reckoning.

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<a href="http://www.moneymorning.com.au/category/financial-system/banks-and-interest-rates/central-banks" title="More on central banks"><strong>Central banks</strong></a> see deflation (and recession) as enemy number one. Since 1980, they’ve used up all their <a href="http://www.moneymorning.com.au/category/financial-system/banks-and-interest-rates" title="More on banks and interest rates"><strong>interest rate</strong></a> ammunition.

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Recessions in a Zero Interest Rate Environment

Posted on 30 December 2014 by Bernd Struben

Dear Reader,

Port Phillip Publishing is closed for the holidays from 25 December until 1 January. After a well-deserved break, the team will be back at work on 2 January to deliver you their unique take on the financial markets and global events. 2015 looks set to be one of the most interesting years in Aussie history, and we look forward to bringing you all the news you won’t read anywhere else.

For the holiday period we’ve collected some of the best articles of 2014, taken from all of our free e-letters: Money Morning, The Daily Reckoning, Pursuit of Happiness, and Tech Insider. Some of the articles were chosen because of their insight, others because they were so darned controversial we just had to print them again. For the next week and a half, we hope you enjoy your trip down Memory Lane with these classic ‘best-of’ editions of our free daily newsletters.

Wishing you a Merry Christmas and Happy New Year,

Bernd Struben,
Managing Editor, Port Phillip Publishing


The Descent of Everything

Greg Canavan, Melbourne, Australia,
Originally Published 26 August in The Daily Reckoning

The mind boggles at how utterly clueless politicians are. Driving to the office through foggy Melbourne streets this morning, I was listening to News Radio. The host was waiting for Tony Abbott to start a press conference, where he was apparently going to announce some important new counter-terrorism funding and measures.

Then I thought back to last year when Syria’s Assad government was enemy number one. It crossed Obama’s ‘red line’ and the West wanted to take it out (primarily because it was afraid of an alliance between Syria, Iraq and Iran, which would upset the regions’ dominant power, Saudi Arabia).

But democracy got in the way (mass protests in Britain and the US), so the next best thing was to encourage and arm the ‘rebel’ fighters battling against Assad’s evil regime.

As it turned out, many of these ‘rebels’ were members of the Islamic State (IS), that medieval bunch of religious zealots now running amok through half of Syria and Iraq.

Why has IS’ rise been so dramatic and effective? Because they’ve been trained and armed by the US…with help from Saudi Arabia. Unfortunately, IS weren’t content to just try to take out the Assad government. They saw an opportunity to spread their influence in Iraq too.

And now here we are, with Tony Abbott using the time honoured threat of ‘terrorism’ to chip away at our freedoms. We shouldn’t be involved in the region, full stop…yet, we heard a politician on the radio this morning saying he would endorse Aussie air strikes in the region.

Did he endorse using IS as the main destabilising force in Syria, too?

Politics has descended to such a state in the West that the people running the show are completely out of their depth. War and economic vulnerability are the result.

This is why we called our investment conference, held in March this year, World War D. It was an attempt to encapsulate the descent of everything into some type of war…either real, cyber or economic.

If you missed the actual event, you can now watch a recording. Click here to find out more.

Part of the reason for the general descent of everything is because the dominant global power, the United States, is losing its grip. The balance of power in the world is slowly but surely changing.

But you wouldn’t know it by looking at the S&P 500! The index gave the headline writers an easy job overnight by breaching the 2,000 level for the first time. It didn’t cooperate fully, though, and closed just below that level, at the not so round number of 1,997.92.

Is the ongoing market melt-up a sign of strength or a sign of weakness? On the surface, it’s a good thing. Increasing stock prices represent underlying economic strength, right? Unfortunately, not this time around.

Increasing stock prices represent the market’s rational response to irrational central bank policy. That is, by pushing yields as low as possible on fixed income assets like bonds, central banks force investors into higher risk assets like equities.

The latest excuse for a rally came on the back of Mario Draghi’s speech at Jackson Hole, the place where central bankers meet at the end of each northern summer. Draghi apparently signalled that European QE could be on the table soon, especially given that inflation expectations remain so low in the region. Didn’t he say the same thing last month?

The prospect of more money printing in Europe offset the prospect of less money printing in the US…and markets duly rallied.

Despite Draghi handing out a bit of sugar, I think the imminent end to US QE will be a bigger deal for markets. Which brings me to the point I made yesterday; that is, with interest rates so low and the Fed in such control, can another recession ever occur?

It sounds like a stupid question. In fact, it is a stupid question. Of course recessions will occur in the future.

If that’s the case, why are central bankers so afraid of them?

The answer is simple. In an economy weighed down by debt, recessions are lethal. That’s because a recession increases the risk of deflation.

So what, you may ask?

Well, when nominal interest rates are near zero, deflation actually represents an increase in the REAL interest rate. Therefore, recession coupled with deflation means tighter monetary conditions for the economy in question. This is exactly the opposite of what central bankers try to do in a recession.

That’s why central banks see deflation (and recession) as enemy number one. Since 1980, they’ve used up all their interest rate ammunition. To see what I mean, here’s the chart from yesterday again.

As you can see, every post-1980 recession resulted in lower interest rates. Now, we’ve hit rock bottom. Having a recession when you’re already at rock bottom would be disastrous. It would actually result in rising real rates, and an even deeper recession.

In highly indebted economies, recessions hit hard and are not easy to recover from. No one — neither central bankers nor politicians — want that on their watch. This is why ‘can-kicking’ is such a popular policy tool. Make it someone else’s problem.

So yes, we can certainly have a recession in a zero interest rate environment…and we certainly will at some point. But our ruling elite will fight it tooth and nail first.

This is why the stock market continues to rise on every central banker’s utterance. As long as the economy keeps its head above water (and out of recession), the threat of deflation in the real economy only leads to greater inflation in the financial economy.

Confused? Think of it like a see-saw. As central bankers push down on interest rates and compress risk premiums, stock markets soar higher.

A recession would upset this delicate imbalance, because it would lead to defaults and smash confidence. And everyone knows that banking and modern day financial markets have descended into one giant con game.

On a final note for today, a warning for retirees…the government is coming for you. The Financial Review reports:

Only a fraction of Australia’s ¬half-a-million self-managed super¬annuation funds pay any income tax, experts say, because of generous super concessions and franking credits that are undermining the federal budget.

Tax Office statistics show almost 300,000 self-managed superannuation funds eliminated or reduced their tax bills through exemptions on super and $2.5 billion in franking credits in 2011-12. These are the most recent records available, although experts say the surge in dividend payments since then has further reduced the small amounts of tax paid by these funds, which are often the primary income of wealthy retirees.

If you’ve provided for your own retirement and are not seeking a government handout, you are now a ‘wealthy retiree’. Beware…the taxman cometh.


Greg Canavan
Port Phillip Publishing

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On the ballot is a measure to force the <a href="http://www.moneymorning.com.au/category/financial-system/banks-and-interest-rates/central-banks" title="More on central banks"><strong>Swiss National Bank (SNB)</strong></a> to build its <a href="http://www.moneymorning.com.au/category/gold-and-silver/gold/gold-bullion" title="More on gold bullion"><strong>gold bullion</strong></a> position up to at least 20% of total assets.

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D-Day is Coming for Gold… Will You Be Ready?

Posted on 26 November 2014 by Tim Dohrmann

When you think of Switzerland, what comes to mind?

Rolling meadows? Sweet chocolate? Tax avoidance?

Switzerland offers all those features and more. But here’s a phrase you might have to add to your list: ‘potential financial avalanche trigger’.

The mainstream media has lulled most Aussies into thinking only one vote is taking place this weekend — the Victorian state election. But on the other side of the world, a much bigger game is about to hit its climax.

The sorry squabble between Victoria’s Labor and Liberal parties is chump change compared to Sunday’s Swiss clash.

This weekend could irrevocably alter the course of the global financial markets. We’ll show you the potential outcomes, how you can avoid the fallout, and how you could clean up on the rebound…

On Sunday 30 November, the Swiss people will go to the polls to vote on three separate proposals: an immigration cap, abolishing friendly tax rules for rich foreigners residing in the country, and a new mandate for the Swiss National Bank (SNB).

Today we’ll focus on the third proposal, because it could have the strongest effect on the Aussie stock market. On the ballot is a measure to force the Swiss National Bank (SNB) to build its gold bullion position up to at least 20% of total assets. What’s more, a ‘yes’ vote would prohibit the SNB from selling any gold — and would bring all Swiss gold currently overseas back to the landlocked nation.

Right now, gold makes up 8% of the SNB’s assets. For a central bank with more than US$600 billion of assets, shifting that allocation up to 20% is not a trivial change. So this referendum is a big deal for Switzerland.

It’s hard to imagine any Aussie political party coaxing voters to the polls on matters of central bank policy. They know that impinging on the average Aussie’s weekend with this stuff would go down like a lead balloon. But recent polling shows that Switzerland’s ‘yes’ vote has a real chance of getting up on Sunday.

So what has driven the Swiss to a referendum about gold?

Surface tension

People across the Western world — not just in Switzerland — are getting fed up with central bank policy. The US Federal Reserve, European Central Bank and the Banks of Japan and England have printed so much money over the past few years that they’ve made Scrooge McDuck look like a pauper.

Since the global financial panic six years ago, bureaucrats have tightened their grip over the financial markets. Central bankers now use their policy tools as weapons to inflict economic pain on the rest of the world. These attitudes are unprecedented — and with trillions of dollars at stake, the outcomes are potentially hazardous.

On top of that, most ordinary people have no idea what central banks are really doing. They just have a gnawing sense that the economic system is working against their best interests. But gold gives an impression of permanent, intrinsic value.

‘Gold bugs’ have harnessed that feeling into a political force in Switzerland. They view a ‘yes’ vote on Sunday as the first step on a journey back to a currency linked to the price of gold.

The conventional wisdom suggests a ‘yes’ vote on Sunday would create a permanent bid for physical gold, and put a rocket under the commodity’s value. But we don’t see things that way…

The real game

Although those billion-dollar figures might sound impressive, the reality is that physical gold trade is less than a sideshow compared to the total market for the yellow metal. Futures, options and other gold-linked derivatives dwarf the demand for actual bars of gold. This kind of simple trade represents less than 2% of the gold market.

A ‘yes’ vote might force the SNB to buy up to 1,500 tonnes of physical gold to meet the 20% threshold. That new demand could put a floor under the gold price. But the demand would spread itself over the five years the SNB would have to meet the target. Based on the World Gold Council’s estimates, buying 300 tonnes of gold each year until 2019 could add around 7% to annual global demand for the physical commodity.

But remember that demand for the physical metal is only a small driver of the overall gold market. It’s wrong to assume a ‘yes’ vote will send the gold price skyrocketing.

On the other hand, a ‘no’ vote will break the spirit of ‘gold bugs’ around the world. They have positioned themselves for a surge in the gold price after this week. A ‘no’ vote would negate that trade idea…and there’s no telling how many gold speculators could rush to reverse their long gold positions at the same time. That would be bearish in the short term for a commodity that has already significantly declined in price over the past few months.

Weighing the risks, our view on gold is bearish. That’s been our resource analyst Jason Stevenson’s position for some time, and his view has been the right one. It never hurts to own a little of the metal as part of a diversified investment portfolio…but the dreams of gold bugs fail to recognise reality.

Central banks are not showing any signs of weakening their vice-like grip over the financial markets. That means if you want to invest for success, you have to play their twisted game. That means as long as the officials are doing everything in their power to keep interest rates low — you should be buying stocks to reap the rewards.


Tim Dohrmann,
Editor, Money Morning

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It’s been a great time to be a stock market <a href="http://www.moneymorning.com.au/category/investments/investment-strategy" title="More on investment strategy"><strong>investor</strong></a> — not just for individuals, but also for companies. Healthy <a href="http://www.moneymorning.com.au/category/stock-market/stocks-and-bonds" title="More on stocks and bonds"><strong>stock prices</strong></a> have encouraged acquisitive companies...

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Catching This Stock Fever Could Make You Rich

Posted on 19 November 2014 by Tim Dohrmann

‘Stock fever’ has gripped the capital markets. But you wouldn’t know it by reading the headlines.

The mainstream press loves it when prices tumble. Falls in the price of iron ore, coal and oil give them an excuse to run stories wailing about the billions ‘wiped off’ the wealth of companies and investors.

We can’t blame those journos for highlighting negative stories. That stuff sells newspapers.

But out in the real world, stock prices are hot to trot. And behind closed doors, dealmakers are using those prices to create billions of dollars of wealth out of thin air.

Following the money trail could lead you to some big stock market gains…

The thin-air wealth creation we’re talking about comes from mergers and acquisitions (M&A).

Companies around the world are experiencing an uncontrollable surge of the urge to merge.

The conditions have been perfect. Stock prices have been high and borrowing costs have been ultra-low.

Overnight, US stocks in the S&P 500 [INDEXSP:INX] index notched a fresh record high. Positive economic data from Germany buoyed investors — and at the same time, inflation in Europe and the US remains benign. That gives central banks very little incentive to raise interest rates off the rock-bottom levels they have plumbed for several years.

It’s been a great time to be a stock market investor — not just for individuals, but also for companies. Healthy stock prices have encouraged acquisitive companies to make ‘scrip bids’ for targets.

A scrip bid is a takeover offer where the suitor offers shares in its company partly or entirely in place of cash. If a target company’s shareholders accept such a bid, those holders receive shares in the new merged entity.

These kinds of bids can indicate that a suitor company views its own stock price as ‘frothy’. Companies are mindful that scrip bids can send that negative message to the market — but at the same time, if they can make a case for boosting profits by cheaply swallowing a smaller competitor, the market can take the message positively. It’s a balancing act.

More companies are choosing to walk that tightrope this year than at any time since 2007. Global M&A has just burst through US$3 trillion for the first time since the financial crisis. The value of deals this year has exploded by 27%.

A pair of giant tie-ups in the US pushed the volume of deals past that mark. In the biggest deal of 2014, maker of generic drugs Actavis plc [NYSE:ACT] has just agreed to buy Botox maker Allergan Inc [NYSE:AGN] for an eye-watering US$66 billion. And in the energy sector, Halliburton Company [NYSE:HAL] has snatched up its oil-services peer Baker Hughes Incorporated [NYSE: BHI] for a comparatively modest US$34.6 billion.

Closer to home, a number of sharks are circling Ten Network Holdings Ltd [ASX:TEN] as the TV network shows signs of recovery off a low base.

The more conservative elements of the mainstream media are pointing to this M&A activity as a sign of a peaking market. We don’t buy that. We can understand what drives that mindset. but it doesn’t mean they will be proven right…

The dice are loaded

Central banks around the world have encouraged this behaviour. When you load the dice in favour of risk-taking — as the banks have done for years now — of course companies will take advantage.

Most criticism of big-ticket mergers rests on what might happen if interest rates go up. If companies like Actavis or Halliburton find that their cost of capital rises, then the earnings of their newly acquired subsidiaries may not grow quickly enough to cover that cost of capital.

But the central banks don’t just play this game — they write the rules. And right now the rulebook says ‘keep rates low’. Despite what bearish pundits have insisted about what is ‘inevitably’ going to change next year, the policy-makers are not showing any signs of changing course.

And why would they? Inflation is low and unemployment is higher than it should be. The central banks will continue to encourage companies to take risks and borrow money next year — safe in the knowledge that if things go a little pear-shaped, they can always print more money to ease investors’ fears.

That means the M&A train will keep rolling. Whether you can profit more by holding shares in an M&A suitor or target is a question for another day…but for now, the surging confidence of the capital markets looks like good news for stocks.


Tim Dohrmann,
Editor, Money Morning

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But when <a href="http://www.moneymorning.com.au/stock-market" title="More on the stock market"><strong>the market</strong></a> deals the cards, it’s up to you as an <a href="http://www.moneymorning.com.au/category/investments/investment-strategy" title="More on investment strategy"><strong>investor</strong></a> to play the best hand you can out of those cards.

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We May Not Like the Game, But We’re Not Folding This Hand

Posted on 03 September 2014 by Kris Sayce

Oil down.

Gold down.

Stocks fell too…but not too much.

With everything going on in Russia, Ukraine, and Iraq, we have to wonder why the traditional ‘fear assets’ of gold and oil haven’t skyrocketed.

And why haven’t stocks fallen in a heap?

There’s a simple answer. The crazy central bank policies of low interest rates and money printing are ‘working’…

We know the claim that the policies are working will cause howls of protest from some readers
But listen up. We’ll explain what we mean.

When we say the policies are ‘working’, we mean that they’re slowly having the impact that the central bankers want.

It means that economies are beginning to grow again (slowly) and that people are borrowing again. That’s what the governments and central banks wanted.

And, slowly, they’re getting it.

That doesn’t mean we agree with those policies, because we don’t. In our view, the money printing and low interest rate policies are madness. Didn’t their mothers ever tell them that money doesn’t grow on trees?

But when the market deals the cards, it’s up to you as an investor to play the best hand you can out of those cards. And by not taking part in this market it would be like folding on a hand with four aces…you just wouldn’t do it.

This is how it has always been

The important thing to remember is that the current economic set-up isn’t so different to how things were for the previous 100 years.

Given the opportunity, governments and central banks have always printed money.

It’s just that today they do so completely in the open.

That’s why so many people think that what’s happening today is so unusual. But it’s not.

Why do you think inflation took off in the 1970s, through the 1980s and right up to the 2007 crash? It was due to the steady stream of new money that central banks fed into the economy.

It was the creation of new money by banks in the form of loans to buy houses.

When a bank only has to hold two cents in cash for every dollar it has on deposit, it’s no wonder they’re so keen to create as much new debt as possible.

That behaviour continues now. As the Australian reports today:

The latest example of reckless lending comes after the Australian Prudential Regulation Authority released data this week that showed a record 43 per cent of loans in the June quarter were ­interest-only loans as investors took advantage of low interest rates and rising house prices.

It makes you think, doesn’t it?

Interest rates are at record lows, and yet borrowers still can’t afford to repay principal and interest.

Of course, there’s a reason for that.

Making the most of cheap money

Every home buyer always wants to know the maximum amount they can borrow.

It’s never a question of how much they should borrow. It’s how much they can borrow.

The simple reason for that is the obsession with buying houses in the belief that house prices always go up.

The more you can borrow, the bigger the profit when you sell. And many buyers are happy to pay interest only because they figure that if they get into a pickle they’ll just sell the house at a profit anyway.

It’s a win-win situation!

That’s what many think anyway…until they get into a real pickle.

But when will that happen? As long as interest rates stay low, even those up to their neck in debt should muddle through.

When rates start to rise…it will be a different story.

But low interest rates are here to stay for the foreseeable future. And as long as they stay low, it will encourage folks to borrow as much as they can.

And it’s not just home owners. Look at the example of Spain. It has just issued 50-year bonds at a face value of one billion euros.

It managed to lock in a 4% interest rate on that debt.

Why wouldn’t Spain keep doing that as long as there were buyers?

It’s just another boom

This is the story that’s playing out in the stock market too.

Investors are slowly coming round to the idea that they don’t need to worry about the end of the US Federal Reserve’s bond buying program.

They’ve seen the ease with which the European Central Bank can announce plans for further stimulus, and the positive impact it has had on stocks.

So what if the Fed plans to stop its bond buying program? Everyone knows it will launch another stimulus or money printing plan as soon as the market starts to complain.

That’s why we’re playing the hand the market has dealt us to the best of our ability. It means taking advantage of the cheap money and money printing.

It means buying stocks as more money flows into the economy, creating inflation and boosting stock prices.

As with every inflationary boom, it won’t last forever. But the previous boom had a pretty good run. It ran from the mid-1970s through to 2007.

That’s around 30 years. The current leg of the inflationary boom has barely lasted six years. Sure, there’s no guarantee that it will last forever, but flip it around. There’s no guarantee it will collapse tomorrow either.

The message is simple: Don’t bet your life savings on this market; it’s too risky. But if you don’t have some exposure to high growth assets, you really are missing out on the chance to buy into a boom that could last for another decade or more.


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Something that many hyperinflationists still don’t realise. <a href="http://www.moneymorning.com.au/category/financial-system/inflation-and-deflation" title="More on inflation"><strong>Hyperinflation</strong></a> is only a danger if an economy operates a dual <a href="http://www.moneymorning.com.au/category/financial-system/currency-market" title="More on currencies"><strong>currency</strong></a> system.

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The Three Steps to Avoiding Hyperinflation

Posted on 25 August 2014 by Kris Sayce

Sometimes even contrarians like to know that we’re part of a crowd.

It’s true.

For the most part we like being on our own.

We don’t like the herd mentality. Or rather, we don’t like joining in on the herd mentality.

If we get in first and then a herd develops behind us, that’s just fine.

It happened when we were among the first to back a tiny natural gas stock two years ago, only for the herd to follow. And now it’s happening to something on a much bigger scale.

Do you hear the rumbling? The herd is growing…

We don’t mind admitting that sometimes we get things wrong.

For instance, take interest rates and inflation. Back from 2008 to 2010 we were firmly in the hyperinflation camp.

It just seemed so obvious. If governments print money, it has to result in hyperinflation. It would be just like in Civil War America, Weimar Germany, and Zimbabwe.

But then we realised something. It was something that many hyperinflationists still don’t realise. Hyperinflation is only a danger if an economy operates a dual currency system.

So as long as a government can control three key areas, hyperinflation as you understand it, won’t happen.

Governments in control

So, what are the three areas?

To avoid hyperinflation the government needs to:

  1. Centrally control the currency through legal tender
  2. Ensure that a black market in an alternative currency doesn’t develop
  3. Hope that all other governments and central banks increase their money supply at a similar pace

These are key points. Yet few people get it. In the most famous cases of hyperinflation, it could only happen because the government couldn’t influence or control these points.

In the case of the hyperinflation during the American Civil War and Weimar Germany, it took hold because the government issued two classes of currency — one backed by gold and another backed by the word of the government.

Needless to say the currency with gold backing became more valuable than the other currency. This led to rampant price rises and the devaluation of the non-gold-backed currency.

In the case of Zimbabwe, it was because people preferred to use US dollars. So when the government began printing more Zimbabwe dollars, the public tried to get rid of them as quickly as possible.

The more the government printed of them, the less the public wanted them.

In the West today this doesn’t exist. Today, legal tender laws make it hard for people to use other currencies. They know they can only use their local currency. There is little or no desire for Australians, Americans or Europeans to use anything but their domestic currency.

As long as it stays that way, central banks know they can keep printing and creating more money to keep interest rates at record lows.

This is why for nearly four years we’ve pushed the idea that interest rates are staying low and could go even lower. We’re not the only one to think that. We’ve got a big-hitting international economist on our side too.

Which will come first?

One of the keynote speakers at our March World War D conference was world-renowned economist Jim Rickards.

He’s written a book called The Death of Money: The Coming Collapse of the International Monetary System.

As Mr Rickards writes in the book:

‘The Death of Money is about the demise of the dollar. By extension, it is also about the potential collapse of the international monetary system because, if confidence in the dollar is lost, no other currency stands ready to take its place as the world’s reserve currency.

The question is how the demise of the dollar will happen. Will people lose confidence in the US dollar, leading to a collapse in the whole monetary system? Or will people lose confidence in all other currencies first, before finally losing confidence in the US dollar?

No one knows the answer just yet.

The far more important issue is what will happen with interest rates. As we’ve pointed out many times, contrary to what you read in the mainstream, interest rates aren’t going anywhere.

They certainly aren’t going up. As for staying where they are or going lower, that’s a different story. Interest rates are staying low, and Jim Rickards agrees.

Rates are zero forever

Rickards posted this comment on his Twitter feed late last week:

He’s right. Rickards explained everything at World War D.

Those were also the same people who said the stock market would crash and bond yields would soar as soon as the US Federal Reserve started to cut its monthly bond-buying program.

We told you at the time to ignore that junk. We hope you listened.

It was just over a year ago that the markets started to talk about the ‘tapering’ of the Fed’s bond-buying. The story was that if the Fed cut this program it would kill the market.

Only it didn’t. Over the past year, the US S&P 500 index is up 19.5%.

Why? Because gradually investors realise that this era of low interest rates won’t end anytime soon. Faced with the choice of tiny deposit rates at the bank or a much healthier looking dividend yield on stocks, investors are going for the latter.

We can’t blame them either.

Rickards is saying exactly the same thing that we’ve said. This is a low interest rate market. Governments and central banks know they have to do all they can to keep interest rates low to avoid a repeat of the 2008 crash.

And so as long as interest rates stay low, it means good news for stocks. We’re not saying we agree with this terrible manipulation of money and interest rates, but as long as it’s happening, we intend on finding every possible way to help you profit from it.


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The market knows the <a href="http://www.moneymorning.com.au/category/financial-system/banks-and-interest-rates/the-federal-reserve" title="More on the US Federal Reserve"><strong>Federal Reserve</strong></a> (and every other central bank) will jump back into the <a href="http://www.moneymorning.com.au/stock-market" title="More on the stock market"><strong>stock market</strong></a> at the slightest sign of trouble.

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How the Stock Market Scores on the ‘Crash Scale’

Posted on 18 August 2014 by Kris Sayce

Well, that appears to be another imminent crash threat that has come and gone.

It’s not the done thing to say, ‘We were right.’

But we were. So we’ll say it. We were right.

The Australian share market is now almost back to where it was on 31 July. That was the market’s highest point in six years.

And for the year the Aussie market is up 4%.

It’s not a stunning return, but it’s hardly a complete fizzer either. Not only that, but it’s a poke in the eye for those who claim the stock market is at the top of a bubble.

It’s not. In fact, according to a team of US analysts in a report from earlier this year, stocks only show two out of the nine characteristics you’ll normally find in a bubbly market…

The Financial Times explained the research in March this year:

In a checklist of nine factors that it says in 2000 and 2007 signalled a peak for equities, [research firm] Strategas says only two are currently flashing red today.

One is rising real interest rates — as shown by meek inflation and 10-year Treasury yields near 2.80 per cent.

The other is weakening upward earnings revisions.

In bad news for crash watchers, it seems that since then, there is now only one of the signals flashing red.

Front-running returns

Since March US interest rates have continued to fall. As the following chart shows, the trend in the US 10-year bond rate is clearly heading down:

Source: Bloomberg
Click to enlarge

The above chart is a five-year chart. You can see that interest rates began going up in May last year. That was when the market started to worry about the US Federal Reserve tapering its bond-buying program.

But now that the taper is in full effect, the market has realised that it doesn’t really make a difference. The market knows the Fed (and every other central bank) will jump back into the market at the slightest sign of trouble.

That’s why you’re seeing interest rates fall. Big investors know the current bond-buying program is about to end. Logically that should mean interest rates would go up.

Except, if investors figure that another program will soon be on the cards, they plan to buy bonds now in expectation of yields slumping back to record lows in the near term.

And because bond yields move inversely to bond prices, it means that those investors would get a nice capital gain on their bonds.

Who said front-running the Federal Reserve was a dead strategy?

So with only one out of nine top-of-the-market signals flashing red, what does it say about today’s market?

Don’t sell at the wrong time

The simple answer is that stocks aren’t currently in a bubble.

So the latest ‘crash alert’ was exactly what we said it was — a false alarm.

These false alarms are becoming a regular event. The market goes on a nice run, and then something happens out of the blue that causes markets to go into a meltdown.

Novice investors sell out in a panic just as stocks hit the low point. Then the stock market rebounds, and the same novice investors buy back in…missing out on the gains.

But those are the lucky ones.

The unlucky ones are the investors who sell in a panic and are then too scared to buy back in at all. So not only do they miss the rebound rally, but they miss the ongoing rally too.

They’re waiting…waiting for the crash they believe is inevitable. Except it isn’t.

Why selling could harm your portfolio

OK, we’ll qualify that. All crashes are inevitable. The stock market never goes up in a straight line.

But if they’re waiting for the crash to happen in the near future, they’re in for a big disappointment.

Crashes don’t happen when everyone expects them to happen. They happen when no one expects them to happen. They happen when investors start believing that a crash can’t happen — because this bull market is different to other bull markets…this one is sustainable forever.

When we hear folks saying that, that’s when we’ll start to sound the alarm.

But so far we haven’t heard anyone say that. Most investors are on edge. They’re still worried about the last crash, fearing another boom and bust will happen again.

That’s why so many get scared when irrelevant events in Russia, Iraq, Ukraine, China and Europe hit the front pages.

They remember the 50% fall in 2008 and want to make sure the next crash doesn’t catch them unawares.

The sad thing is, by shifting in and out of the stock market, they could be doing their portfolio more harm than good. For a start they’re racking up commission charges.

Second, they may be triggering capital gains tax liabilities. Third, they could inadvertently miss out on ex-dividend dates for a stock that’s about to go ex-dividend.

And fourth, there’s no guarantee that when they buy back in they’ll buy at a price that makes the whole thing worthwhile.

In short, keep your eyes peeled for an event or events that could cause stocks to crash. But for the sake of your wealth, avoid the temptation to let every non-story panic you into selling stocks.

Despite the fear campaign, this market still has a long way to run.


PS: I covered the idea of ‘fake crises’ at the World War D conference earlier this year in Melbourne. It was a cracking event. If you didn’t attend, the good news is we recorded the presentations. This week we’ll let you know how to get your hands on a copy of the footage. Stay tuned. In the meantime, today you’ll find an article on fracking from another of the keynote speakers at World War D, international resources and military technology expert Byron King.

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