China and Developing Markets Could Emerge as the Big Winners

There was a great article in the Financial Times the other day that I want to point out to you, because it’s well worth your time to read – especially considering the source: George Soros.

For those who may not be familiar with the name, George Soros is one of the few “living legends” in the pantheon of world’s great investors… who actually deserves the title. Soros was the co-founder (with Jim Rogers) of what’s perhaps the most famous hedge fund of all time, the Quantum Fund.

Over a period of more than thirty-years, Quantum returned an astounding return of more than 30% per year. An initial investment of $100,000 placed in the care of Soros and Rogers from the beginning in 1969 would have grown to about $400 million by the year 2000!

Soros' Views Worth Listening To

In this day and age it’s very difficult task just trying to identify one out of the thousands of hedge funds now available that can actually match, much less beat, the S&P 500 Index on a consistent basis. That’s why Soros’ achievement with the Quantum fund is all the more remarkable.

There are a few investment legends who are worth listening too. Soros is one of these. Unfortunately, Soros today has largely moved away from active investing on a day to day basis. He chooses to focus instead on his philanthropic endeavors; and considering the investment returns he generated, why not.

That’s why I took notice when I saw the name George Soros in the byline of an article he penned for the Financial Times. The subject: what else but the global credit crunch. Here is a link to the full article: The worst market crisis in 60 years, and what follows are some of the key highlights.

Credit Super-Boom Goes Bust

According to Soros the current financial crisis, precipitated by the U.S. housing market bubble, “is the result of a “super-boom” in easy credit that has gone on pretty much since the end of WW II. Whenever financial markets ran into trouble, with a recession or some other credit crisis on the horizon, “the financial authorities intervened, injecting liquidity and finding other ways to stimulate the economy.”

Of course this created a dangerous “moral hazard” as investors grew comfortable with the fact that the Fed and other central banks were always there to “bail out” their risky investments. Naturally, this only encouraged even greater credit expansion, and of course Wall Street helped grease the skids, aided by reduced market regulation.

In fact, the financial sector “encouraged consumers to borrow by introducing ever more sophisticated instruments and more generous terms. The authorities aided and abetted the process by intervening whenever the global financial system was at risk. Since 1980, regulations have been progressively relaxed until they have practically disappeared.”

The Fox Ends Up Managing the Financial Hen-House

Where things got out of hand, according to Soros, was when the unregulated Shadow Banking System (as Bill Gross calls it) began creating new products (derivatives, collateralized debt obligations, and other three letter acronyms) that nobody could understand.

“New products became so complicated that the authorities could no longer calculate the risks and started relying on the risk management methods of the banks themselves. Similarly, the rating agencies relied on the information provided by the originators of synthetic products. It was a shocking abdication of responsibility.” What's that old saying about the Fox guarding the hen house?

Or course the blow-up was ineviatable sooner or later – the housing market bust was merely a convenient catalyst – the wrong “bust” at the right time. In its aftermath, Soros sees a “period of contraction” in the credit super-boom. That’s because “The ability of the financial authorities to stimulate the economy is constrained by the unwillingness of the rest of the world to accumulate additional dollar reserves.”

Can the Fed Stimulate its Way Out of This Credit Crunch?

Soros warns that because of the dollar’s weakness and inflation in commodity prices, the Fed may no longer be in a position to pump more hot-air into the credit bubble by aggressively cutting rates. “If federal funds were lowered beyond a certain point, the dollar would come under renewed pressure and long-term bonds would actually go up in yield,” Soros cautions. When this point is reached, “the ability of the Fed to stimulate the economy comes to an end.”

That's when the whole debt-laden financial house of cards comes crashing down -- derivatives and all!This sounds a lot like the doomsday scenario that we have been warning Sovereign Society members about for some time now. I’m happy to see that George Soros has come around to our point of view!

Still, there is a big silver lining in this doom and gloom scenario, according to Soros. A recession in the U.S. and the rest of the developed world may be “inevitable” but Soros believes “China, India and some of the oil-producing countries are in a very strong countertrend.”

In fact, Soros sees a significant shift of power and influence away from the U.S. in particular – and the rest of the developed world (Europe, Japan, etc.) in general. Likewise, he’s expecting this shift to favor emerging markets in the developing world, particularly China.

“The current financial crisis,” Soros concludes, “is less likely to cause a global recession than a radical realignment of the global economy, with a relative decline of the US and the rise of China and other countries in the developing world.”

Now you're playing my tune by George!

Comments

[joe]

isn't it "Now you're playing my tune by George"?

sorry, have this big your = you're pet peeve.

[Mike]

Indeed you are correct Joe. My command of the English language (never that great to begin with) faltered after midnight last night (this morning) when I hit the "send" button; my apologies.

[Dominick]

Very interesting. Thank you.

I teach English.

"Now you're...tune, by George!"

This is the best option because you're quoting the entire saying. For that reason, the end punctuation need not fall last (although there is disagreement on this point).
Also, the comma before the phrase 'by George' is appropriate because the phrase does not modify the word 'tune' (= King George's tune); instead it's an exhoration: 'That King George shall will it!', or something to that effect.