Brian McMorris'  Instablog

All good things must come to an end.  In the case of my ownership of General Growth Properties stock (GGP was its ticker before bankruptcy filing), the end is near.  Why? Anyone following GGP will already know this, but just in case you don't, the price per share moved from $4 to $7 in a matter of a couple weeks.  This move, and the reasons for it, mean it is now time to part ways with a very good stock pick (originally bought in April at $0.63 / share).

Three good things happened for GGP the past two weeks:

1. GGP released its 3rd Quarter financials on Monday, November 9.  They were better than expected.  Year over Year (YOY) results were down, naturally, given the near depression we have experienced since Q3 2008.  But they were down much less than had been expected by analysts still following the company.  Cash Flow (FFO) was actually positive by $671M ($2/share) when $700M of one-time, non-cash expeneses are added back while revenue and operating earnings were down only marginally (less than 5%).  The "comprehensive" earnings were down substantially because of the large non-cash impairment charge to reserve for future unknown expenses attributable to the very weak economy.  But all in all, the Q3 report was very encouraging.

The financial world is centered in China this week as the IMF meets with Chinese and other global financial leaders.  The discussion is centered on how to improve the world's financial stability by perhaps rebalancing the global currencies against each other.  It is time the Chinese Remnibi is strengthed versus the dollar and the practice of indexing the Chinese currencies against the US dollar to protect Chinese labor advantage is discontinued.  This will also mean increased domestic consumption by the Asian economies as the Western economies save to reduce debt.  CNBC reported the following late Sunday night, Central Standard Time: 
 

There is a simple fact that all Goldbugs miss: and that is the American economy, and most all others in the world, have just experienced a massive asset DEFLATION (still underway in some segments like commercial real estate).  This deflation in America was about $15T over the past two years according to New York University's Nouriel Roubini (from $40T to $25T).  That asset deflation was completely psychological.  One day American assets of all types were worth $40T in dollars and just a little bit later, were worth quite a bit less.  There was no massive physical destruction of assets as in a war (counter to the weak Weimar hyper-inflation argument), only economic.

The basis for my opinions on monetary reflation are derived from Hyman Minsky's work.  PIMCO's Paul McCulley has written on "The Minsky Solution" many times the past two years.  In early January, I featured one of McCulley's articles in a post: http://wealth-ed.com/2009/01/reflation-economics-or-the-minsky-solution/

To deflate assets requires the value of the currency those assets are denominated in to increase (this is counterintuitive for many) as the quantity decreases.  In essence, $15T of dollars were destroyed or disappeared (not physically, but notionally with debt paper markdowns).  Less dollar supply at a given demand = higher price / value.  Central bankers everywhere understand this dynamic.  So, in a coordinated way to restore stability to global assets, currencies are being expanded to replace those notionally destroyed (through markdowns during 2008 of the paper that underpinned all those assets, CDOs, RMBS, etc). 

The most intelligent dissertation I have seen on repairing a deflation was printed in Barrons last February.  Ray Dalio, a rare Barrons contributor, was interviewed.  I reference this interview on my blog: http://wealth-ed.com/2009/02/fixing-a-deflation-a-most-intelligent-analysis/

To recap what Dalio said, then, and most presciently: this CB driven monetary expansion is NOT inflationary to the extent that aggregate asset values are being returned to 2007 levels.  "How can this be?", say the skeptics.  My answer: by definition, the reduction of the value of $40T national assets to $25T assets is deflationary.  In America, $15T of the global reserve "currency" (almost all of it electronic bookkeeping and not "paper") can be created to replace the "paper" that was lost in 2008, with mostly positive effects.  There is no deleterious effect so long as the recreation of the lost currency is done slowly enough as to not be disruptive to global currency flows (currency destruction in 2008 was disruptive enough, don't we all agree?)

In the Land of the Rising Sun, the financial sun is apparently setting.  I have zero investments today in Japan for the reasons outlined in the story linked below.  Credit Default Swaps (CDS) are showing the Japanese banks are under great stress.  Those bank debt insurance policies are at levels close to where American banks were in September 2008 before the big crash and bank implosion. 

I have business associates in Japan, and the economy has been in virtual depression for many years.  They have a homeless problem like you would not believe with tent villages on public grounds in the cities, especially around the old castles (but being Japanese, they are very tidy tent villages).

From my take on the Japanese people, the problem is mostly to do with their domestic reluctance to consume.  They have a domestic consumption economy much too small for the size of the country (by population).  The older generation that came of age post WW2, was reluctant to spend on anything, understandably so given what they went through in the years after 1945.  Even the business leaders who make a very nice income by American standards, are very frugal in how they live.  The wages for the workers among the younger generations are very modest.  I was able to determine that a sales person selling the same products as me, with the same skill set and experience, was making half the wage.  The Japanese I know can’t believe how well we live here in America and some consider us wasteful and decadent (though they enjoy participating in the decadence when they visit).
 
And with the WW2 generation being very conservative about their own future, they had small families with birth rates below the "replacement rate" of about 2.2 children per family.  This, along with virtually no immigration, leads to the well known problem of Japan’s gentrification.  Who is going to take care of all the older people on government pension and healthcare?

This week's sell off in the markets is very similar to the Q2 reporting season beginning at the end of June or the Q1 reporting period beginning in March to April. Investors are now "Buying the Rumor of solid corporate earnings, and Selling the News, no matter how good it is.

This is one of the oldest and most solid rubricks of the stock market. (Why does it work? I think it is because of human psychology: rumors always originate at a time of fear and weakness in a company stock price; the news of higher earnings a period of time later will be met with satisfaction and smugness, which creates the circumstance for a price peak). Take a look at the charts in late June and early July. This is essentially a repeat performance of what we are experiencing now. But this time, the market is 15% higher than then, as it continues up its sawtooth stair pattern.

Likewise, I think we will see August and September repeated later in November and through December (the proverbial "Santa Claus Rally"). Once the current selling has run its course around 980, the market will kick back up for another 20% run higher to 1200 SP500. That is my thesis.