The Big Loser

In 2004, the U.S. dollar appreciated by 85% against the Zimbabwean Dollar. It was an anomaly…virtually every other world currency got stronger. Which was the best performing currency in 2004? Here’s a breakdown…

At this year’s Barron’s roundtable panel discussion, I mentioned the following example from Swiss real estate in order to make a point about the diminishing purchasing power of money…

A house in the prestigious Suvretta area of St. Moritz, which had changed hands in the early 1970s for less than 1 million Swiss Francs, had recently fetched 25 million Swiss Francs. Immediately, one of the smarter participants in the discussion took out a calculator and, after doing some math, informed me that this amounted to a compound annual rate of return of "only 7%".

Besides the fact that a 7% compound annual return on any asset is a very high return (or rate of inflation for that particular asset), my fellow participant also overlooked the fact that this 7% annual return was in Swiss Francs and not in U.S. dollars.

Since the Swiss Franc has more than doubled against the U.S. dollar since the early 1970s, in dollar terms the rate of inflation of the value of the property would obviously have been much higher.

Moreover, the return would also have been boosted had the owner let out his property instead of using it for himself. But these are minor points. The significant point that I wished to make was that, for exactly the same house, one would have to pay today more than 25 times what the property would have sold for in the 1970s.

To anyone with any common sense, this indicates a serious loss of purchasing power of money.

The Decline in Purchasing Power: Asset Classes Keep Rising

A year ago, I explained that 2003 had been an unusual year in the sense that all asset classes – including bonds, equities, commodities, real estate, and art – had risen in value, and that 2004 would see the emergence of some diverging trends among these various classes.

Well, I was wrong! In 2004, all asset classes continued to increase in value – with the exception of the U.S. dollar, which depreciated further against stronger major currencies such as the Euro, the Swiss Franc, and the Yen.

The U.S. dollar lost even more in value against some of the more exotic currencies, such as the Polish Zloty (+23.9%) and the South African Rand (+18.1%).

For the record, in 2004, the other best-performing currencies against the U.S. dollar were: Colombian Peso (+18.1%), Hungarian Florint (+15.7%), Iceland’s Krona (+15.6%), South Korean Won (+15.6%), Czech Koruna (+14.9%), Slovakian Koruna (+14.8%), and Romanian Leu (+11.3%), while the Swiss Franc appreciated by 9.10% and the Euro by 8.02%.

In 2004, U.S. dollar holders may, however, have found solace in the fact that against the Zimbabwean dollar, the Greenback appreciated by 85%, and is up by 99% since 2000.

I have mentioned these currency movements for several reasons. For one, in Euro terms the Dow Jones declined last year by 4.5% and the S&P 500 was up by just 0.9%. (By comparison, German bunds were up by 10% in Euros and 19% in U.S. dollar terms.) So, when pundits forecast an S&P 500 level of 1,350 or higher by the end of 2005, they should also specify at which level of exchange rates the U.S. dollar will find itself. After all, in an inflationary environment (asset inflation), domestic prices can be boosted by an expansionary monetary policy, but at the corresponding expense of a weakening exchange rate.

Alternatively, U.S. monetary conditions could tighten and reduce or eliminate the rampant asset inflation, at the same time boosting the value of the dollar.

The Decline in Purchasing Power: The Overvalued Euro

For now, it is important to realize that the strong appreciation of the Euro and other European currencies over the last two and a half years has led to a very significant overvaluation of the Euro against the Asian currencies, which, since the beginning of 2000, with the exception of the Korean Won (up since then by 8%), have hardly moved against the U.S. dollar.

So, whereas since January 2000 the Swiss Franc, the Euro, and the Pound Sterling have risen by 35%, 29%, and 14%, respectively, against the U.S. dollar, over the same period the Japanese Yen is up by just 3% and the Singapore dollar by 2.5%, and the Taiwan dollar is down by 3%. The Euro has performed strongly against the Japanese Yen and the Singapore dollar, which has led to a relatively low valuation of Asian assets expressed in Euro terms despite their appreciation in U.S. dollar terms. The Singapore stock market has almost recovered in U.S. dollar terms to its year-end 1999 level, whereas in Euro terms it is still significantly below that level.

I mentioned above that in both 2003 and 2004 all asset classes rose in value. Therefore, when I look around the world I find very few bargains among bonds, equities, properties, and industrial commodities. Yet, largely due to currency movements, relative values seem to exist in Asia where asset values (equities and real estate) appear to be inexpensive compared to the rest of the world. So, stock market bulls are once again advised to increase their weightings in Asia, including Japan, where it is common in most countries for dividend yields on individual stocks to exceed domestic bond yields.

However, since all asset prices have risen strongly over the last two years, two possibilities should be considered. In the long term it is, of course, inconceivable that commodities, real estate, and bond prices will all rally at
the same time. Rising commodity and real estate prices do lead, at some point, to inflation in consumer prices and so to more obvious inflation (for economic luminaries – such as Fed members – who define inflation only as an increase in the Consumer Price Index).

Rising interest rates follow, which then depress bond prices. Therefore, what I expected to occur in 2004 – namely, the emergence of some diverging trends – is likely to shape the financial landscape in 2005. If U.S. monetary policies were to remain loose, a further weakening of the U.S. dollar, rising CPI inflation, and rising long-term interest rates would almost certainly follow.

The question in this expansionary monetary policy scenario is to what extent asset prices could continue to appreciate if inflation and a weak dollar were to drive 10-year U.S. Treasuries’ interest rates to between 5% and 6%? In a society addicted to debt, and where asset prices have been badly inflated, even a small increase in interest rates could have serious implications for all asset prices!


Marc Faber
for The Daily Reckoning

February 09, 2005 — London, England

Dr. Marc Faber is the editor of The Gloom, Boom and Doom Report and author of Tomorrow’s Gold, one of the best investment books on the market.

Headquartered in Hong Kong for 20 years and now based in northern Thailand, Dr. Faber has long specialized in Asian markets and advised major clients seeking bargains with hidden value, unknown to the average investing public.

Dr. Faber is a regular contributor to Strategic Investment.

We woke up this morning thinking about Hitler’s cook.

She must have noticed that the Reich was falling apart. She must have realized that all that was dear to her might be lost – her family, her home, her own liberty. Was she never tempted to put a little strychnine in the Fuhrer’s soup?

Hitler had promised Germans more ‘liebensraum’ – more room to live. But now, as in every public spectacle, they were going to end up with the exact opposite. The Russians were closing in from the East. The Allies from the West. Germany was sure to be shrunk in the aftermath…or maybe disappear all together.

Did she never wonder…did she never think…did she never come to a dead stop at her oven and realize that the whole thing was a contemptible sham?

No, probably not.

Public Spectacles – whether in politics, markets, or war – have to run their course. Early success encourages even more extravagant ambitions. The best you can hope for is complete, unequivocal failure right at the get-go.

Fortunately, economic bubbles are rarely lethal. They are merely comic. (A word of warning however: masses of people – particularly the lower middle class, for some reason – seem ready for mayhem with little provocation. Germany’s hyperinflation of the late ’20s is widely thought to have set the stage for Hitler’s murderous big show.)

The Grand Comedy continued yesterday as analysts pored over G.W. Bush’s new budget proposals.

"Bush’s sham budget" began an editorial in the International Herald Tribune. Another editorialist, Paul Krugman, claims that Bush is trying to "undermine the legacy of Franklin D. Roosevelt." The budget is undoubtedly a sham. George W. Bush is the only president since Garfield, in 1881, who has not vetoed a single spending
proposal. Garfield can be forgiven; he was dead for three and a half years of his term. But Bush? ‘No boondoggle left behind,’ is the administration’s unofficial motto.

Besides, FDR was one of the primary architects of America’s vast public spectacle. He led people to believe that they could get something for nothing. The first social security recipients, for example, paid in almost nothing – and received benefits for as long as they lived. Voters came to believe that they could use the ballot box to get what they didn’t deserve – health care they hadn’t paid for…and a retirement they hadn’t earned (not to mention the benefits of thousands of malignant programs such as farm subsidies and rural electrification – some minor examples of which G.W. Bush says he means to eliminate.)

FDR, too, was a world improver. Every world improver begins with deceit. FDR was a master at it.

So, Mr. Krugman, you can stop worrying. Bush has come to Washington not to bury the New Deal, but to praise it. We cannot predict the future, of course, but we have no reason to think that he will not betray conservatives in his second term, just as he did in his first. The Public Spectacle must run its course.

The dollar rose on news that Bush intended to ‘cut the deficit in half.’ But now that analysts are checking the budget more carefully, we doubt that many will be

Bonds rose yesterday. Gold sank. Gold, at $414, looks like a bargain to us…

In the meantime, here’s more news, from our team at The Rude Awakening:


Eric Fry, high up above New York, but still with a view of the NYSE…

"…Hubbert predicted in 1956 that U.S. oil production would peak in the 1970s. Most of his contemporaries scoffed at the notion. But his prediction turned out to be surprisingly accurate. U.S. production did indeed peak in 1970…"


Bill Bonner, back in Paris with still more views:

*** How can you make some money as this Public Spectacle continues? Michael O’Higgins, courtesy of Marc Faber, tells us neither gold nor bonds look attractive…and most stocks are too expensive.

"This is why we are concentrating on the ‘Dow Dogs’, the highest dividend-yielding stocks in the Dow, which are extremely cheap compared to the other DJIA components. Indicative of their cheapness is that – while the DJIA sells at 18 times earnings, sports a dividend yield of only 2.2% and is currently only 9% below its 2000 peak – the five lowest-price ‘Dogs’ are selling at 15 times earnings, have average dividend yields of 3.7% and are going for roughly half of their 2000 highs.

"Historically, this strategy has produced an average annual return almost 60% above that of the major averages and with much greater consistency – that is, only four losing years since 1972 versus eight for the Dow. When applied together with the strategy of only buying ‘Dogs’ when the earnings yield of the DJIA and the S&P is higher than the yield available on 10-year AAA corporates, the resulting return is almost double that of the DJIA and the S&P 500."

What are the most loveable pooches on the Dow today? O’Higgins names five: GE, JPMorgan Chase, Merck, Pfizer, and SBC Communications.

*** James Boric and Dan Denning seem to be having a "proper punch up," as the English say…

It started as a debate in Orlando. Macro investing versus micro investing was the subject. We take no sides in the dispute. Creative destruction takes both creation and destruction. Small businesses can create wealth…but only after the misallocations of capital in the bubble phase are reckoned up.

We’re all for a good punch up though, as long as it’s not our nose getting broken…

[Ed. Note: Watch out for James Boric’s retort to Dan Denning in tomorrow’s edition of the Daily Reckoning…it’ll be the guest essay, titled, ‘The Specialization Of Insects.’]

*** "At long last," begins the latest letter from Stephen Roach, "Federal Reserve Chairman Alan Greenspan has owned up to the central role he has played in sparking unprecedented global imbalances."

Greenspan’s confession came in the form of a speech, innocuously entitled ‘Current Account,’ that was given in London at the Advancing Enterprise 2005 Conference on the eve of the 5 February G-7 meeting. In the narrow world of econo-speak, his prepared text contains the functional equivalent of a "smoking gun." More tomorrow…

*** "Jules, don’t forget that you’ve got to come out to Normandy with me on Saturday," began yesterday’s conversation with home. "We’ve got to strip off a lot of wallpaper and paint the walls so we will have a place to stay when we go out there."



"Dad, I’m just not looking forward to this…I wanted to spend time with my friends."

"Well, why don’t you ask a couple of your big, strapping friends to come with us and give us a hand. I’ll pay them…how about 5 euros per hour?"

"That’s not even minimum wage. And besides, my friends don’t have to work on weekends. Their parents give them money."

"Why don’t they work…?"

"Because they’re all spoiled rich kids…just what I’d like to be…"

The Daily Reckoning