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The Global Investor Newsletter - Winter 2015

Welcome to the Winter 2015 edition of Euro Pacific Capital's The Global Investor Newsletter. Our investment consultants are standing by to answer any questions you have. Call (800) 727-7922 today!

A Patient Fed Considers Losing Patience
By: Peter Schiff, CEO and Chief Global Strategist

2015 Global Market Outlook: Will the Herd Stay Together?
By: Peter Schiff, CEO and Chief Global Strategist
Jim Nelson, Portfolio Manager, Euro Pacific Asset Management

Deflation Did Not Tarnish the Gilded Age
By: Andrew Schiff, Director of Communications and Marketing

Grilled on Wall Street
By: Peter Schiff, CEO and Chief Global Strategist

The Global Investor Newsletter - Winter 2015


A Patient Fed Considers Losing Patience

By: Peter Schiff, CEO and Chief Global Strategist


I have always argued that quantitative easing and zero percent interest rates were misguided policies to combat economic weakness. But as the years went on, misguided turned into irresponsible, which led to ridiculous, and then turned into dangerous. But lately, the only word that comes to mind is "surreal." How should we react when central bankers begin to speak like Willie Wonka?
 
Contained in the latest release of the Minutes of the Federal Reserve's Open Market Committee (Jan. 27-28, 2015) was a lively discussion of how to say something without anyone understanding what is being said. Although I have been critical of the Fed for many years, I never imagined that it would provide me with material that bordered on the metaphysical.
 
As Fed policies have become ever more critical to our economic health, the degree to which investors and journalists dissect every public statement and utterance by Fed officials has increased remarkably. At present, one of the biggest points of contention is to find the true meaning and significance of the word "patient."
 
Last year, as market watchers grew nervous with the Fed's withdrawal of its quantitative easing purchases, many began to wonder how long it would be, after the program came to an end, for the Fed to actually raise interest rates, which had remained at zero since 2008. After all, this would shift the bank into a second, potentially more consequential, phase of monetary tightening. Investors wanted to know what to expect.
 
Initially the Fed let market participants know that it would hold rates at zero for a "considerable time" after the end of QE (9/13/12 press release), thereby creating a buffer zone between the end of QE and the beginning of rate increases. But, after a while, this also became too amorphous and static for investors who crave actionable information. So in December of 2014, in a bid to increase "transparency" (which is the central banking buzzword for "no surprises"), and to signal that the day of tightening had moved closer, the Fed replaced "considerable time" with the word "patient." But this only deepened the mystery. Investors began to wonder what "patient" actually meant to the Fed. With potential fortunes riding on every word, the discussion was anything but academic.
 
When pressed for an answer at a Fed press conference, Yellen explained that the word "patient" in the FOMC statement indicated that it would be unlikely that the Fed would raise rates for at least "a couple" of meetings. She then conceded that "a couple" could be interpreted as "two." Since the FOMC meets every six weeks, that seems to mean that a rate hike would not happen for at least three months after the word "patient" is removed from its statements. But she was also careful to say that removal of the word "patient" does not necessarily mean that the Fed would raise rates after two meetings, just that it's possible. But this much transparency may have become too much for the Fed to handle.
 
With the economy now clearly losing steam, based on the drop in GDP from 3rd to 4th quarters, and general macro data coming in very weak (Zero Hedge, 2/18/15), I believe the Fed wants desperately to move those goalposts. But the market expects that "patient" will soon disappear from the statement, and the Fed wants to comply, thereby signaling that everything is fine. But at the same time it doesn't want the markets to conclude that rate hikes are imminent when it does. 
 
In other words, they are searching for a way to drop the word "patient" without communicating a loss of patience. What? This is like a driver telling other drivers that she plans on engaging her turn signal before making a left, but then wonders how to hit the blinker without actually creating an expectation that a turn is imminent. This seems to be a question for psychologists not bankers. Perhaps it is looking for a new word to replace "patient"? Something that implies a slightly less patient outlook, but that certainly does not imply imminence. "Casual" or "nonchalance" may fit the bill. How would the markets react to a "nonchalant" Fed? Time for a focus group.
 
The recently released Minutes of the January 27-28 FOMC Meeting frames the difficulty:
 
"Many participants regarded dropping the "patient" language in the statement, whenever that might occur, as risking a shift in market expectations for the beginning of policy firming toward an unduly narrow range of dates. As a result, some expressed the concern that financial markets might overreact, resulting in undesirably tight financial conditions."
 
Translated into English this means, "We hope the markets don't actually believe what we tell them." The Minutes continue:
 
"A number of participants noted that while forward guidance had been a very useful tool under the extraordinary conditions of recent years, as the start of normalization approaches, there would be limits to the specificity that the Committee could provide about its timing."
 
To me this translates as "Transparency was great while we were loosening policy, or doing nothing, but it isn't useful now that the markets expect us to tighten." If you believe as I do, that the Fed has no intention of tightening anytime soon, its sudden aversion to clarity is understandable. Not surprisingly, the Committee appears to be in favor of shifting to a "data dependent" stance:
 
"...it was suggested that the Committee should communicate clearly that policy decisions will be data dependent, and that unanticipated economic developments could therefore warrant a path of the federal funds rate different from that currently expected by investors or policymakers."
 
Of course the Fed won't actually define exactly what type of data movements will translate into what specific policy actions. In that sense, a "data dependent" policy stance puts the Fed back into a "goalpost-free" environment where no one knows what it will do or when it will do it.
 

To underscore the absurdity of the situation, Chairman Yellen, at her semi-annual Senate testimony in February, offered this "full-throated" warning about pending policy normalization, saying that the Fed "will at some point begin considering an increase in the target range for the federal funds rate." So this means that after some unspecified time of not even thinking about rate increases, the Fed will "begin" the process of getting itself to the point where it may "consider" (which is in itself an open-ended deliberation) an increase in its rate target (which does not even in itself imply an actual increase in rates). Yet despite this squishy language, the lead front page article on February 24th in the Wall Street Journal (that contained that quote), ran under the bold headline "Yellen Puts Fed on Path to Lift Rates."  Leave it to the media to carry the water that the Fed refuses to pick up.

So are we expected to believe that the Fed hasn't even begun considering rate increases yet? Really? Isn't that the biggest, most urgent, issue before it? The Fed is a central bank, what else is it  supposed to consider? This is like a 16-year old boy saying that  "at some point in the future I may begin thinking about girls." Till then, should we expect him to think solely about homework and household chores?

Fed officials have warned that they are concerned about raising rates too quickly. Perhaps that fear may have been plausible a few years ago, before unemployment plummeted and the stock market soared. But how would a 25 basis point increase in rates seriously slow an economy that most people believe has fully recovered? And if the Fed is concerned now, why would it not be concerned next year? If anything, the longer it waits, the more vulnerable the recovery will be to higher rates.
 
The business cycle tells us that recoveries do lose momentum over time. The current recovery is already five years old, and is, statistically speaking, already well past its prime. And since low rates encourage the economy to take on more debt, the longer the Fed waits to raise rates, the more debt we will have when it does. This means that the debt will be more costly to service when rates rise, which will throw even more cold water on the "recovery."
 
The Fed's real predicament is not how to raise rates, but how to talk about raising interest rates without ever having to actually raise them. If we had a real recovery, the Fed would not need to couch its language so delicately. It would have just pulled the trigger already. But when its communications and its intentions are different, credibility becomes a very delicate asset.

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2015 Global Market Outlook: Will the Herd Stay Together?

By: Peter Schiff, CEO and Chief Global Strategist

Jim Nelson, Portfolio Manager, Euro Pacific Asset Management


Going into 2015, the economic outlook held by the U.S. investment establishment could not have been much more positive and unified. Pundits saw all the variables aligning to create the best of all investment worlds, a virtual "no-brainer" of optimism. Panels on financial television, which had been a venue for sharp debate, seemed more like exercises in mutual agreement. 
 
Despite a host of lackluster economic data points that came in at the end of 2014, the sunny forecasts about the economy came fast and thick: "The Forecast for the U.S. Economy in 2015 is positively rosy" said MSNBC on December 27, 2014. On December 30, the Associated Press said, "The United States is back, and ready to drive global growth in 2015". On February 10, 2015, Andrew Stoltmann said on CNBC, "Is U.S. growth, this engine that really is going in the right direction, is that going to be able to take us out of all the economic malaise we are seeing in other countries...will the U.S. get us out of this mess, or will every other country weigh us down?" The belief that the U.S. is the only growing economy in the world was unchallenged by the many other panelists on the segment. 
 
The certainty has remained strong in the New Year. On February 11, Moody's projected a 3.2% annual GDP growth over the year, which, if achieved, would be the first 3%+ result since 2005. President Obama approached his January State of the Union address as an economic "mission accomplished" moment, stating that the American economy had finally returned to full health, after six years of disappointment. The idea that the economy had reached "escape velocity," and would no longer need Fed support, was widely accepted.
The optimism was fed by popular forecasts that: 
  • Strong growth in the 3rd and 4th Quarter 2014 would be a precursor to continued strength in 2015, a year that many believed would be the best (in economic and financial terms) since the crash of 2008.
  • The U.S. stock market would continue to outpace foreign markets in 2015, as it had in the second half of 2014, thereby sucking in capital from abroad.
  • The Federal Reserve would finally begin to raise interest rates from zero, sometime around spring or summer of 2015.
  • The European Central Bank, The Bank of Japan and many other central banks around the world would begin to ease monetary policy just as the Fed was expected to begin tightening, thereby pushing up the dollar to new heights.
  • Higher interest rates from the Fed would not slow the American economy but would strengthen the U.S. dollar and knock out any remaining support for gold.

The only questions that seemed to divide the consensus was how steep the gains would be in 2015. With bears remaining in hibernation or running for cover, the S&P 500 rose 11% in the final 10 weeks in 2014, and the Dollar Index surged nearly 19% in the seven months between July 1, 2014 and January 30, 2015 (an unusual pace of ascent).

A herd mentality takes hold when unanimity is high, and markets can often tilt beneath the stampede. Investors chase returns en masse and pile into positions that may already be overvalued. This can create opportunities for those brave few who can run against the crowd to find areas that the herd has overlooked. In a recent poll by investment firm Legg Mason, 85% of "affluent U.S. investors" indicated that the U.S. markets "offer the best opportunities over the next 12 months" compared to other global options. That's up from the 74% in 2014. (CNBC, Jeff Cox, 2/12/15)
 
Of course, the unpopular trade may be a losing trade, and those rational investors may pay the price for clear thinking in a time of irrationality. But herds can be spooked, most often by unexpected developments which can catch the herd wrong-footed and spark major movements when the masses scatter at the same time. When that occurs, those who resisted the herd may find themselves rewarded. We believe that we are approaching such a point.
 
The Herd Gets It Wrong
 
Not so surprisingly the actual trajectory of the economic and financial news in 2015 has veered considerably from the script that was so confidently sketched out just a few months ago. The first big surprise was the drop in the price of oil, which fell by more than 55% between September 2014 and January 2015. Then Switzerland shocked markets in January by abandoning its three year old Euro currency peg, sending the Swiss Franc up almost 30% against the Euro in intraday trading. Closer to home, we saw both a "surprise" January sell-off in stocks and a large increase in volatility. Then there is gold, an asset class that had been virtually given up for dead by nearly all the large investment firms at the end of 2014. However, gold was up nearly 8% in January, and the index of gold mining stocks (another sector with virtually no mainstream support at the end of 2014) was up nearly 19%. 
 
Although the employment reports bathe the economy in the diffuse light of recovery, many of the less followed economic indicators have further diverged from expectations in the opening months of 2015. Many economists had initially believed that GDP in the 4th quarter 2014 would come in at an annualized pace north of 3.0% (after having expanded at a blistering 5.0% in Q3). But in January the actual number came in at a lackluster 2.6% (to even get there the government had to rely on a hard-to-believe 0.0% inflation rate estimate). That number was subsequently revised down to 2.2%.
 
The early weeks of 2015 also provided a series of dramatic "misses" in a broad spectrum of less followed economic data points:
  • December consumer spending declined .3% (the largest monthly drop since 2009). In January, spending slipped another .2%, for the first consecutive monthly decline since 2009.
  • New U.S. factory goods orders declined 3.4% in December, the fifth straight month of declines, and the largest month over month drop since mid-2009.
  • December retail sales declined .9% when estimates were for a much shallower .1% drop. The next month missed again, when retail sales declined .8% in January, doubling the predicted .4% decline. The back-to-back misses represent the worst two-month drop in retail sales since October 2009.
  • December pending home sales declined 3.7%, almost four times larger than the consensus increase of .9%.
  • The December U.S. trade deficit rose by 17% over November, posting the largest monthly gap since November 2012 and the largest monthly increase since July 2009.
But the biggest storyline in the accepted narrative is that the Federal Reserve will finally raise interest rates for the first time in six years, sometime around midyear. On that point Wall Street's once monolithic resolve is starting to fracture. Some are now questioning the need for the Fed to actually follow through on its stated intentions. Many cite the surging U.S. dollar as the key development that will convince the Fed to delay once again the first interest rate hike in six years. If the Fed grabs that excuse to hold fire, investors may come closer to understanding just how dependent U.S. markets have become on near zero percent interest rates. This is a surprise that could scatter the herd.
 
What's Really Up with the Markets?
 
In the six years since the Great Recession began in 2008, the economy has been boosted by both monetary and fiscal stimuli. The Federal Reserve has held its overnight rate at 0% while expanding its balance sheet by almost $4 trillion (from 7% of GDP in 2008 to 25% of GDP in 2014). On a parallel track, the Federal government ran four consecutive $1 trillion plus budget deficits (before pulling back to less than half a trillion annually more recently). Lower borrowing costs are supposed to juice the economy, encouraging business and consumers to take out loans and spend. Fiscal deficits are supposed to replace the consumer demand lost through recession. But despite these unprecedented levels of stimulus, real GDP growth in the U.S. averaged just 2.2% from 2010 through 2014, which compares with an average of almost 3.5% in the post-WWII period. If this substandard growth is all we could achieve with the floodgates wide open, why should we expect that the economy will improve in 2015 if the stimulus doesn't return? The herd may be loud and powerful, but it can also be blind.
 
Despite the the current records being set almost daily on Wall Street, (the NASDAQ just eclipsed 5,000 for the first time in almost 15 years), optimists claim that the market is not overvalued because the current S&P 500 price-to-earnings ratio, of about 19 times trailing 12 months earnings, is not too far above the historical norm of about 14. But this doesn't tell the whole story. The "earnings" divisor of the equation is not nearly as bankable as many would like to believe. Most investors have not considered the extraordinary factors that helped push up earnings, artificially we believe, in 2014.  
 
According to Bloomberg, in 2014 S&P 500 companies spent an estimated $565 billion (or 58% of corporate earnings) on share buybacks, a figure that is extremely high by historical standards. Buybacks increase earnings per share by reducing the number of shares outstanding. Cutting the pie into fewer slices makes earnings appear to rise, even when they haven't. But such accounting moves do little to increase real growth or help a company prepare for future success. Money spent on buybacks is not available to purchase new plant and equipment, to fund research and development, or to spend on marketing and logistics. In that sense, buyback spending generates current earnings at the expense of future earnings.
 
 
We believe that the buyback surge results from the likelihood that corporations have seen little evidence that their businesses are growing organically and that buyback purchases are perceived to be better uses of free cash than investments in capacity expansion. This is a strong reason to believe that the economy is not as resurgent as we have been led to believe. Interestingly, the last significantly upward surge in buybacks culminated in 2007, which turned out to be the year before the crash of 2008.
 
Earnings have also been boosted in the past few years by zero percent interest rates, which allowed corporations to borrow for next to nothing, thereby reducing one of corporate America's biggest cost centers. Falling debt payments allow corporations to increase profitability without increasing top line earnings. But such a boon is a two-edged sword. Rising rates can just as easily sap profitability. Low rates have also enticed many companies to borrow just to buy back shares and pay dividends to shareholders (the two activities accounted for 95% of corporate earnings in 2014 according to data compiled by Bloomberg). This mechanism makes it very clear how ultra-low interest rates benefit stockholders but do very little for Main Street consumers.
 
As a result of the low rates and the recent buyback frenzy, we suggest that investors should look past current P/E ratios and instead look at Cyclically-Adjusted-Price-to-Earnings (CAPE), which is also known as the Shiller Ratio (named after its developer, the Nobel prize-winning economist Robert Shiller). Shiller argued that a single year provides too narrow a window to get a true view of a corporation's ongoing ability to generate profits over time. To adjust for that, he recommended looking at earnings over a 10-year period to smooth out cyclical and economic anomalies. We think this is a very good idea.
 
Looked through a lens of CAPE ratios, the U.S. markets begin to look very expensive in comparison to other global markets. The graph below tells the tale:
 

With a CAPE ratio of well over 27, the S&P 500 Index is valued at least 75% higher than the MSCI world Index CAPE of around 15. (High valuations are also on evidence in Japan, where similar monetary stimulus programs are underway). On a country by country basis, the U.S. has a CAPE that is at least 40% higher than Canada, 58% higher than Germany, 68% higher than Australia, 90% higher than New Zealand, Finland and Singapore, and well over 100% higher than South Korea and Norway. Yet these markets, despite the strong domestic economic fundamentals that we feel exist, are rarely mentioned as priority investment targets by the mainstream asset management firms. 
 
In addition, U.S. stocks currently offer some of the lowest dividend yields to compensate investors for the higher valuations (see chart above). The current estimated 1.87% annual dividend yield for the S&P 500 is far below the current annual dividend yields of Australia, New Zealand, Finland and Norway.
 
If there were strong reasons to believe that U.S. earnings will expand in the near term, then high valuations, in either current or CAPE terms, would not be a major issue. If earnings can catch up to prices, then normalized valuations can be re-established. But given the current economic drift in the United States, where exactly are the catalysts that are supposed to spark an earnings increase? 
 
The consensus still expects that the Federal Reserve will start raising interest rates from zero sometime around mid-year, which means that many investors believe rising "short" rates are a certainty. And although the surging dollar and widespread confidence in the U.S. economy helped push down 10-year yields to as low as 167 basis points in late January 2015, there should be little confidence that long yields can fall much further, if at all. In fact, 10-year yields spiked up to 2.14% just 15 days after reaching a low of 1.68% on February 2. Few expect more doses of quantitative easing from the Fed to keep down rates on the long end of the curve.
 
If the economy could only grow at 2.4% in 2014, when overnight rates were at zero and 10-year rates fell more than 28% over the course of the year (from 3.0% to 2.17%), should we expect the economy to grow briskly, and domestic earnings to increase, if both short and long rates are rising?  In addition, the rising dollar has depressed the value of overseas earnings generated by large U.S. multinationals. 
 
These growing concerns may explain why as U.S. markets loudly hit record highs, analysts are quietly revising down their optimism. A February article in Barron's cites a report from Societe Generale that compiled forecasts for U.S. corporate earnings to reveal the steepest drop since 2009 (during the depths of the financial crisis). The report suggests that rising valuations and declining earnings may be exposing U.S. investors to more risk than they care to acknowledge.
 
Ultra low rates will also prevent the Fed from cutting rates to boost stocks if the economy falters. When markets crashed in 2008, interest rates were almost 6 percent, allowing the Fed tremendous room to slash rates to support share prices. But with rates now at zero, or close to zero, the Fed has no such capacity. It will have to resort to a new round of quantitative easing to stimulate. More QE from the Fed could be the surprise that finally wakens the slumbering foreign exchange herd and leads to reversals of 2014 dollar gains. A falling dollar would counter any nominal equity gains resulting from QE.
 
On Wall Street, investors generally chase returns. The big moves in U.S. stocks combined with the fast flowing rhetoric about American financial exceptionalism has further entrenched the herd mentality. Data from Thomson Reuters Lipper service indicates weekly inflows into "U.S. Only" equity funds surged to a record $39 billion for the week ending December 24. At the same time, non-U.S. focused funds saw outflows of $2.5 billion.
 
After six consecutive years of positive gains in the S&P 500 (and more than 200% return since March of 2009), few forecasters have loudly voiced concerns that the upward run of U.S. stocks will end anytime soon. In 2014 the S&P 500 outperformed stocks in the rest of the world (as represented by the MSCI Index of non-U.S. global markets) by an astounding 20%. This was by far the largest gap in the past 13 years (see chart below).

But should we really expect another year of such results? Would it not be more logical to suggest that the over-performance of U.S. markets in 2014 will revert to trend this year. Given that the S&P 500 stands where it does over a 10-year timeframe (see chart below), would we not at least expect the index to begin moving back to trend, and perhaps underperform world markets in coming years?

 
Have the Courage to Buck the Trend
 
Don't be fooled by the madness of the crowd. The U.S. is not "the sole remaining engine of world growth" as the talking heads would seem to have you believe. Both China and Germany recently announced record trade surpluses, despite increasing imports. We are the world's biggest debtor nation, and I believe we will continue to rely on monetary stimulus and international support to limp by with mediocre growth. Quantitative easing will not solve Europe's problems and it is more than likely that the Fed will not only fail to raise rates in 2015, but will join Brussels and Tokyo in the international printing party. But what will be accomplished by more QE is the perpetuation of substandard performance and unsustainable debt.
 
We believe it would be far better to invest based on these overlooked fundamentals. The good news is that unloved assets may be attractively priced. At a time when energy and labor costs are at multi-year lows, and gold priced in some non-dollar currencies is approaching all-time highs, there are overseas gold mining stocks trading at levels consistent with much lower gold prices. The fall in oil has pushed many energy stocks down by 50% or more. In addition, there are currencies issued by fiscally solvent nations at fresh multi-year lows. If the currency wars intensify further, it's possible these countries might follow the lead of Switzerland and retreat from the field of battle. This means that investment in those countries may go up in dollar terms even if the stocks in those markets stay flat. In addition, the already rich dividend yields sourced in foreign currencies can become even richer if the underlying currencies appreciate against the dollar. Of course the reverse scenario is also a possibility, where yields in USD terms will fall if the dollar rallies and the dividends become worth less in dollar terms.
 
Euro Pacific Capital relies on a variety of strategies that seek to tap into these unpopular trends to help find real value in overlooked places. Here's a brief selection of some stocks that may benefit from the trends described above. Investors who would like to hear more about these companies and how we are approaching the current market in our Funds and Managed Accounts should call to speak with one of our investment professionals.
 
South American Footwear Manufacturer
 

We feel strongly about a leading South American footwear manufacturer that owns a series of well-known proprietary brands and a growing business of private label outsourcing. Although the home country has had a series of economic disappointments and continuing political questions, this company is showing strong growth in international sales, which helps insulate profits somewhat from further falls in the local currency. At present, we believe it has a strong balance sheet and it pays a dividend of close to 4%. And while the company should be considered an aggressive growth stock (it has seen 393% earnings per share growth over the past 10 years), it currently trades below 10x trailing 12-month earnings.

Although the share price is up around 65% since the beginning of 2011, the value per share in dollar terms has barely budged, given the approximately 50% drop in the local currency over that time. The company does have a high leverage ratio, which exposes cash flow to a slowdown in sales. Given its established brands, good revenue growth, and the potential for a turnaround in the currency, we assess the risks as reasonable.
 
Dividend yields change as stock prices change, and companies may change or cancel dividend payments in the future.
 
Asian Telecom
 

In an economy that continues to add millions of new subscribers annually, this major Asia-Pacific wireless service provider continues to impressively grow average revenue per user. The company is at the end of a wireless upgrade cycle, which should help free cash flow and increase customer retention. Its current balance sheet has a good cash cushion, which could finance business and dividend growth. Currently the company has trailing 10-year average earnings per share that implies a CAPE ratio of just 18x earnings. Current P/E is just 15 and dividend yield is 3%. While telecom is considered a defensive sector, country-specific and regional politics is always difficult to predict, which does add risk to the investment.

Dividend yields change as stock prices change, and companies may change or cancel dividend payments in the future.
 
Asian Financial


Although the home country of this banking firm does not wind up in many discussions about Asian investing, we feel that it is a vibrant country in the region and is home to some good opportunities. However, its currency has been weak relative to other regional currencies, and the USD, primarily because of the impact of lower oil and natural gas prices. As a result, the currency has fallen with the price of oil. However, we see opportunity for a recovery in the currency with a rebound in energy.

The banking firm we are looking at is among the top in the region and has a large interest in handling Islamic finance. We feel it currently boasts a solid balance sheet, an attractive dividend yield, a CAPE ratio of around 15x, and a trailing 12-month P/E of below 13x.
 
Although a global macro slowdown could hurt the bank's lending business, we think that the country and the bank, with its strong market position, should be able to bounce back in an overall improvement in the region.
 
Dividend yields change as stock prices change, and companies may change or cancel dividend payments in the future.
 
Eurozone Sugar Producer
 

This Northern European company is one of the top producers of sugar in the Eurozone. But in recent years share prices of these providers have been greatly impacted by falling sugar prices due to relaxation of a quota system for European sugar beet farmers that is planned to take effect in 2017, and by increased expectations for competition from high fructose corn syrup providers. However, the sell-off in sugar prices may be overdone given the input costs of creating high fructose corn syrup, and the fact that import quotas on sugar will remain to keep a floor under prices. We believe sugar in the Eurozone could eventually be trading higher next year and that current prices may have bottomed.

This producer is currently trading at levels approximately 40% below levels seen in March of 2014, priced in euros, which itself is down more than 17% against the dollar over the same timeframe.  Its current CAPE is now below 10x due to the recent price plunge. But in recent months the share price has stabilized and has moved up. 
 
We see the greatest risk for the company in further intervention from the government (i.e. removing the import quotas that are being left in place), which would allow much cheaper raw/white sugar to enter the European markets. However, despite this risk, we think this leaves the company as a good value prospect and offers exposure to a possible recovery in the euro currency.
 
Investing in foreign securities involves risks, such as currency fluctuation, political risk, economic changes and market risks. Precious metals are volatile, speculative, and high-risk investments. Physical ownership will not yield income. As with all investments, an investor should carefully consider his investment objectives and risk tolerance as well as any fees and/or expenses associated with such an investment before investing. International investing may not be suitable for all investors.
 
Euro Pacific Capital, Inc. is a member of FINRA and SIPC.  This document has been prepared for the intended recipient only as an example of strategy consistent with our recommendations; it is not an offer to buy or sell or a solicitation of an offer to buy or sell any security or instrument or to participate in any particular investing strategy.  Dividend yields change as stock prices change, and companies may change or cancel dividend payments in the future.  All securities involve varying amounts of risk, and their values will fluctuate, and the fluctuation of foreign currency exchange rates will also impact your investment returns.  Past performance does not guarantee future returns, investments may increase or decrease in value and you may lose money.
 
Data from various sources was used in the preparation of this document; the information is believed but in no way warranted to be reliable, accurate and appropriate.

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Deflation Did Not Tarnish the Gilded Age

By: Andrew Schiff, Director of Communications and Marketing


Economic policy makers around the world are pulling out all the stops to protect their countries from the dreaded specter of deflation. Although no country, outside of Japan, is currently experiencing actual deflation, and few have ever experienced it for at least 80 years, economists agree that it is the biggest current threat to the global economy. They argue that deflation is not the typical economic malady, like inflation or unemployment, which can be cured with normal policy moves by governments and central bankers. Instead they insist it is like economic quicksand, which once entered can be impossible to escape. To make this argument, they rely on the public's seeming inability to think clearly and unwillingness to open an objective history book. Sadly, that has been shown to be a very reliable strategy.

The theory that has elevated deflation into a primal economic fear is that falling prices depress demand, which they regard as the finicky engine of economic growth. By convincing consumers and businesses to delay spending to a point in the future when they expect prices to be lower, deflation is expected to kill demand. When demand falls, prices fall once again, thereby depressing demand. This supposedly creates a vicious cycle that can be impossible to break, especially when interest rates have already been lowered to zero.
 
But as it is with most monsters, actual sightings are relatively rare. In fact, to find such a horror story in the United States we have to go all the way back to the 19th and early 20th Centuries, before the Federal Reserve came on the scene to protect us. As it turns out, we did experience a 45-year period following the Civil War, when prices fell consistently, sometimes even vigorously. According to data provided by the Federal Reserve Bank of Minneapolis sourced from the U.S. Dept. of Labor, Bureau of Labor Statistics, over the 43 years between 1871 (when the distorting effects of the Civil War had largely abated), and 1914 (when the distorting effects of the Federal Reserve and the First World War had not yet begun), the overall Consumer Price Index (CPI) declined by 16.39%. That means that deflation averaged nearly .38% (or negative .38% inflation) per year for 43 years. Over that time, inflation turned positive in consecutive years just twice!
 
 
Price declines were even more pronounced during the 30 years between 1871 and 1901, when the CPI declined almost 31%, for an average annual decline of just over 1%. Over that period, positive inflation occurred just once, in 1880. Based on another data set taken from Robert Shiller's Irrational Exuberance, Princeton University Press, 2000/updated 2005, the deflation is even steeper, falling an average of about .46% per year from 1871 to 1914 and an even steeper 1.27% between 1871 and 1901.
 
Given the length of time of this chronic trend and the average virulence of the deflation (today's worst case scenario that is spooking the Europeans is deflation in the range of minus .2% or .3% per year), we must only imagine the economic stagnation that it caused. If one year of deflation is enough to stymie growth and kick off a vicious spiral in the modern world, imagine what damage 43 years of almost consistent declines would have created.
 
But the problem is that that time was probably one of the most successful periods of economic growth in our nation's history. In fact, it probably was one of the fastest periods of economic growth the world had ever seen (matched perhaps in recent years by the stunning growth in China since the death of Chairman Mao). If deflation really is the nightmare that it is being portrayed to be, how could this success have been possible?
 
Many of today's economists like to describe the 1871-1914 period, also known as "The Gilded Age," as a time of economic oppression and exploitation. They point to industrialists like John D. Rockefeller and Andrew Carnegie who were able to amass great fortunes without paying any income taxes. They contrast that stunning wealth with the poverty of immigrants and the heroic efforts of labor unions to win decent working conditions. They tell us that the nightmare did not end until the power of central banking and social safety nets came into play in the 20th Century. 
 
In fact, despite the gaps between rich and poor, this was the time that the United States came into its own and raised living standards for the common man to levels the world had never seen.
Currently, we measure economic growth in terms of Gross Domestic Product (GDP), a metric that looks at the nominal value of all goods and services produced. GDP was not measured in any systemic way during the Gilded Age, but I would suggest that it is a flawed system that does a poor job measuring living standards, which should be the true yardstick by which an economy is judged. Based on that criteria, it's hard to argue that the Gilded Age was one of deflation-induced stagnation.
 
Just imagine life for the average U.S. citizen in 1871 as opposed to the average citizen in 1914. The differences are astounding. Although the Industrial Revolution was already well underway in 1871, most people still lived much as their ancestors had, on agricultural subsistence. Most products were still made locally, and leisure and luxuries were solely for the wealthy.
 
By 1914, things had changed remarkably. By then, the average American had access to electricity, rail travel, and telephones. The horse plow had given way to the tractor, and many even had automobiles. Education, medicine, and travel all became accessible to the average American who began going to the movies, eating Cracker Jacks at ballgames, and enjoying rides at beachside amusement parks. During those years, America was an exporting juggernaut and rose to become the world's dominant economic power. It was the age of Singer sewing machines, the Model T, Kellogg's, and the Sears' catalog. All manner o products that were once considered luxury became available to the growing middle class. 
 
America's public buildings and public spaces became larger and more impressive. We built the Brooklyn Bridge, the Panama Canal, and when the City of Chicago burnt nearly to the ground, it was rebuilt in a matter of a few years. Just to make sure everyone got the message, the same City built the largest fair the world had ever seen, just to tear it down a few years later. We laid more railroad tracks than the rest of the world combined, and finally taught everyone that man could fly even if he didn't have wings. And we did it all during a period of chronic and persistent deflation!
 
We should also ponder how America's propaganda machine somehow prevented the world's pool of immigrants from knowing that our deflation problem was creating an economic disaster. Instead they came by the millions. Once they got here, they didn't even detect how the deflation was destroying opportunity. Instead, they foolishly encouraged other family members to cross the Atlantic and join in on the misery.
 
We are told now that a growing economy pushes prices up. How then could prices fall if the economy then was indeed strong? Believe it or not, falling prices are the natural result of a growing economy. As explained in my illustrated book "How an Economy Grows and Why It Crashes", industrial development is a one-way street. Once better products and manufacturing techniques are developed, they are not forgotten. In fact, one innovation usually leads to another and humanity is constantly learning how to make things of higher quality and with ever-greater efficiency. Businesses succeed by making things cheaper, not more expensive. Extrapolating this across an entire economy means that prices fall over time. We have seen this in our own lifetime with computers and digital accessories, where price declines and quality improvements are off the charts. This used to happen across the entire economy. And we were all better off as a result.
 
But businesses do not fail because prices are falling. People don't stop buying because prices come down every year. Have we stopped buying computers because the prices fall? Instead, the falling price of computers and smart phones simply means that almost everyone, of all classes, can now afford them. And when prices fall, so do the costs businesses bear to produce goods and services. So profits don't get cut, they usually increase as falling prices create a larger pool of potential customers.
 
Basic economics teaches us that demand increases as prices fall. If you want to sell more of something, lower the price. This shouldn't even qualify as economics but basic common sense. But common sense has nothing to do with the current state of economics, where proponents believe that people buy more when prices rise and stop buying when prices fall. Unfortunately, the media believes it too.
 
In a free economy where innovation is encouraged and rewarded, prices can only rise if some monetary phenomenon is present to push them up. In a situation where the money supply is stable, as it was during the Gilded Age, increased efficiency pushed prices down. But all this came to an end when the Federal Reserve came on the scene in 1913 and began to expand the supply of money at will. When more money enters circulation, it pushes up prices. Since 1914, because of Fed debasement, the U.S. dollar has lost more than 97% of its value when measured against gold (NY Post, Seth Lipsky, 1/21/15).
 
While inflation does not create the economic benefits that its supporters like to pretend, it does benefit some segments of society at the expense of others. As inflation reduces the value of future money, it comes as a great relief to debtors who get to repay loans with currency of lesser value. This represents a transfer of purchasing power from creditors to debtors. Since the U.S. government is the biggest debtor on the planet, inflation is their best friend. But to appear as magnanimous, they must convince the public that inflation is good and deflation is bad. They have succeeded on that front far beyond my wildest expectations.

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Grilled on Wall Street 

By: Peter Schiff, CEO and Chief Global Strategist


There are areas of the U.S. markets that may be crossing into areas of irrational exuberance. In the past, the frothiest sectors could be found in technology, biotech, social media, and financials. And while there is still plenty of air to be found in those areas, some of the surprise stars of the U.S. stock markets thus far in 2015 have been in the lowly fast food industry, which had traditionally been an area of low valuations and slow growth.

Based on the continuing challenges faced by the fading titans of the industry (read McDonald's), many investors appear to be frantically looking for the company that could become the golden arches of the 21st Century. It appears as if they are prepared to pay generously once they find a candidate. 
 
In late January, boutique burger chain Shake Shack went public on the New York Stock Exchange. When shares began to trade, the company was awarded a market capitalization of more than $1.5 billion. While that doesn't sound like much at first glance, it becomes eye-popping when you consider that the chain currently has just 63 stores around the world, and that the oldest of its outlets is just a few years old. This values each current store at about $24 million. This is an off the chart valuation for a retail food business. In comparison, investors value each Domino's Pizza store at just over $500,000 each, each Wendy's at about $630,000 per restaurant, each Potbelly Sandwich shop at $1.39 million, and each Jack in the Box at $1.28 million.
 
Now don't get me wrong, Shake Shack makes a very tasty burger, perhaps even the tastiest in the fast food industry. If you like burgers, I urge you to try one. But in terms of conception and execution, the Shake Shack burger is not materially different than similar products offered by dozens of public and private competitors. Shake Shack did not invent the hamburger. Nor did they invent any new or novel toppings or side dishes. They did not disrupt an industry, invent a new category, or patent a new production process. They have taken a staple American food and have managed to give it some buzz in some selected urban centers. It is not inconceivable to me that another burger chain could come along and make a better burger, or a burger of similar quality, for a lower price.
 
Yet by ascribing a valuation of nearly $24 million per existing store, investors seem to believe that Shake Shack can grow at its current trajectory for years to come. To believe that, not only must we assume that the fast food burger category will not lose any more of its appeal (despite the consumer trends in recent years that have favored categories that are perceived to be healthier), but that Main Street consumers will show as much enthusiasm for the burgers as do downtown hipsters, and that the buzz will never wear off.
 
But as eye-popping as the valuations are for Shack Shack, at least the chain has the benefit of a celebrity chef owner, good cash flow, and physical presence in some very high profile neighborhoods. Another 2015 fast food IPO has none of those. On January 30, a company called Grilled Cheese Truck, Inc. went public on the Over-The-Counter (OTC) market, where it briefly commanded a market capitalization of almost $108 million dollars.
 
Like Shack Shack, Grilled Cheese Truck has not invented a new product or social media gizmo. It has no patents, or industry disruptive innovations. In fact, its main product, the good old reliable
grilled cheese sandwich, has been a staple of American cuisine for generations. And although the company touts its sandwiches as "gourmet" (thereby justifying an $8 price tag), it is unlikely that its grilled cheese products differ substantially from sandwiches that could be made by competent short order cooks with a decent skillet and lots of spare butter. 
 
But here's the thing, the company doesn't even have any real locations. All they own is four food trucks, two in California, one in Arizona, and one in Texas. Based on its initial valuation, each of these trucks was given a worth of more than $25 million by shareholders.
 
Now I don't know much about the food truck business, but I think I could probably buy a fleet of food trucks for $25 million. I'm just guessing, but $250,000 sounds like a generous figure to buy and furnish a really nice one. This little sweetie is available on Ebay for $46,000. I'm sure 
you could upgrade the equipment and hire a top-notch design firm to kick up the aesthetics for another $100,000. 

From there, it's just a hop, skip and a jump to serving grilled cheese. So if you had around $100 million, what would you rather do: Buy the entire Grilled Cheese Truck corporation (thereby acquiring their four existing trucks, their brand identity, and their existing liabilities) or buy and refurbish 400 trucks of your own?  
 
But simply taking the company public, and giving it a stock ticker, has allowed Grilled Cheese Truck to value its fleet at $25 million per truck. But that's the good news for investors. The bad news is that the company loses a ton of money with its tiny overvalued fleet. According to the company's financial statements, in the third quarter of 2014, it had sales of almost $1 million, on which it had a net loss of more than  $900,000. Really? How is it possible to lose that much money selling grilled cheese? The company lists assets worth about $1 million, but liabilities of just under $3 million, giving the company a negative book value of $2 million. With a business model that bad is it any wonder that it made a splash on Wall Street?
 
While these are clearly extreme examples of speculative investment insanity, it's worth wondering if these stories could be found anywhere besides the U.S. financial markets. I would suggest that it would be nearly impossible. Only on Wall Street, which has been almost universally acclaimed as the best place in the world to invest, could these fairy tales hope to find an audience willing to listen.     
 
Investors have been taken on this ride before. Back in the late 1990s, one of the hottest IPOs outside of the dot.com space was for movie-themed restaurant chain Planet Hollywood. The company, which opened its first location as a private company in 1991, had gathered buzz as a result of its celebrity owners, which included Sylvester Stallone, Bruce Willis and Arnold Schwarzenegger. The company ultimately IPO'd in April 1996, and reached $32 dollars per share on its first day of trading, which turned out to be an all-time high. This gave Planet Hollywood an initial value of $3 billion, according to the LA Times (4/20/96). At that point the chain appears to have had 31 locations, thereby valuing each location just under $100 million (that's almost four Grilled Cheese Trucks). However, as you may imagine, time was not kind to Planet Hollywood shareholders. Share price drifted steadily downward and fell below $1 per share in 1999. Since then, the company has declared bankruptcy twice.
 
I'm sure Planet Hollywood had grilled cheese on the menu.

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This document has been prepared for the intended recipient only as an example of strategy consistent with our recommendations; it is not an offer to buy or sell or a solicitation of an offer to buy or sell any security or instrument or to participate in any particular investing strategy.  Dividend yields change as stock prices change, and companies may change or cancel dividend payments in the future.  All securities involve varying amounts of risk, and their values will fluctuate, and the fluctuation of foreign currency exchange rates will also impact your investment returns if measured in U.S. Dollars.  Past performance does not guarantee future returns, investments may increase or decrease in value and you may lose money.

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Investing in foreign securities involves risks, such as currency fluctuation, political risk, economic changes, and market risks. Precious metals and commodities in general are volatile, speculative, and high-risk investments. As with all investments, an investor should carefully consider his investment objectives and risk tolerance as well as any fees and/or expenses associated with such an investment before investing. International investing may not be suitable for all investors.

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