China: The Next Bubble

The Next Bubble
2009 RMD Waived
529 College Plans
Recession Ends Shortly, But....
Cash for Clunkers
Wealth Rebuilding Phase
Distressed Asset Funds

The Next Bubble
Last week on the MaxOut Savings show we talked about the developing bubble in China. China has developed one of the largest export driven economies in the world. In the United States, one of China's largest export markets, the first quarter GDP was down 5.5%. China's exports have dropped 20-25% and they were still able to have an economy that grew 7.9% in the second quarter; very impressive. How was China's export-driven economy able to grow at a 7.9% growth rate into the face of a collapse in global trade when exports account for 37% of Chinese GDP? Here is where it gets interesting. For the first half of the year, China's auto sales were up 18% from 2008; for June they surged an astounding 48%. By contrast, India's auto sales were up 7.8% in June, Russia's auto sales shrank 56%, and the United States' auto sales dropped 30%. During June 11-20, China's steel production hit an all time high of 1.522 million tons, up 10% from 2008 and on pace for a record steel production month for China. On the other hand, worldwide steel production for May was down 21%. If we exclude China, the drop was 34%. How is this possible that outside of China the rest of the world is in the steepest slowdown in 40 years or more, but in China the economy is roaring along.

Economically, China is in a much better situation than the United States. Its foreign exchange reserves reached $2.132 trillion at the end of June; this is a $177 billion increase from the first quarter. In addition, China has a very high personal savings rate of over 30%. This gives the Chinese government tremendous flexibility that the United States, with a huge current account and low savings rate, does not have. We are seeing the difference a high savings rate and sound financial policy makes for the growth of an economy in a recession.

Late last year China announced a massive $586 billion stimulus program for the country. The United States stimulus program is $787 billion only slightly more the China's program. The total GDP of the United States in 2007 was $13.7 trillion, for China it was $3.3 trillion. The US economy is roughly four times the size of China's. Compared to the size of their economy China's program is massive! In China, much of the stimulus went into infrastructure and lending programs. Many banks in China that are partially owned by the government were ordered to increase lending. There was a huge increase in lending directed at many of the state owned industrial concerns. This resulted in the commodity boom we have seen in the first half of the year as Chinese firms rushed out to purchase and produce commodities with their new found lending power. For the first two quarters of the year, Chinese bank lending was up $1,042 billion, an astounding 201% year-over-year increase. While most companies around the world are scrambling to secure financing, many of China's larger corporations are been flooded with loans. This has resulted in a greater than 25% increase in the money supply for the year and a 75% rally in the Shanghai Composite Index as money floods the system. We believe that this artificial bubble in the Chinese economy cannot last and that is why we are seeing commodity prices start to drop again across the world. The other problem with China's massive stimulus program directed at Chinese companies is that it is keeping excess capacity in many industries on the market. Whereas elsewhere in the world, excess capacity is being shuttered, reducing supply, while China keeps churning out product. Over time this will further delay the recovery for many industries in the rest of the world. The only place in the world that is doing well economically is China; we do not believe that it will last. We are not buyers of Chinese equity at the present time and believe the China stock market will soon correct. The mini China bubble could soon burst because the stimulus program is so large that the economy will find it difficult to efficiently process it. Once the stimulus is over those excesses built up will implode, slowing China's economy and leaving it with excess capacity and inflation.

2009 RMD Waived
A reminder: Due to the historic decline in the investment markets, Congress has waived the Required Mandatory Distribution (RMD) requirements for 2009. This means for 2009 you are not required to take your normal RMD if you are over age 70 ½. We have found that many people have there distributions taken out automatically. If you do not want the distribution from your IRA rollover this year, it is important to have your distribution request canceled by calling your account manager. If you already received your RMD you can roll it over into a different account to eliminate the taxable distribution. The 2009 RMD waiver applies to Beneficiary IRAs as well.

529 College Plans; Are You Saving for College?
As the first day of the new school year approaches it is a good time to consider a 529 plan for your children's college education. It is important to save ahead of time for college. An ideal way to save is through a 529 College Savings plan that is offered by most states. The 529 plan allows you to save for your children or grand-children's college expenses tax free. The 529 plan distributions will pay for most college expenses including tuition, books, room and board. Most states have a sponsored 529 plan and you need not use your states plan. Investors from all 50 states can invest in the programs, you do not need to live in the program state or attend school there to invest in the state's 529 plan. A good place to compare 529 plans is the website savingsforcollege.com.

Depending on the plan you choose, 529 plans can be opened at a bank, brokerage firm or mutual fund company. Most 529 plans invest in mutual funds, so look to ensure your plan has a large choice of funds to invest in. We like the Pimco-Allianz College Access 529 Plan sponsored by the state of South Dakota and the five different plans offered by Fidelity Investments. If you are more comfortable with one fund group over another, most fund families manage or participate in 529 plans in one way or another. As college approaches, the asset mix should become more conservative remembering that the plan is often drawn down over a 4-5 year period. Try to keep the upcoming years expenses in a short term bond fund or money fund. A bear market can wreck a college fund if it happens during the college years due to the short draw down period, so plan accordingly. Typically, only cash can be contributed to start the plan. There is no maximum contribution with the exception of a plan max in most cases in excess of $200,000. College costs have risen dramatically in the last decade so it is important to save the money ahead of time. Do not be put off by the need to save over $100,000 for your child's college. The key is to save enough that combined with student aide, grants, loans and working you can get them through school. That becomes very difficult if no money has been saved for college ahead of time.

It is a good idea for students to work summers to pay for school. If they can work during the school year and still get good grades, great! There is a lot of evidence that students that work through school outperform many of their peers over time. A strong work ethic is a huge indicator of future success, something I have to keep reminding my sons!

Recession Ends Shortly, But....
The other day in the Financial Times, a story came out that the Federal Reserve believes the recession will end "before long"; on the face of it, that appears to be great news. Digging deeper allows us to see the situation we are in. A recession is defined as two quarters of negative GDP growth. Therefore, if we get one quarter of positive growth the recession could have ended. The problem comes in when we get a very large decline in GDP as we have now. One quarter of mild growth does very little to help an economy operating at 68% capacity utilization. This is why the second part of the story was somewhat downbeat. The Federal Reserve expects forth quarter unemployment to be 9.8-10.1%, for 2010, 9.6% and in 2011, 8.5%. The Federal Reserve is thinking that any meaningful recovery will take several years.

Cash for Clunkers
On the positive side, near term we expect more parts of the stimulus program to begin to kick in, stabilizing industrial production. We expect auto sales to increase as the new $4,500 Cash for Clunker program kicks in starting July 17, 2009. The official name of the program is C.A.R.S., or "Consumer Assistance to Recycle and Save Program". It is funded by $1 billion, but we would not be surprised if the funding was increased. If the new car you are buying has only a 4 MPG improvement over the old one you only get $3,500. A similar program has proved to be very popular in Europe and significantly boosted auto sales over 20%.

Wealth Rebuilding Phase
Over the last three years we have warned of the dangers of the debt bubble to your investments. We are now in the rebuilding of wealth phase. The wealth rebuilding phase will take several years. During that time we want to do several things. First, make long term investments in high quality growth companies that pay good dividends. Second, we want to be on the lookout for companies, states or municipalities with credit problems that could allow us to buy what, over time, will be a high quality asset in the future at a distressed price. Third, we want to take advantage of swings in a trading range market for shorter term gains. We want to generate as much income as possible given that a new bull market to new highs is years away because the economy will take a number of years to recover. Finally, given what will be a drawn-out, uncertain recovery, we want to control risk.

Distressed Asset Opportunity
The deleveraging of the Debt Bubble over the next few years will produce outstanding investment opportunities. We saw great bargains in real estate in the 1980s in Houston and in the 1970s in New York. We believe that over the next 6-18 months we will see those types of opportunities again as partnerships and companies are forced to sell assets to pay off debt through forced sales. To that end, we are looking at putting together a program to invest in the real estate and energy sectors in distressed sale situations. We are setting up a list of people that are qualified accredited investors and could have an interest in such a program in the future. If you would like to be on the list please send me an email at ted@maxoutsavings.com and ask to be on the accredited investor list.

Do you have an account at Fidelity?
Do you already have an account at Fidelity Investments? Why not let the MaxOut Savings Advisors Team manage the assets for you at Fidelity? We will make the investment decisions and you can sit back and relax. We use the same value based investment strategies we talk about on the MaxOut Savings Show. In most cases you can sign a simple form and we can use your same Fidelity account to get you started.

Considering an IRA Rollover?
If you are retiring soon or considering an IRA rollover, let the MaxOut Savings Advisors Team handle your IRA rollover. We will sit down with you and go over your financial situation and needs and come up with a plan. We will show you how we manage accounts using our value analysis strategy to grow your investments and reduce risk.

Who is MaxOut Savings Advisors LLC?
In these volatile times, investing your retirement funds can be difficult and time consuming. Hiring the MaxOut Savings Advisors team to manage your money or IRA rollover is a great first step. MaxOut Savings Advisors is an SEC registered, fee-only investment advisor based in Houston, Texas. Ted Geoca has over twenty year's investment experience managing clients' retirement assets. We invest in stocks, bonds and mutual funds for our clients using a value analysis strategy that we have developed over the last twenty years. We use Fidelity Investments as the custodian for our clients' assets. If you would like MaxOut Savings Advisors to manage your retirement investments using our value methodology, I would be happy to meet with you. To schedule an appointment please give us a call at 713-627-0400 or email me at ted@maxoutsavings.com.

Remember Save Aggressively and Invest Conservatively!