THE WORLD IS DELEVERAGING
Easy money has disappeared worldwide. This event favors certain classes of investments globally, and penalizes others.
FOR THE NEXT SEVERAL YEARS:
AVOID LEVERAGED ASSET CLASSES
1. Financial stocks, including stock brokers, banks, mortgage lenders, insurance companies, and real estate
2. Highly leveraged businesses, and companies who grow by acquisition.
3. Avoid leveraged markets which are tied to leveraged economies that must borrow to grow. For example, the U.S. and Europe plus other countries with balance of trade deficits and balance of payments deficits.
FAVOR UNLEVERED, SELF FINANCING MARKETS, ECONOMIES AND COMPANIES
Favor countries where they have positive cash flow and big savings, for example, the Middle East, and China.
Favor industries which generate cash internally without borrowing a great deal.
TRUST NEEDS TO BE RESTORED
A recent article in the Wall Street Journal entitled “For World’s Bankers, Trust Becomes a Rare Commodity.” The article points out which banks are viewed with suspicion by their peers. This is not a commentary about the article. This note is about Trust.
Trust is the lynchpin of the current financial turmoil, and lack of trust is the thing, more than any other variable, that is creating the possibility of a worldwide depression.
J.P. MORGAN, THE MAN
The famous J.P. Morgan engineered a bailout of the U.S. banking system early in the 20th century based upon his ability to dominate the leading bankers of the day into dealing with each other and with their customers. When bank runs were taking place at the major banks of the day, some bankers would not lend and were hoarding capital and thus exposing all banks to failure. J.P. Morgan enforced his will and made the banks lend to one another. He further told them to steadily pay out to all those depositors who wanted to take their money out of the banks, and he made sure that all the banks with money loaned it to those who were solvent but illiquid. After a few days, the lines around the banks disappeared and the system had been saved.
J.P. Morgan’s strength and foresight saved the U.S. banking system. Is there anyone who is as strong and solid today?
The U.S. government and other major central governments should take this role. They must act to create a market in mortgage bonds. Currently, no one is able to value certain mortgage bonds because liquidity has dried up. Governments are in a position to create a market and restore liquidity…let us hope that they do not stall too long. Usually, I would favor free markets to solve this kind of problem, but the situation is past that point. Statesman-like leadership exited the financial markets a long time ago. Now governments must inflate away the problem and work to create markets.
We see inflation as the probable outcome.
WILL CENTRAL BANKS WORK TOGETHER TO RESTORE TRUST? WILL IT HAPPEN THIS WEEK?
Late news as of Saturday afternoon March 22, 2008 was that the Bank of England, the U.S. Federal Reserve and the European Central banks were said to be in talks to possibly buy mortgage backed securities and thus stabilize the markets for mortgage bonds.
WE EXPECT A BIG RALLY IN STOCKS as the pressure has been lifted by talk of the big three central banks (U.S., Europe, and U.K.) bailing out the system by purchasing mortgage bonds. We have noticed over the decades that trial balloons are floated before announcements take place. Financial stocks may rally but it is just short covering.
The length of the rally depends upon whether the central banks or their parent governments actually do make a market and bring stability to the pricing of mortgages and their associated derivatives.
We are participating in the rally. We will watch and see if important bond market steadiness ensues. If it does, the rally will continue. If not, there are more market declines ahead.
We prefer investments that have gotten cheap as a result of the big market declines, but that have visible and defensible demand for their products or services.
Gold, silver, agriculture related stocks and base metals are getting a correction…which thrills us. We plan to use declines to add to positions. Energy is early in its correction stage, so we will wait longer before adding to our energy positions. China and Hong Kong have had good declines, and this attracts us. India still appears overpriced. A few other countries appear attractive. Within the U.S., Brazil, Australia, and Europe; we plan to buy companies that serve the growth of Asia.
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