The Ultimate Crisis

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di Finanza Operativa 22 Febbraio 2016 | 13:30

di Walter Snyder, Swiss Financial Consulting

Commentators have often noted that the current global economic scenario is unprecedented due to the zero interest rates that have prevailed since 2008 and the great increase in sovereign debt in the US, Europe, Japan and China. The great surge in capital expenditure in China came to an end just when the fracking revolution in the US resulted in a great surge in the oil supply. Rather than limit production and lose market share, Saudi Arabia continued producing at high levels with the purpose of bringing about lower prices that would squeeze out US frackers.

What has happened is that US drillers have become more efficient and continue to produce almost as much as before but at lower costs. Despite that there are many companies going bankrupt or risking going over the edge but which keep on producing. The consequence is that the oil price has fallen to around $30 a barrel. This has resulted in many oil-producing countries having a budget deficit that is countered by having their SWF (sovereign wealth fund) sell off assets. This obviously would depress the global equity markets in any case.

At the same time European banks are still weighed down by the toxic assets accumulated before 2008 and have difficulty adjusting to new stiffer regulation besides having a high number of non-producing loans. The result is that bank stocks have suffered serious losses and that is not only in Europe. Stricter regulation depresses bank earnings.

The bull market fueled by QE in various stages and the abundance of liquidity put into the market by the central banks while holding interest rates down resulted in exorbitantly high P/E ratios in the stock market. Companies rushed into easily acquired debt at low interest rates to initiate share buy-back programmes that naturally boosted prices of their stock.

All this is practically common knowledge. The problem is that putting all these factors together creates a situation that is extremely prone to crisis. An indicator of the fear or rather panic that is beginning to spread is the recent rise in the price of gold despite BIS manipulation. There is also the widening spread for HY bonds and the worrying tendency of some sovereign debt to wander into negative interest territory. Investors pay to have their capital held in sovereign bonds.

This is ironic because the central bankers in the US, Europe and Japan would like inflation to lessen the burden of national debt. Instead what they are getting is deflation despite all the liquidity they have pumped into the global economy.

At the same time the US dollar continues to be relatively strong in Forex markets for the time being even though Iran has indicated that it will abandon the petrodollar. It is as if the lemmings were all rushing to the cliff. Even experienced fund managers find it difficult to produce positive results in such a situation.

Investors should adopt a defensive posture. Bonds with negative interest rates should be shunned. Gold could now be fully 10% of one`s portfolio until the storm blows over. Carefully selected real estate will continue producing income or at least hold its value. Defensive stocks will lose less than riskier ones. Keeping cash in times of deflation is not a bad idea. Paying off debt is not a good idea in a deflationary context.

Considering the tense geo-political situation in the Middle East, it might also be a good idea to stock up on food and essentials at home. Be discrete. Do not tell your neighbors of your plans.

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