A Big Look Around

The world is in financial crisis. I didn't call it or make any predictions about it. Just to be clear, I didn't see it coming. ;-D

Seriously though, possibly the most interesting part (to me) of the this changing world is the debate over historical references, past experiences and what they mean today versus the game has changed and we're looking into a relative void, with new rules, new fundamentals, and probably some stuff we don't have labels for. There is little debate that very significant change is under way. Crossroads. Critical junctures. Fundamental shift. New realities. What gives us the best view forward? For how long will we be in this place of uncertainty? And what will be the first signs of a trend reversal? Even the best technical analysis of momentum and trend are only correct until they are not. But wait, if we are to believe that things will be very different, that the fundamentals of the markets have changed and a new and different paradigm will emerge, then, as with so much in our lives, the totally unexpected and unanticipated will dominate.

Ok so whatever postulating there may be and whatever value that might have, some realities remain. Economic indicators of all stripes, asset values of all classes, equity markets everywhere, all continue to be challenged as we move through January 2009. The US is working through the process of making their gigantic $800B+ stimulus package a reality. Canada has passed their annual budget with $40B in stimulus. For Canada, this will completely erase a full decade of surpluses and paying down of national debt. Countries around the globe are walking quickly down this path and continue to do what they think is appropriate to chart a course through this economic upheaval. I acknowledge that I might not understand some basic fundamental principles of the current financial crisis. Or capitalism for that matter. Truth be known, this seems more like social capitalism, or is that capital socialism. Whatever we want to call it, spending our way to prosperity does not make sense to me. Neither do bailouts. Or nationalization of the banking system. I understand that I should be concerned over the potential systemic failure of the system, you know Lehman and all. But buying bad debt and cocooning it in a bad bank still makes it bad debt. It’s a contraction folks. The world economy needs to contract. And it will, without or without our intervention.

Within the vast and varied economic and financial blogosphere, many people reverberate with a chorus of “I just don’t get it” (click here). However, something possibly more relevant, certainly a topic of evening banter, and on the minds of many, is that of the accounting practices. Mark to market? Absolutely! “…we don't know the true tangible book value of ANY financial institution … (Fix the Accounting, Then Fix the System). Decisive, unequivocal steps need to be taken immediately argues this author. Smoke out the problems. Purge the system.


Maybe I do not fully grasp those concepts and theories. What I have grasped though is that we have come to allow the words billions and trillions to roll off our tongues with unimaginable ease. These are gargantuan, enormous numbers. The US Stimulus package is almost 1 trillion dollars. The US budget deficit for 2009 will be more than 1 trillion dollars. When put into tangible terms, these sums are completely incomprehensible. Where is all this money going? Bloomberg’s efforts to subpoena records have been thus far denied. Transparency. Honesty. Integrity. Human values that have been temporarily clouded or lost amidst the unconscious drive for profit and growth.

Where are we now? Will efforts to stimulate, support, prop up, bail out, save behave in the way they are expected to? Q4 GDP is seriously off from Q3, though by some measure not as bad as some had expected. The CRE market continues to crater. Corporate earnings are horrible, with some exceptions. After the Credit meltdown, it has been widely communicated that the next step is in the currency markets. Russia's ruble. The English pound. Canadian dollar. Kazak tenge

And of course, the fate of the USD is also hotly debated. That currency has been on a serious tear of late, screaming up from a low of 70.69 reached on 1- March 2008. November 21 marks the latest high of 88.46. The smart people in the room are saying it will reach 90-92. Not the 121 of many years ago but still a significant message. Theoretically, the unfailing printing of massive amounts of free dollars should, ultimately devalue the dollar. Significant argument has been put forward stating that the rest of the world is not ready for the demise of the USD. There is no structure, no depth in currency and capital markets to fill the void. And there are other geopolitical and geographical reasons that the complete failure of the US dollar is unlikely. I agree with this with the proviso that this applies to the foreseeable future which for me is the next 20-25years. As with all the really smart people in the room, we will have to wait and see. Underestimating the power, depth and scope of this financial crisis has led some to their demise. And the general sense is there is much more to come. In the meantime there are those that see the "fundamentals" of the USD as horrific, whilst reminding themselves that all fundamentals have been severely challenged in this new environment.

And what about the countries teetering on the verge of collapse after Iceland (UK, Latvia, Greece, Ukraine, Nicauagua). The geopolitical conditions have been and continue to be riled for Poland, NATO, the US, Ukraine, and Russia. Scarcity changes behaviour. Politics. Power. Population. They all shift and evolve to adapt. A rebalancing. It has been written that the current global circumstances are a function of the massive imbalances worldwide. This rebalancing will taken many different forms. Political and economic power will shift. Social perspectives included I expect.

Of the myriad of possible outcomes such conditions might spawn, protectionism has once again come to the fore. Changing rules and creating uncertainty. Business and economies function below their full potential with too much uncertainty. Protectionist measures on trade? Is this not adding uncertainty. It is further challenging an already fully challenged environment? I thought that this one of those that we need to avoid. And yet the new Treasury Secretary seems to believe he is adding constructively to the discussion on the currency markets. A Peoples Bank of China official stated "... we should avoid any excuse that might lead to the revitalization of trade protectionism ..." . At Davos 2009, Russian's Putin mirrored this sentiment; "One must not allow oneself to skid down to isolationism and ... ". Brazil and Argentina. China and Europe. Canadian New Democratic Party Leader calling for “buy Canada”? Tit for tat economic nationalism. With the interconnectivity of global trade, I just don’t get it. Certainly cloaked in the best interests of caring for domestic homegrown interests. But hugely damaging to international trade and trade balance. Not a good path. We will have to monitor closely its evolution.

In the meantime the resource giants are in freefall. BHP closes mine in Australia, lays off 6000 workers, and takes a $1.4B writedown. Russia must step in to ensure the viability of their aluminum industry. Shutting in production. Mothballing factories. Serious workforce reductions, worldwide. “What if??” brings out some worst case scenarios. What if debt is downgraded? What if China corporate defaults? What if Euro/Latin countries default? The underlying sentiment to the author’s analysis and discussion is not catastrophic. And the month of January has given us some fodder for optimism (Don't Count Chickens, But Recent Economic News Has Turned). The technical, fundamental or visual analyses continue to have a broad range of interpretations. The strength and duration of any rally at this point has to be seriously suspect for any meaningful longevity.

What does this mean at home? The backbone of the western Canada economy is taking it on the chin. Over $100B in oilsands projects have been shelved for the moment. Expansion of existing or construction of new facilities has been shelved by several companies. Not everyone is pulling in their horns though. Total has made a surprise offer for UTS. Imperial is going ahead with Kearl and an expansion at Cold Lake. Petroleum Services Association of Canada has come out with its annual drilling forecast. PSAC predicts that the total number of wells to be drilled will be 46% off the peak in 2005, and 30% decline YoY. The real impact of these circumstances will be seen in supply shortages and delivery misses in 2-3 years, or more likely earlier.

With varied degrees of emphasis and commitment, there is a general consensus that gold, silver, uranium and energy are among the safe bets for the current markets. Commodities in general will rebound, but not likely this year. There has been some talk about bonds, including high quality corporates. Corporate earnings are tanking with little strength showing. Some yields certainly are tantalizing. Municipal bonds are another widely touted opportunity. PIMCO, as one institution directly connected to TARP, placed some of their bets in this camp. Mr. Gross’s recent instruction to policy makers saying “ … should recognize that supporting critical asset prices such as municipal bonds, CMBS (commercial mortgage-backed securities), and even investment-grade corporate bonds is a necessary step towards eventual economic revival … " seems a little too self serving. I believe positions held or taken in October can be held through an upward trend into April, and possibly as late as September. At an appropriate time in that window, I will be exiting all equity positions and preparing for the next major buying opportunity which will be not before the end of Q4 2009.

My final thought to this note is founded in the plethora of mismanagement and outright fraudulent practices that have become exposed with the financial crisis. Scandalous. Despicable. Embarrassing. Criminal. The boundaries of human behaviour have once again been broadened. New limits of greed and self interest have been identified. Maybe I am overly sensitive, even naïve. I have been inclined for some time to abandon the rest of modern society and taking up residence on a small tropical island. The events of the last months have added fuel to that fire.

Maybe the upcoming testimony from Bernard L. Madoff Securities whistleblower Harry Markopoulos will have people stand up and listen (full text here). I am hopeful. Mr. Markoloulos’ documentation is tidy and impeccable. Calls for better regulation might help. This bust in the financial system is getting a lot of people’s attention. Maybe this “thwack” across the back of the head will jostle a little more honesty, integrity and ethics back into our lives. I have one request. Stop stealing others peoples money. It’s not yours.