May Investment Newsletter

GOVERNMENT DEBT TO GDP OF THE TOP 20 COUNTRIES

A widely cited research paper by Reinhart and Rogoff showed

that historically, government debt to GDP ratios of 90% or higher

hindered growth and the economy of such a country would experience

GDP average growth rates of 1% or lower than they would otherwise.

Basically 90% debt to GDP is the cutoff point and once you pass this

point, growth will remain subdued until the debt levels are again under

control. There are currently five countries in the top 10 GDP ranking

that have debt to GDP’s above 90% with the United States at 102%.

May Investment Newsletter

Written by Alain Roy

CEO LTI – Long Term Investing

May 13, 2013

In this issue:

• Government Debt to GDP of

the Top 20 Countries

• The Shining Star in the US

Economy

• France – In a Recession

• Overvalued Markets

• Stock Market Technical

Update

• Summary

“Just about every time

you go against a panic, you will be right if you

stick it out.”

Jim Rogers Legendary Investor

To my surprise there were many countries that actually improved their debt to GDP levels

over the course of the last decade. These are the countries that will come out stronger

should another ‘2008 like’ financial collapse occur. Russia, Turkey, Indonesia, Switzerland

and Saudi Arabia were all countries that reduced their debt loads over time. Meanwhile the

world’s largest economies continue to dig a deeper and deeper hole. It should be no

surprise to see subpar and subdued GDP growth coming from the US, UK, Japan, France,

and Italy as they have passed the 90% threshold.

The response to the slow growth has been for central banks of these countries to

print trillions of dollars in new currency in hopes to revive their slow growth economies.

Since 2000 the central banks of the very same governments with high debt to GDP have

printed $8.4 trillion ($8,400,000,000,000) of their own currencies in hopes to stimulate

lending at low interest rates and goose their economies through export led growth.

However, it’s the high debt to GDP that is a large part of the problem in the first place and

governments are quite literally papering over the problem through a supposed separate

entity via their Central Banks.

Now Japan is embarking on the largest money printing campaign in the history of their

existence. Estimates show that the combined central bank balance sheet will balloon to $10

trillion by the end of 2014. The Bank of Japan will purchase government bonds, ETF’s, Real

Estate Investment Trusts and more. What we are witnessing is unprecedented in that

central banks are purchasing stocks and ETF’s, an asset class they have never purchased

before.

Meanwhile more responsible governments and central banks are keeping their debt

to GDP low AND diversifying their balance sheet by buying gold as shown below.

Russia is one of the governments actively buying gold as is China. In short, we see

runaway debt and money printing in some countries such as the US, UK and Japan and

some very responsible governments such as Russia, Indonesia, Switzerland and Saudi

Arabia keeping their debt loads in check and buying gold to protect themselves from a

potential currency crisis which is likely brewing from all this money printing.

I don’t have the warm and fuzzies about the easing strategies of these central

bankers. Obviously they see huge challenges if they feel the need to print $8 trillion dollars

in new money. I will be very surprised if this experiment remains crisis free in the long run.

THE SHINING STAR IN THE US ECONOMY

The shale gas revolution that is occurring in the Texas/North Dakota region of the

United States is absolutely phenomenal and is nice to see amongst all the other problems

they face.

USA is now producing more oil

than Saudi Arabia. BOOM!

This graph shows the stunning

turnaround in US oil production.

Texas Eagle Ford oil production

jumped from 352 barrels per day in

2008 to 471,258 barrels per day in Feb

2013. I don’t know why there is not

more press on this amazing

transformation because this is a very

positive story amid a murky backdrop.

FRANCE – IN A RECESSION

The world’s 5th largest economy by GDP is France and Mr. Hallande seems to have

his hands full as France slips into a recession. The annual growth rate in GDP is now in the

negative territory not seen since the Great Recession which was a much larger recession

than we typically experience.

Business confidence is at historical lows.

Retail Sales Year over Year hover near 0%

The Total Production Index of

France has been declining over the

past year and currently sits at levels

last seen in 1994.

The Markit Manufacturing PMI is

currently 44. Readings below 50 are

typically associated with recessions.

France Services PMI is at 42

and clearly indicates a recession in the

services sector.

Based on all of the above

information I would say that France is

experiencing a recession.

OVERVALUED MARKETS

Stock markets continue to advance forward breaking all-time nominal highs even though

the global economic backdrop remains fairly subdued. The graph below shows the Shiller PE ratio

for the S&P 500 which is adjusted for inflation.

• Currently the Shiller PE for the S&P500 is at 24.26

• The historical average is 16.47

The non-inflation adjusted PE for the S&P 500 (watched more closely than the Shiller PE) sits at

18.88 while the historical average is 15.49

The general theme here is that the S&P 500 and markets are currently very overvalued from a

long term historical perspective. My preference is to buy anything at a discount if possible,

especially equities. Why buy a pair a shoes worth $150, currently selling for $200 when I know

I can buy the same pair of shoes down the road at $100? Buying equities in overvalued

markets increases risk and minimizes reward. Patience and discipline are amply rewarded to

the investor who buys great companies at a discount.

Even though the S&P 500 and Dow Jones have passed their all-time nominal highs the

actual S&P 500 adjusted for inflation is currently at levels experienced ten years ago.

Earnings of companies in the S&P 500 are at all-time highs which is one of the reasons markets

are at nominal highs. Earnings will be the big item to watch in coming quarters and years.

STOCK MARKET TECHNICAL UPDATE

Let’s have a quick look at what the Technical and Sentiment Indicators are telling us

about the market. As of Friday May 10th all indicators are in overbought territory and most are

not even close to the buying opportunity levels. The quick answer is markets are very

overbought and over the long term it is not a good time to buy into equities as risk is high and

reward is low.

Insider Score: corporate insiders

are neutral at this time and are

not buying their own company

stock.

The AAII bears to bull’s ratio

was briefly in the oversold

category a few weeks back

but has since bounced back

into the neutral territory and

is hovering near overbought

conditions.

The Put to Call Ratio is back

into overbought territory.

The volatility index

remains low at the

12.5 level. Markets

are relatively calm.

The Rydex ratio remains

at elevated levels more

typically associated with

longer term tops in

markets.

SUMMARY

Even though markets are overbought they can continue to roar higher. Factors helping

lift markets are strong corporate profits and central bank intervention via quantitative easing

(US, Japan, UK et al) and lower interest rates as we have seen recently with the ECB, Poland,

Australia, China and more. The sheer amount of money printing and easing occurring in our

world today is staggering and I often wonder how it will all unfold in the future. In the

meantime I continue to hold roughly 25% in defensive equities, 10% in gold mining stocks,

55% in corporate bonds and 10% in cash. I continue to build up my cash levels as I wait for a

truly good buying opportunity. The only opportunities out there, in my view, are some of the

mining companies which are at extremely depressed levels. As such, I have been picking away

at a few companies in this sector during the latest sell-off. Otherwise I am raising cash and

waiting.

2013-2017 might prove to be some of the most exciting yet challenging investing

environment we have seen in many years.

Alain Roy, P.Eng, MBA Candidate CEO of LTI – Long Term Investing Email: ceo@ltinvesting.com

Website: http://ltinvesting.com/ Blog: http://ltinvesting.com/blog/ Twitter: https://twitter.com/LTInvesting

Disclaimer: The content of this newsletter is to increase your financial intelligence and is

intended as general information only. Any action that you take as a result of this

information and analysis is ultimately your responsibility. I will not be held responsible for

any negative outcomes of any kind as a result of this information. Please use this

information responsibly. Consult your financial advisor before making any investment

decisions.