Rob Cheng's Blog

Popping Wall Street’s Bubble

As I have already documented, I sold all of my stocks in May 2008. I feel fortunate, but I know of no one else that has escaped this economic crisis unscathed. The sordid details of the Madoff scandal and the avarice of AIG are just surfacing now. It is riveting how misplaced were our confidences with our financial security. Confucius said “May you live in interesting times.” And this is so very true. I put together these thoughts to help people navigate through these uncertain and interesting times.

Wall Street = High Risk ≠ Financial Security

I remember after I left Gateway, I met a financial adviser from Edward Jones. He showed me a chart which showed the returns in Wall Street over the last 50 years. The message was clear, if you leave your money in the stock market for an extended period, you will always get a return. Always. You just cannot get nervous and sell. Holding is good, selling is bad.

We see the same message in the television advertisements for the financial agencies. Save your money, trust us, and we will prepare you for retirement.

At best, their marketing is exaggerated, and at worst, it can be considered a sham. The reality is that the stock market is in essence a risky place to invest your money. Unless you have the stomach to lose a substantial portion of the principal you saved, your money should never enter into the stock market.

Wall Street is like eBay

If the stock market is so risky with so much downside risk, then why does the stock market keep going up? The stock market is very similar to an auction at eBay. Imagine suddenly there is a large influx of buyers at eBay and the number of sellers stays flat. The average price at eBay would rocket. That’s what has been happened in the stock market!

First, the financial agencies have been marketing heavily to trust them with your retirement money. It is working. The United States has by far the highest household penetration in the stock market. 45% of US households participate in the stock market versus just 15% in Germany.

A good chunk of participation occurs through 401K’s and IRA’s. Both of these mechanisms are legals ways to funnel more money into the stock market. In fact, it is better than normal money because money in 401K’s and IRA’s tends to buy and hold. The overall effect is that they make the stock market go up.

The key message here is that Wall Street’s principle role was to attract more money into the stock market. As long as new money was entering the market, the tide would rise and all stocks would improve. As a matter of fact, one huge way to attract more money recently failed. Imagine the stock market bump, if they managed to privatize social security. All of that money would have gone into the stock market.

Low interest rate era is almost over

Complicit in all of this is our government, or better known as the Fed. During the last 15 years, the Fed has embarked on a policy of low interest rates. Their belief has been that low interest rates encourages businesses and individuals to borrow which creates economic growth.

Additionally, low interest rates move money away from safe investments such as US treasuries to higher risk investments such as the stock market. In fact, it has been like clock work for the last 15 years. The Fed lowers interest rates, and the Dow and the Nasdaq get a nice bump.

As I have already discussed, now that interest rates are approaching zero, there are no more bullets in the gun. Now what? Wall Street can only go in one direction, and that is DOWN. This is when it becomes clear that Wall Street cannot live up to their marketing hype. Millions and millions of Americans, including myself, bought the hype, and pinned their retirement hopes on Wall Street. Now of all those hopes have been suspended.

Which brings us to the final saga of US monetary policy. With interest rates essentially at zero, who will fund our debt in the future? Up to this point, China, Saudi Arabia, and others have been willing to pony up. But with economic problems of their own, zero is starting to sound like a crummy deal. It seems that there are only two outcomes. The dollar will take a nose dive becoming one of the weaker currencies in the world. The other and more likely option is to let interest rates rise to help finance our debt. Either way, Wall Street will take another hit dashing the dwindling hopes of American retired couples.

Portfolio Statement is not your bank statement

Every month we receive statements from our Wall Street brokerage firms. They do a simple mathematical calculation to determine the value of the portfolio. They multiply the number of shares times the last transacted stock price. This is inherently flawed. Your stock portfolio is not worth that amount because there is no guarantee that you can get that price when you sell. They are called paper profits.

But the sham is worse than this. Certainly, on the day you receive your statement, you could sell your shares, and you would receive more or less the value on your statement. However, it falls apart quickly, because the last transaction price cannot represent the price for all of the shares. On any given day, if there are more sellers than buyers, the price drops quickly.

Here’s the problem. I have trained myself, as well as the rest of America, to view my stock portfolio statement similar to my bank statement. When my bank balance is up, I am more wealthy, and when it goes down, I am less. Unfortunately, this simple principle does not extend to stocks. You are not more wealthy until you sell your stocks and never before. Wall Street is truly encouraging people to count their eggs before they are hatched.

Wall Street is not a surrogate for the health of the economy.

Here’s the last Wall Street myth I want to debunk. We have all been trained to view Wall Street and the Dow Jones Industrial average as a key indicator of the US economy. In fact, as unemployment and GDP statistics come through, Wall Street acts in knee jerk be it positive or negative. But that’s where it ends. The reality is that during the last 8 years, Wall Street was up, but the economy was not. We were led down a golden brick road of prosperity, but there is no pot of gold at the end of this rainbow.

Conclusions

The lesson is pure and simple. Wall Street is for high risk – high reward individuals. One should not be investing in the stock market with their retirement money. Unfortunately, Americans have few good options. Keep your money in savings at a paltry interest rate, or put it all on the line in the stock market. Personally, I have been moving my money out of the country, but few Americans have this alternative easily at their disposal.

It is indeed ironic that outside Wall Street is a statue of a large Golden Bull. My final conclusion is that
Wall Street is a lot of Bull but it is far from golden.

One thought on “Popping Wall Street’s Bubble

  1. Pingback: This
  2. Rob,

    Low interest rates on T-Bills & CD’s are here to stay for a long, long time BECAUSE of internationally coordinated quantitative easing (ICQE). What WILL increase is the rate of inflation.

    After the worldwide central banks are finished with ICQE in roughly 10-12 years, they will re-monetize gold. Debt is money with a variable or fixed-rate coupon attached to it (interest). Our federal gov has roughly $12 trillion in debt right now; in ten years this will likely be in the neighborhood of $26-$28 trillion. Between the federal reserve and treasury, our government currently holds roughly 300 million-ounces of gold (this is public info). Once all industrialized nations re-monetize gold, each nation’s gold holdings will be valued, in each country’s respective currency, at the same price as the amount of government debt, while severely restricting a nation’s ability to “print” their way out of a problem. Gold production increases at a rate of 1-1.5% per year, and this would be the percentage that a country could increase their money supply, if they choose not to increase the money supply while increasing gold reserves, their currency’s relative value (internationally) will increase.

    At CURRENT U.S. debt levels, an ounce of MONETIZED gold would be worth around $50,000.

    Watch.

    – Viper

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Welcome Jesse Tyler Cheng

Of all the things that I have done in my life, I have to say that one of the most emotional and exhilarating experiences is to be present at the birth of your own child. There is just so much spinning inside of your head. What does the future hold? What will he look like? Will everything be OK? And then you look at your wife in a whole different light as well. Then BOOM! Out comes the baby, and the adventure begins. It is hard to hold back tears.

Now having had a child in two different countries (US and Brazil), there is one big difference. They love the camera inside the delivery room in Brazil. I had to sneak the camera into the delivery room in the United States. I think they are worried about law suits or something. But in Brazil, the pediatrician took the camera and started taking pictures. Then then OBGYN started taking pictures. So unlike the US, we were able to get some great pictures of an amazing moment in our lives.

Jesse was born about 2 weeks early and comes in at 2.82 kg or a little more than 6 pounds. Enjoy the slide show.

One thought on “Welcome Jesse Tyler Cheng

  1. Congratulations Rob and Solange! Like you say, Rob, there’s nothing in life as big and as incredible…not even close. Looking forward to meeting Jesse and Teddy someday. Happy New Year to you all.

  2. CONGRATULATIONS!!!!!

    MANY MANY BLESSINGS, ALL THE BEST.

    YOU HAVE A BEAUTIFUL FAMILY. Hoping to meet all of you in the near future, when my career takes me overseas!

    Happy New Year. Genevieve

  3. Congrats! Hope Solange is feeling good!! Teddy will make the best big brother. We miss all of you and hope to see you soon.

  4. Congrats to all of you!!!! I can’t wait to meet Jesse. Best to Solange and Teddy.
    Hook ’em Horns!

  5. That’s great news Rob and Solange! We had our kids in Sioux City, Iowa and Dublin, Ireland (or as our Connor told his kindergarten teacher… Dublin, Iowa!) All this shows is that your family happens wherever you say it does. All the best all all the best wishes from our family to yours!

  6. Congratulations to all of you. What a great growing family you have.

    Welcome Jesse Tyler Cheng, come join the fun.

  7. Congratulations “Team Cheng”. What a great way to celebrate 2008 and begin 2009. Enjoy the New Years and we will all drink a toast in your honor.

  8. Wow, Phenomenal!! Looks like Jesse was in a hurry to get here before the New Year’s celebrations…. Ya look like a couple of happy parents. Congratulations!

  9. Congratulations to the both of you! Rob you look as happy as she looks relieved…best of luck!

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Double Bubble

This post is called the Double Bubble, because it is clear that there have been two very significant bubbles to ripple through the world in the last 15 years. Just looking at the Dow Jones Industrial average, there is a bubble which begins circa 1995 and bottoms out circa 2003. Immediately after the tech bubble bottoms, a new bubble begins to form, which is the crisis we face today. As has already been discussed in previous blogs, Greenspan intentionally created a second bubble by lowering interest rates after the Tech Bubble popped.

This blog will analyze whether other countries are suffering through the Double Bubble impact, and hence the same dire outlook as the United States. The key observation is that these country’s monetary policies must be acting in concert with the American policy. Just because Greenspan lowers interest rates (eg. expanding money supply) in the US should not create a bubble in the German stock market. They all must act in unison.

As shown in the German chart below, that is exactly what has happened. It is almsot a mirror of the American stock market. The bubble begins in circa 1995, ends in 2003, and immediately a new bubble begins and pops in 2008. I have analyzed all of the stock markets based on the Euro, and all of them have the same Double Bubble. This is of no surprise since money supply and interest rates for the Euro are controlled through the EU Central Bank. Furthermore, EU interest rates are among the lowest in the world.

Due to space considerations, I will only include the UK stock chart to show that indeed our friends on the other side of the pond have the Double Bubble as well. Suffice it to say, that virtually every Western European nation, in or out of the EU, have the Double Bubble. The list includes France, Germany, Sweden, Norway, Switzerland, UK and many more.

However, if we look beyond the United States and Western Europe, the signs of the Double Bubble begin to weaken. Yes, there are signs of a bubble but the dynamics are very different. Below find the Indian Stock Market. Unlike the American Double Bubble, there is one single bubble which begins in 2003 and ends in 2008. The magnitude of the bubble is a LOT larger than the Double Bubble. From the period from 2003-2008, the Double Bubble increased various stock markets between 2-3X. The Indian single bubble boosts the stock market a whopping 5X in the space of 5 years.

I am only including the Russian stock market on the chart below. The Russian stock market almost looks identical to the Indian. It begin circa 2003, and drives up the market 5X. I also analyzed the Brazilian and Chinese markets in earlier posts, and these four markets all have the single bubble dynamics. (Begins in 2003, a 5X increase in stock markets, and pops in 2008).

Based on all of this analysis, I came to the conclusion that the least impacted countries are Brazil, Russia, India and China. I began investigating trading in those currencies. I found several on line sites such as forex.com, but none of these sites trade in these currencies. In fact, the most common currencies are the currencies of the Double Bubble!

Now the picture is coming together. In today’s world, it is difficult to trade in currencies that have high interest rates. Note: I said difficult, it is not impossible but there are more barriers to the free movement of money to high interest rate countries. OTOH, it is simple for the low interest countries. I believe these countries almost have an accord or a pact in today’s world where their central banks act as one and their currencies are freely traded.

The conclusions are still the same. The key to bubble avoidance is high interest rates. High interest rates minimize the flow of money into the stock markets creating an artificial wealth euphoria. This analysis further strengthens the notion that the Double Bubble is not global in nature and the primary winners will be the high growth, high interest quartet of Brazil, Russia, India, and China.

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How Global is the Bubble?

We keep on hearing that the current economic crisis is global in nature. That is to say, that each and every country in the world will suffer along with the United States. To be honest, this entire premise seems false to me. Surely there would be winners and losers as this economic crisis unfolds. Plus on top of this, the US is the largest debtor nation in the world. Surely the lenders will survive the crisis better than the debtors.

The chart below takes a peek at the interest rates around the world. The first thing that I notice is that there is a huge spread in interest rates from various countries. Their appears to be high interest rates in countries that are expanding such as China, Russia, India and Brazil. And then the balance of the countries have extremely low interest rates such as Japan, US, Europe and Great Britain. This chart is critical for understanding the economic crisis since artificially low interest rates are the root cause of the bubbles.

First, I took a look at the French stock market. The reason was to do a sanity check on the relationship between the dollar/euro, and the Dow Jones and the French stock market. As almost any investor knows, when interest rates go down, the stock market accelerates. The reasons are quite simple. Investors are constantly looking for higher returns, and as interest rates drop, the stock market spikes. This simple fact is one of the key underlying dynamics of the US financial crisis. The chart below shows clearly that the French market has experienced two bubbles and the timings are eerily similar to the Dow Jones bubble in the United States. Looks like at least to some degree that the Euro’s monetary policy was tied to US financial policy.

Next, let’s look at housing prices in Great Britain. Holy crap! In just 10 years, British housing prices have more than tripled from a low of £60,000 to a high of close to £200,000. Yes, the US had a housing bubble but in the same period of time, US prices did not even double. In this regard, the bubble is much more severe in Great Britain than the United States.

Looks like Europe may well be going down the tubes with the Americans. I was chatting with a friend in Europe last week, and he remarked that a European economist was worried that the entire Euro system might collapse in the next two years. Yikes.

Below, you can find the performance of the Brazilian stock market, known as the Bovespa. To be honest, I was not expecting to see a bubble on this chart because Brazilian interest rates are the highest in the free world. With such high interest rates, why invest in the stock market if you can make 13% risk free? But lo and behold, there is a bubble! It does not have two peaks like the French, British and US stock markets, but there is one big pronounced peak. The good news is that it is correcting quickly. Since last 2007, the Bovespa has already lost more than 1/2 of its value. It makes sense to me, with high interest rates, there is less money to drive up prices, and less money to prop them up on the downside.

And last but not least is China. China like Brazil has experienced a bubble, but it seems to be only two years in length and it appears to be almost over. Of all the bubbles that I have analyzed the Chinese bubble looks to be the smallest. Now this is making sense. China has become the world’s bank, lending money to other nation’s at a record pace. Heck, China funded the American war in Iraq. China’s monetary policy has been almost perfect. China’s problem was exactly the opposite of the United States. China has been trying not to grow their economy too fast. Their fear was that if the economy grew too fast, that inflation would grow out of control.

But here’s the big news. In the last two months, Russia and Brazil have raised interest rates! One more time, they raised interest rates in the last two months. This at the time when America, Europe and Japan are lowering them to zero as fast as possible. I believe that interest rates are the key to monetary policy. When trying to correct a bubble, there is only one solution – raise interest rates. Raising interest rates contracts the money supply, and money moves out of higher risk ventures such as the stock market and mortgages.

Living down here in Brazil, I can tell you that the interest rates are real. I go to my bank once a month to check, and I am realizing well over 1% interest rate a month risk free. As the Brazilian stock market has fallen off a cliff, I just sit back and collect my interest. It is awesome, and it is truly the nest egg that I have always wanted to build.

I am going to be moving more money down to Brazil. The dollar has been rising lately against almost all major currencies, and in my view, this is the perfect time to be selling dollars.

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The Fruits of Brazil

I really love living in Brazil. One of the major reasons are the many fruits that can only be found in Brazil. Here is my list of favorites:

1. Agua de Coco. This is the water inside of the coconut. After I run in the morning, I drink about 1.5 liters of agua de coco during the cool down period. It tastes so good. Plus it is very good for you. Agua de coco is high in sodium and pottasium, and very low in calories and fat. When in the United States, I could not find agua de coco anywhere, so I usually drink GatorAde or PowerAde. I actually think that agua de coco is a superior and natural energy drink. It sounds corny but agua de coco truly quenches my thirst, where as GatorAde just satisfied the thirst. Here’s my tip for agua de coco. Never drink at room temperature. It must be cold and the colder the better.

You also can get it on the beach. There they take a large knife to the top of the coconut, and then you drink it through a straw. Note: if the beach is crowded, quite often the coconuts will not be very cold and it is a little less than satisfying.

2. Açaí. This is a fruit about the size of a grape, and the pulp is mashed and frozen and shipped throughout the country. You can buy it in any super market. It is also a favorite at the many juice stands throughout the city. There is only one word for this drink/slurpee, delicious. Lately, I have been making it at home. Here’s my recipe. Take two packages of frozen açaí, and smash them gently with a small hammer. I use the side of a meat tenderizer. Be gentle because you don’t want to break the package just smash up the frozen stuff. Then put it in the blender until the açaí is small and a little dusty. Then throw in a banana, and mix it with the açaí. Take it out of the blender and place it in a bowl and mix in two tablespoons of guaraná syrup and granola to taste. Then start eating! Just thinking about it now, makes me want to go to the kitchen and make another one.

3. Maracujá. This is a bitter fruit about the size of a wrinkled pear. For lunch, we make it into a juice mixed with water and lots of sugar to remove the bitterness. Nice and refreshing.

4. Pineapple. This is of course not unique to Brazil, but in my experience some of the finest pineapple in the world is from Brazil. The question at hand is whether the pineapple is sweet and juicy. From my experience in both the United States and Brazil, Brazil wins hands down. Not all pineapples are good, but the probability is very high in Brazil (~80%) that you get a sweet and juicy pineapple, where as in the US I would guess the number is a lot less than 50%.

5. Caipivodka de Morango. This is one of my favorite alcoholic drinks in Brazil. It is easy to make but not available in the US. First you mash up some strawberries very fine, and then put them in the blender. Liberally throw in vodka, and serve over ice. Note: it normally comes with sugar in it, but I request it without sugar and put in sweet-and-low at the table.

I also have a list of fruits that are better in the United States. Oranges and sweet corn (in season) are a lot better in the US.

One thought on “The Fruits of Brazil

  1. -Agua de Coco is really nice. Funny you cant get it in US. After all, all coconuts are “water” inside it, before they get old, lose the external green cover and only the brown, hairy shell remains (by then, most water inside will have dried, but the layer of white cream inside will have got thicker)

    -maracuja is called “passion fruit” in english right? Is it hard to find in US?

    -pineapple: according to Wikipedia, pineapple is a fruit natural to southern Brazil, and it was spread out to the rest of the world by the europeans. I did not know that.

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