Bubble About to Pop - Crash: The bubble is just about to pop now. On 1 June – all US stock markets went down between 2.2% to 2.4%. This was just a minor correction, a mere wobble compared to what is just about to happen.
Printed Money: We have a very simple message. The $2 Trillion of printed US money has created a bubble – inflated things well beyond their real value. This has swollen US debt and a recession is now beginning.
Indices Down: All key indices this week pointed down. In our opinion the USA should already be in recession – it’s just that the quarterly numbers are not out yet. We wont bore you with all the details – suffice it to say we did not see any positive indices this week – they all stayed the same or worsened. The UK is also very close to a recession. In a few months, the markets will realise the extent of the growth problem and investors will dump shares because of fears of large drops in earnings. Meanwhile a few key negative things out there:
1 US administration has yet to agree to increase the $14.3 Trillion debt ceiling – time is ticking by and default would start in August if no agreement is reached
2 Greece needs to make its Euro 12 Billion debt payment in June – it cannot afford this – and a further bail-out is still to be agreed
3 The US stops QE2 on 30 June – there are no plans for QE3 and in any case, the USA cannot afford this – interest rates are due to skyrocket because people will demand a greater risk premium to hold dollars with declining value due to the inflationary bubble created
4 The summer slow-down is on us – economies always slow in the summer
5 Public sector spending cuts will start to kick-in
6 Inflation is now out of control – normally if inflation is 5%, interest rates should be 8%. Interest rates are only 0.5% - ridiculously and dangerously low. One can only assume Central Banks expect a recession later this year.
7 Food and energy inflation is running at 10-25% with taxes rising – if this does not lead to a recession, we don’t know what will
8 Oil prices are averaging $100/bbl on an 6 monthly basis, far higher than in 2008 – it led to a recession last time – why does anyone think it will be different this time, especially as western economies are now less robust?
9 Go away in May – the old adage is worth taking very seriously – this time millions of retiring baby-boomers will be getting their money off the table and heading for the hills for the very last time – expect to notice more retirement announcements early this summer as these people liquidate and head for the sun
10 Despite the Fed pumping $2 Trillion of fiat money into the US economy, it has barely created any jobs. US tax revenues is $1.3 Trillion a year with government deficit $1.3 Trillion – the US deficit is >10% of GDP - totally unsustainable. Even if the US government double tax rates, they would still be in deficit. And that's before interest rates go up - worried - you should be! Any other country would be bankrupt with such finances and the USA’s ability to keep printing money will soon be curtailed after the dollar crashes, and as foreign investors shift away from viewing the dollar as a safe haven. They must be sick and tired of the dollar being devalued on purpose.
Peak Oil: This was 2005 (crude oil) or 2008 (all oil liquids) – for seven years we’ve been on a bumpy plateau and oil production is declining after massive supply disruptions to light sweet oil supplies from Libya (1.6 million bbls/day) and Yemen (0.4 million bbls/day). OPEC is not capable of making up for this light oil off the market – and high oil prices have now killed the western economic recovery. It always does, it always has and it always will. News this week broke via Gazprom that Russia’s oil production is now in decline – they have also reached Peak Oil – production will be down 3% this year. It's highly likely Saudi Arabia cannot increase production significantly – and in any case will not do so even if they could. If oil prices rise, demand will be destroyed as a recession takes hold so they will use this as an excuse for not exporting more oil. In any case, with their massively increasing population and oil demand internally, the Saudi’s need all the oil they can get to fuel their own economy - electric power for air conditioning and gasoline for cars – expect Saudi oil exports to drop (not increase). As global oil prices rise, there is an incentive for Saudi to hold oil back and get higher prices in future years – yes, expect OPEC exports to decline not increase. This is not a normal market.
Alternatives: The world is so reliant on fossil fuels that any immediate transition to renewable alternatives is wishful thinking. Not only are these energy forms far more expensive, the infra-structure has not been developed to make the switch possible in a 10-15 year time frame. In any case, such gigantic investment would be required - it would bankrupt most developed nations. Most renewable energy already relies on large subsidies - as Peak Oil affects hit and government have less money to spend, these subsidies will dry up even though at these times they will most be required. We're pretty much locked into fossil fuels. Nuclear power was about to see a gigantic growth period because this was moderately low cost, very low in emissions and considered safe - however, the Japanese nuclear disaster has made many countries think again. In Germany, they announced last week they would shut all their nuclear power plants by 2022. That means they will have to find 22% extra capacity from somewhere - a gigantic new investment and likely to drive energy prices far higher. It will also probably lead to more CO2 emissions because we frankly find it unbelievable they will be able to replace this capacity with renewable sources. Especially as new overhead pylons would need building and the locals will undoubtedly complain that this is polluting. Hydro-electric plants are no longer being built because of environmental complaints. Nuclear ditto. Shale gas has just been outlawed in France - because fraccing is now illegal. It all points to rapidly increasing energy prices, slower economic growth and energy crises in various countries. Shale Gas was the great hope a few years ago, particularly in the USA - the energy business has been hydraulically fraccing wells for 30 years, but now it seems many governments want to ban this practice - just when we most need this relatively cheap clean energy. What alternatives are there that are not killed off by various different vested interest groups? None. Expect power cuts -affecting hospitals, schools and homes - particularly in developing nations. As energy prices rise, overall GDP growth will drop in oil importing developed nations.
GDP Growth: To be quite explicit, we have modelled the effects of oil price based on economic costs (import-export deficits), historical trends and forward projections - the table below gives our view on the likely GDP growth at sustained oil prices levels. As you can see, anything over $100/bbl leads to stagnation in developed oil importing nations. Anything over $130/bbl will lead to recession. We are there or thereabouts at the moment - and we see a recession recommencing before oil prices drop back thus re-stimulating the economy. Just to re-iterate the direct relationship between oil prices and economic wellbeing. Ignore this at your peril - since all other output prices are either directly or indirectly linked to oil prices. The age of cheap energy driving consumerism and debt is over. This will change henceforth and western oil importing nations will battle to stay out of recession because of high oil prices.
Oil Price $/bbl | US GDP % growth rate | UK GDP % growth rate | India GDP % growth rate | China GDP % growth rate | Saudi GDP % growth rate |
50 | 3.0 | 2.5 | 9.0 | 11.0 | -4.0 |
75 | 2.0 | 1.8 | 8.0 | 10.0 | -1.0 |
100 | 1.2 | 1.0 | 7.0 | 9.0 | 4.0 |
125 | 0.6 | 0.6 | 5.2 | 8.0 | 6.0 |
150 | -1.2 | -1.2 | 4.5 | 7.0 | 8.0 |
UK Trips Up Big Time: As for the UK, Chancellor Osbourne’s £2 Billion tax grab has stalled North Sea oil and gas investments to the tune of £10-20 Billion and this will increase declines in UK oil and gas production. Just when the UK needs more oil and gas, this ridiculous tax on "supply" will do the opposite. Meanwhile tax on "consumption" was dropped at the petrol pump – does that make sense? – we must be missing something! Expect worsening balance of payments deficits as more projects are cancelled – we saw the first evidence of this last month as North Sea oil production crashed the most in ten years. Many jobs will be lost, particularly in Scotland. This tax was stupid. The UK has the most unstable oil tax regime in Europe – possibly the world. UK governments seem to want to destroy the goose that lays the golden eggs. And this tax is at the same 82% level on gas – and UK gas imports are now gigantic compared to ten years ago all leading to increased balance of payments deficits. When will they learn?
Crash: We expect the US stock market to crash by at least 30% by year end. The Dow should eventually drop from 12600 to 8000 - this is our central projection. Ditto the UK stock market - dropping from 6000 to about 4200. We urge all serious investors with stock market investments to sell up into cash now – before it’s too late. Then you can get back into the stock market after a crash. Don’t hang around in this market – you’ll be the sucker that gets caught. Be the first to leave the party, not the last.
Safe: And if you have a lot of cash, spread it around different banks in case one or two go under during or after the next financial crash. Or store it in a safe bank vault – forget the interest – it’s not worth anything anyway. Better still – put the money into a Swiss Bank account is Swiss Francs. Or in Canadian Dollars in Canada - a country well protected from Peak Oil.
Chinese Property Bubble: People have been talking about the Chinese property bubble for the last five years. Normally, if people say a bubble has formed, it's normally the case. Euphoria takes hold, and people see a fast rising market, speculators jump and board then try and find the top. Then everyone bails out - the canny investors first with the suckers last. Up until now, we thought this market was well supported by fundamentals, but since early 2011 we have changed our tune. The think there is 80% chance its a bubble and it will go pop. If and when it does, it could have a global repercussion because so much money, energy, resources, employment and speculation has gone into this mighty building boom. If it goes pop, other assets like oil commodities, coal, banking and resources companies would likely be affected. Particularly steel, iron ore, copper and cement -plus oil and gas that is needed for building. We also see the first signs of a property crash in China, not for sure, but it certainly looks spooky. So, this is another reason to get your money off the table for a while - if the Chinese property bubble goes pop, it could stimulate stock market declines globally - and trigger a wider recession in countries exporting to China.
Chinese Invest in London: An interesting article describes evidence the Chinese are starting to invest heavily in London property - because prices are lower than Beijing. The Chinese are canny investors - this is certainly a sign that all might not be well as indicated in the mainstream in China at the moment. Undoubtedly China is a fast growing country with massive upside, but property prices have probably got too far ahead at this time, and there could be a rapid correct in some of the major industrial cities.
Property Investing: Some of the biggest smartest investors have liquidated stocks and shares and got into London prime property – not a bad strategy considering what is likely to happen. The buy-to-let market is also resurgent in the UK because so few first-time buyers can afford to buy their own properties now. They cannot get financing. Deposits are too high. Student loans drag them down. Weddings cost a bomb. Credit cards have too much debt on them. "Mum and Dad" cannot afford to help anymore. Banks prefer to lend to established buy-to-let investors. And of course rents have been rising fast because of a shortage of rental accommodation, shortage of private landlords and social housing. There is almost no building and the population is expanding rapidly - 1% a year in London for instance. So it does not take a rocket scientist to realise that the housing crisis – will and is causing rents to sky-rocket. Being a landlord is a rather unpopular profession and highly stressful – with problem tenants, high taxes, problems with regulation and councils, and a good deal of criticism mainly from either envious, jealous people, or people that believe buy-to-let investors are responsible for driving up house prices – because of this, there is not much competition any more. Few landlords around. Hence rents go up. This is the un-intended consequence of all the regulations and tenant rights that have been put in place in the last 15 years. So yields are reasonably attractive. As you can understand, they have to be attractive because being a landlord is not exactly a pleasant or easy experience. So indeed, there are some good high yielding rental opportunities out there and very little competition. We don’t think this will change any time soon because 15 years of governments have failed to improve the attractiveness of private letting for landlords. And capital gains tax also took another slice out of profits last year. If landlords pay for energy and council tax – these costs have also sky-rocketted.
Inflation: Also consider, property is generally thought to be one of the best hedges against inflation. If you believe governments will try and inflate their debts away, then as inflation kicks in, its likely property prices will follow suit. It does not take many years of 4% inflation to reduce debt burdens - for instance, after 10 years at 4%, debts in compounded real terms halve. If property prices rise with inflation, then equity levels shift markedly higher quite quickly, as the real terms debt level reduces - even if property prices do not out-pace inflation. That's one reason why so many wealthy people invest in property, and London property is the most popular place. London gets more visitors a year than any other city in the world - 20.5 million visitors. More than Paris, double that of Madrid. London attracts wealthy international families with its culture, transport, history, education and language - along with a cosmopolitan open environment. Expect international inflows of property investment cash to continue to stream into London - as a safe haven during problematic times.
Land: As the population rises from 7 Billion to 9 Billion in the next few decades and Peak Oil continues to affect the economic landscape, land prices will likely rise sharply. Anything growing production activity on land like forestry, water, mining or agriculture will prosper as food prices rise and food shortages become noticeable. Land is something tangible, physical that can be used to grow and sustain life – so fiat money and debt lose value, land prices will more than likely rise far above inflation. The very most wealth people normally invest in land – during hard times, land will always come in handy and be coveted. To have land in your portfolio seems sensible. In our view, we prefer land to gold. We like land like oil, gas and coking coal. Land can be used to generate energy. Land can be used to grow food and fuel. Peak Oil leads to higher land prices, especially good value farmland close to cities.
