Dubai Request for Debt 'Standstill' Raises Fear

I was originally going to blog about an article about an Economist article on interest rates and monetary policy or something about the fiscal deficit.

But that’s nowhere near the most interesting news story for today, and quite possibly for the next week or next few months.

“DUBAI, United Arab Emirates (AP) -- Just a year after the global downturn derailed Dubai's explosive growth, the city is now so swamped in debt that it's asking for a six-month reprieve on paying its bills -- causing a drop on world markets Thursday and raising questions about Dubai's reputation as a magnet for international investment…Dubai World, would ask creditors for a "standstill" on paying back its $60 billion debt until at least May.”

Link to Article

Another bubble finally dropping the ball. Inherently connected to the original sub-prime “crisis”. And very much related to the U.S. commercial real estate problems that I’ve been discussing in my previous posts. It’s all in the same realm. Countries that have relied on cheap credit to finance the past real estate boom such as the U.S., Dubai, and Spain are all currently in trouble. And countries that have relied on those countries are also in trouble, which means quite a lot of countries.

Investors hate uncertainty. And this extremely vague announcement from Dubai just upped the uncertainty in the stock markets (obviously including the bond markets). And don’t think just because it’s so far away in Dubai that it won’t affect the international markets.

Expect some violent swings coming soon to a stock market near you.

Commercial Real Estate ‘Crisis’ Looming for U.S.: Chart of Day

So lately, I’ve been getting bored of the consistent banter by the media about gold’s rise, despite being quite bullish on gold myself. The bubble is definitely starting to foam – easily seen by the outrageous contrast in headlines. For example one day there will be a headline like “Dollar plunge leads to increase in gold prices”, then the next day the headline will be “Dollar rebound unconvincing to investors as they flee to gold”. It feels just like when oil made new highs every day up to about $147. It’s all quite boring after a while.

So instead of really paying attention to the media on gold, I’ve been looking at the second big theme I’ve been focusing on – commercial real estate. The chart above is from Bloomberg and it shows just how bad the commercial real estate market is right now. My take on this is that the recent increase in corporate profits have to do with cutting costs, and this includes rent. I’ve read about how all these companies have started selling their real estate. Recent case in point (actually just from today) is HSBC divesting their headquarters in London for 772.5 pounds [HSBC Sells Its Group Headquarters]. Simple rule is that when things, from stocks to real estate, are sold, their market value decreases. From economics class - it’s like when you sell something, supply goes up and price goes down given a fixed demand curve.

Anyways, my take on this is that as companies continue to cut costs in the face of slower economic growth, commercial real estate will continue to shrivel. Negatively affected industries are obviously financial companies that have significant commercial real estate loans, construction companies (maybe), and Real Estate Investment Trusts, or otherwise known as REITs. Right now I’m not really sure of the overall impact on the economy from this fall of commercial real estate, since it’s not like every Average Joe/Jane out there owns commercial real estate. However, it’s definitely another major macro theme out there that people have pushed aside in the wake of the “Gold Rush”.

Why is America gloomy when the news is good?

I've been traveling for the last month, and while in London at Sunday brunch with my friends, I read an commentary in the Times (UK newspaper) that struck me. And I warn you, it's as gloomy as the title of the article. It starts off with an interesting introduction:

"It has been a long time since the economic data have been flashing positive signals, and an equally long time since consumers, businessmen and occupants of the White House have been so gloomy. It’s worth considering why this disjunction of fact and perception is dominating the economic news."

- Irwin Stelzer
Link to the Article

It’s exactly the same thing that I’ve been thinking about lately. I have to confess that it’s been hard following the markets as much as I did before over the summer. However, I’ve been following the big trends, which is arguably good because I don’t get caught up in all the “noise” of the media. And this is one of the big trends that I have been following/thinking about: the disconnect between sentiment and the rising stock markets.

Stock markets are generally forward looking. I say generally because, c’mon despite all the academics saying markets are efficient, blah blah – they can be occasionally slow to realize things. The reason I bring this up is that this recent stock market pullback can be attributed to a less than optimistic outlook for the future. And that’s precisely what this article writes about:

“Businessmen tend to look further ahead than most participants in the economy — consumers worry about paying the rent or the mortgage next month, and politicians worry about tomorrow’s opinion polls. Company executives know that the profits picture is improving but they worry that much of the improvement comes from cost cutting rather than increased demand.”

Essentially, the article is saying that businessmen are still worried about the future because despite companies reporting decent earnings recently, they fear that it’s more because of cost-cutting and less because of revenue increasing. And obviously “consumers” are not happy because they are part of the cost cutting – getting laid off.

This paragraph slowly leads to the climax of the commentary, a forecast of the future that sent chills throughout my body. Certainly woke me up on a lazy Sunday afternoon:

“[Businessmen] They see an administration and a Congress that are spending America into such deep debt that the dollar will continue to decline, forcing the Fed to raise interest rates to prevent a collapse of the currency.

Some executives expect the price of gold to double or triple in the next five years, interest rates to climb from their current level of close to zero to perhaps 8%, and taxes to soar to bring the deficit under control.”

It’s a doomsday prediction, but actually quite realistic. It sounds like a similar situation to the recessionary period of the 70’s, of the Volcker reign at the Fed. It’s completely possible, even though most people right now could not even imagine double digit interest rates.

Investment ideas from this article? Long gold, and short US dollar

After reading this article, I kind of want to hide under a rock in an island in the Pacific Ocean somewhere for the next 5 years.

Read the Full Article