So spoke a City friend of mine on Friday. He’d just that day discovered his department was being shut down. It meant we had to cut short our planned reunion — he had calls to make. He had to get his game head on, massage his contacts elsewhere in the business... see if someone would give him a job in their department. He needed somewhere to shelter from the storm.
It seems the whole of finance is seeking shelter. From big institutions to private investors, everyone’s looking for a hole to hide in. How long will we have to hide for? Six months? Two years? The rest of our lives?
Optimists might say that now the US bail-out seems to be going ahead, maybe the worst is over. They’re deluding themselves. We will feel the effects of this crisis for years. In a moment I’ll explain why — and examine what options it leaves for investors.
First, let’s have a quick listen to the noise coming from our radio — which over the weekend has been tuned to Bail-out FM:
- The British government is nationalising Bradford and Bingley. B&B’s £21 billion deposit book will be sold to Santander for £600 million. The state is left holding the mortgage book
- Belgium, Luxembourg and the Netherlands have clubbed together to save Fortis. Fortis will have to sell its stake in ABN Amro (what a waste of time that whole thing turned out to be)
- And, of course, there’s the big one. Hank "the Hammer" Paulson’s $700 billion sponge to soak up "troubled assets". This morning’s headline’s suggest a breakthrough — a compromise deal looks likely to be passed by Congress
As colleague Andrew Vaughan points out, this bail-out is not sufficient to get finance on its feet again. That will require recapitalisation — i.e. investors putting their money into banks. If these banks are, at some unspecified future date, going to be saddled paying for this mess after all, where’s the incentive to invest in them?
The other problem is that it is still unclear how the Troubled Asset Relief Programme (TARP) will value dodgy securities. Paulson’s TARP may provide a little relief — but it’ll be temporary.
I’ll explain why. Bear with me a second while I pick up the little plastic hammer and break open the glass case marked Economic Theories.
You see, I’ve been thinking a lot lately about something called the Life Cycle Consumption model. An economics text book can (and does) make this model seem extremely complicated. But the concept is very simple.
In essence, the Life Cycle theory suggests that we based our decision on how much to spend not just on what we earn now, but also on what we expect to earn in the future. In this way, we smooth out our consumption over the course of our lives — borrowing while young and paying it back when we’re older.
So, a young man may take out a loan to pay for university. Then, a few years after graduation, he gets a mortgage and buys a house. By the time he’s middle-aged, this man’s income is considerably greater than it was. But his consumption has not risen quite so much. He’s paying back what he owes, saving for retirement, or both.
I’ve been thinking about this model because it helps explain what’s going on with all these bail-outs. You see, for many years the entire western world was like the young man above. Encouraged by cheap credit, we borrowed beyond our means. But it was OK — because we’d make enough to pay it back. House prices and share prices would rise. The economy would keep growing... by borrowing, we could enjoy the fruits of tomorrow’s labours today. We could, in short, smooth our consumption.
Or so we thought. But it hasn’t turned out that way. For one thing, recession looms. Our economies will not create as much wealth as we were all hoping for. And what wealth is created will have to be taxed more heavily, putting a drag on the economy.
Far from smoothing our consumption, we will, in fact, have to pay for past spending, via the mechanism of taxpayer-funded bail-outs. In the US, in Britain and in Europe, public balance sheets are getting hammered. Deficits are growing. This is going to cost us for years to come.
Meanwhile, the financial sector itself has to shrink — or deleverage, to use the jargon. As such, it won’t be contributing much — indeed, the profits it did "contribute" in years gone by have turned out to be phony. It was the banks that benefited most from the West’s inclination to borrow against a future time period. Now that time period has arrived the banks, like everyone else, are running for cover. They’re looking for a hole to hide in.
So where’s your hole? Where can you hide as this storm rips through Finance?
For me, the answer comes in three words — non stock assets. An example is gold. I popped into a gold coin dealer’s on Saturday and had an interesting conversation with the chap there. I hope to have a report available on how best to invest in gold very soon.
Government bonds are another asset viewed as a safe haven. In the short run, expect to see continued flight to these assets.
We already have one bond-based non stock asset in The Fleet Street Letter portfolio (read this report for more information on why we’ve chosen this investment) We’re looking to add another — Theo Casey, our investment director, and I attended a very promising presentation on Friday (more on that in future editions...).
Much like my City friend, we all have to find a hole to hide in. But they do exist. And, here at Fleet Street, we’ll keep on finding them...
Britain’s Energy Crunch Has Begun
By Garry White
In 1974 I was three years old.
One of my first memories involves a candle. I was fascinated by the light as it was reflected around the room. Everywhere else was dark and the light seemed to dance in magical ways. It was very exciting and fun.
But the truth is that power shortages are only fun if you are a child.
The prospect of power cuts this winter is actually quite frightening — especially for the elderly.
National Grid has warned that significant blackouts could return this winter after a 34-year hiatus. It’s all down to repairs at aging nuclear reactors and pollution rules that limit coal burning.
Britain’s energy crunch has begun.
[Read Garry’s article in full here — and find out how you can invest in a company that offers a unique solution to the upcoming energy crunch.]
Until tomorrow
Ben Traynor
Editor
Fleet Street Daily
Selected article:
Garry White on what to do now that Britain’s energy crunch has begun.
The Daily Reckoning — Mr Market’s big surprise.
Everything is happening just as it should — alas!
Now the Europeans are getting into the act — albeit only in a minor, supporting role. Fortis — a huge Belgian/Dutch financial company — is going bust, says today’s paper. And public officials of at least three countries are trying to rescue it. According to the Financial Times, the firm is likely to be nationalized by Luxembourg, Belgium and the Netherlands all at once.
This will be a first — a company taken over by politicians who speak at least three different languages. We’d call it an "internationalization." Meanwhile, over on this foggy island, the government is preparing to nationalize another major bank — Bradford and Bingley. Nervous savers are taking their money out of B&B, leaving the firm dangerously short of cash, says the FT.
You can read the Daily Reckoning in full here.
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