Posts filed under ‘economy’
Bin Laden Killing Overshadows Royal Rally
Excerpt from No-Cost May Sidoxia Monthly Newsletter (Subscribe on right-side of page)
Before the announcement of the killing of the most wanted terrorist in the world, Osama bin Laden, the royal wedding of Prince William Arthur Philip Louis and Catherine Middleton (Duke and Duchess of Cambridge) grabbed the hearts, headlines, and minds of people around the world. As we exited the month, a less conspicuous royal rally in the U.S. stock market has continued into May, with the S&P 500 index climbing +2.8% last month as the economic recovery gained firmer footing from the recession of 2008 and early 2009. As always, there is no shortage of issues to worry about as traders and speculators (investors not included) have an itchy sell-trigger finger, anxiously fretting over the possibility of losing gains accumulated over the last two years.
Here are some of the attention-grabbing issues that occurred last month:
Powerful Profits: According to Thomson Reuters, first quarter profit growth as measured by S&P 500 companies is estimated at a very handsome +18% thus far. At this point, approximately 84% of companies are exceeding or meeting expectations by a margin of 7%, which is above the long-term average of a 2% surprise factor.
Debt Anchor Front & Center: Budget battles remain over record deficits and debt levels anchoring our economy, but clashes over the extension of our debt ceiling will occur first in the coming weeks. Skepticism and concern were so high on this issue of our fiscal situation that the Standard & Poor’s rating agency reduced its outlook on the sovereign debt rating of U.S. Treasury securities to “negative,” meaning there is a one-in-three chance our country’s debt rating could be reduced in the next two years. Democrats and Republicans have put forth various plans on the negotiating table that would cut the national debt by $4 – $6 trillion over the next 10-12 years, but a chasm still remains between both sides with regard to how these cuts will be best achieved.
Inflation Heating Up: The global economic recovery, fueled by loose global central bank monetary policies, has resulted in fanning of the inflation flames. Crude oil prices have jumped to $113 per barrel and gasoline has spiked to over $4 per gallon. Commodity prices have jumped up across the board, as measured by the CRB (Commodity Research Bureau) BLS Index, which measures the price movements of a basket of 22 different commodities. The CRB Index has risen over +28% from a year ago. Although the topic of inflation is dominating the airwaves, this problem is not only a domestic phenomenon. Inflation in emerging markets, like China and Brazil, has also expanded into a dangerous range of 6-7%, and many of these governments are doing their best to slow-down or reverse loose monetary policies from a few years ago.
Expansion Continues but Slows: Economic expansion continued in the first quarter, but slowed to a snail’s pace. The initial GDP (Gross Domestic Product) reading for Q1 slowed down to +1.8% growth. Brakes on government stimulus and spending subtracted from growth, and high fuel costs are pinching consumer spending.
Ben Holds the Course: One person who is not overly eager to reverse loose monetary policies is Federal Reserve Chairman, Ben Bernanke. The Chairman vowed to keep interest rates low for an “extended period,” and he committed the Federal Reserve to complete his $600 billion QE2 (Quantitative Easing) bond buying program through the end of June. If that wasn’t enough news, Bernanke held a historic, first-ever news conference. He fielded a broad range of questions and felt the first quarter GDP slowdown and inflation uptick would be transitory.
Skyrocketing Silver Prices: Silver surged ahead +28% in April, the largest monthly gain since April 1987, and reached a 30-year high in price before closing at around $49 per ounce at the end of the month. Speculators and investors have been piling into silver as evidenced by activity in the SLV (iShares Silver Trust) exchange traded fund, which on occasion has seen its daily April volume exceed that of the SPY (iShares SPDR S&P 500) exchange traded fund.
Obama-Trump Birth Certificate Faceoff: Real estate magnate and TV personality Donald Trump broached the birther issue again, questioning whether President Barack Obama was indeed born in the United States. President Obama produced his full Hawaiian birth certificate in hopes of putting the question behind him. If somehow Trump can be selected as the Republican presidential candidate for 2012, he will certainly try to get President Obama “fired!”
Charlie Sheen…Losing! The Charlie Sheen soap opera continues. Ever since Sheen has gotten kicked off the show Two and a Half Men, speculation has percolated as to whether someone would replace Sheen to act next to co-star John Cryer. Names traveling through the gossip circles include everyone from Woody Harrelson to Jeremy Piven to Rob Lowe. Time will tell whether the audience will laugh or cry, but regardless, Sheen will be laughing to the bank if he wins his $100 million lawsuit against Warner Brothers (TWX).
Wade W. Slome, CFA, CFP®
Plan. Invest. Prosper.
DISCLOSURE: Sidoxia Capital Management (SCM) and some of its clients own certain commodity and S&P 500 exchange traded funds, but at the time of publishing SCM had no direct position in SLV, SPY, TWX, or any other security referenced in this article. No information accessed through the Investing Caffeine (IC) website constitutes investment, financial, legal, tax or other advice nor is to be relied on in making an investment or other decision. Please read disclosure language on IC “Contact” page.
Inflation and the Debt Default Paradox
With the federal government anchored down with over $14 trillion in debt and trillion dollar deficits as far as the eye can see, somehow people are shocked that Standard & Poor’s downgraded its outlook on U.S. government debt to “Negative” from “Stable.” This is about as surprising as learning that Fat Albert is overweight or that Charlie Sheen has a substance abuse problem.
Let’s use an example. Suppose I received a pay demotion and then I went on an irresponsible around-the-world spending rampage while racking up over $1,000,000.00 in credit card debt. Should I be surprised if my 850 FICO score would be reviewed for a possible downgrade, or if credit card lenders became slightly concerned about the possibility of collecting my debt? I guess I wouldn’t be flabbergasted by their anxiety.
Debt Default Paradox?
With the recent S&P rating adjustment, pundits over the airwaves (see CNBC video) make the case that the U.S. cannot default on its debt, because the U.S. is a sovereign nation that can indefinitely issue bonds in its own currency (i.e., print money likes it’s going out of style). There is some basis to this argument if you consider the last major developed country to default was the U.S. government in 1933 when it went off the gold standard.
On the other hand, non-sovereign nations issuing foreign currencies do not have the luxury of whipping out the printing presses to save the day. The Latin America debt defaults in the 1980s and Asian Financial crisis in the late 1990s are examples of foreign countries over-extending themselves with U.S. dollar-denominated debt, which subsequently led to collapsing currencies. The irresponsible fiscal policies eventually destroyed the debtors’ ability to issue bonds and ultimately repay their obligations (i.e., default).
Regardless of a country’s strength of currency or central bank, if reckless fiscal policies are instituted, governments will eventually be left to pick their own poison…default or hyperinflation. One can think of these options as a favorite dental procedure – a root canal or wisdom teeth pulled. Whether debtors get paid 50 cents on the dollar in the event of a default, or debtors receive 100 cents in hyper-inflated dollars (worth 50% less), the resulting pain feels the same – purchasing power has been dramatically reduced in either case (default or hyperinflation).
Of course, Ben Bernanke and the Federal Reserve Bank would like investors to believe a Goldilocks scenario is possible, which is the creation of enough liquidity to stimulate the economy while maintaining low interest rates and low inflation. At the end of the day, the inflation picture boils down to simple supply and demand for money. Fervent critics of the Fed and Bernanke would have you believe the money supply is exploding, and hyperinflation is just around the corner. It’s difficult to quarrel with the printing press arguments, given the size and scale of QE1 & QE2 (Quantitative Easing), but the fact of the matter is that money supply growth has not exploded because all the liquidity created and supplied into the banking system has been sitting idle in bank vaults – financial institutions simply are not lending. Eventually this phenomenon will change as the economy continues to recover; banks adequately build their capital ratios; the housing market sustainably recovers; and confidence regarding borrower creditworthiness improves.
Scott Grannis at the California Beach Pundit makes the point that money supply as measured by M2 has shown a steady 6% increase since 1995, with no serious side-effects from QE1/QE2 yet:
- Source: Calafia Beach Pundit
In fact, Grannis states that money supply growth (+6%) has actually grown less than nominal GDP over the period (+6.7%). Money supply growth relative to GDP growth (money demand) in the end is what really matters. Take for instance an economy producing 10 widgets for $10 dollars, would have a CPI (Consumer Price Index) of $1 per widget and a money supply of $10. If the widget GDP increased by 10% to 11 widgets (10 widgets X 1.1) and the Federal Reserve increased money supply by 10% to $11, then the CPI index would remain constant at $1 per widget ($11/11 widgets). This is obviously grossly oversimplified, but it makes my point.
Gold Bugs Banking on Inflation or Collapse
Gold prices have been on a tear over the last 10 years and current fiscal and monetary policies have “gold bugs” frothing at the mouth. These irresponsible policies will no doubt have an impact on gold demand and gold prices, but many gold investors fail to acknowledge a gold supply response. Take for example Freeport-McMoRan Copper & Gold Inc. (FCX), which just reported stellar quarterly sales and earnings growth today (up 31% and 57%, respectively). FCX more than doubled their capital expenditures to more than $500 million in the quarter, and they are planning to double their exploration spending in fiscal 2011. Is Freeport alone in their supply expansion plans? No, and like any commodity with exploding prices, eventually higher prices get greedy capitalists to create enough supply to put a lid on price appreciation. For prior bubbles you can reference the recent housing collapse or older burstings such as the Tulip Mania of the 1600s. One of the richest billionaires on the planet, Warren Buffett, also has a few thoughts on the prospects of gold.
The recent Standard & Poor’s outlook downgrade on U.S. government debt has caught a lot of press headlines. Fears about a technical default may be overblown, but if fiscal constraint cannot be agreed upon in Congress, the alternative path to hyperinflation will feel just as painful.
Wade W. Slome, CFA, CFP®
Plan. Invest. Prosper.
DISCLOSURE: Sidoxia Capital Management (SCM) and some of its clients own certain exchange traded funds, but at the time of publishing SCM had no direct position in FCX, or any other security referenced in this article. No information accessed through the Investing Caffeine (IC) website constitutes investment, financial, legal, tax or other advice nor is to be relied on in making an investment or other decision. Please read disclosure language on IC “Contact” page.
Nuclear Knee-Jerk Reaction
It’s amazing how quickly the long-term secular growth winds can reverse themselves. Just a week ago, nuclear energy was thought of as a safe, clean, green technology that would assist the gasoline pump pain in our wallets and purses. Now, given the events occurring in Japan, “nuclear” has become a dirty word equated to a life-threatening game of Russian roulette.
Despite the spotty information filtering in from the Dai-Ichi plant in Japan, we are already absorbing knee-jerk responses out of industrial heavyweight countries like Germany and China. Germany has temporarily closed seven nuclear power centers generating about a quarter of its nuclear capacity, and China has instituted a moratorium on all new facilities being built. How big a deal is this? Well, China is one country, and it alone currently accounts for 44% of the 62 global nuclear reactor projects presently under construction (see chart below).
Source: World Nuclear Association (URRE Presentation)
As a result of the damaged Fukushima reactors, coupled with various governmental announcements around the globe, Uranium prices have dropped a whopping -30% within a month – plunging from about $70 per pound to around $50 per pound today.
Where does U.S. Nuclear Go from Here?
As you can see from the chart below, the U.S. is the largest producer of nuclear energy in the world, but since our small population is such power hogs, this relatively large nuclear capability only accounts for roughly 20% of our country’s total electricity needs. France, on the other hand, manages about half the reactors as we do, but the French derive a whopping 75% of their total electricity needs from nuclear power. According to the Nuclear Energy Institute, Japanese reliance on nuclear power falls somewhere in between – 29% of their electricity demand is filled by nuclear energy. Like Japan, the U.S. imports most of its energy needs, so if nuclear development slows, guess what, other resources will need to make up the difference. OPEC and various other oil-rich, dictators in the Middle East are licking their chops over the future prospects for oil prices, if a cost-effective alternative like nuclear ends up getting kicked to the curb.
Source: The Economist
As I alluded to above, there is, however, a silver lining. As long as oil prices remain elevated, any void created by a knee-jerk nuclear backlash will only create heightened demand for alternative energy sources, including natural gas, solar, wind, biomass, clean coal, and other creative substitutes. While we Americans may be addicted to oil, we also are inventive, greedy capitalists that will continually look for more cost-efficient alternatives to solve our energy problems (see also Electrifying Profits). Unlike other countries around the world, it looks like the private sector will have to do the heavy lifting to solve these resources on their own dime. Limited subsidies have been introduced, but overall our government has lacked a cohesive energy plan to kick-start some of these innovative energy alternatives.
Déjà Vu All Over Again
We saw what happened on our soil in March 1979 when the Three Mile Island nuclear accident in Pennsylvania consumed the hearts and minds of the country. Pure unadulterated panic set in and new nuclear production ground to a virtual halt. When the subsequent Chernobyl incident happened in April 1986 insult was added to injury. As you can see from the chart below, nuclear reactor capacity has plateaued for some twenty years now.
Source: Wikipedia
The driving force behind the plateauing nuclear facilities is the NIMBY (Not In My Back Yard) phenomenon. The Three Mile Island incident is still fresh in people’s minds, which explains why only one nuclear plant is currently under construction in our country, on top of a base of 104 U.S. reactors in 31 states. I point this out as an ambivalent NIMBY-er since I work 30 miles away from one of the riskiest, 30-year-old nuclear plants in the country (San Onofre).
Unintended Consequences
The Sendai disaster is home to the worst Japanese earthquake in 140 years, by some estimates, but history will prove once again what unintended consequences can occur when impulsive knee-jerk decisions are made. Just consider what has happened to oil prices since the moratorium on offshore drilling (post-BP disaster) was instituted. Sure we have witnessed a dictator or two topple in the Middle East, and there currently is adequate supply to meet demand, but I would make the case that we should be increasing domestic oil supplies (along with alternative energy sources), not decreasing supplies because it is politically safe.
Time will tell if the Japanese earthquake/tsunami-induced nuclear disaster will create additional unintended consequences, but I am hopeful the recent events will at a minimum create a serious dialogue about a comprehensive energy policy. If the comfortable, knee-jerk reaction of significantly diminishing nuclear production is broadly adopted around the world, then an urgent alternative supply response needs to occur. Otherwise, you may just need to enjoy that bike ride to work in the morning, along with that nice, romantic candle-lit dinner at night.
Wade W. Slome, CFA, CFP®
Plan. Invest. Prosper.
DISCLOSURE: Sidoxia Capital Management (SCM) and some of its clients own certain exchange traded funds and alternative energy securities, but at the time of publishing SCM had no direct position in BP, URRE, or any other security referenced in this article. No information accessed through the Investing Caffeine (IC) website constitutes investment, financial, legal, tax or other advice nor is to be relied on in making an investment or other decision. Please read disclosure language on IC “Contact” page.
Flying to the Moon via Hyperinflation
With Ben Bernanke and his fellow Fed friends about to crank up the printing presses to overdrive, QE2 (quantitative easing part II) is top of mind among investors. QE2 talks of purchasing Treasuries and mortgage backed securities to pump more dollars into the financial system has been cited by many observers as a key factor in the upward progression in the equity markets over the last couple months. But is too much of a good thing in the short-run, detrimental in the long run due to inflationary pressures?
Not necessarily, if you consider the path of stocks in the hyperinflationary Israeli market of the 1970s and 1980s. Dylan Grice from Societe Generale notes that Israeli inflation averaged 84% from 1972 – 1987. During that period, Israeli equity markets managed to increase by a factor of 6,500 times according to Grice. So while inflation skyrocketed to the moon, so did stock prices. Will QE2 ignite dormant core inflation, which is hovering around 1%? If a declining U.S. dollar and rising commodity prices are the canary in the coalmine, then maybe piling into bonds like the majority of Americans is not the best idea?
Source: Business Insider - Clusterstock
Grice may be worried about inflation in the U.S., but Japan is at the forefront on his radar. Supporting that view, he has a modest 63,00,000.00 target on the Nikkei index by 2025 (the index sits at 9,160 today). That’s right…63 million. A near 7,000-fold increase may sound insane, but with exploding debt levels and deficits, coupled with declining demographics from an aging population, perhaps hyperinflation is not out of the question?
If push comes to shove, the Japanese government may print enough money to monetize debt the marketplace cannot absorb. Crazier things have happened in world history – during 1923 in the Weimar Republic of Germany hyperinflation led to a 4,200,000,000,000 German Mark to $1 U.S. dollar exchange rate. More recently we experienced a 79,600,000,000% inflation rate in Zimbabwe and the government actually issued a $100 trillion note. These astronomical inflation rates make our domestic inflationary worries seem like kids-play, but eventually the simple laws of economics will take over, if we do not get our fiscal house in order.
Double digit inflation in the U.S. during the stagflation era of the 1970s crimped Price-Earnings (P/E) ratios to single-digit levels, but this is not surprising with a Federal Funds rate that hit 20% in 1980 – 1981. Today the Fed Funds rate is at 0%, so I don’t think single-digit P/Es will be upon us anytime soon.
The great thing about money is it goes where it is treated best over the long run. In the short-run, money will slosh around and chase performance based on speculative animal spirits, but over time what Adam Smith called the “invisible hand” directs capital to appropriate investments. It was just a few months ago that pundits were talking about double-dip and deflation scenarios (see Double-Dip Guesses), and now on the brink of QE2, the pendulum has swung back to inflation fears. Printing excess amounts of money may provide temporarily fuel to help lift the economy off the ground, but if irresponsible fiscal decisions continue, then the economic rocket scheduled for the moon may come crashing back down with the economy. Do yourself a favor and pack a parachute filled with an adequate amount of equities – they will help protect you if your bond portfolio comes crashing down on higher rates and inflation.
Wade W. Slome, CFA, CFP®
Plan. Invest. Prosper.
DISCLOSURE: Sidoxia Capital Management (SCM) and some of its clients own certain exchange traded funds, but at the time of publishing SCM had no direct position in any other security referenced in this article. No information accessed through the Investing Caffeine (IC) website constitutes investment, financial, legal, tax or other advice nor is to be relied on in making an investment or other decision. Please read disclosure language on IC “Contact” page.
Listening for Dinner Bell or Penalty Whistle?
Excerpt from my monthly newsletter (sign-up on the right of page)…
Investors are eagerly waiting on the sidelines wondering whether to listen for a dinner bell signaling the time to sink their teeth into traditional equity investments, or respond to a penalty whistle by nervously maintaining money in depleted, inflation-losing CDs. A large swath of investors are still scarred from the losses experienced from the 2008-2009 financial crisis and are trying to rationalize the recent +80% move in equity markets (S&P 500 index) over the last 18 months. Eating saltine crackers and drinking water in CDs and money market accounts yielding < 1% feels OK when the world is collapsing around you, but eventually people realize retirement goals are tough to achieve with the money stuffed under the mattress.
Here are some recent bells and whistles we are listening to:
Mid-Term Elections: Regardless of your politics, Republicans are forecasted to regain control of the House of Representatives, while expectations for a narrow Democrat Senate majority remains the consensus. Currently, Democrat Jerry Brown is a handful of points in the lead over Meg Whitman for the California governor’s race. Another issue voters are closely monitoring is the likelihood of Bush tax-cut extensions.
Printing Press Part II: The Federal Reserve has strongly hinted of another round at the printing press in an effort to stimulate the economy by keeping interest rates low (e.g., record low 30-year fixed mortgage rates around 4.2%). The Fed accomplishes this so-called Quantitative Easing (or QE2) by purchasing Treasuries and mortgage backed securities – pumping more dollars into the financial system to expand credit and loans. In addition, QE2 is structured to stimulate the meager 0.8% core inflation experienced over the last 12 months (Bloomberg) to a Goldilocks level – not too hot and not too cold. QE2 asset purchase estimates are all over the map, but estimates generally stand at the low end of the original $200 billion to $2 trillion range.
Growth Continues: Although companies are sitting on record piles of cash ($1.8 trillion for all non-financial companies), chief executive officers continue to have short arms with their deep pockets when it comes to spending on new hires. Persistent growth for five consecutive quarters (2% GDP expansion in Q2), coupled with tight cost controls, is resulting in 46% estimated growth in 2010 corporate profits as measured by the average of S&P 500 companies. For the time being, “double dip” worries have been put on hold for this jobless recovery.
Unemployment Hypochondria: As I wrote in an earlier Investing Caffeine article (READ HERE), there is an almost obsessive focus on the unemployment rate, which although moving in the right direction, remains at a stubbornly high 9.6% rate nationally. Fresh new employment data will be released this Friday.
Foreclosure-gate: As foreclosures have increased and the decline in the housing market has matured, investors have grown more impatient with collections from mortgage backed securities originators. Banks and other mortgage lenders could face more than $100 billion in losses (CNBC) in mortgage “putbacks” related to improper packaging and terms disclosed to investors. Lawyers are salivating at the opportunity of litigating the thousands of potential cases across the country.
Create Your Own Blueprint – Block Noise
In reality, there is no dinner bell or penalty whistle when it comes to investing. Sure, we hear dinner bells and whistles every day on TV from strategists and economists, but in this sordid, cacophony of daily noise, the long line-up of soothsayers are constantly switching back and forth between optimistic bells and pessimistic whistles. The consistent onslaught of this indiscernible noise serves no constructive purpose for the average investor. I strongly believe the correct plan of attack is to create a customized investment plan that meets your long-term objectives, constraints, and risk tolerance. By creating a diversified portfolio of low-cost tax-efficient products and strategies, I believe investors will be more securely positioned for a more comfortable and less stressful retirement.
I have my own opinions on the economic environment, which I detail in excruciating detail through my InvestingCaffeine.com writings. These macro-economic opinions are stimulating but have little to no bearing on the construction of my investment portfolios. More important is focusing on the investment areas with the best fundamental prospects, while balancing risk and return for each client.
Despite what I just said, if you are still determined to know my opinions on the market direction, then follow me to the dinner table; I just heard the dinner bell ring.
Wade W. Slome, CFA, CFP®
Plan. Invest. Prosper.
DISCLOSURE: Sidoxia Capital Management (SCM) and some of its clients own certain exchange traded funds, but at the time of publishing SCM had no direct position in GE, or any other security referenced in this article. No information accessed through the Investing Caffeine (IC) website constitutes investment, financial, legal, tax or other advice nor is to be relied on in making an investment or other decision. Please read disclosure language on IC “Contact” page.
Rams Butting Heads: Rosenberg vs. Paulsen
Source: Photobucket
After a massive decline in financial markets during 2008, followed by a significant rebound in during 2009, should it be a surprise to anyone that economists hold directly opposing views? Financial markets are Darwinian in many respects, and Bloomberg was not bashful about stirring up a battle between David Rosenberg (Chief Economist & Strategist at Gluskin Sheff) and James Paulsen (Chief Investment Strategist at Wells Capital Management). The two economists, like the equivalent of two rams, lowered their horns and butted heads regarding their viewpoints on the economy. Rams butt heads (two words) together as a way to create a social order and hierarchy, so depending on your views, you can determine for yourself whom is the survival of the fittest. Regardless of your opinion, the exchange is an entertaining clash:
Paulsen’s Case (see also Unemployment Hypochondria): Paulsen makes the case that although the recovery has not been a gangbuster, nonetheless, the rebound has been the strongest in 25 years if you look at real GDP growth in the first year after a recession ends. He blames demographic atrophy in labor force growth (i.e., less job growth from Baby Boomers and fewer women joining the workforce relative to the mid-1980s) for the less than stellar absolute number.
Rosenberg’s Case: Rosenberg explains that the last two recoveries bear no resemblance to the recent recovery. The recent recession was one of the worst of all-time, therefore we should have experienced a sharper V-shaped recovery. All the major economic statistics are at dismal levels, and nowhere near the levels experienced in late 2007. He goes on to add that the stimulus, monetary policy, and bailouts have not produced the bang for our buck. Rosenberg says he will put on his bull hat once we enter a credit creation cycle that allows the economy to grow on an organic, sustained basis without artificial stimuli.
Like other pre-crisis bears who have floated to the top of the media mountain, Rosenberg has had difficulty adjusting his doom and gloom playbook as markets have rebounded approximately +80% from March 2009. Rosenberg maintained his pessimistic outlook as he transitioned from Merrill Lynch to Gluskin Sheff and has been wrong ever since. How wrong? Let’s take a look at Rosenberg’s first letter at his new employer, Gluskin Sheff (dated May 19th 2009):
Statement #1: “It stands to reason that this was just another counter-trend rally.” Reality: Dow Jones Industrial Average was at 8,475 then, and 11,114 today.
Statement #2: “It now looks as though the major averages are about to embark on the fabled retesting phase towards the March lows.” Reality: Dow never got close to 6,470 and stands at 11,114 today.
Statement #3: “It is unlikely that we have crossed the Rubicon into new bull market terrain and that the fundamental lows have been put in.” Reality: Dow just needs to fall -42% and Rosenberg will be right.
Statement #4: “[Unemployment] looks like we will likely get back to that old peak of 10.8% in coming quarters.” Reality: We peaked at 10.1% in October a year ago, and stand at 9.6% today.
Statement #5: “Deflation risks continue to trump inflation risks, at least over the near- and intermediate-term.” Reality: Commodity prices are dramatically escalating (CRB commodity index skyrocketing) across many categories, including the four-Cs (copper, corn, cotton, and crude oil).
I don’t pretend to be whistling past the graveyard, because we indeed have serious structural problems (deficits, debt, unsustainable entitlements, high unemployment, etc., etc., etc.), but when was there never something to worry about? See 1963 article? Like the endless “double dip” economists before him (see also Double-Dip Guesses). As the evidence shows, Rosenberg’s anything-but-rosy outlook is a tad extreme and has been dead wrong…at least for the last 1 and ½ years or almost 3,000 Dow Points. Just a few months ago, Rosenberg raised the odds of a double-dip recession from 45% to 67%.
Perhaps the sugar high stimulus will wear off, the steroid side-effects will kick in, and the Fed’s printing presses will break down and cause an economic fire? Until then, corporate profits continue to swell, cash is piling higher, valuations have been chopped in half from a decade ago (see Marathon Investing), and money stuffed under the mattress earning 0.5% will eventually leak back into the market.
I do however agree with Rosenberg in a few respects, and that revolves around his belief that banking industry will not be the leading group out of this cyclical recovery, and housing headwinds will remain in place for a extended period of time. Moreover, I agree with many of the bears when it comes to government involvement. Artificially propping up sectors like housing makes no sense. Why delay the inevitable by flushing taxpayer money down the toilet. Did you see the government running cash for clunker servers and storage in 2000 when the tech bubble burst? Does incentivizing capacity expansion with free money in an industry with boatloads of excess capacity already really make sense? Although media commentators and gloomy economists like Rosenberg paint everything as black and white, most reasonable people understand there are many shades of gray.
Gray that is…like the color of two rams butting heads.
Wade W. Slome, CFA, CFP®
Plan. Invest. Prosper.
DISCLOSURE: Sidoxia Capital Management (SCM) and some of its clients own certain exchange traded funds, but at the time of publishing SCM had no direct position in any other security referenced in this article. No information accessed through the Investing Caffeine (IC) website constitutes investment, financial, legal, tax or other advice nor is to be relied on in making an investment or other decision. Please read disclosure language on IC “Contact” page.
Short Arms, Deep Pockets
Companies have deep pockets flush with cash, but are plagued with short arms, unwilling to reach into their wallets to make substantive new hires. I have talked about “unemployment hypochondria” in the past but is this cautious behavior rational?
The short answer is yes, and it is very typical in light of the similar “jobless recoveries” we experienced in 1991 and 2001. After suffering the worst financial crisis in a generation, employers’ wounds are still not completely healed and the frightening memories of 2008-2009 are still fresh in their minds.
Linchpin Labor
The globalization cat is out of the bag, and technology is only accelerating the commoditization of labor. When labor can be purchased for $1 per hour in China or $.50 per hour in India , and in many instances no strategic benefit lost, then why are so many people surprised about the hemorrhaging of $25 per hour manufacturing jobs to cheaper locales? Agriculture and related industries used to account for more than 90% of our economy about 150 years ago – today agriculture makes up about 2% of our economic output. Even though this dominating sector withered away on a relative basis, the United States became the global powerhouse innovator of the 20th century.
Innovative companies understand that true value is created by those workers who make themselves indispensable – or what Seth Godin calls “Linchpins.” Apple Inc. (AAPL) understands these trends. If you don’t believe me, just flip over an iPhone and read where it clearly states, “Designed by Apple in California. Assembled in China.” (see BELOW).
We are falling further behind our global brethren in math and science, and our immigration policy is all backwards (Keys to Success). Education, creativity, ingenuity, and entrepreneurial spirit are the main ingredients necessary to climb the labor food chain. For those workers that make themselves linchpins, their services will be in demand during good times and bad times.
Jobs = Heavy Hiking Boots
Like scared hikers jettisoning heavy hiking boots to escape a pursuing grizzly bear, business owners will eventually need to purchase a new pair of boots, if they want to hike the mountain to face the next challenge. Right now, businesses are content waiting it out, more worried about the potential of a bear jumping out to devour them.
Although businesses may not be plunging into hiring a substantial number of new workers, positive leading indicators are becoming more apparent. Beyond the obvious improvement in the explicit job numbers (e.g., nine consecutive months of private job creation), other factors such as increased temporary workers, accelerating job listings, and increased capital expenditures are the precursors to sustained job hiring.
Quarterly Capital Carrots
Capital expenditures generally lead to more immediate productivity improvements and do not have a complete negative and immediate impact on the sacred EPS (earnings per share) and income statement metrics. On the other hand, hiring a new employee has an instant depressing effect on expenses, thereby dragging down the beloved EPS figure. What’s more, new employees do not typically become productive or sales generative for months. If you consider the heavy explicit wages coupled with implicit training costs, until the coast is clear and confidence overcomes fear, businesses are not going to dip their hands into their cash-filled pockets to hire workers willy-nilly.
As previously mentioned, improved business confidence is being signaled by increased capital spending. Just over the last week, investors have witnessed significantly expanded capital expenditures across a broad array of industries. Here are a few random samplings:
September 2010 – Quarterly Capital Expenditures
Q3 – 2010 Q3 – 2009 YOY%
Apple Inc. (AAPL) $760 mil vs. $459 mil +66%
Halliburton Company (HAL) $557 mil vs. $440 mil +27%
Coca Cola Company (KO) $442 mil vs. $419 mil +5%
Dominos Pizza Inc. (DPZ) $5.2 mil vs. $4.1 mil +26%
Intel Corp. (INTC) $1.4 bill vs $944 mil +44%
Although the pace of the recovery is losing steam, companies’ health persists to strengthen, as evidenced in part by the +45% growth in 2010 S&P 500 profits, swelling record cash piles, and increasing corporate confidence (rising capital expenditures). Despite these positive leading indicators, business owners are reluctant to dip their short arms into their deep cash-filled pockets to hire new employees. Given our experience over the last few decades this corporate behavior is perfectly consistent with recent jobless recoveries. Until its clear the economic bear is hibernating, businesses will continue building their cash warchests. Everyone will be happier once we are done running from bears, and instead chasing bulls.
Wade W. Slome, CFA, CFP®
Plan. Invest. Prosper.
DISCLOSURE: Sidoxia Capital Management (SCM) and some of its clients own certain exchange traded funds and AAPL, but at the time of publishing SCM had no direct position in HAL, KO, DPZ, INTC, or any other security referenced in this article. No information accessed through the Investing Caffeine (IC) website constitutes investment, financial, legal, tax or other advice nor is to be relied on in making an investment or other decision. Please read disclosure language on IC “Contact” page.
Unemployment Hypochondria
Average investors feel ill from the 2008-2009 financial mess, and like hypochondriacs they can only find fleeting reassurances by reviewing endless amounts of unemployment data. Volatile monthly data is not sufficient, so even more erratic weekly jobless claims data are relied upon. Why just stop there? With this insatiable appetite for unemployment rate data right now, people can’t get enough, so I am not only petitioning for the release of a daily jobs report, but also an hourly one.
Jobs data are relatively straightforward and simple for most Americans to understand. However, most people have more difficulty connecting with economic acronyms and data points such as GDP, PPI, CPI, industrial production, Philly Fed, capacity utilization, Conference Board LEI, durable goods, factory orders, energy inventories, trade balance, unit labor costs, and other economic figures.
Normal Progression
What’s the big deal surrounding the infatuation with myopic unemployment data? We have these things called “recessions” about twice every decade, and of the last 11 post-WWII recessions we have had 11 recoveries – not a bad batting percentage. Obviously, unemployment is a big deal if you are one of the 15 million or so people with no job, but as Jim Paulsen, Chief Investment Strategist at Wells Capital Management points out in his August Economic and Market Perspective, this current recovery is progressing at the fastest pace of any recovery over the last 25 years, and yes, jobs are being added (albeit slower than hoped).
“The consensus perception that this recovery is the ‘worst ever’ and consequently extremely vulnerable to a potential double-dip recession is overblown…Even if this recovery is weak compared to older postwar norms, it is still stronger than any other recovery in the last 25 years,” states Mr. Paulsen.
As you can see from Paulsen’s table below, our current recovery is not as brisk as the recoveries in the pre-1983 era, but he chalks up this trend to subpar growth in the United States’ labor force.
Source: James Paulsen, Wells Capital Management
Paulsen identified this dampened worker growth since the mid-1980s. He doesn’t attribute moderate growth to the “New Normal,” as described by PIMCO pals Bill Gross and Mohamed El-Erian (see also New Normal is Old Normal), but rather ascribes the phenomenon to a continuing trend. Paulsen adds:
“Whatever is causing the ‘new-normal’ economy has been doing it for the last 25 years. The ‘new normal’ is actually kind of old—at least a quarter century old.”
If you think about it, what businesses carried out over the last two years is clearly consistent with a normal economic recovery:
1) Businesses fired employees swiftly amid great uncertainty.
2) Businesses cut expenses, especially discretionary ones, and now profits and cash are piling up.
3) Businesses are buying more capital equipment. Spending is up +12% (to ~$1.3 trillion) from early 2009 according to Joe Lavorgna, an economist at Deutsche Bank.
4) Business acquisitions are beginning to heat up. Witness BHP Billiton’s (BHP) bid for Potash Corp (POT), and HP’s (HPQ) bid for 3Par (PAR) as examples (read HP’s Winner’s Curse).
5) Businesses are paying larger dividends and buying back more of their own stock.
All these actions are very reasonable given the continued uncertain economic environment and rapidly building cash war chests. Buying back stock, doing acquisitions, and prudently spending on cost saving equipment are, generally speaking, accretive measures for a company’s profit and loss statement. On the other hand, hiring employees is usually a lagging indicator of economic expansion and acts as diluting profit forces – at least in the short-run until workers become more productive. Eventually cash and/or business confidence will rise enough to push human resource departments over the fence to begin hiring again.
The weekly unemployment claims chart shows how rapidly improvement has been achieved over the last few decades, even though the improvement has stalled at a lofty level.
Source: ScottGrannis.Blogspot.com (8/13/10).
Japan Case Study: Demographic Double Edged Sword
Be careful what you wish for. Low unemployment is not the end-all, be-all of the world we live in. Take Japan for example. From 1953 until 2010, Japan’s unemployment rate averaged about 2.6%. The last reported rate registered 5.2% in July, double Japan’s average, but almost half of the U.S.’s current 9.6% rate.
Why does Japan have lower unemployment? There are numerous reasons cited – everything from over-employment in the agriculture sector to uncounted married women and protective conglomerates to better disincentives in unemployment insurance program. Overshadowing these reasons is the unmistakable aging of the Japanese population. The National Institute of Population and Social Security Research predicts the Japanese population will fall 30% to 90 million by 2055. Low birthrates, limited immigration, and retirement all increase demand for employment, therefore Japan’s younger-age workforce becomes a scarcer resource and will be more likely to secure and maintain employment. Eventually, I will become old enough in retirement that I will need my underwear and bedpan changed, and create a job for someone in the process – a job that cannot be outsourced I may add. Of course there are very few countries that want a declining population, even if it may lead to an improved unemployment rate. A growing country with liberal immigration laws, healthy birthrates, abundant resources, and pro-business initiatives may have higher unemployment rates but also have more jobs available because of the growing workforce.
Source: UN via Financial Times. Declining Japanese population is putting a growing burden on fewer shoulders.
Eventually the 76 million Baby Boomers born between 1946-1964 are going to be exiting the workforce and will increase the burden on our younger workforce. Do we want to follow in the same path of Japan? Or do we want to adjust our legislative process to meet the draining demands of our aging society? My answers are “No,” and “Yes,” respectively.
The unemployment hypochondriacs can take a deep breath knowing the path we are experiencing is nothing new. Certainly I would like to see better policies implemented to accelerate the economic recovery, but regardless of what inept politicians bungle, our innovative companies, and restless voters are waking up to keep our representatives accountable. This is important because we are like a younger but stronger cousin of Japan, and we do not want to follow along the decaying path of an aging indebted country. In the short-run, we all want to see job growth for the millions of unemployed. In the long-run, retiring Boomers will be stretching the resources of our country even more. So although the unemployment hypochondriacs have little to fear in the near-term as the recovery continues, fiscal responsibility needs to be kept in check or hidden economic illnesses may become reality.
Read James Paulsen’s complete August Economic and Market Perspective
Wade W. Slome, CFA, CFP®
Plan. Invest. Prosper.
DISCLOSURE: Sidoxia Capital Management (SCM) and some of its clients own certain exchange traded funds, but at the time of publishing SCM had no direct position in BHP, POT, HPQ, PAR, or any other security referenced in this article. No information accessed through the Investing Caffeine (IC) website constitutes investment, financial, legal, tax or other advice nor is to be relied on in making an investment or other decision. Please read disclosure language on IC “Contact” page.
Crisis Delivers Black-Eye to Classic Economists
Markets are efficient. Individuals behave rationally. All information is reflected in prices. Huh…are you kidding me? These are the beliefs held by traditional free market economists (“rationalists”) like Eugene Fama (Economist at the University of Chicago and a.k.a. the “Father of the Efficient Market Hypothesis”). Striking blows to the rationalists are being thrown by “behavioralists” like Richard Thaler (Professor of Behavioral Science and Economics at the University of Chicago), who believes emotions often lead to suboptimal decisions and also thinks efficient market economics is a bunch of hogwash.
Individual investors, pensions, endowments, institutional investors, governments, are still sifting through the rubble in the aftermath of the 2008-2009 financial crisis. Experts and non-experts are still attempting to figure out how this mass destruction occurred and how it can be prevented in the future. Economists, as always, are happy to throw in their two cents. Right now traditional free market economists like Fama have received a black eye and are on the defensive – forced to explain to the behavioral finance economists (Thaler et. al.) how efficient markets could lead to such a disastrous outcome.
Religion and Economics
Like religious debates, economic rhetoric can get heated too. Religion can be divided up in into various categories (e.g., Christianity, Islam, Judaism, Hinduism, Buddhism, and other), or more simply religion can be divided into those who believe in a god (theism) and those who do not (atheism). There are multiple economic categorizations or schools as well (e.g., Keynsians, monetarism, libertarian, behavioral finance, etc.). Debates and disagreements across the rainbow of religions and economic schools have been going on for centuries, and the completion of the 2008-09 financial crisis has further ignited the battle between the “behavioralists” (behavioral finance economists) and the “rationalists” (traditional free market economists).
Behavioral Finance on the Offensive
In the efficient market world of the “rationalists,” market prices reflect all available information and cannot be wrong at any moment in time. Effectively, individuals are considered human calculators that optimize everything from interest rates and costs to benefits and inflation expectations in every decision. What classic economics does not include is emotions or behavioral flaws.
Purporting that financial market decisions are not impacted by emotions becomes more difficult to defend if you consider the countless irrational anomalies considered throughout history. Consider the following:
- Tulip Mania: Bubbles are nothing new – they have persisted for hundreds of years. Let’s reflect on the tulip bulb mania of the 1600s. For starters, I’m not sure how classic economists can explain the irrational exchanging of homes or a thousand pounds of cheese for a tulip bulb? Or how peak prices of $60,000+ in inflation-adjusted dollars were paid for a bulb at the time (C-Cynical)? These are tough questions to answer for the rationalists.
- Flash Crash: Seeing multiple stocks (i.e., ACN and EXC) and Exchange Traded Funds (ETFs) temporarily trade down -99% in minutes is not exactly efficient. Stalwarts like Procter & Gamble also collapsed -37%, only to rebound minutes later near pre-collapse levels. All this volatility doesn’t exactly ooze with efficiency (see Making Millions in Minutes).
- Negative T-Bill Rates: For certain periods of 2008 and 2009, investors earned negative yields on Treasury Bills. In essence, investors were paying the government to hold their money. Hmmm?
- Technology and Real Estate Bubbles: Both of these asset classes were considered “can’t lose” investments in the late 1990s and mid-2000s, respectively. Many tech stocks were trading at unfathomable values (more than 100 x’s annual profits) and homebuyers were inflating real estate prices because little to no money was required for the purchases.
- ’87 Crash: October 19, 1987 became infamously known as “Black Monday” since the Dow Jones Industrial Average plunged over -22% in one day (-508 points), the largest one-day percentage decline ever.
The list has the potential of going on forever, and the recent 2008-09 financial crisis only makes rationalists’ jobs tougher in refuting all this irrational behavior. Maybe the rationalists can use the same efficient market framework to help explain to my wife why I ate a whole box of Twinkies in one sitting?
Rationalist Rebuttal
The rationalists may have gotten a black eye, but they are not going down without a fight. Here are some quotes from Fama and fellow Chicago rationalist pals:
On the Crash-Related Attacks from Behavioralists: Behavioralists say traditional economics has failed in explaining the irrational decisions and actions leading up to the 2008-09 crash. Fama states, “I don’t see this as a failure of economics, but we need a whipping boy, and economists have always, kind of, been whipping boys, so they’re used to it. It’s fine.”
Rationalist Explanation of Behavioral Finance: Fama doesn’t deny the existence of irrational behavior, but rather believes rational and irrational behaviors can coexist. “Efficient markets can exist side by side with irrational behavior, as long as you have enough rational people to keep prices in line,” notes Fama. John Cochrane treats behavioral finance as a pseudo-science by replying, “The observation that people feel emotions means nothing. And if you’re going to just say markets went up because there was a wave of emotion, you’ve got nothing. That doesn’t tell us what circumstances are likely to make markets go up or down. That would not be a scientific theory.”
Description of Panics: “Panic” is not a term included in the dictionary of traditional economists. Fama retorts, “You can give it the charged word ‘panic,’ if you’d like, but in my view it’s just a change in tastes.” Calling these anomalous historic collapses a “change in tastes” is like calling Simon Cowell, formerly a judge on American Idol, “diplomatic.” More likely what’s really happening is these severe panics are driving investors’ changes in preferences.
Throwing in White Towel Regarding Crash: Not all classic economists are completely digging in their heels like Fama and Cochrane. Gary Becker, a rationalist disciple, acknowledges “Economists as a whole didn’t see it coming. So that’s a black mark on economics, and it’s not a very good mark for markets.”
Settling Dispute with Lab Rats
The boxing match continues, and the way the behavioralists would like to settle the score is through laboratory tests. In the documentary Mind Over Money, numerous laboratory experiments are run using human subjects to tease out emotional behaviors. Here are a few examples used by behavioralists to bolster their arguments:
- The $20 Bill Auction: Zach Burns, a professor at the University of Chicago, conducted an auction among his students for a $20 bill. Under the rules of the game, as expected, the highest bidder wins the $20 bill, but as an added wrinkle, Burns added the stipulation that the second highest bidder receives nothing but must still pay the amount of the losing bid. Traditional economists would conclude nobody would bid higher than $20. See the not-so rational auction results here at minute 1:45.
- $100 Today or $102 Tomorrow? This was the question posed to a group of shoppers in Chicago, but under two different scenarios. Under the first scenario, the individuals were asked whether they would prefer receiving $100 in a year from now (day 366) or $102 in a year and one additional day (day 367)? Under the second scenario, the individuals were asked whether they would prefer receiving $100 today or $102 tomorrow? The rational response to both scenarios would be to select $102 under both scenarios. See how the participants responded to the questions here at minute 4:30.
Rationalist John Cochrane is not fully convinced. “These experiments are very interesting, and I find them interesting, too. The next question is, to what extent does what we find in the lab translate into how people…understanding how people behave in the real world…and then make that transition to, ‘Does this explain market-wide phenomenon?,’” he asks.
As alluded to earlier, religion, politics, and economics will never fall under one universal consensus view. The classic rationalist economists, like Eugene Fama, have in aggregate been on the defensive and taken a left-hook in the eye for failing to predict and cohesively explain the financial crash of 2008-09. On the other hand, Richard Thaler and his behavioral finance buds will continue on the offensive, consistently swinging at the classic economists over this key economic mind versus money dispute.
See Complete Mind Over Money Program
Wade W. Slome, CFA, CFP®
Plan. Invest. Prosper.
DISCLOSURE: Sidoxia Capital Management (SCM) and some of its clients own certain exchange traded funds, but at the time of publishing SCM had no direct position in ACN, EXC, or any other security referenced in this article. No information accessed through the Investing Caffeine (IC) website constitutes investment, financial, legal, tax or other advice nor is to be relied on in making an investment or other decision. Please read disclosure language on IC “Contact” page.
Productivity & Trade: Pins, Cars, Coconuts & Chips
The concepts of productivity and free trade go all the way back to Adam Smith, widely considered the “father of economics,” who wrote the original capitalism Bible called the Wealth of Nations. Many of the same principles discussed in Smith’s historic book are just as applicable today as they were in 1776 when it was first published.
Economics at its core is the thirst for efficiency and productivity for the sake of profits. Ultimately, for the countries that successfully practice these principles, a higher standard of living can be achieved for its population. For the U.S. to thrive in the 21st century like we did in the 20th century, we need to embrace productive technology and efficiently integrate proven complex systems. To illustrate the benefits of productivity in a factory setting, Smith wrote about the division of labor in a pin factory. Murray N. Rothbard, an economic historian, and political philosopher summed up the takeaways here:
“A small pin-factory where ten workers, each specializing in a different aspect of the work [18 steps], could produce over 48,000 pins a day, whereas if each of these ten had made the entire pin on his own, they might not have made even one pin a day, and certainly not more than 20.”
Dividing up the 18 pin making steps (i.e., pull wire, cut wire, straighten wire, put on head, paint, etc.) lead to massive productivity improvements.
Another economic genius that changed the world we live in is the father of mass production…Henry Ford. He revolutionized the car industry by starting the Ford Motor Company in 1903 with $100,000 in capital and 12 shareholders. By the beginning of 1904, Ford Motors had sold about 600 cars and by 1924 Ford reached a peak production of more than 2,000,000 cars, trucks, and tractors per year. Although, Ford had a dominant market share here in the U.S., the innovative technology and manufacturing processes allowed him to profit even more by exporting cars internationally. This transformation of the automobile industry allowed Ford to hire thousands of workers with handsome wages and spread 15 million of his cars around the globe from 1908 to 1927.
Comparative Advantage: Lessons from Smith & Ford
Foreign trade has continually been a hot button issue – especially during periods of softer global economic activity. Here is what Adam Smith had to add on the subject:
“If a foreign country can supply us with a commodity cheaper than we ourselves can make it, better buy it of them with some part of the produce of our own industry, employed in a way in which we have some advantage.”
Smith believed that parties with an “absolute advantage” in manufacturing would benefit by trading with other partners. Today, it’s fairly clear the U.S. has an absolute advantage in creating biotech drugs, Hollywood movies, and internet technologies (i.e., Google), however in other industries, such as industrial manufacturing, the U.S. has lost its dominant position.
David Ricardo, an English economist who authored the famous work On the Principles of Political Economy and Taxation, is attributed with extending Smith’s “absolute advantage” concept one step further by introducing the idea of “comparative advantage.”
Producing Coconuts and Computer Chips
Let’s explore the comparative advantage concept some more by investigating coconuts and computer chips. As we hemorrhage jobs to other countries that can accomplish work more cheaply and efficiently, increasingly discussions shift to a more protectionist stance with dreams of higher import tariffs. Is this a healthy approach? Consider a two nation island able to produce only two goods (coconuts and computer “chips”), with the U.S. on one half of the island, and the Rest of the World (R.O.W.) on the other half.
Next, let’s assume the following production profile: The R.O.W. can choose to produce 10 coconuts or 10 chips AND the U.S. can produce 4 coconuts or 8 chips.
Scenario #1 (No Trade): If we assume both the R.O.W. and the U.S. each spend half their time producing coconuts and chips, then the R.O.W.’s production will create 5 coconuts/5 chips and the U.S. 2 coconuts/4 chips for a combined total of 7 coconuts and 9 chips (16 overall units).
If we were to contemplate the ability of trade between R.O.W. and the U.S., coupled with the concept of comparative advantage, we may see overall productivity of the nation island improve. Despite the R.O.W. having an “absolute advantage” over the U.S. in producing both coconuts (10 vs. 4) and chips (10 vs. 8), the next example demonstrates trade is indeed beneficial.
Scenario #2 (With Trade): If R.O.W. uses its comparative advantage (“more better”) to produce 10 coconuts and the U.S. uses its comparative advantage (“less worse”) to produce 8 chips for a combined total of 10 coconuts and 8 chips (18 overall units). Relative to Scenario #1, this example produces 12.5% more units (18 vs. 16) and with the ability of trade, the U.S. and R.O.W. should be able to optimize the 18 units to meet their individual country preferences.
If we can successfully escape from the island and paddle back to modern times, we can better understand the challenges we face as a country in the current flat global world we live in. Our lack of investment into education, innovation, and next generation infrastructure is making us less competitive in legacy rustbelt industries, such as in automobiles and general manufacturing. If the goal is to maximize productivity, efficiency, and our country’s standard of living, then it makes sense to select trade scenario #2 (even if it means producing zero coconuts and lots of computer chips). The coconut lobby may not be happy under this scenario, but more jobs will be created from higher output and trade while our citizens continue on a path to a higher standard of living.
The free trade strategy will only work if we can motivate, train, and educate enough people into higher paying jobs that produce higher value added products and services (e.g., computer chips and computer consulting). There is a woeful shortage of engineers and scientists in our country, and if we want to compete successfully in the modern world against the billions of people scratching and clawing for our standard of living, then we need to openly accept the productivity and trade principles taught to us by the Adam Smiths and Henry Fords of the world. Otherwise, be prepared to live on a remote, isolated island with a steady diet of coconuts for breakfast, lunch, and dinner.
Read Full NetMBA Article on “Comparative Advantage”
Wade W. Slome, CFA, CFP®
Plan. Invest. Prosper.
*DISCLOSURE: Sidoxia Capital Management (SCM) and some of its clients own certain exchange traded funds and GOOG, but at the time of publishing SCM had no direct position in any other security referenced in this article. No information accessed through the Investing Caffeine (IC) website constitutes investment, financial, legal, tax or other advice nor is to be relied on in making an investment or other decision. Please read disclosure language on IC “Contact” page.
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