Fw: Risk/Reward Vol. 83
TO: 2 recipients
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THIS IS NOT INVESTMENT OR TAX ADVICE. IT IS A PERSONAL REFLECTION ON INVESTING. RELY ON NOTHING STATED HEREIN.
"Now that you're gone, all that's left is a band of gold
All that's left of the dreams I hold is a band of gold."---Lyrics from "Band of Gold" by Freda Payne
'Relax' said the night man 'We are programmed to receive
You can check out anytime you like, but you can never leave"---Lyrics from "Hotel California" by The Eagles
"Moral hazard is any situation in which one person makes the decision about how much risk to take while someone else bears the cost if things go badly." Paul Krugman, Nobel laureate and NYTimes contributor on the 2008-2009 financial crisis
"The wind in the willow played love's sweet melody
But all of those vows you made were not meant to be."---Lyrics from "Blueberry Hill" by Fats Domino
For those that looked to the Swiss franc as a safe haven from the relentless devaluation of the dollar and the Euro, I feel your Payne. It now appears that "all that's left" that is not subject to autocratic debasement is a "band of gold" (or perhaps shares in GLD). Allow me to explain.
As discussed in last week's edition (available at http://riskrewardblog.blogspot.com ) both the U.S. and the Eurozone are not-so-quietly devaluing their currencies in what has proven to be a futile effort to spur growth and to pay back monstrous amounts of sovereign debt in cheapened dollars and Euros. Indeed, as predicted last week, the European Central Bank (ECB), the Eurozone's equivalent to the Federal Reserve, signaled on Thursday that, come October, it will likely lower interest rates thus making even cheaper Euros available to all stakeholders. This announcement, the sudden resignation on Friday of a German ECB board member who dissented on the ECB's purchase of Greek bonds, and anxiety about the financial health of Europe in general caused the Euro to continue its devaluation against virtually every other currency-- even the dollar. (My investment in the double short Euro etf, EUO, has appreciated over 11% in 10 days!). In recent weeks, one popular means by which investors have sought protection from Euro devaluation has been the purchase of Swiss francs, heretofore a paragon of stability. Indeed, between the beginning of July and mid August the Euro dropped as much as 16% in relation to the Swiss franc with 1 Euro being worth only 1.03 Swiss francs on August 9. This market driven appreciation ended on September 7, 2011 when one man, the president of the Swiss central bank, announced his intention to buy as many Euros as necessary to restore the benchmark exchange rate of 1.20 Swiss francs to 1 Euro, thereby devaluing the Swiss franc by 8% in ONE DAY. Is anyone else out there bothered by these arbitrary exertions of power by unelected central bankers? (Oops, I am beginning to sound like Rick Perry or should I say Andrew Jackson).
Lamentations aside, what this proves to me is that there is only one "currency" that is beyond the reach of central bankers---GOLD. Although it is no longer recognized "officially" as a currency, it sits as the cornerstone of foreign exchange in the vaults of most countries. In the US, the depositories at Fort Knox and in New York hold over 8,000 tons of gold. The world's central banks are net BUYERS , not sellers, of gold. Moreover, the peoples of the world (Chinese, Indians, Greeks, Cheeseheads) are buying gold like crazy in order to hedge against the onslaught of currency devaluation and other forms of inflation. I bought GLD in August, 2010 at $117 and it closed on Friday at $180, a 62% gain. I have sold and repurchased GLD positions since, most recently buying some this week on a dip.
Question: Does anyone believe that the situation in Europe (which clearly is depressing stock markets worldwide) will improve BEFORE it gets worse?
Answer: NO, not even Europe's leaders. Under the treaties that created the Euro, no member country can withdraw or be expelled. REALLY? Yes, really. You can never leave! Welcome to the Hotel California. There are few, if any, sanctions at all that the member states can visit on countries like Greece, Portugal and Italy who have borrowed well beyond each's capacity to repay. Is it not obvious that some time soon, Greece, whose economy shrunk 7% in the second quarter alone, will play its ultimate card: namely, it will refuse to acquiesce in the demands for more austerity, knowing full well that the consequences of its default are much more dire for those that hold its debt (read, the banks of Europe) than for its population? That inevitable result is the very definition of MORAL HAZARD. This is so obvious that the Dutch Prime Minister wrote an editorial Thursday in the Financial Times calling for a Eurozone treaty change that would give sanctioning power to a central authority to oversee and if necessary expel a recalcitrant Eurozone member. But, alas, it's a bit too late.
WHAT IS AN INDIVIDUAL INVESTOR TO DO? Many have fled to U.S. Treasury securities. On July 29th, I went to cash which I have 1) parked in several FDIC insured accounts 2) used to purchase gold and 3) used to short the Euro (which should not be done by anyone who is not diligent about his holdings on a daily basis). I did not and will not put any funds into any money market account that is not FDIC insured, and many are not. According to Fitch, the rating agency, US money market funds have more than $1trillion of direct exposure to European banks, a shockingly large percentage of their overall assets. It is these same European banks that own 45% of the troubled European sovereign debt and which may themselves be undercapitalized by $1trillion. What would happen to US money market funds if European banks failed? HOLY (FATS) DOMINO EFFECT!! Talk about things that "were not meant to be". A word to the wise: make sure any money market account you own is FDIC insured.
Despite the tone of my past few emails, I am not apocalyptic. But, I will not be stupid either--at least not on purpose. I take seriously the admonition given this week by noted investor George Soros who said that the European sovereign debt crisis has the potential to be much worse than that begun by the Lehman Brothers bankruptcy in 2008. I want to re-enter the market, but not until I receive some encouraging news.
P.S. For those still in the market, I marvel at how steady the preferred shares of the Bermuda insurers such as MRHpA, ENHpB, AHTpE and PREpE have remained during these bumpy days, while continuing to pay 7+% in dividends. I will own these again someday, I am sure. My current hesitation arises from my uncertainty as to how much of their capital is invested in European banks and sovereign debt, traditional repositories for insurance company reserves.
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