History and economic logic show that during the 12- to 20-year periods of underperformance in the stock market that we call Supercycle bear market periods,[1] an economic slowdown almost always develops into a full-fledged recession that is at least twice as severe as recessions during Supercycle bull market periods.[2] The weight of evidence, a sampling of which is discussed in this commentary, continues to support our long-standing forecast that the current economic slowdown is well on the way to becoming a particularly severe recession that, when fully priced into the stock market,

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will result in the devastating market decline that is characteristic of the second downleg of a Supercycle bear market.[3] Our clients are well-positioned to profit from this decline.

As we discussed in some detail in our May 5, 2006 commentary, exuberant rebounds always follow the initial decline in a Supercycle bear market, and precede the devastating second downleg, so that the Supercycle bear market exhibits a down-up-down, or A-B-C pattern, where A and C are downtrends, and B is the rebound, or “echo-mania” phase. [SEE]

The chart above shows this A-B-C pattern in the current and four previous Supercycle bear markets. The red dotted lines show the beginning and end of each Supercycle bear market period.

Note that the echo-mania rebound (B), which varies in magnitude and duration, always reaches multi-year highs – and every other time, reaches all-time record highs – at its peak, before beginning the severe second downleg that always follows. The charts in our previous commentary, as well as the chart at the beginning, show we remain entirely on track for just such a devastating market decline.

Leading Economic Indicators Continue Their Inexorable Slide

Everyone now knows the economy has slowed. The only question remaining is how much more it will slow.

The chart below is Bob Bronson’s updated version of five composite leading economic indicator indexes, which we described in some detail in our July/August 2005 commentary. Leading economic indicators are comprised of various measures of business conditions that tend to lead the overall economy by about two quarters. 

As you can see, all five indicators (the top five lines on the chart) are well below the peaks they reached during the past 20 months. Four of the five have been declining sharply and have now fallen to levels last seen more than two years ago. This confirms that the economy never was in sustainable expansion and never had the fundamental underpinnings to support the modest new highs reached in the stock market since early 2004, a period which will continue to prove to be a classic “bull trap.”[4] (See our October/November 2004 commentary, in which we first made the case in some detail that the stock market’s begrudging advance was a bull trap.)

The fifth indicator (the red line) is the widely reported Conference Board (CB) leading economic indicators. This indicator continues to benefit from the conference Board’s bullish revisions to its methodology and data, particularly the complete elimination of the bearish implications of a narrowing yield curve (see our further discussion on the yield curve below), and so it peaked later than the other four leading indexes. Even with this significant bullish bias, this indicator declined 0.1% in July, the fourth decline in six months, and has clearly rolled over into a downtrend.

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In their all-important aggregate, the magnitude and duration of the decline in these five leading indexes continue to clearly warn that the current economic slowdown is almost certainly heading into recession, just as these indexes accurately warned in 2000, as seen in the chart.

The Federal Reserve Bank of Chicago compiles an aggregate National Activity Index (see chart below), which is a weighted average of 85 indicators of U.S. economic activity, making it an unusually broad indicator. Using its cyclical trends as a leading indicator, you can see that the index has rolled over and is declining, whether viewed on the basis of the three-, six-, or 12-month moving averages.

The index and its moving averages have broken down through trendlines dating back three to five years, not only warning that the economy is turning down, but also acting as a major sell signal for the stock market. As you can see, this important index of broad economic activity similarly signaled the downturn in the stock market in 2000.

GDP Figures Are Consistent With
An Incipient Business-Cycle Contraction

U.S. economic growth continued to weaken this past spring, according to recently revised figures from the Commerce Department’s Bureau of Economic Analysis. Real (inflation-adjusted) gross domestic product (GDP), the broadest measure of the nation's total economic output, increased at a 2.9% annual rate in the second quarter, revised upwards from its initial estimate.

However, as we anticipated[5] (see our February 2006 commentary), this figure was largely due to the involuntary and accelerating build-up of inventories (see the chart below), which adds to GDP in the short run. With goods sitting on shelves and on lots unsold due to weaker consumer demand, businesses can be expected to cut back their production. If inventories continue to build, as we fully expect, economic growth will be likely to be even weaker in the second half of this year, consistent with our long-standing forecast.

Auto manufacturer Ford recently responded to its sales slowdown and inventory build-up by cutting its production 20%, and industry analysts expect GM and Chrysler to make similar cuts soon. Similarly, in the semiconductor industry, Intel is expected to announce a reduction in its workforce of between about 10%, cutting their new hires over the past couple of years in response to slowing business conditions.
If inventories are stripped out of GDP, along with government spending (which tends to be counter-cyclical), foreign trade (foreign economies are not necessarily synchronized with the U.S. business cycle), and population growth (which is always in a very flat, long-term uptrend), what remains is what we call “Real Private Domestic Final Sales Per Capita,” which may be the most important business-cycle indicator that can be derived from GDP data.  As you can see from the chart on page 6, the trend in the annual growth of Real Private Domestic Final Sales Per Capita was negative in the second quarter, which is consistent with the business-cycle contraction we’ve been expecting. We have previously discussed the distortions created by the government’s seasonal adjustment formula that can make quarterly GDP figures misleading and unreliable. For example, reported GDP for the fourth quarter of 2005 GDP was not adequately adjusted for the anomalous negative impact of the Gulf Coast hurricanes. Similarly, reported GDP for the first quarter of 2006 overstated the consequential rebound from the depressed economic activity of the previous quarter, and was not adequately adjusted for the record-breaking warm weather in January.

Business Investment Is Topping Out

A view still widely expounded by talking heads on CNBC and in other financial media holds that capital spending in the business sector will pick up the slack from the slowdown in consumer spending and keep the economy afloat. Just on the face of it, this is economically implausible, since consumer spending is nearly seven times larger than the all-important fixed investment portion of business capital spending.

The latest GDP data support our view that spending on fixed business investment will not offset the accelerating slowdown in consumer spending and the housing sector, which is also confirmed by the data. For example, a key component, business spending on equipment and software, fell 1.6% in the latest quarter, hardly the sign of accelerating, or even growing, business investment spending.

“Business core capital spending” is derived from new orders of durable goods, excluding defense and aircraft (and parts). It is an excellent monthly, advance proxy for overall business capital spending, especially for business fixed investment in equipment and software, which is only reported quarterly in the GDP figures. Their year-over-year growth rates have been 86% correlated over the past 10 years.

Bob Bronson’s charts of business core capital spending, which have appeared in our commentaries over the past couple of years, clearly show that not only is it not in a self-sustaining expansion, contrary to claims often made by TV talking heads, but it has not even fully recovered to its pre-recession levels of 6½ years ago. In fact, the data show that it’s stalling out again, just as it did in 2000, when the stock market started its first downleg of the Supercycle bear market.

Large U.S. companies are sitting on a record amount of cash. Instead of accelerating their spending on factories, equipment, and other opportunities for growth and expansion, however, companies are mainly spending on non-growth items: net consolidations through mergers and acquisitions (though less so as stock prices decline); stock buybacks to offset the dilutive effect on earnings-per-share from employee stock option compensation, which finally must be fully reported on income statements as a compensation expense; and, most importantly, increasing dividends. In the years ahead, dividend payouts can be expected to rise from 33% of corporate earnings at present to the historical norm of about 50%, if not higher, as their importance increases as an offset to declining stock prices during the second downleg of the ongoing Supercycle bear market.

Manufacturing Slowdown Confirms A Major Stock-Market Top

The U.S. manufacturing sector, representing about 15% of the economy today, is generally tracked through industrial production, which is the total output of all factories, mines, and utilities. The updated chart below of the 12-month rate of change in industrial production shows a continuation of the slowdown in this key measure of U.S. economic output. Not surprisingly, manufacturing jobs declined during July and August.

Typically, cyclical turning points in the 12-month growth rate of the manufacturing sector are well correlated to the turning points in the U.S. stock market. The negative divergence since early 2004 between the downtrend in industrial production growth and the uptrend in the stock market can only be closed by a significant decline in stock prices since, among other things, unsold business inventories are piling up, precluding a new burst of manufacturing output.

Consumer Sentiment As A Market Timing Indicator

The slowdown in the growth of economic activity and corporate profits can be laid squarely at the feet of increasingly cautious, excessively-indebted American consumers, who are tightening their belts more and more. Consumer spending, which accounts for slightly more than two-thirds of U.S. economic growth, grew by one-third less than the rest of the economy during the second quarter (2.5% vs. 3.7%). Rather than driving the rest of the economy, consumer spending is increasingly dragging it down.

Consumer sentiment, properly measured over many months, is a good predictor of both consumer spending and the stock market. As the chart below shows, the University of Michigan’s consumer sentiment index has been rolling over, with future expectations (the blue line) declining more sharply than consumers’ feelings about their present conditions (the green line). This relationship historically not only has suggested that a recession is developing, but has also signaled a significant stock-market decline, as shown by the red arrows between the charts of consumer sentiment and the S&P 500 index (the black line in the lower panel).

We can expect bounces in consumer sentiment in the immediate future, since no time-series declines in a straight line. But this indicator has already given its recession and bear market signals, so any bounce up from the current low levels with not change the longer-term downtrend.

Retail Sales Are Stagnating

Another view of the slowdown in consumer spending comes from weekly same-store sales, which are considered the best advance indicator of the retail sector’s health. By tracking only the sales from stores that have been in existence for at least a year, this data series acts as a reliable leading indicator of overall retail sales, which include auto and gasoline sales. The latter are highly volatile, induced by sales incentives, and can be affected by politically-impacted oil prices, unrelated to the underlying business cycle.

As the chart below shows, the 12-month growth rate of same-store chain-store sales is rapidly decelerating and heading into negative territory, consistent with our continued expectation that a severe consumer-led business-cycle contraction is underway. Even retail giant Wal-Mart, the nation’s largest retailer, depended on aggressive discounting to grind out same-store sales growth at the annualized rate of just 2.7% in August.

The largest component of retail sales is auto sales. Not surprisingly, falling auto sales is one of the strongest indicators of a recession. Since World War II, car sales have been a near-perfect barometer of economic activity.

The chart below, published in the New York Times, shows that the year-over-year growth in new-car dealer sales of new and used cars, parts, and service has rolled over and is in decline, hitting the -2% level that historically has signaled that the U.S. economy is entering, or is already in a recession. This decline in sales occurred in spite of a host of new buyer incentives, including additional cash rebates and loans to people with subpar credit, which auto makers are offering on top of 0% financing for up to 72 months.

Anatomy Of A Housing Bust

Yale economist Robert J. Shiller created an index of American housing prices since 1890, adjusted for inflation. It graphically illustrates how house prices have skyrocketed in recent years, viewed over a 116-year perspective. The chart below raises the obvious question about where home prices go from here. We have added arrows to indicate what 20%, 30%, and 40% declines in (inflation-adjusted) prices would look like from the long-term perspective of this chart.

During the 1990s, nominal home values grew on a national basis by about 4% per year, then soared, ultimately to an unsustainable year-over-year peak rate of almost 15% last October. Recall that as Americans soured on the stock market after the first leg of the Supercycle bear market in 2000-02, they poured money into real estate, spurred on by the lowest interest rates in four decades, mortgage lending innovations, and looser lending standards. It has been estimated that the full effects of the booming housing sector incredibly accounted for more than two-thirds of GDP growth in recent years – and now it’s all over.

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The chart below is Bob Bronson’s presentation of the past several years’ growth in home prices. It combines existing home sales, provided by the National Association of Realtors, with new home sales, provided by the U.S. Census Bureau, to create two all-home price indexes, one reflecting median prices (the bright blue line) and one reflecting mean prices (the red line). These indexes are weighted by the number of homes sold, since existing home sales are about seven times larger than new home sales. The chart reflects the latest data reported (through July), although the existing home sales data are lagged, reflecting sales contracts that were typically negotiated and signed two months earlier in May.

As you can see, the unsustainable uptrends in the all-home price indexes are breaking down as prices roll over, with this summer’s prices not even exceeding last year’s summer-season peak sales prices. In fact, the year-to-year growth rate of median all-home sales prices (the dark blue line in the bottom panel of the chart) has plunged precipitously from a peak rate of 14.7% to a mere 0.8%! Analysts generally focus on median home prices, which are less affected by the ever-changing mix of higher- and 

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lower-priced homes.[6] We also track the Federal Housing Finance Board’s index of new and existing homes (the green line on the chart above), and use the relative movements between these three indexes to forecast prices in the housing market on a national basis.

The chart below is an enlargement of the bottom panel of the previous chart, showing more clearly that if the decline in the growth rate of median home prices were to continue through year-end, prices will have declined from their peak by about 6.2%, which will be a decline of 3.3% for calendar year 2006. This will come as a surprise to the financial media talking heads who have been opining that, since the aggregate value of housing has not declined in any calendar year since the Great Depression, it cannot do so now.

Of course, they fail to note that the drop in home values during the Great Depression occurred during a deflationary Supercycle bear market period, and we’re in another one now. This time, however, instead of another depression, which is extremely unlikely we have been forecasting what we call the Great American Home-Equity Bust.

A continuation of the current rate of decline would result in a cumulative decline from the October 2005 peak of about 21% in 2007 and 34% in 2008. Since, however, any decline is more likely to be cyclical than straight-line, it would more likely take another year, through 2009, for a cumulative decline of that magnitude. Even if the rate of decline turns out to be even more cyclical and persists through 2010, the average rate of the decline will still be in the range of 9% to 10% annually over those years.[7] This is consistent with Bob Bronson’s forecast that the prices of the most expensive homes (mansions and estates) will cumulatively drop 50%, with lower-priced homes dropping less in proportion to their lesser value.

House prices falling at this rate would lead to home equity dropping very sharply. Consumer spending is highly dependent on homeowners’ perceptions of their home-equity wealth, since some 75 million American households (69%) own a home. Compare that to the roughly 50% of American households that own stocks or other financial investments, and you can see that a much greater negative wealth effect[8] and cutback in consumer spending will come from the continuing drop in home prices.

David Rosenberg, Merrill Lynch’s North American
economist, notes that seven of the 10 downturns in
housing prices over the past 50 years triggered a
full-blown recession within 24 months.

For the half that do own stocks, the concurrent drop in the stock market will be doubly devastating, with the convergence of the two declines making the negative wealth effect and, consequently, this recession much worse than the last one.

Meanwhile, the number of houses for sale is skyrocketing. The inventory of unsold existing homes, which has been steadily climbing since last fall, set another record in July, and the inventory-to-sales ratio has already hit an 11-year high.

Rising inventory and declining prices will only be made worse by homeowners defaulting on their mortgages, unable to make the payments that stretched them too thin financially in the first place, or discouraged that they owe more than the house is worth. Risky mortgages that were widely used by mortgage lenders over the past several years are compounding the problem. Many people got 100% financing for their homes, with no down payment made. Interest-only mortgages have required no pay-down (amortization) of the principal amount in the monthly mortgage payments. Other mortgages required payment of only a fraction of the normal interest amount. Just like in the 1980s housing bust, many people will walk away from their homes when the mortgages go into default.

The rising number of homes in foreclosure will add to the huge increase in inventories of unsold homes and create an even more difficult environment for home builders, who already are offering major incentives to sell their homes. These incentives have helped to mask the full extent of the weakness in the housing market.

Thus, the “virtuous cycle” that turned a housing market expansion into a mania of euphoric buyers piling into new homes and sending prices spiraling higher – with the home-equity wealth spilling over into increased consumer spending and contributing to the “echo mania” in the stock market – is now predictably reversing into a downward, self-feeding “vicious cycle” of sellers dumping homes on the market, lower home prices, vanishing home equity, and cutbacks in consumer spending.

The housing slump has begun to negatively impact the job market. Defined broadly, the real estate sector accounted for a whopping 44% of all jobs created since 2000 and overall has employed more than one in 10 American workers, according to Moody’s Economy.com. That includes architects, contractors, real estate agents, brokers, and bankers, as well as those who provide the industry with materials and services. But now, builders, mortgage lenders, and real estate agencies in the aggregate have stopped adding to payrolls, and soon will be forced to cut back, in recognition of the unmistakable slowdown in the housing market.

Even as home prices slowly decline, home equity quickly declines, due to the leverage of high underlying mortgage debt carried by most American homeowners today. Home equity had already been reduced by the record levels of cash withdrawn in recent years through home-equity loans and cash-out re-financings. We expect the highest-priced properties – estates and mansions – will ultimately decline 50% or more. We also expect that up to 50% of American homeowners will ultimately be upside-down on their mortgages – that is, owing more than their homes are worth. In just several years, this will most likely wipe out more than $5 trillion in aggregate American family wealth – that is, about one-quarter of the roughly $20 trillion aggregate peak value of U.S. residential properties.

Homebuilders Are In Their Darkest Mood In 15 Years

The chart below is the updated version of Bob Bronson’s chart of the National Association of Home Builders’ (NAHB) Housing Market Index. This index reflects homebuilders’ actual activity, as well as their future expectations. Notice how this index has plunged precipitously for over a year now (the blue line), as home-building activity decelerates and optimism about the future of their industry dissipates.

In its latest report, the NAHB said homebuilders’ confidence in August fell to the lowest level since 1991, due among other reasons to rising mortgage rates, rising inventories of houses for sale, the retreat of many of the speculative investors from the market, and cancellations that are running double a year ago. As builders have lapsed into a funk, so have investors in homebuilder stocks. The Dow Jones Home Construction Index is down more than 40% in the past year.

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An example of this growing homebuilder bearishness is Toll Brothers, the builder of luxury homes. The company has been warning of a softening housing market for months. The company recently reported that sales in its third quarter ended July 31 dropped by 48%, and earnings dropped by 19%. It attributed the continuing malaise in the housing market to an oversupply of inventory and a decline in consumer confidence. According to CEO Robert Toll, “It would be difficult to characterize the position of home builders as other than in a hard landing.” He went on to say that in his 40 years as a home builder, he had never seen a slump unfold like the current one.

Bob’s chart also ties the housing market to the stock market over time, showing that this index of home-building activity and expectations tends to lead the stock market (the black line on the chart). As you can see, this index has been a very reliable indicator for the stock market’s major trends. Thus, the very steep drop in the index is a signal that a major stock-market decline is immediately ahead. In fact, this fundamental indicator is one of only a handful thus far to suggest the incipient stock market decline may be one of the rarely occurring cascade- or waterfall-type declines, as seen in the U.S. only in 1929-32, 1962, and 1987.

Inverted Yield Curve Signals A Bear Market And Recession

To date, the Federal Reserve has raised the fed funds rate[9] from 1.0% to 5.25% in a series of 17 rate hikes. Historically, such a tightening in monetary policy leads to bear markets and economic recessions. 12 of the last 14 series of Fed tightenings led to economic recessions, with a bear market in stocks either under way at the time of the final rate hike or within four months thereafter.

Further, while the Fed has raised short-term interest rates, investors in the bond market have caused long-term bond yields[10] to decline. Lower long-term yields are a reflection of investors’ lack of concern about inflation and an overheating economy – that is, bond investors have been disagreeing with the Fed. Even the Fed has now published statements about their expectation that the economy will continue to weaken, which is why they stopped raising short-term interest rates on August 8.

An inverted yield curve has preceded seven of the eight recessions over the past 40 years. The chart below shows that yield curve inversions signaled the recessions in 1990 and 2001. The inversions are illustrated by the fed funds rate, currently at 5.25% (the gray line), rising above the 10-year Treasury bond yield, currently at 4.73% (the blue line). Even more bearish is the fact that fed funds even exceed the longest-term Treasury bonds, both the 20- and 30-year, as seen in the chart below.

Our Updated Outlook for the U.S. Dollar

The U.S. dollar has been in a Supercycle bear market since its peak in 1985 at over 160, as measured by the dollar index (DXY0). The chart below (top panel) shows its declines and partial retracements since then. The most recent retracement ended just before year-end 2005, and the dollar has continued its decline since then.

In previous commentaries (most recently in our Year-end 2004 commentary), we discussed the fundamental factors that will continue to weigh down the exchange rate of the dollar. These include:

• the enormous, nearly 7% U.S. trade deficit[12] and the current account deficit,[13]
• differentials in inflation-adjusted (real) interest rates,[14] 
• ongoing adjustments in purchasing power parity,[15] and
• the rebalancing of central banks’ portfolios to de-emphasize the overvalued U.S. dollar.[16]

As we explained most recently in our June 2004 commentary, when these fundamental imbalances finally correct, the dollar can be expected to decline to substantially lower all-time lows over the next several years. We have previously noted that two of the world’s wealthiest men, super-investors Warren Buffett and Bill Gates, hold views consistent with ours.

As the chart in our June 2004 commentary showed, it took a 33% decline in the dollar in the 1980s to correct the 3.5% current account deficit. This time, we expect a decline on the order of 50% in the dollar to correct the current-account deficit. Our clients are well-positioned to profit from this decline.

Contrary to what TV-talking head cheerleaders are widely promoting today, both history and economic logic show that a topping in short term interest rates is not bullish. For example, from the last rate increase in a tightening run to the first rate cut in the next easing stretch, the stock market has suffered a median decline of 9%, but much more so during Supercycle bear market periods of the 1930s, 1970s and now. We will present more about this false-spring subject in our future market commentaries.

September 5, 2006

                                                                        Robert E. Bronson, III, Principal
                                                                        Bronson Capital Markets Research

Footnotes

[1] A Bronson Asset Allocation Cycles (BAAC) Supercycle bear market period is a 12- to 20-year period of underperformance during which bear markets, anticipating economic recessions, and the recessions themselves typically are at least twice as frequent and twice as severe in magnitude and duration as during Supercycle bull market periods. Such a period begins when the return on money market funds sustainably exceeds the total return on equities, especially when downside-volatility-risk is taken into account.

[2] A Bronson Asset Allocation Cycles (BAAC) Supercycle bull market period is a 12- to 20-year period of overperformance during which bear markets typically are only half as frequent and half as severe as during Supercycle bear market periods, reflecting that most of the business-cycle contractions during the period are only slowdowns or growth recessions, and do not become full-fledged recessions. Such a period begins when the total return on equities sustainably exceeds the return on money markets.

[3] A Supercycle bear market is the biggest sequence of bear markets during a Supercycle bear market period. For example, during the previous Supercycle bear market period from 1965-82, the Supercycle bear market lasted for the six years from the high point in December 1968 to the low point in December 1974. The latest one started on October 7, 1997, when money market fund returns started to sustainably outperform an equally-weighted index of all exchange-trade common stocks, and exactly when we made our call for it.

[4] A bull trap is a period of modestly higher highs that lures investors back into the market, only to be followed by a resumption of the market decline. A bull trap is baited by investor emotion from hope, greed, or complacency, which leads investors to pile into the market despite fundamental warning signs to the contrary. Classic bull traps occur at major market tops. For example, he bull traps in 1968, 1972, and 1999 were each followed by market declines of 50% or more.

[5] Prior IF&M commentaries, which contain the record of IF&M’s past forecasts, are available upon request. It should not be assumed that forecasts made in the future will be accurate or will equal the accuracy of past forecasts. Nothing herein should be construed as a recommendation or performance forecast of a specific security.

[6] The prices of more expensive homes lead the prices of less expensive homes at turning points in the housing cycle. As a result, the mean price index, which is more affected by the number and market value of more expensive homes, leads the median price index.

[7] To determine these most likely rates of decline, Bob uses his Growth Cycle template, which we’ve referenced before.

[8] Negative wealth effect refers to the phenomenon of consumers spending less when they feel less wealthy – especially when the value of their stocks and/or real estate has declined significantly.

[9] The fed funds rate is the interest rate at which banks lend to each other overnight.

[10] Yield is the bond’s income from interest, expressed as a percentage of its market value; more loosely, its interest rate.

[11] The yield curve is the plot of bond yields across the bonds’ years to maturity.

[12] The U.S. trade deficit is an economic form of debt owed to foreigners – the cumulative result of years of U.S. imports exceeding exports.

[13] The U.S. current account deficit is a measure of the excess of national spending over national income in the U.S. balance of payments, and is the broadest gauge of the nation’s global trade.

[14] Higher real interest rates increase the demand for a currency because of the greater investment returns available. Notwithstanding the Federal Reserve Board’s hikes in short-term rates, we believe that U.S. long-term interest rates will remain relatively low for at least several more years for various reasons.

[15] Purchasing power parity (PPP) refers to the cost equivalency of goods and services between nations and their currencies. It is the single most important long-term factor in determining the relative exchange value of currencies, but it usually only comes into play when trade imbalances are being corrected, like now. Globalization has led to the offshoring of jobs by U.S. corporations seeking to stay competitive by employing cheaper foreign labor. This puts downward pressure on the exchange value of the U.S. dollar, the currency in which U.S. workers are paid, thus narrowing the huge differential in global wages. The labor PPP between high-cost American labor and low-cost Asian labor will take many years to fully adjust – that is, to find a more stable differential, or equilibrium between them.

[16] We believe that central banks rebalancing their portfolios will de-emphasize the dollar in favor of the euro, the Japanese yen, the Chinese yuan, emerging pan-Asian currencies, and gold. Central banks are very likely to eventually include the Chinese yuan in their portfolios, now that China has agreed to float their currency and likely will eventually establish parity with the Hong Kong dollar. We fully expect the rebalancing of central banks’ portfolios ultimately to usher in a new global currency regime, in which the U.S. eventually and formally recognizes the marketplace’s substantial devaluation of the dollar as a more economically equally-weighted balance of the three major trading blocs: Europe, pan-Asia, and the Americas.

© 2006 Bob Bronson
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