Posts filed under “War/Defense”
David R. Kotok
Chairman and Chief Investment Officer
August 22, 2010
Middle East geopolitics raise the fear quotient. The Obama administration’s response to Middle East tension remains a mixed message.
Israel faces another “flotilla” plus the Iranian nuke threat. For Prime Minister Netanyahu, this is a two-front geopolitical war that can threaten the survival of his country. For the United States, this piles on top of Iraq uncertainty, Afghanistan irresolution, and Russian snubbery.
All this is happening in the heat of an election year, with President Obama’s approval ratings so low that some political pundits now forecast a swing of 50 to 80 House seats. This outcome would leave the Democrats a bruised and repudiated minority. Their replacement would be an energized and harshly vindictive Republican majority. Acrimony will remain the dominant emotion on the political stage, even though the cast of characters may change.
In both world and domestic politics, with threats of war markets gravitate to higher-quality or insular sectors. We have seen that underway since the start of July. Examples: Treasuries (flight to quality) have rallied robustly. Big-cap stocks have outperformed small- and mid-cap stocks. Growth has been doing better than value. Defensive areas like utilities and pharma have gained relative strength.
Let’s get to the Federal Reserve. Bernanke’s big speech from Jackson Hole will focus attention on the new Fed paradigm.
In the pre-Lehman days, the old Fed managed interest rates as their primary policy tool. The Fed’s balance sheet approximated $900 billion, mostly Treasury securities, on the asset side. The liability side was essentially the US dollar-denominated currency circulating throughout the world or held by banks as reserves while being parked in ATM machines. That paradigm is dead.
The new Fed paradigm adds over $1 trillion in securities on the asset side. The Fed is trying to transition from GSE-sourced mortgage paper to Treasuries as a substitute. On the liability side, the Fed now holds $1 trillion of excess reserves, parked with the Fed by the large banks. Nobody knows what the appropriate size of the Fed’s balance sheet should be in a climate characterized by trillion-dollar Federal deficits, 10% unemployment, growing regulatory oppression, high political uncertainty, and the rising geopolitical risk outlined above.
Bernanke is the classic “man in the middle”. His policy back is against the wall of the zero boundary in nominal interest rates. He fully understands the rising risk of deflation. He knows he must do whatever it takes to keep the United States from sliding into a Japanese-style lost decade. Markets wonder whether the Fed is running out of “bullets.” Bernanke’s task at Jackson Hole is to make the Fed’s arsenal credible.
We believe the Fed has the arsenal. They have worked on it for nearly a decade. Clues may be observed in earlier Fed speeches by Bernanke, Reinhart, and others. One needs only to read that history.
Juvenile market observers don’t read history these days. Eyestrain from text has been replaced by irritating TV sound bytes and 30-second summaries. In times like this, we take comfort in being among the “old dogs.”
Our bond accounts are fully invested in high-credit-quality spread instruments. There are plenty of opportunistic places for bond investors. Treasuries are rich. Tax-free munis and Build America Bonds are cheap.
Cash earns zero. At Cumberland, our allocation to cash is zero.
Many of the stock markets of the world are cheap. That includes the US, selected countries in Europe, South America, and Asia, and selected currencies, regions, and sectors. We are nearly fully invested in our ETF accounts worldwide.
Lastly, the next eight weeks are the treacherous part of the investment calendar. September in particular is the most dangerous month. During years when the Fed was tightening, the outcomes have included the famous market crashes of 1929 and 1987. We thank Guy Rosa for the reminder.
During years when the Fed was easing, their actions neutralized the seasonality. The Fed has just affirmed maintenance of its balance sheet size. The Fed did not commence shrinkage. Transition from rapidly prepaying mortgages to substitute holdings in Treasuries is not a tightening, it is a lateral transfer of an easing position.
David R. Kotok, Chairman & Chief Investment Officer, Cumberland Advisors, www.cumber.com
Debka via UBS’ s Andy Lees (in London) by way of Art Cashin in NY: Geopolitics – Debka file reports that the announcement that Russia is set to activate Iran’s first nuclear power station by loading the fuel on August 21st has caused a major flap in Israel as it is reported that Russia has…Read More
Huge investigative piece in the Washington Post into “A hidden world growing beyond control” — National Security Inc. — about the massive expansion of the private and government intelligence and counterterrorism activities. What was historically sensitive government-only activities has been outsourced to for-profit vendors, with a variety of problems associated with this: “To ensure that…Read More
One of my regular criticisms of George W. Bush as President was, when presented with an opportunity to achieve greatness, he repeatedly failed to rise to the occasion. Indeed, his presidency can be viewed as a long series of missed opportunities: “Once in a generation, the stars align for a political leader. There is this…Read More
I had lunch earlier this week with Lakshman Achuthan of ECRI. Our offices are a block apart, and from time to time, we get together to shake our heads in collective astonishment over the economic questions of the day. We are both data driven, and look askance at the squishy gut approaches to economic forecasting….Read More
Every year, I avoid doing/writing anything on (or about) 9/11. I had my say in 2001 (mirror here). I hate the entire maudlin retrospective “event” each year: The roll call of lost colleagues and friends; the tragedy porn that the media rolls out; I especially detest the terror tourism down at the WTC site. But…Read More
September 12, 2009 It has been two pensive days. Somehow the words won’t come. Difficult for me since I write 100 times a year. I sit staring at the keyboard. No words. Everyone is/was so busy with 9/11. Public moments of silence, ceremonies, TV filled with remembrances, talk shows, websites, commentaries, footage of planes and…Read More
Doug Casey is chairman of Casey Research, and is a best selling author, international investor, and entrepreneur. He travels the world looking for exceptional opportunities in real estate and undervalued companies in the natural resource sector (precious metals, oil and gas and more). The author of four best selling books, his Crisis Investing was #1…Read More