Chuck Butler: Power is Shifting from the West to the East

We recently had an interesting conversation with our friend, Chuck Butler, of Daily Pfennig fame. Well, today we finally get around to publishing it for you.

Chuck, if you’re unfamiliar with him, is one of the longer-running voices in these reckonings. In addition to penning the Daily Pfennig, he’s the managing director of EverBank’s Global Markets Group.

“For 16 years,” wrote our founder, Addison Wiggin, on March 22, “while variously writing The Daily Reckoning and The 5 Min. Forecast, Chuck’s daily missives have been one of my first reads of the day.

“Rummaging through the Data Cupboard with Chuck, digesting key insights he’s picked up from across the wire and gleaning trading room secrets in the currency markets has helped set my own daily issues on track more times than I can count. Even his enthusiasm for St. Louis is infectious. I’ve almost become a fan of the Cardinals, and I don’t even follow baseball.”

Over the phone, Chuck and I took a tour of man, markets, manias and their impact on your wealth today. Our full conversation is below and worth your time. Read on…


Peter Coyne: Hi Chuck. Welcome back to TheDaily Reckoning.

It’s good to finally speak with you live. I read the Daily Pfennig every morning – it’s essential reading for any investor and I recommend it to all DR readers.

Chuck Butler: Thank you, I read your stuff all the time.

Peter Coyne: We’ve had a lot of new readers join The Daily Reckoning’s ranks in the past few months. So, let’s start with some context for anyone who may not know you. In addition to penning the Daily Pfennig, you’re the managing director of EverBank’s Global Markets.

You’ve also been one of our longer-running “characters” in these reckonings. Addison, Bill and you go back.

Do you have a good anecdote about how you began your relationship with the DR?

Chuck Butler: Well, actually, it’s kind of funny. EverBank’s former marketing person was David Galland. And David and Bill Bonner were very good friends from way back.

And, Frank Trotter, my boss, knew Bill, too. But I had never met Bill or Addison. We were at the New Orleans Investment Conference. This is around 2003.

I had walked away from our booth for a minute. When I came back, my colleague said, “Hey, there was a guy here by the name of Addison Wiggin who wants to talk to you. He’s right over there.”

So I walked over there and introduced myself to him, and it turned out he’d been reading the Pfennig all the time.

I’d been reading TheDaily Reckoning too [laughs] you know and we just started kind of hitting it off and talking about the two you know newsletters and stuff.

Then Bill came over and introduced himself. That’s basically how I met them was at the New Orleans Investment Conference. We had been reading each other’s stuff but we had never met each other.

Peter Coyne: Funny how things work out. Since we’re starting with your DR’s roots — it’s a good point to also note for new readers that we’ve been warning about a debt crisis in the U.S. and a potential dollar collapse in these pages since Bill and Addison started these reckonings from Paris in 1999.

Since then, there have been smaller crises along the way that we’ve called correctly beforehand. The tech bubble and the ’08 crisis are just two examples. But the “big one” still hasn’t struck yet.

So far, the government and Fed have successfully backstopped markets during crises. The dollar, for all its faults, is stronger today than many might’ve imagined.

What’s going on in your opinion?

Chuck Butler: You know, since last year leading up to January and so on that currencies have been traded as though the dollar’s the cleanest shirt in the dirty laundry.

But the only reason that it was treated that way was because there was all this talk that the U.S. economy was going to rebound and that it’s still going to rebound.

In the third quarter of 2014 GDP numbers looked really strong and analysts thought that could carry on for a few more quarters. At that point we’d really have something going on.

But then in the fourth quarter of 2014 you saw the big drop. Then, in the first quarter of this year, we saw another big drop.

The second quarter is already being looked at as maybe even being a negative quarter. So, it’s just not true that the U.S. economy’s going to rebound. To that point, I just don’t see how the Federal Reserve can raise interest rates in this kind of environment.

And so that takes away a lot of the shine from the dollar.

Peter Coyne: Are you expecting a recession? I’d say we are already in a recession — but I mean a recession as it is technically defined.

Chuck Butler: Well as it’s defined, yes I am. But anecdotally I think that we never really left the recession that we were in from 2009.

We’re six years removed from when they said we got out of the last recession and we’re still looking at factory orders and durable goods orders and retail sales that are bad.

The data just keeps coming in weaker and weaker. And that’s after six years of quantitative easing and stimulus.

Remember Cash for Clunkers and tax rebates? Those programs are so reminiscent of the responses that Japan used that it scares me.

Peter Coyne: Right.

You know, Chuck, I read a headline this morning — I forgot the exact wording at the moment, but it basically said, that the dollar is starting to give back some of its gains as people begin to doubt the health of the U.S. economy.

Like we were just talking about, it seems pretty clear to anybody looking around that all has not been well in the U.S. Yet people buy into this narrative that the Fed pedals — that there are green shoots in the economy.

Why do you think so many people buy into false narratives?

Chuck Butler: Well, I think you know [laughs] Paul Simon had a great line, “A man hears what he wants to hear and disregards the rest.” That’s what I think is going on.

You have so many people in the U.S. that think that the economy is as it used to be. The U.S. used to be the economic engine of the world. No matter what problems we had we were going to be strong enough as a country to work them out.

So, if somebody says to people, “Well you know we may be in a slow period right here but I see green shoots and the economy’s going to be better in the future,” they’ll believe it and they’ll go along with it until that same person tells them otherwise.

I think that’s really where we are. It’s not even just the people in this country — it’s people around the world that still believe that no matter what problems the U.S. gets into they’ll be able to work them out because they’re the U.S.

I used to believe that myself. It took me a really long time to believe that the debt, the unfunded liabilities, all the problems we’ve caused around the world and people disliking us abroad was going to come back and haunt us.

Then, I started digging into that and figured out and it’s just not a good system we have going on. But there are still people out there that believe that we’re going to turn this around.

Peter Coyne: I talk frequently with economist Richard Duncan and feature our conversations in the DR, too. I don’t know if you’ve familiar with his work, but one of his points is that U.S. debt accumulation not only needs to continue, in his opinion, but that it can continue for a really long time.

If you take Japan as an example, maybe the U.S. could take debt to GDP 250% or more. That would give the U.S. another $18 trillion, give or take, in headroom. If that’s the case, we’re nowhere near the end.

Would you buy into that narrative, or would you say that we’re nearer to the end of the road?

Chuck Butler: I agree somewhat with what Richard says, and I have read his work. I’ve got two of his books. The first one was my favorite. It was called The Dollar Crisis.

There was a lot of good information in there that he had given to people to read about when the dollar was first starting to get weak back in 2002. But you know I think debt accumulation can go on for a long period of time, but there’s an end and I think we’re probably more past the halfway mark of being closer to the end.

I don’t know that it can go on for another 20 years. In fact it may only go on for another four or five years, because China has become such a huge player in the world’s economies and what decisions are being made. I see them basically taking over.

Peter Coyne: That’s a good segue, because in the Dollar Crisis, Richard explained how expanding credit in the U.S. blows bubbles abroad in countries we run large trade deficits with. Then, that money boomerangs right back to the U.S. and blows a bubble here as trade surplus countries invest their dollar reserves in treasuries or other conservative dollar denominated assets.

That was the dynamic in Japan in the 80’s, obviously. It seems to have been the case with China in recent decades, too, as we’ve ran a large and prolonged trade deficit with them.

Now, as China tries to transition from exports to domestic consumption do you think they’ll be able to navigate a “soft landing”?

Chuck Butler: Yes I do. To me it’s all very simple. I’m sure that you know economists could give you 100 reasons why China will land softly and another one could give you 100 reasons why not.

But I simply look at what I call their “treasure chest of reserves” — nearly $4 trillion. It’s mostly dollar-denominated assets. I also look at the huge, huge pot of gold they have.

It’s a communist country, I understand that. I don’t ever want to have people think that I’m glorifying a communist country. But what they’ve been able to do over the years is move to a position of power and strength in that they have a huge treasure chest of reserves.

When they have a slowdown in their economy they can just point to that and apply stimulus to get their economy going again. It wouldn’t cause major problems in the country because they wouldn’t increase the debt; they wouldn’t rob Peter to pay Paul.

They would basically take from their reserves and fix the problem. That’s one of the good things that they can do because of their political system. Though, even the U.S. could do that, if, in fact, we weren’t running an $18 trillion deficit.

Anyway, that’s why I think that they’ll be able to have a slow landing, transition their economy, and be even better prepared to float their currency by the end of this year, back it with some sort of percentage of gold and make it the most attractive currency in the world.

Peter Coyne: A lot of people are talking about the IMF’s upcoming vote on whether the Yuan should be part of the currency basket used to determine the value of its money, the Special Drawing Right or SDR.

What kind of move in the Yuan do you suspect to see if that happens?

Chuck Butler: Well I don’t know that I can predict a specific move, like 1% or 25%. I just look at it from the point of view that if, in fact, the renminbi is included into the SDRs, then you’ll have countries all over the world that have to buy a portion of the Chinese currency.

I call it the renminbi; you call it the Yuan. It’s one and the same; like the dollar and the buck; it’s the slang name. In any case, the renminbi would have to be purchased by many countries to make up a proper allocation of SDRs.

Then those same countries will either have to reallocate their holdings of Euros, yen, dollars and pounds that make up the SDRs or they’re going to have to just add more renminbi.

In the latter case, that’s a lot of renminbi that’s being bought. That’s going to have to drive the price of the currency higher.

The other thing is that – and I’ve read this in several different places and tend to think it’s true — the IMF is going to require the Chinese to float the renminbi before they make it eligible for the SDR.

Having the renminbi pegged to the other currencies currently in the SDR basket defeats the purpose of having the renminbi in the SDR. It really needs to be floating when they add it.

If the renminbi begins to float freely and it’s being bought, its price will be driven higher.

The other thing I just mention was the possibility of some sort of gold backing to the currency. What that would do for the currency?

In all the years that I’ve been dealing in currencies, anytime a currency has an attraction of, let’s say, higher interest rates without high inflation, good growth potential or good growth already on the books and a good open market, that’s a reason to buy that currency.

Those are good fundamental reasons. And having gold backing to your currency is a very good fundamental reason, because if you have a gold backing to your currency, then it has value.

You know it has intrinsic value that all the other fiat currencies don’t have. So either way, gold backing or being a part of the SDR, I see that as a very good thing for the renminbi. Something currency investors should consider.

Peter Coyne: Interesting. On the flip side, what’s your outlook on gold — as the Fed doesn’t raise interest rates and as the IMF approaches this vote?

Chuck Butler: Well I think the whole thing bodes well for gold. There are just many outside influences on the price of gold right now that drives me absolutely batty almost every day.

There is a difference in the way people look at gold. There is an eastern point of view and a western point of view. In the east they look at gold as a store of value, so they buy it, hold it and they don’t look to sell it.

In the west everybody looks at gold as just a commodity that you can buy and sell and you know when you get the urge to sell you just go in and sell it.

Until the west changes their point of view as to whether gold really is a store of value, gold will always be treated like a commodity here.

It’s in the east that I think things are going to change — specifically with the new Shanghai Gold Exchange. The SGE, or the Shanghai Gold Exchange, is going to start fixing a price of gold in renminbi before the end of this year.

That’s going to start changing the landscape for gold trading. I think that China, because of all their gold holdings, are going to start changing the landscape or gold trading because to be a part of the IMF’s SDRs, I think China is going to have to come forward and show the IMF the amount of gold that they have.

I think the amount is somewhere between 10,000-14,000 tons of gold. If that’s true then that turns the light bulb on over people’s heads that China has been buying all this gold and someone’s keeping the price down artificially. Something has to change there.

It also opens up the rest of the world’s eyes that China is a player because they’ll have more gold than the U.S. says they have.

Peter Coyne: Right. Jim Rickards, who I work with closely, recently wrote about this. On the one hand, he compares having a large pile of gold to sitting at the poker table with a large pile of chips. The more chips you have the longer you’ll be in the game and the more say you have.

On the other hand, he points out that though the first rule of joining the IMF’s club is to have gold, the second rule is not to talk about it.

I wonder if you agree with that or if you think China’s total gold holdings will be publicly disclosed.

Chuck Butler: I think they will be. They may come forth with their total holdings. They may just come forth with enough to make it look as though their currency and their status is very stable.

That’s why they would do this so that the IMF doesn’t look at them as just some communist country that has had huge growth numbers for the last 15 years but still could slip back down and be a third world country in a heartbeat.

Having all this gold shows the IMF that China’s a stable country. So, maybe they won’t show exactly how much gold they have, but I do think they’re going to show a major portion of what they have just to show everyone just how stable they are.

Peter Coyne: Both items we just touched on — the Yuan possibly de-pegging and China revealing a portion or all of its increased gold holdings — seem like pretty big shocks. Would you agree that they are shocks, and if so, what kind of market reaction do you think they’ll cause?

Chuck Butler: Well, I think they’re going to be a shock to the market, but I think it’s going to be confined more to the currency and the metals markets.

The dollar’s going to suffer and that eventually hurts the purchasing power of U.S. investors. But U.S. investors are different in the way that they look at things. Most of them, even between, say, 2003-2011, when we had a few years off for dollar strength and it was losing huge chunks of value against other currencies, never realized it.

Now they may say, “Well, when I go to Wal-Mart things cost more, but you know that’s just how things are.”

They don’t realize that that’s a loss of purchasing power. I always look at a loss of purchasing power like a tax; it’s an additional tax on you. If the dollar is losing value, you’re getting taxed more because you actually can’t buy as much as you used to before.

Most of the stuff we buy here in the U.S. is made overseas. So both announcements could be a major shock to a lot of people.

But whether they notice it or not will be interesting. When the dollar was losing ground between 2003-2011, you did see a couple celebrities make note of the fact that they were using euros. And you had the Taj Mahal decide they weren’t going to accept dollars as entrance fees anymore.

But for the most part you really didn’t see the nightly news talking about the value of the dollar losing ground. And you didn’t see it as front-page news every day.

It really wasn’t something on the minds of people here in the U.S., except for people that read you know my newsletter and yours. [Laughs]

Peter Coyne: Good point. If we could pivot, now, I’d like to get your perspective on emerging markets more broadly. We were talking earlier about how the U.S. used to be engine of world growth, and now it’s not. Today, there it seems the so-called “future economies” are picking up the slack. Can you talk about your outlook for these markets?

Chuck Butler: At EverBank, we’ve been proponents of the emerging markets for a long time. When we look at the growth rates around the world and put the emerging markets together, you basically see that they have provided a very large portion of the GDP every year you know for the last 10 or 15 years.

We don’t see that changing. Everyone thought that the end of quantitative easing here in the U.S. was going to collapse the emerging markets. What happened instead was Japan picked the slack and started doing more quantitative easing. Then Europe decided to start doing quantitative easing.

So, the emerging markets are moving along just fine, and they’re growing just like they have been before. That’s our point of view — that they’re going to continue to grow and be providers of a lot of things to the rest of the world as we go forward.

We like to look at them as a group because that’s really how the markets trade them. It’s really scary sometimes. When you look at the emerging markets, all of them could be doing just fine. But let’s say Turkey comes out and announces that they’re going to devalue their currency by, say, 10%, well, that will ruin the day for the rest of the emerging markets because they all get traded in a heap.

That’s why, since they get traded in a heap, we decided to put them together in a MarketSafe CD. This way they’re protected against losses. But the upside is there for the taking.

Peter Coyne: Can you explain that in more detail for our reader? What’s a MarketSafe CD and what is this particular one you’re referring to?

Chuck Butler: Sure. I’m referring to the Future Economies MarketSafe CD.

It’s a five-year U.S. dollar CD that has a semiannual pricing based on an index. It doesn’t pay interest. What happens is that every six months we stop and take the prices of all the currencies in the CD — which include the Brazilian real; the Chinese renminbi, the Indian rupee, the Indonesian rupiah, the Mexican peso and the Turkish lira — and we record them.

At the end of the CD we add up all those six-month prices and if the average price over that period of time is greater than the initial price, that increase is yours. And if it’s below the original price, you get your all of your principal back.

And it has an added kicker to it. It has what’s called a jump-note feature. All that means is that if the currencies only manage to gain, let’s say, 0.2% or even 0.1%, or anything above zero, then you automatically get a 10% return on your principal at maturity.

But if it’s above 10%, if the actual return is above 10%, then you get whatever it is. So let’s say those the average price over the five years is a return of 20%, then that’s your return. But if it’s 9%, you get 10% instead.

There are a few more details. The minimum funding amount is only $1,500. And of course EverBank is a Member FDIC.

Keep in mind; you cannot withdraw this money during the five years, so it has to be money that you’re not going to have any use for. The only way you can withdraw it is if you die, and nobody wants to see that anyway.

The MarketSafe CDs are also IRA eligible, so you can put them in your IRA. There’s also a deadline to get in on our newest Future Economies MarketSafe CD. The funding period ends on June 11 — the day before my 39th anniversary.

Peter Coyne: Congrats!

Chuck Butler: My poor wife…

[Laughter]

Peter Coyne: If I can follow up with a question that may be on our reader’s mind…

In previous reckonings, some of our contributors have warned about the potential dangers of dollar-denominated debt in emerging market countries. In your opinion, does dollar-denominated debt in a strong dollar world, make the Future Economies MarketSafe CD a bad investment?

Chuck Butler: Well you know I just read something the other day that addresses that. According to Jens Nordvig’s team at Nomura, with overall debt levels fairly low, the problem for the major EMs is not one of national creditworthiness. He says, and I quote:

“A major mitigating factor is the fairly low overall level of EM dollar debt, especially relative to foreign exchange reserves. EM sovereign debt, as distinct from corporate debt, has been significantly reduced in recent years, and large reserve cushions have been built up.

“Although EM external debt is back to mid-1990 levels, it has declined as a share of GDP, and EMs are less exposed to currency mismatch risks than they were in the 1990s. Economists at Morgan Stanley studied the accounts of 762 firms across Asia and found that on average, whereas 22% of their debt was dollar denominated, so was 21% of their earnings — despite Asian firms’ foreign-currency debts rising from $700 billion to $2.1 trillion between 2008-2014.”

So, as I view it, emerging market debt levels have kept in line with GDP growth, and therefore I’m not concerned at this point. I believe our faith in the Emerging Markets is justified.

In addition, I would think that the recent growth in emerging markets debt pretty much shine a light on the fact that these countries, for the most part, are showing healthy financial growth, rapid urbanization, and the building of infrastructure that’s highly needed…

Peter Coyne: Interesting, I appreciate you addressing that head on.

Well, we’ve covered a lot of ground. I think those are all the questions I have for you right now, Chuck.

I know we’ll be quoting you in the DR in the coming weeks and months. And we’ll be picking up your Daily Pfennigs on our website each morning.

I appreciate you taking time out of your day to speak with me.

Chuck Butler: It’s been a pleasure.

Peter Coyne: Again, it’s worth your time to check out the MarketSafe CD that Chuck mentioned. The only catch is that you’ll need to act quickly to take advantage of it.

Why the rush? After all, according to the mainstream media there’s nothing to worry about — the U.S. dollar is very strong right now.

But, as we’ve explained in these pages before, that’s only because, at the moment, other central banks are printing money at even faster speeds than the Federal Reserve. That can’t last forever. With signs of a slowdown, it could be only a matter of time before the Fed reverses their course and the dollar goes into a steep decline.

The only real question is whether we’re in for a slow, steady fall or a sudden collapse.

But you can be prepared either way thanks to Chuck and his colleagues at EverBank. With their MarketSafe® Future Economies CD you get exposure to six emerging market currencies — the Brazilian real, the Chinese renminbi, the Indian rupee, the Indonesian rupiah, the Mexican peso and the Turkish lira.

All six are could benefit from a falling U.S. dollar. And as Chuck explained, if the CD matures with just a .01% profit — EverBank will pay you 10% on your initial investment at maturity. And if the final value exceeds 10%, you’ll get the higher amount.

So that’s a potential minimum gain of 10%… and after that the sky’s the limit.

Please take a closer look at the fact sheet they’ve created for you. You’ll learn everything you need to know, including some examples of how you could see profits. You need to hurry, though — as Chuck mentioned, the funding deadline is June 11.

Click here for more info and important disclosures.

Otherwise, as Chuck likes to say, hope you have a “Tub Thumpin’ Thursday!”

Regards,

Peter Coyne
for TheDaily Reckoning

P.S. For sake of full disclosure, we have a marketing relationship with EverBank, but we’d work with them regardless.

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