Few people look at foreign exchange as market to invest in. It is promoted by Forex dealers and trading platforms in such a way to maximise returns for the brokers and be as reliable as the blackjack table for returning money to traders. For instance a $100,000 contract can be bought or sold for around $1000. This may mean you are controlling a huge amount of money at very low cost but if the market moves 1 cent against you, your $1000 will be gone. The risk is huge if you don't know what you are doing. Trading platforms offer a range of indicators and tools like stop losses to manage risk but these can often make it easier to lose money than make it.
Trading any commodity or equity is risky and usually far more risky than investing. The difference between an investor and a trader is that traders look purely for short term capital gains. Investors are interested in more than capital gains short term or long term. They will look at the underlying value of the product being bought or sold, its potential to earn income while they own and what the hidden costs of ownership are. An example is the property investor who must weigh up rental returns against mortgage repayments and maintenance costs.
So how is buying and selling money a way to invest?
Think of it more as a way of moving your money from one country to another or investing in countries. When you buy shares you are investing in companies. Buying Forex is investing in a country. At any time one country is doing better economically than another. As I write Australia is leading the other western economies because of its resources based economy and the growth of China, strong jobs markets, moderate inflation and interest rates above 4.75% means its currency the Aussie dollar (AUD) is far more attractive than the USD. So in the last year it has risen over 30% which is an impressive return on investment for anyone buying AUD in April 2010.
But capital gains like these are fickle and fear drives the markets down faster than sound economic reasoning drives them up. Just like share markets, when fear is in the air money exits foreign currencies and goes back into American accounts where it is perceived as being safe.
When this irrational fear is driving markets lower, savvy investors will go looking for reliable bargains. They can buy shares in a company with solid earnings and a good dividend or they can buy a piece of a country's economy. If you sell your USD for AUD, you can get 4.750% - 0.25% = 4.5% interest. This is far better than the interest offered by any US bank or even the dividends of many top US companies.
How do you trade currencies?
Before you do any investing, read, research, learn the way currency markets work and seek out professional guidance. Don't use the information provided in one article as an inducement to go and lose money.
If you have the means you can move money between international bank accounts. But most ordinary people don't. Forex trading accounts can provide a means provided you research all the providers' options and fees and choose the right one.
Some trading accounts allow you to hold all or part of your account in foreign currency without being 'in the market'. This allows you to trade without trading. It is useful if you believe a currency is undervalued or overvalued and want a lower risk way to achieve capital gains. But using this method to trade or invest will usually forgo the benefits of earning income from foreign interest rates.
Look also for accounts that allow you to vary the leverage on the trade. Don't enter trades at 1:100 if you can avoid it as you will find yourself gambling around $1000 for every 1 cent change in value on a standard contract. This doesn't allow you leeway to manage the volatility in the currency market. If you are trading with somebody else’s money make sure you use stops. Lower leverage will allow you to place them further from the action.
Understand the interest rates offered by each country. This is a major driving force behind the movement of money. It isn't just the current rate but the prospects of rate rises in the short to medium term that will determine the value of a currency. Interest rates are used by central banks to control inflation so look at the economic health and vitality of the country. Understand also the economics of a country. What does it sell to earn money? Is the price of those commodities going up or down?
Make sure you know the way the trading account charges you for the money you borrow each time you trade. Many will charge the interest differential if you sell a higher interest currency to buy a lower interest one. Doing this is not a wise investment decision but may be a good trading choice if the currency sold is overheated. If you believe several higher interest currencies are due to fall in value against a lower interest currency you should sell the one with the lowest interest rate to keep the daily fees low and avoid profits from capital gains being eaten.
How do you invest in currencies?
The investment potential of trading currencies comes when you sell a lower interest currency like the USD to buy higher interest currencies like the EUR, AUD or NZD. Some currency trading accounts will pay you a percentage of the interest the traded money is earning while in a foreign currency. FX account providers do make money from the interest differentials so look for one that returns a reasonable percentage to the trader on positive differentials. When a trade is earning you interest you can hold for longer in anticipation of more capital gains as that income from interest keeps the perception in the market that your position is a good investment.
Timing in Forex is very important and difficult to predict. Unlike a good share which can rise exponentially in value. Currencies trade in relatively narrow bands. The AUD has a 10 year high of USD1.10 and low of USD0.48. For the range to grow much wider than this either the US or Australia would have to default on its debt repayments or become an economic black hole. The same can be said for other major currencies. When a country's currency is too high its ability to trade profitably diminishes while its ability to buy foreign goods goes up. This can fuel inflation and interest rates but ultimately in an economy that relies on foreign trade for income the market will cool off as jobs are lost and interest rates fall to stimulate the economy.
In the end it is all relative. Modest growth in the US is perceived by the markets as being of greater value than high growth in rest of the world so a small increase in US interest rates or change in US monetary policy could see the higher interest currencies fall in value while still providing better income from interest rates. But these changes affecting US currency would likely also see other investments products like shares and futures fall in value as well.
Saturday, 7 May 2011
Saturday, 30 April 2011
Liquidity, Superannuation and the Markets
Open another browser window and point it to finance.yahoo.com. Click on the chart for the Dow Jones (^DJI) and click on the Interactive chart link on the left. Expand this out to include all the years from 1960 or earlier to the present. What do you see?
The chart is ascending slowly but steadily from 1960 to just after 1980. Then the slope increases and gets steeper still. Not only does it get steeper and steeper, it becomes more jagged. From 1980 to the peak in October 2007 the Dow goes from 785 points to 14164 or 1700% growth. Did America's economy grow 18 times larger or its population increase by 18 times? No. This phenomenal growth is due in large part to the increase in liquidity into the markets. Of course a lot of America's top companies have increased their international presence and are returning profits in foreign currencies. But their share value growth has seemingly outstripped this.
The 401K can take some of the responsibility for the exponential growth. It came into effect in the early 1980's which happens to be around the time the share markets started to boom. When workers entrust their retirement money to investors they want to see returns better than the bank. Currently the average dividend on Dow Jones component shares is around 2.66%. Interest from banks on fixed term savings are around 0.6% to 0.9%. So shares would make a better investment assuming market stability. But the real attraction in shares is their ability to realize significant capital gains. And they have certainly done that.
Capital gains are often seen as a form of bigger fool investment. You buy something in the hope that around the corner there is a bigger fool waiting to buy it from you. Reliable wealth comes from income producing assets. Business profits, salaries and wages, royalties from intellectual property, rents, dividends and interest are all forms of income. They are certainly not assured as market forces will always dictate what is worthy and what is worthless. But they come from fulfilling certain needs and wants in society and are usually more stable. Significant capital gains on the other hand are temperamental and rely to a certain extent on hope, desire and greed.
There is nothing wrong with getting capital gains from your investments. But focusing on them is the wrong way to assess the quality of an investment. If an investment pays an income you can measure objectively: for instance how long before your investment has paid for itself. And if it is returning enough you can budget to live off or reinvest the returns without eating away your capital.
Now returning to 401K or superannuation. If your retirement funds are tied up in the share markets you may see phenomenal growth when markets rise and also phenomenal depreciation when they fall. The issue is that the liquidity (extra money) that comes from funds creates huge demand for the finite number of shares. Your investment is inherently relying on continued demand. In all markets where there is a surplice of money there is inflation. Things become overvalued. If the liquidity dries up and the bubble bursts you soon find yourself left with very little value, as happened in the sub-prime mortgage crisis. You need to take an active role in deciding when and where your money is placed to avoid being caught in the next bubble.
The smart investor will look at the markets as cyclic. This is due to money flow. When interest rates are low money flows into the markets and the value of shares and property over-inflate. When the interest rates go up the share and property markets correct. This is exacerbated by the huge amounts of capital held by investment funds and their ability to move it into and out of markets at will, usually in response to reserve bank rates and other market forces. You need to think counter intuitively. When interest rates are high look to buy quality shares and property but wait till you see strong evidence of deflation. When interest rates are low and inflation is climbing look to sell, especially when the talk on the street is that interest rates may be about to go up. But if you find an investment that is returning 5-10% or more on its purchase price keep hold of it for as long as it does this regardless of the capital gains and market fluctuations. As long as it is generating income and its balance sheet is good it will always bounce back when the market recovers. Quality should always be assessed by taking into account business fundamentals and rate of return on investment.
The chart is ascending slowly but steadily from 1960 to just after 1980. Then the slope increases and gets steeper still. Not only does it get steeper and steeper, it becomes more jagged. From 1980 to the peak in October 2007 the Dow goes from 785 points to 14164 or 1700% growth. Did America's economy grow 18 times larger or its population increase by 18 times? No. This phenomenal growth is due in large part to the increase in liquidity into the markets. Of course a lot of America's top companies have increased their international presence and are returning profits in foreign currencies. But their share value growth has seemingly outstripped this.
The 401K can take some of the responsibility for the exponential growth. It came into effect in the early 1980's which happens to be around the time the share markets started to boom. When workers entrust their retirement money to investors they want to see returns better than the bank. Currently the average dividend on Dow Jones component shares is around 2.66%. Interest from banks on fixed term savings are around 0.6% to 0.9%. So shares would make a better investment assuming market stability. But the real attraction in shares is their ability to realize significant capital gains. And they have certainly done that.
Capital gains are often seen as a form of bigger fool investment. You buy something in the hope that around the corner there is a bigger fool waiting to buy it from you. Reliable wealth comes from income producing assets. Business profits, salaries and wages, royalties from intellectual property, rents, dividends and interest are all forms of income. They are certainly not assured as market forces will always dictate what is worthy and what is worthless. But they come from fulfilling certain needs and wants in society and are usually more stable. Significant capital gains on the other hand are temperamental and rely to a certain extent on hope, desire and greed.
There is nothing wrong with getting capital gains from your investments. But focusing on them is the wrong way to assess the quality of an investment. If an investment pays an income you can measure objectively: for instance how long before your investment has paid for itself. And if it is returning enough you can budget to live off or reinvest the returns without eating away your capital.
Now returning to 401K or superannuation. If your retirement funds are tied up in the share markets you may see phenomenal growth when markets rise and also phenomenal depreciation when they fall. The issue is that the liquidity (extra money) that comes from funds creates huge demand for the finite number of shares. Your investment is inherently relying on continued demand. In all markets where there is a surplice of money there is inflation. Things become overvalued. If the liquidity dries up and the bubble bursts you soon find yourself left with very little value, as happened in the sub-prime mortgage crisis. You need to take an active role in deciding when and where your money is placed to avoid being caught in the next bubble.
The smart investor will look at the markets as cyclic. This is due to money flow. When interest rates are low money flows into the markets and the value of shares and property over-inflate. When the interest rates go up the share and property markets correct. This is exacerbated by the huge amounts of capital held by investment funds and their ability to move it into and out of markets at will, usually in response to reserve bank rates and other market forces. You need to think counter intuitively. When interest rates are high look to buy quality shares and property but wait till you see strong evidence of deflation. When interest rates are low and inflation is climbing look to sell, especially when the talk on the street is that interest rates may be about to go up. But if you find an investment that is returning 5-10% or more on its purchase price keep hold of it for as long as it does this regardless of the capital gains and market fluctuations. As long as it is generating income and its balance sheet is good it will always bounce back when the market recovers. Quality should always be assessed by taking into account business fundamentals and rate of return on investment.
Friday, 29 April 2011
Is Outsourcing a Good Idea for the Economy
When the term outsourcing is used it means taking the functions of a business that don't produce income and contracting them out to other companies that specialise in these fields. Usual areas for outsourcing are IT, billing and accounting, payroll and office administration. Indeed small businesses are used to sending their paperwork down the road to the accountant's office or calling the computer shop when the PC won't boot.
Outsourcing can create greater efficiency by allowing another company to assume the costs and risks while providing your business with an SLA driven service for a predicable cost. Those costs can in turn be placed on another column of the balance sheet providing further tax benefits through smart accounting. In recent years many medium to large enterprises have moved a lot of their business functions out of the business. But they have also moved a lot of functions and processes more closely aligned to their own service offerings to outsourced service providers, many of these overseas.
If you ask this of big business or of emerging economies in India, Philippines and Malaysia they will say this is a great idea. Businesses can maximise profits while minimising costs. If a company has an International presence they can outsource to another branch and effectively offer these overseas services over their internal network.
But where does this flexibility leave countries with strong currencies and high wages like Australia? The Labour push to introduce a National Broadband Network can only further increase opportunities for companies to outsource their workforce to other lower wage countries. In fact it won't just be the low income jobs that will be affected such as call centres and manufacturing. We've already seen those jobs go. It will also be possible for Australian consumers to consult with Doctors, Lawyers and Accountants in other countries.
You may question why anyone would want to trust a professional from another country with serious health, legal or tax issues? Well what if they've received Australia qualifications and certifications from Australian Universities and asscociations? And they'll be video conferencing on links so clear you'll feel you're in the same room. Australian education centres may be affected by the high Aussie dollar but they can also reduce costs by offering more services online to foreign students. Those students may never have to leave Mumbai, Kuala Lumpar or Manila to get a good Aussie education.
So what will be left for Aussie workers? Well if you can lift a spade or hammer, drive a truck or pour a good cup of coffee you will have job opportunities. It will also work in your favour if you can sell. You just need to be prepared (when not working from home) to walk into an office and log into a thin client that offers you a desktop session running on a server thousands of miles away. When you make a sale and fill in the forms, the product or service will be dispatched or set up on the other side of the world and shipped/emailed to your client. When they call you incessantly for support it'll be because they don't like having to repeat themselves over and over to your company's call centre staff. It'll be you who has to do that.
If the Australian government is serious about protecting Aussie jobs it would do away with Payroll tax and other discouragements to business hiring local staff. It would also provide inducements for companies to hire locally. After all income tax is a big part of the government's income so it makes sense to encourage local job creation. Relying on individuals and businesses with dwindling incomes to spend locally is not going to work. There needs to be GST charged on international parcel deliveries to protect local retail jobs. Businesses of course can claim this back through the usual means. And a tax on bandwidth which is getting cheaper with every mile of the NBN would also assist with funding local projects.
Outsourcing can create greater efficiency by allowing another company to assume the costs and risks while providing your business with an SLA driven service for a predicable cost. Those costs can in turn be placed on another column of the balance sheet providing further tax benefits through smart accounting. In recent years many medium to large enterprises have moved a lot of their business functions out of the business. But they have also moved a lot of functions and processes more closely aligned to their own service offerings to outsourced service providers, many of these overseas.
If you ask this of big business or of emerging economies in India, Philippines and Malaysia they will say this is a great idea. Businesses can maximise profits while minimising costs. If a company has an International presence they can outsource to another branch and effectively offer these overseas services over their internal network.
But where does this flexibility leave countries with strong currencies and high wages like Australia? The Labour push to introduce a National Broadband Network can only further increase opportunities for companies to outsource their workforce to other lower wage countries. In fact it won't just be the low income jobs that will be affected such as call centres and manufacturing. We've already seen those jobs go. It will also be possible for Australian consumers to consult with Doctors, Lawyers and Accountants in other countries.
You may question why anyone would want to trust a professional from another country with serious health, legal or tax issues? Well what if they've received Australia qualifications and certifications from Australian Universities and asscociations? And they'll be video conferencing on links so clear you'll feel you're in the same room. Australian education centres may be affected by the high Aussie dollar but they can also reduce costs by offering more services online to foreign students. Those students may never have to leave Mumbai, Kuala Lumpar or Manila to get a good Aussie education.
So what will be left for Aussie workers? Well if you can lift a spade or hammer, drive a truck or pour a good cup of coffee you will have job opportunities. It will also work in your favour if you can sell. You just need to be prepared (when not working from home) to walk into an office and log into a thin client that offers you a desktop session running on a server thousands of miles away. When you make a sale and fill in the forms, the product or service will be dispatched or set up on the other side of the world and shipped/emailed to your client. When they call you incessantly for support it'll be because they don't like having to repeat themselves over and over to your company's call centre staff. It'll be you who has to do that.
If the Australian government is serious about protecting Aussie jobs it would do away with Payroll tax and other discouragements to business hiring local staff. It would also provide inducements for companies to hire locally. After all income tax is a big part of the government's income so it makes sense to encourage local job creation. Relying on individuals and businesses with dwindling incomes to spend locally is not going to work. There needs to be GST charged on international parcel deliveries to protect local retail jobs. Businesses of course can claim this back through the usual means. And a tax on bandwidth which is getting cheaper with every mile of the NBN would also assist with funding local projects.
Thursday, 28 April 2011
Why were we so keen to follow the US economic model?
Once the greatest economic power on the planet the USA is now burdened by huge debt in excess of 14 trillion dollars and in danger of losing its AAA rating. Of course that 14,000,000,000,000 is in USD and one way to reduce it is to devalue the USD. This week following the months before it has seen the USD sink to new lows against the major currencies.
It seems that the pure capitalist model where government is kept small and everything is privately owned (except for money guzzling armed services that it uses to invade oil rich nations with autocratic rulers it has decided it doesn't like anymore) has done little to help America stay strong. China on the other hand has a government that owns and controls a huge amount of industry, mining and utilities. Not only that, China owns a huge proportion of American debt, which US governments are seemingly powerless to repay.
How can the US government repay its debts? It doesn't believe in raising taxes. And it doesn't believe in owning anything that makes money. But it does love spending money it doesn't own on things that go bang in other people's back yards.
Its governments say it is the defender of democracy and freedom and yet in parts of the US it would seem the only entities with democratic rights are the mega corporations. For instance a well known seed producer can sue a farmer if its genetically modified plant materials are blown by the wind onto his property and fertilise his crops; and a water company can sue home owners for installing water tanks. Where's the justice in these situations.
For a long period during the 1980s, 1990s and early 2000s other western countries like Australia and New Zealand moved away from their 'socialist' style governments to a more US styled democracy, selling or privatising their assets. Fortunately they did couple this with fiscal responsibility, keeping foreign debt under control. But if a government has no assets what is it going to do when times are tough and tax income falls? It ends up borrowing money (or selling bonds).
The path to true wealth is simple. You need to create and grow multiple income producing assets. Don't look at the capital gains aspect of the asset's value but rather look at the residual income from things like interest, dividends, rent or turnover. Governments should do the same. They should own banks, utility companies, businesses and rental properties. They shouldn't try to weaken private enterprise or lessen competition by doing so but they should also keep big business honest, especially in areas where competition has been reduced. But government enterprises do need to be more closely monitored, to keep them competitive and free of corruption.
By not limiting itself to borrowing or taxing to raise income our governments could also achieve remarkable GDP growth and improve the living standards for all citizens. That's what democracy is all about.
It seems that the pure capitalist model where government is kept small and everything is privately owned (except for money guzzling armed services that it uses to invade oil rich nations with autocratic rulers it has decided it doesn't like anymore) has done little to help America stay strong. China on the other hand has a government that owns and controls a huge amount of industry, mining and utilities. Not only that, China owns a huge proportion of American debt, which US governments are seemingly powerless to repay.
How can the US government repay its debts? It doesn't believe in raising taxes. And it doesn't believe in owning anything that makes money. But it does love spending money it doesn't own on things that go bang in other people's back yards.
Its governments say it is the defender of democracy and freedom and yet in parts of the US it would seem the only entities with democratic rights are the mega corporations. For instance a well known seed producer can sue a farmer if its genetically modified plant materials are blown by the wind onto his property and fertilise his crops; and a water company can sue home owners for installing water tanks. Where's the justice in these situations.
For a long period during the 1980s, 1990s and early 2000s other western countries like Australia and New Zealand moved away from their 'socialist' style governments to a more US styled democracy, selling or privatising their assets. Fortunately they did couple this with fiscal responsibility, keeping foreign debt under control. But if a government has no assets what is it going to do when times are tough and tax income falls? It ends up borrowing money (or selling bonds).
The path to true wealth is simple. You need to create and grow multiple income producing assets. Don't look at the capital gains aspect of the asset's value but rather look at the residual income from things like interest, dividends, rent or turnover. Governments should do the same. They should own banks, utility companies, businesses and rental properties. They shouldn't try to weaken private enterprise or lessen competition by doing so but they should also keep big business honest, especially in areas where competition has been reduced. But government enterprises do need to be more closely monitored, to keep them competitive and free of corruption.
By not limiting itself to borrowing or taxing to raise income our governments could also achieve remarkable GDP growth and improve the living standards for all citizens. That's what democracy is all about.
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