1. Art and Diseño

January 2015
investmentbulletin
THE INVESTMENT BULLETIN IS ISSUED AS A MARKETING COMMUNICATION NOT A RESEARCH RECOMMENDATION
CURRENCY WARS
George Finlay Director
Obama recently addressed the nation to outline a new executive order that could allow
millions of illegal immigrants to remain in the US. Figures have been bandied about,
particularly by the Republicans, but the median findings suggest around 11m people
could be involved, of which 6m are from Mexico. The irony is that Mexico is itself having a
lot of trouble on its own borders.
Mexico is having a lot of trouble on
its own borders with Guatemala and
is now suffering a lot of criticism from
a number of Central American States
because of the ferocity of its largely
US financed clampdowns on border
activity. The pressure to migrate to
Mexico from Central American States
such as Honduras and the Dominican
Republic continues to build despite
the best efforts of the authorities,
both US and Mexican.
The disparity in wealth
coupled with the
knowledge created by
electronic media is just too
powerful a combination to
supress.
The domino theory resurrects itself.
But the disparity in wealth coupled
with the knowledge created by
electronic media is just too powerful
a combination to supress. Illegal
immigration will continue to multiply
and the skills and education of the
immigrant will increase, threatening
the employment of the traditional US
labour force. Despite the best efforts
of Homeland Security, which is now
apparently the fifth largest employer
in the US, this is a problem which will
not likely go away. More likely, it will
multiply, as will the queues at Miami
Airport to get through customs. Last
count, over one hour.
It is estimated that shale
oil states such as Dakota
and Texas have added
1.3m new jobs since the
beginning of 2008.
All this makes what has happened
to the shale industry in the US of
interest. The broad message to
investors at the moment remains
that the recent fall in the oil price
will have a favourable impact on
GDP growth, particularly in the US,
because of transport costs and auto
utilisation. But the reverse side of the
equation is job losses. It is estimated
that around 1m people work in the oil
and gas industry, adding some
$400 bn annually to the economy.
Shale is quite people intensive,
consisting of around 20,000 small
and medium size businesses. And for
every one person directly employed
in the industry, there is probably
one more employed in an oil related
business. It is estimated that shale
oil states such as Dakota and Texas
have added 1.3m new jobs since the
beginning of 2008. To put this into
perspective, the whole country has
added no more than 6m jobs since
2008. And the question remains what
sort of jobs are they?
The evidence suggests that the total
hours of all those working full-time in
the non-farm sector is below that of
2008 and is not growing so fast. This
signals part-time jobs, non-skilled,
fast food, tourism etc. Just the sort
of jobs likely to be taken by illegal
immigrants from Central America
via Mexico. In these circumstances
if the shale industry is indeed “taken
out” by the Saudi challenge, then
the US would start to look a lot
more like Europe in terms of the
The Investment Bulletin is issued as a marketing communication not a research recommendation
Risk Warning – Please be aware that the capital value of, and the income derived, from any market investment can go
down as well as up. Investors may not get back the original amount invested. Significant losses can be made even on
“low risk” investments. If you are not prepared to accept these risks to your capital please do not invest.
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investmentbulletin extent of its recovery since the 2008
crash. Certainly the idea that the
non-specialist labour force could
negotiate higher wages and therefore
create wage led inflation seems
highly unlikely.
Most people argue that QE has been
a benefit to those western economies
that embraced it. It provided some
breathing space for the banks
although there is little evidence
that it facilitated bank lending on a
meaningful scale. It certainly forced
up asset prices and those who
owned bonds, equities, property and
pictures not to forget antique cars
benefitted accordingly.
On the debit side, the social
divide widened, resulting in
calls for higher taxation on
the rich.
On the debit side, the social divide
widened, resulting in calls for
higher taxation on the rich. QE
also contributed to a rise in the
price of commodities, a tribute
to the warehouses full of copper
and other industrial metals still
sitting on the books of the Bank of
China and possibly even Standard
and Chartered. You could argue
that it forced up the price of oil,
remembering the very large crude
carriers storing speculative oil
tonnage for their owners and causing
congestion in the ports of Singapore
and Shanghai. You could say that,
however indirectly, such prices
encouraged much increased capacity
being built in the mining industry
so making the subsequent bust that
much bigger.
You could also argue that cheap
money created the shale industry.
The shale boom has been financed
by $450 bn of high yield bonds,
not yet junk bonds but at least one
fifth of the high yield market is, one
way or another energy related. As a
result, there is an accident waiting
January 2015
to happen with further potential job
losses, albeit this time in the financial
services industry.
All this suggests that the consensus
view of continued Dollar strength
throughout 2015 might be
challenged if the oil price falls to a
level which breaks the shale industry
and leads to big job losses as well
as debt write offs. Schlumberger, the
world’s largest oil services company,
has already signalled the loss of
13000 jobs. Companies announcing
job cuts and project delays recently
include BP, Royal Dutch Shell, Suncor
Energy and Premier Oil.
It is far too early to get much idea
of the impact of QE on the US and
UK economies. The Bank of England
started QE in March 2009 with an
initial spending target of £75 bn over
three months which very quickly
multiplied to £375 bn over the next
three years. A few months before the
US Federal Reserve initiated QE with
a $80 bn a month injection which
totalled $3.5 tn over five years.
Interest rates have been
effectively manipulated to
zero or minus levels as a
result of QE.
It has got to be a good idea that
interest rates have been effectively
manipulated to zero or minus levels
as a result of QE. Rising asset prices
do make people feel richer and does
encourage spending but it does have
the somewhat perverse effect of
reducing the pressure on politicians
to reform the structure of their
economies, reduce budget deficits
and make labour more competitive.
Although when economies recover
and interest rates normalise, getting
from a one per cent interest rate to a
normalised say five per cent interest
rate could pose some difficulties for
the equilibrium of markets. Thankfully
all this has been postponed as a
result of the collapse of oil prices.
If the oil price sits at $45 and stays
there, all industrial economies will
be experiencing some degree of
deflation, so real interest rates might
actually be on the rise and nominal
interest rates could actually still
fall. Certainly wage cost inflation is
most unlikely to bail anybody out.
Too much labour chasing too few
jobs. The big question relates to the
US Sovereign debt market and who
will continue to buy it in the event
that a serious recovery with some
inflation somehow takes hold and
interest rates start to rise towards
“normalised” levels. China’s appetite
for US Treasuries is on the wane.
The promotion of the renmimbi
as an international currency and
the change of policy towards a
consumption rather than an export
led economy has rather changed
the rules. China does not have to
finance US Sovereign bond issuance
any more now that it is no longer so
export dependent and it is now on
the lookout for higher returns much
more like a normal Sovereign fund,
buying property, power stations etc.
“We want to use our
reserves more constructively by investing in
development projects
rather than just reflexively
buying US Treasuries …
In any case we usually
lose money on Treasuries
… we need to improve
returns.”
A Senior Chinese Official
But in the immediate term, rising
rates should probably not be the
problem. As the recent fun and
games in Euroland imply, the
problem continues to be not inflation
and rising interest rates but deflation
and continuing falling interest rates.
The news on QE, Euroland style has
been well received. This must be
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investmentbulletin something to do with the sheer size
of the offering, being 60 bn Euros a
month for at least 19 months with
more to come in the event that
inflation is still under 2%. Wow!
A 1.1 tn Euro stimulus from “Super
Mario” Draghi.
But there is a very distinct difference
between the US/ UK style QE and
QE in Europe. Forget about the big
picture and have a look at the small
print. In the UK, QE is underwritten
by the Bank of England. No mucking
about. My word is my bond. In the
US, the same. The Federal Reserve is
the issuer, forget about the smaller
reserve banks scattered about
the regions. In the Euroland, the
mechanism is somewhat different.
Only 20% of any potential losses
which might result from Sovereign
bond purchases will be underwritten
by all 19 nations in the Euro block
which comprise the European
Union. Mr Draghi is vulnerable to
the massive concerns of the German
people that QE will remove market
pressure to reform non-performing
economies, which is why it is the local
central banks who will be responsible
for 80% of the debts incurred, if
indeed they are incurred during the
QE process.
The German approach
to the economies of both
Greece and Spain, which
is to lower their cost base,
reduce their budget deficits
and collapse wages, whilst
brutal, has been effective
Anybody looking at this from
Mars might well conclude that the
biggest contributor to the European
adventure had some serious doubts
as to the viability of the whole
project. Otherwise why would the
European Bank, unlike the US Fed or
the UK Bank of England not stand up
and be counted like a man. There are
distinct problems associated with
January 2015
the European Bank’s approach. It
could for example encourage fringe
economies to monetise debt rather
than pursue the path to reform.
Curiously the German approach to
the economies of both Greece and
Spain, which is to lower their cost
base, reduce their budget deficits
and collapse wages, whilst brutal, has
been effective and appears actually
to be working. The signs are that a
number of such “problem” economies
in peripheral Europe will experience
much stronger levels of GDP growth
this year.
However, for currency speculators,
it is clear that, in reality, Europe no
longer speaks with its own voice,
if it ever did. If the Central Bank of
Europe will not underwrite local
central banks in its own territories,
there is a fundamental lack of faith
in the idea of European Unity and
the European experience in general.
The cynics amongst the currency
speculators might even conclude that
the complex mechanisms revealed in
European style QE is very revealing
and might represent an attempt,
amongst other things to make the
Euro more competitive at a time
when worldwide demand seems to
be slowing.
If this is the case, then things kicked
off very nicely yesterday when the
Euro fell to its lowest level in eleven
years, falling nearly 2% against the
Dollar to $1.1405. But, at least for the
moment the Dollar seems to be all
conquering. Where the vulnerability
lies is surely in the Yen / Euro level.
Japan is getting increasingly serious
in its desire to collapse its currency. A
significant proportion of its exports
go to the European community.
These are clearly very big moves and
investors should be on the alert, just
in case they actually happen. Fighting
for your share of world trade by
“weaponising” your currency is very
tempting for nation states.
The Euro fell to its lowest
level in eleven years, falling
nearly 2% against the
Dollar to $1.1405.
You only have to look at the
increasing instability of the forex
world. Just the last week has seen
the Swiss abandon their currency
peg with the Euro and it has seen the
Central Bank of Denmark and Turkey
reduce interest rates in an attempt to
remain competitive against the Euro.
Turkey and Denmark and indeed
Switzerland are not big economies in
the scheme of things but they could
be a portent of things to come.
When nation states start to fine
investors for holding their currencies
on deposit, which is what effectively
is happening in Germany and
Switzerland, you know something
must be up. The cost of holding
another currency, gold, starts to look
increasingly attractive. It has certainly
proved a safe haven in previous
currency wars. However, as its critics
are fond of saying: gold has no
intrinsic value and you buy it or gold
producing companies at your peril.
George Finlay, Director
Recently the newly formed
Government has stated that it will do
more or less anything to achieve a 2%
inflation rate in 2016. This requires
a collapsed Yen something like 140
to the Dollar and a similar fall in
percentage terms against the Euro.
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investmentbulletin January 2015
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