Skip to content
Sep 27 12

Food price hikes: Why I blame investors

by Andrew

Once again, food prices are soaring. For the third time in five years, the world seems on the verge of a crisis. Prices for corn, soybeans and wheat have all skyrocketed on international markets, rising 21 per cent, 41 per cent and 31 per cent respectively since the start of the year.

The key question is: Why?

The standard answer is that there are a plethora of factors making food more expensive worldwide.

…As a former hedge fund analyst, I am regularly perplexed to see the role of financial markets mentioned last, almost as a footnote. On more than one occasion, I encountered large global investment banks that publicly claimed high prices were the result of supply and demand, but privately conceded that financial bets or manipulation were, in fact, the dominant influence. A classic example is what happened in September 2008, when JP Morgan’s head of commodity research told Congress that oil prices had soared due to supply and demand, while on the same day the bank’s chief investment strategist wrote in an email to wealthy clients that “there was an enormous amount of speculation pent up in energy markets . . . and it wasn’t just the supply-demand equation.”

Full article here:

Sep 19 12

Canada’s Current Account Deficit a Growing Cause for Concern

by Andrew

Budget deficits, whether provincial or federal, tend to get all the press. The other big Canadian deficit—the current account deficit—usually flies well under the radar. Until this week, that is, when Statistics Canada released numbers indicating that our trade deficit with the world expanded from $1.9 billion to $2.3 billion in July.

The current account surplus or deficit is a measure of a country’s trading relationship with the world. You’ve probably heard of a key part of the current account, the trade balance, or exports minus imports. In addition, the current account also measures net investment income, i.e. interest earned from foreign holdings minus interest paid to foreigners, and net financial transfers over a given period.

Canada’s current account balance is significantly in the red. To be precise, as of the second quarter of 2012, our deficit has reached 3.6 per cent of GDP on an annualized basis. As BMO’s Nesbitt Burns noted, this represents a marked deterioration from the 2.8 per cent deficit recorded in 2011. Canada, they wrote, has only seen two years—1975 and 1981—when the current account deficit exceeded 4 per cent of GDP. We’re close what have typically been extreme readings.

Read the full article at

Aug 29 12

Time to have a plan for the next commodities bust

by Andrew

From my latest for Maclean’s Econowatch blog:

It’s the summer of 2008. Oil prices are soaring, eventually touching $147 per barrel. Some forecasts predict a continued surge in prices to $200. For oil-producing countries, times are beyond good.

Enter Carstens, minister of finance for Mexico, a major oil producer. As the price of oil remains high even as the global economy deteriorated, he decides that Mexico’s state oil company, PEMEX, should protect itself against the possibility of collapsing energy prices.

So around late August, PEMEX starts buying put options* on its 2009 oil exports. (*Put options are financial insurance contracts. In exchange for a premium, it gives the buyer the right to sell something at a future date at a given price.)

The credit crisis eventually sends crude prices diving, but Mexico has locked in an average price of $70 per barrel for 2009. The options cost $1.5 billion. They produce a windfall of $5 billion.

Read more here:


Aug 3 12

Study Shows Low Self-Esteem in Older Cell Phones

by Andrew

Born in 2004, Motorola R. Azr was long the king of cell phones. Moto, as his friends called him, couldn’t keep up with the incoming calls and party invites.

But on June 29, 2007, a new kid moved into town, Apple I. Phone.

It wasn’t long before Moto went from hero to zero. Once the most popular, Moto now struggled for attention.

His plight, experts say, illustrates the tribulations of millions of fellow traditional cell phones around the country, pushed to the margins of society by an influx of newer, flashier peers.

Just this week, the Journal of Cellular Medicine reported a staggering drop in the self-esteem of phones just like Moto. Researchers concluded that the term “Smartphone” is having a debilitating effect on the self-worth of older models.

“By definition, if you’re not a smartphone, you are a dumbphone”, said study author Dr. James Richardson. He draws a parallel with “Gifted” programs in high schools. “You’re either gifted or you’re not gifted. That hurts people and not surprisingly it hurts handheld devices, too. It takes years of counselling to recover.”

Moto speaks of his long descent into virtual isolation, and the pain it has brought.

“I used to be brought out of my owner’s pocket at the start of parties”, he lamented. “They would show me off to their friends, bragging about what I could do. I got so many chicks’ numbers. Now if I make it out it’s because someone wants to show their friends how amazingly retro they are. It’s like I’m on Antique Roadshow. I feel like a clown.”

Even a wave of buying by avant-garde Amish has not been enough to restore popularity to the Motos of the world.

Survival has replaced partying as Moto’s day to day goal in life. To say nothing of the risk of being ditched for a newer phone, he points to a shortage of compatible chargers for his particular model. “When a smartphone needs charging, everyone and their neighbour has the right cord. Some of us should be so lucky.”

He has debated signing a do not resuscitate card and donating his parts to science.

Yet for all his troubles, Moto has remained charitable. He recently started giving back to the wireless community by consoling older model Blackberrys. “I know what it’s like to fall so far from grace, so I feel an obligation to be a big brother to these phones. I tell them it’s not easy, but with a good attitude they’ll make it to the end of their owner’s contract.”

In his darker moments, Moto admits to thinking of ending it all. “It would just take one tumble into a glass of Coke and I’d be in a better place”, he says.

Asked if he would leave a note to explain his action, he breaks down, sobbing. “My model can’t write notes. Only Smartphones can.”

Jul 24 12

The idea of the Bank of England tampering with LIBOR isn’t as crazy as you think

by Andrew

From my latest for Maclean’s:

“…if the Bank of England did indeed instruct Barclays to submit artificially low rates, it had no choice but to convey such directions surreptitiously. According to the allegations, the very goal of Barclays providing false submissions during the financial crisis was to deceive the market into believing the bank was healthier than it truly was. Had the Bank of England publicly told Barclays to submit lower LIBOR figures, the charade would have been self-defeating. Everyone would know that LIBOR didn’t represent the true rate of borrowing.

Unsurprisingly, LIBORgate has revived a number of longstanding suspicions and rumours about governments–and particularly the U.S. one–secretly manipulating markets normally thought to be free.”

Read the full piece here:

Jun 20 12

Maclean’s Article on the BRICs and Commodity Speculation

by Andrew

My article for Maclean’s Econowatch blog is posted here:

The piece looks at the effects a serious slowdown in the emerging world will have on Canada. In a nutshell, it will cause real world consumption of commodities to fall, and also wreak havoc with the investment thesis behind many bullish commodity market trades. So this is a double-barrelled negative for Canada and commodity prices.


Jun 3 12

A Tribute to Canada’s Joe McCarthy

by Andrew

I should have known.

I really should have known that my friend Erin Weir is affiliated with the New Democratic Party.

But it took a brave Conservative MP from Saskatchewan to open my eyes.

On Wednesday at parliamentary committee meeting, Weir testified on behalf of his employer, the United Steelworkers, about changes to the Investment Canada Act. He spoke about broken commitments by foreign multinationals that bought large Canadian companies, resulting in significant job losses.

Fortunately, mid-way through his testimony, MP Randy Hoback interrupted Weir. After lambasting him for daring to criticize the Premier of Saskatchewan, Hoback dropped his bombshell:

“In 2004 were you not a candidate for the NDP Party in Wascana?”

My jaw dropped. It was all becoming clear.

On many occasions, I heard Erin speak of his race against Liberal MP Ralph Goodale in 2004. But I just assumed it was a sprint, or perhaps a friendly 10k.

Turns out, Erin ran for the NDP against Goodale for the latter’s seat in the House of Commons.

This revelation jogged other memories. For instance, I knew Erin worked as an economist for the United Steelworkers. Yet I assumed he was non-partisan.

But looking back, he had a strange affinity for meeting outside Union Station when we went to baseball games. Union. The Labour Movement. The NDP.

My mind had become a veritable crystal. I felt like a modern day Archimedes.

Hoback acted like the parliamentary prosecutor he is, pressing Weir to state his affiliations.

“Have you or have you ever been a member of the NDP Party?”, he demanded.

Erin immediately confessed that yes, he had been a member for 15 years.

Next time I see him all dressed in orange, the colour of the NDP, I won’t be so naïve. We’re on to Weir, and we’ve got courageous Randy Hoback and his crack research staff to thank. We owe them a debt of immense gratitude.

Kidding aside, welcome to Canadian politics circa 2012. From the government that brought you “Stand with us or with the child pornographers“ to anyone who dared to believe in civil liberties, we now have a bizarre form of McCarthyism in which expert witnesses are grilled not on the content of their presentations, but instead their well-known political affiliations.

The latter aspect is what makes this episode so pathetic. Both Erin Weir’s NDP membership and the linkage between the Steelworkers and the party, are not exactly secrets, as Weir pointed out.

So if Randy Hoback truly wants to be the second coming of Joe McCarthy, he’s got a lot of work to do.

Jun 3 12

Meet the Toronto Stock Exchange

by Andrew

Picture someone who works on mining and energy deals for a large Canadian bank. Uses a Blackberry. After work they head over to Shoppers Drug Mart or Loblaws to buy food. Then maybe to Tim Hortons for a coffee.

It’s not altogether hyperbolic to say that the above caricature basically summarizes the Toronto Stock Exchange.  The TSX has mining and metals, energy and financials. Throw in some made- in- Canada retailers and two railways and that’s about it.

To be precise, financials currently account for 31.09% of the index, energy companies for 25.14%, and materials for 20.08%. So commodities plus banks and insurance companies represent a staggering 76.3% of the market.


Talk about most of the eggs in two baskets.

At the best of times, this sort of concentration would be worrisome. But now more than ever, investors should be petrified of the risks to the TSX. Both key sectors, financials and resources, face the collapse of dangerous asset bubbles likely to wreak havoc with the underlying equities.

The first bubble is the housing bubble, a bubble that everyone should be aware of, but most people are strikingly complacent about. Somehow, despite the recent housing implosion south of the border, Canadians are reasonably confident it can’t happen here.

It will, and people will be burned big time.

When housing implodes, the banks will suffer. True, their suffering may be mitigated to the extent that a good chunk of their residential mortgage business has been insured by the federal government’s housing agency, the CMHC. But the volume of business they do will drop, and there are sure to be lots of loans to housing-related industries like construction that will go bad. Many loans to over-indebted Canadians are also sure to sour.

Banks in trouble is the first part of the iceberg about to hit Canada.

The second part of the iceberg is the coming (if not already happening) bursting of the commodities bubble. So much of Canada’s recent good fortunes can be traced back to soaring prices for oil, metals and agricultural commodities. That will come to a very painful end.

If you believe Wall Street, and you really should not, commodities are sky-high because of the insatiable appetite for resources by China and India and whichever other countries a clever analyst can throw into an acronym.

In reality, commodities have soared because the relatively small resource markets, by the standards of global finance, have been deluged by a mountain of money looking for the next big thing. Hedge funds, pension funds, sovereign wealth funds, to name some of the players, have poured enough money into commodities that the true, real-world fundamentals have ceased to dictate price.

Many of the bullish bets on resources are indeed predicated on the “story” of an ever-growing China. And the problem is, that story is coming unglued. China is slowing dramatically, as an excellent recent article from the Atlantic pointed out.

Preoccupied by the goings-on in Europe, China is sure to come back on investors’ radars. And when it does, it wouldn’t be surprising if the recent weakness in commodities turns into an all-out rout.

Which means that energy and mining stocks are likely to be decimated. (Gold is not a pure commodity like the others, so I do put that in its own category). By the way, a commodities implosion will also hurt the capital markets divisions of the banks. It’s all so interconnected.

When the tech bubble burst in 2000, Canada suffered, because Nortel (and others) had such a big influence on the index. But fortuitously, a generational commodity boom started that would more than compensate.

Now, there is no obvious next bubble to save the day. If housing and commodities do what I expect, the TSX is in for the mother of all bear markets.

At least we can all still buy doughnuts at Tim Hortons.

May 15 12

Charlie Munger Versus Gold, History And Himself

by Andrew

Cross-Posted at Business Insider:

It’s tough being Charlie Munger. You make an outlandish statement about gold investors and then a little thing called history comes back to bite you.

Prior to the annual meeting of Berkshire Hathaway, Vice-Chairman Munger was asked in a CNBC interview about the merits of investing in gold. He replied: “I think civilized people don’t buy gold, they invest in productive businesses.”

This wasn’t the first time Munger has lashed out at the yellow metal. In 2010, appearing at the University of Michigan, he stated:

I don’t have the slightest interest in gold. I like working on understanding what works and what doesn’t in human systems. To me that is my…that’s not optional…that’s a moral obligation. If you’re capable of understanding the world, you have a moral obligation to become rational. I don’t see how you become rational hoarding gold. Even if it works you’re a jerk.

To say this is hypocritical is an understatement. As Charlie Munger insults today`s precious metals investors, he ignores the fact that Berkshire Hathaway once was one. In February 1998, Berkshire owned nearly 130 million ounces of silver for investment purposes. And Munger can’t claim he wasn’t involved, because a Berkshire press release discussing the foray into silver makes his participation clear:

Over 30 years ago, Warren Buffett, CEO of Berkshire Hathaway, made his first purchase of silver in anticipation of the metal’s demonetization by the U.S. Government. Since that time he has followed silver’s fundamentals but no entity he manages has owned it. In recent years, widely-published reports have shown that bullion inventories have fallen very materially, because of an excess of user-demand over mine production and reclamation. Therefore, last summer Mr. Buffett and Mr. Munger, Vice Chairman of Berkshire, concluded that equilibrium between supply and demand was only likely to be established by a somewhat higher price. 

Munger’s recent CNBC comment implies that buying gold now is uncivilized, but buying silver in 1998 was somehow totally respectable. The logical inconsistency is truly astounding.

More specifically, Munger was clearly taking a swipe at anyone with the gall to diversify away from paper money. Perhaps he had not read the words of a well-known billionaire, who observed in October 2008:

Today people who hold cash equivalents feel comfortable. They shouldn’t. They have opted for a terrible long-term asset, one that pays virtually nothing and is certain to depreciate in value. Indeed, the policies that government will follow in its efforts to alleviate the current crisis will probably prove inflationary and therefore accelerate declines in the real value of cash accounts.

Of course, the person who wrote the above was none other than Warren Buffett. He was making the case for stocks, not gold, but someone who missed the byline and read Buffet`s thoughts on holding cash could be forgiven for thinking the author was a dedicated gold bug.

It`s important to note that last week`s insult of gold by Munger doesn`t merely reveal hypocrisy. It further illustrates that those who are part of the financial elite often conveniently escape the scrutiny of the press. Munger`s comment that civilized people don’t buy gold went entirely unchallenged by his CNBC interviewer. That same journalist, Becky Quick, also gave him a pass back in 2010 at the University of Michigan when he wholeheartedly endorsed the bank bailouts, of which Berkshire was a significant beneficiary,and then crassly told Main Street to “Suck it in and cope.”

Munger’s musings about gold and the bailout are also a good reminder that while money can buy a lot of things, class is definitely not one of them.

Apr 18 12

Drifting Towards Disaster: The Growing Risk of a Canadian Economic Crisis

by Andrew

A comforting narrative has emerged about Canada. It goes something like this: While the United States has been reckless in its lending, Canada is the smaller, prudent neighbour with a careful eye on the creditworthiness of borrowers. So as the U.S. housing bubble burst and financial crisis ensued, Canada remained a well-regulated rock.

And speaking of rocks, the great northern land just happens to have the commodities required for the massive industrialization of China and India (throw in Brazil and Russia for the sake of a good acronym). And for good measure, Canadian governments are models of fiscal probity compared to debt-addled Uncle Sam (true at the national level; just don’t look at the provinces).

Like most good investing stories, there is some truth associated with the above characterization. And left at the level of glib, almost lore-like proclamations, all is well. Look under the hood and the tout becomes more difficult to swallow.

For example, while subprime mortgages certainly exist in Canada, they do not seem to have proliferated like they did in the U.S. bubble.  But it is still very possible to have a housing bubble even if most of the loans are plain vanilla and given to qualified borrowers.

Bubbles are primarily about valuation, not esoteric financial products, even if those are thrown into the mix. And the greater the role of debt in creating the bubble, the bigger the mess when the bubble bursts.

Just how out of whack are Canadian house valuations? Maclean’s magazine, citing the work of David Madani of Capital Economics and formerly of the Bank of Canada, recently wrote:

The elephants Madani sees include a sharp run-up in house prices compared to income: the average Canadian home now costs five times the average income, well above the multiple of three that is considered affordable. There’s also a sharp rise in home ownership rates, which at about 68 per cent of Canadians mirrors closely the 69 per cent at the top of the U.S. bubble. Madani also points to continued overbuilding and Canada’s still healthy construction industry. New building permits reached $6.8 billion in December, a 4.5-year high.

The biggest elephant of all is how much the boom has been fuelled by cheap and abundant credit thanks to a low interest rate policy pursued by the Bank of Canada, along with government-insured mortgages. “All the warning signs are there,” Madani says. “We just have to connect the dots.”

Madani, and others like Ben Rabidoux of The Economic Analyst, are right. People are simply ignoring the similarities between the U.S. and Canadian housing bubbles. It reflects the strange emergence of Canadian hubris and exceptionalism, recognized by Rabidoux in the Maclean’s article when he lamented that, “One of the really terrible narratives we’ve allowed to develop in the minds of Canadians is that somehow we are better than the U.S. and so that means we have nothing to be concerned about”.

But because Canada hasn’t had the flood of American-style teaser mortgages and NINJA loans, the consensus isn’t fazed that there has been a veritable explosion in total mortgage debt over the past decade.

To the extent that people do fret about the Canadian mortgage market, the focus seems misguided. The primary risk is not that interest rates rise.A much bigger problem for Canadian housing will be if prices start cratering.

When that happens, the classic mismatch of debt and collateral will become apparent. So long as collateral values, in this case the prices of homes, continue to rise, the debt behind the real estate is benign. But when the value of the house or condo falls below the mortgage value, insolvency is exposed. In a long-run sense, it was always there, but the good times masked it as prices soared to the sky.

Canadians are not simply taking out foolish mortgages. They are upping the bet by borrowing significant sums via home equity lines of credit. To do so at such lofty prices, as happened in the U.S., is directly betting that the bubble will not burst. HELOCs during a house price mania are a clear expression by the borrower of a belief that there is some permanence in their residential equity. Simply put, at current Canadian house price valuations it is a crazy bet to make.

It would be bad enough if Canada was on the brink of a housing crash given the record amount of household debt. But there’s a second bubble, commodity prices, waiting to burst that will merely compound the pain.

Time and again, Wall Street points to emerging markets like China and India as the source of high commodity prices. And there is a grain of truth in this. But the more important factor is financials flows into commodities.  When the financial crisis ensued and resource prices crashed, it was widely recognized that there had indeed been a speculative bubble. It has returned, just as there has been a resurgence in risk-taking across multiple asset classes.

To the extent that China matters to commodity prices, the transmission mechanism may be more complex than the consensus realizes. Yes, a slowing economy will impact real-world consumption demand in China.  Perhaps more importantly, though, a China slowdown will wreak havoc with the investment thesis behind many bullish commodity trades by hedge funds and other speculators. Perception in this case has likely been far more important than reality in setting prices.

Another twist in the commodity bubble is the apparent role played by financing games within China itself. Multiple press reports (see here and here) suggest that significant imports of commodities from copper to soybeans are not for consumption purposes, but rather as a mechanism for obtaining bank credit. It’s also worth mentioning the stories of Chinese citizens and corporations speculating on commodity prices themselves, as one particular Bloomberg article about a pig farmers stockpiling base metals aptly demonstrated.

Resource-laden Canada, riding high on the development of the oil sands and new mining ventures, to say nothing of the bountiful effect on Bay Street, will suffer greatly when commodities fall from grace. In turn, this will exacerbate the bursting of a real estate bubble that in some areas has been juiced by the presence anything from the oil sands to potash.

Twin bubbles bursting, each painful, together an absolute disaster. And to top it off, the manufacturing sector, which could in theory mitigate some of the damage, is being suffocated by a strong Canadian dollar that policymakers stubbornly refuse to weaken. When the housing and commodity bubbles burst, the loonie will get pummelled. But closed factories won’t re-open overnight. Reviving manufacturing will take many years and a large devaluation of the Canadian dollar.

Like most financial manias, the signs are there that Canada is heading for an economic cliff. Yet, human optimism being what it is, the good times so tempting to believe in, cognitive dissonance rules the roost. Until the chickens come home, that is. When that happens, Canada faces a most unfortunate day of reckoning.