Archive for the ‘Investment Returns’ Category

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A Tale of Two Crises.

In Investment Returns on November 19, 2011 by CQCA

We like to compare the 2007 crisis to the Great Depression, but the real Great Depression II started in the year 2000. The graph above compares the run-up and wind-down of the stock market peaks in 1929 and 2000.

On the X-axis, zero is when each stock market topped out on a monthly basis (September 1929 and August 2000). The high point of both has been indexed to one. It also shows the ten years (120 months) prior to and after the peak. The blue line (1929) and the red line (2000) trace the value of the stock markets if they were priced in gold.

Even though the lines are similar, there is one difference that we need to understand better. Between the +20 month and the +90 month, the lines separated. The 2000 market stabilized for about three years before continuing to fall. In the end, the 2000 stock market performed worse than the 1929 stock market. What was different about those years?

The above graph shows the indexed rate for the Federal Reserve bank rate over the same 10 year period. Interest rates were, on average, lower before for the 2000 peak than before the 1929 peak, which explains why the rally was also higher. But the immediate reaction was also different. After 2000, the Federal Reserve cut interest rates by more than 80%, from 6.5% to .98%. After the 1929 crash, the interest rate was only cut by 50% before being brought back up slightly. This extra stimulus from low interest rates allowed the stock market to level out for a few years.

However, that short-term gain eventually led to long-term pain, which is what we’re facing now. Not only did the stock market end at a comparatively lower point than in 1929, economic activity also took a much harder hit.

After getting a boost from low interest rates, indexed corporate earnings, which began to recover between +20 and +60 months after the crisis, eventually hit a lower point than at any time during the Great Depression I. In August 2010, ten years after the 2000 crash, we were at the same point that we were in September 1939, ten years after the 1929 crash.

At least Germany hasn’t invaded Poland, again.

Sources: Data on S&P 500 price and earnings are from R. Shiller. Gold prices are from Kitco. Interest rate data is from FRED.

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Tobacco Stocks.

In Investment Returns,Money Supply on August 21, 2011 by CQCA

I don’t usually talk about specific stocks on this site, as I prefer to focus on money supplies and interest rates. But, for September’s newsletter, I have been looking at oil and tobacco stocks as commodity/inflation investments. I thought I would share this graph comparing the S&P 500, Altria (MO), and the money supply. Dividends were re-invested.

Between January, 1970 and August, 2011, the S&P returned 1,221.49%. The money supply increased 1,472.87% over the same time, so S&P investors actually lost wealth. Altria’s stock, by comparison, increased 118,550%. Not all tobacco stocks do well over the long term (Japan Tobacco, I’m looking at you), but some of them have outperformed gold.

I especially look forward to sending out September’s newsletter. Contact me (contact@cqcabusinessresearch.com) if you are interested in receiving a copy.

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You’d Better Have A Really Big Mattress.

In Investment Returns on August 4, 2011 by CQCA

Nominal interest rates have just gone negative. That is how screwed we are.

From the WSJ:

“They say that nothing comes for free, and now that includes cash.

Bank of New York, the world’s biggest custodian bank, announced it is charging a fee of 13 basis points for unusually large cash deposits.

That has pushed money funds to move even more of their cash into already in-demand T-bills, short-term agency notes and Treasury repos.

“By forcing cash out into the marketplace, demand for money-fund investments is only going to grow, forcing investors into a pool with already incredibly shallow options,” says a money fund manager. “Most importantly, if other banks follow suit, then yield levels as a whole will have no where to go but lower as investors look to remain invested.”

Three-month T-bills recently yielded 0.008%, and short-term bills have been darting in and out of negative territory this morning.”

The real interest rate, meaning the nominal interest rate minus the inflation rate, has been negative for a long time. However, we have at least been keeping the illusion going by setting nominal interest rates higher than zero. When nominal interest rates are lower than zero, it becomes more wise to keep your money stored under your mattress. The $25 trillion that the Bank of New York Mellon has under custody and administration will have to find a pretty big mattress.

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Gold Doesn’t Look Overvalued Now.

In Debt,Investment Returns on August 1, 2011 by CQCA

In 1950, the U.S. national debt was $257 billion. The average price of gold that year was $34.72 per ounce. At the end of 2010 (fiscal year), the U.S. national debt was $13.5 trillion, or an increase of 52.70 times from 1950. The average price of gold in 2010 was $1224.53, or an increase of 35.27 times. As the graph shows, the increase in the price of gold has been dwarfed by the increase in the national debt.

The current national debt is estimated at $14.3 trillion. If the price of gold were to return to the same ratio that existed in 1950, the equation would be:

($34.72 per ounce/$0.257 trillion) = ($X per ounce/14.3 trillion)
X = $1,931.89 per ounce.

The closing price today was $1,620 per ounce. Even though the nominal price of gold is at historic highs, in terms of the national debt, the current price is still undervalued by 16% against the 1950s ratio.

Considering both U.S. political parties have indicated that they are unwilling to put an upward limit on the national debt, we should be safe in assuming that there will be no upward limit on the U.S. Dollar price of gold.

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Silver Is Also Very Undervalued Compared to the Monetary Base.

In Investment Returns,Money Supply on July 13, 2011 by CQCA

I few days ago I wrote that the high nominal price of gold is actually relatively inexpensive if we compare it to the U.S. monetary base. I was also curious about the price of silver. The results are below.

The blue line shows how many billions of ounces of silver it takes to equal the monetary base. The lower the line is, the more expensive silver is; the higher the line is, the less expensive it is. In 1979, the average price of silver was $21.79 per ounce, and the monetary base stood at $133 billion, so the monetary base was worth 6.12 billion ounces of silver. In 2002, the average price of silver was $4.60 per ounce, and the monetary base stood at $639 billion, so the monetary base was worth 149 billion ounces of silver.

The bi-weekly ratio is shown below. Similar to gold, the real price of silver is actually decreasing.

On June 29, 2011, the U.S. monetary base was worth 76 billion ounces. This is only slightly lower than the 1993 ratio of 78 billion ounces. Even though the Dollar price of silver has increased almost 500% between 2000 and 2010, in terms of credit expansion, silver is essentially as cheap today as it was when the average Dollar price was $4.97.

Now for the exciting part. How high would silver have to rise before it reached a 1980’s style bubble?
(1980 high point)/(1980 monetary base) = (equivalent high point)/(current monetary base)
(49.45)/($133,436,000,000) = (X) / ($2,645,989,000,000)
X = $980.57

The price of silver would have to reach $980.57 before it is in 1980 bubble territory. The closing price yesterday was $36.90.

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Marc Faber is Right About the Price of Gold in 2011.

In Investment Returns,Money Supply on July 5, 2011 by CQCA

In a recent interview, Marc Faber, a well known investor and author of the Gloom, Boom, and Doom Report, stated:

“My view is, yes, I have been positive for gold for the past 10 or 12 years and I could make a case that gold today is cheaper than it was in 1999 when it was at $252. Cheaper in the sense that if I compare gold to international reserves or to the increase in the credit markets in the world, I don’t think it’s expensive.”

I did the math on the monetary base and the price of gold. The results are shown below.

The blue line shows how many billions of ounces of gold it takes to equal the U.S. monetary base. The monetary base is made up of currency in circulation and bank reserves. One Dollar placed in the monetary base will usually multiply into more Dollars as it moves higher up in the money supply, so it is a better indicator of future inflation than the overall money supply.

The lower the line on this graph goes, the more expensive gold is; and the higher the line on this graph goes, the less expensive it is. In 1980, the price of gold averaged $612.56, and the monetary base stood at $144 billion, so the monetary base was worth 235 million ounces. In 2001, the price of gold averaged $271.04, and the monetary base stood at $639 billion, so the monetary base was worth 2.36 billion ounces.

Below is the bi-weekly ratio of the monetary base to the price of gold in 2011.

On June 29, 2011, the U.S. monetary base was worth 1.75 billion ounces. This is only slightly lower than the 1998 ratio of 1.76 billion ounces. Even though the Dollar price of gold has increased over 400% between 2000 and 2010, in terms of credit expansion, gold is essentially as cheap today as it was when the average Dollar price was $294.24. Marc Faber is correct.

Also, if we wanted to calculate how high the price of gold would have to go before it reached a 1980 style bubble, we could set the ratio’s equal to each other. Or, in equation form:
(1980 high point)/(1980 monetary base) = (equivalent high point)/(current monetary base)
($850)/$133,436,000,000) = (X)/($2,645,989,000,000)
X = $16,855

Meaning, the current price of gold would have to reach $16,855 before it is anywhere near the bubble territory it reached in 1980. The closing price yesterday was $1,511.

Update July 14, 2011: Gold is not money.

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Objectively Valuing Currencies.

In Investment Returns on June 24, 2011 by CQCA

I’ve always thought that foreign currency exchange has to be the worst business to be in. There seems to be no rhyme or reason for why some currencies move up and why some move down. The whole market is a matter of throwing bad money after bad.

Now that I live in China, I have to think about whether or not I want to keep my money in U.S. Dollars or Renminbi. If I were to just base my decision on the money supply, I would rather keep my money in U.S. Dollars. Today I thought of another way to value currencies, and it is similar to how the P/E Ratio is used to value companies. (I am certain I am not the first person to think of this.)

The price of any currency is 1.00, but its earnings for the year is the interest rate that can be earned on an account in that currency.

According to bankrate.com, MetLife Bank is offering a one year CD at a rate of 1.30%. In that case, the equation for valuing the U.S. Dollar is:
1.00 / .0130 = 76.92

The Bank of China (a commercial bank, not the central bank) is offering CDs at a rate of 3.25%. The equation for valuing the Renminbi is:
1.00 / .0325 = 30.77

Using just this method, the U.S. Dollar is way over valued compared to the Renminbi. But the problem with this method is that the inflation rate has to be taken into account. The CPI rate in both the U.S. and China are above the bank rate, so savers are actually losing wealth. Zimbabwe Dollar, which can earn 800% in the bank, would be valued at:
1.00 / 8.00 = 0.125

This shows the weakness of using this method for valuing currencies, because obviously the Zimbabwe Dollar is not the best option in terms of value investing. (Or is now the time to be a contrarian?) Also, gold and silver currently do not have interest rates, but are still the best currency available. This is why I do not trade forex.

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Chinese M2 Rose 15% Between May, 2010 and May 2011.

In Investment Returns,Money Supply on June 15, 2011 by CQCA

Chinese M2 increased from RMB 66.3 trillion in May, 2010 to RMB 76.3 trillion in May, 2011, or 15% annually.

I got back to China four days ago, and from a few observations, I can see that this new money is flowing mostly into housing. I went down to the convenience store yesterday, and the price of a large bottle of water and a cup of yogurt are the same as they were two years ago, when I first came to China. Meaning that the increase in the money supply is not being reflected in basic consumer goods.

Housing prices are another story. A friend of mine told me that when she went to meet the new people that had moved in above her, she found out they had paid double what she had paid two years ago. (And this was on the fifth floor of a building with no elevator.)

Another friend’s house has increased four times over the 2005 purchase price. That is much higher than that the 160% increase in China’s currency over that time. I believe China will most likely experience what the U.S. is going through in that housing prices crash while the price of every day goods continue to rise.

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Biggest Commodity Increases During the 1970s.

In Investment Returns on April 28, 2011 by CQCA

The chart above shows the commodities that surpassed all metrics of inflation during the 1970s by over 200%. The usual anti-inflationary investments, like gold and silver, are on the list. But, the average person has probably never heard of Noibium, Tantalum, or Molybdenum.

The major difference between the 1970s and the 2010s is that online brokerage services have made it easier for low personal wealth investors to invest directly into commodities. This means that devaluing U.S. Dollars can more easily be exchanged for claims on real assets. The price increases of commodities will probably be much more sensitive to inflation in this decade.

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Commodities that Outpaced 1970s Inflation.

In Investment Returns on April 26, 2011 by CQCA

The chart above shows the “Minor League” of commodities that outpaced the money supply during the 1970s. If the increase in the price of potash was subtracted by the increase in the money supply, the real gain would have been 1.87% over the decade. That is an annualized return (equation: 1.0187^.1 = ?) of .185% per year. Platinum increased 31.52% in real terms, which is a respectable real annualized return of 2.77% over the period.

The chart above shows the “Major League” of commodities that outpaced the money supply during the 1970s. The price of indium increased 244.98% in real terms (the nominal price subtracted by the increase in M3). This is an annualized rate 13.18% every year over the period.

These results show that certain commodities are very good investments during inflationary times.

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