Global Market Commentary

Our Opinion on the Markets Remains…


Overall, we remain bullish on our previous recommendations. As we discussed last week, everybody around the world seems to be working together to create massive liquidity for the markets and to raise


asset prices. We do expect corrections in the markets between now and mid-March, but we expect them to be brief and shallow. Bonds have been the safe and secure assets, and as the risk profile of the market grows, we expect they will stop rising. This should give way to even more appreciation in stocks and commodities with higher beta (higher positive market correlation). If the market rises 10 percent, a stock with a beta above 1 will rise more than 10 percent and should outperform bonds and other less risky assets. We continue to be-lieve that gold will rise, and that gold mining shares will outperform gold during this period.


Why Did We Choose Our Recommended Countries & Stocks?


Our chosen countries have made aggressive moves to lower interest rates and provide liquidity to their markets. Since we anticipated that equities and growth-oriented assets would outperform bonds, we


recommended several stocks and stock markets. These included the U.S. market, and three emerging market plays: the Vanguard MSCI Emerging Market ETF (NYSE: VWO), the iShares Brazilian Market ETF (NYSE: EWZ), and the Indian Market Index. Note: We are closing our recommendation on the Indian stock market as India is heading into an election season. See India section below.


The United States


The U.S. market continues to be a good place for investment. First, we have been attracted by the fact that in late 2011 stocks reached low and attractive valuations. Second, corporate profit reports have turned out to be stronger than expected. Third, investor pessimism about the U.S. had become too prevalent. When pes-

simism reaches exceptional levels, professional investors are often out of the market and some are even short stocks. When a rally begins, the bears are forced to buy stocks in order to cover their short sales, and the timid on the sidelines have to buy stocks to participate. This creates a virtuous cycle of stock-buying and short-cover-ing, which boosts the market. This is why U.S. stocks have remained buoyant.




Fortunately for Brazilian investors, President Dilma Rousseff has proven her willingness to carry on the good-will towards the business community established by her predecessor, President Lula. Also fortunately, the Brazilian consumer remains in fine fettle.




India was considered by many to be in dire straits earlier this year. Since that time, people have been waking up to realize that India’s currency and market had been excessively punished for its decelerating economic growth and high interest rates in 2011. Now that interest rates in India are falling, the market psychology has changed. Indian companies are continuing their trend of strong earnings growth. Unsurprisingly, both the Indian rupee and the Indian market have experienced rapid rises.


Today, our biggest concern about India is the Uttar Pradesh (UP) election which began yesterday, February 8. UP is India’s most populous state and the outcome of this election may have national repercussions. We are tak-ing our cue to sell the Indian market from the potential political chaos from the elections. We are recommending investors sell the Indian stock market. We may re-enter India in a few weeks if the elections proceed smoothly and moderate candidates prevail (see the recommended tracker at the bottom of this letter).


Emerging Markets


The most obvious recommendation that we made was to buy the emerging markets as a whole — in our January 18th commentary. We believed that the confluence of interest rate declines, growing consumer demand, low valuations, and earnings factors would send emerging markets higher. Two keys to our optimism were consum-er demand within emerging markets and the transition that has taken place in many of them from export-driven to internal consumption-driven. Strong internal consumer demand is developing in many countries as incomes and standards of living rise, and this is key to achieving long-term economic growth. It is good for investors when corporate profits are not solely dependant on exports.


Specific Stocks We’ve Recommended


We currently have two open stock recommendations: Golar LNG (NYSE: GLNG), which we recommended on


January 6, 2012, and CF Industries (NYSE: CF), which we recommended on February 2, 2012.


Golar has declined since the date of our recommendation. We note two reasons for the decline:


  • Many investors do not understand the economics of the Liquefied Natural Gas (LNG) transportation indus-try, and Golar is the second largest LNG shipper. Currently, prices to ship dry bulk items are at multi-year lows (see section on dry bulk below). However, that is not the case for the prices to ship LNG. Prices have been rising for two years, and are high. We expect them to rise further in the next year or two.


  • Demographics and our analysis indicate that LNG demand will grow rapidly as more countries in Asia and Europe shift to LNG as an alternative to coal and as an alternative to their current, less reliable gas supplies. We recommended Golar to take advantage of the growing LNG demand and the higher pricing for LNG transportation. The stock also pays a 2.9 percent dividend while you wait. 

    We explained the logic of buying CF Industries when we recommended it on February 2nd. Demand for fer-tilizer is strong worldwide. China, Russia, and others are dedicating more land to farming. In the developing world, citizens’ disposable income is growing, and they desire to spend this money on higher quality food, and more of it. Fertilizer is a key ingredient to meeting this rising food demand. As a supplier of nitrogen and phos-phate fertilizers, we see CF as a strong beneficiary of these macro trends.Next week we will explain more of the logic behind the recommendations that we have made in commodities and currencies.


    Major Banks & National Governments Oppose the Volcker Rule. Why?


    The Volcker rule aims to stop speculation and the buying of low-quality assets by banks. Of course, no re-sponsible person wants banks to gamble or speculate with public money, or money the public would have to


    replace if lost. But banks don’t want to give up the profits from speculation. Especially when, historically, they have been able to keep their profits when they win big, and when they lose big—such as in the crisis of 2008— the taxpayer is there to help absorb their big losses. Bankers who are compensated well for betting and winning big don’t want to give up their big paydays. The Volcker rule will cost them money.


    Recently, Paul Volcker expressed his surprise that some of the complaints about the rule are coming from gov-ernment officials. He pointed out that some European officials who are currently complaining about the rule are the same ones who previously complained about speculator activities in the European currency, bond market, and banking system. Suddenly, these officials seemed to be siding with the speculators.


    Senior political officials in Japan and Canada are joining European politicians in complaining. Apparently, they are concerned that the Volcker rule could hamper the ability of banks to purchase and sell their sovereign bonds. Now that these countries’ sovereign bonds are perceived to be speculative, they need speculators to buy them. Despite these officials’ dislike for the fluctuations in their currencies caused by speculation, they now appear more concerned about their ability to fund their spending. Unless speculators (and in many cases they are banks) are allowed to buy speculative assets, these governments will have a difficult time paying their bills. Thus, they dislike the Volcker rule’s restrictions. In our opinion, the rule is necessary to maintain stable markets and keep taxpayers from having to pay the bill when banks fail.


    Politicians, on the other hand, appear to have the attitude that taxpayers should be the ones to bail out banking problems that arise from government largesse. The lack of leadership on this subject is sad. Formerly respon-sible countries are now acting like gamblers, and the entire world seems to have gone a bit mad in this regard. Apparently, countries gambled on how long they could keep spending high and have their income keep up.


    But, since spending has continued to far surpass income, the bonds that governments sell have gone from high investment grade to lower grade. Now, some European countries almost have to bully banks to buy them.


    So, overall: follow the money. If money and profits are involved, people resist reasonable requests for change. Bankers do it when their bonuses are at risk. Politicians claim they do it in the name of public safety. We argue that the public safety is not being served. The lack of leadership it is putting the taxpayers, the taxpayers’ children, and the taxpayers’ grandchildren at risk.

    New Route for Asian Imports


    In terms of tonnage, the Port of Los Angeles is the busiest port in the U.S., and the Port of Long Beach is the second busiest. These two ports are directly adjacent to one another and represent a large number jobs and


    international commerce for the U.S. economy. Fed by these gateway ports is not only the urban sprawl of the Southern California and the American Southwest (which together consume about half of the incoming freight), but the rest of the country as well. The remaining half is trucked a few miles from the Port of Los Angeles to the railroad yard in the nearby Alameda Corridor. From there, these billions of dol-lars in goods are sent by rail to the rest of the country.


    Historically, these ports have not had a lot of competition. Huge container ships loaded with goods from Asia couldn’t use the Panama Canal as the canal could only handle ships


    with up to 5,000 containers. Compared to the two southern California ports, this is peanuts. There, the biggest ships have been able to bring 15,000 or more containers. However, with the expansion currently underway at the Panama Canal—due to be completed in 2014—this will change. The widened canal is expected to accom-modate even the largest container ships.


    In expectation of a picking up some of Southern California’s lost shipping business, the ports of Miami, Charleston, and Savannah are mobilizing. They are dredging their harbors and seaways and expanding their ship sizes in hopes of competing with Houston and New Orleans, which can already handle big ships. Los An-geles and Long Beach are not unaware of the looming competition. Their port managers are working to speed up operations and cut costs for shippers in order to keep their cost advantage. We are also told that it is not uncommon for ships to stop at more than one port, so ships from Asia will be able to stop in L.A. / Long Beach and then continue on to the canal, however the port operators in California are not satisfied with this alterna-tive. We have sources who believe the two Southern California ports will maintain the cost advantage, but as investors we don’t bet on this type of outcome. We simply stay alert to such developments so that we can better monitor the shipping efficacy of companies from various parts of the U.S. These are the types of changes that create investment opportunity for industries and companies.


    We will watch the race, inform you of the ultimate winner, and let you know if there are any investment oppor-tunities created.


    Flash Crash Revisited


    We all remember the flash crash of May 6, 2010, when the Dow Jones Industrial Average collapsed over 800 points in a matter of minutes. In reaction to the trauma they experienced, a generation of investors


    panicked, and many withdrew their savings from the investment markets…and have yet to return. The market’s high volatility continued through 2011, and many market watchers have blamed high frequency trading (HFT) and algorithmic program trading for this.


    Many of today’s computer-driven trading programs (a.k.a. fast trading, algo trading, robo trading, or black box trading) are designed to profit from just about anything…and sometimes even nothing. They are programmed to take information from the markets, and place orders without human interaction. These computers can spot and react to information faster than humans can process observations. The programs can react instantaneously to things like price movements, patterns, inefficiencies, large orders, movements in correlated assets, and many

    other variables. Sometimes, if too many traders base their algorithms on the same variables, market behavior can get wild. These computers are not concerned with value. They are designed to profit from short-term data points.


    It is not just the problem of high volatility that needs to be addressed; there are still issues of market closures due to technology failures. In advance of Y2K and after the attacks on the World Trade Center in 2001, the financial industry did a lot to build layers of redundancy into their systems, but it remains that a sudden major technological outage—such as a server going down—can lead to sudden stock market volatility and temporary market closures.


    Now we know the speed and capability of technology is always going to progress faster than regulators can keep up. The market mechanisms and regulations in place at the time of the May 2010 flash crash were archaic ones. Many of the rules and circuit breakers were designed in the 1980’s. Now, in 2012, the SEC is in the pro-cess of creating new rules to govern rapid trading. In our view this is long overdue.


    In a recent Wall Street Journal article by Jacob Bunge entitled “Regulators Eye Exchange Technology,” Mr. Bunge states, “Exchanges such as those run by NASDAQ OMX Group, Inc., and Direct Edge Holdings suffered big technology glitches over the past year that forced them to make up millions of dollars in losses to custom-ers. Minor problems, such as a server outage that affected trading data for some stocks on the New York Stock Exchange this week, are more common.”


    In the last few decades, the exchanges began to make a great deal of money from rapid trading. As soon as ex-changes began profiting from this, they had a conflict of interest. Their interest (and, we think, their behaviors) shifted from creating a level playing field for individual and institutional investors, to catering to the rapid trad-ers who were going to trade in and out of hundreds of millions of shares a day. Many believe that this conflict of interest still creates problems for the future of the markets.


    On the other side of the argument, some feel the current system has served well. Mr. Bunge points out that “exchange executives privately argue that the SEC’s current guidelines provide a flexible regime that has proved effective over the last two decades,” although he admits that this is “several lifetimes in the rapidly evolving world of electronic markets”. But as a reporter, it is Bunge’s job to report both sides of the issue. We are not so neutral. In our view, this conflict between rapid trading and investing is a more serious issue than anything else that the regulators are currently dealing with.


    Remember the derivative meltdown during the financial crisis of 2008? We never trusted the banks to police themselves, and hence we warned repeatedly about derivative risks before they nearly collapsed the system. Similarly, we do not trust the exchanges to police themselves, nor to provide a level playing field for all inves-tors, big and small. They have financially benefitted from the big trading volume created by the HFT commu-nity. Unless something is done to limit the noise created by these computers, we expect more events like the flash crash of 2010. Will the regulators do something in time or will they delay…and react after the problem escalates?


    Those Panicking Over Price Declines in Dry Bulk Shipping are not Paying Attention to the Correct Data


    Some things that you see in the press are totally misleading from an investment point of view. A classic case-in-point is the recent hubbub about the weakness of the world economy by people citing the falling rates on dry bulk shipping. Their assumption is that because shipping rates for grains, coal, and raw materials (dry bulk)


    are currently near multi-decade lows, there must be not be any import demand and business must be slowing down.


    What these panicked folks do not understand is that current dry bulk shipping rates do not have as much to do with economic activity as they have in the past. To gauge economic activity based on shipping alone, it would be necessary to know how many ships are leaving and arriving at ports, to check port loading and unloading in-formation, and to know the sizes of the ships loading and unloading. It’s not possible to get this information by just following an index. It would require the analyst to contact many ports and do a lot of other work. Instead of doing this thorough work, the uninformed prefer to just follow dry bulk shipping prices.


    The problem is that dry bulk prices are unreliable as a measure of shipping and therefore, economic demand. The index is greatly impacted by shipping capacity available. Shipping analysts can tell you that in 2007 and 2008 shipping prices were high and capital was available. Far too many speculators and shipping operators borrowed money to increase their shipping fleets. They figured that since the shipping industry always scraps a number of ships each year, that they weren’t speculating when they ordered the same number of new ships. The mistake was not that too many ships were built, but that it was more cost effective to build new ships with three times the capacity for cargo. These newer, larger ships created a glut of bulk shipping capacity, keeping dry bulk prices from rebounding when the global economy turned higher.


    The moral of the story is do some deeper analysis. Don’t just base your outlook on whether the current dry bulk rates are high and loans are available. There is demand for bulk goods, despite what the index suggests.




    Continuing our posture of the last several weeks, we remain bullish. We are still bullish on: U.S. stocks, emerging market stocks, Brazilian stocks, gold and gold stocks, oil, wheat, and two non-U.S. currencies.


    The one change we are making is that we recommend selling the Indian market if you now own it. See Recom-mendation Tracker below.






    General Disclosures about this Newsletter


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    The newsletter makes general observations about markets and business and financial trends and may provide advice about specific companies and specific investments. It does not give personal investment advice tailored to the needs, objectives, and circumstances of individual readers. Whether investment ideas and recommendations are suitable for individual readers depends substantially on the personal and financial situation of that reader, which GIM, as the publisher of the newsletter, makes no effort to investigate.


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    A Special Comment for Guild’s Clients


    If you are an investment advisory client of GIM who is receiving this newsletter, please note that the fact that a general recommendation is made of a particular security, commodity, or investment area to its newsletter subscribers does not mean that investment is suitable for you or should be purchased by you. For example, GIM may already have purchased such securities on your behalf or purchased securities in the same industry (and an increase in the position for you may represent too much concentration in one security or industry), or GIM may believe the investment is not suitable for you based on your risk tolerance or other factors. If you have questions about the recommendations in this newsletter in relation to your account at GIM, please contact Monty Guild or Tony Danaher.


    Conflicts of Interest


    As of the date of this newsletter, GIM’s investment advisory clients or GIM’s principals owned positions in areas that are the subject of current recommendations, commentary, analysis, opinions, or advice, contained in this newsletter. GIM’s advisory clients or principals are currently long U.S. and foreign equities. Guild Investment Management (acting for its clients) and/or Guild’s principals, purchased 116,530 shares of Golar LNG (NYSE: GLNG) between December 2, 2011 and January 11, 2012 at prices between $43.5017 and $46.1674. Guild also sold 15,000 shares of GLNG on January 11, 2012 at $44.1006. Guild Investment Management (acting for its clients) and/or Guild’s principals, purchased 116,300 shares of iShares MSCI Brazil Index Fund (NYSE: EWZ) between February 1, 2012 and February 7, 2012 at prices between $67.089 and $68.779. Guild Investment Management (acting for its clients) and/or Guild’s principals, purchased 70,700 shares of Technology Select Sector SPDR Fund (NYSE: XLK) on February 6, 2012 at a price of $27.6796. They also hold positions in U.S. and foreign market ETFs, emerging market ETFs, gold ETFs and gold mining ETFs, precious metal mining shares, and foreign currencies.


    GIM and its principals have certain conflicts of interest in its relations with its investment advisory clients and its newsletter subscribers resulting from GIM or its principals holding positions for its clients or themselves which are also recommended to its clients. GIM may change the positions of its clients or GIM’s principals may change their positions (increasing, decreasing, and eliminating them) based on GIM’s best judgment at any given time, including the time of publication of the newsletter. Factors that lead GIM to change or eliminate its positions may include general market developments, factors