Archive for April, 2010

Five potential emergencies- food crisis

Thursday, April 29th, 2010

Today, we will resume the series on the self-sufficiency theme- food.

Global agriculture entered a new bull market since 2003. Look at this chart:

World Grain Production, Consumption

As you can see, the world has been consuming more grain that it produces for years already. There was a bumper crop in 2008-2009, but 2009-2010 is expected to return to deficit. That means, in the big picture trend, global grain inventory is running down. As Sean Brodrick wrote in The Ultimate Suburban Survivalist Guide,

The trend in global stockpiles has been lower- hitting 31-year-lows in 2008- as once-mighty surpluses were used up.

In the context of rising global population who needs at least an additional 31 million tons of grains per year. In addition, as the emerging consumers from China and India become wealthier, they are consuming more meat, which requires even more grain.

Also, if you believe in climate change (e.g. global warming), we can expect more floods, droughts, heat waves, cold snaps, crop-devouring pests around the world, which will affect agriculture yields.

Food inventory deficits are bad enough. Consider the fact that the average US meal travels about 1500 miles to get from farm to plate means that means that a looming energy emergency (see Five potential emergencies- energy crisis) will compound the problem further. Since much of the developed world is run on tight margins (see Another Achilles Heel of modern society- narrow margin), all it takes for many people to go hungry very quickly is an oil crisis. As Sean Brodrick wrote in The Ultimate Suburban Survivalist Guide,

The average supermarket only has about three to four days worth of food stocks on its shelves. In an emergency situation or real disaster, this food is going to disappear in a matter of hours as people stock up.

So, each day as you eat your meal in front of you on the table, do not take them for granted.

Is falling airline stocks due to Icelandic volcanic eruption a buying opportunity?

Tuesday, April 27th, 2010

Ever since Iceland?s Eyjafjallaj?kull volcano erupted, air travel in Europe was frozen throughout Europe. Consequently, stock prices of airlines fell as a result. As investors, we have to wonder whether this is a buying opportunity. Will the ensuing disruption be over in a matter of weeks?

Well, we aren?t so sure because we are not scientists. As this article reported,

The last time Eyjafjallaj?kull erupted, it continued belching the Earth’s unsettled insides for 14 months, from December 1821 to January 1823.

Scientists do not expect Eyjafjallaj?kull to keep northern Europe’s airports closed for 14 months, but they suggest that Eyjafjallaj?kull’s impact on world travel might not end with the end of this current eruption.

Moreover, Iceland’s "Angry Sister" hasn’t even awoken yet. The three times in recorded history when Eyjafjallaj?kull has erupted, its neighbour, the much larger Katla, has followed suit.

Data do not yet suggest that a Katla eruption is imminent. Yet, in some respects, it is the far greater concern, both in Iceland and beyond.

Mind you, Katla is 10 times more powerful than Eyjafjallaj?kull. So far, there?s no sign of any activity of Katla. But if Katla erupts, it may trigger a worst case scenario for the airlines business.

Newbie investor asked: “Should I invest in stock market??”

Monday, April 26th, 2010

Recently, a new member asked in our forum,

I have never invested in the stock market and I am like newbie for the stock market. But I can see around me that people earn quite well from stock market though there is big risk of loosing money. I am also thinking to buy some shares but don’t understand which one should I buy?? as there are so many available in the market.. That’s why I am looking forward to have some suggestions and tips and tricks in trading.

The more seasoned investors among you may want to help out this newbie investor in the forum.

Marc Faber: Beware of investing in Australia (as it follows the Chinese business cycle)

Monday, April 26th, 2010

Currently, economists in major institution in Australia are still forecasting growth in the Chinese economy. Even the Reserve Bank of Australia (RBA) are pencilling in further boost of the Australian economy because they expect continuing growth of Chinese demand for Australia’s commodities. With such rosy forecasts, the mainstream pundits believe that Australia’s economy will continue to power ahead, which will result in further “skills shortages,” inflation, and for the property spruikers, further growth in property prices. This is the reason why the RBA had the guts to raise interest rates.

But as contrarian investors, this should be the time for you to be more careful. As we warned our readers a few months ago in Hazard ahead for Australia- interim crash in China,

Therefore, investors should understand this basic principle: because of the leverage that Australia is exposed to China, any slowdown in China will have a leveraged effect on Australia.

In other words, the ups and downs of the Australian economy follow the business cycle of China. And yes, the business cycle still exists in China. As we wrote in Will the China boom go in a straight line?,

Put it simply, we do not believe that the rise of China will take on the path of a straight line. Instead, there will be ups and downs, booms and bust and progress and setbacks. Anytime when the path does not look like a straight line upwards and take a temporary dive, the market will flip to the other extreme of this story and project extreme pessimism into the indefinite future. In other words, the market always looks at one side of the boom and completely ignores the flip side.

Contrarian investors like Marc Faber believes that the Chinese economy will “slow down regardless” any time from now on. Whether this slowdown will be a nice soft-landing or a gut-wrenching crash is another matter. This will have implications on the Australian economy, currency, stocks and property market. Make no mistake, this is what he said in an interview:

Mind you, there are massive excess productive capacities in the Chinese economy. As we wrote in Is China going to dump their excess metal stockpiles?, there are eye-witnesses’ reports of ghost cities, vacant office blocks and apartments in China. It had been reported that China’s excess capacity for steel and cement production is around the current capacity of United States, Japan and India combined. All these points to a massive mis-allocation of resources in China, which according to the Austrian School of economic thought, a pre-cursor to a bust (see our free report, What causes economic booms and busts?).

That’s why, as we wrote in Chinese government cornered by inflation, bubbles & rich-poor gap, the Chinese government will have to rein in their runaway economy sooner or later (e.g. through administrative means, revaluation of the yuan). The longer they delay, the bigger the inevitable bust will be.

A voluntary reining in of the runaway economy will definitely result in a smaller bust today (the alternative will be an involuntary and bigger bust tomorrow). That’s where the problem lies- the Chinese government lacks credibility in its will to cool down the economy. Within the circles of the Chinese property speculators, there’s an assumption that the Chinese government lack the guts to induce deflation in property prices (which will have negative effects on the rest of the economy). The reason is because once the deflation forces take hold, it will be very difficult to reverse. The same applies to the Australian government. The assumption is that at the end of the day, the government (whether it’s the Chinese or the Australian government) will indulge in moral hazards (e.g. bail out, print money, etc).

But dear readers, make absolutely no mistake about this: even if the government succeeds in avoiding a big bust today at all costs, this very success will result in more severe unintended side-effects and Black Swans. In Australia’s case, it will be a currency crisis (see Will there be an AUD currency crisis?) and/or social breakdown (because a policy of inflation is inherently unfair and widen the rich-poor gap). In China’s case, it will be complete social collapse, which is not uncommon for those who are familiar with China’s long history. Over thousands of years, China endured endless repeated cycles of corruption, dynastic collapse, followed by renewal through the birth of a new dynasty.

Hence, we will not be able to offer our readers the exact time-frame and predictions of what will happen next. No one can. But this is what you can do: be flexible and watch out for the signs and prepare the drills to be activated. So, bear this in mind: the moment the financial markets believe that the Chinese government’s talk about cooling its economy will be real concrete action, things will happen very fast.

Why interest rates policy can have opposite effect in China?

Thursday, April 22nd, 2010

In highly indebted countries such as ours, we associate lower interest rates with higher consumer expenditure and higher interest rates with lower consumer spending. The reason is simple. Since it is the norm for people to be indebted, lower interest rates implies lower debt servicing obligations, which implies greater borrowing capacity for spending.

Indeed, this was what happened in Australia when the Reserve Bank cut interest rates in 2008 to pre-empt any potential fallout from the GFC. The whole point of the interest rate cut was to help families repay their debt faster, which many did. But when the government dangled the higher First Home Owners? Grant (FHOG), many young people took this opportunity to borrow more. Lower interest rates certainly made it easier for these people to do so (which flowed on to the rest of the economy as increased consumer spending).

In countries like China, where the savings mentality is highly ingrained, lower interest rates have the opposite effect. To understand why, consider a typical Mr Wang who is saving for his son?s university education in say, 20 years time. Also, Mr Wang already has a substantial cash balance at the bank. When interest rates go up, Mr Wang will be earning greater returns on his cash at bank. With that, he can put aside less of his wages for savings, which implies that his spending can increase. When interest rates go down,  his returns on cash at bank reduces. Mr Wang will then feel that he needs to put aside more of his wages for savings, which implies that his spending have to decrease.

That explains why the Chinese consumers (especially the older generations) are so reluctant to spend. In fact, higher price inflation pushed many of the older folks to spend less in order to counter higher prices.

Remember, this is just our theory- that due to cultural differences, the demand for money in China is much higher than in Western countries (see Demand for money, inflation/deflation & its implication).

Will there be an AUD currency crisis?

Tuesday, April 20th, 2010

A few weeks ago, in Black Swans lurking around Australia?s banking system, we expressed our nervousness about Australia?s banking system:

We must confess, we are getting more and more nervous about the potential for a Black Swan hitting the Australian economy. Particularly, we are looking at a vulnerability in the banking system.

As we wrote in that article, the solvency of Australia?s highly leveraged banking system is concentrated too much on mortgages. It is bad enough for the entire banking system to be so highly leveraged. It is even worse for the leverage to be concentrated on a particular type of loan- mortgages.

In other words, any one of the Big 4 banks are too big to fail because if one fails, it is likely that the others will follow. That implies that the Australian government will have to act quickly to nationalise the entire banking system in such an event.

Will that be the end of the story?

No, our fear is that the biggest casualty in this story will be the Australian dollar.

Firstly, Australia?s gross foreign debt (at December 2009) is AU$1.2 trillion. Correspondingly, the net foreign debt is AU$648 billion. It is highly unlikely that foreigners will continue to lend money to an already highly indebted Australia with a broken banking system. In fact, it is likely that the great Aussie carry trade will reverse, causing a rapid depreciation of the AUD. Should the implosion of the Australian banking system cause a panic, we can easily see the Australian dollar crash.

Secondly, nationalisation of the entire banking system will be prohibitively expensive for the Australian government. The asset column of Commonwealth Bank?s balance sheet alone is around 60% of Australia?s GDP. In the context of a banking crisis, the Australian government will have to guarantee bank deposits. As we wrote in Australian government?s contingent liability to exceed AU$1 trillion, that is a contingent liability of over AU$1 trillion. That means Australia?s relatively small budget deficit can easily balloon to dangerous levels very quickly.

In short, we can?t see how the Australian dollar will retain value in a banking crisis. An AUD currency crisis may not happen, but as we get more and more nervous, we find it more and more imperative to be prepared. As we wrote in Protecting yourself against currency crisis,

Personally, we feel that the best way to protect yourself from a currency crisis is to leave the country before TSHTF. If not, stock up some physical cash (both foreign and local), physical gold and silver (see our book, How to buy and invest in physical gold and silver) and supplies- these will tide you over while the sh*t is hitting the fan. For the longer term, you may want to move some of your savings overseas- you may not be able to use them in the midst of the crisis, but when it is all over, the local currency may no longer exist (e.g. you may have to convert the old currency to a new one at unfavourable rates).

Is the Greek debt crisis over?

Sunday, April 18th, 2010

When you read the latest statement on monetary policy decision of the Reserve Bank of Australia (RBA), you will find that they believe that the Greek sovereign debt crisis is contained for the moment:

The concerns regarding some sovereigns appear to have been contained at this stage.

The language is reminiscent of the start of the sub-prime mortgage problems. Currently, it seems that the global financial markets are shrugging off the possibility of a Greek government debt default, which has a wider implication on the Euro as a currency, which in turn has a wider implication on the global financial markets (see All quiet on the Greek front?).

But dear readers, do not be fooled by this apparent calm. Sure, the concerns looked ?contained? but the problems are still simmering. To let appreciate this situation, look at the following facts:

  1. Greece has to pay 4% more for their debt than Germany, the most credit-worthy nation. That?s roughly twice the margin from January 2010, at the height of the financial market jitters.
  2. The most recent attempt by the Greek government to raise money was very undersubscribed.
  3. Greece needs around ?50 billion in 2010, of which around ?25 billion is needed by June.
  4. After 2010, the Greek government needs to refinance its debt at 7-12% of its GDP.
  5. Greece budget deficit currently sits at 12% of GDP and must be financed as well.
  6. Greek government debt is forecasted to be over 150% of GDP by 2014.
  7. The current ?bailout? package by the EU and IMF is around ?40-45 billion, which is short of what the Greeks need at ?50-75 billion.
  8. The ?bailout? package requires:
    1. ? that Greece must exhaust its ability to borrow from the financial markets first before accessing the package.
    2. ? unanimous agreement among EU members.
    3. ? the debt will be provided at market rates, rather than on concessionary terms (although under new proposals full market rates will not be used).
    4. ? full participation of the IMF, which means the IMF will have a say in the (usually stringent) conditions for the loan.
    5. ? meet Germany?s condition that the EU framework for future bailouts be changed.

As you can see, the Greek problem is going to be more like a trench warfare than a blitzkrieg. It will probably take years, taking down lots of casualties on the way.

Mind you, Greece is not the only country. There are other countries like Portugal, Ireland, Italy, Spain and UK who are going to face the same problem over the next few years. The question is, while the trench warfare is going on in the Greek front for the next couple of (or few) years, can the global financial markets remain orderly when one or more of the Portuguese, Irish, Italian, Spanish and British fronts are opened simultaneously?

Fingers crossed.

Five potential emergencies- water

Thursday, April 15th, 2010

Continuing from our previous article, we will focus on the issue of water security today. Please note that while this series of articles are on the theme of self-sufficiency (or rather, using our reader David?s words, ?community-sufficiency?), they are also great investment themes. As the Chinese word for ?crisis? has two components- danger and opportunity, each of these five potential emergencies is a source of both danger (societal collapse) and opportunity (lucrative investments).

With 70% of the earth?s surface covered by water, it is ironic that water can be a problem. But consider this diagram:

With potable water, scarcity leads to profits

As you can see from this diagram, less than 1% of the earth?s freshwater are readily available for human consumption.

That reminds us very much of what?s happening to China?s water supply. We first mentioned China?s water crisis at What is the key risk faced by China (according to Jimmy Rogers)?. With a fifth of the world population, China has only 7% of the world?s fresh water. Of these 7%, we wonder how much are polluted and abused? We saw documentaries and reports of China?s rivers being so polluted that they cannot even support aquatic life, much less human life. As at 2006, half of China’s population consumes drinking water contaminated with animal and human waste that exceeds permissible levels, which is why China has the highest liver and stomach cancer death rates in the world.

Globally, the situation is not good. With global warming, dry areas are becoming drier (e.g. droughts) and wet areas wetter (e.g. floods). As Sean Brodrick wrote in The Ultimate Suburban Survivalist Guide,

In 2002, 8% of the world suffered chronic shortages. More than 80 countries, with 40% of the world?s population, are already facing water shortages? The UN forecasts that by 2050, 4 billion people will lack adequate water as entire regions turn dry.

In Australia, we have severe droughts for many years already.

Water scarcity and climate change is one issue. Water infrastructure that delivers the water to the taps in your home is another issue. Booz Allen Hamilton released a report in 2007 titled, Lights! Water! Motion!. estimated that over the next 25 years, modernizing and expanding the water, electricity, and transportation systems of the world?s cities will require approximately $40 trillion. Of that, 60% of that bill is water infrastructure.

Water pipes and systems have a useful lifespan of between 50 to 100 years. Therefore, we can suggest that say, 1/75th of water infrastructure have to be replaced every year. The best places in the world are replacing 1/200th of it every year. Water leaks from ageing pipes. Here are some rough figures for water loss through pipes:

  1. Hong Kong- 33%
  2. Sydney 35%
  3. Philadelphia 30-35%.
  4. Places throughout the state of California: 10-25%.
  5. London: 35%

As you can see by now, climate change, pollution, abuse and ageing water infrastructure are reducing the margins with regards to our water supply. We are not saying that there will be a water disaster soon. But water emergencies may manifest itself in the form of disruptions (e.g. burst pipes), contamination to evacuations, and in the worst case, war (the UN said that the next war in the Middle-East may be over water).

Bottom line: bad for localities, but potentially good for water companies.

Five potential emergencies- energy crisis

Tuesday, April 13th, 2010

As you have read from our series on the self-sufficiency theme, the modern complex societies that we live in is not as robust as it seems. The reason why it seems robust is that (as we wrote in our ?How To Foolproof Yourself Against Salesmen & Media Bias? report), we have the habit of falling into one of the mental pitfalls. When you see that the tap flows and lights turn on reliably day after day, this mental pitfall will lull you into complacency. Then one day, when crisis happens, it will hit everyone on the head that modern life is fragile.

One of the main potential emergencies that can quickly disrupt our modern way of life is this: energy emergency. As we wrote in An Achilles Heel of modern society- specialisation and division of labour,

The crucial question to ask is this: what is the ?glue? that stick together all these specialised and divided labour into a system that we called the ?economy?? The answer is: energy.

Today, we can have 99% (a figure that we plucked from the sky, but you get the idea) of the population not working and yet not starve. That?s thanks to the Green Revolution that allows more and more food to be grown by less and less people.

But this comes at a cost- energy. As Sean Brodrick wrote in The Ultimate Suburban Survivalist Guide,

Energy consumption by agriculture has increased 100 times, or more. According to 1994 data, 400 gallons of oil equivalents are expended annually to feed each American. The energy consumption breaks down as follows:

  1. 30% for the manufacture of inorganic fertilizer
  2. 18% for the operation of field machinery
  3. 15% for transportation
  4. 12% for irrigation
  5. 7% for raising livestock (not including animal feed)
  6. 5% for crop drying
  7. 5% for pesticide production
  8. 8% miscellaneous

These estimates don?t include the energy used in packaging, refrigeration, transportation to retail outlets, and cooking.

At the same time, the vast majority of Americans have gotten further and further away from their food sources.

The implication is clear. As energy prices increase (and they will), prices for our basic survival need- food- will increase. If you believe in the China growth story (i.e. the secular rise of China), you will have to seriously question whether the global energy production can keep up with the colossal demand of a rising China (see The Problem that can throw us back into the age of horse-drawn carriages). Since most of our energy comes from fossil fuels (especially oil), the question is this: how quickly can the global economy restructure itself away from using oil? To retool and reconfigure the entire economy away from using oil is not that easy and it takes time.

This is just the best-case scenario- a gradual rising in oil prices over the years, resulting in a gradual declining in the standard of living. There are other worse possible scenarios?

Now, consider these facts (source: The Ultimate Suburban Survivalist Guide):

  1. 81% of the world?s discovered and useable oil reserves come from just 10 countries.
  2. 30% of the world?s oil comes from just 3 countries- Iraq, Kuwait and Saudi Arabia.

Now, look at the second point more carefully. What is common among the three listed countries?

All three of them are close neighbours of Iran. The Iranians, who are Shiites Muslims, have ambition of dominating that region. They are steering the Shiites in these three countries into their sphere of influence. No doubt, part of their plan for domination includes acquiring nuclear weapons. If the Iranians (who are led by their mad President Mahmoud Ahmadinejad) acquire nuclear weapons, it will significantly tip the balance of power in the region away from the US.

If you see how Russia uses the supply of natural gas as a tool against its neighbours (e.g. Ukraine), we can imagine the Iranians trying the same on the Western world.

There is a worse scenario than that. That region is a potential military flashpoint. What if Israel miscalculates (see New urgency for action against Iran) and plunge the region into war? In any shooting war involving Iran, we have no doubt that they will find ways to block the Straits of Hormuz, one of the energy chokepoints in the world. As the US Department of Energy reported,

Chokepoints are narrow channels along widely used global sea routes. They are a critical part of global energy security due to the high volume of oil traded through their narrow straits.


The international energy market is dependent upon reliable transport. The blockage of a chokepoint, even temporarily, can lead to substantial increases in total energy costs. In addition, chokepoints leave oil tankers vulnerable to theft from pirates, terrorist attacks, and political unrest in the form of wars or hostilities as well as shipping accidents which can lead to disastrous oil spills.

A temporary disruption lasting not more than say, 40 days is manageable for the US because they can open up their Strategic Petroleum Reserve. But if the emergency last longer than that, then there will be a heavy price to pay.

That?s not all the Iranians can do in a shooting war. Since the oil fields of 30% of the world?s oil is so near Iran, our guess is that it would not take them too much to take down these oil fields? productive capacity. Back in 1990, Saddam Hussien sabotaged the oil fields of Kuwait by setting fire to them. An irrational Iranian President will surely think of trying something worse with missiles, artillery shells, ground troops or worse still, nuclear missiles. Although the Iranian may not have military technology as sophisticated the US (although the gap is probably closing with Russian help), they have a large pool of manpower to call up as canon fodder. During the Iran-Iraq war, the Iranians used human wave techniques to beat back the Iraqis.

Therefore, a second oil crisis (the first one is in the 1970s) is definitely possible. The question is, are you ready?

Before complex societies can collapse…

Monday, April 12th, 2010

We are certainly living in interesting times. Our global village is facing very serious challenges ahead and very unfortunately, many of these challenges are confronting humanity at around the same time. As we wrote in the previous two articles (Another Achilles Heel of modern society- narrow margin and An Achilles Heel of modern society- specialisation and division of labour), the two Achilles Heels of modern complex societies will mean that it will be very difficult for nations and the world to adapt and adjust to these challenges.

In his book, The Collapse of Complex Societies, Joseph Tainter seems to say that as societies get more and more complex, more and more investments will produce less and less benefit until the point is reached when investments in more complexity no longer brings and increase in benefits. This is the point when complex societies are at its most vulnerable. Such societies can easily weather crisis in the past (e.g. military loss, drought, resource depletion, etc). But at that point, another crisis will become the tipping point that triggers the final collapse.

Regarding the idea that more and more investments will start to produce less and less returns as societies become more and more complex, it reminds us of many state governments in Australia. The Australian public are generally fed up with more and more state government incompetence as more and more public money are sunk into wasteful non-results. Although we are not sure whether Australia is at the point whereby investments are no longer producing any benefits, it seems that it is getting closer day by day.

Across the Pacific Oceans, we see many American states (most notably, California) more or less bankrupt. It seems that more and more money have to be thrown just to maintain the status quo. To his credit, Barrack Obama is attempting to reform the American system to reverse this trend.

When you look at the economic ‘results’ that the Chinese get by throwing money at their system, it looks like they are at the earlier part of the investment cycle. Ditto for the rest of Asia, excluding Japan. But mind you, the Chinese had already experienced collapse of their complex societies dozens of times in their thousands of years worth of history.

As Sean Brodrick wrote in The Ultimate Suburban Survivalist Guide,

Our [American] society is probably the most complex that has ever existed. Bigger and bigger investments in agriculture, medicine, energy and government are bringing smaller marginal returns.

But all this is still not enough to ring about a civilisations collapse. In Tainter’s view, a real collapse only happens in a power vacuum. That is the reason Europe did not collapse long ago- if one country fell, it was taken over by its neighbour- and according to this line of reasoning, is why the next collapse will be global in scale. Because this time, if one of the leading powers of the world goes down, we are so interconnected that we all go down.

Now, the question is: what about China? If the US collapse, will China be the ascending power that fills the ensuing vacuum? Or will it collapse along with the US? Or will it just continue on its own business and leave the US in the dark?

That’s the reason why Marc Faber is recommending that investors have half of their investments exposed to Asia. That is a very useful advice for very high net worth people who have the money and connections to resettle. But for the rest, it is very important to have your own plan B if something happens in your local area. Sean Brodrick made a very good point in his book,

Despite the scary scenario I’ve outlined so far, I don’t think societal collapse is a done deal. I believe we’re going to see waves of chaos going forward… … after a breakdown, the chaos will likely recede, and there will be some sort of recovery, perhaps even a return to normal.

As I said earlier, Rome didn’t fall in a day. It took hundreds of years from when the first wave of barbarians crossed the frontier to when Rome itself was finally conquered…

But if you were a Roman citizen unlucky enough to be in one of the areas that quickly descended into chaos, it was a world-changing and potentially fatal event.

The last paragraph is the point to remember. Your entire country will not be likely to collapse overnight. But if you are unlucky, your local region can be the one that descend into chaos first. The hard question to ask is: do you trust that your government (e.g. NSW State government) will have the resources, and competence to cope with large-scale crisis? We are not talking about small-scale crisis that affects small communities- we are talking about a scale large enough to affect at least hundreds of thousands of people.

If you are going to plan for Plan B, then you will have to increase the margins in your life and acquire skills outside the area of your specialisation.