The Demise of the US Dollar, Why and How

Bullet Points and Thought Process

·         The US Dollar and Bonds may face devaluation and/or a partial default.

§  The U.S has the highest amount of debt in the history of the world.

§  Fact Sheet: US National Debt 15, 9 Trillion (104% of GDP), that’s 50K per citizen to pay now, or 140K per tax payer to pay now…. Albeit Interest rates are still running at historic lows, when interest rates go back up, it will be unsustainable.

§  More importantly, unfunded liabilities are 119.8 Trillion equivalent of 1 million liability per tax payer…

> No need to be a rocket scientist to figure out they cannot pay back the debt. They are insolvent just as many European countries are it is only a matter of time. There will positively be Municipal defaults … As a result, whatever exposure a business has in US Dollars will somehow be impacted.
Risk: right fat tail (major depreciation, asset inflation) followed by left fat tail (major depression, deflation…)

Solution:

Ø   Hedge or diversify FX exposure:

§  What others are doing is getting out of the USD when possible.

§  There are signs that macroeconomic policy insiders consider there is No need of USD to trade with China. Japan, Brazil, Australia and Russia, and the list is growing…

-          China, Russia to dump US dollar for bilateral trade: The International Business Times - 24/11/2010

-          India and Japan sign new $15bn currency swap agreement: BBC - 29/12/2011

-          Iran, Russia Replace Dollar With Rial, Ruble in Trade, Fars Says: Bloomberg – 07/01/2012

-          China and Australia in $31bn currency swap: FT – 22/02/2012

-          Iran accepts renminbi for crude oil: FT – 7/05/2012

-          Japan, China to launch direct yen-yuan trade on June 1: Reuters - 28/05/2012

-          India, Iran to settle some oil trade in rupees: Reuters 20/01/2012

-          …etc…

Conclusion: There is evidence of USD as primary commodity and reserve currency is ending

1)      Countries trading with each other without the use of USD

2)      Less Global exchanges of goods are made with the USD.

-          IMHO, I believe the US tried to prevent it with embargoes i.e:  Iraq wanting to trade Oil in EUR, not Dollars ; and now Iran and others who want to trade in Gold vs. Petrol…

Thesis:  There will be a gradual debasement¹ or a sudden devaluation² of the dollar or both^1à2.
Before that, I believe there is 3 Signs to watch for:

1-      Major Crack in the Derivatives Market (The leverage will collapse)

-          Fact: Top 9 Banks Exposure $228.72 Trillion = Roughly 3 times the entire world economy (See: Infographics)

-          I suspect at some point there will be a deleverage process; the issue is to know when…

-          JPMorgan May Lose $5 Billion on Derivatives, WSJ Reports: Bloomberg - 18/05/2012

àThis could be only the tip of the iceberg. There is way more to come…

2-      Currency Wars: US QE3 and China RMB floating currency & Trade Wars

-          China gives currency more freedom with new reform: Reuters – 14/04/2012

-          Fed officials favor QE3; Asian data signal drop in global demand: Reuters – 1/07/2012

3-      When the Fed Increase of 1% in interest rates: At that point it is too late.

-          The mechanisms would suddenly increase the notional interest on the debt as well as strangle the economy basis economic players (banks , businesses, student loans…) who profited artificially low interest rates could face some type of margin calls…

-          For the record: In my humble opinion the solution could either be a collapse or renewal of the US dollar perhaps merging Canadian, Mexican and Amercian reserves under an Amero. (particularly if the euro remains particularly strong vs the US dollar i.e > 1. Showing a relative success.

But this will not happen soon...

The Gold Trap: Get physical

 Industry players which are somehow locked:

·         Mining Producers use forward sales and have locked in their production.

·         As we have seen, financial institutions leverage up to 100’s of times in the market vs. the physical reality. They do not have the collateral. Hence they sold futures 24^th Sept. 2011.

·         Funds and ETF so called “physically backed”, have clauses, for which in case of default, they would settle in cash or nothing, in other words they have no purpose at all. Note: GLD is the largest gold trust in NAV. As an example for gold:

à“Gold bars allocated to the Trust in connection with the creation of a Basket may not meet the London Good Delivery Standards and, if a Basket is issued against such gold, the Trust may suffer a loss” – GLD Prospectus, Page 11.
àBecause neither the Trustee nor the Custodian oversees or monitors the activities of subcustodians who may temporarily hold the Trust’s gold bars until transported to the Custodian’s London vault, failure by the subcustodians to exercise due care in the safekeeping of the Trust’s gold bars could result in a loss to the Trust. – GLD Prospectus, Page 11.
à“The ability of the Trustee and the Custodian to take legal action against subcustodians may be limited, which increases the possibility that the Trust may suffer a loss if a subcustodian does not use due care in the safekeeping of the Trust’s gold bars.” – GLD Prospectus, Page 12.
à“In addition, the Trustee has no right to visit the premises of any subcustodian for the purposes of examining the Trust’s gold or any records maintained by the subcustodian, and no subcustodian is obligated to cooperate in any review the Trustee may wish to conduct of the facilities, procedures, records or creditworthiness of such subcustodian.” – GLD 10-K Filing, Page 18

·         Nothing guarantees these trusts and vaults to swap several times the Bullion in order to get additional income.

·         Who own the gold? I suspect it is eventually the physical holder who will be in position of power.

Transforming Crisis into Opportunity

Now that you know, It is for you to find a way to profit from that.