HAPPY NEW YEAR

WISH ALL MY BLOG READERS A PROSPEROUS, HEALTHY, AND HAPPY 2009!

I will return to the blog on January 4, 2009.

CASH IS KING!

中國應否建立航母艦隊？ (from HKEJ)

http://www.hkej.com/template/forum/php/forum_details.php?blog_posts_id=7305#msg_86042

克勞茨維茲說過：戰爭是政治的延續。

這不只是資金問題，而是綜合國策的問題。說到底，中國現時是要做全球的大阿哥，區域大阿哥，區域裡其中一個有決定性影響力的國家，還是純粹自保的國家。

對於現時的中國，自保基本已不是問題。其縱合實力已經肯定是站在"區域裡其中一個有決定性影響力的國家"，並向著"區域大阿哥"邁進。但是要做全球的大阿哥，時機還遠遠未到。因此維護全球秩序和安全這等重擔，還是讓給老美好了。老俄經常想與老美爭，那就更正中下懷：看風使里；利用兩者矛盾，要求爭大環球影響力是虛，鎖緊地區性影響力為實。

這就要求中國的武力要同時能做到域投射和對世界警察(老美)及世界流氓(老俄+伊期蘭)在中國投射區內的反制能力。簡單點說，兩條腿走路。但是其中以反制力為主為實，投射力則是"站在反制力的肩上"；蓋因現時中國還是不宜和上述力量硬碰。只要能減弱他們的在區域內的投射力，"西瓜靠大邊"再加上"山高皇帝遠"，自然能增長中國的投射力。只需要在此基礎上稍稍加點發展於投射力兵種上，自然可以四兩撥千斤地達到目的。

導彈和潛艇主要用作區域反制(和勢力均衡)之用，而航母最重要的功能是權力投射和保護商道。因此，中國以導彈和潛艇為主，加上一定的陸基航空力量作為其區域反制的主要手段，並將這些武器系統(的次級品)的概念作為一個第三國反制思維"出口"，一方面增加收入，另一方面拆美國牆角甚至作為暗戰時交易的籌碼，以鎖緊區域影響力。同時中國慢速發展航母羣，以此作宣傳和熀子，並吸收海權國家維護商道和投射的經驗，與反制力結合，以進一步加強區域投射力，達到成為區域龍頭的目標。 12月19日 10:47

......策略之用有虛有實方能靈活。再者，中國的發展已經從陸地開展到海上去。中國的海域資源豐富，但是以往中國因實力和觀念所限基本上等於放棄海域。隨著中國的高速增長，海域的資源，商道的保護都變得重要。導彈和潛艇可以在戰時打擊對手，但是在和平時宣示主權和投射影響力卻是無力的。在這種低度衝突的環境下，數支實際上經常遊弋的護航艦隊再加上一支航母羣的支援是可以起到作用的。這不單止對對方的艦隊，甚至對私掠船亦可以有震懾作用。 12月19日 11:48

About Newcrest, the Gold Mining Company...

Chan David Brother Law, sorry that maybe I cause you lose money on your put bet. Wish that you remembered to limit your bet.

One thing, I have just read Newcrest in more details. Although it claimed that it has cleared its hedgebook, it still has a gold put contract in effect delivering 500,000 ounces/year for 4.5 year with strike at AUD800/ounce. In a sense it protects its downside risk. But with its huge gold reserve (about 55m ounce) and a large capacity (2m ounce/year for now), its remaining stock of gold will still be affected by the fluctuation of gold price. By such observation, and that gold price will drop back due to the strong performance on bond market as well as Newcrest's price has hit recent high, brother Law may still hold for a while (maybe to next year) if the price of your contract has not dropped below your stop-loss point. 12月19日 14:13

Chan David Lets play some fantasy again, Brother Law.

Some financial data of Newcrest:ROE = 6.481%
P/E at current price = 102
Financial Leverage = approx. 1.5

Now first method to play with.

Given that ROE is 6.481%, if we assume compound interest growth (all ROE re-invested), then it will take about 11 years to break-even the initial invesmtent (double the value of the initial investment). Meanwhile, the actual P/E is 102. For the current market price to be rationalized, the EPS must grow by 102/11 = 9.27 times. Now as it has a financial leverage of 1.5, the actual increase on profit is 9.27/1.5 = 6.18 times. Assume a back-to-back rise between earnings and gold price, it means gold price has to grow by 6.18 times from its current settlement price 975AUD/ounce to 6027AUD/ounce (or 670USD/ounce to 4143USD/ounce) . Even if we assume that it grows steadily in another 11 years (break-even period of the company's investment), it still means a consecutive 11 years growth compounded at 18% annually. Can it be real?

Lets take another scenario. This time we do not use the reverse of ROE to compute the "reasonable PE". By practice usually a gold mine will have 30-50 years right of mining, and the half-life (usually the break-even period) is around 18-20th year. Now lets take 20 as the reasonable P/E and believe that a lost of value of USD will be 5%/year and an appreciation of gold value will be 15%/year, together a total of appreciation of value of 20%/year. Now by usual practise we made a five year forecast to calculate the value of earnings. By 5 year, the future value is 2.49 times of the current value.



Assume we all believe such bull market and has already rushed to the market to buy the stocks and drive it high. At most the reasonable price (at par to the future value) is 20x2.49 = 49.78 times of P/E. Now its P/E 102 times.From the above estimation, plus that actually the bond market is still strong and the confidence on fiat money has not completely lost yet, the current price of Newcrest is more like a rebound after over-sold. Combining with the technical analysis, an adjustment has a great chance to come.Just my 2 cents...my wild thought... 12月19日 15:48

My Answers to about the Oil Price Drop to 38USD in HKEJ forum

For details, please refer to the following link:

http://www.hkej.com/template/forum/php/forum_details.php?blog_posts_id=7284

Chan David Lets set aside the speculators influence on the oil price first. How about the actual users like power plants, vehicles, and air and sea freight?While at the earlier half of 2008 the transportation related companies still madly hedge their price risk by building up long position, the tsunami and the dim future has not only largely damaged their hedging (as they bought expensive oil) but also deeply affected their demand on the future. Combined together, the actual users have no interest on buying oil at all - afterall, they might have already stored a huge pile of expensive oil that may not be used immediately. Although with modern storage technique oil is not perishable in the short-term, the storage still takes fee as well as physical space. With no more spaces available and the expected huge reduction on usage, plus a tight cash flow, they may even want to sell their oil if possible even at a substantial realized loss. Therefore, it is not surprising that the oil futures has dropped like mad despite the "efforts" done by OPEC. 12月19日 12:05


Chan David Lady 海靈心: I am afraid you overlook the factor due to expectation. Oil demand and supply, as well as economic cycle, are not 100% overlap. Before the hard-core really hits the market, the demand on oil was so insatible that the supply could not match (be it physical or peculinar) and drove the future price up. Those companies would really like to buy future oil instead of spot; otherwise, 1 month later the spot price at that time would even be higher than the exercise price of the future contract. Put it in this way, either you buy the oil at future market at premium, or you can't even buy the oil at that time, and your aircraft will be a sitting duck.Now, holding a lot of oil inventory at hand, and a bad future on the business, all they can do is to sell the cheap oil, if possible, in order to get cash, or their abilities to pay back debt will be greatly affected...so much so, it may even affect their abilities to deal with operating expenses. 12月19日 12:38

My Answers to VicktorCapitalist post about Gold

Please refer to the following post in HKEJ forum:

http://www.hkej.com/template/forum/php/forum_details.php?blog_posts_id=7250

My parts:

Chan David One thing I do not agree is about the linkage between other commodities and gold. Each commodity has one's own characteristics, market structures, and cycle. They are not necessary directly related to the conjugate part of the gold-USD relationship. For example, iron ore market is basically an oligopoly, and its price can be manipulated/controlled by the mutual agreement among CVRD, Rio Tintio and BHP Billiton. And due to the vast amount for transportation by bulk ships, these big 3 also exert significant influence on freight price (and hence BDI). Yet, whether or not these 3 companies will simply be affected by a gold rush is subject to further queries. 12月18日 13:49

Chan David Another part that is subjected to further discussion is about the collapse of US treasuries. As pointed out by Mr. Lin in his HKEJ column today, US gov't and FED are the biggest buyers/holders of US treasuries. Since they are also the sole suppliers in the primary market, they have certain controls over the demand and supplies and hence the price of US treasuries. Unless USA is no longer the hegemony but a lame duck with its scale of economy downsized more than 1/2, it is hard to find a competitor of equivalent strength and importance. Setting aside the fluctuation, even at big scale, of USD price, USD is still the ultimate currency. Other countries/investors bet not just on the inflation rate of USD but also on the strength (and hence abilities to honor the contracts) of USA. Up till now a substitute with USA's size and power has still not emerged. Thus, inflation or not is not the only factor, or not even the most important factor that affects USD's value. 12月18日 14:04

Chan David Brother 肥嘉: Rally is different from a continuous trend. The current rally can be of short-term technical rebound. At least, from the actions taken by mining companies as well as the performance on bulk freight, the return of ore-related commodities is nowhere near. 12月18日 14:24

Chan David Brother 肥嘉: as I said already: At least, from the actions taken by mining companies as well as the performance on bulk freight, the return of ore-related commodities is nowhere near. 12月18日 14:48


Chan David Brother Law: from the way the money move, particularly treasuries of OECD countries all have their yields dropping, the investors for the moment still choose fiat money as the currencies rather than gold. Gold may act as a security in their portfolio. If that is the case, gold price may fluctuate only at a narrow trend. 12月18日 21:46

Another Bubble?

I have the feeling that FED is trying to create the bond market bubble to re-inflate the market. They wish that bond market and government spending can temporarily take over the role of equity market and bank loans respectively. Meanwhile, FED will deal banks with carrot and stick: "easy money" through buying assets and discount window is the carrot; tightened regulations is the stick. With money flooding, banks can survive under the current accounting principles and the banking regulations. Yet, without viable projects and bright expectations, in addition to the competition from the government, banks are reluctant to lend money. Afterall, if government takes this role, why do banks bother to risk of their own money at a highly uncertain market? Such attitude will dampen the recovery speed.

Back to the topic: bond market bubble. Can it be the savior? I am afraid not. Bond market will only alienate the recovery, not enhance it.

Now lets assume that FED measures work and bond market is hotter than the equity market. With insufficient participants in the equity market, it is no longer efficient and delivers no clear estimation through stock prices.

The way bond works, from an investor point of view, is a bet on the company's survival, not development. Bond price comes from the discounted cash flow of the principal plus the coupons. The only "derivative value" of bond is the coupons. Since coupon's nominal value is fixed, it does not relate to company's performance. It can only tell you the company has the ability to repay the debt but reflect nothing on its potential.

The present value of the coupon is only the nominal value divided by the current cost of capital. At the normal "healthy inflation" period, the maximum present value of the coupon is only at par when the market is estimated as risk-free. The higher the risk, the higher is the discount rate and the lower is the coupon present value. While in free market, the cost of capital is "negotiated at the best knowledge"; the benchmark, FED target rate, is manipulated as a tool for controlling economy. During a economic downturn, the risk is high and hence the cost of capital is high. But in order to "stimulate" the economy, FED moves the target rate low, at the expenses of tax-payer. On the other hand, during the economic boom, the risk is low and hence the cost of capital is low. But in order to "cool down" the economy to prevent inflation, FED moves the target rate high, at the expenses of debt-payer. The resulting effect is that while the actual risk of bankrupcy of company is high, the coupon has a higher value due to a lower FED rate for stimulation, and vice versa. In other words, investors are paid a lower risk-adjusted rate of return during a riskier period, and a higher risk-adjusted rate of return during a safer period. If we alter the view to corporate, the worser the corporate and the riskier the period, the higher is the present value of their coupons, and vice versa. All in all, it encourages riskier companies to issue bonds at riskier period and investors to buy riskier bonds at riskier period. What would happen when one day those companies really bankrupt?

75pts Cut - Cocaine or Placebo?

FED made the historical cut last night and drove DJI, S&P500, and NASDAQ up by 4.20%, 5.14% and 5.41% respectively.

Nevertheless, anyone who had paid attention on the T-bill yields and FED funds rate for the recent 3 weeks would not be surprised by the cut for the de-facto FED rate had been between 0.12% and the lowest -0.012%.

LIBOR have also been driven down to 88pts (3month) and 185pts (6month) respectively. 3month T-bill yield rate is 6pts. TED hence has narrowed down to 2-digit: a difference of 82pts.

Long-term finance rates have dropped but the risk premium has remained outstanding by far: 516pts (5 year) and 592pts (10 year) respectively. It echoes by the corporate bond market in which investment grade and junk grade bond yield rate are 7.22% and 22.49% respectively. Comparing with the figures with last month, the 75pts cut have not exerted the same effects on corporate bond markets. It means the worries on the survival of corporates have not passed yet.Such lack of confidence on corporate survival, convoluted with the competition by treasuries markets, makes the last night rally as prescribing a dying patient cocaine as placebo. Had the economic conditions not changed and FED continued to supply money through manipulating bond price expectation, the stock market eventually will subject to a big adjustment after the rally.

Negative Interest Rate

Fed Funds rate has dropped by 0.12% to -0.06%.

Spread between TIPS and T-notes are as follows:
5-year: -21pts
10-year: 17pts
30-year: 74pts

TED spread is 191pts.

If we take the actual FED funds rate as reference, then the 5-year and 10-year AAA banking and finance rate risk premium, together with mortgage spread rate, has not decreased.

In other words, FED is supplying money for banks to polish their balance sheets but the money cannot leave the banking system. Alienating the yield rate of treasuries cannot cover the actual lack of good investment projects, except the ones that are not related to daily demand and supplies.

The Effect of Zero Interest Rate

By manipulating the short-term bond rate and hence rise the bond price, the actual FED funds rate is close to zero. Now the effect has been shown, coupling with so-called good new s like stimuli and bailout plans. However, the mortgage rate and finance rate, if compare to the actual rate, are still at high risk premium. Despite the decrease on price of longer term bond, bond market has not really collapsed. Besides, TED spread also shows that the deflation expectation within 5 year is still valid. Considering the rather small volume of DJI, HSI, and even Shanghai indexes, the HSI currently is subject to a rebound due to an influx of money, possibly from China and from other overseas money retreated from China market.


With the short-term influx and the mid-term dim expectation, the rebound may not stand long. Events like prolonged deflation, jobs cut, other firms collapses, or at least unfavorable 2008Q4, 2009Q1, or 2009Q2 results can trigger the end of rebound. During this period, either hold cash until the period is clearer or speculate on the ups and downs of the equity market. Gold worths attention when demand on gold will rise due to huge supplies and high velocity of USD in the market, through not only government pumping but also welfare policies (if any).

公司債卷或有可為

在現時股、樓、匯、金、商品和衍生工具都閹悶的情況下，債市或許是有投資價值的市場。如果嫌政府債卷的回報太低，則可以考慮風險較高的公司債卷。公司既難以從股本市場集資，而銀行又為了避險而不願融資下，發債是一個可行的途徑。由銀行的角度來看，他們也樂意為上市公司發債包銷。一來公司可以繼續營運，銀行繼續保有客戶。二來銀行的舊有借給企業的貸款的信貸風險由一眾債卷持有人共同承擔，甚至公司借來的錢可以直接還給銀行，間接減低銀行的壞賬。三來銀行不願放債就等於沒有利息收入，在只有少量上市生意下，幫公司發債又是一門生意。既有費用收，又可以減低自身風險，何樂而不為呢？在這種情況下，買賣雙方都有越來越多人進場，也就是說投資者也因而多了選擇，這對有興趣投資債市的人來說是好消息。

FED Funds Rate 0.06% - Historical Low since 1954 Record

Before the actual announcement from FED have happened, market has already responded to the expectation on zero interest rate. FED funds rate hit a record low of 0.06% ever since 1954.

3-month and 6-month T-bill yield rate lowered to 0.01% and 0.25% respectively. 12-month T-bill yield rate was only 0.57%.

Even longer term note and bond yield have decreased. Market is lust for shelter as well as potential for some speculation. Exit period of the bonds issued may come before the offical decrease of interest rate ceases at 0%, and government starts to issue higher yield bond to fund its stimuli plan. Yet, after issuance, any wave of speculation may increase. Companies that can be benefited from the stimuli plan may find their corporate bonds issued now may rise in the price during that period.

Another observation is that the T-note/bond-TIPS spread has turned around from deflation expectation to inflation expectation: 5 year inflation expectation is 0.14% and 10 year is 0.59%. Yet, both are small in magnitude.

Despite the expectation of huge money supply, the market does not expect a real inflation will go ahead. Depending on the scale of stimuli, raw materials prices may subject to a rebound due to USD depreciation and demand from infrastructural projects.

FED has Already Lowered the Target Rate

Special meeting announcement? No. Insider News? No.

Please just pay attention to FED Funds Rate: 0.38%, and 2 weeks before it had dropped to 0.5%. Last friday, before the finish of rebound, FED funds rate did touch 0.38%. It rebounded on Monday to 0.5%. But last night it touched 0.38% again and now sits there.

FED Funds Rate is the actual rate that the banks "borrow" the surplus of the counter party bank in the FED balance. FED can adjust and usually adjust this rate close to the Target Rate (now 1%) through open market operation.

Yet, ever since 2008, FED has not followed their own Target Rate tightly. The spread has been about 200pts. But ever after the black October and November, the spread has expanded to 400-500 pts, and now even 620pts.

Another observation is on the 3-month T-bill. The Monday auction hits 0.05% discount rate, a huge drop from 0.15% from last auction. Apparently FED cannot wait until another week.

Despite the "advanced drop" of interest rate, the risk premium charged on corporate (3A banking and finance rate) and on mortgage do not fall in proportion: 5-yr: 543 pts -> 552 pts; 10-yr: 611 pts -> 652pts; 30-yr fixed: 483 pts -> 514 pts;1-yr ARM: 499 pts -> 548 pts.

Market has not hit the bottom yet. Most experienced investors currently will adopt Mr. Cho's method (a small percentage for "gambling" and others in cash or cash equivalent vehicles). Thus, there are money rolling in the market and fluctuating it. Nevertheless, since these money targeting on making profits through both long and short position, coupling with the overall continuous economic downturn the rebirth of the equity market is still not in the recent future.

Bond Price Rose After Settlement; USD Dropped – What are the Inspirations?

3-month T-bill price rose from 0.10% (“discount rate”) on Monday after the auction of 0.15% bulk to 0.04% on Friday after closing. 6-month T-bill price fluctuated from 0.39% closing last week to 0.54% after the sale of 0.55% bulk and then rose to 0.44%. 12-month T-bill price rose from 0.94% after the auction of newly issued 1.05% bulk to 0.81% on Friday after closing.

Longer term notes and bonds prices have similar fluctuation pattern: dropping after stock market advancement then rallying and rebounding back to a relatively high level.

Corporate bond yield has dropped by 12pts (for investment grade) and 140pts (for junk bond) to 7.98% and 22.00% respectively after the announcement of the bailout of Citibank and the grand scale stimuli plan by USA, UK, China, and other governments.

Despite the softening of government bond prices and the trace decrease of corporate bond yield, both governments bond prices and corporate bond yield remain high. Most of the economic data announced confirm the recession and project a dim future. Although stimuli plans by various governments help restore the market confidence and lure part of the cash reinvest on equity market, investors’ confidence is still weak, and their attitude is still risk-adverse. Hence, regardless the recent strong rebound on stock market, on average 15-20% from the lowest point in 14 days, money still seeks shelter and drives the bond price up amidst fluctuation.

The 3A banking and finance rates echo to the market worries on corporate survival: 6.34 and 7.11% respectively, comparing with 5.98% and 6.95% closing last week. Combining with the corporate bond yield rate, it shreds no light to the coming 3 months company performance.

Another factor that drags down the rising speed of bond price is the expected decrease of FED target rate and hence the over-supply of USD. USD rate against EURO and GBP have decreased from 1.24 and 1.43 to 1.27 and 1.55 respectively. Such decrease makes USD asset, including government bonds, unfavorable. It is temporary, though, for ECB and BOE will announce another wave of decrease of interest rate to cope with the existing shrinkage of credit. Yen, under the deleveraging, will surge due to unwind of carry trade. It will hammer the Japanese export stock accordingly.

The flooding of money may or may not cause another wave of asset appreciation. Two scenarios can be expected.

The first scenario sets on the competition of resources between government and corporate. So far the debt market has not changed its pessimistic view on corporate as shown on the high corporate loan rate and corporate bond yield rate. The enormous government stimuli plan, including direct bailout of troublesome corporate, guarantee on mortgages of home owners, and investment on infra-structural projects, will be done by the government directly to the market without intermediates. Although it avoids the problem of blockage of capital flow by banks for capital reserve, it weakens the multiplier effect since the value chain from the government directly to the corporate is short. Corporate receiving the fund will only save more retained earnings rather than reinvestment/expansion/distributing dividends so as to polish their balance sheets. Infra-structural projects usually result in redundancy and wastage of resources even though in the construction period the commodity price may rebound. None of the above can inflate the market with sustainable capital.

In addition, government needs to issue more higher-yield government bonds to raise funds from the market (without raising tax rate) for stimuli plan; thus, it competes for fund with and actually sucks the essential seed money from private sector. It is reflected on the lowering of government bond yield rate. With the expectation of the slow pace of equity market and company expansion as well as of the higher intervention from the government, market will invest and even speculate on government bonds. The auction price of the government bond will start initially lower to attract investors, and in spite of the lack of room of further decreasing interest rate, the lack of alternative risk justified instrument will drive investors to compete for government bonds and drive the price higher. As a result, the money supplied by the government will return to the government, with only a small part really stay in the market and roll. Corporate will follow the same route disregard of the higher cost of capital. Debt market will be the next appreciating market.

The other scenario will sets on the excessive supply of the money to the market and induce a hyper-inflation. This scenario will happen when government expands the state-owned sector over the private sector. Under the government direct management, political considerations will over-ride the economical and commercial ones. Labour will be over-paid and will under-perform. Organization size will inevitably grow, and efficiency of production will decrease. Stickiness of salary and government expenses through the purchases of unnecessary resources at over-stated price and the creation of redundant jobs may provide a temporary secure feeling to the public. They may spend more and induce a boost on internal consumption. Meanwhile, the corporate, under the government protection, will earn unexpected profits and be tempted to expand further. Bureaucrats will encourage these behaviors for their better evaluation of performance and corruption. These excessive demands will drive the equity market, commodity market and property market high and lower the attractiveness of bond market (and leave the government with even higher deficit). Yet, without substantial growth of GDP due to low efficiency, soon asset and consumer product prices will overshoot and result in hyper-inflation. Under such scenario, gold, and probably oil and agricultural product, price will shoot up high. Stock market will be highly volatile, and debt market will plummet.