THE FURORE-ING TWENTIES: My Thoughts On The New Decade Ahead

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As we leave the 2010s and head into a new decade, I naturally like to meditate on what the next ten years will have in store for the world. Approximately ten years ago to this day I was in Peru in the Andean town of Huaraz. Back then my eyes were not so open and I couldn’t see beyond my own little self-created bubble of rock n roll, existential literature and nomadic travelling. I had little to no understanding about global politics, technology and the financial system.

Predicting the future is hard enough. Very often, the predictions that turn out to come true are ridiculed from the start. If I were to say to a group of fellow travellers at some bar in Huaraz on New Years Eve 2009 that during the following decade Donald Trump would become president of the USA and that there would be a referendum in the UK where the UK would vote to leave the EU, they would have looked at me as if I had lost my mind.

What do I think will happen in the 2020s? I think it will be a very interesting decade where lots of changes will occur.

I will begin with the financial markets. As of now, many stock markets are at all time high levels. The 2010s has been an absolutely stellar decade for US stock markets, especially the NASDAQ. Back in 2009, towards the end of the financial crisis, the NASDAQ was trading below 1500 points. Today, it’s close to hitting 9000 points. That’s a six-fold increase within the space of a decade. The question now of course is, will this rally continue or are markets in danger of crashing? When I try to make my own predictions, I like to also gauge what the general consensus is. On social and traditional media sites, there seems to be no shortage of videos and articles predicting that 2020 will be the year when markets are going to crash. With such an overwhelming consensus, I, naturally, have to re-evaluate my own thoughts and vision.

The important point is that for all of the 2010s since the 2007-9 financial crisis, interest rates have been at very low levels. In some countries they are now at negative levels. The consequence of this has been that since the 2008 Lehman Brothers collapse, total global debt levels have increased by almost 50% from $173 trillion to $255 trillion. This era of cheap money has played a large role in this decade long stock market boom. Instead of trying to predict when the next crash will occur, it may be better to predict when interest rates will finally return to more normal levels. My feeling is that this is not going to happen anytime soon and that interest rates will, at least in the short run, continue to fall even if they breach negative territory (as they already have in some countries). This will be bad news for trying to reduce the already gigantic levels of global debt. Debt will only just continue to increase and stock markets will continue to rise, until the moment when inflation will kick in, which will immediately trigger central banks to raise interest rates.

Throughout the 2010s, gold has never dipped below $1000 per troy ounce. It has always remained above that level. At the start of the millennium, 1 troy ounce of gold was trading between just $250-300. It was almost as if it were considered obsolete, a relic from another age. With hindsight one can shoot down in flames the UK’s former chancellor Gordon Brown for selling off half of the UKs gold reserves back in 2001 at such low prices. Yet at the time, gold just wasn’t on many people’s radars save for a small selection of far-sighted individuals. As the 2000s chugged on, the price of gold went on a phenomenal ascent breaching $1000. By the end of 2011, just 2-3 years after the financial crisis, the price of gold nearly hit $1900 an ounce . As of today, the price of gold is hovering around the $1500 an ounce mark.

Why does all this matter? It matters, because I believe in the 2020s precious metals will do very well due to the extraordinary circumstances we are facing with record levels of global debt, perpetually low/falling interest rates and stock markets showing no signs of slowing down. The ‘kicking the can down the road’ mantra can only go on for so long until eventually the music will have to be faced.

But it’s not just fragile economic circumstances that will contribute towards precious metals doing well. Political circumstances will also play their role. In continental Europe, populist governments will continue to rise as will government spending. The economic situation in several Eurozone countries remains very precarious and this could lead to the Eurozone facing a genuine existential crisis. There are vast financial imbalances between the major Eurozone countries. During the last Eurozone crisis at the start of the 2010s, the European Central Bank (ECB) was able to utilize monetary tools such as Quantitative Easing to stimulate flagging Eurozone economies thus saving the Eurozone. The question now is if the Eurozone were to face another such crisis, would the ECB this time be able to successfully avoid a disastrous situation? It is trickier now for two reasons. Firstly, the Eurozone is carrying much more debt than before. Many Eurozone banks also continue to remain in dire shape. Secondly, the discontent of citizens in Eurozone member counties and the rise of populist parties in these countries could only exacerbate and make worse any already fragile/vulnerable situations.

Another thing that will be interesting to see is how the whole Brexit saga is going to play out in the coming months. What kind of a trade deal will be negotiated between the UK and the European Union? Will there even be a deal? If the UK were to leave the EU completely with no deal, it’s likely that the burden of keeping the EU together (and contributing more money towards it to keep it going) would fall increasingly more on Germany and to a lesser degree on France. This would put the entire future of the EU project in a very difficult position, especially if the German economy were to fall into a recession due to factors such as additional tariffs on the bulk of its exports as well as the very real prospect of a substantial government bailout to save two of the country’s largest banks; Deutsche Bank and Commerzbank.

It pains me to say that the 2020s could very well see the first stages of the Eurozone being dismantled followed by the EU itself. I am praying that such a situation doesn’t happen, but I feel this may unfortunately become a reality. A breakup of the EU could lead to Russia gaining much more dominance in the region with some former EU countries forging stronger ties with Russia. At the same time, I can also foresee some of the southern European Eurozone countries, especially Italy and Spain (which, like Germany, also have large manufacturing industries), experiencing multi-year long economic booms once they have their own currency (which they will be able to devalue and thus re-gain their economic competitive advantage). Whilst the German economy benefited greatly from adopting the Euro currency, the Euro hurt the economic competitiveness of other major Eurozone countries such as Italy, Spain and to a lesser degree even France.

One of my boldest and most off-the-wall predictions would be to say that the USA will experience a taste of some kind of socialism at some point in the 2020s. I feel there’s a high probability that, as unlikely as it may currently seem with the impeachment inquiry hanging over him, Trump will manage to secure a second term in power in 2020. However, his second term will be more challenging than his first. It is also highly likely that the long-awaited stock market crash that everyone is predicting will happen at some point during his second term. And when it does occur it will be very painful and cause another economic recession. In the wake of this, it is possible that many of Trump’s most loyal supporters begin to turn against him. By the time of the 2024 elections in the USA, I think the Democrat party will have moved more to the left just as has happened with the Labour Party in the UK over the last few years. By the time of the 2024 US elections, I envisage the Democrats winning the election with a barely tested transformational socialist agenda. By 2024, many of Trump’s traditional Midwest supporter base, who will have felt let down and failed by him, will opt for any kind of new change regardless of the consequences.

Any kind of future socialism though will likely not be like the socialism of the past, but more a kind of technological socialism. Before the fall of the Berlin Wall, the internet didn’t even exist, and it was possible to easily control information. The world was a much larger place. A future kind of socialism could be one where technology is so advanced that everyone’s most basic needs are all provided for and there is no need to perform any repetitive jobs or tasks. Technological socialism within the paradigm of a post-work or post-scarcity society. However, this kind of a vision is still some way off.

The truth is, in the coming years ahead, one is likely to witness an increasing number of savvy and hyper aware Millennial and younger Gen Z politicians come to the fore, who will want to change the rules. In the United States, the politician Alexandria Ocasio Cortez is a prelude and prime example of those next generation politicians who will eventually rise to prominent positions of power.

The 2020s will be a decade of exponential technological progress. The implementation of 5G networks will be crucial and integral towards the development of the so-called Internet Of Things, where every electronic device – be it your electronic household devices, street lights, transportation vehicles etc – is connected to the internet. Once this has been further developed, the transition from Smartphones to Smartglasses with enhanced Augmented Reality capabilities will become more of a reality and I predict this transition will begin to bear fruit from around the mid to end part of the 2020s.

In one of my very first blog posts back in 2016, I made a moonshot prediction that by the beginning of the 2020s, every household would have a 3D printer. It seems that I got that prediction horribly wrong. Back in 2013/14 there was quite a bit of hype around 3D printing and how it would revolutionise manufacturing. I am still a big believer in 3D/4D printing or however one wishes to call it. Such a technology makes it possible for anyone to print any physical thing no matter where in the world they may be.

The 2020s will also be a decade to watch regarding the development of Space Exploration and Sustainable/Renewable Energy. Elon Musk is at the fore of those developments with his companies Tesla and SpaceX. Most people who are aware of Tesla view it as a company that sells high priced electric vehicles. Yet the mission of Tesla is to transition the world away from fossil fuels. The building of its giga-factories in various locations around the world will enable Tesla to develop a level of scale to successfully achieve its mission. In many financial circles, lots of investors and analysts have been predicting that Tesla will go to zero. Lots of people have been betting against Elon Musk. However, I feel that such a move is unwise. I believe that Tesla will ultimately succeed in its mission and will become a very valuable and important company.

The 2020s will also see quite a lot of activity from Musk’s other company SpaceX. I think that SpaceX will lead the way in the nascent space industry and be responsible for dramatically reducing the costs of space exploration. The last part is very important as its currently prohibitively expensive to launch even just a satellite into space. Hence that’s why there are not many players operating in this industry due to high costs and high barriers to entry. In the 2020s, we are likely to see via SpaceX, the greatest accomplishments in the space industry since 1969 when the first person landed on the moon. The mission of SpaceX’s Starship rocket is to transport people to Mars and create a permanent human colony there. Using ground-breaking bioengineering innovations, the goal is to turn Mars into a planet similar to Earth (via the process of ‘terraforming’), with a climate and atmosphere containing vegetation and oceans and the right temperature and levels of oxygen for living organisms to flourish. Although all this is highly unlikely to occur as early as the 2020s, the next decade may well see the beginnings of the initial stages of such a mission coming into fruition.

However, one SpaceX project to keep an eye on in the near future is Starlink. This project involves sending lots of satellites into low orbit to beam down high-speed internet on all corners of the world, event the most remote corners. The last point is very important. Even though billions of people are already connected to the internet, there are billions of people living in remote and undeveloped parts of the world with no access to it. Currently, almost all of our wi-fi and telecommunications networks come from land-based cell towers. A mass adoption of super strong satellite beaming internet would be a real game-changer in the next level of network/internet connectivity, as it has the potential to enable everyone in all corners of the world to have access to a high-speed internet connection.

It will be interesting to also see how cryptocurrencies/blockchain technology will evolve in the 2020s. Lots of people invest in cryptocurrencies such as Bitcoin hoping that the price will go higher, yet what does the future hold for cryptocurrencies? My greatest fear is that increasing government regulation will affect the development and performance of the main cryptocurrencies. In an article from earlier this year, I wrote about certain cryptocurrencies such as Bitcoin, Litecoin and Zcash acting as a store of value. Many people also tout Bitcoin as a form of digital gold and some even say that it will disrupt physical gold as a store of value. I fear that such a situation is unlikely to occur and that Bitcoin will likely never again see the highs it witnessed at the end of 2017.

Privacy coins, especially Monero, have long been a thorn in the side of governments around the world. Of all the privacy coins, the one I am keen to watch is Zcash (where privacy is just an option – transactions can be shielded or unshielded), especially since I think it is currently fundamentally undervalued compared to other privacy coins. Furthermore, the other advantage it has is that, unlike many other cryptocurrencies, it was created by professional academic cryptographers.

The underlying blockchain technology itself will continue to evolve, and I can see further development of so called ‘stablecoins’ (which are not prone to fluctuate madly in value) becoming more widely adopted. One project I am interested to see manifest is Facebook’s own digital Libra currency. Facebook has the unique advantage of unbelievable network effects with over 2.4 billion users from around the world. So, Facebook simply introducing its own digital currency, means at least a third of the world’s total population potentially using it. This could be a huge benefit for Facebook users in countries with unstable currencies. However, I fear that the implementation of Facebook’s Libra currency will be met with lots of opposition from governments around the world who may fear that it will pose a threat to the stability and performance of their very own national currencies.

In fact, there is a big chance that at some point during the next decade both Facebook and Google/Alphabet will face even higher amounts of regulation by governments around the world with the very real possibility of both these companies eventually being broken up. This kind of regulation as well as the more extreme break-up threats will likely begin to kick off in a big way in Europe and could further manifest in the USA itself if a left-wing Democrat party politician (with an anti-billionaire, anti-Big Tech agenda) where to come to power in the 2024 elections in the USA. However, taking an axe to both Facebook and Google could also have the effect of further empowering their Chinese rivals, Tencent and Baidu. It could well be that Facebook and Google’s loss become Tencent’s and Baidu’s gain.

So, these are my thoughts for the coming new decade. Reading them over again, they can seem to oscillate wildly from overly pessimistic to naively optimistic with scant middle ground. When writing these predictions, I tried very hard to overcome any well ingrained cognitive biases by envisaging potential events that could likely occur even if I don’t want them to happen and/or they are against my beliefs and values. In a sense, this is also a kind of experiment and I expect to get several of my predictions completely wrong. Yet I feel that the unexpected black swan events we all witnessed throughout the 2010s will continue into the 2020s taking many by surprise.

 

By Nicholas Peart

27th December 2019

©All Rights Reserved

 

 

 

 

SOURCES/FURTHER READING

https://mises.org/wire/150-years-bank-credit-expansion-nearing-its-end

https://www.ccn.com/edward-snowden-zcash-interesting-bitcoin-alternative/

 

Image: aitorvz

 

 

Could Copper One Day Become A Precious Metal?

copper bullion

Copper is an important and much needed commodity. It is classified as an industrial metal. However, what if at some point in the future it became scarce enough to be reclassified as a precious metal?

Such a scenario seems inconceivable at this stage. After all copper is much more abundant than precious metals such as silver and gold. Most view it in the same light as other industrial heavy weight commodities such as iron ore or crude oil; fundamental resources in the movement, development and growth of the world.

Much of the world’s copper sources are also concentrated in just a few areas of the world most noticeably in Chile, which is the world’s largest copper producing country. Peru is the second biggest producer of copper followed by China and the USA. In 2018, the total global production of copper was 21 million tons. By comparison in that same year, the total global production of usable iron ore was 2.5 billion tons. For aluminium it was 60 million tons, for nickel it was 2.3 million tons, for lithium it was 85 thousand tons, for silver it was 27 thousand tons, and for gold it was 3.26 thousand tons.

A United States Geological Survey (USGS) global assessment of copper deposits around the world conducted in 2014 stated that there contained 2.1 billion tons of copper resources (note resources and not reserves) discovered under the ground while the number for ‘undiscovered resources’ of copper came at 3.5 billion tons. As of 2018, total global reserves of copper were 830 million tons. 

In 2018, total global reserves for the following commodities were as follows…

Iron Ore: 170 million tons of ‘crude’ ore reserves containing 84 million tons of iron reserves. *However it should be noted that the total amount of identified iron ore resources under the ground currently stands at 800 billion tons of crude ore resources containing 200 billion tons of iron resources. 

Aluminium: Global resources of bauxite (from which aluminium is extracted) are estimated to be between 55-75 billion tons.

Nickel: 89 million tons. *Total global resources of nickel are currently identified at 130 million tons 

Lithium: 14 million tons. *Total global resources of lithium are currently identified at 62 million tons

Silver: 560 thousand tons. *Silver is primarily extracted as a by-product mostly from lead-zinc mines, then from copper mines and then thirdly from gold mines 

Gold: 54 thousand tons.

So in light of all my findings, could copper one day become a precious metal? In my view, this is unlikely to happen anytime soon. Even if there is a growing demand for copper, the fact is, compared with silver and even other industrial metals like nickel and lithium, there is simply an abundance of copper. The current total global copper reserves are nearly ten times greater then the current total global nickel reserves and over a thousand times greater than the total global silver reserves, never mind gold.

Still, copper is aesthetically a very attractive metal and I rather like the novelty value of owning a few pieces of copper bullion. You can often buy a 1kg bar of copper via most bullion dealers for a very modest sum and the German bullion company Geiger Edelmetalle has a number of copper coins and bars you can buy from their online shop.

However, if you wanted exposure to copper in your portfolio, as with other industrial commodities such as iron ore, crude oil or aluminium, you are better off investing in blue chip mining stocks such as Rio Tinto or Antofagasta, which produce a lot of copper. What’s more, both companies also pay a dividend. Alternatively, you can invest in a copper ETF, where you have direct exposure to the copper price, but without the added stress of having to worry about factors such as company mismanagement or political issues when investing in copper related mining companies.

Both these options are far more practical than owning physical copper, which is just not feasible at current prices if one wanted to accumulate a large position. Even accumulating a growing stack of physical silver at its current prices can incur high storage costs if you wanted to store it with a reputable bullion dealer.

By Nicholas Peart

(c)All Rights Reserved

 

 

 

SOURCES/FURTHER READING

Main USGS link for commodity stats…

https://www.usgs.gov/centers/nmic/commodity-statistics-and-information

 

Copper production 2018 link…

https://prd-wret.s3-us-west-2.amazonaws.com/assets/palladium/production/s3fs-public/atoms/files/mcs-2019-coppe.pdf

Iron Ore production 2018 link…

https://prd-wret.s3-us-west-2.amazonaws.com/assets/palladium/production/s3fs-public/atoms/files/mcs-2019-feore.pdf

Aluminium production 2018 link…

https://prd-wret.s3-us-west-2.amazonaws.com/assets/palladium/production/s3fs-public/atoms/files/mcs-2019-alumi.pdf

Nickel production 2018 link…

https://prd-wret.s3-us-west-2.amazonaws.com/assets/palladium/production/atoms/files/mcs-2019-nicke.pdf

Lithium production 2018 link…

https://prd-wret.s3-us-west-2.amazonaws.com/assets/palladium/production/atoms/files/mcs-2019-lithi.pdf

Silver production 2018 link…

https://prd-wret.s3-us-west-2.amazonaws.com/assets/palladium/production/atoms/files/mcs-2019-silve.pdf

Gold production 2018 link…

https://prd-wret.s3-us-west-2.amazonaws.com/assets/palladium/production/s3fs-public/atoms/files/mcs-2019-gold.pdf

Insurance Assets In A World Of Rising Uncertainty

bitcoin-and-gold

‘Todo es posible nada es seguro’. These words came from the lips of a fellow local passenger during a hair raising bus trip through the narrow winding mountain roads of the Andes in Peru many years ago. Yet they could be applied today to the current state of the whole world.  When I try, as hard as I can, to envisage the global landscape over the next 10-20 years, I realise there may be a stronger case than ever before for holding insurance assets or Off-The-Grid Assets (OTGAs)©. These are defined as assets that not only act as a safe haven or store of value during a major economic crisis, but are not directly connected to the global financial system. Central banks cannot control their supply or price nor can they create more of them.

There are two principle categories of OTGAs. The first and most obvious category are precious metals. Gold, silver, platinum and palladium would all fit the bill. They are as old as the hills and are finite in quantity. Even though there exists quantities of these metals yet to be mined, their quantity cannot be enlarged as easily or cheaply as that of fiat money.

The second category of OTGAs are premium grade supply-capped cryptocurrencies (PGSCCs)©. This category is limited only to a handful of cryptocurrencies which are both of premium grade and a store of value. By ‘premium grade’ I take into account factors like trust, reputation and adoption. And by ‘store of value’ I mean that a cryptocurrency has a finite and capped supply. Bitcoin is, by far, the principle cryptocurrency and it should represent at least 50% of a cryptocurrency portfolio. It is the oldest cryptocurrency, has a supply cap of just 21 million coins, and its current value represents at least 50% of the entire global cryptocurrency market. Only two other cryptocurrencies make the cut as a PGSCC. They are Litecoin and Z-Cash. Litecoin is one of the oldest cryptocurrencies and has a supply cap of 81 million coins. Z-Cash is a more recent cryptocurrency established in 2016. It is very similar to Bitcoin with the same supply cap yet unlike Bitcoin it has the additional option of being a privacy coin. Monero is a pure privacy coin yet Z-Cash has a better reputation. The second largest cryptocurrency, Ethereum, is not a PGSCC since it does not have a supply cap.

Although there are a lot of unsavoury people and entities operating in the crypto space, one of the few important crypto related organisations is the Gemini exchange founded by the Winklevoss brothers who both have an enormous personal stake in Bitcoin. This is arguably one of the most, if not the most, trusted and safest cryptocurrency exchange currently in existence. Gemini also offers the option of insuring any cryptocurrency holdings on their exchange. Unlike other cryptocurrency exchanges, only a very selective number of cryptocurrencies can be traded on their exchange but these include all three PGSCCs; Bitcoin, Litecoin and Z-Cash.

Precious metals in bullion form can be stored and insured securely in the vaults of reputable dealers such as Sharps Pixley. This works very well if you have large quantities of gold which is currently trading at over $1400 per troy ounce. However for cheaper precious metals like silver, storage and insurance becomes more costly. Precious metals only count as OTGAs in physical coin and bullion form. Precious metal ETFs or shares in gold and silver miners are not OTGAs. In the case of PGSCCs, they become true OTGAs when they are kept in cold storage on a hard drive in a secure location and not all on a cryptocurrency exchange where they are then vulnerable to hacking attacks.

Land and edible commodities like crops are not OTGAs for the following reasons. Land is highly illiquid and carries the added risk of expropriation if a tyrannical government ever came to power in its jurisdiction. Edible crops, on the other hand, are much more liquid yet they are perishable. Even tinned foods with a longer shelf life do eventually perish. Precious metals and PGSCCs are immune from these limitations.

Precious metals and PGSCCs each have their own unique advantages. The most obvious ones for PGSCCs are the negation of physical storage costs and cross-border transportation hurdles, and of course their finite supply caps. Since PGSCCs are digital assets, unlike precious metals, one doesn’t have to worry about physical storage or transporting them between borders. They can be stored in digital wallets either on a cryptocurrency exchange platform or in cold storage on a hard drive. Even though precious metals are rare, their supply is not fixed and who knows how big potential deposits of gold and silver are not just on this planet but on other asteroids and planets throughout the solar system. It is entirely possible that at some point in the future asteroid mining could dramatically increase the current supply of these metals. Yet whether this occurs in my life time is debatable.

The advantages precious metals have over PGSCCs are their tangibility and lack of need to be powered by electricity and by extension the internet. What’s more, precious metals have been around for thousands of years whereas Bitcoin has only been around for ten years and it still remains to be seen whether Bitcoin will endure as a store of value in spite of its unique advantages and current position as the dominant and leading cryptocurrency.

Yet we are currently living in a world of ballooning public and private debt and high equity valuations fuelled by low interest rates and quantitative easing. At the same time levels of inequality have risen along with a palpable sense of discontent across the world bringing with it an emergence of populism and radical parties and politicians. The final paragraph from a recent short article entitled How I Learned To Love Gold by Alasdair McKinnon, who manages an investment trust in the UK called The Scottish Investment Trust, is very succinct and prescient in describing this current environment and its future consequences…

Today, we are more than 10 years into a monetary experiment that ‘saved the system’ but is losing popular consent. Cheap money has driven asset prices but has increased wealth inequality, especially between generations. Demographics dictate that, in the not too distant future, those without assets are likely to be running the institutions and making the rules. In the interim, a new breed of politician is prepared to rip-up the economic rule book in their quest for power. This shift won’t necessarily prove a bad thing but, regardless, it seems a favourable environment for gold.

Such a situation is likely to manifest in the future and would create a very favourable environment not just for gold but for all types of OTGAs as more people lose trust in owning devalued fiat currencies and worthless government bonds.

 

By Nicholas Peart

(c)All Rights Reserved 

 

 

 

Reading/Sources

How I Learned To Love Gold

 

 

Image: http://www.birchgold.com

TARGET2: The Payment System That Keeps The Euro Going

euro-coins-and-banknotes

TARGET2 is the Eurozone national and cross-border payment system, which is used between Eurozone National Central Banks (NCBs) to settle transactions in Euros. It is little known to the general public but it is a very important component of the Eurozone financial system and in understanding the credit surpluses and deficits between the NCBs of each Eurozone country.

A simple and easy-to-understand way of explaining how this system works is featured in the following article here. Taking the example of two eurozone countries, Spain and the Netherlands, a Spanish tourist from Madrid travels to Amsterdam and has a 100 euro meal at a restaurant over there. Now if he had the 100 euro meal at a restaurant in Madrid, his bank in Spain would debit 100 euros from his account. Then the NCB of Spain would transfer the amount from the reserve account of the buyer’s bank to the bank of the restaurant in Madrid. The bank of the restaurant then credits their customer’s account. In this financial transaction, the money remains in the Spanish banking system enabled by Spain’s NCB.

However since the restaurant is in Amsterdam, the transaction is less simple. Since TARGET2 transactions involve the NCBs of Eurozone countries, both the NCBs of Spain and the Netherlands are involved in the transaction. The Spanish tourist’s bank has a reserve account at the NCB of Spain (Banco de Espana) and the bank of the restaurant in Amsterdam has a reserve account at the NBC of the Netherlands (De Nederlandsche Bank). The transaction is settled via the European Central Bank (ECB) between the two eurozone NCBs.

To summarize; 1) The Spanish tourist pays 100 euros to the Dutch restaurant. 2) The two transactions between the NCBs of both countries means an asset of 100 euros to the NCB of the Netherlands and a liability of 100 euros to the NCB of Spain.

Having given a basic example how the TARGET2 payment system works between Eurozone countries, one can better understand the current TARGET2 balances between the different countries in the Eurozone. This complete information of this can be found here from the official website of the ECB.

The figures from the latest TARGET2 balances report indicate that as of May 2019, Germany’s NCB, the Bundesbank, was running a surplus with other Eurozone countries of EUR 934.6bn whilst the NCBs of both Italy and Spain were each running a deficit with other Eurozone countries of – EUR 486.5bn and – EUR 405bn respectively. These figures indicate enormous TARGET2 imbalances between certain eurozone countries. In fact, according to the information provided on the website of the NCB of Germany, the Bundesbank, as of June 2019, the total amount of the Bundesbank’s TARGET2 claims are EUR 942.3 billion euros or to be exact EUR 942,319,065,584.45.

In 2012, less than three years after the start of the European Debt Crisis, the recently departed president of the ECB Mario Draghi stated that he would ‘do whatever it takes to preserve the euro’. From 2009-12, Germany’s NCB had a TARGET2 credit surplus which had increased from EUR 177.7bn to EUR 655.7bn between those years whilst Spain’s NCB was carrying a deficit, which had increased from EUR – 41.1bn to EUR -337.3bn during that same time frame.  In 2009, Italy’s NCB had a credit surplus of EUR 54.8bn yet by 2012 it was carrying a deficit of EUR -255.1bn. Today, Italy’s NBC’s deficit of – EUR 486.5bn is the largest TARGET2 deficit in the Eurozone.  Since Draghi’s pledge seven years ago, these imbalances have gotten even bigger. What is also interesting, is that since 2012, the TARGET2 deficit of the ECB itself has gone from just EUR -2.2bn to EUR -249.8bn (as of May 2019).

These TARGET2 imbalances today are important as their current levels are greater now than those during the height of the last financial crisis in the Eurozone. The question now is whether these current levels are a precursor to another financial crisis in the Eurozone or, more seriously, a potential breakup of the Euro? We are currently living in times of great global uncertainty. The rise of populism, especially in countries in Europe, is worrying. The emergence of Matteo Salvini in Italy and his fraught relationship with Brussels is unlikely to improve the already fragile economic situation in his country nor will it help to fortify the Eurozone in these difficult times. For a long time the ECB has been kicking the proverbial can down the road but as the former head of the Bank of England, Mervyn King, stated in his excellent book ‘The End of Alchemy’: ‘muddling through may continue for some while, but eventually the choice between a return to national monies and democratic control, or a clear and abrupt transfer of political sovereignty to a European government cannot be avoided’.

For countries such as Italy, Spain, Greece and Portugal, having a fixed currency like the Euro has handicapped their economic growth. Both Italy and Spain have large industries, yet not having the ability to devalue their own currencies or set their own interest rates has impacted their global competitiveness and thus their economic standing. Both countries suffer from high levels of unemployment with many young people from these countries searching for opportunities in other countries like Germany, UK, USA and Australia. The current substantial TARGET2 deficits of both Italy and Spain highlight the flaws and consequences of adopting a one-size-fits-all currency. While adopting the Euro has increased Germany’s competitiveness it has done the opposite for other large economies in the Eurozone like Italy and Spain. Hence why Germany’s NCB is running an enormous credit surplus with the NCBs of other eurozone countries.

It can be deduced, therefore, that the survival of the Euro is more important for Germany than it is for Italy and Spain. In the event, God forbid, that the Euro were to breakup and all the former Eurozone countries were to go back to their old currencies, Germany would lose its economic competitive advantage that it had as a Eurozone member since it would now be stuck with a new overvalued Deutschmark and this would thus likely effect its balance of trade. What’s more, in the event of such a Euro breakup, both the NCBs of Italy and Spain would likely default on their deficits with the NCBs of other former Eurozone countries in their new currencies meaning a huge potential financial loss for Germany’s NCB of the TARGET2 surplus monies it is owed. The upside though of any short term pain for Spain and Italy though would be that by finally having their own currencies back they would be free not only to devalue them and set their own interest rates, but they would have the chance to finally break out of their current economic stagnation, regain their competitiveness and return to higher levels of economic growth.

 

By Nicholas Peart

(c)All Rights Reserved

 

 

 

 

 

SOURCES & FURTHER READING…

 

PAPERS:

Blake, D. (2018) : Target2: The silent bailout system that keeps the Euro afloat

Lyddon, B. (2018) : The Euro’s Battle For Survival

 

BOOKS:

King, M. (2016) : The End Of Alchemy – Money, Banking and the Future of the Global Economy

 

ARTICLES:

https://www.moneyandbanking.com/commentary/2018/7/8/target2-balances-mask-reduced-financial-fragmentation-in-the-euro-area (Good article explaining how TARGET2 transactions work)

TARGET2 imbalances and the stagnating political economy of Europe

https://www.theguardian.com/business/nils-pratley-on-finance/2018/may/29/italys-eurozone-crisis-no-easy-fixes-for-the-european-central-bank

 

MISC:

http://www.csfi.org/2019-06-11-target-2-imbalances

 

 

BUNDESBANK TARGET2 Link:

https://www.bundesbank.de/en/tasks/payment-systems/target2/target2-balance/target2-balance-626782

 

ECB TARGET2 data link:

https://www.ecb.europa.eu/stats/policy_and_exchange_rates/target_balances/html/index.en.html

 

 

Image: flagpedia.net

What Makes A Country Poor Is Her Wealth

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‘What makes a country poor is her wealth’. Those are the words of a 16th century Spanish economist commenting on his homeland. One time many moons ago when I was having breakfast at a tourist café in southern Mexico, I overhead an American telling his friends, ‘Mexico is so rich in natural resources yet it is a poor country’. At the time I pondered over these words. Yet it was not until I reached Venezuela later on during my extensive trip of Latin America that those words began to have more weight with me.

Venezuela has one of the largest deposits of oil on the planet yet its history since it first gained independence from Spain has been rocky. As of today the country is in chaos with most of the population barely able to regularly access basic quotidian necessities. One story that famously did the rounds for some time was the one involving a shortage of toilet paper. Stories like these are inconceivable to outside spectators like myself. How could a country with such levels of natural wealth, fall so low? Venezuela is a breathtakingly beautiful country and I am fortunate to have some great and generous friends from this part of the world. In addition to its abundant natural resources, it has some of the most beautiful beaches on the continent (its entire coastline faces the Caribbean), rich and fertile land, pretty mountain towns and Spanish style colonial towns, a vast and diverse geographical topography etc – I could go on. But lets go back to those immortal words; ‘What makes a country poor is her wealth’. In 1973 and more than two decades before Hugo Chavez came to power, Venezuela experienced an unprecedented boom owing to a freak surge in the price of oil. The country’s oil revenues for that year alone were greater than all the previous years combined. Yet the former Venezuelan oil minister and co-founder of OPEC, Juan Pablo Perez Alfonso, refused to party denouncing oil as, ‘el excremento del diablo’ or ‘the devil’s excrement’. Furthermore he chillingly prophesized, ‘Ten years from now, twenty years from now oil will bring us ruin’.

With the exception of a small handful of nations, who had the foresight to diversify their economies away from natural resources, many natural resource rich nations are not as fortunate. Africa is loaded with natural resource rich nations that today still remain poor and underdeveloped. Angola and Nigeria’s vast oil and gas deposits have created more misery than prosperity for most of the population. Today Nigeria has one of the fasting growing economies in the world yet much of its future prosperity will depend less on oil and more on diversifying its economy and stamping out corruption. Norway and Qatar are two oil rich countries. Yet both countries also have a substantial sovereign wealth fund. This means that when the price of oil is depressed, they have a cushion to land on during the lean times.  Saudi Arabia, arguably the most oil rich country on the planet, for too long was overly reliant on its number one export yet in recent times it has followed in Norway and Qatar’s footsteps by establishing its own sovereign wealth fund to diversify away from the black stuff. Hopefully Venezuela, once it is finally able to free itself from the destructive Nicolas Maduro regime, will follow suit.

It is a blessing in disguise that the UK (barring the North sea offshore oil and gas deposits in Scotland) is not a natural resource rich country. This means that in order to maintain financial prosperity, it has to retain a dynamic and business friendly economy.

 

By Nicholas Peart

(c)All Rights Reserved

 

Sources/Reading material:

‘The Devil’s Excrement’ by Jerry Useem (2003)

 

Image: Aljazeera.com

 

US Stock Markets Are Looking Frothy

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Back in December 2017, I wrote an article focusing on the toppy valuations of equity markets around the world. Back than the NASDAQ stock exchange in the USA, which consists of mostly growth stocks, was trading at around 7000 points. Considering that the NASDAQ was at less than 1500 points just over 8 years ago during the Financial Crisis, I thought 7000 points was an extraordinary valuation over such a limited timeframe.

However 2018 was the first year in a while to really test global markets. The first wobble occurred in February followed by a more rocky period between the months of October and December of that year. During the latter time period, the NASDAQ fell to around 6,300 points having reached an all time high of over 8000 points earlier in the year. Yet what is extraordinary is that since December 2018, the US stock markets have rallied back towards all time highs. As I write this article, the NASDAQ is currently trading at close to 8,200 points, whilst the S&P 500 (featuring the 500 largest publicly traded US listed companies) has just hit 3000 points for the first time ever. Much of these rises have been driven by the performance of large tech companies such as Amazon, Google, Netflix, Facebook, Microsoft and Apple. Amazon is back to trading at its all time high of over $2000 a share on a very high P/E (a company’s share price to its earnings per share ratio) multiple of over 80. Amazon along with Apple and Microsoft currently have market caps close to $1trillion – in fact, as I write, Microsoft is now trading at $1.05trillion. Microsoft has a lower P/E than Amazon (around 30), whilst Apple has the lowest (17). The P/E metrics of this trio of trillion dollar behemoths mean currently Apple is generating the most cash.

Yet what is interesting when analysing the multi year charts of the NASDAQ and S&P 500 indices, is that they have both been in a bull market for ten years. This is the longest bull market of all time for a stock market. The reason why I am currently rather concerned and on my guard is due to multiple factors. I cannot neglect that a low interest rate environment for many years coupled with quantitative easing have contributed to this lengthy bull market. Yet when I look at many tech companies and other growth companies that make up the NASDAQ, I cannot help but feel that a lot of them are being propped up by positive sentiment and lots of goodwill in relation to their fundamental net asset valuations. Some companies are just simply too powerful and potential amounts of thorough government regulation in the future cannot be overlooked. Facebook, Google and Amazon, no matter how much it may be denied, are in their own ways powerful monopolies. Facebook has the largest social media empire in the world, Google the largest search engine and Amazon the largest e-commerce business. Because of these unique characteristics, to some, their valuations are justified, and some would even argue that in spite of their already high valuations, the scope for even further upside continues to be vast. This belief in the continuing bright futures of these companies, is also taken into account in their current valuations.

When I wrote my article in December 2017, I mentioned the well known British fund manager Neil Woodford who at the time went on record to say that many growth companies were trading on very high valuations and that value investing had been neglected. Over the last couple of months Woodford’s funds have run into problems regarding unquoted and illiquid investments and his main fund is currently suspended. I am surprised with some of these unquoted and non-dividend paying companies in his portfolio, especially as they contradict his value investing philosophy, which has in the past set him in good stead. However, I do believe that value investing has currently gone out of fashion, like a has-been popstar. Some of the largest holdings in Woodford’s portfolio at one point (before he had to sell large chunks to generate liquidity) were Imperial Brands and housebuilders like Barratt Homes and Taylor Wimpey. These are stocks in unfashionable industries paying large dividends. The tobacco industry has had a torrid couple of years with the main companies trading at depressed valuations yet paying very high dividend yields. Fears over a declining number of smokers and more regulation on the tobacco industry have spooked investors. Yet what I find deliciously ironic is that many high growth publicly traded cannabis companies like Tilray and Canopy Growth are trading at very high valuations and neither pay any dividends. Dividends are an important source of income, especially in a low interest rate environment with low yielding government bonds. Investing in high growth tech companies often deprives one of this valuable source of income and even when tech companies do pay a dividend, it is not very much (Apple pays a very modest dividend of 1.50%). I can understand that tech companies that start to generate cash prefer to reinvest much of their profits to further grow their businesses and there is nothing wrong with that. In fact I admire this, yet all this means is that for solid dividend income one has to look elsewhere.

Black Swan events aside, perhaps the greatest thing to derail this current bull-market is another financial crisis related to the enormous levels of global public and private debt, which are at all time high levels. The current debt in the US is at a record $22.5 trillion. It’s quite funny for this record US debt level to correlate with new record highs for both the NASDAQ and S&P500 stock markets. At some point the resident party DJ will have to pull the plug on the beats. When this will happen don’t ask me. Furthermore, I hesitate to predict when as I’ve been wrong more times than I have been right. I do believe though, that in times like these it is always a wise move to have some insurance assets. Some say one should have 5% of their assets in gold bullion. Others prefer safe government bonds, arguing that the price of precious metals are driven by sentiment and there is no guarantee that their prices will go up in the event of a financial crisis. They are of course not wrong and I will even further add that precious metals don’t pay any income. Yet I like gold and silver. Silver even more since it is fundamentally more undervalued than gold. Instead of the conventional wisdom that one should allocate 5% of their portfolio to gold bullion, I would allocate at least 10% of ones portfolio towards precious metals with 70% in silver and 30% in gold. For more information on why I am particular bullish on silver, you can read my last article here.

 

By Nicholas Peart

(c)All Rights Reserved

 

Disclaimer: This article reflects my opinions and should not be taken as professional financial advice.

 

Image: golf.com

Why Silver Is Currently Fundamentally Undervalued

Silver-Bars

Silver is currently an interesting commodity and precious metal to be watching. During the last spike in the price of gold over the previous two weeks, the silver price barely moved. In fact, the silver price has been depressed for some time now.

Below I am featuring three charts. The first chart shows the silver price per ounce in dollars over the last 50 years, the second chart shows the gold price per ounce in dollars also over the last 50 years, whilst the last chart shows the silver to gold ratio over that same time frame. The last chart is more interesting to me, as the current silver to gold ratio stands at 92. In other words, one unit of gold is currently equal to 92 units of silver. During the last 50 years this ratio has traded at a range between 100 and less than 20.

 

The silver price per ounce over the last 50 years (as of 9th July 2019)

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The gold price per ounce over the last 50 years (as of 9th July 2019)

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Silver to gold ratio chart over the last 50 years (as of 9th July 2019)

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Silver has been derided many times as a ‘poor man’s gold’. It is a misunderstood commodity and is currently not very fashionable. In fact, precious metals generally are not really in vogue, especially amongst a lot of younger people who have more of an interest in cryptocurrencies. I am also interested in cryptocurrencies, but they are very hot right now, whereas precious metals are generally not. The recent price rise in gold was very modest when one compares the price rise of Bitcoin over the last few months, which propel some to deem Bitcoin and other cryptocurrencies as the new store of value assets and gold and silver as store of value assets of the past. Bitcoin has many times been hailed as the new gold or ‘digital gold’; a supply-capped gold powered by electricity. On the other hand, one could also argue that gold is Bitcoin without electricity or the internet.

But all the noise aside, lets get back to the fundamentals. There is an insightful article on the Royal Mint website regarding the scarcity of precious metals on this planet. The article entitled, How Rare Are Precious Metals?, discusses the ‘mass fraction’ of precious metals or how many kilograms of precious metals exist in the Earth’s crust per billion kilograms of crust material. According to the statistics in the article, gold represents 4kg per billion kg of crust material and silver 75kg per billion kg of crust material. This means that gold is around 18-19 times scarcer than silver. Yet today it is priced 92 times higher. One reason for the depressed price of silver could be that in many countries the purchasing of silver coins or bullion from a registered dealer such as Sharps Pixley incurs additional VAT costs. This also explains why the price of silver coins and bars in those countries are higher than the spot price of the metal. However in some cases silver is exempt from VAT charges if it is kept in a vault provide by the dealer. Gold, on the other hand, is exempt from VAT either way, which explains why the price of gold coins and bars is closer to the spot price.

Both gold and silver are insurance assets in an unstable, unpredictable and financially indebted world. Yet right now it is silver that arguably has greater potential upside. Even though gold is used to a small degree in industry, silver is used on a far greater scale, meaning it is not purely just a store of value. As with crude oil, a severe disruption to its supply would cause the price to spike in a very short space of time.

As silver can be quite impractical and costly to store in great quantities, an alternative way of investing in pure silver is via an Exchange Traded Fund or ETF. It is important though to select an ETF where each unit is directly backed to a physically held unit of silver. The added beauty too of a silver ETF is that you are investing in silver at pretty much the spot price. The ETFS Metal Securities Ltd Physical Silver (PHSP) is a good one with a modest annual charge of 0.49%. Vanguard specialise in ETFs and their silver ETF may have even lower charges. I also highly recommend purchasing silver via Bullion Vault. You can invest in silver very close to the spot price and have it stored in a vault in selected cities around the world. Their monthly storage charges are also very reasonable.  Yet one of the advantages of a pure ETF is that it can be put in an ISA meaning you want have to pay capital gains tax.

Investing in silver mining companies is another way of gaining exposure to the price of silver. Sometimes the gains can be higher than owning physical silver or an ETF. Yet you take on additional risk such as political risk and also company mismanagement. One of the largest publicly traded silver mining companies is the Mexican based company Fresnillo (FRES). There are also a bunch of smaller publicly traded silver mining and exploration companies, but these carry more risk.

There are many places to purchase physical silver coins and bars. I like Sharps Pixley and Bullion By Post. The latter is a little more expensive but has a greater range of silver products. The Royal Mint is the UK’s official precious metals mint but prices are also not cheap. A smaller silver trader I like very much is the Newcastle based Silver Trader run by Martin Whitehouse. He sells silver coins and bars, which other leading dealers don’t stock. Furthermore, he also sells silver coins and bars via Ebay and has lots of positive feedback.

 

By Nicholas Peart

(c)All Rights Reserved

 

 

Sources:

Main image: atlantagoldandcoin.com

Graphs extrapolated from the website Bullion By Post

How Rare Are Precious Metals?