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Saturday, March 30, 2013

Portfolio up 30% since November

My position in BAC, GOOG and AAPL are moving in the right direction, though gold keeps under-performing (will probably not see any positive movement here until mid-2014).

Tuesday, March 26, 2013

Cyprus - chapter one of the Great Unwind

Yesterday, it was announced that Cyprus has stricken a deal with the Troika on how to secure financing for its banks. The proposal implies the bankruptcy of the country's second largest bank (Laiki), and government confiscation of un-insured deposits (though only 35% of these for Bank of Cyprus, the country's largest bank).

Good news of bad news? Does it matter in the end? Its just news.

What is happening in Cyprus is a gunshot in the air. The EUR 5 billion the Troika refused to finance are peanuts compared to the 240 billion that Greece has already received, the 68 billion received by Ireland, the 78 billion received by Portugal, or the 100 billion received by Spain. It is a sign to Italy that any Italian bailout will be on tough conditions, after all, why should Italy be treated better than Cyprus? Furthermore, a looming economic disaster is France, who's external debt position in increasing and increasing, likely to produce a crisis within two years on the current economic trajectory.

A more interesting question is, why (except for within extremist parties) is there no wide-spread recognition of the need to dismantle the Euro? Countries like France (which still have not reached the extreme un-employment levels of Spain) or Italy (which has a surplus on its current account balance) still have a chance to avoid an even bigger disaster in the future if they act now.

Dis-mantling of common currency areas have been done many times without any major difficulties (the break-up of the Soviet Union is a recent example). What makes the situation different in the Euro area are the extreme amounts of external debt held by each country. However, if debt holders take a hair-cut through currency devaluation or a hard hair-cut, does it really make any material difference for them? Until these economies have been de-risked, they will struggle to find financing and as assets values continue to deteriorate, trigger capital flight from the periphery to the center.

Capital controls are inevitable regardless of a euro de-peg. Capital will seek to fly if the country stays within the Euro (banks perceived as risky) or if there is the chance of a de-peg (devaluation). International coordination with European governments and central banks are the remedy in either situation.

It is in the interest of everyone to stabilize the periphery as soon as possible, and a currency devaluation might be the preferred route to avoid overshooting as society disintegrates in the periphery and financial bubbles are created in the center.

It continues to puzzle me that politicians still have not realized that what is happening in these countries is Europe's version of the Great Depression. The main challenge during the Great Depression was the Gold Standard. Cyprus, Spain etc have the Deutschmark standard, which is more or less the same thing.

The Great Depression did not end until all countries affected left the gold standard, which allowed them to debase their currency. The UK left the gold standard in 1931, the US held on until 1933. In the process, the US confiscated public gold, which is the same what has been happening in Cyprus, with politicians confiscating Euro's held by depositors. Subsequent research on the Great Depression documents that the earliness with which a country left the gold standard reliably predicted its economic recovery.

Do we need a major breakdown of society, with rise of political extremism, hunger, and social unrest before one realizes the need to dissolve the Euro? Or can it be done in a planned manner that preserves the value of existing economic structures of society and minimizes volatility?

Probably the Euro will live on for another 7-8 years. With the next bubble forming in German real estate.