Global Trade

Monty Guild and Tony Danaher

The Rise of Smaller Emerging Nations as Trading Partners
Recent research by UBS economist Jon Anderson illustrates how trade is being reshaped in the developing world.  It will probably not surprise you to learn that between 1998 and 2008 six developing nations recorded an increase in exports (as measured by manufacturing & GDP) of more than 25 percent.  What will surprise you are the names of these countries.
The emerging market countries that grew their exports by the largest percentage were not the big countries one might expect, such as China, Brazil or India.  Instead, they were smaller countries, with less celebrated economies.  They were Cambodia, Thailand and Vietnam in South East Asia and the Czech Republic, the Slovak Republic and Hungary in Eastern Europe.
Why did these countries record the highest increase in exports?
Consult a world map and the answer becomes clear.  To quote Dr. Anderson:

"... all of these countries sit in exactly two small locations in the world directly east of traditional developed Europe [the Czech Republic, the Slovak Republic and Hungary], or just around the shipping lanes from the original Asian Tigers [Hong Kong, Korea, Singapore and Taiwan]." As we can see, "...the largest beneficiaries of the great secular expansion in global trade were those situated next to it, either in terms of outright proximity to markets or proximity to the sea- based production chain."

Trade Routes are Changing
In our opinion, it is significant that emerging nations are becoming less and less dependent upon the developed world for import and export trade.  According to estimates produced by the world trade organization, trade between emerging markets increased by 18 percent per annum from 2000- 2008.  This was a much larger increase than the trade between developed and emerging nations or the trade between developed nations.
Why?

1.)  For many years developing nations have been forming new trade relationships with each other.
It is clearly no accident that President Lula of Brazil has visited over 60 developing nations during his tenure and is working hard to develop trade with many nations.  This policy of extending Brazil's economic influence throughout the developing world is similar, albeit on a smaller scale, to China's huge efforts in this area.  India is also working to develop and enhance its trade contacts among developing nations, as are smaller countries all over South America, Southeast Asia, and Eastern Europe.
2.)  Many developing countries have begun acquiring assets in other less developed nations to fill their need for raw materials.

Companies from China, India, Brazil and others are acquiring properties: mines, oil fields, production facilities, farms and other assets in a large number of countries.  These companies may be acting for their own benefit or as part of a national policy to secure raw materials and other elements of production.  Not only does it make the purchasing country more secure by guaranteeing that certain materials available for key growth industries, it also provides them with a potential economic advantage over competitors because they can source their materials at lower price or in greater quantities.
China's Rare Earth Industry
Recently a wave of fear has been caused by China's announcement that they would implement export controls on some of their rare earths.
This announcement has caused the world to awaken to an issue that we have been commenting on for years.
Rare earths are necessary to make many high tech instruments and products that we rely on in our modern technological society for consumer, industrial and military goods. A lack of availability of some rare earths will create economic and militarily difficulty for many nations until alternative sources of these rare earths are developed elsewhere.  It is likely that the alternative sources of these materials will be found and/or produced, however, a long time lag before sufficient production of these raw materials could damage the competitive position of those who do not have access to the required supplies.
The Age of U.S. Dominance Draws to a Close
It is not an accident that English has been the language of commerce, diplomacy, and military activity for the past several decades. The U.S. dollar is the world's reserve currency and has also been used as the national currency by many nations around the globe.
The U.S. dollar's position as the world's reserve currency has been based on the U.S.'s leadership status on the world stage, not just on economic issues, but on political, martial and social issues as well.
In short the U.S. sends foreign aid and other programs to allies and potential allies, and even fights wars to strengthen the political and economic positions the U.S. and our allies.  Very few would argue that U.S. companies and industries are not among the beneficiaries of these efforts.
Today, as emerging economies rise in global economic prominence and an increased proportion of global trade is being conducted between developing nations, the U.S. is losing its central role in world trade.
This Trend Will Eventually Impact the U.S. Dollar's Position as the World Reserve Currency
As the U.S. loses economic power, American citizens and most especially American investors should be prepared to have the U.S. excluded or at least not included in many multilateral trade, economic and political talks.  This will decrease the clout and the economic benefit for many large U.S. companies and industries.
Stock Valuations
Asian stocks in fast growing nations have begun to sell at prices equal to or at a premium to U.S. and European stocks. Why is this happening?
Asia has:

1.)  3 billion new consumers
2.)  Robust trade between Asian economies and other developing markets.
3.)  Strong banking systems, not the highly leveraged banking systems that we find in much of Europe and in the U.S.
4.)  Reasonable expectations of growth for companies and economies as a whole.
5.)  Populations with strong entrepreneurial spirit and the desire to rise up the economic ladder.

We have often discussed the problems facing the developed nations, so I will not go into detail again here.  Suffice it to say, that while Asia enjoys much of #s 1-5 the developed world is busy dealing with:

1.)  A badly damaged banking system.
2.)  Overwhelming debt (This debit is so high that if inflation develops, and we believe that inflation is inevitable, interest costs can overcome growth every rapidly.).
3.)  Low economic growth.

The emerging economies of Asia have 5 positives on their side and the developed world has 3 negatives.  If you are a global investment analyst, it's not hard to choose where to invest.
If the Obama administration wants to gain favor with investors, may we suggest that they consider extending tax cuts and implement other programs to spur capital formation and new job creation in the U.S.   If the administration were to undertake such a program the U.S. economy and U.S. stock market would immediately benefit.
Mexico and U.S. Immigration
Many Americans are aware of a serious problem, which has been growing in Mexico for some time.  Mexico's police, economic and political systems are collapsing.  Most serious is the fact that a large percentage of all of the police forces in Mexico may have been compromised or moved into the employ of drug traffickers.  The causes of this problem have been a long time in the making.  For generations police and political corruption has been an open secret in Mexico.  The effect of chronic corruption combined with the lack of growth of a middle class, the high profits in the drug business and a volatile social environment Mexico has been brought to a tipping point.
To those who live in the Southwest of the U.S. and share a state border with Mexico this has become more obvious in just the past 6 months.  In our opinion, many more Mexicans will vote with their feet and leave Mexico for the U.S. if they can figure out how to get here.
We expect the U.S. to end up spending a large amount of money fighting narco terrorism in Mexico and, eventually, on U.S. soil.
Summary
During the past few weeks; gold, silver, wheat, corn and some other metals have been accumulated by investors.  We believe that the current news background will continue to support higher prices for precious metals, grains, oil, and fast growing stocks in countries with high growth rates.
We believe that political instability in Mexico, Pakistan, Afghanistan and elsewhere will keep investors focused or risk rather that reward.
In such an environment it is our experience that one is wise to hold gold, oil, high yielding stocks and food commodities and to keep a large percentage of cash available to spend should opportunities arise.
If the Obama administration were to continue the tax rates currently in effect rather than raise them, and if they were to implement programs to stimulate capital formation and new business development and thus job creation in the U.S., the U.S. economy the stock market and the election prospects of Democrats would all be benefited.  It would be a change in their approach of tax and spend but perhaps they have been listening to the electorate.
We continue to warn all readers against long-term bonds of any issuer.
We see inflation developing in India, China, and elsewhere and believe that within a few quarters this inflation could be imported into the developed world.  In such an environment holding long duration bonds could lead to huge losses.
For those of you who hold Municipal Bonds, we will be happy to analyze the stability of the issuers of your bonds free of charge.  Contact our office at (310) 826-8600 if you would like to accept this free offer.
Thank you for listening.
Monty Guild and Tony Danaher
Guild Investment Management Inc.'s mission since its founding in 1971 has been to provide our clients with consistently high returns while minimizing our risk profile over both intermediate and long term periods.
Guild's philosophy is to seek value, and invest with a global view. Guild believes that having this perspective is essential to understanding the macroeconomic trends, changes and relationships that create investment opportunities. Our global approach to selecting investments not only helps Guild discover new investment opportunities, it is essential to understanding and anticipating risks in increasingly interconnected, changing economies.
Thorough research and a disciplined analysis of returns and risks increase long-term success. In our portfolio management, we weigh the relevant pieces of information, estimate the risks of the unexpected, anticipate change, and then make judgments based on the odds, with the knowledge that success is never guaranteed. Uncertainty is an unavoidable part of investing and it is naïve to believe that it can be eliminated. Occasionally, good investment ideas have poor results.
Recognizing that uncertainty exists increases long-term investment success in changing market environments. Having the flexibility to concentrate when opportunities are present, and to reduce exposure when risks dictate caution, has been a key to our success.

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