The Mega Foundation

President Bush' Second Term

January 18, 2005

Contaminating My Opinions With Knowledge
    I have this embarrassing habit of delving deeper into issues and learning that I was wrong. This 1998 article explains that trade deficits have more to do with savings rates, budget deficits, international monetary flows, and foreign investment than they do with foreign trade. However, the rest of what I've said below still stands. 
    Tommie Jean and I had an object lesson in this subject today from an unexpected quarter. We conferred with a financial advisor who was one of Tommie's former co-workers in the City of Huntsville. Tommie's friend had advised her regarding the investment of some "deferred compensation" (pay) that Tommie saved over the 12 years that Tommie worked for the City of Huntsville. Since January, 2003, Tommie's tax-deferred money has grown about 40%. We were now ready to shift more of Tommie's savings to her friend's custodial care. We learned from her friend that the fund in which Tommie's deferred pay has been invested is a growth-and-income fund with a significant level of global diversification. Just as we parted, it occurred to me that the 20% per year gains in Tommie's fund might be, in part, a consequence of the falling dollar making overseas holdings more valuable. In investing in foreign funds, you take on the added risk/opportunity of fluctuating currency exchange rates. A U. S. investor with investments in foreign funds, this would have led to investment gains over the past two years because foreign holdings have become more expensive in U. S. dollars as the dollar has depreciated. However, if the dollar regains its strength over the next few years, those gains will evaporate. Conversely, foreigners investing now in U. S. assets are finding them cheaper than usual. Right now, U. S. Treasury bond have a greater potential for appreciation than they did two years ago.
    However, an examination of our other mutual fund holdings tonight has failed to provide clear-cut evidence that the falling dollar is buoying my overseas investments and more than various domestic investments, The stock market has risen substantially over the past two years.
    Tricky business, these stock investments!.
Conceivable Financial Implications of U. S. Policy as Presently Constituted
    Let me say what you already know: that I most assuredly can't predict what the President Bush' next four years will hold. Still, it's hard to resist spinning a few scenarios about what might possibly occur.
    One of the eventualities that I mentioned in the past is the possibility that resistance to buying U. S. goods and services might develop as a consequence of our perceived indifference to world opinion. That could lead to a worsening of our foreign trade imbalance.
    For whatever reasons, our foreign trade imbalance has reached spectacular levels, running now in excess of half a trillion dollars a year. As a result, the U. S. dollar has declined to about 70%(?) the value it had two years ago. This means that foreign goods will presumably now cost one-third again as much as they did two years ago. (Gold has climbed from under $300 an ounce to $422 an ounce today, as a consequence of the declining dollar and the world's eroding confidence in it.) And with virtually all of our goods being manufactured overseas, that might be inflationary. This, coupled with oil above $45 a barrel, could lead to inflation beyond what I'm currently seeing in financial forecasts. Of course, as someone who has been investing in the stock market since 1969, I've learned to ignore financial forecasts. They are very optimistic at market tops and very pessimistic at market bottoms. 
    The result of this might be a surge in inflation, rising interest rates, and a possible mid-term recession in 2006-2007. With interest rates already rising, with price-to-earnings ratios (20:1 and 17:1 for trailing and operating earnings, respectively) and price-to-book ratios (at 3:1) near their bull market peaks, and with dividend rates (at 1.7%)*, lower than they've ever been before the late 90's, the U. S. stock market doesn't appear to me 
* - Until 1996, dividend rates never dropped below 2.6%. During the "tulip mania" of the latter '90's, investors were told the at dividends didn't matter, and dividends dropped to 1.4 %. At 1.7%, they're still pathologically low. 
to be poised for much further expansion of P/E ratios. Upside potential would have to come through earnings growth. However, if a business slowdown or a recession should loom in a year or two, the first indication would be a decline in stock prices, and by then, it would be too late to sell. Tommie Jean and I are going seriously into cash, and while we won't make more than inflation that way, the most we can lose is potential gain. 

Elections in Iraq
    President Bush has said that the violence in Iraq will end, and the people of Iraq will enjoy democracy after the elections at the end of this month. This should evidence itself in a major decline in "insurgency" within Iraq, beginning in February. February is only two weeks away, so there's no need to speculate on the correctness of these claims. We'll soon know.

    In the meantime, President Bush hasn't ruled out the use of military force against Iran. Today's story in the New Yorker discussing commando teams operating covertly within Iran has been dismissed by the White House as "riddled with inaccuracies", but the White House hasn't denied that this is taking place. Nine other nations are also allegedly targeted in a continuation of the "Pax Americana" plans for the Middle East.

To Be Continued


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