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627: US Melt Up and Emerging Market Meltdown

10-07-2018 team

US Melt Up - Emerging Market Meltdown

The global economy is in an economic transformation period passing from:

  • A low inflation, low US growth, low oil price, low interest rate and high US bond price world, to 
  • A higher inflation, high US growth, high oil price, higher interest rate and low US bond price world

The final reckoning for the 40 year bond price bull market has occurred triggered by “Trumpenomic” – expect bond prices to crash as interest rates rise – and stock markets could crash with it – as there is a dash to the dollar paying higher rates. Let us explain.

US Policy: The new overall US policy based on what is happening in Donald Trump’s head is: USA (America) first – to boost the US economy, manufacturing and employment - without any regard to any other country in a new nationalistic style. Indeed, this is so extreme that we have to wander whether there is any country that Donald Trump wants to do well economically - except for the USA of course – even their close neighbours Canada have seen the brunt of his nationalistic USA first economics and trade deals.

Targeting Countries: There are certain countries that the USA seem to “have it in for” at the moment, in particular Iran, Venezuela and China. They want to use their economic powers to put these countries “back in the boxes”. There are some countries the USA seems to be fairly supportive of – Israel being one with the Jewish New York vote and business influence likely playing its part.

Sanctions Key: The US policy in this new order is to bully and boss themselves using economic trade, sanctions and their military might-threat to seize the initiative to further the US nationalistic interests. What has changed from the Obama years is the US is less likely to get involved with ”boots on the ground” in protracted expensive military conflicts to further global democratic goals. They are more likely to live with rouge dictator – as long as they stay in their boxes and don’t upset the USA. The make the claim that the US military is being used by NATO and Europe to improve their security – and this should be paid for – it should not be for free.

Iran and Oil: What is very evident – particularly after the appointment of John Bolton and Mike Pompeo – is that they want to see the Iranian economy crash – they want to force regime change through economic pressures and punish the Iranians for proxy wars they have been fighting for the last 5 year. You see, Obama did this dreadful deal with the Iranians where they could still hide away their nuclear development without any checks/audit, then sanctions were lifted and Iran was even paid billions in hard currency and gold – to sign up to it. Instead of using these proceeds to develop their countries economy and infra-structure for the benefit of their people, the Iranian administration used it to increase their regional influence by supporting left wing Shia militia in places like Yemen, Syria, Lebanon, Iraq and support Shia protest groups on Qatar and Bahrain – to try and de-stablise and dull the Saudi-UAE Sunni Kingdom-alliance – particularly during the low oil price period of 2014—2017 when the Saudi finances were suffering. Of course, part of the Iranian efforts were directed to defeating ISIS – which is a Sunni radical group – though much of the proceeds of the Obama deal were used to abuse their regional power – seizing Yemen, supporting Assad in Syria and putting pressure on Israel one of their main enemies – along with Saudi Arabia.

Trump and Bolton saw this – and Bolton probably convinced Trump that the way to restore order was to unilaterally declare sanctions against Iranian oil to cut off their life blood. This is Bolton’s big right-wing brain at work. Of course this has the backing of the US business and large US banks and insurances houses – they are very scared of Trump – and this means tankers and anyone doing business with Iran and the dollar currency related to Iran, will be cut off – US banks don’t want anything to do with Iran, funding Iran or Iranian oil period. This will then lead to contagion across the globe – and we believe Iran will see its oil exports crash from 2.5 million bbls/day to something like 0.7 million bbl/day by end 2018 – a huge drop in revenue to around 25% of previous levels – and Iran will likely not get hard US currency either – by early 2019  Iran will economically be on its knees. Some more liberal commentators seem to think at this point Trump will want to do a deal with Iran – but frankly – he’s more likely to watch the place implode because he and Bolton frankly hate the Iranian regime – ever since the 1980 revolution they have been a thorn in the side of successive US Administrations and these two believe strongly that Iran has been funding radical left wing Shia terrorist groups and developing nuclear weapons. It is now their time to solve the problem once and for all. The cards are very much stacked in the US’s favour. And Trump seems to have a point – that the Obama deal was indeed soft and terrible – and it caused a lot of harm in subsequent years.  

China Angle: One of the key aspects of this US-Iran economic battle is whether the USA can bully China and India into stopping “all” Iranian oil imports. They are likely to succeed easily with India – because they won’t want to fall short with the US Banks and US business interests, but China and the USA are of course at loggerheads on an ongoing trade war with escalating trade tariffs. If China continues to import Iranian crude and pay Iran in dollars – they are likely to see the full wrath of Trump/ Bolton/ Pompero. It could even trigger a military conflict or some sort of oil tanker-warship altercations – in the disputed South China sea for instance - watch this space.

Unrest Likely: The pressure on Iran will be extreme – and if they have riots and unrest – they might fire out and do something radical like block or disrupt oil shipments through the Straights of Homez where the bulk of Middle East oil shipments pass through - some time by year end.

Oil Supply-Demand: Remember in 1986 the USA worked with Saudi Arabia to flood the oil market, drive oil prices down from $35/bbl to $8/bbl (it cost the Soviet Union $12/bbl to pipe their oil to European markets) – which precipitated the collapse of the Soviet Union by 1989. They are now working with Saudi Arabia and interestingly Russia to pump as much crude as possible – but cut off Iranian hard currency and oil export revenues by installing sanctions – and they are working on exactly the same mantra - they want to collapse the Iranian economy to punch them for proxy wars, funding Shia backed terrorism and being critical of the USA for the last 48 years.

USA: Back on the US home turf, it's no surprize that the USA first economics is working a treat for the USA. Firstly oil and gas production has been skyrocketing – along with oil prices – making the US dollar stronger recently.

  • Unemployment is at a 40 year low and dropping rapidly as more people get back to work and businesses are doing well. Banking, the oil business and manufacturing are all booming off the back of low natural gas prices and better competitiveness as Trump supports business.
  • US oil consumption is rising as people get back to work after the disastrous low growth Obama period when regulations and environmental constraints were put in the way of businesses and jobs that were exported to China as the US competitiveness dropped – 4 periods of quantitative easing distorted the US and global economy and exported cheap dollars all around the world – leading to inefficient use of capital and resources.

Economic Boom in USA: Now the tide has turned – just like it did in the Reagan years – interest rates are rising as the economy booms and inflation rates rise. As unemployment drops, pressures will rise on wage inflation along with higher oil prices and all prices including US Real estate will rise at around double what they did in the Obama years. The cost of capital will increase as well – as banks desire better returns for their dollars. This is all very good for the US balance of payments, exports and paying off their huge national debt, but it will be disastrous for emerging economies that import oil as the pincer movements take place of:

  • Higher dollar interest rates
  • High oil prices
  • Crashing local currencies as investors take flight from these weakening currencies and shift to the dollar to seek out higher returns with the US higher interest rate – compounding their inflation problems

How much of this Trump understands is unknown, he may very well be supporting it – but what it will do is amplify the American First doctrine – by sapping emerging economies and “putting everyone else in their place”.

The reason why this is important for property investors in the UK and around world are the following:
We expect oil prices to rise sharply even further as the Iranian sanctions take effect in earnest starting from 5 November.

  • This will have a big impact on global inflation rates as these spike up.
  • This will then cause governments to put up interest rates to stem the inflation and protect their currencies from a crash against the dollar – and worsening the price of oil that is of course priced in dollars.
  • As interest rates rise – this will put a lid on house prices – they could start crashing in emerging economies and go into the doldrums in European countries as interest rates rise in earnest - thought the US Real Estate may be immune from this impact
  • Rental prices will likely rise in the UK as more shortages occur of rental accommodation

Overall the US policies will have a big impact on the global economy in 2019 – and could lead to a big slowdown in the developing world with the net benefactor being the USA. They are and will be playing economic and trade wars with the whole world.

Russia: A word on Russia – no-one really knows how close Trump and the White House is to Russia. There seems to be a mutual respect – something you tend to get from two powerful bullies – Trump and Putin. One thing for certain is that with high oil prices and high oil output – Russia and the USA are “making hay” with oil prices rising to $85/bbl along with the other important “partner” Saudi Arabia – all these countries produce around 10.5-11.5 million bbls oi/day – a colossal $500 billion in revenue each year - whilst the Iran’s revenue will crash from something like $125 billion to $50 billion, enough to crash their economy and possibly their regime. It’s a new world order underpinned by economics, oil exports and oil prices.  

UK: The UK is not quite self-sufficient in oil production, but essentially its oil imports are quite small. Its gas imports are larger though. In summary, they are more immune from high oil prices than most European countries. However, for 2019 – for UK property investors – we would be very careful buying property at this time because of:

  • Rising interest rates
  • Rising oil prices
  • Brexit uncertainties
  • The threat of a Labour government
  • Already high property prices that could crash if people can’t afford higher rates
  • Banks might start to get into trouble pulling the plug on mortgages – leading to lower property prices
    Sterling could weak against the Euro and Dollar as Brexit take effect – which would also feed through into inflation.

We see inflation rising to around 4-5% by early 2019 off the back of the weak Sterling and higher oil prices – a shock to the economy. The Bank of England will have to react by raising interest rates – then this will slow the UK economy. 

Property: Anyone with rental property – as long as you can survive the higher interest rates – should be well protected during this higher inflationary period. But just to flag a huge elephant in the room. The ultra-draconian new buy-to-let tax regime is far worse at higher interest rates – many buy-to-let investors could go broke very quickly if interest rates rise because of these huge tax increases – they are already making no money and will be making big loses if interest rates double. This will of course lead to a huge under supply of rental properties and rents will rise sharply by end 2019 is our prediction. The government has taxed the hell out of property investment – and they will regret their impact on the London rental market in particular soon – as it becomes clear there are no rental properties left since mortgages are high and rates will be rising making renting sub-economic for anyone that borrows and is not economically robust – investors not willing or can’t subsidize their passion for a year or so of high interest rates and massive tax bills. So watch out for turmoil in the UK property market next year – particularly in London where borrowing and hence the impact of the government’s stupid tax increases are most severe.

Global Scene: For global property investors – the message is very clear. Avoid property in emerging developing markets completely. China is definitely exposed to a financial crash and crashing property prices.

Italy: Italy will be in economic turmoil by mid 2019 – avoid property investment in this country particularly as they import all their oil and gas – their deficits will sky-rocket and investors will run from this nationalist-socialist-euro-sceptic government alliance. Italy will start looking like a giant Greece. 

USA: The USA will likely continue to prosper from the USA First policies – being protected from Trump’s globally destructive policies.

  • In 2019, Venezuelan and Iranian oil revenues, production and economies will collapse – avoid property investment in both countries of course.
  • The higher oil prices will see revenues increase in Norway, Canada, Iraq, Saudi Arabia, Kuwait, UAE, Russia and Brazil – these are the countries that are likely to see the most robust economic growth – albeit Russia has sanctions against it – so will be on a lower level than the rest. Iraq in particularly could see house prices skyrocket as security improves and revenues increase.
  • The other countries that will suffer are – all oil importing African economies – for instance South Africa, Ethiopia, Senegal, Liberia, Sierra Leon and Mali are examples.
  • Most SE Asian economies that import large amounts of oil – like China, Burma, Vietnam – will suffer.
    India – which imports a massive 4 million bbls/oil a day and rising – will see its economy suffer in 2019 despite the booking population and business entrepreneurial ventures.

PIGS: Greece, Italy, Spain – all countries that use large amounts of oil, have high oil import bills, high low population growth or declining - and don’t deliver high GDP growth per oil barrel used  - property prices in these countries are likely to drop sharply after a brief boom post Euro crisis of 2015.

Euro Debt Timebomb: Finally – the last Euro debt crisis was caused in our view by high oil prices and escalating deficit that caused these countries like Greece, Ireland, Spain, Portugal and Italy. The European Central Bank printed huge amounts of currency, kicked the can down the road – and were saved by a flood of cheap US oil shale from fracced oil wells – that crashed oil prices from $100/bbl in Aug 2014 to $28//bbl by mid 2015. Now the Iranian sanctions will take out up to 2 million bbls of oil – Saudi only has 1.3 million bbl/day spare from an overall oil demand of close to 100 million bbl/day. Russia will add 0.5 million bbl/day – but the overall tightening as the US oil shale growth drops off in 2019 is likely to lead to far high oil prices. This will then by mid 2019 put the PIGs countries into recession – namely Portugal Spain, Italy and Greece as they struggle with higher oil and gas import bills. Then watch out for the Eurozone to start imploding from the economic strain of trying the bail out Italy, Spain and other destressed nations. We are very serious about this – anything over $80/bbl is bells ringing Euro-zone debt crisis warning.

Eurozone Instability: Our prediction is by March 2019 when Brexit finally happens – Brussels will be up against crashing PIGs economies and further fractious problems like uncontrolled African immigration, and it's possible  the UK population will finally see the EU for what it is – a bunch of unelected elite trying to run the region and having one size Euro fit for all that clearly does not work for countries so diverse as Greece and Germany. It could very well be the best time to get out – to avoid the bad debts of the PIGS countries by end 2019.   

We hope this Newsletter has given you some interesting insights into how Trump has put his hallmark on the global economy and shaped things in a dramatic style for a very unstable 2019 – for all countries that import large quantities of oil along with Iran, Venezuela and China who look to be in Trump target hairs.
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