Trade

How To Survive A Recession

The trade war has spooked investors with the Dow Jones Industrial Average plunging by around 480 points. This was a result of the increased pressure placed on top trading partners. Markets have already been under pressure with fears of earnings waning when the next quarter results come in. Fortunately, there are ways for you to navigate these stormy waters and the best solution is to follow the 3 D’s. This is to get defense, get disciplined and get deep.

Get Defensive

There is an old saying which states that there is always a bull market somewhere. This saying is so well known because it is actually truer than you might imagine.

There are a lot of investors who are not aware that major stocks actually made money during the 2008 financial crisis. Investors in McDonald’s were handed a return of 8.54% that year along with Walmart investors which rallied 20% on total-returns while the rest of the financial markets were in meltdown. The discount retailer Dollar Tree also saw a surge in that year of 60.8%. The one thing that these stocks all had in common was that they were defensive.

image source: verdict.co.uk

When a market turns from bull to bear, the stocks that are generally hit the hardest will be the most speculative ones. The risk-off environments which make the issues that work best for speculators are also the ones who will be hit the worst when there is a flight to quality. This means that low-interest rate environments and dividend payers will be the best way to get defensive.

This is due to the fact that dividends are a positive contributor to your total returns even when there are plunging prices. Of course, you need to ensure that you do not own stocks where dividends are unsustainable in any difficult conditions. This is due to the fact that dividend cuts will get punished when the market crashes.

After 2008, there are many investors who have remained defensive in their portfolio allocations over a prolonged period of time. By getting back to the defensive position in your portfolio, you will be able to protect yourself against the next market crash.

This will mean that you underperform during the last stages of a rally when the speculative best surge higher. However, the statistics are clear that taking less of the drawdown by being defensive will outweigh the missed upside of the full market cycle.

Get Disciplined

When the market crashes, your emotions will be your enemy. Research done by Dalbar has found that emotions cause retail investors to underperform against the averages across all timeframes. This is due to the fact that we as humans are made to buy when the asset-bubble tops and to sell when the market bottoms. This is why being disciplined will be key to surviving the next market crash.

Being disciplined means that you should hold onto good stocks even when they move lower. You should also avoid any compulsion to make speculative and risky bets to get back to even. A key part of being disciplined is to have a systematic method to quantify when an investment is worthwhile.

image source: tahoehometeam.com

There are a number of tools that you can use to determine if a stock is actually attractive. The critical aspect is that the yardstick you are using should not change when the market conditions change.

Get Deep

The best time to buy is when there is blood in the streets. This is an investing concept that has held true for centuries and is still true today. When the market crashes, investors will generally be presented with amazing opportunities in oversold stocks. To find these opportunities, you need to get deep into the stocks’ valuations.

The market will generally overcorrect to the upside as well as the downside. This means that stocks can trade for valuations during market crashes which do not actually make sense. This was the case in 2009 when many companies were still throwing off cash despite trading for tiny multiples. By following the first 2 of the D’s, you will have enough dry powder to take advantage when you get deep.

Powerful Dollar Could Weaken Oil

/

The oil industry has been the cornerstone of the economy of the United States as well as its foreign policy, and now, the currency is threatening to weaken it. In the last few weeks, the US Energy Information Administration has filed some reports stating that the prices of benchmark crude oil fell to $70 per barrel for Brent and $67 for a barrel for West Texas Intermediate. These were priced at $80 and $75 respectively.

What is worrying is that these reports come just a few months after the predictions that the benchmark crude prices would soar in the upcoming year. But considering everything that is going on – President Donald Trump’s tariffs on certain goods as well as the rise of the dollar – this is going to slow down the oil industry on a global level.

And if we scratch under the surface, you get to see how tariffs are affecting the emerging markets. When Washington introduced steel and aluminum tariffs as well as duties on solar panels and washing machines, for instance, countries such as China, Turkey, and South Korea responded by devaluating their currencies, effectively making the exports less costly.

“Suppose you were exporting something for $100 before the tariffs, then President Trump says we’re going to put on a 25-percent tariff – if you devalue your currency by 20 percent, that brings you back to close to $100,” says Steven Kopits, president of Princeton Energy Advisors, a consulting firm. “So there’s a natural tendency that countries depreciate their currency to maintain the transactions.”

What we have as a result is the more expensive US dollar, by comparison. As we know, the crude oil is traded in dollars, which means that oil becomes costlier to import and that will lower the demand and slow down the countries that chose to devalue their currencies to counter Trump tariffs. This transfers to the economic slowdown for the global market and can backfire and affect the US economy as well.

“This is one of those things where, can I go over and set my neighbor’s house on fire? Sure, you could. Does it mean that my house won’t burn down? Well it might not, but it could burn down your house, too,” Kopits says. “So if you set your neighbor’s house on fire, you probably have a problem.”

“The reaction within 60 minutes of this EIA release was wave after wave of selling,” Tom Kloza, head of global energy analysis at Oil Price Information Service, wrote after last week’s EIA analysis. “There have been several false ‘dive’ alarms sounded this summer, but this particular report may be the one that inflicts more lasting damage.”

image source: dollarsandart.com

Although the US stockpiles of crude oil have gone up, the oil used to keep the refineries that are running at a breakneck pace and crude exports are going down. “This is very bullish, as it suggests U.S. refiners anticipate strong refined product demand, either domestically or via exports,” Kopits says.

We have witnessed recent declines, but the oil prices are still on the highest points since the fall of 2014. According to Kloza, the EIA’s recent bulletins might seem “to cast plenty of doubt on crude oil and product prices headed into the final third of the year,” but they can “sometimes be taken too seriously.”

“I do believe the currency aspect of oil prices has been understated as of late,” Patrick DeHaan, head of petroleum analysis at GasBuddy.com, writes in an email. “As we prepare for the conclusion of the U.S. summer driving season, the largest seasonal consumption in the world, oil prices may remain under [downward] pressure for the early fall. I can’t think of a time in the past that such policy has played such a role in oil prices globally, and this doesn’t look like it will end soon as the U.S. lashes out against multiple trading partners, cutting into the strength of their currency, and leading the dollar to higher ground.”

Russia and China are Killing US Dollar

////

According to Russian Foreign Minister Sergei Lavrov, countries which are under the sanctions should start doing business in their national currencies, as he suggested on Tuesday. Other than Russia, countries which can opt for such a move are also Iran and Turkey, and this means that the days of the US dollar as the international reserve currency could come to an end.

The person who will be the happiest about it is President Donald Trump. Why Trump?

Yale economist Robert Triffin explained in the 1950s that when a currency is the international reserve currency, it runs a current account deficit. In case of a replacement, it is more likely to have trade surpluses, which is what happened when the US dollar replaced the British pound in the 1920s and which is what POTUS aims for.

Currently, all over the world, nations use the dollar as the currency to trade with each other. When purchases oil from Iran, they use the US dollar to complete the transaction. Basically, more US$ flow out of the country than it flows in and that creates a big current account deficit.

With the dollar as the international reserve currency, we have a thing called “monetary seignorage.” In other words, it is what the US government earns with all of those dollars circulating around the world, outside of the US. It is a minimum cost to print money whereas countries which use $ such as China and Russia pay the full value of it in goods and services.

But not everyone wants to see the dollar as the world’s currency. As China claims, the international role of the US dollar was one of the things that caused the financial crisis ten years ago. There was a chance back then for another currency to replace it, but none did.

Let’s jump to the present. Last week, Trump reimposed sanctions on Iran and he said that any company which is doing deals with the Iranians in dollars would also be hit by sanctions. Also under sanctions are several Russian companies.

Lavrov visited Turkey and he told at the press conference that “unilateral enforcement measures are illegitimate in international affairs,” which is a clear reference to the sanctions imposed by the USA. “One way to counter these illegitimate barriers and restrictions is we can use national currencies on our bilateral trade,” he concluded.

image source: america.aljazeera.com

According to Lavrov, Russia has already switched to local currencies when they strike trade deals with countries such as China and Iran. He also believes that a large number of other countries will start doing the same. “I strongly believe that abuse of the role the U.S. dollar plays as an international currency will eventually result in its role being undermined,” Lavrov said. “A growing number of countries — even those not affected by US sanctions — will more and more stay away from the dollar and will rely on more reliable partners using their (own) currency.”

To some extent, Lavrov is right. But will the Chinese be content when they receive the payment in Turkish lira, knowing that the currency will be worth much less by the time the ship reaches its destination? What the US dollar has that no other currency can guaranty: It is safe, dependable and easy to exchange.

We mentioned that this change in role for the US$ is making Trump happy. While he may be thrilled with lower trade deficits because the dollar loses its role of being the international reserve currency, this is not going to happen soon. We will still have to wait for a major change when it comes to the international currency and at the moment none can replace the US dollar.