One of my favorite commentators, Paul Farrell of MarketWatch, recently discussed some of the prescient essays of Jeremy Grantham, who manages over $100 billion as chief executive of an asset management firm – GMO. Paul Farrell reminded us that Grantham warned of the impending financial crisis in July of 2007, which came as a surprise to those vested with the responsibility of paying attention to such advice. As Farrell pointed out:
Our nation’s leaders are in denial, want happy talk, bull markets, can’t even see the crash coming, even though the warnings were everywhere for years. Why the denial? Grantham hit the nail on the head: Our leaders are “management types who focus on what they are doing this quarter or this annual budget and are somewhat impatient.”
Paul Farrell is warning of an “inevitable crash that is coming possibly just before the Presidential election in 2012”. He incorporated some of Grantham’s rationale in his own discussion about how and why this upcoming crash will come as another surprise to those who are supposed to help us avoid such things:
Most business, banking and financial leaders are short-term thinkers, focused on today’s trades, quarterly earnings and annual bonuses. Long-term historical thinking is a low priority.
Paul Farrell’s article was apparently written in anticipation of the release of Jeremy Grantham’s latest Quarterly Letter at the conclusion of the first quarter of 2011. Grantham’s newest discourse is entitled, “Time to Wake Up: Days of Abundant Resources and Falling Prices Are Over Forever”. The theme is best summed-up by these points from the “summary” section:
- From now on, price pressure and shortages of resources will be a permanent feature of our lives. This will increasingly slow down the growth rate of the developed and developing world and put a severe burden on poor countries.
- We all need to develop serious resource plans, particularly energy policies. There is little time to waste.
After applying some common sense and simple mathematics to the bullish expectations of immeasurable growth ahead, Grantham obviously upset many people with this sober observation:
Rapid growth is not ours by divine right; it is not even mathematically possible over a sustained period. Our goal should be to get everyone out of abject poverty, even if it necessitates some income redistribution. Because we have way overstepped sustainable levels, the greatest challenge will be in redesigning lifestyles to emphasize quality of life while quantitatively reducing our demand levels.
We have all experienced the rapid spike in commodity prices: more expensive gas at the pump, higher food prices and widespread cost increases for just about every consumer item. Many economists and other commentators have blamed the Federal Reserve’s ongoing program of quantitative easing for keeping interest rates so low that the enthusiasm for speculation on commodities has been enhanced, resulting in skyrocketing prices. Surprisingly, Grantham is not entirely on board with that theory:
The Monetary Maniacs may ascribe the entire move to low interest rates. Now, even I know that low rates can have a large effect, at least when combined with moral hazard, on the movement of stocks, but in the short term, there is no real world check on stock prices and they can be, and often are, psychologically flakey. But commodities are made and bought by serious professionals for whom today’s price is life and death. Realistic supply and demand really is the main influence.
Grantham demonstrated that most of the demand pressure on commodities is being driven by China. This brings us to his latest prediction and dire warning:
The significance here is that given China’s overwhelming influence on so many commodities, especially in terms of the percentage China represents of new growth in global demand, any general economic stutter in China can mean very big declines in some of their prices.
You can assess on your own the probabilities of a stumble in the next year or so. At the least, I would put it at 1 in 4, while some of my colleagues think the odds are much higher. If China stumbles or if the weather is better than expected, a probability I would put at, say, 80%, then commodity prices will decline a lot. But if both events occur together, it will very probably break the commodity markets en masse. Not unlike the financial collapse. That was a once in a lifetime opportunity as most markets crashed by over 50%, some much more, and then roared back.
Modesty should prevent me from quoting from my own July 2008 Quarterly Letter, which covered the first crash.
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In the next decade, the prices of all raw materials will be priced as just what they are, irreplaceable. If the weather and China syndromes strike together, it will surely produce the second “once in a lifetime” event in three years.
For the near-term, we appear to be in an awful double-bind: either we get crushed by increasing commodity prices – or – commodities will become plentiful and cheap, causing the world economy to crash once again. It won’t bother Wall Street at all, because The Ben Bernank and “Turbo” Tim will be ready and willing to provide abundant bailouts – again, at taxpayer expense.
When the Music Stops
Forget about all that talk concerning the Mayan calendar and December 21, 2012. The date you should be worried about is January 1, 2013. I’ve been reading so much about it that I decided to try a Google search using “January 1, 2013” to see what results would appear. Sure enough – the fifth item on the list was an article from Peter Coy at Bloomberg BusinessWeek entitled, “The End Is Coming: January 1, 2013”. The theme of that piece is best summarized in the following passage:
Peter Coy’s take on this impending crisis seemed a bit optimistic to me. My perspective on the New Year’s Meltdown had been previously shaped by a great essay from the folks at Comstock Partners. The Comstock explanation was particularly convincing because it focused on the effects of the Federal Reserve’s quantitative easing programs, emphasizing what many commentators describe as the Fed’s “Third Mandate”: keeping the stock market inflated. Beyond that, Comstock pointed out the absurdity of that cherished belief held by the magical-thinking, rose-colored glasses crowd: the Fed is about to introduce another round of quantitative easing (QE 3). Here is Comstock’s dose of common sense:
After two rounds of quantitative easing – followed by “operation twist” – the smart people are warning the rest of us about what is likely to happen when the music finally stops. Here is Comstock’s admonition:
Charles Biderman is the founder and Chief Executive Officer of TrimTabs Investment Research. He was recently interviewed by Chris Martenson. Biderman’s primary theme concerned the Federal Reserve’s “rigging” of the stock market through its quantitative easing programs, which have steered so much money into stocks that stock prices have now become a “function of liquidity” rather than fundamental value. Biderman estimated that the Fed’s liquidity pump has fed the stock market “$1.8 billion per day since August”. He does not believe this story will have a happy ending:
One of my favorite economists is John Hussman of the Hussman Funds. In his most recent Weekly Market Comment, Dr. Hussman warned us that the “music” must eventually stop:
Will January 1, 2013 be the day when the world realizes that “the Emperor is naked”? Will the American economy fall off the “massive fiscal cliff of large spending cuts and tax increases” eleven days after the end of the Mayan calendar? When we wake-up with our annual New Year’s Hangover on January 1 – will we all regret not having followed the example set by those Doomsday Preppers on the National Geographic Channel?
Get your “bug-out bag” ready! You still have nine months!