GUALFIN, ARGENTINA – Today, we look at what is going on in Venezuela. For amusement as well as for instruction.
As long-term Diary readers know, we are connoisseurs of financial disaster. In Venezuela in 2017, we think we see an especially good vintage.
But before we get to that, we introduce our Doom Index.
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Not So Doomy
The idea is to try to measure the tension in the system… and get a better idea of when the rubber band is going to snap.
Our research department, headed by Nick Rokke, looked at 11 indicators that – when aggregated – have coincided with the last two major blowups:
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Bank loan growth
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Credit downgrades
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Junk bond prices
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Stock market valuations
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Margin debt
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Investor sentiment (contrary indicator)
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Manufacturing sentiment
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Railcar traffic
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Nonfarm payrolls
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Household debt to disposable income
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Quarterly building permits
We were surprised by the results. As you can see from the chart below, despite all our gloom and doom in these pages, our index shows we are not yet in the danger zone.
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You can find more details about the Doom Index here.
Killing the Pigeons
But let’s turn to an economy where doom is already well underway… and getting doomier by the day: Venezuela.
Actions have consequences. In public policy, it is impossible to say what the consequences will be. There are too many delusions and too much smoke.
Take a policy said to eradicate city rats. Its real purpose is to reward a large political donor who owns a pest control firm. It ends up killing the pigeons.
Often, policies with clear and obvious purposes end up producing outcomes completely at odds with the stated objectives.
Prohibition, for example, increased the number of drunks. The War on Drugs fattened drug dealers’ profits.
The War on Poverty has made poverty respectable… even attractive… to poor people.
The War on Terror has probably made a million otherwise sane and sensible Muslims yearn to blow up something with a U.S. flag on it.
Most often, these outcomes are not exactly surprises. Look more closely and you will often find, hidden behind the promises… a pest control firm!
News reports, for example, tell us that U.S. arms dealers are about to get a $110 billion payday. President Trump announced a weapons deal with the Saudis – the biggest in history.
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Into the Abyss
Although the exact consequences of public policies are obscure, the patterns are familiar.
As we’ve already explored, win-lose deals always reduce total human satisfaction.
Win-lose deals – unless they are imposed by petty criminals or local bullies – require government insistence. Otherwise, no one would take the losing side.
So the more government there is… the more active, ambitious, and overbearing it is… the more win-lose deals subtract from the sum of human happiness.
A month ago, as many as a million of these disappointed people demonstrated against the government of Nicolás Maduro in Venezuela. It was the “Mother of All Protests,” they said.
What was their beef?
Inflation is running at about 700% a year. Last year, GDP plunged 19%. Food staples – beans, rice, bread – are disappearing. Families cross the border into Colombia to buy toilet paper.
Hospitals have no medicine, no equipment, not even rubber gloves and disinfectants. Sometimes, they have no electricity. Deaths of premature babies have increased 10,000% in the last five years.
How did a country make such a mess of itself?
Win-Lose
In a sense, the country was a victim of its own good luck… and then a victim of its own bad judgment.
The good luck happened in 1914 when the first oilfield was drilled. The money followed.
By the 1950s, with a basically market-oriented government, Venezuela rose to become the world’s fourth-richest country in terms of GDP per capita.
Today, the country has the largest proven oil reserves in the world – 297 billion barrels of the stuff compared to 267 billion barrels in Saudi Arabia.
But good luck allows you to make bad judgments. With the oil wealth flowing, Hugo Chávez – who described himself as a Trotskyist two days before his inauguration as president in 2007 – could impose win-lose deals on the whole economy.
Key industries were nationalized. Price controls were put in place. Wealth was redistributed.
Win-lose deals can redistribute wealth but only to the extent win-win deals create it. Take away the win-win deals, and the wealth soon runs out… as it did in Cuba and the Soviet Union.
Now the tank is about empty in Venezuela, too.
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Banana Republic
It doesn’t matter what you call it – government is always a means for the few to exploit the many.
The few use every resource available to them to keep the hustle going, with special attention given to manipulating the gullible mob.
The typical citizen rarely has any idea of what is going on… and doesn’t have much curiosity about it. As long as he has credit for a new pickup and a champion who promises to smite his enemies, the common man will go along with almost anything.
But the Venezuelan auto industry has been ruined. And there’s no credit available. So there are few new pickups on the streets, and much of the public has turned against the government.
Not surprisingly, the policies that destroyed Venezuela delighted U.S. economists and politicians – who were eager to impose win-lose deals of their own.
In 2007, Nobel Prize-winning economist Joseph Stiglitz praised the “positive policies” in health and education of the Chávez government.
And in 2011, Bernie Sanders wrote:
These days, the American dream is more apt to be realized in South America, in places such as Ecuador, Venezuela and Argentina, where incomes are actually more equal today than they are in the land of Horatio Alger. Who’s the banana republic now?
Sanders had no idea what was really going on in Venezuela. But he was right about what was going on in the U.S. It was on its way to becoming a banana republic.
Only without the bananas. Or the republic.
Regards,
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Bill
Editor’s Note: Today, Bill shares a picture from his recent meeting with the originarios.
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Bill prepares to meet with the originarios
Investing Insight: Don’t Trust Labels
By Chris Mayer, Chief Investment Strategist, Bonner & Partners
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I’ve always been fascinated with how you can give something a name and that name can completely change the way people view that thing.
This is an old trick, well-known by advertisers. But it works in markets, too.
Anyway, an anecdote from the tech bubble will tell you all you need to know.
In 1999, there was a company called The Publishing Company of North America. Enviously eyeing the booming market for internet shares, management decided to change the company’s name to Attorneys.com. The stock doubled.
Then the tech bubble burst. The stock fell more than 75% from its 2000 peak. Well, the firm decided to change its name again. This time, it took on 1-800-Attorney. In days, the stock jumped 40%.
And the professors want to tell us the market is “efficient.” Uh-huh.
Still, I see this all the time.
Consider Post Properties, an Atlanta-based apartment REIT. REIT stands for real estate investment trust. It’s a popular way to own real estate because it’s like a mutual fund that’s made up of properties instead of stocks. It’s also a popular type of stock to own right now because REITs (by rule) pay out most of their earnings in dividends.
So Post Properties was recently acquired at a price of 26 times free cash flow. This valuation is not out of line with most REITs, but Post Properties is arguably a worse asset than most REITs.
C.T. Fitzpatrick is the chief investment officer at Vulcan Value Partners, an investment advisory based in Birmingham, Alabama. He writes:
While higher quality retail and office REITs have longer leases ranging from 3 to 10 years, apartment REITs generally turn over roughly half of their units annually. So just to break even, they have to resell half of their product annually before they can grow.
Now, consider Oracle.
People don’t call Oracle a “REIT.” Yet it has long-term contracts (licensing agreements). These even have inflation-adjusted escalators, just like a lease. Oracle enjoys over 90% customer retention. And it can add customers without having to build a new apartment.
Fitzpatrick tells us:
In real estate terms, Oracle can grow its “occupancy” without physical constraints… Moreover, unlike REITs, which are highly leveraged, Oracle has net cash on its balance sheet. So Oracle can grow twice as fast as the typical REIT without leverage. Adjusted for cash, Oracle trades at less than 11.5 times free cash flow.
So let’s see… Oracle has a business that in its essential characteristics is much like a real estate firm. Except it is better. It has cash and no net debt. It’s growing faster. And yet the market values it at half of what the acquirer paid for Post Properties.
Strange. It’s almost as if the market says, “Well, Post Properties is a REIT.” And you say, “Yes, but clearly Oracle is a far superior asset in every respect.” And the market comes back and says, “Yes, but… Post Properties is a REIT.”
The power of labels! Don’t trust them.
— Chris Mayer
P.S. I’ve had decades to study the markets and witness firsthand common mistakes like these that can cost investors a fortune. I just released a new training video where I reveal another common mistake that you’re likely making without even realizing it. Don’t worry. I’ll also show you how to avoid this misstep in the future. Go right here to see for yourself.
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Mailbag
Today, readers respond to Bill’s recent sit-down with the originarios…
Bill, that was a depressing read, you didn’t say much about the government in all this, can’t possibly be ok with them? This is like reparations to families of slaves in the Caribbean and Africa and guess who you represent. It can’t fly but in this flim flam world of opportunism, nothing surprises anymore.
– Michael M.
You’ve had that ranch for 10 years and lived among the people there and never learned to speak Spanish? Couldn’t you go to the hearing and wow them with your pitch in their language? Forget the lawyer and be one of the local guys.
– Jim W.
You bought a ranch in Argentina, and assumed that it would be just like owning a ranch in the United States… big mistake. Now you are going to get the same treatment that indigenous people have suffered through for hundreds of years. “Unfair,” you say. The thing is, Patron, that the people that have been living on the land since before you and the other emigrados arrived now have lawyers of their own. They probably have discovered that their ancestors were swindled and enslaved, and that there is precedent for reparations stemming from the era of Bolivar.
They may be willing to settle, but you will fight to resist. That will lead to a lot of bad press and vilification and paint you as a Trumpy fascist, and that is not going to make for a good social standing, whether or not you hang on. You appear to be one of the more “modest” millionaires that think that Patagonia and all of South America will be the place to ride out the financial collapse that you are hoping for.
Good luck, amigo.
– Robin S.
I’ve been racking my brain for months, trying to figure out a solution to the problem of the originarios. I finally hit upon one, but you probably won’t like it. What if you bought the originarios off? Offer them a decent amount of money in exchange for their agreement to renounce any claims they say they have to your ranch. Deal with them individually, not as a group. Get the agreements in writing, witnessed and sealed by the courts.
It’s not an ideal solution, I know. And, of course, it would be distasteful to you to pay, again, for something you already own. But, if it allows you to retain ownership of your ranch it would be money well-spent – a win-win deal.
– Dale A.
In Case You Missed It…
Earlier this month, Bill gave readers a glimpse at the inner workings of his vineyard in the Argentine mountains. Now, Bill is offering readers the chance to enjoy their own glass of Tacana Malbec.
For the first time ever, Bill is selling a select reserve of his wine straight from the vineyard at Gualfin.
And here’s his promise: Try the wine. If you don’t like it, we’ll give you your money back.
But remember, there’s limited stock. So place your order right here.
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