In my wealth management practice, you helped me finesse September like a virtuoso. As my client's investments were crashing through their stops...I hung on.
Your sage counsel helped me ignore the noise, focus on the numbers and add to positions at a great entry point. The scar tissue you've built up over your career is no small benefit to your subscribers.
Thank you so much!
Brad
Bakersfield, California
Global Market Comments
November 30, 2017
Fiat Lux
Featured Trade:
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When I lived as a student in West Berlin during the 1960s, I had a nice little side business.
I organized weekend walking tours through the Berlin Wall at Checkpoint Charlie to visit East Berlin for American students too afraid to go alone.
To pay for it, I smuggled US dollars my customers paid me in my boots which I used to buy Ostmarks in the East at a 75% discount to the official price. I then covered lunch and all my other bills, booking a nice profit on the day.
That would be much more difficult to pull off today, as governments around the world have launched a war on cash that will not end until its ultimate demise.
The truth is governments hate cash.
This became clearly apparent when the government of India withdrew circulation of its two largest banknotes. Some 50% of Indian GDP is thought to take place in the underground economy in cash only.
The move caused a financial panic, as consumers sold gold (GLD) and other hard assets to meet bills because they were unable to settle accounts with the large denomination notes they had hoarded.
As we move towards an all-electronic economy, the few remaining purposes where cash is essential are largely illegal.
When I lived as a student in West Berlin during the 1960's, I had a nice little side business.
I organized weekend walking tours through the Berlin Wall at Checkpoint Charlie to visit East Berlin for American students too afraid to go alone.
To pay for it, I smuggled US dollars my customers paid me in my boots, which I used to buy Ostmarks in the East at a 75% discount to the official price. I then covered lunch and all my other bills, booking a nice profit on the day.
That would be much more difficult to pull off today, as governments around the world have launched a war on cash that will not end until its ultimate demise.
The truth is, governments hate cash.
This became clearly apparent when the government of India withdrew circulation of its two largest banknotes. Some 50% of Indian GDP is thought to take place in the underground economy in cash only.
The move caused a financial panic, as consumers sold gold (GLD) and other hard assets to meet bills because they were unable to settle accounts with the large denomination notes they had hoarded.
As we move towards an all-electronic economy, the few remaining purposes where cash is essential are largely illegal.
Waitresses, babysitters, and bookies don't report income to the IRS. Nor do drug dealers.
This is a big deal because eight states legalized marijuana in the last election.
Since banks are still banned from handling pot proceeds, this booming business has to take place entirely in cash. Tales about of dealers making their runs with shopping bags full of $100 bills are rampant.
The IRS estimates that $460 billion in tax revenue is lost every year through unreported income, which is largely earned in cash.
Some half of the entire US paper money supply is held by foreigners, where it is used to evade taxes, bribe foreign officials, and finance terrorism.
The US government's war on cash is not a new thing. In 1929, it cut the size of US banknotes by one third to save money on the cost of high-grade paper.
In 1970 the US Treasury banned the circulation of the $10,000, $5,000, $1,000, and $500 bills to halt mafia money laundering. Since then, the IRS has been the biggest beneficiary of the move.
Large denominations US bills are now solely the domain of collectors.
The US government would love to get out of the cash business, as it is so expensive to run. It spends about $737.4 million a year just to print American $1, $2, $5, $10, $20, $50, and $100 notes.
Paper dollar bills, which are actually made of 75% cotton and 25% linen, are completely worn out and have to be returned in only 18 months.
Coins are even a bigger loser. It costs more than two cents to make a penny.
Since the advent of color printers, counterfeiting has exploded. North Korea runs almost its entire economy on fake $100 bills, which are said to be the best in the world.
Today, some 80% of the entire $1.34 trillion M1 notes and coins in circulation in America are in the form of $100 dollar bills. That works out to $4,200 per person. Where has all that money gone?
The US is now considering eliminating even this convenient denomination. While $1 million in $100's can fit into a tote bag, that quantity of $10 bills would weigh 220 pounds, a quantity much more difficult to sneak around.
An all-electronic economy would certainly pose some privacy problems, as it would leave a massive paper trail on everything you do.
When you get audited by the IRS, the first thing they do it obtain your past three years of bank and credit card records detailing your every transaction.
State authorities will pursue phone records to establish your physical presence to verify residency. So how long did you really spend in tax-free Florida last year?
It would also pare back illegal immigration, as this is another industry that runs entirely on cash. Once here, undocumented workers are often paid in cash in restaurants and on construction sites.
There is truly no place to hide.
Other countries are already well ahead in the war of cash. In Belgium, some 93% of all financial transactions take place electronically.
Sweden has also been pushing hard on this front, taking the M1 money supply there down by 27% over the past two years.
Many small businesses there now post signs saying they don't accept cash. The goal is to move to an all-electronic economy.
The preferences of Millennials are also moving us towards the cashless economy.
Have you every been in line at Starbucks and noticed that the kid in front of you just paid $2 for a cup of coffee with his credit card? Or maybe he swiped his Apple Pay account on his iPhone?
Whatever the means, it is clear that hard cash is about to become a dinosaur.
The confidence you have given me to enter the USD:JPY spot positions have returned me in excess of $1,500,000 in the last few months.
I'll be in California next year.
Can't wait to catch up. Dinner is on me, both times!
I know you said you aren't retiring until you're well into your seventies. Why so soon?
You're welcome to use this as a testimonial.
Cheers
Peter,
Australia
Global Market Comments
November 29, 2017
Fiat Lux
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I can't tell you how much I enjoy your blog. It is the first place I go every morning and I miss you on the weekends.
I stumbled upon your site about 4 months ago and have been addicted to it since day one. I really appreciate not only your insight into the markets, but also your global and historical perspectives.
All of this served up with your great sense of humor makes it a must read! Thanks for all your hard work.
Chip
"You make the most money when things go from terrible to only bad." said Tim Seymour of emerging market hedge fund, Triogem Asset Management.
Expect to hear a lot about ignition in the next year. No, I don't mean the rebuilt ignition for the beat up '68 Cadillac El Dorado up on blocks in your front yard.
I'm referring to the inauguration of the National Ignition Facility next door to me at Lawrence Livermore National Labs in Livermore, California.
Mention California to most people, and images of love beads, tie died T-shirts, and Birkenstocks come to mind. But it is also the home of the hydrogen bomb, which was originally designed amid the vineyards and cow pastures of this bucolic suburb.
The thinking at the time was that if someone accidently flipped the wrong switch, it wouldn't blow up San Francisco, or more importantly, Berkeley.
The $5 billion project aims 192 lasers at a BB sized piece of frozen hydrogen, using fusion to convert it to helium and unlimited amounts of clean energy.
The heat released by this process reaches 100 million degrees, hotter than the core of the sun, and will be used to fuel conventional steam electric power plants.
There is no need for a four foot thick reinforced concrete containment structure that accounts for half the construction cost of conventional nuclear plants. The entire facility is housed in a large warehouse.
The raw material is seawater, and a byproduct is liquid hydrogen, which can be used to fuel cars, trucks, and aircraft. If this all sounds like it is out of Star Trek, you'd be right.
I worked with these guys in the early seventies, back when math was used to make things, and before it was used to game financial markets, and I can tell you, there is not a smarter and more dedicated bunch of people on the planet.
If it works, we will get unlimited amounts of clean energy for low cost in about 20 years. Oil will only be used to make plastics and fertilizer, taking the price down to $10 for domestic production only.
The crude left in the Middle East will become worthless. Lumps of coal will only be found in museums, or in jewelry, its original use. If it doesn't work, it will melt the adjacent Mt. Diablo and take me with it.
If you don't get your newsletter tomorrow, you'll know what happened. Now what is this switch for?
So, what am I talking about here?
Blue chip growth stocks? Diamonds? Residential real estate? Gold?
No, I am talking about grand pianos manufactured by Steinway & Sons of Queens, New York.
Did you say pianos?
Yup, the kind with which you sit down and play "As Time Goes By." (Casablanca).
During the 19th century, there were over 1,200 US piano makers manufacturing a product which can include more than 12,000 parts. It was the technological Boeing 474 of its day.
Today, there are only five American piano makers, and just one, Steinway, is considered investment grade.
That's because when Carnegie Hall, London's Royal Albert Hall, or Beijing's Concert Hall National Grand Theater are in the market for a new concert grand piano, they only consider Steinways.
You can start with an entry level 5'1" Steinway Model M baby grand piano, or ostentatiously splurge with a opera house filling nine-foot-long concert grand Model D.
I received the bad news from my kids' piano teacher a few months ago. After six years of lessons, they had outgrown their piano, a modest entry level 1966 Wurlitzer spinet.
I approached the matter as I do everything, with exhaustive, no stone unturned research. What I learned was fascinating.
Given the available space in my home and the kids' commitment to the enterprise I decided that a seven-foot Steinway Model B would do.
My first visit was to the local Steinway dealer. For a mere $100,000, and $110,000 with tax I could buy a brand new 6'11" Model B.
For an extra $15,000 I could buy a model B with the Spirio technology that enabled the piano to play itself to incredible symphony standard.
Financing was available at a hefty 10%, compared to only 2% for my Tesla. Banks are not allowed accept pianos as collateral.
Steinway also sell used pianos, but will only go back 15 years, getting me down to the $70,000 range. I thought I'd look around more.
So I plunged into my favorite source of incredible, once in a lifetime deals, Ebay (EBAY).
The offerings were vast.
They included everything from a $13,500 1897 Model B in desperate need of a complete $30,000 rebuild, to a 2013 Model B in showroom condition for $87,500.
Obviously, I had my work cut out for me, especially since I am not a musician myself. Coming from a family of seven kids, there was never enough money for music lessons.
Thus, I have been a lifetime consumer of music, rather than a producer.
It turns out that, like Rolls Royce's (that other great unknown inflation hedge), no one ever throws a Steinway away. A fully restored 130-year-old model can almost cost as much as a new one.
And there is your inflation play.
The list price for a Steinway Model B in 1900 was $1,050. Some 117 years later, it is up 100-fold, giving you a compound annual growth rate of 3.97% a year.
This compares to 5.18% for ten year US Treasury bonds, and 9.71% for the S&P 500 over the same time period. But then you can't play a stock certificate, let alone make your kids practice on it.
A Steinway is in fact the perfect instrument with which to make these long-term inflation calculations.
Vintage cars, diamonds, and homes are all unique, have varying quality, and are all susceptible to overvaluation and hype from aggressive salesmen and dealers. Even gold coins can have huge differences in value based on grade and rarity.
Save for a few patents issued in the 1930's covering keyboard and soundboard manufacturing, Steinways are built almost identically to the way they were made 117 years ago. Tour their factory and you find workshops filled with primitive 100-year-old iron and wooden tools.
Every other manufactured product has seen massive productivity and technology improvements over a century that have caused real prices to completely collapse.
Take computers for instance, which have suffered an average annual price decline of 30% since 1950. The cost of telephone calls has fallen by almost 100% in real terms since 1900 (see table below which I lifted from my former employers at The Economist)
That is the source of the rise in our standard of living.
It gets better. The prices of Steinways are rising fairly dramatically in real terms relative to almost everything else thanks to a host of geopolitical reasons.
It turns out that the Chinese are taking over the global market.
While 200,000 pianos a year are sold in the US, the figure is over 1 million in China.
Many Chinese parents hope their children will achieve the international prominence of 35-year-old Lang Lang, who commands millions of dollars a year in global performance and licensing fees. Many aspiring parents drive their kids to practice eight hours a day.
As a result, the Chinese have been buying up all the used premium pianos in the world, including Steinways in the US, Bechsteins and Bosendorfers in Germany, Faziolis in Italy, and Yamahas and Kawais in Japan.
Whenever Chinese buy a luxury apartment in San Francisco, the first thing they do is outfit it with a Steinway grand piano, even if they don't play. It is the ultimate status symbol, not only because of the price they pay, but the space it takes up.
As a result, Steinways not only sell at a large premium to other pianos, but are dear relative to ALL manufactured products over the expanse of time.
Researching the history of Steinway, you find a storied company that has undergone the sad, but familiar travails of American manufacturing over the last century.
In short, it's a miracle that this company still exists.
The first pianos were sold by a German immigrant from Hamburg in 1856. By 1972, a lengthy strike and competition from Japanese imports forced the original Steinway family to sell out to CBS after five generations.
Then there was a brief, but disastrous experiment with Teflon parts in the 1970's. Suddenly Steinways didn't sound like Steinways.
A private equity deal followed in 1985. From 1996 to 2013 it traded on the New York Stocks exchange under its own ticker symbol (LVB) (for Ludwig von Beethoven).
Steinway was then bought by my friend and newsletter client, hedge fund legend John Paulsen, for $500 million. It produced its 600,000th piano in 2015.
If you want to watch a film about old fashioned American manufacturing, vanishing skills, the pride of craftsmanship and working with your hands, watch the highly entertaining documentary movie "Note by Note: The making of Steinway L1037."
It has won several awards.
It is wonderful to watch with the kids in that it shows what work was like in the old United States I remember, and can be streamed online for $4.99 by clicking here.
As for my own Steinway search, it had a very happy ending.
Ebay enabled me to find a local Craig's List listing in Jackson, Mississippi for a 1951 Model B that was originally purchased by the University of Mississippi Music Department. It had been played by every noted pianist touring the South for a half century.
Some 20 years ago, a local doctor then purchased it right off the stage at a university surplus equipment sale.
This year the doctor retired, sold his mansion, but had no room for a grand piano in his rapidly downsizing lifestyle.
He listed the piano for a low-ball price of $18,000, the cost of his 1997 ground up restoration. After I had a professional musician visit the house to check the condition and tone, I was the only bidder.
I figure if the kids ever get sick of practicing I can always flip it to the Chinese for double. That's me, always the trader.
I am totally comfortable buying big ticket items off of Ebay, as I have been trading there for 20 years. I have bought five cars there for assorted family members.
If you aren't comfortable with Ebay, there is always Bruno.
Dallas, Texas based Maestro Bruno Santo, is a Julliard graduate, former Steinway dealer, and the most knowledge individual I ran into during my far-ranging research. He is also quite the salesman.
He runs a high volume, low margin business model which I admire and can probably get you a very nice Steinway in the mid $30,000's.
You can reach him through his website by clicking here.
To learn more about the interesting and beautiful world of Steinway pianos, please visit the company's website by clicking here.
Getting an 800 pound finely tuned musical instrument from Jackson, Mississippi to San Francisco, California is a whole new story on its own.
What I learned about the national trucking industry was amazing, and boy, did I get a deal!
Watch for my future research piece on "What I learned Moving My Steinway Grand Piano."
As for the old Wurlitzer, it is now happily ensconced in my Lake Tahoe beachfront estate. Neighbor Michael Milken has already completed the quality of the play.
The Winning Bid
"Bonds are priced artificially because you've got some guy buying tens of billions of dollars worth a month. That will change at some point, and when it does, people are going to lose a lot of money." said Oracle of Omaha, Warren Buffett.