February Fund Performance with year to date

February was a difficult month for equity investors. The S&P 500 Index lost 10.65% and 18.18% for the year. The MSCI EAFE Index fell 10.54% and 19.38% for the year.
China's Shanghai Composite rose 4.63% and has gained 14.39% this year.
_____________Feb %_____YTD %
S&P TR______-10.65_____-18.18

Not too many changes in the portfolios. I increased the amount of shorts in the Catch a Falling Knife Fund, and took off the shorts in the Best of Funds Fund.


Another great post from Michael Pettis

In the 1920s, the U.S. exported heavily into Europe and it devalued its currency to aid the British economy. The weak U.S. dollar fueled exports to Europe, but they could not export back to the U.S. due to tariffs and financed their purchases with loans from U.S. banks. When the global economy ground to a halt, Europeans needed to obtain dollars to pay off their loans, but credit was hard to come by. Their other option was exporting to the U.S., but Smoot-Hawley killed that possibility. The global economy was hit hard and the U.S. suffered greatly due to having most of the overcapacity, as well as the misguided intervention of Hoover and then FDR. In fact, it might be said that the U.S. helped Europe out of the Depression because the retaliatory tariffs killed global trade and boosted their domestic production. Thus, the passage of the Smoot-Hawley tariff was completely wrongheaded.

China understands it is in the position of the U.S. in 1930, but Pettis argues their actions are not making the jobs of free traders in the U.S. and Europe any easier, and the U.S. and E.U. politicians know that they are in a position to bring jobs home through tariffs. As they economy worsens and jobs become more valuable, the pressure to stifle imports will grow.

Can Smoot-Hawley only happen in the US?

I think, in fact, that a nasty fight over trade is very probable and I worry that not only will trade conflict come as a huge shock to China’s economy, but also that Chinese actions and public statements are actually contributing more to that probability than all the buy-America, buy-Europe talk filling the air.

Actions such as the investment in rail capacity I posted a few minutes ago.
Read the whole thing.



Chinese Firm Signs Deal To Develop Nasdaq-100 ETF

Overcapacity in the transport sector

China Railway wins $3.3 bln contracts as gov boosts spending

Regarding the rail contract, here's Ambrose Evans-Pritchard on the dangers of malinvestment leading to deflation:
China nears deflation trap as rail freight collapses
Railway freight in China’s Shanghai region plunged 31pc in January and industrial production fell 12pc, dashing hopes that Beijing’s stimulus policies will soon begin to fuel recovery.

Building more rail as part of a stimulus package will cause rates to fall further. If the government wants low rates, they are pursuing the proper course.
“External demand is shrinking, some sectors have overcapacity, and urban unemployment is rising. Downward pressure on economic growth is increasing. There exists a big risk of deflation,” said the bank. Factory gate inflation has dropped to minus 3.3pc.

There's nothing the country can do about the slack demand from the U.S. and Europe except to accept that demand isn't coming back for years.
The figures tally with the catastrophic drop in exports from Japan, Korea, Taiwan, and Singapore over the last three months. These countries are an integral part of the supply chain for Chinese industry.

Taiwan said yesterday that export orders to China fell 55pc in January, suggesting that Asian trade will remain trapped in depression deep into Spring. The fall in total orders was 41pc, while industrial output fell 43pc.

China is further down the supply chain, at the lower orders of production. We should see these numbers filter through to China in the next couple of months.


Caterpillar Won't Cut Jobs in China

This might generate negative sentiment in the U.S., but it makes sense not to cut the market they expect the most growth from. 裁员不涉及中国


Loans Fueling Stock Speculation

Last week I linked to story on Chinese loan growth funneling into the stock market. (See 为什么大陆股市反弹?)

Now Caijing tackles the topic in Decoding the 1.6 Trillion Enigma.

When companies get a loan, they can put a portion of the money in their business accounts, use a portion to raise capital and buy bonds, and keep the rest in hand for immediate uses. Deducting the amount money that went into these four outlets, there was still 830 billion yuan of the January loans that cannot be explained – that’s 500 to 600 billion more yuan compared to the previous two years. This chunk of untracked money probably found its way into the stock market, awaiting the rebound of share prices.

We found strong correlation of 0.66 between the unexplainable part of increased loans and the price hike of Shanghai stock index in the last three years.

沈明高认为,信贷资金主要有三个去向:流入股市、直接用于投资和转为个人储蓄存款。经初步估算,最多有5000亿-6000亿元的信贷资金进入股市。沈明高是从企业资金使用的角度来分析企业信贷资金的流向。他指出,企业从银行贷入的资金可能转变为企业存 款、流通中的现金、在一级市场认购股票和缴税。


Michael Pettis arrives at the Austrian solution

In my opinion, for what it is worth, it probably makes sense for the Chinese government just to assume the next several months are going to be disastrous, and rather than try to hold things off, which will only make it worse in the longer run because it will distort the adjustment process, they should try to accelerate the contraction of those industries that are destined to contract anyway with the collapse in global demand, and work on providing aid for workers who are going to pay the cost. I admit I may not be the brightest guy in the world in making political judgments, but it seems to me that a disastrous six months – which can and anyway will be blamed fully on the US and other foreigners – followed by two or three years of good news trickling in would be much better for political credibility than two or three years in which expectations are constantly disappointed.
Every nation should follow this advice. As far as I know, only one nation has chosen the hard road, Singapore.

Here's Rothbard in America's Great Depression, pg.22:
In sum, the proper governmental policy in a depression is strict laissez-faire, including stringent budget slashing, and coupled perhaps with positive encouragement for credit contraction. For decades such a program has been labeled “ignorant,” “reactionary,” or “Neanderthal” by conventional economists. On the contrary, it is the policy clearly dictated by economic science to those who wish to end the depression as quickly and as cleanly as possible.
Governments only need to stand back and allow the contraction to take place. Since everyone currently expects failed industries to be propped up, removing government support will cause a rapid contraction in the market. There's no need to pile on and force a contraction, it will occur naturally. I wouldn't be surprised, due to the massive imbalances created in recent years, that it will take more than 6 months to find a bottom in the economy, perhaps 1 year or even 18 months. Chinese stocks would reach a bottom in less than a year though, if the government also stopped supporting stock prices.


More transparent, less risky investments

The losses by Stanford’s and Madoff’s investors may prompt Latin Americans to seek refuge in more transparent, less risky investments, said Alberto Ramos, senior Latin America economist at Goldman Sachs Group Inc. in New York.

All six major Latin American currencies have weakened against the dollar in the past six months, with Mexico’s peso plunging 30.4 percent.

Bloomberg has the rest of the story.

Yet another argument for gold.


Buy Local

One of the arguments against blocking free-trade is that, if it's so beneficial for the U.S. to restrict trade with China, Europe or Japan, won't it be just as beneficial for New York to restrict trade with California or Michigan? While the U.S. federal government now leans towards protectionism and the Chinese central government pushes free trade, the states and provinces are reversed.
Provinces trot out 'buy local' campaigns
The government of Anhui, a relatively poor province in eastern China, has one of the most specific "buy local" policies, according to a notice dated Feb 11.

Anhui ordered car manufacturers to buy steel from within the province. Construction and home appliance manufacturers must "cooperate" with local steel giant Ma'anshan Steel beginning in March, and power plants must buy coal from within Anhui from April onwards.

"Provincial governments are a bit nervous these days and may try to fall back on this type of planned approach," said Macquarie Research analyst Henry Liu, adding that local governments often try, and fail, to promote the local steel mill.

"But construction companies aren't stupid. They want the best price. Everyone works for a profit these days."

...In many Chinese provinces, the leading firms may be partly owned by the province, creating an incentive for provincial governments to protect their own as they struggle to maintain economic growth.


We Hate You Guys

As Spengler writes today, so much for the U.S. government getting its just desserts.
Luo Ping, a director-general at the China Banking Regulatory Commission, said after a speech in New York that China would continue to buy Treasuries in spite of its misgivings about US finances.

Mr Luo, speaking at the Global Association of Risk Management’s 10th Annual Risk Management Convention, said: “Except for US Treasuries, what can you hold?” he asked. “Gold? You don’t hold Japanese government bonds or UK bonds. US Treasuries are the safe haven. For everyone, including China, it is the only option.”

Mr Luo, whose English tends toward the colloquial, added: “We hate you guys. Once you start issuing $1 trillion-$2 trillion [$1,000bn-$2,000bn] . . .we know the dollar is going to depreciate, so we hate you guys but there is nothing much we can do.”

Here's Spengler on the topic:
A fearful world is buying trillions of dollars of securities from the US Treasury. Of all the cash flows in the world, nothing is more reliable than the tax revenues of the American state, the longest-lasting government on Earth presiding over the world's largest economy.

...During the Reagan years, the rest of the world had the right to grumble about the dominance of the American economy. Now that American policy has become a millstone around the necks of most of the world's economies, the rest of the world's leaders flatter Obama while he beats them. No Republican president ever had it so good.

Read the whole thing.


Just another credit fueled boomlet.


Tomorrow's Gold — Asia's age of discovery, 3rd Edition, by Marc Faber

Most investors don't want to work. They want to read an article, watch an interview on CNBC or Bloomberg, and maybe even read a book, but in most cases they are searching for a pick. Gold? Oil? Google? These books and interviews quickly fade because there's no value beyond a timely pick. Perhaps the investment analyst or guru provides information that will outperform for several years, but the investor will probably be searching for new advice within a few months. In Tomorrow's Gold, Asia's age of discovery, originally published in 2002, Marc Faber presents a few general investing themes such as geographically specific real estate, commodities and gold, but spends most of the time explaining why these will outperform.

Faber publishes the Gloom Boom & Doom Report and earned the nickname Dr. Doom long before the current crisis, for his bearish forecasts. The book spends a lot of time on gloom, booms, and doom too. Faber covers topics as wide-ranging as Kodratieff waves, hyperinflation, the life cycle of emerging markets, commodities, the gold standard, economic history, and the rise and fall of cities. All of the discussion occurs in a historical context and provides a sound basis from which the investor can analyze future situations.

At one point in the book he provides an example of how much $1 would be worth today if an investor in Carthage had seen their investment compound at 3% for 2,000 plus years—a mere 142 billion trillion dollars! The point, befitting a man with the nickname Dr. Doom, is that preserving wealth has been very difficult through the centuries. Today's centers of world progress may be tomorrow's sand dune, small rural village, or impoverished urban slum.

Where the book is very timely is that some of the topics covered deal directly with current events. Faber may favor a longer-term investment horizon, but his writing focuses on the crises: bubbles, hyperinflation, deflation, currency devaluation, panic and chaos. Where he covers the bigger trends of emerging markets, he offers the advice that many foreign investors have been taken to cleaners by the natives in emerging markets, often turning to the U.S. as an example.

Tomorrow's Gold won't necessarily provide investing advice you can put to work tomorrow, but it is timeless information that will be useful again and again. Faber offers the reader a new perspective on worn out investment cliches and turns some on their head—and he does so with a wealth of historical examples and a bibliography to match. Readers with an interest in economic history will enjoy this book most of all, as will those who take a "big picture" approach to their investments.

An interview from 2003 with Marc Faber on the topic of Tomorrow's Gold, courtesy of Financial Sense.


Watch List Update - Big Gains Off Lows

I follow the gains off the 52-week intra-day lows to see what sort of bounces there have been in the market. Many are up more than 100%, with several at multiples of that, such as Comba (2342.HK), up 415%. Materials and tech had the biggest bounces, similar to U.S. markets, while transports, financials and consumer sectors had some of the weakest. The Hang Seng Index bounced 27% off its 52-week low. Only eight of the 51 funds on my watch list failed to beat that index. However, the Hang Seng China Enterprises Index is up 58% from its low. About 60% of the companies, 32 out of 51, beat that return. Finally, the Shanghai Composite is 39% above its low, and all of the Mainland stocks on my list beat that handily.

Protectionism in the East

It appeared that the U.S. and China could be headed for a confrontation over trade rules, but it's India and China that are scrapping first. Caijing reports:
China is “seriously concerned about India initiating so many investigations and imposing so many restrictions against Chinese goods in such a short period of time,” said spokesman for the Ministry of Commerce Yao Jian in a statement on the ministry's Web site.

China, wrote Yao, "hopes India will show care and restraint in using trade measures during this period of severe challenges in the world economy."

Liu Xiaoxue, a scholar of India’s economy at the Chinese Academy of Social Sciences, said India's recent actions appear to be protectionism, as most of the restrictions were imposed on products from industries suffering decline in India.

While China may ask the WTO to investigate the cases, Liu said it might not win the appeal since “India’s actions are legal.” He suggested the Chinese government instead solve the dispute through direct negotiations.

As with the adjusted "Buy American" clause, the moves are legal, but the trend is not our friend.

Nice move for GR Vietnam - Watch List Update

I added GR Vietnam (0139.HK)to my watch list of Hong Kong and Mainland listed stocks because it provides exposure to the Vietnamese consumer market. Shares have popped in the past week though. It had been sitting around HK$0.05 to HK$0.06 for about three months, but it rose to HK$0.17 today. It's up 246% since I added it to my watch list on January 22.

Other shares are up as well due to an overall market rally. The best performers among my January 22 new additions was Ming Hing Water (added January 20; 0402.HK), up 7.69%; Sinoma (1893.HK, up 7.91%; China Dongxiang (3818.HK), up 16.35%; Lingbao Gold (3330.HK), up 43.37%; and Zijin Mining (2899.HK), up 21.50%. The worst performance came from Sinofert (0297.HK), down 3.16%; and Swire Pacific (added January 7; 0019.HK), a Marc Faber pick, down 18.08%.

There's still plenty of shares on my list down in a range from 30-60+%, especially in the materials sector.

China's stimulus package should deliver a boost to some infrastructure companies. I notice the chart on Shanghai Zhenhua Port Machinery <上海振华港机>(600320.SS) has had a nice steady rebound from November.

Mengniu (2319.HK), mentioned on this blog before, lost 10% on Wednesday and fell as much as 20% during the day. Caijing<财经> has two articles on the company: Chemical Additives in Mengniu Milk Prohibited and Dumex, Mengniu Dairy Products under Probe. Originally I thought they'd be able to pull out of the scandal, but the brand erosion may be approaching the point of no return.

Moore Signs of Negative Social Mood

I don't doubt that Michael Moore will turn up shady practices on Wall Street, but this movie will feed the negative social mood.

I am in the middle of shooting my next movie and I am looking for a few brave people who work on Wall Street or in the financial industry to come forward and share with me what they know. Based on those who have already contacted me, I believe there are a number of you who know "the real deal" about the abuses that have been happening. You have information that the American people need to hear. I am humbly asking you for a moment of courage, to be a hero and help me expose the biggest swindle in American history.

All correspondence with me will be kept confidential. Your identity will be protected and you will decide to what extent you wish to participate in telling the greatest crime story ever told.


富不过三代 — fù bùguò sān dài

This Chinese idiom, which means wealth does not pass the third generation, was the source of a post at Mish's Global Economic Trend Analysis today. Unlike many Chinese idioms, this one is simple:

Meaning: It's rare the wealth of a family can last for three generation (the 2nd may see the value of hard work, the 3rd, forget it)
Explanation: In business, the first generation works extremely hard, so that the second generation reaps the benefits. By the time the third generation arrives, the
wealth is squandered.

Mish compares the idiom to the Kondratieff cycle, and he also quotes Steve Ballmer discussing the cycle without knowing it. Will he use this thinking at Microsoft?

Check out this post at MoneyWeb that Mish references.

Most of China's youth are zero generation wealth—they will become the first generation wealth.


如果美国消费者爱国了 - 保护主义

Protectionism isn't just government to government. People sometimes initiate their own boycotts, even in China—Chinese citizens had brief anti-Japanese protests in 2005. Now Americans are starting to promote "Buy American", and Chinese noticed. Using QQ this morning, I noticed a story on American protectionism, accompanied by a attention-grabbing photo. In the business section was a story on American consumers, with a picture from a U.S. blog which says, "China Makes Crap. Buy American!" (If you follow the link, you'll see that the post in question was made in July 2007. As with other boycotts, in the absence people eventually lose their interest.)

The article linked below the picture shows why this is now an issue: “购买美国货” 条款引发争议 ("Buy American Clause" Stirs Controversy). American politicians see their opportunity to codify intensified anti-free trade sentiment in the public.

There is now state support for protectionism, both from the Obama administration and a Democrat Congress. On February 4, Bloomberg reported on a potential compromise clause, which doesn't violate trade law:
Congressional leaders, trying to quell a dispute over “Buy American” provisions in the stimulus package, are crafting a version that would apply only when they don’t violate trade rules, according to industry officials and a congressional aide.
On February 5, Australia's The Age reports Obama's position and explains American law-making to foreign readers,

"I agree that we can't send a protectionist message," Mr Obama said. "I want to see what kind of language we can work on this issue.

"I think it would be a mistake though, at a time when worldwide trade is declining, for us to start sending a message that somehow we're just looking after ourselves and not concerned with world trade."

US trading partners had reacted with fury to the clause, warning it could start a global trade war.

Canada's ambassador to Washington said on Tuesday that the plan could trigger a worldwide depression and Washington would lose the moral authority to try to stop it.

The European Union has threatened legal action and Australian Trade Minister Simon Crean warned it could damage Australia's $500 million worth of annual steel exports to the US.

But President Obama faces an uphill battle with his Democratic colleagues over the clause. A clause that requires American steel to be used in all infrastructure projects has already passed the House of Representatives.

The Senate bill contains a broader clause that requires all goods and services used in projects funded by the $US900 billion fund to be American-sourced.

President Obama has no power to knock out the individual provision, he can only veto the entire bill.

His only strategy is to ensure the clause is either removed, he is given a waiver clause, or it is made consistent with existing trade law.

Yet there are strong signs the Democrats in Congress are gearing up to defend it. The steel unions and members of the Democratic caucus have scheduled a news conference (overnight Melbourne time) to defend it.

Any "Buy American" clause violates the spirit of international trade. The question is whether it satisfies the opponents of free trade, or if it emboldens them to seek further gains. There's a small chance the provision gets killed in conference, but I'm not optimistic.


Market Direction

On CNBC's Asia Squawk Box (video and article) this morning, Marc Faber repeated much of the same investment themes he's been favorable on for the past few months: inflation, tech companies with the capital to continue R&D through the downturn, Asia, and a possible continued rally in the short-term for the broader market.

A new idea was that the Japanese yen (FXY) could fall versus the dollar, and was a possible short candidate. I'm going to look at this more closely, but it's in keeping with the theme of a market rally, fueled by a reduction in fear. Faber highlighted this theme as well, discussing the performance of iShares iBoxx $ Invest Grade Corp Bond (LQD), a fund that holds quality corporate bonds. That fund fell from $105 in mid-May (about $102 adjusted for dividends) down to $81 ($80 adj.) on October 10. LQD was back over $100 in early January, and has slipped back to $97 as long-term bond yields rise.

Todd Harrison of Minyanville also expects a rally.
Admittedly, part of Harrison's prediction is based on a "gut feeling." But he's
also expecting the next phase of the bank bailout package to be announced soon,
which could provide a catalyst.

One of the first markets to tank in 2007 and early 2008, mainland China, is up 19.8 percent for the year through Friday, February 6. Could a similar rally be in the cards for the U.S.?

If it is led by financials, I'd also expect tech to do well, as it's already outperformed in 2008. Commodity producers also may lead, since a rally may be thought to be backed by the stimulus spending.


Protectionist Dangers Growing

Ambrose Evans-Pritchard covers Davos. The key point to understand in all the protectionist discussion is that unlike in 1930, when the U.S. was a trade surplus nation, it is now a trade deficit nation. That means an end to trade means higher costs, but also higher wages and more jobs. Structurally, every economy will be worse off without free trade, but American workers will benefit at the expense of workers in exporting nations—in the short-run.

Below are a selection of quotes from the article, which highlights the growing danger. While this rhetoric was mostly behind closed doors, if it becomes public (not these quotes, but rhetoric for public consumption), all bets are off, and that goes double for America. Many conservatives (here I would lump the Buchanan wing with union Democrats) already favor some trade restrictions. They have lost to the internationalists (libertarian leaning conservatives and liberals) for the better part of two decades. Under Bush, however, the Republicans became slightly more anti-international, due to a backlash to the backlash against American efforts against terrorism. Liberals were very pro-international out of their opposition to Bush. Liberals tend to be more politically pragmatic though. If Obama is attacked on the international stage, he will defend America, and liberals might bash foreigners. If that happens, the only ones left to defend free trade will be the libertarians and economists, who are nowhere near a majority.

In each quote, Ambrose provides the likely American retort:

Mr Geithner's bluntness prompted an angry outburst by Chinese premier Wen Jiabao behind closed doors in Davos. Mr Wen later let rip against "blind pursuit of profit" and unstable economic models based on "low savings and high consumption". Not a word about China's role in accumulating $1.9 trillion of reserves and thereby helping to stoke a global credit bubble; Mr Wen clings to the fallacy that greedy banks alone created this disaster. A fat lot of good it will do him.

"They can print the dollars," said a weary Ernesto Zedillo, Mexico's former president. The injustice of it. The arch-sinner is dodging its own disaster, leaving scores of well-behaved countries starved of capital and exposed to the crunch from Hell.

Russia's Vladimir Putin railed wildly, calling for a global putsch to topple the dollar. "The one reserve currency has become a danger to the world economy," he railed. Kremlin aides hovered in the foyers, accusing the US of running a "beggar-thy-neighbour" policy. "All the free liquidity in the world will run into American Treasury bills. That is pretty selfish," said one.

Herman Gref, former economy minister and now Sberbank chief, said the world should seize control of the Fed itself to force it to serve global needs. "Economies are facing collapse just because dollar credit has been withdrawn. That cannot be," he said.

China, India, and Russia were among the loudest in Davos, though all three have already taken steps to protect their own steel mills. Germany's Angela Merkel spoke darkly of "command economy experiments", and slammed US car-bail as a trade "distortion", even as she crafts a clever version for German cars.

Gordon Brown says we all face ruin if we "let the protectionists take over", yet UK banks under the state's thumb are being told to cut foreign lending. France's Christine Lagarde says – with refreshing candour – that protectionism has become a "necessary evil".


January Fund Performance

Here's the January performance of my Marketocracy funds. The orange line is my fund, the purple line is the M100, the Marketocracy mutual fund, green is the S&P 500 Index, brown is the DJIA, and blue is the Nasdaq.

First up is my short fund. I've loaded up on financials, newspapers and solar. A surprise winner was FXP. The double short China fund from ProShares, even though the Chinese market has fallen, the inverse ETF went down as well. It's easy to make money shorting in this market though, and if you look at the chart since inception, the performance was bad during the bull market.

Next is my Entertainment fund, which is mostly consumer discretionary. I haven't traded this hardly at all in the past year. A chart from inception shows the gains from holding Marvel Comics (MVL) was slowly bled away over time. Now that this is one of the worst sectors in the market, the fund continues to underperform. Also, I haven't sold losers, with several holdings down 80- and even 90-plus percent.

Here's my Software Security fund. The turnover in this fund has never been much due to the limitation of the sector. Even then, I've had to branch into Indian outsourcing, Chinese gaming, and defense contractors.

Next is the Pharma & Dogs. I've maintained the pharmaceutical allocation, with about 50% in healthcare. My Dow stocks aren't Dogs though, I have Caterpillar and Johnson & Johnson. One holding that delivered big gains is Tesoro (TSO), which I have in several funds. It's up 127% since purchase on December 5.

This is my high-yield fund. This portfolio also has Tesoro, which is up almost 100%. It yields 2.3% now, but was over 4% at the time of purchase. The biggest loser in the portfolio is HTE, down 44% and yielding 33% (although I don't expect that to last).

Next up is the Green Dragon. If I read about a stock in someplace such as Barron's and I think it looks good, I'll add it to this fund. Thus, this is my "gut check" fund. Little portfolio management. At the moment, over 50% of the fund is in U.S. dollars (cash) and Japanese yen (FXY).

This is my Best of Funds. It has also performed the best of all my long funds. I trade this fund heavily (turnover was 31% in January) because I move in and out of double short stock and commodity funds.

Finally, the fund that fits with this blog's title, the China fund. Over 60% of the fund is defensively positioned in currency positions and gold. The largest Chinese equity position is currently Netease (NTES). The fund lost 4.06% last month, compared to more than 13% for iShares FTSE/Xinhua China 25 (FXI).