Central Banker's of the World, Unite!
John Mauldin
Central Bankers of the World, Unite!
The End of Japan's Quantitative Easing
Troubles in the Housing Markets
The Retirement Savings Picture
"Central Bankers of the World, Unite!" That at least seems to be the theme from
the central banker's playbook. The US Federal Reserve, The European Central Bank
and now even the Bank of Japan all seem to be in a mood to tighten the global
money supply. What does this mean? We explore that thought and look at the US
saving rate (or lack thereof), foreclosure rates and more.
But first, I want to once again mention that I along with my partners Altegris
Investments will be hosting our third annual Strategic Investment Conference in
La Jolla, California next May 18-20. As usual, we have a powerhouse lineup of
speakers. Martin Barnes of Bank Credit Analyst, Dennis Gartman, Richard Russell,
Louis-Vincent Gave, Mark Finn and my personal (as well as someone called
Oprah's) doctor Dr. Michael Roizen (who wrote the RealAge series of books and
the recent blockbuster bestseller You - The Owner's Manual). With this lineup
you can expect not only solid information and some fun, but some very serious
debates. One of my rules in designing a conference is to get speakers who are
going to help make me a better investor and analyst. I think we have done that
and more this year.
Due to regulations, we must limit attendance to "qualified" individuals and all
attendees must be approved in advance. "Qualified" in this sense is a legal term
which designates certain levels of net worth and not meant to say that all of my
readers are not excellently qualified and astute analysts of investments and the
markets. In general this means to attend you must have $2 million or more in
investments, or be institutional investors. While I wish I could open up the
conference to all of you, I do not make the rules. I just follow them
religiously. If you are interested, click this link below to access our "Save
the Date" form to allow us to contact you to help us determine if you are
eligible for an invitation as soon as they are ready. If you have any questions
as to whether you qualify for the event, please send me an email. Attendance is
limited. The initial response has been quite strong. I think it is likely this
conference will sell out, so I suggest you act now and click on the link and
give us your email address to notify you when the conference information is
ready in a few weeks.
https://hedge-fund-conference.com/SAVETHEDATE06.ASPX?M=1
The End of Japan's Quantitative Easing
One of the more important aspects to global growth has been the "quantitative
easing" policy of the Bank of Japan. Basically, they have put about Y30 trillion
into the world since 1999, with Y20 trillion of that coming since 2003. They
have flooded the world with liquidity, at almost exactly the same time as the US
Fed was aggressively lowering rates. Japan has been a main source of capital and
savings for the world. Now that looks like it is going to change. My friends at
GaveKal give us a succinct picture of what is happening. After that we will look
at why you should care about Japanese bank policy.
"As long-time believers in the huge importance of Japan's zero interest rates
for every financial market in every corner of the world, we have to sit up and
take notice of the imminent tightening of monetary policy in Tokyo. First hints
and, more recently, explicit statements suggest that the Bank of Japan is about
to abandon its policy of flooding the Japanese banking system with money so as
to create excess balances of Y30 trillion. Whether the BoJ announces this change
at its next monthly meeting on Wednesday, or waits until the April meeting, is
of little importance. What matters is that the policy of quantitative easing is
clearly at an end.
"But the imminent end of QE begs a crucial question, which seems to be confusing
many investors and market analysts. Will the end of QE be followed quickly by
the ending of the zero interest rate policy (ZIRP)? Remember that the QE policy
did not begin in earnest until 2003, four years after interest rates were
reduced to below 10bp in 1999 and two years after they fell to absolute zero in
mid-2001. Thus a gradual reduction in bank reserves from the present Y35
trillion to Y15 trillion (where they were in 2001) or even Y5 trillion where
they were in 1999 would be perfectly compatible with zero or near-zero interest
rates.
"Our view is that this combination of declining reserves and zero rates is
exactly what the BoJ will try to achieve. We have long believed that the ZIRP
would continue for at least another year or so and that Japanese interest rates
would remain near zero (i.e.: below 50 basis points) for the rest of this
decade. We believed this because the Japanese had a very plausible reason for
sticking to ultra-low interest rates for the foreseeable future: Japan has the
biggest government deficit and the highest level of public debt relative to GDP
in the OECD. Thus when the economy gets strong enough to withstand a
deflationary impact, the Japanese will want to hit it with fiscal rather than
monetary tightening. Tax increases are already in preparation for 2007 or 2008
and to make sure that they can be implemented without causing a 1997-style
economic disaster, Bank of Japan and Ministry of Finance officials have agreed
that monetary policy should remain ultra-loose for the foreseeable future.
"This very plausible story has been supported by news reports which predict that
the BoJ will accompany its statement about the end of quantitative easing with a
public assurance that the ZIRP will be maintained. But strangely, the market
seems to be taking the opposite view. All the discussion about ending QE seems
to have persuaded many investors that the ZIRP is also about to be abandoned.
The Japanese yield curve is now discounting a very aggressive increase in
interest rates, with short rates expected to rise by 75 bps this year and 150
bps by the end of 2007. This seems to us very implausible."
This week the European Central Bank raised interest rates and optimistically
projected European growth to be higher. European Central Bank President Jean-
Claude Trichet said, "...projections for the annual average rate of growth are
in a range between 1.7 and 2.5% in 2006 and between 1.5 and 2.5% in 2007." While
we should note that if the Bush administration made such a proclamation, it
would be considered a disaster, this is actually an increase in the estimates
for Europe. When combined with his recent and frequent use of the word
"vigilant" every time he talks about inflation, it seems to indicate that the
ECB is not through with its rate increases. Cheap European money and credit is
on its way out the door.
And with the recent strength in the US of the ISM numbers, it appears the US
economy is going to turn in a very respectable GDP number this quarter. It makes
a rate hike this month a lock, increases the probability of a hike in May and
maybe one more in June. I am not alone in that thought. Market expectations
(using CBOT futures prices) suggest that there is a 100% chance of a rate hike
in March, a 78% chance in May, and a 67% in June. Futures pricing even suggest a
better than even chance for a fourth rate hike in August!
Let me repeat what I said when the Federal Reserve began to increase rates in
2004. "History says the Federal Reserve will increase rates more and for a
longer period than anyone now suspects." I also said I hoped I would be wrong,
as the Fed usually stops when they have already inflicted enough damage to
materially slow the economy. It looks like they are going to go too far this
time as well, at least from my vantage point.
In short, all three major central banks, and a lot of smaller central banks, are
going to either tighten their money supply or continue to raise rates or both.
Yet, investors and banks continue to lend money and demand less risk premium.
Such a combination does not usually end in happiness. It reminds me of Mad
Magazine's Alfred E. Neuman. "What? Me Worry?" When central banks tighten
simultaneously, bad things can happen. Think of the tightening in 1997 and then
the Asian and Russian problems in 1998, or the serious tightening in 1999 and
2000 and the stock market corrections in 2001-2003.
Troubles in the Housing Markets
Reduced liquidity and rising interest rates are slowly being translated into
higher mortgage rates, slowing the rise in home prices and cash out refinancing.
As I wrote last summer, the Fed is clearly bent on stopping a housing bubble in
its tracks. They hope to be able to engineer something similar to what has
happened in both the United Kingdom and Australia, where both countries
experienced an even greater housing price increase than in the US, their central
banks raised rates and yet did not see a falling of home prices or a bursting of
a bubble. Home prices in those countries simply went flat.
Are higher interest rates having an effect on the housing market? The clear
answer is yes. RealtyTrac (www.realtytrac.com), the leading online marketplace
for foreclosure properties, today released its January 2006 Monthly U.S.
Foreclosure Market Report, which shows 103,540 properties nationwide entered
some stage of foreclosure in January, a 27% increase from the previous month and
a 45% increase from January 2005. The report shows a January national
foreclosure rate of one new foreclosure for every 1,117 U.S. households,
continuing an upward trend in which the national foreclosure rate rose in every
quarter of 2005.
An interesting series of stories on foreclosures in the Charlotte Observer in
North Carolina illustrates the problem. As they report, FHA loans are failing in
Charlotte at nearly twice the national level. But the reasons for failure are
interesting. Many of the failures are on the lower end of the economic scale.
A new mortgage industry grew in the mid-1990s, offering loans at higher interest
rates to people who don't qualify for traditional loans. Such loans account for
about 10% of all home purchase loans but result in at least 24% of local
foreclosures, the Observer found. More than 40% of failed loans in Charlotte
involved an arranged gift from a charity to cover the borrower's down payment.
It's a practice the FHA is reviewing because such loans fail 76 percent more
often. Further, more than 20% of foreclosures resulted from defaults on loans
taken after the home purchase. The cash out financing was at such high interest
rates that it pushed the families into economic problems.
Let me state that I am all for lenders willing to make home loans to riskier
type accounts. The stability of an area is improved when you have more home
owners, and I am all for people having a chance to own their own homes. But it
will involve more defaults. In certain streets in Charlotte, up to 20% of the
homes are in foreclosure. That does not help property values for the remaining
home owners.
http://www.charlotte.com/mld/charlotte/news/special_packages/foreclosure/
The Fed is going to get what it wants: home price increases are going to come
down and then go flat. Let us hope they do not start to go down.
This week we learned that both new and existing home sales slowed last month.
The inventories of both types of homes are rising to recent highs. Another 50
basis points in rate increases is only going to increase those trends. A large
number of homes in hot markets have been bought by "investors," using adjustable
rate mortgages with little or no equity. They intend to either flip the house or
rent them. The increased cost of holding those homes is going to make it
difficult for those investors who do not have some deep pockets.
Right now, in many of the hot markets like San Francisco, LA, New York, Miami,
DC and Las Vegas, it is much cheaper to rent than to buy. According to an
article in today's Financial Times, the extra cost of ownership to renting in
those markets is anywhere from 50% to almost 100% more!
Let's recapitulate. Cash out refinancing is dramatically slowing down, and as
interest rates rise, will slow down even more. Home price increases are also
going to slow down and stop. The Fed is going to continue to increase rates
until that trend is well and truly broken. Rising rates make homes less
affordable so fewer homes will be sold. Since much of the recent growth in the
US economy relates directly to housing, that growth is going to slow down.
Consumer spending is also slowing as a result (see recent e-letters).
And then along comes Japan and suggests they are going to start to take away the
world's liquidity punch bowl. They will not do so rapidly, but do it they will.
This will eventually have an effect on financing costs world wide. It helped
while they were easing and it will have the opposite effect as they take that
easing policy away. I wonder what the Japanese words for "measured pace" are?
This is just one more reason why I think we are going to see a slowdown in the
economy that latter part of the year. And it is one more reason why I think the
broad equity markets are going to have a very difficult period.
The Retirement Savings Picture
I want to close with this rather troubling survey released this week by the
Financial Services Forum. The headline for the press release was "Survey finds
that half of all Americans worried about retirement security." There is a good
reason for them to be worried. Look at the table below. This gives us the amount
different age groups saved last year for retirement. This is in response to the
question "How much did you save last year for retirement, including such savings
plans as IRAs and 401ks?" Read it and weep.
Assuming the 33% that did not respond breaks out more or less in the same
percentages as those who did respond, we find that 67% of the people aged 50-64
saved less than $10,000 last year. Over 40% saved less than $1,000!!!
By the time you are 50, you should be thinking about retirement and putting away
some savings. Your peak earning years are the next 15 years, and hopefully your
kids are out the door (unless you are like me, 56 with 4.5 kids in college at
the same time!).
Interestingly, only 51% of those age 50-64 are worried about retirement. This
tells me that a lot of people are not really focused on their retirement, or
have some very unrealistic expectations about how well they will live on Social
Security.
This squares with other surveys I have written about. A majority of Americans
expect to work either full-time or part-time after retirement. The above data
suggest they will have not choice, as their savings will not be there.
Living on Tulsa Time
Tomorrow I take a road trip with some of my kids to Tulsa. I have twins
attending Oral Roberts University (juniors). One of my daughters is captain of
the cheerleaders for ORU, and they start their conference basketball tournament
this weekend. We are going to go up and watch her cheer. If ORU wins the
tournament (they are the #1 seed), I may be making an unplanned trip the
following week to some locale to watch her cheer at the NCAA tournament.
It's been a while since a bunch of us piled into a car to drive for more than a
few hours, so this should be fun, or at least I hope it is.
On a totally different note, I have been really working on losing weight and
getting in shape the last few years with some modest success. I have found a
protein powder that has really helped me. Dave Draper, the Blond Bomber of my
youth (Mr. Universe, taught Arnold everything he knew, etc.) has formulated a
powerful protein powder called Bomber Blend. It is the best powder I have ever
seen as far as its contents. It also has the advantage of REALLY tasting good
and being relatively inexpensive compared to all the stuff in the stores. I mix
the chocolate powder with water, ice and a banana or the vanilla with peaches or
strawberries. It is my regular breakfast. You can order some at
www.davedraper.com. Give him your email to get his weekly letter. It helps
inspire me to get into the gym and pump some iron. You will be glad you did. He
is a really fun writer.
And now, that I have talked about health and stuff, I think I will hit the send
button and go eat some Mexican food. In moderation, of course! Yeah, right. But
life is good.
Your having more fun than is probably legal analyst,
John Mauldin
JohnMauldin@InvestorsInsight.com
www.2000wave.com
March 4, 2006
Copyright 2006 John Mauldin. All Rights Reserved.
If you would like to reproduce any of John Mauldin's E-Letters you must include the source of your quote and an email address (John@frontlinethoughts.com) Please write to Wave@frontlinethoughts.com and inform us of any reproductions. Please include where and when the copy will be reproduced.
John Mauldin is president of Millennium Wave Advisors, LLC, a registered investment advisor. All material presented herein is believed to be reliable but we cannot attest to its accuracy. Investment recommendations may change and readers are urged to check with their investment counselors before making any investment decisions.
Opinions expressed in these reports may change without prior notice. John Mauldin and/or the staffs at Millennium Wave Advisors, LLC may or may not have investments in any funds cited above.
PAST RESULTS ARE NOT INDICATIVE OF FUTURE RESULTS. THERE IS RISK OF LOSS AS WELL AS THE OPPORTUNITY FOR GAIN WHEN INVESTING IN MANAGED FUNDS. WHEN CONSIDERING ALTERNATIVE INVESTMENTS, INCLUDING HEDGE FUNDS, YOU SHOULD CONSIDER VARIOUS RISKS INCLUDING THE FACT THAT SOME PRODUCTS: OFTEN ENGAGE IN LEVERAGING AND OTHER SPECULATIVE INVESTMENT PRACTICES THAT MAY INCREASE THE RISK OF INVESTMENT LOSS, CAN BE ILLIQUID, ARE NOT REQUIRED TO PROVIDE PERIODIC PRICING OR VALUATION INFORMATION TO INVESTORS, MAY INVOLVE COMPLEX TAX STRUCTURES AND DELAYS IN DISTRIBUTING IMPORTANT TAX INFORMATION, ARE NOT SUBJECT TO THE SAME REGULATORY REQUIREMENTS AS MUTUAL FUNDS, OFTEN CHARGE HIGH FEES, AND IN MANY CASES THE UNDERLYING INVESTMENTS ARE NOT TRANSPARENT AND ARE KNOWN ONLY TO THE INVESTMENT MANAGER.
Printer Friendly Version
Email this Article
