Aluminium: How Can This ‘Weak Metal’ be Stronger Than Steel?


All last year I told you to acknowledge the presence of government and central bank meddling, but not to let this meddling consume you.

And most of all, I’ve told you not to let it get in your way of investing to grow your wealth for now and for the future.

The fact is, whatever the anti-stocks crowd says, the stock market is still the single best way to build long and lasting wealth. This year has been further proof of that…

What most folks have forgotten this year is that, while they’ve stayed fixated on money printing or the end of money printing, entrepreneurs and capitalists have just gotten on with the job of creating new ideas.

That has included innovations in 3D printing, biotechnology, and computing. But my favourite innovation this year has come from an unlikely source.

It has come from a sector few people consider innovative. I’m talking about the car industry…

Cutting Pollution Through Mining

The car industry gets a bad rap, especially in Australia where companies like Holden and Ford have decided to close manufacturing plants due to high costs and inefficiency.

When most people think of a carmaking plant their only image is of late-aged men with beards wearing overalls.

Yet the car industry is among the most innovative industries around. You only need to look at the German carmakers – BMW, Mercedes-Benz, Audi and Porsche – for proof.

The German carmakers have led the pack when it comes to innovations around safety, electronics and the shift towards driverless technology.

But perhaps one of the biggest innovations in the car industry has gone largely unreported in the mainstream press. I’m talking about the innovation that’s helping reduce pollution in a way that no government tax could ever achieve.

How are they doing that?

By using an innovative process that can help carmakers cut a car’s weight by up to 25%. Naturally, the lighter a car the less fuel it uses and the fewer pollutants it emits.

The process involves something that had previously been impossible; bonding lightweight aluminium to steel.

The result is a composite structure that’s just as strong as a 100% steel chassis.

The Key to Fuel Efficiency

Perhaps you’re thinking the same thoughts I had when I first came across this story. By the way, the innovation comes from Japanese carmaker Honda.

When I think of aluminium I think of drink cans or food cans. And when I think of drink and food cans I think about how easy it is to crush them with my bare hands.

I also think of aluminium foil, a metallic product so thin even a baby could tear it apart.

Given those properties I wouldn’t blame you for thinking there’s no way you’d get into a car that had a steel and aluminium bonded chassis. Imagine getting into a crash and the vehicle scrunching up like a drink can.

The good news is that once the aluminium and steel bond together it produces a structure that’s just as strong as a fully steel chassis and yet weighs 25% less.

That’s important for petrol-powered cars where less weight means greater fuel efficiency. It’s even more important for the electric car industry, where huge battery packs take up a significant part of the car’s weight.

That’s why electric or hybrid cars are typically small ‘micro’ cars. But with the development of steel and aluminium bonded materials and higher end composite materials (such as carbon fibre), car makers can now bring electric car technology to mid-sized family cars.

The Free Market of Ideas

The issue for Aussie investors is how to invest in this industry?

One option of course is to buy shares in Honda. Or you could buy shares in Audi, the German carmaker that’s innovating with carbon fibre – although due to the current high costs of carbon fibre, penetration into the mass market may still be a while off.

In my view, the best way to invest in this technological innovation is in the least likely place. That is, the best place to invest isn’t in some Silicon Valley high-tech start-up.

One of the best places to benefit from this trend towards is right here on the Australian market…in an Aussie resource stock.

I know, that may seem bizarre and far-fetched. I thought so too until I heard about the impact this innovation could have on the aluminium industry.

According to one of the top guys at aluminium maker Alcoa, it’s set to see the demand for aluminium from the car industry more than double over the next 10 years.

In short, Honda’s innovation means it can create components that are 25% lighter, 50% more power-efficient and 20% more rigid than steel.

That’s the kind of innovation happening right now on the Australian market. And it’s happening despite the meddling from governments and central banks.

It goes to show you that innovation doesn’t stop. The free market of ideas is a powerful thing. And thankfully so. Without this innovation by the private sector, progress would grind to a halt.

And one of the best ways to potentially profit from this latest high-tech innovation is right here in Australia by investing in the unlikeliest of places…a tiny Aussie resource stock.


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New Royalty Scheme a Leveler in the Mexican Silver Space

Source: Brian Sylvester of The Mining Report (12/31/13)

We may be headed into a new year, but Chris Thompson, mining analyst with Raymond James, expects more of the same in the precious metals prices: volatility. In this Mining Report interview, he advises investors to play that volatility. He details why—despite its higher royalty tax—Mexico remains a silver powerhouse, and which companies will feel the royalty pinch most.

The Mining Report: Your research reports make it clear that mine operating costs are creeping up. For investors, which should be the bigger concern, lower commodity prices or climbing operating costs?

Chris Thompson: Both are a concern, but right now operating margins are an investor’s biggest concern. For producers, volatility in the metal prices has led to rapidly changing operating margins. Companies are demonstrating their ability to reduce costs, but how far they need to reduce these costs will be determined by the commodity price.

TMR: Do you have a threshold for operating margins; a minimum that you want to see?

CT: It depends on the metal price forecast, but we’re happiest with a 50%+ operating margin on the company’s total cash cost.

TMR: What are your gold and silver price forecasts for 2014?

CT: We have silver at $25/ounce ($25/oz). Historically, that is not unrealistic, although it is a significant premium to today’s ~$20/oz price. Our gold forecast is $1,400/oz.

TMR: Do you calculate the correlation of equities to the daily spot price?

CT: We calculate correlation coefficients for equity valuations and market valuations relative to metal prices. At the moment, pure play precious metal producers, especially the silvers, correlate very well in many respects with the silver price.

TMR: Some miners publish cost-per-ton numbers; others don’t. How does the average investor calculate cost-per-ton for silver?

CT: That’s a metric I use a lot because from an operating perspective, it’s one of the most relevant metrics in the metals space. It’s a metric with a lot of components, including mining costs, processing costs and general and administrative costs—all calculated on a per-ton mill basis. Adding those components together gives you a cost-per-ton milled, which is a pure reflection of mine site operating costs per ton.

TMR: What would be a favorable cost-per-ton in today’s market environment for a silver mine and a gold mine?

CT: You need to recognize that the operating cost on a per-ton basis is only one part of the story. We need to look at the metal value or the metal that’s encased in rock and the company’s capacity to beneficiate that metal.

To answer that question, you have to look at grade, as well as metallurgical recoveries. On a cost-per-ton basis, a mine may be a very high cost producer, but it may also be very profitable based on high grade and good metallurgical recoveries.

TMR: Which three or four silver producers in your coverage universe do you expect to outperform your benchmark index?

CT: Out of the 10 silver producers we cover, four have the potential to outperform their peers: Tahoe Resources Inc. (THO:TSX; TAHO:NYSE), Fortuna Silver Mines Inc. (FSM:NYSE; FVI:TSX; FVI:BVL; F4S:FSE), First Majestic Silver Corp. (FR:TSX; AG:NYSE; FMV:FSE) and Mandalay Resources Corp. (MND:TSX).

TMR: Tahoe’s 2014 guidance predicts production between 18–20 million ounces (18-20 Moz). Is that a realistic target?

CT: The underlying preliminary economic assessment calls for a lower production, but in discussions with the company, we understand that there’s potential for better-than-anticipated grade in the near term. That alone underpins the operation’s capacity to deliver 20 Moz silver annually.

TMR: You recently increased your target price on Mandalay. Why?

CT: After seeing the company’s Q3/13 financial results, and more specifically, the performance of its Costerfield mine in Australia, we realized that we were being a little conservative with our 2014 cash-flow projections, so we lightened the cost somewhat at Costerfield. That was the catalyst for the higher target price.

TMR: You visited Mandalay’s Cerro Bayo mine. What were your impressions?

CT: I visited Cerro Bayo about three years ago, when production had just re-started. The company was still improving its understanding of the mine and its exploration potential.

I saw a lot of potential for both production growth and exploration. The company’s main focus at Cerro Bayo is to fill a mill, which is currently rated at 1,600 tons per day (1,600 tpd). Next year, the guidance is for 1,400 tpd. Based on exploration upside, qualified by mine life, Mandalay sees medium- to longer-term potential to fully fill the mill and maximize production at Cerro Bayo.

TMR: Looking at Fortuna, its costs at Caylloma are trending lower. How rare is that?

CT: I like Fortuna and I like management’s approach to trimming costs, especially at its high-cost Caylloma mine.

How common is that in the industry? I believe there’s a lot of potential for many companies to trim costs and we’re beginning to see that happen. We’ve seen it from Pan American and Mandalay and other similar companies. Cost-trimming is a necessity given the current metal price environment.

TMR: It’s also a necessity given the new royalty coming into play in Mexico: a 7.5% flat tax on EBITDA (earnings before interest, tax, depreciation and amortization deductions). How is that affecting Mexican silver producers and how are you factoring it into your calculations?

CT: The net effect is marginal for marginal producers operating marginal mines. Unfortunately, for operators that enjoy healthy operating margins, it has a much more significant effect on their ability to generate cash flow. It’s very much a leveler.

Furthermore, it is a deterrent on investment in Mexico. Companies have to, and are, thinking twice about exploring for, building and operating mines in Mexico.

TMR: Nonetheless, you have buy ratings on just about every company that you cover there. For example, you have a strong buy rating and a $5.50 target price on Fortuna.

CT: Our buy ratings are based on our metal price forecast for 2014, and many are driven by multiples to cash flow. Remember, our 2014 silver price forecast is $25/oz, a full 25% higher than spot. This is reflected in high target prices relative to current market prices. Our target prices are more a reflection on valuations should silver prices strengthen to ~$25 oz . Having said that, one company, Santacruz Silver Mining Ltd. (SCZ:TSX.V; 1SZ:FSE) offers production growth, as well as a stellar property portfolio. Our buy rating for Santacruz reflects the potential offered by this portfolio, which is longer term and not directly linked to current cash flow.

TMR: Your most recent report on First Majestic says to expect growth, but that it will be tapered. Can you tell our readers more about that?

CT: We had two reasons. Number one, First Majestic’s key growth asset is its Del Toro mine, where it has slowed its ramp-up plan. The company will scale back on processing concentrates in favor of processing oxide material. This a more cost-effective way of increasing production, but it meant we had to bring our production forecast down. The revised ramp-up may be more economical, but it comes with a slightly lower production growth plan in the near term from Del Toro.

Number two, all of First Majestic’s mines are in Mexico and the company enjoys one of the higher operating margins relative to its peers. Consequently, our 2014 cash flow estimate for the company was disproportionately affected, relative to peers, by the higher Mexican royalty. According to our calculations, its valuation has been hit hardest among Mexican silver-focused producers.

TMR: Should investors expect more volatility in precious metals prices in early 2014?

CT: Absolutely. The one thing we can expect in 2014 is pretty much what we had this year. We’ll be in a very volatile space for quite some time.

My advice to investors is stay with quality; stay with good management teams that have good asset bases in geopolitically secure regions. Stay with companies that can demonstrate what I call “realistic executable organic growth plans.”

TMR: In other words, projects already in the pipeline that should be relatively easy to finance and bring into production with high recovery rates and controllable costs.

CT: Absolutely. That is the most risk-averse focus a company can offer investors right now. In an environment where money is tight, there’s little chance of projects being financed, but if they carry palatable capital costs, are attractive and the company has the right skill set to advance the assets to production, that’s what the company needs to do. And it’s what investors need to look for.

TMR: That makes sense for midcap or small companies. For the slightly larger players, is there enough confidence in precious metal prices for them to enter a fresh round of mergers and acquisition (M&A) activity?

CT: Broadly speaking, there’s very little confidence for M&A at the moment. However, within management groups that have in-house expertise to deliver on value, there is a much better appetite for M&A.

B2Gold Corp. (BTG:NYSE; BTO:TSX; B2G:NSX) continues to demonstrate this. It has made an acquisition a year for the last three years.

TMR: Before we move onto gold, do you have another silver name for our readers?

CT: Pan American Silver Corp. (PAA:TSX; PAAS:NASDAQ) has the healthiest balance sheet in the sector at the moment. Its Q3/13 financial results surprised a lot of people. The company is one of the higher cost operators in the sector, but it has really managed to deliver on cost reductions at its South American mines.

The growth opportunity for Pan American lies squarely with La Colorada, where the company wants to expand production.

Coeur Mining Inc. (CDM:TSX; CDE:NYSE) should be looked at together with Pan American. Both are high-cost, senior producers. Each produces more than 20 Moz silver per year. Both have a history of disappointing investors. Judging by recent quarterly performance, both seem to be turning the corner. Both need another quarter or two of positive performance before investors or the investment community begins to give both companies the credibility that they may arguably deserve. If the price moves significantly to the upside, these two companies, being the most leveraged stories in the silver space, should generate significant cash flow growth.

TMR: Aside from B2Gold, what other gold equities do you cover and have buy ratings on?

CT: We also cover Sulliden Gold Corp. (SUE:TSX; SDDDF:OTCQX; SUE:BVL), which offers an interesting opportunity for a potential acquirer. It has a very doable, scalable project in Peru that can be developed relatively cheaply. Peru, however, has a rather checkered past in terms of geopolitical risk. Sulliden’s project is in a geopolitically secure location. It could be an interesting acquisition target for a company looking for low-cost gold ounces.

TMR: How much capital expense (capex) would it cost an acquirer to develop Sulliden?

CT: We have a capital cost of about $150 million ($150M). The company is well financed. The $150M is what we think it would cost to fund a heap leach at 10K tpd production. Over time, we model increased production at an ore crush rate up to 30k tpd. With that kind of processing rate, you’re looking at production starting at 100 Koz/year, increasing to 250 Koz/year by 2017.

TMR: Nonetheless, a recent financing proved to be quite dilutive to the share float. Is that an issue for a potential acquirer?

CT: Not really. The equity financing was the right approach. Sulliden shored up its working capital base, and by the same token, lightened up on its need for a significant financing. We assume there will be a debt financing next year to complete funding requirements for Shahuindo.

TMR: Let’s switch back to B2Gold. Where will its growth come from?

CT: B2Gold has three operation centers: It has the Libertad and Limon mines in Nicaragua, Masabate in the Philippines and Otjikoto in Namibia.

In Nicaragua, we see limited growth from exploitation of a new zone—the Jabali deposit—at the Libertad Mine. This is a satellite deposit within trucking distance of the mill.

Otjikoto is the most important from a near-term production growth and cash-flow growth perspective. The mine is a little less than midway through a two-year construction period that started early this year. We have it commencing production in early 2015 at a rate of ~140 Koz per year.

Having said that, you have also got to watch Masbate, where the company continues to refine and improve on operating efficiencies. In time, we expect to see growth coming from Masbate. But for now, it’s all about optimizing the operation at the current production rate.

In short, we see growth across the board, but primarily from Namibia in the near term, and potentially from Masbate later.

TMR: How would you compare B2Gold’s management group with its peers in the gold space?

CT: I think B2 Gold offers a number of strengths as far as management is concerned. The management are very good operators. They proved to be good mine builders and explorers at Libertad and Limon. The Jabali deposit was a grassroots exploration discovery.

The exploration news coming out of Otjikoto’s new Wolfshag deposit is very interesting in itself. It presents production growth potential over and above what we’re modeling right now for Otjikoto.

As far as M&A goes, B2Gold has a very good team. They can tell the good from the bad. They know what to look for. If conditions are good and the price is right, the team can execute. In total, it’s a well-rounded management group.

TMR: And one with a solid following among major institutional investors. What’s one thing investors in the precious metals space can look forward to in 2014?

CT: More volatility, I’m afraid, if that’s something to look forward to.

You need to play the volatility. This is the time for people to buy stock in solid, high-quality names when the silver metal price is $19–$20/oz. If the silver price strengthens to ~$25/oz, which we think it might, it will be time to lighten the load or offload names.

Often, the little stories that can deliver on all fronts are the stories that investors should gravitate to, regardless of the metal price. You have to play the volatility and acquire positions in good, solid companies when metal prices are low. At these metals prices, there’s more upside potential than downside risk.

TMR: Chris, thank you for your time and your insights.

Chris Thompson is an analyst who specializes in the mid-cap precious metals sector. He was trained in South Africa and has over 20 years of industry experience working as a geologist for major through to junior mining/exploration companies, in addition to a stint working as a mineral economist for the South African State. He has a bachelor’s degree from the University of the Witwatersrand, a graduate degree in engineering, a masters in mineral economics and a PGeo designation. Thompson received the 2011 Starmine No. 1 Stock Picker award for the Canadian Metals and Mining Sector.

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1) Brian Sylvester conducted this interview for The Mining Report and provides services to The Mining Report as an independent contractor. He or his family own shares of the following companies mentioned in this interview: None.

2) The following companies mentioned in the interview are sponsors of The Mining Report: Sulliden Gold Corp., Tahoe Resources Inc., Fortuna Silver Mines Inc., Santacruz Silver Mining Ltd. and Mandalay Resources Corp. Streetwise Reports does not accept stock in exchange for its services or as sponsorship payment.

3) Chris Thompson: I or my family own shares of the following companies mentioned in this interview: None. I personally am or my family is paid by the following companies mentioned in this interview: None. My company has a financial relationship with the following companies mentioned in this interview: Raymond James Ltd. has managed or co-managed a public offering of securities within the last 12 months with respect to Santacruz Silver Mining Ltd. Raymond James Ltd. has received compensation for investment banking services within the last 12 months with respect to Santacruz Silver Mining Ltd. I was not paid by Streetwise Reports for participating in this interview. Comments and opinions expressed are my own comments and opinions. I had the opportunity to review the interview for accuracy as of the date of the interview and am responsible for the content of the interview.

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Thoughts from the Frontline: Gary Shilling Review and Forecast

By John Mauldin


Should auld acquaintance be forgot
And never brought to mind?
Should auld acquaintance be forgot,
And auld lang syne!

For auld lang syne, my dear,
For auld lang syne,
We’ll take a cup o’ kindness yet
For auld lang syne

It’s that time of year again, when we begin to think of what the next one will bring. I will be doing my annual forecast issue next week, but my friend Gary Shilling has already done his and has graciously allowed me to use a shortened version of his letter as this week’s Thoughts from the Frontline. So without any further ado, let’s jump right to Gary’s look at where we are and where we’re going.

Review and Forecast

By Gary Shilling

In the third quarter, real GDP grew 2.8% at annual rates from the second quarter. Without the increase in inventories, the rate would be 2.0%, in line with the 2.3% average growth since the economic recovery commenced in the second quarter of 2009.

Furthermore, the step-up in inventory-building from the second quarter may have been unintended, suggesting cutbacks in production and weaker growth in future quarters. Also, consumer spending growth, 1.5% in the third quarter, continues to slip from 1.8% in the second quarter and 2.3% in the first while business spending on equipment and software actually fell at a 3.7% annual rate for only the second time since the recovery started in mid-2009. Government spending was about flat with gains in state and local outlays offsetting further declines in federal expenditures. Non-residential outlays for structures showed strength as did residential building. The 16-day federal government shutdown didn’t commence until the start of the fourth quarter, October 1, but anticipation may have affected the third quarter numbers.

Recovery Drivers

The 2.3% average real GDP growth in the recovery, for a total rise of 10%, has not only been an extraordinarily slow one but also quite unusual in structure. Consumer spending has accounted for 65% of that growth, actually below its 68% of real GDP, as shown in the second column of Chart 1. Government spending—which in the GDP accounts is direct outlays for personal and goods and services and doesn’t include transfers like Social Security benefits—has actually declined. Federal outlays fell 0.4% despite massive stimuli since most of it went to welfare and other transfers to state governments. But state and local spending dropped 0.9% due to budget constraints.

Residential construction accounted for 9% of the gain in the economy. This exceeds its share of GDP, but still is small since volatile housing normally leaps in recoveries, spurred by low interest rates. But deterrents abound. The initial boost to the economy as retrenching consumers cut imports was later reversed. So net exports reduced real GDP growth by 0.4% in the 13 quarters of recovery to date.

Inventory-building accounted for a substantial 19% of the rise in real GDP, suggesting the accumulation of undesired stocks since anticipation of future demand has been consistently subdued. Nonresidential structures fell 0.1% as previous overbuilding left excess space. Equipment spending contributed 20% of the overall growth, but has failed to shoulder the normal late recovery burst.

Nevertheless, the small intellectual property products component, earlier called software, accounted for 5% of overall growth compared to its 3.9% share of GDP. This reflects the productivity-enhancing investments American business have been using to propel profit margins and the bottom line in an era when sales volume has been weak and pricing power absent.

As we predicted over three years ago in our book The Age of Deleveraging: Investment strategies for a decade of slow growth and deflation, and in many Insights since then, economic growth of about 2% annually will probably persist until deleveraging, especially in the financial sector globally and among U.S. consumers, is completed in another four or five years. Deleveraging after a major leveraging binge and the financial crisis that inevitably follows normally takes around a decade, and since the workdown of excess debt commenced in 2008, the process is now about half over. The power of this private sector deleveraging is shown by the fact that even with the immense fiscal stimuli earlier and ongoing massive monetary expansion, real growth has only averaged 2.3% compared to 3.4% in the post-World War II era before the 2007-2009 Great Recession.

Optimists, of course, continue to look for reasons why rapid growth is just around the corner, and their latest ploy is the hope that the effects of individual income tax hikes and reduced federal spending this year via sequestration have about run their course. Early this year when these negative effects on spending were supposed to take place, scare-mongers in and out of Washington predicted drastic negative effects on the economy. But federal bureaucrats apparently mitigated much of the effects of sequestration, and the income tax increases on the rich, as usual, didn’t change their spending habits much. So the positive influences on the economy as sequestration fades and income tax rates stabilize are likely to be equally minimal.

Furthermore, small-business sentiment has fallen recently. The percentage of companies that look for economic improvement dropped from -2 in August to -10 in September and -17 in October to a seven-month low. Those expecting higher sales declined from +8 to +2 in October. Most of the other components of the index fell, including those related to the investment climate, hiring plans, capital spending intentions, inventories, inflation expectations and plans to raise wages and prices. Other recent measures of subdued economic activity include the New York Fed’s survey of manufacturing and business conditions and industrial production nationwide, which fell 0.1% in October from September.

The New York Fed’s Empire State manufacturing survey index for November fell to 2.21%, the first negative reading since May. Every component dropped—orders, shipments, inventories, backlogs, employment, the workweek, vendor performance and inflation.

Global Slow Growth

The ongoing sluggish growth in the U.S. is indeed a global problem. It’s true in the eurozone, the U.K., Japan and China. Recently, the International Monetary Fund, in its sixth consecutive downward revision, cut its global growth forecast for this year by 0.3 percentage points to 2.9% and for 2014, by 0.2 percentage points to 3.6%.

It lowered its 2013 forecast for India from 5.6% to 3.8%, for Brazil from 3.2% to 2.5% and more than halved Mexico’s to 1.2%. For developing countries on average, the IMF reduced its 2013 growth forecast by 0.4 percentage points to 5%, citing the drying up of years of cheap liquidity, competitive constraints, infrastructure shortfalls and slowing investment. It also worries about their balance of payment woes. For 2014, the IMF chopped its growth forecast for China from 7.8% to 7.3% and from 2.8% to 2.6% for the U.S.

Fiscal Drag

Fed Chairman Bernanke continually worries about fiscal drag. Without question, the federal budget was stimulative in earlier years when tax cuts and massive spending in reaction to the Great Recession as well as weak corporate and individual tax collections pushed the annual deficit above $1 trillion. But the unwinding of the extra spending, income tax increases and sequestration this year and economic recovery—weak as it’s been—have reduced the deficit to $680 billion in fiscal 2013 that ended September 30.

From here on, the outlook is highly uncertain with persistent gridlock in Washington between Democrats and Republicans. So far, they’ve kicked the federal budget and debt limit cans down the road and they may do so again when temporary extensions expire early next year. It looks like many in Congress have no intention of resolving these two problems and may be jockeying for position ahead of the 2014, if not the 2016, elections.

In our many years of observing and talking to Congressmen, Senators and key Administration officials of both parties, it’s clear that Washington only acts when it has no alternative and faces excruciating pressure. A collapsing stock market always gets their attention, but the ongoing market rally, in effect, tells them that all is well or at least that it doesn’t require immediate action.

The Fed

With muted economic growth and risks on the downside, distrust in the abilities or willingness of Congress and the Administration to right the ship, and falling consumer and business confidence, the burden of stimulating the economy remains with the Fed. Janet Yellen, the likely next Chairman, seems even more committed than Bernanke to continuing to keep monetary policy loose. The Fed plans to reduce its buying of $85 billion per month in securities but the negative reactions by stocks (Chart 2), Treasury bonds (Chart 3) and many other securities to Bernanke’s hints in May and June that purchases would be tapered and eliminated by mid-2014 made a strong impression on the Fed. Similarly, the release of the minutes of the Fed’s October policy meeting— which again said officials looked forward to ending the bond-buying program “in coming months” if conditions warranted—resulted in an instant drop in stock and bond prices.

The Fed is trying to figure out how to end security purchases without spiking interest rates, to the detriment of housing, other U.S. economic sectors and developing economies. It’s moving toward “forward guidance,” more commitment to keep the short-term interest rate it controls low than its present pledge to keep it essentially at zero until the current 7.3% unemployment rate drops to 6.5% and its inflation rate measure climbs to 2.5% from the current 1.2% year-over-year.

The hope is that a longer-term commitment to keep short-term rates low will retard long rates as well when the Fed tapers its asset purchases. This strategy appears to be having some success. Treasury investors are switching from 10-year and longer issues to 2-year or shorter notes. This is known as the yield-steepening trade as it pushes short-term yields down and longer yields up. As a result, the spread between 2-year and 10-year Treasury obligations has widened to 2.54 percentage points, the most since July 2011. Banks benefit from a steeper yield curve since they borrow short term and lend in long-term markets. But borrowers pay more for loans linked to long-term Treasury yields. There’s a close link between the yield on 10-year Treasury notes and the 30-year fixed rate on residential mortgages.

The Fed has already signaled that it may not wait to raise short rates until the unemployment rate, a very unreliable gauge of job conditions as we’ve explained in past Insights, drops below 6.5%. Bernanke recently said that “even after unemployment drops below 6.5%, the [Fed] can be patient in seeking assurance that the labor market is sufficiently strong before considering any increase in its target for the federal funds rate.” At that point, the Fed will consider broader measures of the job market including the labor participation rate. If the participation rate hadn’t fallen from its February 2000 peak due to postwar baby retirements, discouraged job-seekers and youths who stayed in school since job opportunities dried up with the recession, the unemployment rate now would be 13%.

The Fed is well aware that other than pushing up stock prices, its asset-buying program is having little impact on the economy. In a recent speech, Bernanke said that while the Fed’s commitment to hold down interest rates and its asset purchases both are helping the economy, “we are somewhat less certain about the magnitude of the effects on financial conditions and the economy of changes in the pace of purchases or in the accumulated stock of assets on the Fed’s balance sheet.” We wholeheartedly agree with this sentiment, as discussed in detail in our October Insight. Tapering Fed monthly purchases only reduces the ongoing additions to already-massive excess member bank reserves on deposit at the Fed.


Inflation has virtually disappeared. The Fed’s favorite measure of overall consumer prices, the Personal Consumption Expenditures Deflator excluding food and energy (Chart 4), is rising 1.2% year-over-year, well below the central bank’s 2.0% target and dangerously close to going negative.

There are many ongoing deflationary forces in the world, including falling commodity prices, aging and declining populations globally, economic output well below potential, globalization of production, growing worldwide protectionism including competitive devaluation in Japan, declining real incomes, income polarization, declining union memberships, high unemployment and downward pressure on federal and state and local government spending.

With the running out of 2009 federal stimulus money and gas tax revenues declining as fewer miles are driven in more efficient cars, highway construction is declining and construction firms are consolidating and reducing bids on new work even if their costs are rising. Highway construction spending dropped 3.3% in the first eight months of 2013 compared to a year earlier. Also, states are shifting scarce money away from transportation and to education and health care. We’ve noted in past Insights that aggressive monetary and fiscal stimuli probably have delayed but not prevented chronic deflation in producer and consumer prices.

Why does the Fed clearly fear deflation? Steadily declining prices can induce buyers to wait for still-lower prices. So, excess capacity and inventories result and force prices lower. That confirms suspicions and encourages buyers to wait even further. Those deflationary expectations are partly responsible for the slow economic growth in Japan for two decades.

Low Interest Rates

With the Fed likely to continue to hold its federal funds rate close to zero, other short-term interest rates will probably remain there too. So the recent rally in Treasury bonds may well continue, with yields on the 10-year Treasury note, now 2.8%, dropping below 2% while the yield on our 32-year favorite, the 30-year Treasury “long bond,” falls from 3.9% to under 3%. Even-lower yields are in store if chronic deflation sets in as well it might. Ditto for the rise in stocks, which we continue to believe is driven predominantly by investor faith in the Fed, irrespective of modest economic growth at best. “Don’t fight the Fed,” is the stock bulls’ bellow. Supporting this enthusiasm has been the rise in corporate profits, but that strength has been almost solely due to leaping profit margins. Low economic growth has severely limited sales volume growth, and the absence of inflation has virtually eliminated pricing power. So businesses have cut labor and other costs with a vengeance as the route to bottom line growth

Wall Street analysts expect this margin leap to persist. In the third quarter, S&P 500 profit margins at 9.6% were a record high but revenues rose only 2.7% from a year earlier. In the third quarter of 2014, they see S&P 500 net income jumping 14.9% from a year earlier on sales growth of only 4.7%. But profit margins have been flat at their peak level for seven quarters. And the risks appear on the downside.

Productivity growth engendered by labor cost-cutting and other means is no longer easy to come by, as it was in 2009 and 2010. Corporate spending on plant and equipment and other productivity-enhancing investments has fallen 16% from a year ago. Also, neither capital nor labor gets the upper hand indefinitely in a democracy, and compensation’s share of national income has been compressed as profit’s share leaped. In addition, corporate earnings are vulnerable to the further strengthening of the dollar, which reduces the value of exports and foreign earnings by U.S. multinationals as foreign currency receipts are translated to greenbacks.

Speculation Returns

Driven by the zeal for yield due to low interest rates and the rise in stock prices that has elevated the S&P 500 more than 160% from its March 2009 low, a degree of speculation has returned to equities. The VIX index, a measure of expected volatility, remains at very low levels (Chart 5). Individual investors are again putting money into U.S. equity mutual funds after years of withdrawals. “Frontier” equity markets are in vogue. They’re found in countries like Saudi Arabia, Nigeria and Romania that have much less-developed—and therefore risky—financial markets and economies than Brazil and Mexico.

The IPO market has been hot this year. The median IPO has been priced at five times sales over the last 12 months, almost back to the six times level of 2007. And many IPOs have used the newly-raised funds to repay debt to their private equity backers, not to invest in business expansion. Through early November, IPOs raised $51 billion, the most since the $62 billion in the comparable period in 2000. Some 62% of IPOs this year are for money-losing companies, the most since the 1999-2000 dot com bubble. Some hedge fund managers are introducing “long only” funds with no hedges against potential stock price declines.

The S&P 500 index recently reached an all-time high but corrected for inflation, it remains in a secular bear market that started in 2000. This reflects the slow economic growth since then and the falling price-earnings ratio, and fits in with the long-term pattern of secular bull and bear markets, as discussed in detail in our May 2013 Insight.

High P/E

Furthermore, from a long-term perspective, the P/E on the S&P 500 at 24.5 is 48% above its long run average of 16.5 (Chart 6), and we’re strong believers in reversions to well-established trends, this one going back to 1881. The P/E developed by our friend and Nobel Prize winner, Robert Shiller of Yale, averages earnings over the last 10 years to iron out cyclical fluctuations. Also, since the P/E in the last two decades has been consistently above trend, it probably will be below 16.5 for a number of years to come.

This index is trading at 19 times its companies’ earnings over the past 12 months, well above the 16 historic average. This year, about three-fourths of the rise in stock prices is due to the jump in P/Es, not corporate earnings growth. Even always-optimistic Wall Street analysts don’t expect this P/E expansion to persist in light of possible Fed tightening. Those folks, of course, are paid to be bullish and their track record proves it. Since 2000, stocks have returned 3.3% annually on average, but strategists forecast 10%. They predicted stock rises in every year and missed all four down years.


Residential construction is near and dear to the Fed’s heart. It’s a small sector but so volatile that it has huge cyclical impact on the economy. At its height in the third quarter of 2005, it accounted for 6.2% of GDP but fell to 2.5% in the third quarter of 2010 (Chart 7). That in itself constitutes a recession, even without the related decline in appliances, home furnishings and autos.

Furthermore, the Fed can have a direct influence on housing. Monetary policy is a very blunt instrument. The central bank only can lower interest rates and buy securities and then hope the economy in general will be helped. In contrast, fiscal policy can aid the unemployed directly by raising unemployment benefits. But by buying securities, especially mortgage-related issues, the Fed can influence interest rates and help interest-sensitive housing. The rise in 30-year fixed mortgage rates of over one percentage point last spring probably has brought the housing recovery to at least a temporary halt. Each percentage point rate rise pushes up monthly principal and interest payments by about 10%.

Of course, many other factors besides mortgage rates affect housing and have been restraining influences. They include high downpayment requirements, stringent credit score levels, employment status and job security and the reality that for the first time since the 1930s, house prices have fallen—by a third at their low.

Capital Spending

Many hope that record levels of corporate cash and low borrowing costs will propel capital spending. And spending aimed at productivity enhancement, much of it on high-tech gear, has been robust as business concentrates on cost-cutting, as noted earlier. But the bulk of plant and equipment spending is driven by capacity utilization, and while it remains low, there’s little zeal for new outlays.

That’s why capital spending lags the economic cycle. Only after the economy strengthens in recoveries do utilization rates rise enough to spur surges in capital spending. And as our earlier research revealed, it’s the level of utilization, not the speed with which it’s rising, that drives plant and equipment outlays. So this is a Catch-22 situation. Until the economy accelerates and pushes up utilization rates, capital spending will remain subdued. But what will cause that economic growth spurt?

Government Spending

It’s unlikely to be government spending. State and local outlays used to be a steady 12% or so of GDP and a source of stable, well-paying jobs. But no more. State tax revenues are recovering (Chart 8), but the federal stimulus money enacted in 2009 has dried up, leaving many states with strained budgets.

Pressure also comes from private sector workers who are increasingly aware that while their pay has been compressed by globalization and business cost-cutting, state and local employees have gotten their usual 3% to 4% annual increases and lush benefits. As a result, those government people have 45% higher pay than in the private sector, 33% more in wages and 73% in additional benefits. Oversized retiree obligations have sunk cities in California and Rhode Island and pushed Illinois to the brink of bankruptcy. Hopelessly-underfunded defined benefit pensions are a major threat to state and local government finances.

Municipal government employment is down 3.3% from its earlier peak compared to -0.2% for total payroll employment (Chart 9). And since these people are paid 1.45 times those in the private sector, two job losses is the equivalent of three private sector job cuts in terms of income. Real state and local outlays have fallen 9.5% since the third quarter of 2009.

Federal direct spending on goods and services, excluding Social Security, Medicare and other transfers, has also been dropping, by 7.2% since the third quarter of 2010. Both defense and nondefense real outlays are dropping, and this has occurred largely before the 2013 sequestration. At the same time, federal government civilian employment, civilian and military, has dropped 6% from its top (Chart 10).

U.S. Labor Markets

The U.S. labor market remains weak and of considerable concern to the Fed. Recent employment statistics have been muddled by the government’s 16-day shutdown in October and the impasse over the debt ceiling. Initially, 850,000 employees were furloughed although the Pentagon recalled most of its 350,000 civilian workers a week into the shutdown.

The unemployment rate has been falling, but because of the declining labor participation rate. We explored this phenomenon in detail in “How Tight Are Labor Markets?” (June 2013 Insight). As people age, their labor force participation rates tend to drop as they retire or otherwise leave the workforce. With the aging postwar babies, those born between 1946 and 1964, this has resulted in a downward trend in the overall participation rate—but it doesn’t account for all of the decline.

The irony is that participation rates of younger people tend to be higher than for seniors, but are declining. For 16-24-year-olds, the rate has declined sharply since 2000 as slow economic growth, limited jobs and rising unemployment rates have encouraged these youths to stay in school or otherwise avoid the labor force.

Meanwhile, the participation rates for those over 65 have climbed since the late 1990s as they are forced to work longer than they planned. Many have been notoriously poor savers and were devastated by the collapse in stocks in 2007-2009 after the 2000-2002 nosedive, two of only five drops of more than 40% in the S&P 500 since 1900.


An additional sign of job weakness is the large number of people who want to work full-time but are only offered part-time positions—”working part-time for economic reasons” is the Bureau of Labor Statistics term (Chart 11)—and these people total 8 million and constitute 5.6% of the employed. This obviously reflects employer caution and the zeal to contain costs since part-timers often don’t have the pension and other benefits enjoyed by full-time employees.

This group will no doubt leap when Obamacare is fully implemented in 2015, according to its current schedule. Employers with 50 or more workers have to offer healthcare insurance, but not to those working less than 30 hours per week. When these people and those who have given up looking for jobs are added to the headline unemployment rate, the result, the BLS’s U-6 unemployment rate, leaped in the Great Recession and is still very high at 13.8% in October.

The weakness in the job market is amplified by the fact that most new jobs are in leisure and hospitality, retailing, fast food and other low-paying industries, which accounted for a third of the 204,000 new jobs in October. Manufacturing, which pays much more, has added some employees as activity rebounds but growth has been modest.

Real Pay Falling

With all the downward pressure on labor markets, real weekly wages are falling on balance. The folks on top of the income pile have recovered all their Great Recession setbacks and then some, on average. The rest, perhaps three-fourths of the population, believe they are—and probably still are—mired in recession due to declining real wages, still-depressed house prices, etc. Consequently, the share of total income by the top one-fifth, which has been rising since the data started in 1967, has jumped in recent years. The remaining four quintile shares continue to fall, although falling shares do not necessarily mean falling incomes.

The average household in the top 20% by income has seen that income rise 6% since 2008 in real terms and the top 5% of earners had an 8% jump. The middle quintile gained just 2% while the bottom 29% are still below their pre-recession peak. A study of household incomes over the 2002-2012 decade shows that the top 0.01% gained 76.2% in real terms but the bottom 90% lost 10.7%. In 2012, the top 1% by income got 19.3% of the total. The only year when their share was bigger was 1928 at 19.6%.

Real median household income, that of the household in the middle of the spectrum, continues to drop on balance, only leveling last year from 2011 (Chart 12). In 2012, it was down 8.3% from the prerecession 2007 level and off 9.1% from the 1999 all-time top. Americans may accept a declining share of income as long as their spending power is increasing, but that’s no longer true, a reality that President Obama plays to with his “fat cat bankers” and other remarks.

Households earning $50,000 or more have become increasingly more confident, according to a monthly survey by RBC Capital Markets, but confidence among lower-income households stagnated, created a near-record gap between the two. Of the 2.3 million jobs added in the past year, 35% were in jobs paying, on average, below $20 per hour in industries such as retailing and leisure and hospitality. Since the recession ended, hourly wages for non-managers in the lowest-paying quarter of industries are up 6% but more than 12% in the top-paying quarter. These income disparities are reflected in consumer spending. In the first nine months of this year, sales of luxury cars were up 12% from a year earlier but small-car sales rose just 6.1%.

Consumer Spending

With housing, capital spending, government outlays and net exports unlikely to promote rapid economic growth in coming quarters, the only possible sparkplug is the consumer. Consumer outlays account for 69% of GDP, and with falling real wages and incomes, the only way for real consumer spending to rise is for their already-low saving rate to fall further.

Even the real wealth effect, the spur to spending due to rises in net worth, is now muted. In the past, it’s estimated that each $1 rise in equity value boosted consumer spending by three cents over the following 18 months while a dollar more in house value led to eight cents more in outlays. But now the numbers are two cents and five cents, respectively.

True, the ratio of monthly financing payments to their after-tax income has been falling for homeowners, freeing money for spending. Those obligations include monthly mortgage, credit card and auto loan and lease payments as well as property taxes and homeowner insurance. Nevertheless, for the third of households that rent, their average financial obligations ratio has been rising in the last two years as rents rise while vacancies drop.

Declining gasoline prices have given consumers extra money for other purchases, and are probably behind the recent rise in gas-guzzling pickup truck and SUV sales. Furthermore, the automatic Social Security benefit cost-of-living escalator will increase benefits by 1.5% in 2014 for 63 million recipients of retirement and disability payments. Still, with low inflation in 2013, the basing year, that increase is smaller than the 1.7% rise last year and the lowest since 2003, excluding 2010 and 2011 when there were no increases due to a lack of inflation. Social Security retirement checks will rise $19 per month to $1,294, on average, starting in January.

In any event, retail sales growth is running about 4% at annual rates recently, about half the earlier recovery strength (Chart 13). And a lot of this growth has been spurred by robust auto sales, allegedly driven by the need to replace aged vehicles.


Insight readers know we’ve been waiting for a shock to remind equity investors of the fundamental weakness of the economy, and perhaps push the sluggish economy into a recession. With underlying real growth of only 2%, it won’t take much of a setback to do the job.

Will the negative effects of the government shutdown and debt ceiling standoff, coupled with the confusion caused by the rollout of Obamacare, be a sufficient shock? The initial Christmas retail selling season may tell the tale, and the risks are on the down side. Besides the consumer, we’re focused on corporate profits, which may not hold up in the face of persistently slow sales growth, no pricing power and increasing difficulty in raising profit margins.

Nevertheless, we are not forecasting a recession for now, but rather more of the same, dull, slack 2% real GDP growth as in the four-plus years of recovery to date.

If you like what you read and would like to keep up with Gary for the next year, you can subscribe to Gary Shilling’s Insight for one year for $335 via email. Along with 12 months of Insight you’ll also receive a free copy of his full report detailing why he believes it will be “advantage America” in the coming years and a free copy of Gary’s latest book, Letting Off More Steam. To subscribe, call 1-888-346-7444 or 973-467-0070 between 10 am and 4 pm Eastern time or email [email protected]. Be sure to mention Thoughts from the Frontline to get the special report and free book in addition to your 12 months of Insight (available only to new subscribers).

Dubai, Saudi Arabia, Canada, and Auld Lang Syne

(For a little mood music, you can listen to James Taylor croon “Auld Lang Syne.” Or here’s the Beach Boys’ version.)

I am home for the holidays until January 8, when I leave for Dubai and then Riyadh for a week. There is the potential for a day trip to Abu Dhabi to meet with Maine fishing buddy Paul O’Brien. Then I am back home for a week before I fly to Vancouver, Edmonton, and Regina for a three-day speaking tour at those cities’ respective annual CFA forecast dinners. A note from a reader in Edmonton pointed out that it is already -30 there. I am actively hunting for my thermal underwear.

Oddly enough, my calendar then shows me home for four weeks before I head to Laguna Beach, CA, for a speech and then hop a plane to Miami. You would think that someone who flies as much as I do would have done a cross-country flight more than a few times, but this will be my first time ever to fly coast to coast in the US.

As noted last week, all my kids will be in town tonight, and we will celebrate our “official” family Christmas tomorrow. The poor grandchildren have had to wait three extra days to open their presents, but I keep telling them that waiting builds character. I get looks back from them that say they’re not sure what character is but they want nothing to do with it.

I have always enjoyed this time of year as an interlude for contemplating the future. For whatever reason, since I was in college I have paused as the new year approached to think about where I wanted to be in five years. Given that I’m 64, that means I’ve gone through this process some 42 times and seen the completion of 37 five-year planning cycles.

My batting average to date is 0 for 37. I never end up where I thought I was going to be, although there are times when I at least get the direction right, and fortunately there even a few times when the new midcourse correction means things turn out even better than planned.

Next week I write my 2014 forecast, for which the theme will be “Uncertainty.” Yet even in the face of overwhelming uncertainty, I will still come up with a personal five-year plan. Given the rather unique set of opportunities that have been presented to me in the past year, the plan is rather ambitious. And I expect it to change a lot. Among other projects, I expect to be announcing several new letters in the coming months that will be specifically directed to strategic portfolio planning. Right now our plan is to make these letters more or less freely available.

But the one thing that will hopefully not change is that I will be writing this letter to you, as together we try to make sense of the world. As the year draws to a close, I want to thank you for being part of my family of readers. And may the coming year surpass all your most wildly optimistic plans.

Your hearing “Auld Lang Syne” analyst,

John Mauldin, Editor
Thoughts from the Frontline
[email protected]

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Revealed: Doug Casey’s Next Crisis Investment—Cyprus

By Nick Giambruno, Senior Editor, International Man, Casey Research

Recently, legendary crisis investor Doug Casey and I put our boots to the ground in Cyprus to search the rubble of one of recent history’s most significant financial crises—the financial collapse and bank deposit raid in Cyprus—for incredible bargains. And we found them.

The fact of the matter is that there are sound, productive, and well-run businesses that are listed on the Cyprus Stock Exchange that continue to produce earnings and pay dividends.

The crisis has created a remarkable opportunity to pick up these companies and other tangible assets at bargain prices that could show very large returns.

Some of these companies are now trading far below their cash values, most are trading below 50% of their book value, and some are even trading under 10% of book value… literally pennies on the dollar.

The crisis in the Cypriot financial system is not going to completely destroy these solid companies, many of which have been around for decades and have survived far worse times. And it certainly won’t undo the geopolitical value that so many civilizations throughout history have placed on the island itself.

Cyprus has been a strategic piece of geography for thousands of years, due to its location at the crossroads between Europe, Africa, the Middle East, and Asia. For this reason and others, Cyprus has been coveted by many ancient and modern civilizations. The Egyptians, the Greeks, the Phoenicians, the Assyrians, the Persians, the Romans, the Byzantines, the Venetians, the Ottomans, and the British all understood that this island in the eastern Mediterranean has great intrinsic value. It is unlikely that a collapse of the paper Ponzi-scheme banking system in Cyprus is going to alter what these civilizations found valuable for thousands years. But it has made anything connected to Cyprus temporarily very cheap.

The Financial Crisis in Cyprus

By now we’ve all heard about what happened in Cyprus in the spring of 2013. The two largest Cypriot banks (Laiki Bank and Bank of Cyprus) gorged on Greek government bonds, hoping to profit from their higher yields. Management thought they were going to make a killing by locking in returns of 5% or 6%—more than double what most Eurozone government bonds were paying. When those bonds were crushed (yields spiked past 40%) by Greece’s sovereign debt crisis, the capital of the two banks, along with most of their depositors’ money, was wiped out. The Cypriot government couldn’t afford to bail out the two banks, and the EU wouldn’t bail them out because so much of the deposits were owed to non-EU Russians. What eventually took shape was a bankruptcy proceeding on horseback that became known as a “bail-in.” It was the depositors that got lassoed.

As usually is the case when financial facts catch up with psychological denial, it all happened on a weekend, on an otherwise ordinary Saturday morning, when bank managers were safely out of the office. On March 16th 2013, without warning (at least to those not part of the political elite), all Cypriot banks were shut, and all accounts were limited to small ATM withdrawals. Capital controls were imposed to prevent money from leaving the country. Cash-sniffing dogs (the less joyful but financially more serious cousins of drug-sniffing dogs) appeared for duty at seaports and airports.

Initially it was announced that all bank accounts would be subject to “an upfront one-off stability levy.” That would have been a theft, pure and simple, of customer deposits in sounder institutions (i.e., banks other than Laiki Bank or Bank of Cyprus) and a default on the implicit promise that accounts under €100,000 in every bank in the EU would be safe. The Cypriot government later backed down and announced that only accounts above €100,000 and only at the two troubled institutions would be bitten. In the end, every large account holder at the Bank of Cyprus lost 47.5% of his balance above €100,000, and those at Laiki Bank lost 100% of everything over €100,000.

The event destroyed confidence in Cyprus, and a crisis ensued.

The Real Story on the Ground

Given what has been said in the media about the bank deposit confiscations and capital controls, you might expect there would be street riots in Cyprus, as there have been in Greece. That’s just not the case, though. Perhaps the riots are still to come. The full bite of austerity hasn’t yet been felt, and unemployment is likely to increase. But for the time being, no riots.

While it is true some Cypriot individuals and business suffered in the banking fiasco, most Cypriots did not—which is why they aren’t rioting. The locals escaped direct harm because they generally kept their money in small, co-op banks that were not subject to the deposit haircut. Most depositors who got hurt at the two haircut banks, Laiki Bank and the Bank of Cyprus, were big-money foreigners, specifically Russians. Remarkably, despite being trimmed of billions of euros, the Russians have not abandoned Cyprus.

Gateway to the EU

As a (relatively) stable country in a tough neighborhood, Cyprus serves as an escape hatch for people from the neighboring countries of the Middle East and as a gateway to the EU, particularly for Russians. Before the crisis, Cyprus was Russia’s undisputed top offshore jurisdiction. It’s only a three hour flight from Moscow, and it offers convenient access to the EU markets and euro-based financial system.

Cyprus has no significant exports, at least for now.

In 2011, Houston-based Noble Energy discovered Aphrodite, a massive gas field about 100 miles south of Cyprus. Aphrodite is estimated to contain 5 to 8 trillion cubic feet of natural gas, worth tens of billions of dollars—enough to turn the cash-strapped island into an energy exporter.

But for now the economy is dominated by services (81% of GDP), namely tourism and financial services. Tourism lives off the island’s warm winters and beautiful beaches. The financial services industry business is a product of the historical factors mentioned below.

First, there are tax and regulatory advantages. The corporate tax rate used to be only 10%, the lowest in the Eurozone. After the crisis, the European Commission, the European Central Bank, and the International Monetary Fund (together known as the Troika) mandated that the corporate tax rate be increased to 12.5%, which is still the lowest in the Eurozone and matched only by Ireland.

Second, Cyprus has double-taxation treaties with 50 countries, which helped make it a popular place to domicile a company. These treaties are extremely attractive to sophisticated financial players in today’s highly taxed world.

Third, Cyprus has strong legal and accounting professions. This is a legacy of British colonial days, much as with the strong legal and financial institutions the British left behind in Hong Kong and Singapore. Cyprus is the only country in Europe besides the UK (and its possessions) and Ireland to have the British legal system (common law). Court cases decided in Britain have weight as precedent in Cypriot law.

This has helped Cyprus develop strong institutions and a rule of law. Many have credited the strong institutions for the speedy economic recovery from the 1974 invasion by Turkey. That being acknowledged, almost everyone we spoke with pointed out that the country is part of southern Europe, where rules can always be bent.

Fourth, unlike most countries of southern Europe and the eastern Mediterranean, almost everyone speaks English. This is a huge advantage, in that English is the world’s lingua franca and definitely the language of trade and finance.


Baron Rothschild may have been an unsavory character in many ways, but he was absolutely correct when he stated that “the time to buy is when blood is in the streets.” This statement perfectly captures the essence of crisis investing.

The Chinese symbol for crisis is actually a combination of two symbols: the symbol for danger and the symbol for opportunity. The danger is what everybody sees; the opportunity is never quite as obvious as the danger, but it’s always there.

Massive fortunes have been made throughout history with crisis investing, by which astute investors took advantage of the semi-hidden opportunities wrapped in an outward cloak of apparent danger in crisis markets.

It is how the Russian oligarchs became oligarchs in the first place. In the wake of the collapse of the Soviet Union, they were able to see through the evident danger to the enormous hidden opportunity that was present at the time. They had intestinal fortitude and bought when the blood was in the streets. They picked up some of the crown jewels of the Russian economy for literally pennies on the dollar and then went on to make fortunes.

Similar opportunities, albeit on different scales, are possible in other countries around the world today.

Case in point: Cyprus.

One important catalyst I recommend you keep an eye on is the relisting of the restructured Bank of Cyprus on the Cyprus Stock Exchange. The stock likely will start trading sometime in early 2014. This could be an excellent opportunity, since many ex-depositors are likely to “hit the bid” and be done with their misadventure. Owning a country’s premier bank—especially after it’s been chastised by a near-death experience—can be a profitable speculation.

For other specific stocks trading on the Cyprus Stock Exchange that would make for great speculations, and how to access them from your living room, I’d recommend that you check out a report I co-authored with legendary crisis investor Doug Casey. It’s titled Crisis Investing in Cyprus and you can learn more here.

Nick Giambruno recently co-authored a report with Doug Casey titled “Crisis Investing in Cyprus.” Nick has a long-held passion for internationalization. He has lived in Europe and worked in the Middle East. Nick is a CFA charterholder and holds a Bachelor’s Degree in Finance, summa cum laude. He is the Senior Editor at



Death and Taxes: How Inevitable Are They Really?

Guest Post By Dennis Miller – Death and Taxes: How Inevitable Are They Really?

With the advent of more and more anti-aging and life-extension R&D in the biotech field—a subject my colleague Alex Daley knows all about—death may not be as inevitable as we think. While I don’t believe that I will be among the lucky ones to reach a dainty 200, that feat may very well be achieved within this century. My wife and I have one grandson born in the late 1990s, and his life could span three centuries.

But I’m not here to talk about death today (though you could view the taxman as another kind of Grim Reaper, reaping what you have sowed).

Taxes clearly are one subject that gets folks’ blood pressure up. I got a note from a friend in Canada about a David Letterman top-ten list. This one hits home for a lot of us:

“Only in America … could the rich people—who pay 86% of all income taxes—be accused of not paying their ‘fair share’ by people who don’t pay any income taxes at all.”

What galls many of us is that we’re told it is not only our civic duty to pay up—but to pay up with a smile.

A close friend of mine who is a retired federal law enforcement official once clarified the situation this way: he took a sheet of paper, drew a line down the middle, and on the left side put a large capital A, and on the right side a large capital E. (A = Avoidance and E = Evasion.)

“A stands for Avoidance and E for Evasion,” he said. “As long as you’re on the left side of the page, you’re fine.”

Considering the trillions of dollars of taxpayer money that Washington and the Fed have generously distributed among their friends and cronies, I think legally minimizing your taxes—and taking advantage of all the avenues available—should be viewed as civic duty too.

Here’s my tax tip. When you read it, it sounds kind of “ho hum,” but the fact is that only 10% of people with a retirement account take advantage of it.

If it were up to me, I’d make everyone do it, because it can not only make a huge difference in your retirement planning, but also save you a lot in taxes for years to come.

The Easiest Way to Save Taxes

The youngest of the baby boomers are now completing 50 laps around the sun. They are also very aware that the kind of pension plans their parents and grandparents enjoyed are not in their future. In the 1970s, the private sector started to unravel its pension plans and move to a defined contribution plan, which effectively shifts the burden of retirement back to the employee.

Recently, Newsmax ran an article listing the top ten cities with the lowest funding of their pension plans. Government pension plans are soon to follow the path of the private sector; and here, too, the burden of responsibility will rest with the employee. While no one can predict the future 15-20 years down the road, counting on Social Security or a government pension waiting for you in the form it exists in today is a huge risk.

That’s why you should take advantage now of the best plans available to save money and taxes. There are different types: IRA, 401(k), 403(b), SEP-IRA—pick your flavor, but the premise is similar for all of them: Save money for your retirement now, and you have a great tax incentive to do so.

Let’s look at two of the simple ones. With a traditional IRA, you can contribute $5,500 per year (meaning put the money away and save it). If you’re over 50, you can make a catch-up contribution and bump the amount to $6,500. This is assuming you meet the income qualifications and do not have an employer plan. Check with your CPA for the fine print.

If your employer offers a 401(k) plan, you may contribute up to $17,500 per year. Once again, if you’re a baby boomer age 50 or older, you can add $5,500 for a maximum contribution of $23,000. Again, check with your CPA for the details.

I’m going to make some conservative assumptions. Tom Smith turned 50 this year and is in the 28% marginal tax bracket. If he has a traditional IRA and maximizes his contribution, he’ll save $6,500. That will reduce his 2013 income tax bill by $1,820, so the true out-of-pocket amount is just $4,680. That is less than 5% of his total gross income.

Leaving inflation out of the picture for now, let’s assume Tom does this until age 68, investing his money and earning a modest 5%. How much will he accumulate?

His accumulated savings will grow to $176,000, and the catch-up contribution adds an additional $32,000. Tom doesn’t have to take money out until he’s in his 70s, when he has a required minimum distribution, so he can continue to allow it to compound and grow. At that time, if he’s no longer working full time, he hopes to be in a lower tax bracket than he was in his peak earning years.

Now let’s do the same thing for Tom if he has a 401(k) plan and saves $23,000. He now reduces his 2013 income taxes by $6,440.

Over the 19 years that he’d be putting the money into his 401(k), Tom invests a total of $437,000 that, at a 5% annual interest rate, grows into $738,000 when he turns 68.

If Tom works for the government, he should look into a similar plan for government employees called a “457 plan.” The sooner he starts saving, the better.

This is just the foundation. Many companies have some sort of employer-matching provisions. If an employer matches any part of your savings, it’s on top of your salary, so it’s free money—you just gave yourself a nice raise.

I get many emails from subscribers reminding me that times are tough and they have bills to pay. I understand that fully; the state of the US economy is affecting all of us, regardless of our age. If you can’t maximize your contribution today, don’t get frustrated: just keep increasing your savings each year, and it will make a world of difference.

Go to the first graph and look at the $1,000 catch-up contribution for Tom this way. If you’re in the same situation as Tom, for each additional $1,000 you can save, you’ll reduce this year’s taxes by $280 and will have an additional $32,000 waiting for you when you’re ready to retire and have fun doing the things on your bucket list.

It’s your responsibility to save so you can enjoy a good standard of living in your retirement.

What I just described is one easy way that anyone can take advantage of and which helps you accumulate a good-sized nest egg. The more you save, the lower your tax bill.

(If you’re among those who think they should not only pay their taxes with a smile but add some extra to help out poor Mr. Obama, there is a website where you can donate to the government—send $5 and sleep tight in the knowledge that you made this country a better place.)

I’m not kidding: According to Yahoo, in 2009 the federal government received over $3 million in voluntary contributions. We know they’ll spend it wisely…

Pay the taxes you owe and no more. Don’t listen to the “fair share” people who want your hard-earned money; you’re part of the working class. When you get to the end of the line, you’ll be independent and won’t have to worry about being a burden on your family or the government. Everyone wins!

There are a number of ways you can increase the amount you save each year. In the case of a traditional IRA, if it isn’t as big as you would like (compared to the total value of all your investments), there is a way to increase its size by it effectively absorbing assets you already own. You can learn how to do just that in our Yield Book special report.

There’s much more valuable information for you in The Yield Book, including annuities, how to legally shelter interest income, four things you must look at before buying any dividend-paying stock and much more.

With The Yield Book, you’ll be armed with a variety of strategies that will help you make far more yield than you can with typical investments. Click here to download your copy of The Yield Book today.



Part III – The Four Biggest Mistakes by Traders: Failing to Control Risk

By Chris Vermeulen –

This is part three of a five part series of the four biggest mistakes traders and investors make which costs them time, money and usually self-confidence when trading stocks, ETF’s or futures trading strategies.

The Four Biggest Mistakes

1. Lack Of A Trading Plan

2. Using Too Much Leverage

3. Failure to Control Risk

4. Lack Of Self-Discipline


Mistake #3 – Failing to Control Risk

If you were to engage in something risky like skydiving, you or a team would check your parachute to be sure its packed properly, strapped on to your body correctly before you jumped out of the plane. If for some reason you were not told how to use the gear, like when to pull the ripcord etc… I guarantee you would ask them before you threw your body out of the plane.  There is a real fear of dying so you naturally make sure you are in control of what you are about to do so your risk is managed and live another day.

But when it comes to trading this is not the case and you and I both know a good part of why. We all know people who have said rude things, quit jobs or broken up with a girlfriend or boy friend over the internet (email/text message). Let’s face it, it’s easy to be brave online and do things we would never really do in person. Heck, some of the emails I get from readers of my free weekly articles I post are so rude and some are threatening that all I can do is laugh. Because I know these people would likely never say the things they did to someone they have never met, and do it to their face all because they think my FREE short term market prediction does not fit their bias. I think you get the point here…

So when it comes to trading individuals get this what I call “Online Courage” and this is why so many fail to protect their capital when trading. They simply don’t see their money so it does not feel at risk (out of sight is out of mind). This lack of fear is what leads to loss of risk control.

How to Avoid Mistake #3

There area few things that can and should be done to control your overall risk when trading. The first one is diversification. Not having all your trading capital in one investment allows you to spread your risk between other investments with low correlation, meaning if one of your positions move down, another one should be moving up in your favor.

The second is diversification between time-frames. Having multiple positions based on different time frames can provide an overall lower volatility in your portfolio. For example you could be long the daily chart for a swing trade that should last a couple weeks, and you may be short the 60 minute chart because you expect a shot term pullback. Time diversification is overlooked by many traders.

Third is through position sizing. It’s better to have a few smaller positions spread captial over various investments than it is to have one position in only one investment (eggs all in one basket).

And finally the last and one of the most important is the stop loss. They are commonly referred to as money management stops. They are not used to increase your positions performance. Instead they are there to protect you from unnecessary loss if the market moves against your position. Keep in mind when I say protective stop, I dont mean a mental stop (one floating around in your head) I mean a read stop loss order that is live in the market. Risk control should never be an option, it’s a MUST!

In short, risk control will not single handily allow you to beat and profit from the market. But without managing your risk you have no hope of winning in this industry. The key is to stay in the game long enough to start seeing gains and allowing your money to compound over time for above average returns.

Controlling risk is in each trade that is taken with my subscribers at ETF Trading Strategies are something I always provide. Consider joining the newsletter today and start trading with confidence.

Also stay tuned for the next part in this series Lack Of Self-Discipline!

Chris Vermeulen



Time to buy out of favor ETF’s for 2014?

Time to buy out of favor ETF’s for 2014?David A. Banister-

The best time to buy cheap is when you are afraid to bring up your ideas around the water cooler at work for fear of the peer laughter. Our work centers on looking for oversold conditions and crowd behavioral anomalies that can give us better low risk entries with good upside potential. A combination of fundamentals and technical, combined with Elliott Wave Theory patterns can lead to nice profits with low risk.
For just a few quick ideas that would make sense in this area, we point out 3 ETF’s that you could look at entering now as they are way out of favor and very oversold.

Gold Stocks: GDXJ

The Junior Miners index is high risk, high reward. However, if you time the entry right at the opportune moment the upside is very high with low downside risk. With GOLD out of favor, we have been pounding the table the last 10 days or so that there are only 4-5 weeks left to buy quality miner names. Instead of picking through them one at a time, you can pick up the high beta play GDJX ETF.


How about Brazil?
Everyone hates Brazil stocks now, but they have some of the most valuable natural resources in the world, and Brazil almost always bounces back strong off bear cycle lows. Here is a way to play the commodity rebound we see in 2014: EWZ ETF



It’s not too late to eat some Turkey:
The country TURKEY also often is a very volatile play to invest, but going in during very oversold conditions often plays out to the upside for gains later on. ETF TUR is beat up, it’s time to buy.



Join us at to use crowd behavioral dynamics, fundamentals, and technical’s to smash the market. Check out our track record online and sign up today!


(Join Before Jan 1st and Get Both Our Stock And ETF trade alerts for one low price!)



A Six-Pack of Last-Minute Buys


I don’t know about you. But I’m all about starting 2014 off on a profitable note.

So forget about simply counting our profits as we coast into the New Year. It’s time to set ourselves up for even more.

How so?

We’re going to exploit a seasonal market opportunity. One that strategists at Barclays just confirmed provided “average excess returns” in the month of January… for 10 years running!

The only catch is, we have to act on this information in the next few days.

As you’ll see in a moment, the incentive to do so is bigger than it’s been in nearly a decade.

A Record Year for Profits

With one trading day left in 2013, the S&P 500 Index is up an impressive 29%.

The rising tide certainly lifted almost all boats, too. According to the tally from Bespoke Investment Group, 452 stocks in the Index are in positive territory for the year.

That’s the good news. Now for the bad news…

Come April 15, 2014, investors will have to pay dearly for all those profits in the form of capital gains taxes. Much more so than in years past, too, since the capital gains tax rate jumped to 23.8% for the highest earners.

Ironically, that’s where our opportunity comes in…

Over the last few weeks, at the behest of their advisors, many investors have been “harvesting” losses. That is, they’ve been dumping shares of the losers in their portfolios to offset their capital gains – and, in turn, reduce their tax liability.

What’s more, this is occurring without any regard for individual company fundamentals.

If the stocks are down for the year, no matter how bright the prospects are for 2014, they’re being kicked to the curb.

The good news is, this indiscriminate selling naturally leads to artificially depressed prices (i.e., bargains), particularly in small-cap companies.

The bargains don’t last, though.

Multiple studies confirm that undervalued, small-cap companies perform best in January. The phenomenon is commonly referred to as the January effect.

As I mentioned before, Barclays found that these stocks handed investors an extra 2.4% in profits in January alone.

Meanwhile, MarketWatch’s Mark Hulbert found that the smallest 10% of stocks averaged a 7.9% return in January.

But in 2014, I expect the January effect to be even more pronounced. Here’s why…

A Rare Double Whammy

With so few stocks down this year, tax-loss selling opportunities are scarce.

Translation: The stage is set for “a double whammy for the stocks that the rally left behind,” according to Stifel Nicolaus’ Dave Lutz.

They’ll be sold off more. And that means they’ll bounce back more, too.

It won’t happen immediately, of course.

Tax laws – specifically the wash-sale rule – prevent investors from claiming the loss on the sale of a stock if they repurchase it within 30 days.

However, large institutions often start deploying capital aggressively at the beginning of the year. That means beaten-down small caps from last year tend to rally within the first few weeks of January.

So what small-cap stocks hold the most upside potential for January 2014?

I’m going to hold off until tomorrow to reveal their identities. That way, we can be sure the tax-loss selling is done. Stay tuned.

And get some capital ready! When the market opens at 9:30 AM on January 2, you’ll need to be ready to pull the trigger!

Ahead of the tape,

Louis Basenese

The post A Six-Pack of Last-Minute Buys appeared first on Wall Street Daily.

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Original Article: A Six-Pack of Last-Minute Buys

USD/JPY News for Forex Traders

By HY Markets Forex Blog

Those who trade forex might benefit from knowing that the USD/JPY pair reached its highest value in five years on Dec. 26, and then ticked up slightly on the following day, as global market participants responded to speculation surrounding the future policy moves of the Japanese government and its central bank.

On the first day, the dollar rose to as much as 104.84 yen, according to Bloomberg. This represented the highest value for the USD/JPY pair since October 2008. On the next day, the currency pair rose to 105.08, Reuters reported.

USD/JPY lingers at five-year high
The dollar kept rising against the yen at a time when many market experts believe that the Bank of Japan will soon have to take further action to utilize policy to stimulate the economy, since a sales tax will be implemented in April and there is speculation that the country’s inflation will reach a high point in the near future, according to the news source.

Any policies involving monetary easing will simply add to the actions that the BOJ has taken to stimulate an increase in the Asian nation’s price level, the media outlet reported. The financial institution has been harnessing robust stimulus in an effort to jumpstart the economy of the country and help fend off deflation, according to Bloomberg.

Alternatively, the Federal Reserve announced at the conclusion of a recent policy meeting its plans to reduce stimulus. At the end of this event, it was indicated that starting in January 2013, the central bank will purchase $75 billion worth of debt-based securities every month. This amount is slightly lower than the $85 billion per month that the Fed has been purchasing since 2012.

While this central bank has indicated its plans to lower its stimulus, the BOJ purchases 7 trillion yen ($67 billion) worth of bonds every month to increase the money supply and put upward pressure on the price level, the media outlet reported.

“The fact that BOJ members are concerned that improvement in growth, jobs, and consumer prices may not be as robust as before signals they will take some kind of measures going forward,” Takahiro Sekido, who was previously employed by the BOJ and now works for Bank of Tokyo-Mitsubishi UFJ Ltd. as a Japan strategist, told the news source. “Dollar-yen could test 105 as economic data in the U.S. continue to improve.”

Amid the continued efforts of this financial institution, the dollar was most recently on track to record its ninth straight weekly loss against the yen, Reuters reported. In the event that the most recent period ends up being another one where the greenback appreciates relative to the Japanese currency, it will be the longest streak of such gains since 1974.

Impact of government bonds
Another factor that could help motivate those who trade forex to seek out the dollar instead of the yen is the higher yields that are being paid by U.S. government bonds when compared to debt-based financial instruments being issued by Japan, according to Reuters.

At the time of report, 10-year bonds issued by the government of the Asian nation were only paying a yield of 71 basis points, which is far below that of the U.S. debt-based securities, the media outlet reported. If the Fed continues to reduce its monthly bond purchases, this development could help make the gap between the yields of the financial instruments issued by the governments of the two nations larger. One person who noted the key role that the bond yields play in the USD/JPY was Chris Weston, chief market strategist at IG in Melbourne.

“USD/JPY continues to move towards my long held year-end target of 105.00 and is clearly getting a helping hand by the fact that the U.S. 10-year treasury is at 2.99 percent and testing the September high of 3 percent,” he stated, according to the news source.

The Fed will need to have favorable economic data in order to keep reducing its bond purchases, and it received one more piece of information that would seemingly motivate it to lower these transactions when the U.S. Labor Department released a report indicating that during the week ending on Dec. 21, the number of jobless claims dropped by a large figure that surpassed expectations, Bloomberg reported.

The median forecast of economists who took part in a poll conducted by the media outlet was for the number of these weekly applications for unemployment benefits to decline to 345,000. However, the data provided by the government agency revealed that 338,000 of these claims were made during the period.

This most recent data was supplied after the Labor Department released a report earlier in December indicating that job growth was strong in November. Data provided by the government agency revealed that during the month, the unemployment rate declined to 7 percent from 7.3 percent and payrolls rose by more than 200,000. This data might be helpful to those who trade forex.

The post USD/JPY News for Forex Traders appeared first on | HY Markets Official blog.

Article provided by HY Markets Forex Blog

Ichimoku Cloud Analysis 31.12.2013 (GBP/USD, GOLD)

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Analysis for December 31st, 2013


GBPUSD, Time Frame D. Tenkan-Sen and Kijun-Sen are still influenced by “Golden Cross” (1); Tenkan-Sen and Senkou Span A are directed upwards, other lines are horizontal. Ichimoku Cloud is going up (2), Chinkou Lagging Span is above the chart, and the price is above the lines. Short‑term forecast: we can expect support from Tenkan-Sen and ascending movement of the price.

GBPUSD, Time Frame H4. Tenkan-Sen and Kijun-Sen are directed downwards. Ichimoku Cloud is going up (2) and the price is on Tenkan-Sen. Short‑term forecast: we can expect decline of the price up to support from Kijun-Sen – D Tenkan-Sen.


XAUUSD, Time Frame D. Tenkan-Sen and Kijun-Sen are influenced by “Dead Cross” (1); Tenkan-Sen and Senkou Span A are directed downwards, other lines are horizontal. Ichimoku Cloud is going down (2), Chinkou Lagging Span is below the chart, and the price is below the lines.  Short‑term forecast: we can expect decline of the price.

XAUUSD, Time Frame H4. Tenkan-Sen and Kijun-Sen are close to each other, they may intersect and form “Dead Cross” (1); Tenkan-Sen and Senkou Span A are directed downwards. Ichimoku Cloud is going down (2) and the price is below the lines. Short‑term forecast: we can expect resistance from Senkou Span A and decline of the price.

RoboForex Analytical Department

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Forecasts presented in this section only reflect the author’s private opinion and should not be considered as guidance for trading. RoboForex LP bears no responsibility for trading results based on trading recommendations described in these analytical reviews.