Economic Analysis from John Mauldin
- Tue, 19 Aug 2014 21:28:00 +0000: AI, Robotics, and the Future of Jobs - Mauldin Newsletters
This past week several reports came across my desk highlighting both the good news and the bad news about the future of automation and robotics. There are those who think that automation and robotics are going to be a massive destroyer of jobs and others who think that in general humans respond to shifts in employment opportunities by creating new opportunities. As I’ve noted more than once, in the 1970s (as it seemed that our jobs were disappearing, never to return), the correct answer to...
- Sat, 16 Aug 2014 02:21:00 +0000: Bubbles, Bubbles Everywhere - Mauldin Newsletters
The difference between genius and stupidity is that genius has its limits. – Albert Einstein Genius is a rising stock market. – John Kenneth Galbraith Any plan conceived in moderation must fail when circumstances are set in extremes. – Prince Metternich I'm forever blowing bubbles, Pretty bubbles in the air They fly so high, nearly reach the sky, Then like my dreams they fade and die Fortune's always hiding, I've looked everywhere I'm forever blowing bubbles, Pretty bubbles in the...
- Wed, 13 Aug 2014 17:09:00 +0000: Low and Expanding Risk Premiums Are the Root of Abrupt Market Losses - Mauldin Newsletters
Risk premiums. I don’t know anyone who seriously maintains that risk premiums are anywhere close to normal. They more closely resemble what we see just before a major bear market kicks in. Which doesn’t mean that they can’t become further compressed. My good friend John Hussman certainly wouldn’t argue for such a state of affairs, and this week for our Outside the Box we let John talk about risk premiums. Hussman is the founder and manager of the eponymous Hussman Funds, at...
- Mon, 11 Aug 2014 10:24:00 +0000: Transformation or Bust, Part 2 - Mauldin Newsletters
In last week’s Thoughts from the Frontline (“Transformation or Bust”), my young colleague Worth Wray and I continued our groundbreaking series exploring the risks posed by China’s rapid private sector debt growth and its consumption-repressing, investment-heavy growth model that is quickly running out of steam. China is the true conundrum in the global economy. It is an outlier in the history of development, with no true analogues. And while there is much to be appreciative of and admired...
- Wed, 06 Aug 2014 18:22:00 +0000: Money: How the Destruction of the Dollar Threatens the Global Economy - Mauldin Newsletters
Forbes Editor-in-Chief and longtime friend Steve Forbes leads off this week’s Outside the Box with a sweeping historical summary – and damning indictment – of the “cheap money” policies of the US executive branch and Federal Reserve. Four decades of fiat money (since Richard Nixon and his Treasury Secretary, John Connally, axed the gold standard in 1971) and six years of Fed funny business have led us, in Steve’s words, to an era of “declining mobility, great inequality, and the destruction...
Economic Analysis from Casey Research
- Fri, 22 Aug 2014 06:27:00 +0000: Can Any Government Be Moral? - Casey Research - Research & Analysis
We all know that governments can be immoral (Nazi Germany, the USSR, Mao’s China, and the several others leap to mind), but can governments truly be moral? I think this is a crucial question and one that has very seldom been addressed.
You might think that the government aspect of this question would be the hardest part to discuss calmly. After all, people fight about politics and government every day, and often all day. It’s the obsession of the age.
But it isn’t government that’s the most difficult part of this, it’s morality. People freeze when you bring up the subject, expecting an onslaught of confusion and turmoil. A generation or two of academic and political wranglings have turned a subject that children could understand into a painful mess.
We’ll explain this in today’s article, of course, but for 98% of us, the basic moral programming we were born with—if left unadulterated—is enough to guide us quite nicely through life. As a friend of mine who lived almost to 100 used to say: Life is simple, we just keep screwing it up.
Also in this issue of The Room, Doug French takes the question of morality even further, presenting a morality test for capitalism and government. And I think testing is appropriate for the things we spend time and treasure on: run intelligent analyses, to see if they stand up to a test or fail it.
We’ll also take a moment to examine a major fail on the part of modern “justice.”
One other note: Casey Research's 2014 Summit in San Antonio (September 19-21) has been filling up fast. Rooms at the hotel are running out fast. If you'd like to join us, please make your reservation now.
Okay, with all that said, let’s get to it.
Can Any Government Be Moral?
The Morality Test: Capitalism vs. GovernmentDoug French, Contributing Editor
Everyone has been taking shots at capitalism, from the Pope to best-selling author Thomas Piketty. They say that letting the market and entrepreneurs have their way leads to wealth inequality. There will be people who are poor and people who end up rich, and that’s immoral, they claim.
The Daily Kos admits capitalism is stunningly successful at creating wealth, but, “The creation of wealth does not make it a moral system.” The article continues:
[an] important aspect of capitalism that occurs in both theory and practice is its immorality; capitalism puts the importance of profit and wealth accumulation before the interests and human rights of people, namely the laboring class.
The Kos folks go on about Apple making 60% profit margins, the price of the stock soaring, and its executives getting rich, but…
If capitalism worked as it was supposed to, these laborers would be making much more money. The problem is, capitalism is working as it is supposed to: create as much wealth as humanly possible, and Apple is certainly doing that. The assumption that it makes everybody’s lives better however, is a falsity.
But economic historian Deirdre McCloskey doesn’t see the Industrial Revolution and beyond happening on the backs of slaves, whether they work at Apple or somewhere else, but by “changes in the way people thought, and especially how they thought about each other.”
McCloskey makes the case that people started liking Schumpeterian “creative destruction” and embracing new ideas that replaced old ones. Creativity destroys old stuff and old ways of doing things, and when people started to like it, wealth and prosperity began to happen for the masses.
It was once that the only path toward honor was being a soldier or a priest. “People who merely bought and sold things for a living, or innovated, were scorned as sinful cheaters,” writes McCloskey, who reminds us that in 1800 the average daily wage was $3 in today’s money.
Then, as McCloskey points out, things began to change, and Europeans and others…came to admire entrepreneurs like Ben Franklin and Andrew Carnegie and Bill Gates. The middle class started to be viewed as good, and started to be allowed to do good, and to do well.
In McCloskey’s words, the middle class was given “dignity and liberty” for the first time in human history, and suddenly the masses became literate, automation took hold, innovation broke out everywhere, as did civil rights, and leisure time, information, and advances in all areas kept (and keep) piling up.
The economic historian calls it the “Middle-Class Deal.” The shift first took place in Europe, subsequently in America, and is now under way in India and China. McCloskey says the Great Recession of 2007-09 was nothing significant compared to…the Chinese in 1978 and then the Indians in 1991 adopting liberal ideas in their economies, and welcoming creative destruction. Now their goods and services per person are quadrupling in every generation.
Remember the $3 a day people were making? Now it’s $100 in the middle-class liberty and dignity parts of the world. Young people, and we’re not just talking about the Mark Zuckerbergs of the world, are many, many times better off than their ancestors. McCloskey explains:
All the other leaps into the modern world—more democracy, the liberation of women, improved life expectancy, greater education, spiritual growth, artistic explosion—are firmly attached to the Great Fact of modern history, the increase by 2,900 percent in food and education and travel.
Dang. McCloskey’s right. Much of the world has come a long way in a couple hundred years. And all it took was the embrace of entrepreneurial capitalism.
Whole Foods founder and CEO, John Mackay, believes capitalism and business get pigeonholed unfairly with a justification that humans only act out of self-interest, allowing enemies (like the Daily Kos) to do “ great damage to the ‘brands’ of business and capitalism, because it allows the enemies of capitalism and business to portray them as selfish and greedy and exploitative.”
Mackay echoes what McCloskey put numbers to: Capitalism and business are the greatest forces for good in the world. It’s been that way for at least the last three hundred years… and they don’t get sufficient credit for the amazing value that they have created.
Anti-capitalists insist it has been FDR’s New Deal, the Tennessee Valley Authority (TVA) and the Federal Deposit Insurance Corporation (FDIC), to name a few government programs, that have created the dandy living we enjoy. However, while these folks want to blame dog-eat-dog, cowboy capitalism for the crash of 2007-09, it was, in fact, directly a result of Roosevelt’s creation of depression-era pro-housing government programs like the FHA, Fannie Mae, Freddie Mac, and deposit insurance, that codified moral hazard into banking.
In a bit more irony, the results of the TVA should offend the sensibilities of big government apologists. The TVA’s “excessive damming of the river has led to some of the largest floods the country has ever seen (730,000 acres to be exact),” explains Intellectual Takeout. “Through eminent domain, thousands of people have been forced from their homes. While white farmers were compensated, black tenant farmers were not.”
Besides meddling with capitalism’s wealth creation in an attempt to smooth out the differences between rich and poor, what are the most visible examples of government programs? Fighting multiple wars for more than a decade. Is it any wonder one Nobel Peace Prize winner has killed thousands using the CIA’s drone program? “Turns out I’m really good at killing people,” President Obama said quietly to his aids. “Didn’t know that was gonna be a strong suit of mine.”
The dronemiester-in-chief doesn’t brag about killing people in public, but instead waxes philosophical about the evils of the free market. He told some Kansans last year that capitalism doesn’t work. “It has never worked,” Obama said to applause.
It didn’t work when it was tried in the decade before the Great Depression. It’s not what led to the incredible postwar booms of the ’50s and ’60s. And it didn’t work when we tried it during the last decade. I mean, understand, it’s not as if we haven’t tried this theory.
But for the last 100 years, capitalism has been hamstrung by President Obama’s favorite thing: government. One-half of virtually every transaction—money—is controlled by the government. And the currency is worth but a tiny fraction of what it once was under government stewardship.
Harry Binswanger wrote in Forbes that American capitalism hasn’t been the same since the passage of the Sherman Antitrust Act of 1890. He points out that there are 430 federal agencies overseeing all aspects of American business.
The Federal Register is a daily digest published by the federal government since 1936, and it illustrates how government regulation has exploded.
The register contains proposed regulations from agencies, finalized rules, notices, corrections, and presidential documents. The Daily Caller points out,
The 1936 Federal Register was 2,620 pages long. It has grown steadily since then, with the 2012 edition weighing in at 78,961 pages (it has topped 60,000 pages every year for the last 20 years).
This is the opposite of the liberalization taking place in China and India. While capitalism soldiers on, trying its best to morally generate wealth, government does the only thing it knows how to do: kill, whether it’s commerce and prosperity or people.
Commerce is more resilient than people. Individuals can’t survive government’s murderous force, but commerce finds a way.
Morality stands for cooperation and peace. Immorality is force, standing in the way of dignity and liberty. It is capitalism that embodies morality, while government killing and destruction defines immorality.
What Are the Odds?
As I was putting this issue together, I got a couple of emails from Jeff Clark and Bud Conrad, concerning the immorality and injustice of the US government. In particular, they addressed the insulting events surrounding the IRS experiencing seven “hard drive crashes,” which (“oh so sorry”) excused them from admitting that they were engaged in political thuggery.
Here’s what Jeff sent over—some calculations from a data center administrator:
I run a data center. Disk drives that are left running continuously last between two and three years…. The odds of a disk failing in any given month are roughly one in 36. The odds of two different drives failing in the same month are roughly one in 36 squared, or 1 in about 1,300. The odds of three drives failing in the same month is 36 cubed, or 1 in 46,656. The odds of seven different drives failing in the same month is 37 to the 7th power = 1 in 78,664,164,096.
Jeff adds that the odds are greater that you will win the Florida Lottery 3,426 times than having those seven IRS hard drives crash in the same month.
Then Bud chimed in, saying:
His statistical method could be argued with, but the conclusion would still be the same.
There was crook.
The probability of the crook going to jail is still zero. The crimes of many people not being prosecuted allows (encourages) more crimes as we have seen the probability of government crimes much bigger is close to 100%. Come back for a fair trial Mr. Snowden. You will be put in solitary confinement with no blankets.
Bud is right: No one is in any danger of going to jail for this. As the Bible says in one place, “Justice has fallen in the streets.” Or in this case, she died in Washington DC.
And one more thing: All of those missing IRS emails had recipients. Why not get copies from them… or from the mail administrators in-between? Heck, why not just get them from the NSA?
Not long ago, I received a set of photos from my oldest friend, Scott, entitled, “Why Women Live Longer than Men.” I laughed, winced, and laughed more.
So, men, take a look and laugh a bit at yourself, because if you’re anything like me, there’ve been more than a few times when you could have been talked into these situations.
And ladies, you marry us, so maybe you should laugh at yourselves a bit too!
That’s It for This Week
Have a great weekend, and remember that morality is simple: What you don’t like, don’t do to others. If you can remember that simple line, and act on it, you can hold your head high, forever.
Editor, A Free-Man’s Take
- Thu, 21 Aug 2014 12:52:00 +0000: Microsoft’s Mobile Comeback: Fantasy or Possibility? - Casey Research - Research & Analysis
It was one of worst predictions in recent memory. In a 2007 interview, former Microsoft CEO Steve Ballmer said, “There’s no chance that the iPhone is going to get any significant market share. No chance.”
It reminds us of when Sir William Preece, an official with the British Post Office, weighed in on an earlier incarnation designed by Mr. Bell, not Mr. Jobs: “The Americans have need of the telephone,” said Sir William, “but we do not. We have plenty of messenger boys.”
To make matters worse, Ballmer predicted that Android would also fail, since Google wasn’t charging a licensing fee to its OEMs. Of course, he was talking his own book. But it still stands out as intensely blind to what customers really wanted.
However, today Microsoft has thrown everything the company has at mobile. It’s dropped the pen and embraced touch in every version of Windows (poorly, many have said). It’s spending millions advertising its phones, and billions to acquire the only notable company still making them. Is it all too late? Or can Microsoft rise from the ashes and find another multibillion-dollar business to add to its stable?
A Two-Man Race
A look at the market-share numbers illustrates just how spectacularly wrong Ballmer was about the iPhone and its operating system (iOS) and Android.
As you can see, Android and iOS currently control over 90% of the US and global markets, forming a true duopoly, with both systems having a meaningful share.
With global share of less than 8% in 2010 and deteriorating to less than 4% in 2013, Microsoft is currently irrelevant in the smartphone market. Is this because the company was late to the party?
Not really. Microsoft actually got a head start in the market, launching its first smartphone (the Pocket PC 2002) in 2001. New models under a new name (Windows Mobile) were launched annually in four of the following five years and, incredible as it might now seem, the company actually became a market leader in those halcyon days. By Q1 2004, Windows Mobile had captured 23% of worldwide smartphone sales; and in 2007, US market share peaked at 42%.
However, shortly thereafter, the wheels started to come off. In 2008, US and global share fell to 27% and 14% respectively. By 2010, Windows Mobile was a bit player with US share of 7% and global share of 5%.
So how did Microsoft lose its place in one of the biggest and most explosive markets in history? It wasn’t because of timing: the company was a smartphone pioneer. It wasn’t because of a lack of resources: when Windows Mobile’s share peaked in 2007, Microsoft had $21 billion in cash and equivalents, free cash flow of $15 billion, and an R&D spend of $9 billion… surely enough financial wherewithal to at least maintain, if not gain, share.
“They had everything they needed to execute,” said tech analyst Raven Zachary in a Wired article. “It was theirs to lose and they lost it.” Well, something was lacking—what was it? In a word, vision.
While Apple was designing a consumer-centric product that would redefine the utility of the mobile phone from a mere communication device to a lifestyle product, Microsoft remained PC- and enterprise-centric in its development of smartphones. This tunnel vision was on full display when in 2007, Ballmer based his prediction of failure for the iPhone on the fact that it lacked a physical keyboard. And it caused Microsoft’s product developers to miss the importance of mobility, touchscreens, and an extensive apps ecosystem. By the time the company realized its error, it was way behind the competition.
A Lost Cause?
Should Microsoft just give up on the devices market altogether? Yes, say some industry analysts, including Chetan Sharma. “(T)here is little appetite or need for another platform”, says Sharma. “Microsoft might be better off giving up on its device dream and just focus on services on top of the platforms that dominate.”
It could be that Microsoft will do just that. Abandonment of, or perhaps apathy toward, the developed markets, particularly the US, appears especially sensible. In those maturing markets, brand loyalty among users is highly developed, users are “locked in” to platform ecosystems, and carrier (e.g., Verizon) support is firmly established. Since these factors are self-reinforcing, the incumbent systems (i.e., Android and iOS) aren’t apt to be seriously challenged in the foreseeable future. Persuading significant numbers of users to switch to a smartphone with a Microsoft platform (now called Windows Phone) would be a tall and expensive order. With Microsoft’s flagship Office programs now arriving for iPhone and iPad alike, there are signs the company may be admitting it has lost the battle for the OS, and relegating itself to app provider alone.
But all may not be lost in the OS war, either, which would be good news for the Windows Phone and any other platform provider that missed out on the developed markets. There’s a next wave of smartphone uptake that will be coming from emerging markets over the next three to five years. Stoked by growing economies and increases in real income, there will be mass migration from feature phones to smartphones in these markets. And the numbers will dwarf anything we’ve seen before.
It’s a second chance for Microsoft in the platform business, and if it can execute, the impact on the company’s revenues could be significant. For example, if Windows Phone can capture share of 15% in emerging markets by 2017, with an average sales price of $150 per device, the resulting revenue would be well over $20 billion. That’s almost 25% of fiscal year 2014’s total revenue of $87 billion.
But is there any reason to believe Microsoft will succeed this time? Some people think so, and here’s why:
- Nobody is entrenched: Smartphone uptake is still in the early stages in the emerging markets, so brand loyalty and the app lock-in phenomenon have not yet taken hold. This means no platform providers are yet entrenched (such as Android and iOS are in the developed markets) and that challengers have a window of opportunity in these emerging markets.
- The Nokia factor: In April of this year, Microsoft closed the deal on its $7.2 billion purchase of Nokia’s phone and tablet business. Strategically, the purchase was a move by Microsoft to expand its presence in emerging markets, for while there’s little recognition of the Microsoft brand in these markets, the Nokia brand is well known and established. Microsoft will be attempting to leverage the Nokia brand to attract users of competitive phones as well as to move, over time, Nokia’s feature phone user base to the higher-end Windows Phone. Nokia possesses other capabilities that will be useful in establishing Windows Phone in emerging markets—capabilities that were previously missing at Microsoft. They include: relationships with carriers; a distribution network; manufacturing capacity and know-how; and a staff of talented hardware engineers.
In the February 2014 report titled Mobile Platform Wars, GSMA Intelligence analysts state their belief that a duopoly, or perhaps an oligopoly, of smartphone platform providers will form in the emerging markets, much as has happened in the developed markets. And they believe this will happen in short order: “[A]ny challengers would need to establish a minimum share (5%) in the next 1-2 years to have a chance of being a long-term competitor.” So the bar is set. We’ll be watching. If Microsoft starts to make progress in the mobile space, it could be a worthwhile investment. In the meantime, we’re looking elsewhere.
Thankfully for Microsoft, the onslaught of the tablet—another market in which the company fell woefully behind despite being first to market by many years—has subsided. Desktop PC sales have leveled off, and should end 2014 up for the first time in three years, as businesses give up on the tablet as a productivity device (try typing out a three-page memo on an iPad, and it’s obvious why) and refresh their aging PCs. The end of support for Windows XP this year should help that upgrade cycle. That’s good news for Microsoft shareholders, and buys the company a lot of cash to continue its seemingly Sisyphean push up the mobile market share hill.
In the next issue of BIG TECH, due out September 2, we’re recommending a stock we believe is undervalued and poised to rise over 30% in the next 12 months or so, thanks in part to that PC sales rebound.
For access to this recommendation, simply sign up for a risk-free trial, and you’ll be the first to hear about it. If you decide to keep your subscription, it will cost a mere $99. That’s nothing compared to the profits just this one investment should bring. But, if for any reason you’re unsatisfied, simply cancel to receive a prompt, courteous, and complete refund of the entire subscription price. You have 3 full months to make up your mind.
- Wed, 20 Aug 2014 06:20:00 +0000: A Bear Market Has Begun - Casey Research - Research & Analysis
I’m happy to welcome back economist David Hunter as today’s guest author.
Regular readers will recognize David as an expert in cyclical analysis with an encyclopedic knowledge of stock market history. His calling card is the ability to pinpoint exactly where we are in the economic cycle, so as to predict what’s likely to happen next.
So where are we today? David believes that the stock market’s multi-year rally is ending and that we’re on the precipice of a historic crash—worse than even 2008.
David is a truly independent thinker—a contrarian’s contrarian. So don’t expect to agree with everything you’re about to read. For instance, David expects deflation, not inflation, to spark the next crisis and wreck the stock market.
Whatever your personal take, I promise David’s analysis will make you think.
Managing Editor of The Casey Report
A Bear Market Has Begun
By David Hunter, CFA
I know, the definition of a bear market is one that has declined by twenty percent or more, and we’re only down about 4% today. That’s hardly a bear market. But I think we’ve seen the highs for this market cycle and are now heading for a decline far greater than twenty percent.
The stock market has not experienced a 10% correction in over two years. Each small correction has been quickly followed by a move to new highs. So it’s not surprising that most investors are viewing the current correction as another buying opportunity in a secular bull market—one that they believe has a long way to run.
The Wall Street consensus view is that the economy is gaining traction and will sustain its momentum even when the current monetary stimulus program ends in October. The general expectation is that interest rates will rise a bit from current levels but still remain relatively low well into the future. As the thinking goes, this steady-growth and low-interest-rate environment should be supportive of higher equity prices for a long time.
In other words, most investors believe that a bear market is nowhere in sight.
Needless to say, this contrarian completely disagrees with that consensus view. Not only am I suggesting that a bear market is near, but that the bear market is already underway.
Geopolitics as a Trigger
Despite rather widespread complacency among investors, there are plenty of things to be concerned about. Certainly, the geopolitical landscape is full of potential risks that could prove disruptive to the capital markets. It’s not just Ukraine. It’s Iraq, Syria, Gaza, Libya, and the tensions in the South China Sea. And of course the Ebola virus outbreak. Many pundits assume recent market weakness is primarily due to geopolitical headlines.
No doubt events in Ukraine and the Middle East have played a role in the sell-off. But I think the market may also be starting to price in an economic downturn—one that could be triggered by all of this geopolitical turmoil. The global economy is leveraged and fragile and has little tolerance for adversity. Any interruption of the flow of gas into Europe, for example, would be very disruptive to the Eurozone economy. And let’s not forget that much of Europe is already in or heading toward recession.
Japan and China remain concerning as well. Both are highly dependent on export markets for growth. A weakening Europe or less spending by US consumers would be problematic for their economies, and for the global economy overall.
So it’s not necessarily war itself that the markets are worried about, but rather the impact that geopolitical turmoil could have on the world economy. It doesn’t take much to tip the balance when the economy is already struggling to sustain its growth.
The End of QE Matters
It may seem premature to be so bearish when most of the major indexes are just off their highs. But beneath the surface, a lot of damage has been done. It started in the spring when the two leading momentum groups of this cycle, social media and biotechnology, sold off sharply. Both have rebounded from their spring lows, but neither has regained its highs.
More recently, bank stocks broke down, as did building and construction stocks, along with housing stocks. They all broke through their respective 200-day moving averages. In addition, European stocks and junk bonds suffered important breaks. These are significant reversals. When combined with the recent rollover in industrial and semiconductor stocks, they suggest that cyclical risks are rising.
Sometimes we overcomplicate things in this business. We don’t have to look very far for the reason for the market’s loss of momentum. The Fed is winding down QE; it has reduced purchases from $85 billion/month to $25 billion/month and plans to eliminate purchases completely at its October meeting. The elimination of QE is a substantial reduction in liquidity at the margin.
Both the hawks and doves on the FOMC now seem to agree that the time is right to end this round of monetary stimulus. Wall Street supports the end of QE, too. A large majority of Wall Streeters has long been critical of the Fed’s aggressive monetary expansion. They are happy to see QE3 ending. Much of the Street’s criticism has centered on the fact that all of this money expansion, along with the zero-interest-rate policy, has led to a misallocation of resources and has pushed investors to take on too much risk. Inflation is also a big concern. The point is that we are finally seeing the Fed and Wall Street on the same page: they both agree that additional QE would be counterproductive.
Everyone seems more than ready to see this round of QE come to an end; almost no one (except me) is voicing any reservations. Fed officials and economists alike want desperately to believe that the economy can sustain its growth without the aid of QE. Ironically, the global economy may be closer to a deflationary contraction today than at any time in the last eighty years. Yet, due to misplaced concerns about inflation, almost no one is concerned that the Fed is about to terminate its monetary expansion program just when it is most needed.
Add to this the fact that Japan’s monetary expansion is more or less on hold and that China is attempting to rein in its aggressive credit expansion, and we may be setting up the perfect storm for a deflationary bust.
ETF Liquidation May Define the Coming Bear Market
Every bear market has a defining characteristic. In 1987, program trading led to a sharp sell-off. In 2000, the tech bubble burst. And of course in 2008, the credit bubble burst. I believe the liquidation of exchange-traded funds (ETFs) will play a defining role in the bear market of 2014.
ETFs have not been battle tested. While they did exist in 2008, their aggregate size today is more than four times what it was back then. If we get a sharp unwinding in the equity markets, investors who have built ETF positions over the last few years may decide to exit en masse.
A rush to the exits would, of course, hurt the market value of the ETFs themselves. But more importantly, it would force ETF managers to sell holdings to meet the liquidations. I think that could exacerbate the coming bear market and turn it into a historic crash.
Recent action in the high-yield bond market may have given us a preview. Due to large and concentrated outflows from high-yield bond funds, managers were forced to liquidate some of their bonds. When they tried to sell, these managers discovered that the bonds were not as liquid as they thought, because sellers outnumbered buyers. This occurred with only a four percent decline in the junk ETFs. Imagine the impact during a sharper bear market selloff. A herd of investors would stampede for the exits, and the impact on prices could be epic.
This Bear Market Will Be Different
When Wall Streeters list their concerns, they usually start with rising interest rates. That’s because almost every bear market in the post-WWII era was preceded by a sharp rise in interest rates, usually in response to an overheating economy. As a result, most investors assume they needn’t worry about a stock market top until rates begin to rise sharply.
The fact that rates are currently falling, not rising, is leading to a lot of complacency on the Street. Unfortunately, investors are relying on a model that doesn’t fit this cycle. This market cycle is not likely to end as a result of an overheated economy and higher interest rates. Rather, we are potentially facing the first deflationary contraction in the post-WWII era—one brought on by excessive debt and some significant policy mistakes.
The global economy is already slowing despite aggressive monetary stimulus and historically low interest rates. I think interest rates will move even lower, accompanied by a broad-based decline in stocks, both in the US and around the globe.
Amazingly, we are on the verge of a global deflationary downturn and what could be a historic bear market, yet Wall Street prognosticators remain focused on the inflationary risks of excessive monetary stimulus. Their focus could not be more wrong.
- Tue, 19 Aug 2014 06:40:00 +0000: The Billionaire Pizza Maker - Casey Research - Research & Analysis
It was without a doubt the best pizza I’d ever had.
Doug Casey agrees. And the olive oil—incredible.
In fact, our host for that evening makes his own olive oil, and it’s come first place two years in a row as the best olive oil in the world. I know almost nothing about olive oil or pizza, but I do know a lot about what tastes good, and this was one of the best meals of my life. And he made it all himself, at home, in his own pizza oven. And just when I thought it couldn’t get any better, he brought out a big bowl of pasta that he made himself.
I ate three bowls, as did Doug. In fact, Doug took a bowl-to-go at the end of the night. Our host did all of this while keeping everything vegan for me.
That Friday night, with five guys hanging out at his $50M waterfront mansion, drinking great wine and eating great food, listening to Doug and our billionaire friend talk about the old days, was literally one of those nights you don’t want to end.
It hit me that night: I’m sitting with a modern-day Renaissance Man.
What makes him so successful at everything he does?
Over a bottle of excellent Italian red, we got into some deep discussions on many aspects of life—personal things like relationships, family, work, life, and, most importantly, how to keep it all together and maintain balance in life. And I came to realize that the reason this guy is so successful is because he follows his heart and does whatever he loves to do and excels at it.
For example, he spent most of that Friday prepping the food and cooking for us, and he does it because he loves cooking for and spending time with his friends.
His friends and inner circle include presidents of countries, the Hollywood A-list, and the most powerful business executives in the world. This guy defines “cool” and “success,” but he is so easy to chat with, it’s like hanging out with one of your oldest friends.
But he has an edge about him that differentiates him from all the other titans in our sector. For example, Doug Casey is into skydiving, and as they say in that world, “He has 43 jumps.”
As Doug was talking about his jumps, our friend pulled out a video of him jumping nearly twice the height of Doug’s highest jump. What was even more impressive is that it was his first time ever. Everything this guy does is BIG.
And our friend is going to be setting a world record for the highest jump ever recorded. Everything he does, he does it to the max.
I get an absolute kick out of hanging out with guys like this. I have learned much from him, and his number one rule is, “Follow your passion.” He is so successful because the challenges he takes on are challenges he not only believes in, but is absolutely passionate about.
So, what does this have to do investing and, more importantly, your portfolio?
Through the network Doug Casey and I have spent years building, our subscribers get access to the best in the business, as well as what projects they are working on and, more importantly, have invested their money in.
For example, we recently sent out an alert to our Casey Energy Confidential subscribers on a company few people have ever even heard of. And some of the biggest names in the business are not just on the board of the company, but are also big investors, and at the same price as the Casey subscribers. It is rare that retail investors get in at the same price as the big boys who put the companies together, but as a subscriber to the Casey Energy Report you do.
In the Room, in the Deal
I have big expectations on the deal I mentioned above, but there are no guarantees. However, if I am going to bet my money on a jockey in the resource sector, it will have to be the best in the business, and that’s what I strive to find. Bring the best investment ideas at the best price run by the best management teams whose interests and cost base are aligned with the shareholder.
Now, what about our Billionaire Pizza Maker?
Big Oil Wants a Piece of His Pie
He is drilling one of the most anticipated oil wells in Europe of 2014. One of the largest oil companies in the world, during their Q2 conference call, mentioned this project twice, more than any other project they are currently working on with a junior. Directly from the conference call transcript:
- “And looking into the second half of the year, we have some important wells coming up in XXXXXXXXX and, of course, the XXXXXXXX in XXXXXX subsalt.” (Page 4)
- “On the Frontier program, we spent two years to three years building up the acreage program, two years to three years drilling it out. It has been, statistically, less successful than the Heartland program to-date. We’ve had success in XXXXXXXXX.” (Page 18-19)
Now, Big Oil usually intimidates the junior oil companies, but they know better than to mess around with our friend. He has been involved in creating some of the largest resource companies in the world. And Big Oil knows it.
The Big Oil Company would not have mentioned this project twice in their conference call if it wasn’t the real deal. This is a world-class project. They know it, he knows it, and most importantly, we know it and so should you.
We have gone into great detail in the Casey Energy Report on why your portfolio needs exposure to this company, especially before the drill results are announced by the end of the Q4 2014.
Doug Casey and I have been to the project and had dinner with the energy minister of the country, and we believe this company is where your speculative dollars should go.
Casey Energy Report Advantage
We not only know the movers and shakers in the industry, but we also meticulously go through the conference calls and financials of the companies in the energy sector. It wasn't coincidence that we came across the two references made in the conference call; we were looking and watching as we read the transcript. Conference calls are live, but management try to follow a script. However, there is a question-and-answer period at the end of the call, and the information in that discussion is raw and at times incredibly valuable.
We do the dirty work for you. That is the Casey Advantage.
Want to know the rest? Want to know who ’he’ is?
All You Need to Do Is Get Onboard… We’ve Done All the Work
I’m putting the finishing touches on the report, which will make up the bulk of our next Casey Energy Report issue. If you agree today to try my newsletter risk-free for three months, you’ll get the news and our new recommendation at the same time as our current subscribers.
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As a subscriber, you’ll also receive instant access to our current issue, which details how to not only make money from the oil patch, but also the highly paid employees of the oil patch.
- Mon, 18 Aug 2014 14:12:00 +0000: How to Play the M&A Revival for Extraordinary Profits - Casey Research - Research & Analysis
Reading the headlines, things seem to always go from bad to worse in our troubled world, and yet it keeps spinning. Dawn comes again and again, no matter how long and cold the night—for investors, as well as everyone else.
In our particular market sector, one of those predictable dawns for investors is the takeover of a successful exploration company by a larger mining company. This is inherent in the business, because every single mine in the world, by its very nature, is a depleting asset.
Simply put, the bigger fish have to eat the smaller ones, or they die.
So I’m happy to share with you Casey Researcher Laurynas Vegys’ latest review of M&A activity in our sector. I hope you find it not only interesting, but useful.
Senior Metals Investment Strategist
Rock & Stock StatsLastOne Month AgoOne Year Ago Gold 1,304.70 1,297.10 1,361.10 Silver 19.57 20.89 22.94 Copper 3.12 3.25 3.34 Oil 95.32 99.54 107.19 Gold Producers (GDX) 26.82 25.78 30.43 Gold Junior Stocks (GDXJ) 42.35 41.47 49.60 Silver Stocks (SIL) 14.06 13.77 15.88 TSX (Toronto Stock Exchange) 15,304.24 15,081.32 12,704.52 TSX Venture 995.90 1,006.57 932.10
How to Play the M&A Revival for Extraordinary ProfitsLaurynas Vegys, Research Analyst
There’s no sugarcoating it: 2013 was one of the worst years for mining industry mergers and acquisitions (M&A) in nearly a decade.
Such was the damning conclusion drawn by PricewaterhouseCoopers in its 2014 Global Mining Deals Outlook and 2013 Review. A quick look at the M&A activity in the sector since 2008 reveals that it’s warranted.
The good news (well, sort of) is that gold dominated mining M&A last year. Measured by value, gold deals accounted for 28% of the total—the largest slice of the overall transaction pie—a veritable star in an otherwise dismal universe.
Here’s an overview of last year’s major M&A deals in the gold industry:
Date Target Type Buyers Premium Valuation
12/17/13 PMI Gold Corp. Producer Asanko Gold Inc. 81.1% 172.2 35.5 1,234 2.9% 12/16/13 Brigus Gold Corp. Producer Primero Mining Corp. 13.0% 220.0 137.2 1,240 11.1% 12/4/13 Newmont Mining (Midas Complex) Mine Klondex Mines N/A 83.0 180.8 1,238 14.6% 10/28/13 Volta Resources Inc. Explorer B2Gold Corp. 105.6% 62.7 8.5 1,353 0.6% 10/1/13 International Minerals Corp. (40% stake in Pallancata and Immacula) Producer Hochschild Mining PLC -7.2% 271.0 4.5 1,290 0.4% 9/27/13 Archipelago Resources PLC Producer PT Rajawali Corp. 23.3% 190.6 61.4 1,337 4.6% 8/22/13 Barrick Gold (Yilgarn South assets) Mines Gold Fields N/A 301.0 66.9 1,378 4.9% 5/31/13 Rainy River Resources Ltd. Developer New Gold, Inc. 41.9% 371.9 42.0 1,388 3.0% 5/28/13 Esperanza Resources Corp. Developer Alamos Gold Inc. 9.0% 70.6 52.4 1,381 3.8% 3/28/13 Azimuth Resources Ltd. Explorer Troy Resources Ltd. 78.5% 198.3 120.2 1,597 7.5% 3/20/13 White Tiger Gold Ltd. (56% stake) Producer Unique Goals International Ltd -9.1% 91.1 156.3 1,607 9.7% 3/4/13 Aurizon Mines Ltd. Producer Hecla Mining Com. 9.2% 761.8 223.5 1,575 14.2% 2/22/13 Polyus Gold International Ltd. (37.8% stake) Producer Receza Ltd.; Lizarazu Ltd. -5.6% 3616.1 74.0 1,581 4.7% Average 30.9% 493.1 89.5 6.3%
Note that all of deals in the above table (as well as the one that follows) are “floored” at $50 million to filter out the bulk of the “juniors buying juniors for mutual survival” noise common in this sort of market.
As you can see, buyers preferred low-risk acquisitions. This reflects the major miners’ conservative mood. Of the 13 target companies, nine were producers (including individual mines), two more were developing toward production, and only two were explorers.
This makes sense when you consider that many producers are a good bargain in the current market. For the better part of 2013, producers struggled to rein in costs, after gold prices dropped so dramatically—as did their share prices. This weakness was clearly seen by some as an opportunity to snap up valuable producing assets at a discount.
This is all well and good, but the important question for us is: does 2014 look any better? And if so, what does it mean for us as speculators?
With that in mind, here’s the roster of activity for the first half of 2014:
Date Target Type Buyers Premium Valuation
6/9/14 Golden Queen Mining Company Inc. (50% stake in Soledad Mountain) Developer Leucadia National Corp. N/A 110.0 85.5 1,252.5 6.8% 6/4/14 Elgin Mining Inc. Producer / Developer Mandalay Resources Corp. 85% 69.2 27.8 1,244.2 2.2% 5/23/14 Papillon Resources Ltd. Developer B2Gold Corp. 42.4% 570.0 110.7 1,245.2 8.9% 5/21/14 Sulliden Gold Corporation Ltd. Developer Rio Alto Mining Ltd. 43.4% 317.9 78.2 1,292.7 6.0% 4/16/14 Osisko Mining Corp. Producer Agnico Eagle Mines Ltd.; Yamana Gold Inc. 11.1% 3579.2 295.3 1,302.7 22.7% 2/18/14 Chaparral Gold Developer Waterton Global Resource Management 14.9% 57.0 7.6 1,320.3 0.6% 2/10/14 AngloGold Ashanti (Navachab) Mine QKR Corporation Ltd. N/A 110.0 25.6 1,274.0 2.0% 2/3/14 Goldcorp/Barrick (Marigold) Mine Silver Standard Resources N/A 275.0 41.3 1,259.5 3.3% 1/23/14 Barrick Gold (Kanowna Belle and Kundana) Mines Northern Star Resources N/A 66.0 48.0 1,262.8 3.8% Average 39.4% 572.7 80.0 6.3% Source: Capital IQ, company websites
While some of these transactions have not yet closed, they all look likely to do so, making it clear that the 2014 rally in gold has gotten us off to a great start; as many as four deals were announced in just the first two months of the year, and more followed shortly thereafter.
Companies were valued at an average of $80 per ounce of resource, down $9.50 from 2013’s average of $89.50. However, the mean transaction value saw an impressive increase from $493 million to $573 million. Moreover, the mean reported bid premium was up 8.5%, from 30.9% in 2013 to 39.4% for Q1 and Q2 of 2014.
The first halves of 2014 and 2013 saw nine and six transactions respectively—a clear sign pointing to much improved M&A activity this year. Better yet, the aggregate volume of transactions in the first half of 2014 is above $5.1 billion, vs. just $6.4 billion for all of last year. Last year had a clear outlier as well, and this one wasn’t even a full-fledged company acquisition: the sale of Mikhail Prokhorov’s 37.8% stake in Polyus Gold International for $3.6 billion, the biggest mining deal in all of 2013.
There has been no shortage of significant gold M&A transactions so far this year, so here’s a closer look at some of the ones that caught the industry’s attention.
- Osisko/Agnico Eagle/Yamana. After a prolonged bidding war with Goldcorp, Agnico and Yamana emerged as official victors and new owners of the Canadian Malartic gold mine and Osisko’s other assets. From Yamana’s standpoint, the addition of a low-cost, cornerstone asset in Canada should help the stock get re-rated closer to its higher-multiple peers. For Agnico, the deal is accretive on all metrics. This strong operation with lots of upside potential will add significant cash flow to both companies over the coming years.
- Papillon/B2Gold. The deal has been characterized as a merger, but in reality it was more of a buyout, as BTG offered Papillon shareholders a 42% premium, the third-largest premium in all gold M&A year to date. Papillon’s primary asset is the Fekola project in Mali, a large, high-grade property that is now B2Gold’s next mine to be constructed.
- Sulliden Gold/Rio Alto. Rio Alto announced that it will acquire Sulliden Gold, which owns the Shahuindo project located only a few kilometers from Rio’s flagship La Arena gold and copper mine. Initial capex is currently estimated at $132 million. When the mine is operational, it’s expected to produce about 872,000 ounces of gold over a 10-year period. This deal ranks third based on all three valuation metrics: reported premium (43.4%); transaction value (US$318 million); and $/oz (US$78).
- Goldcorp and Barrick/Silver Standard. Silver Standard Resources paid $275 million for 100% ownership of the Marigold mine from its joint owners, Goldcorp (70%) and Barrick (30%). The open pit mine is located in Nevada and has been in operation since 1988, consistently producing over 140,000 ounces of gold per year at gold recoveries over 70%. Current reserves are estimated at 4.92 million ounces. Based on Marigold’s entire in situ resource, this deal comes in at $41/oz.
Looking at the data, gold M&A activity in 2013’s fourth quarter seemed to break the spell of three preceding quarters of decline in both deal value and deal volume, and the trend appears to have carried through into 2014.
Moreover, the first half of this year was shaped by developments that have been in sharp contrast to the lethargic M&A climate of 2013: the emergence of hostile bids (e.g., Aurizon, Osisko); a growing appetite for acquisitions on the part of private equity funds; and the rising number and volume of M&A transactions.
The Juicy Opportunity
All the above clearly points to the revival of M&A activity this year—but while bullish for the industry as a whole, as investors, how do we profit from this trend?
In a word: Takeovers.
In the investment world, there are few things better than checking your brokerage account and seeing that one of your stocks has just received a takeover bid… and has shot up 40% or more on the news.
The time and research it takes to uncover these opportunities is more than justified. With most takeover bids coming in at a hefty premium, takeovers are a great way to make a lot of money fast.
If you’ve been reading these weekly observations on metals and mining for some time, you know that a takeover of a successful junior company by one of the majors is usually the ideal exit for us as speculators. As for majors themselves, most of them have largely failed in seeking out new resources and replenishing their reserves, which means they are growing increasingly hungry for well-managed juniors with high-margin discoveries in hand.
This is good news for us, because identifying takeover targets is a main focus of the Casey International Speculator. We are always asking ourselves: which junior will get bought out next?
There’s one company I have in mind that boasts takeover potential approaching a near certainty; this Canadian junior happens to own an exploration property with high-grade gold mineralization in one of the best mining jurisdictions on the planet, situated right next to a multimillion-ounce project owned by a mining major. In fact, the larger company’s land position completely surrounds the junior’s.
This company is far from the only one on our list of top takeover candidates, however. In fact, we have so many that we now place a “TOC” symbol in front of our top takeover candidates in our portfolio, to help new readers spot these stock picks right away.
Here’s what I suggest: try the International Speculator for three months and check out our top takeover candidates. It doesn’t get easier than that, as the International Speculator comes with a full money-back guarantee; if it’s not everything you expected, just cancel within 90 days for a prompt, courteous refund of every penny you paid. Give your portfolio a shot at some quick speculative gains by getting started now.
Gold and Silver HEADLINES
Gold Mine’s Reboot Shines Light on Challenge Facing Platinum (Mining Weekly)
The experience of Harmony Gold provides a stark warning for investors and metals traders banking on South Africa’s platinum sector making a swift recovery from the crippling five-month strike that ended in June.
The world’s top three platinum producers—Anglo American Platinum, Impala Platinum and Lonmin—predicted in June that it would take three months to restore production to pre-strike levels.
However, Harmony’s trials and tribulations in the 18 months since reopening its Kusasalethu mine, which was shut down for three months because of union violence, suggest that the platinum trio’s estimates are wildly optimistic. To this day, Kusasalethu is still falling short of the quarterly 1,500 to 1,600 kilos of bullion it was producing before the conflict forced its closure.
Harmony Chief Executive Graham Briggs said that merely getting a large mine up and running after a long shutdown is a complex process in which many things can and will go wrong. This is unfortunate for those with a stake in the companies affected, but very bullish for our platinum and palladium picks.
For whatever it may be worth, the latest quarterly filings by major hedge fund managers raise some interesting facts regarding some of the biggest names in the sector—notably George Soros and John Paulson—and their attitudes towards gold and gold stocks.
Based on government filings, Soros Fund Management nearly doubled its stake in the Market Vectors Gold Miners ETF (GDX) to 2.05 million shares, valued at $54 million at the end of the second quarter compared to 1.16 million shares in the first quarter. The Soros Fund also initiated call options in GDX, as well as buying shares in Allied Nevada Gold Corp. It cut back its stake in Barrick Gold by more than 90%, suggesting the Fund sees better value in more volatile gold stocks.
Billionaire hedge fund manager John Paulson stuck with his 10.2 million shares holding in the GLD ETF, which was worth some $1.31 billion alone and is the largest single position in the world’s biggest gold ETF.
In this piece, Jeff Desjardins of Visual Capitalist looks into the outcome of the predictions made a year ago that the majority of mediocre junior exploration companies would de-list or die off.
Based on available data, “it’s clear we’ve reached a new level of separation between the wheat and the chaff.” He calls it the “Great Divide,” saying that while it took longer to materialize than expected, this divide makes it clear to retail investors which companies to avoid—and which have the best chance at success.
We’ve long said much the same thing, and have already benefited from investing in the what and letting the chaff fall away. We expect more of the same to come.
Recent News in International Speculator and BIG GOLD—Key Updates for Subscribers
- Our newest stock pick is a company that just released an impressive quarterly report: both earnings and free cash flow were significantly up from Q1, despite acquisition costs for its new gold project. This cements our view that this company should have no trouble taking it to production. Here’s our guidance for the stock.
- One of our Best Buys announced some very intriguing drill results. Further success could add a lot of value to the current mineralization zone, but it looks like the company is on the verge of discovering entirely new ones too. Either of these would be more than enough to move this stock to a new level.
A number of BG companies have released quarterly reports—stay on top of your stocks by checking the latest important news and our comments.