Breaking the Buck |
By Bill Bonner |
Published
11/16/2007
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Currency , Futures , Options , Stocks
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Unrated
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Breaking the Buck
“Pasta Panic Strikes Italy” says a headline from Fortune magazine.
Oh my, dear reader, this is getting serious.
“If prices continue to rise, I would not be surprised if we began to see food riots.” So said Jacques Diouf, director general of the UN’s Food and Agriculture Organization only weeks ago.
Maybe we should call Monsieur Diouf and ask his prediction for the stock market.
Yesterday, we learned about a mob stampede in China. Three people were killed in a mad rush for cooking oil.
Today, we get this:
The pasta makers of Parma have their tortellini in a twist over the spiraling price of wheat, reports Fortune.
“The price of wheat is up 60% this year, and in Italy they’re taking to the streets; the price of pasta has jumped about 20% this year for some varieties, touching off a nationwide protest. But the story behind the price hike is a global saga involving agricultural policies, commodity-market speculation, the growing use of ethanol as an alternative fuel, and Australian drought.”
Oh? Is that what it is?
Somehow Fortune overlooked something. It overlooked probably the most important reason food prices are soaring, a reason that has nothing to do with the weather.
We return to Fortune:
“Yes, the price of wheat has risen, but it has simply gone back to 1985 levels...” says Rosario Trefiletti, hinting of conspiracy. Trefiletti is president of the Federconsumatori consumers’ association in Rome. He called a pasta strike in September.
“The government can’t impose lower prices,” says Carlo Pileri, who heads another consumer group, “but it can do moral suasion.”
Which government is he talking about? The same one whose policies and predilections caused prices to rise in the first place?
Fortune continues:
“Rising bread and flour prices have sparked protests across drought-stricken Morocco, where the wheat crop dropped by 76% this year. Public disturbances have also been reported in Yemen, Niger, and the Ivory Coast.
“And it’s not just wheat that’s soaring. Milk prices are at record highs, and rice is up too. ... In Japan, where the government is the sole importer of wheat, bread prices have gone up for the first time in two decades. Russia, Ukraine, and Kazakhstan have imposed restrictions on their wheat exports to ensure that their domestic markets don’t lose out in the rush by traders to make money abroad.
“The big winners in all this, at least for now: American wheat farmers. Production is up about 14%, while exports, aided by the weakening dollar, are expected to rise more than 25% this year. Stocks are at their lowest level since the late 1940s. Best of all, prices have jumped to an average yearly price of $249 a metric ton for hard red winter wheat, more than double what it was in 2000.”
Daily Reckoning readers will note the coincidence immediately. You say wheat has more than doubled since 2000? Well, what do you know; so have oil and gold. No droughts bedevil gold miners. No farm policies hamper roughnecks. Isn’t it remarkable that all are going up together, as though levitated by an unknown, unseen force?
Well, not that remarkable. Oil, gold and food are reacting, first and foremost, not to a shortage of rain on the underside of the earth, but to a surfeit of cash and credit all over it.
Not since The Flood has the planet seen such liquidity. The United States buys things it can’t afford with money it doesn’t have. It simply prints extra dollars and exports them to its trading partners. These countries, in turn, print their own currencies to buy up the dollars. They end up with huge piles of dollars in their vaults. This year alone China has added $367 billion to its horde of foreign reserves (mostly dollars). All this money does what money does. It buys things. Typically, the more money on hand, the more of it you need to buy something.
Nobody complained, not as long as asset prices were rising. But now we’re beginning to see more and more long faces. Now asset prices aren’t all rising. Instead, it is pasta that is going up.
But here is where the pasta story gets sticky. If the flood of liquidity is so huge, how come houses are going down? And how come banks and financial firms are reporting such large losses?
Every day brings new reports of losses and a new acronym. The latest is SIV, which for the benefit of readers with real lives, stands for Structured Investment Vehicle. Turns out, the money market funds have put a little of their cash into SIVs. For the first time ever, the funds may “break the buck,” meaning, they might not have a dollar’s worth of assets for every dollar investors gave them. This would be a big disappointment to many investors; they gave their money to the money funds because they believed they were ‘safe’, and they were hoping to get their money back in the same condition it left them.
And now come the rating agencies – Moody’s and Fitch were mentioned in the report (better late than never!) – threatening to downgrade much of the paper that has been so joyfully traded for so many happy years. In particular, the news accounts say that MBIA (MBI) and Ambac (ABK) will be hit hard, and that an estimated $200 billion will be disappear from the bond market as a result.
As we’ve been saying, a hundred billion here, a hundred billion there and pretty soon, you’re talking real money.
Shareholders of MBIA and Ambac are already feeling like they’ve lost real money. If we remember the numbers correctly (we’re now in Luton Airport, outside London, waiting for a plane to Ireland), they’ve lost about half their money so far this year.
“You think that’s bad...” said a friend at lunch yesterday. “I sold my business at the end of the dotcom boom. One thing led to another and I ended up with shares in E-Trade (NASDAQ:ETFC). It never occurred to me that these guys had leveraged their balance sheet with a lot of dodgy debt. I only realized it on Monday, when the price was more than cut in half.”
Despite vigorous denials, E-Trade was said to be facing bankruptcy. Investors weren’t taking chances; they were dumping the stock.
“But it’s funny,” continued our friend, who is also in the financial trade, “we find that our clients have no real appreciation of what is going on. They only judge by the last few years. If a stock was trading at 100, and now it’s 95, they think it is a bargain. Same thing for houses. You get a little bit of a price decline, and people think they have a good investment opportunity. The idea of a bear market or a credit deflation never enters their minds.”
That is part of the answer to the question posed above. Why don’t declining levels of liquidity in the credit markets immediately sink farm prices and/or asset prices? That is a good one, dear reader. You probably think you’ve nailed us with it. Not at all. We have an answer. After a night spent somewhere between inebriation and prayer, we have an explanation.
Of course, part of the answer is right there. Investors are still believers. Sentiment has a kind of momentum of its own. Bullishness persists, even as the warning signs multiply.
A fuller answer comes in a familiar metaphoric form: The tide has turned, we think. And when the tide turns, sailors on the high seas barely notice. There is still plenty of water beneath them. But out on the edges, in the shallow marshes and the tidal flats, the liquidity disappears. Many marginal subprime borrowers and their marginal subprime lenders already find themselves high and dry. House prices are falling. Hedge funds and financiers are losing money. Relatively few people feel the water moving between their toes. But soon, the outgoing ebb will be more apparent to everyone. The middle class will begin to come up a little short at the end of the month, companies will see their profits fall, investors will sell their stocks, and savers will begin to look at their dollars, pounds and euros and wonder what they are really worth.
In the meantime, marginal investments dry up while scarce resources – oil, gold and wheat – continue to sop up the extra liquidity.
Bill Bonner is the President of Agora Publishing. For more on Bill Bonner, visit The Daily Reckoning.
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