Wednesday, August 19, 2009

Dumping Dollars?

In my point of view Dollar is not the right place to sit. Maybe its seems like the chair with more cushion but would you sit on a chair with great cushion and two broken legs? I wouldn’t . Would you invest in a company that spends 185% of what it receives from their customers? I wouldn’t. That its debt is growing 1% a month? I wouldn’t. This company is called United States of America and their shares are called Dollars. Pundits qualify the US as the safest country to park your savings, thus denominated in their currency. With all due respect that is only regarding the probability of default, but what about the purchasing power risk ?(dollars vs Euros, GBP, Remibis, Yens, Pesos,etc).

Being sympathetic with accountants I will explain how I see the US situation, looking it in a balance sheet wise , what happens when a company increases its liabilities and the proceeds go to spending (with no added income from this spending)? You reduce stockholders equity wright? And how do I name the shares of the company? Dollars, so basically they worth less as the company increase its leverage and increases spending.

This increase in borrowing from the US will erode the value of the US Dollar . The US is borrowing about 2 trillion dollars additionally each year, 400 billion financed by Chinese and 500 billion from domestic market and the rest from other places of the world. To revert this pattern the country has to deleverage itself, otherwise you will see a declining value of the dollar, inflation and real negative returns from holding dollars (cash and bonds). The only way to deleverage is to increase taxes (which due current conditions is not feasible at least until 2011) , thus having enough money to repay or at least not to incur in additional debt.

Don’t get me wrong I’m not saying do not invest in the US, go for stocks because they have an inflationary component , not a 1 by 1 but they will capture in value from inflationary times (depending on industry and company , but in average they will increase in nominal terms as inflation increases because their revenues will increase). Basically my point is you could do better holding cash or bonds in other currencies than holding just cash or bonds in Dollars.

Wealthy Mexicans base a huge amount of their savings in US Dollars relying on a basic tenet; to preserve their purchasing power. I wonder if this decision is based from a fundamental point of view or it is a mere tradition (maybe I’am not seeing something). Maybe they just like dollars but I encourage them to diversify and do not remain only parked in a currency with huge deficits.

Thanks for reading

P.S. For a country borrowing is not a bad, as long as the cost from doing it is below the benefit for the country as a whole.

1 comment:

  1. All righty Brother!!

    I will definitely agree with you. As a mater of fact, I will also recommend using this strategy not only to benefit or to get around the actual circumstances, but I will say is always good to have a good balance on your currencies portfolio to support you purchasing power and maintain your wealth independently in which economy or country you live. I will definitely suggest this as constant practice.

    Keep it going, Bro.