The Daily Reckoning February 1st


Invest… Not Invade

“Looking back through history,” says Neil George, “China is one of the countries that’s never invaded anybody.

“In fact, China’s been a very defensive country. The Great Wall was built to keep the Mongol warriors and others out. The idea that after 5,000 years of history, China’s all of a sudden going to start grabbing land with guns — it’s just not part of the business model of the country’s management.”


The model, instead, is commerce: “Rather than invading around the world,” says Neil, “China invests. In the process, it has been reaping the commercial rewards. Investing and building in developing markets around the globe is bringing new customers to the manufacturers and service providers of China.”

Neil is the newest member of the team at Agora Financial, heading up our income desk. Not only is he a 25-year veteran of the financial industry, he’s done business inside China for 20 of those years. He’s helped Anheuser-Busch break into the Chinese market. He’s launched Chinese mutual funds. He’s consulted with financiers setting up the country’s first real estate investment trusts. He’s taught at the Shanghai University of Finance and Economics.

“I remember days when most of the guys I saw on the street were soldiers in green suits,” he recalls. “Now it’s businesspeople in blue suits.

“Everyone is so focused on building wealth, it’s infectious. As soon as you land and the airplane’s door opens, you get this incredible rush. And you can’t wait to get back once you leave. It’s as if there’s something in the air — an economic drug that makes you that much more driven!

“China will let people be as successful as they can,” he explains, “and will not interfere, and in most cases will facilitate getting projects done that would never get done in the United States or Europe. And they’ll get it done in time spans that are unfathomable to most major construction companies or firms that specialize in project management.”

Case in point: a maker of sophisticated electronics that partners with Samsung. “They did a project most people would say — if you could get the land, permits and everything else in the United States — would take five-10 years to get done. They got it done in under 12 months.”

It’s become fashionable to declare that China’s boom is a bubble, destined for catastrophic and perhaps irreversible failure. Neil will have none of it. “There are plenty of companies that have severe issues, but you can make that same statement about any market anywhere on the planet.”

For every tenet of the China-bashers’ playbook, Neil has a response:

  • Empty skyscrapers (and for that matter empty cities)? He’s seen them. “But I’ve also seen huge demand for educated workforces to fill those buildings. China is trying to develop nice places for people to live as they continue to move up.”
  • Skewed economic statistics? No more skewed than those in the US. And China’s are slowly becoming more reliable, judging by the discussions Neil has had with his students — some of whom work in China’s National Bureau of Statistics. “The quality of the numbers is improving as you get better-educated people in the agency.”
  • A slumping export trade? It’s no longer about what Westerners are buying from China. “Over the past year alone, exports to the United States and the EU aren’t impressive, but to the rest of Asia, exports are up more than 8.8%. Exports to Africa are up more than 9.3%. And exports to Latin America are surging by more than 12.1%.”

Neil’s No. 1 piece of advice to take advantage of the China story in your own portfolio: Avoid any broad-based play, like a mutual fund or ETF. “There are very few funds that have on-the-ground working knowledge, local analysts who are picking through the assets and doing the valuations right.”

The most lucrative Chinese plays aren’t publicly traded: They’re confined to private equity and venture capital. Sorry. Still, Neil says three Chinese blue chips are worth a look. All three have American depository receipts (ADRs) that trade on the New York Stock Exchange…

  • Seaspan Corp. (SSW): This shipper stands to gain big from trade with other emerging markets: “With intra-Asian cargo traffic expanding by more than 25%, Seaspan continues to cash in.” For the moment, it still trades below book value.
  • Cnooc Ltd. (CEO): one of China’s major oil firms. “Its performance over the challenging past five years is up more than 14% in price alone compared with US peer Exxon Mobil, with its loss of more than 2.62%.”
  • China Mobile (CHL): “This company owns and runs the backbone of the nation’s communications system. While not flashy, it is utilitarian. Its customers (I’m one of them when I’m there) get signals and data flow everywhere.”

And since income is Neil’s beat here at Agora Financial, we’re compelled to point out Seaspan pays a healthy yield of 5.1% and China Mobile’s no slacker at 3.9%. Cnooc has a way to go at 1.9%.

China, Neil says, has broken the mold in its transition to a market economy. Business success in the former Soviet bloc countries depends entirely on who you know. In contrast, “The vast majority of successful Chinese don’t try to take advantage of the system. They simply try to conduct their business and commerce despite the system.”

Much like a country you’re probably more familiar with…



Addison Wiggin,
for The Daily Reckoning

Invest… Not Invade appeared in the Daily Reckoning. Subscribe to The Daily Reckoning by visiting signup for an Agora Financial newsletter.

A Reliable Account of the Great Depression

For his U.S. economic history class at UNLV, Murray Rothbard gave us the assignment to write a 10-page paper. The paper could be on anything we wanted it to be. However, we had to clear the topic with him.

When I proposed writing about the Great Depression, Murray was thrilled and rattled off a number of sources. Near the top of his list was a book he described as “fantastic, except it has a terrible title.”

That book is this week’s Laissez Faire Club selection — Economics and the Public Welfare: A Financial and Economic History of the United States, 1914-1946 by Benjamin M. Anderson. As you can imagine, this is a book I have very fond memories of. My copy still has paper clips marking several pages. The text is underlined throughout.

Anderson was one of the first economists to provide a systematic account of the causes of the Great Depression. It remains the most reliable documentary guide to precisely what happened, before, during, and after. That is the essence of this book.


Anderson had feet both in academia and banking. He was on the faculty at Columbia and later at Harvard, and then joined National Bank of Commerce in 1918. Two years later, he moved to Chase National Bank to serve as economist and editor of the Chase Economic Bulletin.

He was also a world-class chess player and wrote what’s been described as a brilliant preface to Jose Capablanca’s book A Primer of Chess. Sadly, Anderson never saw Economics and the Public Welfare in print. He died of a heart attack just prior to its publication.

The years between the forming of the Federal Reserve and the end of World War II are some of the most interesting and formative years in U.S. economic history. Of course, the common narrative we constantly hear is the “monetarist” version parroted by Ben Bernanke that the central bank erred on the side of tightness and the money supply plunged, lengthening the Great Depression, and it was ultimately only fixed with a massive government works program known as WWII.

Instead, imagine having a correspondent on the ground keeping a rich, informed diary of the day-to-day, week-to-week, and year-to-year events as seen through the eyes of an Austrian economist, from the creation of the Federal Reserve through the Great Depression to Bretton Woods. That is what Economics and the Public Welfare is.

Anderson provides some theory along the way, but what this great book primarily does is chronicle monetary and economic events from the beginning of the Fed’s operation to after the war. Politics, stock prices, and banking and trade data, plus a fast-paced narrative combine to make the reader feel like he or she is there.

As you would expect a bank economist would, Anderson provides a blizzard of numbers to provide emphasis for his story.

For instance, Anderson provides the principal resource and liability items of the Federal Reserve during the war. Total resources ballooned from $637 million in 1915 to $5.2 billion in 1918. On the liabilities side, Federal Reserve notes in circulation exploded as well, from $165 million to $2.5 billion, as did member banks’ reserve deposits, which increased from $398 million to $1.7 billion.

As measured by percentage growth, this is greater balance sheet growth than the Bernanke Fed post ’08 crash. Seeing these astonishing numbers triggers a realization: The years from 2008-13 amount to our own World War I. One hundred years ago, this sort of thing led to the post-boom crash of 1920 and unleashed the distortions of the roaring ’20s that led to the second major crash of 1929.

Back in these days, the banking system also found itself flush with reserves. With bank reserves held at the Fed and not being lent out, the money market tightened and rates increased, despite bank credit expanding. After dropping to 1% in 1915, the bank call rate rose sharply to 7% in 1917. Bond yields also went up. “The pressure of firm money rates undoubtedly did a great deal to retard bank expansion and to hold it down to necessary things,” Anderson wrote.

Of course, in similar fashion, bank reserves are also piling up at today’s Fed, and money is, indeed, tight for the average person. Even so, the Fed of those days was not nearly as reckless as ours is today. The Bernanke Fed works overtime to keep money tight but rates uber-low in aid of the government, big banks, and speculators on Wall Street.

If you haven’t ever heard of Benjamin Anderson and wonder about his hard money, anti-Keynesian bona fides (after all, he did work for a bank), this quote from Chapter 1 gives you an idea:


“The very inelasticity of our prewar (World War I) system made it safer than the extreme ductility of mismanaged credit under the Federal Reserve System in the period since early 1924. The whole world was, moreover, far safer financially when each of the main countries stood on its own feet and carried its own gold.”

More than once, the reader will stumble upon a sentence that will make him smile. What’s old is new again. We’ve taken note that Iowa farmland is looking bubblelike in 2012 and 2013. Sure enough, in his chapter on the 1920-21 crisis (what, you’ve never heard of that one?), Anderson offers a small section “Land Speculation — Iowa.”

In a footnote, the author remembers what an Iowa City banker told him. “I know that you economists say that land is only worth what it will produce, but it does look like some of this land around here is worth a thousand dollars an acre.”

Plugging that $1,000 into the inflation calculator turns up a number of $11,100 per acre in 2011. It’s almost eerie that the average price of land in O’Brien County, Iowa, last year was $12,862 per acre, a 35% increase over the 2011 average.

Not so famously, the government didn’t intervene in those unenlightened dark ages. Wages and wholesale price levels crashed. The result, says Anderson: “In 1920-21, we took our losses, we readjusted our financial structure, we endured our depression, and in August 1921, we started up again. By the spring of 1923, we had reached new highs in industrial production and we had labor shortages in many lines.”

The chapter I have bookmarked with the most passages highlighted is “Digression on Keynes.” For nearly 20 pages, Anderson takes on Lord Keynes, whom he describes as “a dangerously unsound thinker.” Anderson points out that Keynes heavily influenced Roosevelt and all economists who worked for the government. In The General Theory, Keynes targets a passage from J.S. Mill out of context to challenge the idea that aggregate supply and aggregate demand grow together.

The author points out that Keynes and his followers think in aggregates. He provides an aggregate supply function and an aggregate demand function. While human action is economics, there is no discussion of interrelationships. “Nowhere is there a recognition that different elements in the aggregate supply give rise to demand for other elements in the aggregate supply.”

Our governments, corporations, and individuals pile up debt seemingly with impunity. The ideas of balanced budgets and living within our means are thought to be quaint. Modern Keynesians like Paul Krugman pooh-pooh the notion of balanced budgets and fiscal restraint. Where could he get such a notion? Anderson explains:

“Where economists generally have held that saving and avoiding unnecessary debt and paying off debt where possible are good things, Keynes holds that they are bad things. He disparages depreciation reserves for business corporations. He disparages amortization of public debt by municipalities. He disparages additions to corporate surpluses out of earnings.”

There are entire books devoted to challenging Lord Keynes and The General Theory. But, Anderson’s short chapter will provide you all the ammunition you need.

Near the end, the author reprints a memo he penned for private circulation that eventually found its way throughout government. The contents of the memo are considerable. However, one small snippet speaks to current Fed policy:

“Inflation is not something that you can turn off and on like water at a faucet. Inflation and deflation are not simple terms and they are not simple opposites. There is no financial Westinghouse air brake by means of which an inflationary movement can be tapered off and brought gently to an end without shock. Rather, inflationary forces engendered in defiance of sound financial policy may seem harmless for a long time and then suddenly break force into great violence.”

There is an enormous amount of wisdom in this book. Everyone trying to understand monetary and economic policy during the Depression or today and the subsequent effects should have Economics and the Public Welfare loaded and ready to read cover to cover, or to refer to often. Anderson is an indispensable guide to government monetary policy, as it happened, that still haunts us today.

Being the kind of guy he was, Rothbard recommended Anderson’s great book before recommending his own America’s Great Depression. Both are amazing. But Murray had the benefit of Anderson’s work in writing his. He cites him no less than 15 times.

Doug French

Original article posted on Laissez-Faire Today 

A Reliable Account of the Great Depression appeared in the Daily Reckoning. Subscribe to The Daily Reckoning by visiting signup for an Agora Financial newsletter.

Reining in Europe’s Runaway Markets

Our friends in Europe love a good party.

But who can blame them? Especially since they just endured a rotten couple years filled with near-meltdown conditions.

I’ve stumbled onto countless concerns about the speed with which domestic markets lifted off to start the year. But if you think the S&P climbed too quickly — check out Italy and Spain. After posting modest gains during the first week of the new year, both these markets exploded to the upside, quickly outpacing the S&P.

But as you can see, both Italian and Spanish shares are rolling over a bit. It looks like that Jan. 1 hangover showed up a little late this year…

Spain and Italy iShares vs. S&P 500 SPDR

Both pullbacks are abrupt — but completely necessary. Using the Italy iShares as a proxy, I’m seeing a retreat from the highest overbought levels since 2009. Ditto for Spain.

But before you put on your bear suit, I offer a quick word of warning:

Despite these sharp pullbacks, Italy and Spain have some very nice-looking charts. Big volume. Clear bottoms forming. They could end up having a fantastic year.

Right now, we’ll have to see when and where buyers step in and stop the bleeding. If the consolidation becomes more orderly, you could be looking at a couple of solid buying opportunities.

Greg Guenthner
for The Daily Reckoning

Reining in Europe’s Runaway Markets appeared in the Daily Reckoning. Subscribe to The Daily Reckoning by visiting signup for an Agora Financial newsletter.


Hidden Shale Assets, Set To Pay Off!

Cheap stocks are hard to find in today’s market. Investor expectations are high; prospects for economic growth are low. However, this doesn’t mean you can’t make money in stocks with hidden or poorly managed assets…

Activist investors don’t wait around for opportunities; they pressure companies to unlock hidden values. It often involves acquiring lots of a stock, proposing business changes, and pushing for seats on boards of directors.

In this article, I’ll feature a compelling opportunity in an underperforming energy stock. Activist investors are pressuring the company to unlock billions in hidden asset value.

Lately, hedge funds have found success pushing for asset reshuffling at energy companies. Jana Partners pushed Marathon Petroleum to spin off pipeline assets. The result was a near-doubling of the stock price in 2012. Third Point pressured Murphy oil to spin off its retail fuel business.

Investors assign the highest valuations to laser-focused, pure-play energy companies. Integrated energy stocks trade at discounts relative to peers that break up and refocus.

Hess Corp. (HES) has very attractive assets. As the stock has rallied sharply in recent weeks, investors have started recognizing the assets.

Our friend and Outstanding Investments editor Byron King recognized the potential of Hess’s assets in Nov. 2009, recommending the stock at $56 per share. Patience is paying off. And thanks to a fresh catalyst – the arrival of an activist investor – the stock has upside well beyond $100 per share:

Until recently, Hess’s great assets have disappointed shareholders. Management’s unfocused strategy was costly. Wood Mackenzie, an energy consulting firm, estimates that in the last five years, Hess’s poorly managed exploration program has destroyed $4 billion of capital.

Today, Hess is a mix of businesses and energy reserves scattered all around the world. Hess has the global footprint of a major oil company, but lacks the capital resources or management depth of a major.

Elliott Management, a well-regarded activist hedge fund, just went public with a 4% ownership position in HES. It announced proposals to change Hess’s unfocused strategy, and unlock billions in shareholder value in the process.

Elliott makes a good case that Hess should spin off its Bakken shale acreage into a separate company. Hess is the second largest acreage holder in the Bakken, after Continental Resources. But lately, it has had cost overruns at its wells.

Hess is among the cheapest energy stocks in the market. Management announced plans to sell its refinery and storage terminal assets. In response to Elliott’s actions, management issued a press release: “Since July 24, 2012, the last day of trading before we announced our updated strategy, Hess shares have increased approximately 34% versus 13% for our peer index.”

But this isn’t enough, argues Elliott. The value destruction has been too great. The blue line in chart above shows how much HES stock has underperformed a popular energy sector ETF (XLE).

In this chart, Elliott shows how far HES stock lags behind Bakken peers:

Elliott argues in a letter to shareholders that the 17-year tenure of CEO John Hess is a record of poor asset management and low shareholder returns. And the board isn’t holding the CEO accountable:

“While the independent directors on the Hess board are accomplished in their fields, none (as in zero) have operating experience in the oil and gas industry… [Many] Hess board members have personal and financial relationships with the Hess family. The confluence of these dynamics calls into extreme question the ability of this board to effectively oversee John Hess.”

Elliott has proposed its own slate of directors.

Elliott pegs Hess’s fair value at $126 per share – nearly double the current market price. However, realizing this value may require cooperation from Hess management. With Elliott involved, Hess stock offers you an intriguing way to profit from a very cheap energy stock in the midst of an achievable turnaround.

Your downside is cushioned by substantial asset value. With the right catalyst, great assets tend to get recognized by the market. Even if Elliott’s proposals fall flat, management has received a clear message to refocus its strategy.

Dan Amoss

Original article posted on Daily Resource Hunter 

Hidden Shale Assets, Set To Pay Off! appeared in the Daily Reckoning. Subscribe to The Daily Reckoning by visiting signup for an Agora Financial newsletter.

avatarThe Daily Reckoning - The Daily Reckoning posted Friday, February 1st, 2013.

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