Billionaire investor George Soros said U.S. commercial real estate will probably drop at least 30 percent in value, causing further strains on banks.
“Commercial real estate has not yet fallen in value,” Soros, 78, speaking at a forum in Washington, said. “It is inevitable, it is written, everybody knows it, there are already some transactions which reflect and anticipate it, so we know, they will drop at least 30 percent.”
Soros said the risk of further declines in property prices is reason for the administration of President Barack Obama to move quickly to recapitalize banks. Soros said Obama acted too slowly on a banking overhaul and should have moved immediately upon taking office.
“At that moment of enthusiasm, fresh out of the gate, he would have gotten that money, and then we could have recapitalized the banks the right way, which would be to draw a line over the existing past accumulated bad assets and create new banks on top of these old banks,” Soros said.
Soros also said that the U.S. may face a new round of inflation should the flow of credit recover because of the large increase in the money supply stemming from the Federal Reserve’s purchases of Treasury securities.
“In order to make up for the collapse of credit, we are effectively creating money,” Soros said. That creates “an incredibly swollen monetary base, which, if it were leveraged, you would have an explosion of inflation.”
The U.S. risks sending the world into a depression as its bailouts of failed companies rob healthy businesses of capital, investor Jim Rogers said.
“The U.S. is taking assets from competent people and giving them to incompetent people,” said Rogers, chairman of Singapore-based Rogers Holdings and the author of books including “Investment Biker” and “Adventure Capitalist.” “That’s bad economics.”
The U.S. government should let American International Group Inc., whose fourth-quarter loss was the worst in corporate history, go bankrupt, Rogers added in a Bloomberg Television interview today. Congress approved a $700 billion bank bailout package in October, and President Barack Obama’s administration has suggested it may need an additional $750 billion.
The U.S. is repeating the mistakes made by Japan in the 1990s and risks creating “zombie banks” by rescuing failed financial services companies that should have been allowed to go under, Rogers said.
New York-based AIG has received $173 billion in government aid, and had earmarked $1 billion in retention pay for about 4,600 of the company’s 116,000 employees so they won’t leave.
The Treasury this week intends to provide more information about a $1 trillion plan to remove distressed mortgage assets from banks’ balance sheets. The Federal Reserve is also scheduled this week to start the first phase of a $1 trillion program to revive the market for securities backed by consumer and business loans.
Oil Prices
Oil prices may rise to record levels in the future because of depleting reserves and a lack of major field discoveries, Rogers said. Crude oil in New York hit a record $147.27 a barrel in July and traded at $46.98 at 12:13 p.m.Singapore time.
“Reserves of oil are going down all over the world,” Rogers said. “The price of oil has to go much, much higher. I don’t know if the oil price will go up to record level in three years or five years. I don’t know when but I know it is.”
People should be prepared for inflation as governments worldwide are printing money to prop up economies at a time when commodities supply is under pressure, Rogers said.
“We’re going to have serious, serious inflation down the road,” said Rogers, who owns gold and silver. “I wish I knew when.”
Calls to return to the gold standard, when currencies were backed by bullion owned by governments, are flawed because it is “not going to solve our problems,” he also said.
Something that gold investors often fail to realize is that the aboveground supply of gold can increase just as fast as – or much faster than – the supply of money. This is an important part of why the view of gold as a “solid currency” is a fallacy.
Gold inventories are currently the highest they've been in the history of the world. And throughout the twenty-year bear market in base metals, gold exploration skyrocketed. Even in 2003, 75% of mining exploration was allocated to gold, up from 50% only three years earlier.
I do not have the current CRB Commodity Yearbook figures, but it is without a doubt that gold exploration has dramatically increased since then, with new mines coming on stream, in response to high market prices.
In other words, the supply of gold is huge and expanding, especially relative to that of every other commodity. And since gold is an element, it cannot be destroyed. Compare this with a commodity such as crude oil, which gets used up and can't be renewed.
As you can see, production skyrocketed after 1980, even when prices went into a multi-decade bear market. The current numbers are probably substantially higher than what is reported there, possibly going right through the top of the chart, in response to such high market prices.
As for the demand side, the demand for gold used in jewelry – the commodity's staple use – is so small that the CRB Commodity Yearbook doesn't even bother to report the figures anymore. All demand for gold has been falling – except for use by financial speculators.
I have no idea where the gold price will go, but with the market at a thirty-year high, today's buyers have no margin of safety. And in terms of supply and demand, I can hardly see why gold investors would be concerned about the money supply: unlike the supply of gold, the money supply has not increased by several hundred percent.
If we look at M2, the monetary aggregate used to forecast inflation, it has only expanded by about 10% from where it was a year ago:
Individual money market accounts are included in M2, but wider measures of the money market – like commercial paper and repurchase agreements – are included in M3.
The Fed discontinued its reporting for most of the components of this latter aggregate, but my guess is that the extreme stress in the credit markets probably would have shown M3 sharply contracting, hence the need for a massive liquidity injection.
While the Federal Reserve can print money, so can the giant mining companies ramp up gold exploration and production. And the facts show that the latter have been much more successful in supplying the market.
While this may be a vote of confidence for the free enterprise system, it presents an ugly picture for today's buyers of gold.
Talk about an absolutely killer case of stagflation.
…
MENDOTA, Calif. — The country’s biggest agricultural engine, California’s sprawling Central Valley, is being battered by the recession like farmland most everywhere. But in an unlucky strike of nature, the downturn is being deepened by a severe drought that threatens to drive up joblessness, increase food prices and cripple farms and towns.
Across the valley, towns are already seeing some of the worst unemployment in the country, with rates three and four times the national average, as well as reported increases in all manner of social ills: drug use, excessive drinking and rises in hunger and domestic violence.
With fewer checks to cash, even check-cashing businesses have failed, as have thrift stores, ice cream parlors and hardware shops. The state has put the 2008 drought losses at more than $300 million, and economists predict that this year’s losses could swell past $2 billion, with as many as 80,000 jobs lost.
“People are saying, ‘Are you a third world country?’ ” said Robert Silva, the mayor of Mendota, which has a 35 percent unemployment rate, up from the more typical seasonal average of about 20 percent. “My community is dying on the vine.”
Even as rains have washed across some of the state this month, greening some arid rangeland, agriculture officials say the lack of rain and the prospect of minimal state and federal water supplies have already led many farmers to fallow fields and retreat into survival mode with low-maintenance and low-labor crops.
Last year, during the second year of the drought, more than 100,000 acres of the 4.7 million in the valley were left unplanted, and experts predict that number could soar to nearly 850,000 acres this year.
All of which could mean shorter supplies and higher prices in produce aisles — California is the nation’s biggest producer of tomatoes, almonds, avocados, grapes, artichokes, onions, lettuce, olives and dozens of other crops — and increased desperation for people like Agustin Martinez, a 20-year veteran of the fields who generally makes $8 an hour picking fruit and pruning.
“If I don’t have work, I don’t live,” said Mr. Martinez, a 39-year-old father of three who was waiting in a food line in Selma, southeast of Fresno. “And all the work is gone.”
In Mendota, the self-described cantaloupe center of the world, a walk through town reveals young men in cowboy hats loitering, awaiting the vans that take workers to the fields. None arrive.
The city’s main drag has a few quiet businesses — a boxing gym, a liquor store — and tellingly, two busy pool halls. The owner of one hall, Joseph R. Riofrio, said that his family had also long owned a grocery and check-cashing business in town, but that he had just converted to renting movies, figuring that people would rather stay at home in hard times.
“We’re not going to give up,” Mr. Riofrio said. “But people are doing bad.”
Just down the highway in Firebaugh, José A. Ramírez, the city manager, said a half-dozen businesses in its commercial core had closed, decimating the tax base and leaving him to “tell the Little League they’d have to paint their own lines” on the local diamond.
The situation is particularly acute in towns along the valley’s western side, where farmers learned on Friday that federal officials anticipate a “zero allocation” of water from the Central Valley Project, the huge New Deal system of canals and reservoirs that irrigates three million acres of farmland. If the estimate holds and springtime remains dry, it would be first time ever that farmers faced a season-long cutoff from federal waters.
“Farmers are very resilient, we make things happen, but we’ve never had a zero allocation,” said Stephen Patricio, president of Westside Produce, a melon handler and harvester. “And I might not be very good at math, but zero means zero.”
While California has suffered severe dry spells before, including a three-year stint ending in 1977 and a five-year drought in the late ’80s and early ’90s, the ill effects now are compounded by the recession and other factors.
Federal, state and local officials paint a grim picture of a system taxed as it has never been before by a growing population, environmental concerns and a labyrinth of water supply contracts and agreements, some dating to the early 20th century. In addition to the federal water supplies, farmers can irrigate with water provided by the state authorities, drawn from wells and bought or transferred from other farmers. Such water may not always be the best quality, said Mark Borba, a fourth-generation farmer in Huron, Calif.
“But it’s wet,” he said.
Richard Howitt, the chairman of the agricultural and resource economics department at the University of California, Davis, estimates that 60,000 to 80,000 jobs could be lost — including in ancillary businesses — and that as much as $2.2 billion in crop and other losses could be caused by restrictions on water and the drought, which he called “hydrologically as bad as 1977 and economically as bad as 1991.”
“You’re talking about field workers, processing handlers, people packing melons, trucking hay, sprayers, people selling tractors, people selling lunches to people selling tractors,” Mr. Howitt said. “And in some of these small west-side towns, it’s going to hit the people who are least able to adapt to it.”
One of the hardest hit areas is the farmland served by the Westlands Water District, which receives water exclusively from the Central Valley Project and distributes it to 600,000 acres in Fresno and KingsCounties. Sarah Woolf, a spokeswoman for the district, said that her 700 members expected to leave 300,000 to 400,000 acres fallow and that some might not come back to farm at all.
“Everyone’s trying to go down fighting,” Ms. Woolf said. “But there will be significant companies that will go out of business, as well as families that have been farming for generations, if it doesn’t get better.”
The outlook for things getting better quickly is dim, despite forecasts of rain this week. Last month, California officials estimated the snowpack in the Sierra, a primary source of water for the state when it melts in the spring, at 61 percent of normal. On Friday, the State Department of Water Resources said it would deliver just 15 percent of its promised contracts, a level it was able to maintain only because of the recent spate of rain. “It’s pathetic,” said Lester A. Snow, the department’s director.
Lynette Wirth, a spokeswoman for the United States Bureau of Reclamation, said water levels in all federally managed reservoirs in California were well below normal, with “abysmal” carryover from the previous year.
“There’s been no meaningful precipitation since last March,” Ms. Wirth said.
Farmers, of course, are also dealing with issues unrelated to rain, including tight credit from banks and recent court decisions meant to protect fish that have limited the transfer of water through the Sacramento-San Joaquin Delta, which feeds snowmelt to farmbound canals. Many farmers refer to a “man-made drought” caused by restrictions.
At the same time, environmental groups say they also fear a range of potential problems, including depletion of the valley aquifer from well pumping, possible dust-bowl conditions in areas of large patches of fallow ground and concern about salmon and other species. “It’s a tough year for the environment, and people,” said Doug Obegi, a lawyer with the Natural Resources Defense Council.
George Soros’ $21 billion fund returned 8% last year, which is incredible not only in light of the global crisis, but also given his fund’s size. As you can see, Soros is now betting big on oil and agriculture, outside of the United States.
Soros Fund Management LLC bought 16 million shares of the Petrobras’ U.S. traded shares, bringing its stake to 1.45 percent, according to a filing yesterday with the U.S. Securities and Exchange Commission. The New York-based firm increased its holdings in Potash by 2.6 million shares to 2 percent in the fourth quarter. Petrobras and Potash are now the firm’s two biggest reported U.S. stocks.
“As long as you see through the current crisis there are a few compelling reasons to buy,” Hernan Ladeuix, the head of oil and gas research at CLSA Ltd. in Singapore, said in an e-mail. “Oil prices should go up, probably strongly in coming years. Petrobras is the only large international company where you can have confidence that production can grow 5 percent per annum.”
The purchases made Soros the second-biggest shareholder in the U.S.-traded shares of Petrobras, Brazil’s state-controlled oil company. Petrobras preferred shares fell 5.4 percent in Sao Paulo yesterday, the most since Jan. 12, driven by a drop in oil prices to below $35 a barrel.
Potash, the biggest maker of crop nutrients, also fell by the most since Jan. 12, declining 7.4 percent yesterday. Soros Fund is the eighth-biggest holder in shares of the Saskatoon, Saskatchewan-based company.
Best Buy, Wal-Mart
Soros Fund added 9 million shares of Best Buy Co., bringing its stake to 2.3 percent of the electronics retailer. The firm also started a new position in Desarrolladora Homex SA de C.V., the Mexican homebuilder, bringing its holdings to 4.9 percent of U.S.-traded shares, according to data compiled by Bloomberg. The firm bought 5 million shares of R.R. Donnelley & Sons Co.,North America’s largest printer, representing a 2.4 percent stake.
Soros’s hedge-fund firm sold 3 million shares of Wal-Mart Inc., bringing its stake in the discount retailer to 0.01 percent. The firm also sold all of its 2 million shares in Research In Motion Ltd., the maker of the Blackberry phone.
Money managers who oversee more than $100 million of equities or more must file, within 45 days of the end of each quarter, a Form 13F with the SEC that lists their U.S. exchange- traded stocks, options and convertible bonds. The filings don’t show non-U.S. securities or how much cash the firms hold.
Soros’s firm oversees $21 billion. Its Quantum Endowment Fund returned 8 percent last year. That compared with an average loss of 18 percent by hedge funds, according to data compiled by Hedge Fund Research Inc. of Chicago.
"Buffett agreed to buy a combined $750 million in debt from wallboard manufacturer USG Corp., motorcycle-maker Harley- Davidson Inc. and Sealed Air Corp., the maker of Bubble Wrap shipping products, in the past three months paying between 10 and 15 percent.
"Buffett also agreed in September and October to spend $8 billion on preferred shares of General Electric Co. and Goldman Sachs Group Inc. that pay 10 percent annual interest. This month, he agreed to buy convertible notes from Swiss Reinsurance Co. worth 3 billion Swiss francs ($2.6 billion) that pay 12 percent annually."
While Buffett’s bond investments might be mandated because he is using insurance float, it stands to reason that if he was overly concerned about very high rates of inflation, he would not be doing most of these transactions.
If Buffett was concerned about high inflation or a deteriorating dollar, he would simply do what he did before: forget about yield and invest in foreign currencies. For example, he could simply buy yen forwards or yen bonds if he thought the U.S. currency faced imminent destruction.
Granted, Buffett’s recent Swiss Re position has this dollar-hedge effect. But if Buffett expected hyperinflation, he would be making very different investments. He would be investing in hard assets or securities related to them.
With high domestic inflation, anything interest-bearing or financial is rat poison – yet Buffett has been investing heavily in dollar-based, fixed-income securities. Evidently he isn’t overly concerned about high inflation.
After thinking this morning about commodities and inflationary prospects, I watched a Jim Rogers interview from 1995, which I have included below. You will have to fast forward a bit, because he appears toward the end. Here are a few of his predictions from 1995:
“Next year and the year after, I don’t think we’re going to have good times in the American stock market.”
“Inflation is coming.”
“Commodity prices are going through the roof.”
Best country to invest in right now: “Iran.”
“Everything in life comes down to timing.”
Well, it looks as if Jim's timing was profoundly wrong.
In fact, much of this flies in the face of what he said in Hot Commodities, published a decade later, which was to the effect of “if you went through the 1990s and didn't touch shares in technology companies then you missed out on massive gains," essentially meaning that it was a mistake caused by not being open to new things.
But, as you can see, he was saying the exact same stuff back then as he is today. And he certainly wasn't talking about technology.
Anyone who continues saying that inflation will come or commodities will rise is bound to be proven right at some point. This not to single out Rogers as being wrong, but to emphasize my stance on how difficult it is to predict macro events – unless, that is, you only have one perennial prediction.
What history shows is that, aside from short-term macro shocks, the best asset class to own, by far, is stocks. And if you can buy those stocks at depressed prices or in periods of intense fear, then your total return can be magnified significantly.
Land, labor, capital and commodities are combined to create businesses that increase productivity. And while any one of those factors may become relatively attractive during a boom, owning excellent businesses – or fractional interests, called stocks – is the best investment over the long haul.
Keynes predicted that the great financial fortunes – paper fortunes, such as the Rothschilds in his day – would be destroyed by long-run inflation. Clearly, this has not happened.
Quite the contrary: the countries with the most developed financial systems have always been the most prosperous, whether the Medicis in Renaissance Italy, the Rothschilds in 19th-century London, or today's commanding skyscraper in Lower Manhattan that reads, simply: "85".
Thus, while the gloom and doom is persuasive nowadays, I remain highly skeptical that the world – financial or otherwise – is coming to an end. I lean more towards John Paulson's prediction that massive returns will accrue to buyers of solid, yet beaten-down financial stocks, as the smoke clears and we emerge from this crisis.
David Einhorn is now buying gold, the yen, and calls on long-term interest rates. In fact, he sounds a lot like Jim Rogers nowadays – the Fed is going to debase the currency, Ben Bernanke is obsessed with money printing, and so on.
But there are a couple of problems with this line of reasoning.
First, it’s not at all what we’re seeing. The risk of a depression is higher than the risk of hyperinflation, at least right now, so to a large degree the Federal Reserve is doing the right thing. They contracted the money supply and didn’t support banks after 1929, and the result is well known.
Second, gold is a horrendous investment under all other scenarios except for high inflation. The supply of gold is massive – there is more gold available now than ever before in history – and demand has dwindled to basically nothing more than use as an inflation hedge. It is one of the most inferior commodities in terms of fundamentals. If inflation does not occur as predicted, you have no margin of safety. You are left holding a nonproductive lump of metal. In buying gold at current prices, roughly the highest in thirty years, there is not much room for error.
Yet it sounds much more reasonable to tell your investors that you’re holding gold, as opposed to sugar futures or lead futures or whatever else. The fact is that Einhorn’s investors may be better served if he simply held the Rogers Index instead.
Third, higher inflation appears to be turning into a consensus view, and the consensus view is rarely correct. You have to question why investors like Einhorn would even get into these big macro questions, and what competitive advantage they have there.
Incidentally, here are some of my views on inflation. I have held similar views to what Einhorn is currently expressing, since early 2006. But now I am playing the devil’s advocate even with my own reasoning.
The interest rate trade definitely makes sense: coming out of this crisis, rates must rise. Moreover, the yen will continue to strengthen as the carry trade continues to unwind; but it seems that Einhorn is a little late to this party as well, as the yen was probably a better trade in 2008 than it will be in 2009.
I am with Buffett in saying that you’re going to do a lot better with picking great businesses than you will in trading macro events. The latter are just way too difficult to predict.
This is far and away the best primer and concise presentation on the agricultural commodities market that I've seen, given at my alma mater, Cornell University. This is crucial viewing for anyone who is interested agricultural commodities investment; and in fact investment in any commodity, whether crude oil or even gold. The professor essentially breaks down the anatomy of a bull market. Absolutely fascinating.
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