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ARTEMIS CAPITAL MANAGEMENT For Investment Professional Use. Not for Distribution Fall of the House of Money: Changes in Global Trade and Currency Exchange Council of Supply Chain Management Professionals November 3, 2011 Christopher Cole, CFA
Fall of the House of Money: Changes in Global Trade and Currency Exchange
Council of Supply Chain Management Professionals – November 3, 2011
Christopher Cole, CFA
520 Broadway, Suite 350 Santa Monica, CA 90401 (310) 496-4526 phone (310) 496-4527 fax info@artemiscm.com
For Investment Professional Use. Not for Distribution
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Source: istockphoto.com
2 US Dollar has lost over 50% of its value since 1985 on a trade weighted basis
FRB Trade-Weighted Dollar is the Major Currency Index published by the Federal Reserve, with the USD weighted by respective merchandise trade volume against EUR, JPY, GBP, CHF, AUD, CAD Source: Federal Reserve & Shadow Government Statistics
45 55 65 75 85 95 105 1985 1986 1987 1988 1989 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011
FRB Trade Weighted Dollar Index (1985 to Present)
Global Currency Markets are like a Backwards Beauty Pageant
3 Like pageant contestants the value of one currency is judged in relationship to another currency However many contestants want to be the most ugly currency to gain advantage in international trade and to stimulate exports Fiat currencies are backed only by faith in a government –beauty is in the eye of the beholder Currencies are subject to laws of supply and demand
Examples of Currency Pairs
The value of a currency (in relationship to another) is driven by a variety of fundamental and speculative factors including: 4
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Countries are artificially devaluing their currencies to generate competitive trade advantages or to finance deficits
United States
Japan
time in over a year (selling yen and buying dollars & euros) China
undervalued against the US dollar
Switzerland
and +50% against the dollar since 2003
Brazil
inflation in six years
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Current Account Balance (exports minus imports of goods and services)
8
Source: IMF World Economic Outlook Database, April 2009
Debtor-Developed nations are massively OVERLEVERAGED
9 Nations with public debt above 90% of GDP (grey line) grow 1.3% per year slower than countries with lower debt ratios USA at 107% not including social security and Medicare
Source: OECD, statistic regarding GDP growth from “This Time is Different” by Carmen Reinhart & Kenneth Rogoff
20 40 60 80 100 120 140 160 180 200 220 240 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 Government Debt to GDP Ratio %
Government Debt to GDP % Developed Economies
United States Japan Greece Germany Euro area OECD Countries
Relationship between Developed-Debtor and Emerging-Creditor Nation Mechanics of Chinese Currency Peg
10 $1 USD = approx 6.35 Yuan Estimated at 15-40% undervalued to $USD
Rates have nowhere to go but up
Interest rates in the developed world are at generational lows fueling leveraged carry trades and increasing public and private debt 12
0% 5% 10% 15% 20% 25% 1962 1963 1964 1965 1966 1967 1968 1969 1970 1971 1972 1973 1974 1975 1976 1977 1978 1979 1980 1981 1982 1983 1984 1985 1986 1987 1988 1989 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 Yield%
Effective Federal Funds Rate (1961 to Present)
2% 4% 6% 8% 10% 12% 14% 16% 18% 1962 1963 1964 1965 1966 1967 1968 1969 1970 1971 1972 1973 1974 1975 1976 1977 1978 1979 1980 1981 1982 1983 1984 1985 1986 1987 1988 1989 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 Yield (%)
10 Year US Treasury Yield (1961 to Present)
Source: Federal Reserve
End result is “RISK-ON” /“RISK OFF” dynamic 13
↑ global stock prices ↑ commodities ↓ “safe haven currencies” like the USD or Yen
↓ global stock prices ↓ commodities ↑ “safe haven currencies” like the USD or Yen
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Keys risk is depreciation of the AUD against the YEN (due to economic weakness)
“Safety” or “Funding” Currencies
Appreciate ↑ During Economic Weakness
US Dollar Japanese Yen Swiss Franc (until recently) “Risk” Currencies
Depreciate ↓ During Economic Weakness
Australian Dollar New Zealand Kiwi Brazilian Real
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ASSET PRICE RISK = CURRENCY RISK
5 15 25 35 45 55 65 75 85 Feb-05 Jun-05 Oct-05 Feb-06 Jun-06 Oct-06 Feb-07 Jun-07 Oct-07 Feb-08 Jun-08 Oct-08 Feb-09 Jun-09 Oct-09 Feb-10 Jun-10 Oct-10 Feb-11 Jun-11 S&P 500 - 21 day Rolling Correlation Index
Realized Correlation of 50 Largest Cap S&P 500 stocks (1 month rolling- 2005 to Present)
33 38 43 48 53 58 63 68 73 78 Feb-07 May-07 Aug-07 Nov-07 Feb-08 May-08 Aug-08 Nov-08 Feb-09 May-09 Aug-09 Nov-09 Feb-10 May-10 Aug-10 Nov-10 Feb-11 May-11 Aug-11 S&P 500 Index Implied Correlation
Implied Correlation of S&P 500 Index (12 month constant adjustement)
20 40 60 80 100 120 1 101 201 301 401 501 601 701 801 901 1001 1101 1201 21 day Realized Correlation Ranking (Lowest to Highest)
Ranked 21 day Realized Correlations of 50 LargeCap Stocks in SPX (2005 to Present)
9/7/2011 (Highest Correlation at 0.82) 2008 Crash High (11/13/2008 - Correlation at 0.76) Bull Market Low (11/3/2006 - Correlation at 0.10) 0.05 0.15 0.25 0.35 0.45 0.55 0.65 0.75 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011
S&P 500 Sector Correlation
0.2 0.3 0.4 0.5 0.6 0.7 0.8 0.9 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011
Country ETF Correlation
Source: Ivolatility & Artemis Capital Management LLC
Excess global liquidity has arguably led to the most correlated period in the history of modern markets rendering diversification futile
(correlation measures the propensity for assets to move in-tandem)
16 Mirror reflection: Stock Market “Risk” and the Carry Trade are now one is the same!!
↑ Stock Market Volatility = ↑ “Safe” to “Risk” Currency Pairs (e.g. JPY/AUD, USD/AUD, USD/NZD)
Source: Ivolatility & Artemis Capital Management LLC
20 40 60 80 100 120 10 20 30 40 50 60 70 80 90 Apr-07 Jul-07 Oct-07 Jan-08 Apr-08 Jul-08 Oct-08 Jan-09 Apr-09 Jul-09 Oct-09 Jan-10 Apr-10 Jul-10 Oct-10 Jan-11 Apr-11 Jul-11 JPY/AUD VIX index %
VIX (lhs) vs. Japanese Yen/Aussie Dollar(rhs) Correlation = 0.85 since September 2008
Stock market volatility perfectly mimics the appreciation of “funding” to “risk” currency pairs
17 The status of the US dollar as a GLOBAL RESERVE CURRENCY allows massive financial flexibility
Despite these facts due to trade imbalances, excessive government debt, slow growth, and unfavorable demographic trends the influence of the US dollar will likely face SIGNIFICANT challenges over the next 10 to 20 years
40 50 60 70 80 90 100 110 2003 2004 2005 2006 2007 2008 2009 2010 $100 USD in Foreign Currency
$100 USD translated into Foreign Currencies 2003 to Present
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Source: www.forexrate.co.uk
The dollar has lost approximately 30% of its value against a weighted basket of currencies since 2003 and over 50% since 1985
US Dollar Currency Appeciation/Depreciation Swiss Franc Australian Dollar Canadian Dollar Euro Composite 1 year
0.35%
2 years
8.34%
3 years
8.15%
5 years
8 years
RELATIONSHIP between US Dollar and Worldwide Shipping Rates
US dollar typically strengthens when shipping rates fall consistent with safe haven status 19
45 50 55 60 65 70 75 80 85 2,000 4,000 6,000 8,000 10,000 12,000 14,000 Jan-00 Jun-00 Nov-00 Apr-01 Sep-01 Feb-02 Jul-02 Dec-02 May-03 Oct-03 Mar-04 Aug-04 Jan-05 Jun-05 Nov-05 Apr-06 Sep-06 Feb-07 Jul-07 Dec-07 May-08 Oct-08 Mar-09 Aug-09 Jan-10 Jun-10 Nov-10 Apr-11 Sep-11 FRB Trade Weighted Dollar Index (1985 = 100) Baltic Dry Index
Baltic Dry Index (lhs) vs. FRB Trade Weighted Dollar Index (rhs)
Baltic Dry Index FRB Trade Weighted Dollar Index
NO VIABLE ALTERNATIVES TO THE US DOLLAR
20 Special Drawing Rights (“SDRS”) – MOST VIABLE THREAT GOING FORWARD
British pound, and the Japanese yen
IMF issued a report in early 2011 on possible replacements for the dollar as the world's reserve currency in response to pressure from emerging economies
Gold
Other Currencies (Yuan, Euro, Yen) - either not liquid enough or structurally weak
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US debt to GDP continues to climb higher…
…and these numbers do not even include the $7.9 trillion of unfunded Social Security and $22.9 trillion of unfunded Medicare obligations
Source: http://www.whitehouse.gov/omb/budget/Historicals
20 40 60 80 100 120 2 4 6 8 10 12 14 16 1970 1971 1972 1973 1974 1975 1976 1977 1978 1979 1980 1981 1982 1983 1984 1985 1986 1987 1988 1989 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 Debt to GDP Ratio (%) Gross Federal Debt ($trillions)
US Government Gross Federal Debt and Debt to GDP (1970 to 2011)
Debt to GDP Ratio Gross Federal Debt
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US continues to run large government deficits as a percentage of GDP… ….who is financing this?
Source: http://www.whitehouse.gov/omb/budget/Historicals
0.0 2.0 4.0 6.0 1948 1950 1952 1954 1956 1958 1960 1962 1964 1966 1968 1970 1972 1974 1976 1978 1980 1982 1984 1986 1988 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010 Total Government Surplus / Deficit as % of GDP
Total US Government Surplus or Deficit as % of GDP (1948 to 2010)
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The largest holder of US treasury debt is the FEDERAL RESERVE (China is only #2)
During QE2 the Federal Reserve was purchasing approximately 70% of the new issuance of US treasury bonds
Source: Federal Reserve & US Treasury
200 400 600 800 1,000 1,200 1,400 1,600 1,800 Federal Reserve / USA China Japan United Kingdom Oil Exporters Brazil Carribean Banking Holdings of IS Treasury Debt ($bn)
Largest Holders of US Treasury Debt
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Can you fight deflation with more debt?
Source: Shadow Government Statistics
Policy Makers (e.g. Fed) are likely to counter further slowdowns with monetary stimulus
…but with 0% rate we are out of policy bullets absent outright debt monetization (Quantitative Easing) … so what happens to your currency if you just keep expanding the money supply?
0% 5% 10% 15% 20% 25% 0.5 1 1.5 2 2.5 1970 1971 1972 1974 1975 1977 1978 1979 1981 1982 1984 1985 1987 1988 1989 1991 1992 1994 1995 1996 1998 1999 2001 2002 2004 2005 2006 2008 2009 2011 M1 Growth % (YOY) M1 Money Supply (trillions)
US Money Supply (1970 to present)
M1 Growth (YOY) M1 Highest YOY M1 growth
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Source: “Economics of inflation” by Constantino Bresciani-Turroni
Currency devaluation can create the illusion of economic growth
1 10 100 1,000 10,000 100,000 1,000,000 10,000,000 100,000,000 1,000,000,000 10,000,000,000 100,000,000,000 1,000,000,000,000 10,000,000,000,000 100,000,000,000,000 20 40 60 80 100 120 January-18 April-18 July-18 October-18 January-19 April-19 July-19 October-19 January-20 April-20 July-20 October-20 January-21 April-21 July-21 October-21 January-22 April-22 July-22 October-22 January-23 April-23 July-23 October-23 Performance in paper marks Performance adjusted for fixed rate of exchange
Performance of German Stock Market during Weimar Republic Hyperinflaton
In paper marks, Weimar
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Currency devaluation can create the illusion of economic growth
Long-term US equity performance is atrocious when adjusted by the FRB trade weighted dollar-index (S&P 500 index since 2000 = -20% nominal loss vs. -50% adjusted for dollar depreciation)
Source: Yahoo Finance & Shadow Government Statistics
200 400 600 800 1,000 1,200 1,400 1,600 1,800 1985 1985 1986 1987 1988 1989 1990 1991 1992 1993 1994 1995 1996 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2007 2008 2009 2010 2011
S&P 500 index performance adjusted by Dollar-Index
S&P 500 Index S&P 500 Index Adjusted by FRB Trade Weighted Dollar-Index
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Economic Cycle Research Institute on September 30: “Our most reliable forward-looking indicators are now collectively behaving as they did on the cusp of full-blown recessions, not ‘soft landings.’ “
(ECRI has a perfect recession prediction record with no false alarms)
Source: Economic Cycle Research Institute
Is monetary policy working?
10 20 30 40 1987 1988 1989 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 ECRI US Weekly Leading Index Growth 9%)
ECRI Weekly Leading Index Growth & US Recessions
ECRI US Weekly Leading Index Growth Recession (Peak to Trough)
QE2 by FED TARP/QE1
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Are commodities appreciating or is the dollar depreciating? Or both?
Commodities (e.g. Gold or Oil) typically climb when the dollar declines
Source: Bloomberg
0.45 0.95 1.45 1.95 2.45 2006 2007 2008 2009 2010 2011 Gold
$1 of Gold & Crude Oil vs. $USD Composite
Gold (GLD ETF) Crude Oil WTI - Cushing, Oklahoma $USD Composite (CHF,AUD,EUR,CAD)
29 Perhaps the best way to understand the true value of our currency is to melt down the coins and sell the raw metal
Source: www.coinflation.com / metals data as of October 31, 2011
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1. Prepare your business for the potential of a second global recession 2. $USD is historically strong when the economy is weak – watch for reversal 3. Evaluate portfolio returns against a global basket of currencies and commodities 4. Diversify exposure during periods of dollar strength and deleveraging :
(e.g. Canadian Dollar, Norwegian Krone, Australian Dollar)
Sources and Reference Material: “This Time is Different: Eight Centuries of Financial Folly” Carmen Reinhart & Kenneth Rogoff, Princeton University Press 2011 “Dying of Money – Lessons of the Great German and American Inflation” Jens O Parsson, Wellspring press 1974 “The Ascent of Money: A Financial History of the World” Niall Ferguson, Penguin Press 2008 Materials by the Presenter: “Fighting Greek Fire with Fire: Correlation, Volatility, and Truth” Christopher Cole / October 2011 http://www.scribd.com/doc/67897176/Artemis-Capital-Q3-2011-Fighting-Greek-Fire-With-Fire “The Great Vega Short” Christopher Cole / December 2010 http://economiemagazine.fr/documents/ACM-The-Great-Vega-Short.pdf “Is Volatility Broken: Normalcy Bias and Abnormal Volatility” Christopher Cole / April 2011 http://www.thetrader.se/wp-content/uploads/2011/04/artemis-volreport.pdf 31
Christopher Cole, CFA Managing Partner & Portfolio Manager Christopher R. Cole, CFA founded Artemis Capital Management after working in capital markets and investment banking at Merrill Lynch. During his career in investment banking while in both NYC and LA he structured over $6 billion in transactions for many high profile issuers. Mr. Cole has since focused on systematic and quantitative trading of volatility. His research and volatility commentary has been quoted by publications such as the International Financing Review, CFA Magazine, FT/Alphaville, and Forbes. His decision to form a fund came after achieving proprietary returns of over 200% between 2008 and May 2009 (net of full pro-forma fees per NFA guidelines / confirmed by independent auditor based on AICPA attestation standards). Mr. Cole holds the Chartered Financial Analyst designation, is an associate member of the NFA, and graduated Magna Cum Laude from the University of Southern California. Artemis Capital Management, LLC Artemis Capital Management LLC. is an investment management firm that employs systematic trading models to generate alpha from the behavior of market volatility. ACM’s quantitative algorithms are intended to produce returns in a range of market environments and protect against subjective or emotional bias. The fund seeks to generate excess returns above the market from quantitative volatility trading, remain uncorrelated to traditional assets classes, and serve as a vehicle for sophisticated investors to diversify their broader portfolio. Artemis Capital Management is registered with the Commodity Futures Trading Commission (“CFTC”) as a commodity pool operator (“CPO”) and with the State of California as an investment adviser, and is a member of the National Futures Association ("NFA"). Artemis will offer the Artemis Vega Fund LP for qualified investors beginning in January 2012.
Note: Past returns are not indicative of future performance. Proprietary account performance verified by Rothstein Kass according to AICPA attestation standards. See accompanying notes in the disclosure section for important information. Past returns are not indicative of future performance. The Principal of the General Partner, Christopher R. Cole, used the Proprietary Account as a vehicle to incubate the investment strategy of the Partnership with personal funds prior to the formation of ACI. The Proprietary Account was not subject to a management fee or performance allocation such as those to which the Fund is subject. Accordingly, the net returns presented above reflect the deduction of (i) an investment management fee equal to 2% per annum of each investor’s capital account balance, charged quarterly in arrears, and (ii) an annual performance allocation equal to 20% of all net profits allocated to each investor, subject to a high water mark. Detailed information on the verified performance history of the incubator fund is available upon request.
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Christopher Cole, CFA – General Partner and Founder
Contact Information
Contact Information
33 Contact Information
Legal Disclaimer THIS IS NOT AN OFFERING OR THE SOLICITATION OF AN OFFER TO PURCHASE AN INTEREST IN ARTEMIS CAPITAL INVESTORS, L.P. or ARTEMIS VEGA FUND L.P. (THE “FUND”). ANY SUCH OFFER OR SOLICITATION WILL ONLY BE MADE TO QUALIFIED INVESTORS BY MEANS OF A CONFIDENTIAL PRIVATE PLACEMENT MEMORANDUM (THE “MEMORANDUM”) AND ONLY IN THOSE JURISDICTIONS WHERE PERMITTED BY LAW. AN INVESTMENT SHOULD ONLY BE MADE AFTER CAREFUL REVIEW OF THE FUND’S MEMORANDUM. THE INFORMATION HEREIN IS QUALIFIED IN ITS ENTIRETY BY THE INFORMATION IN THE MEMORANDUM. AN INVESTMENT IN THE FUND IS SPECULATIVE AND INVOLVES A HIGH DEGREE OF RISK. OPPORTUNITIES FOR WITHDRAWAL, REDEMPTION AND TRANSFERABILITY OF INTERESTS ARE RESTRICTED, SO INVESTORS MAY NOT HAVE ACCESS TO CAPITAL WHEN IT IS NEEDED. THERE IS NO SECONDARY MARKET FOR THE INTERESTS AND NONE IS EXPECTED TO DEVELOP. NO ASSURANCE CAN BE GIVEN THAT THE INVESTMENT OBJECTIVE WILL BE ACHIEVED OR THAT AN INVESTOR WILL RECEIVE A RETURN OF ALL OR ANY PORTION OF HIS OR HER INVESTMENT IN THE FUND. INVESTMENT RESULTS MAY VARY SUBSTANTIALLY OVER ANY GIVEN TIME PERIOD. CERTAIN DATA CONTAINED HEREIN IS BASED ON INFORMATION OBTAINED FROM SOURCES BELIEVED TO BE ACCURATE, BUT WE CANNOT GUARANTEE THE ACCURACY OF SUCH INFORMATION.
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General Disclosure Statement
An investment in the Partnership and strategies discussed in this document involve a number of significant risks. For a full list of potential risk factors please review the Offering Memorandum. Prospective Limited Partners should read the entire Memorandum and the Partnership Agreement and consult with their own advisers before deciding whether to invest in the Partnership. In addition, as the Partnership’s investment program develops and changes over time, an investment in the Partnership may be subject to additional and different risk factors. Prospective investors should also consult with their own financial, tax and legal advisors regarding the suitability of this
investment. All 2009 performance numbers quoted within this document are derived from financial statements that were audited by Rothstein Kass. Proprietary trading results for White Fox, LLC (the “Proprietary Account”) are presented within this document that were verified by Rothstein Kass. The Principal of the General Partner, Christopher R. Cole, used the Proprietary Account as a vehicle to incubate the investment strategy of the Partnership with personal funds as well as those of close family members. Note that no management or performance fees were charged to the Proprietary Account profiled. Accordingly, the Pro Forma Performance presented in this document includes imposition of a 2% Management Fee and 20% Performance Allocation (in line with those charged against the Partnership).Past performance is not indicative of future returns.
Commodity Pool Operator Disclosure Statement
YOU SHOULD CAREFULLY CONSIDER WHETHER YOUR FINANCIAL CONDITION PERMITS YOU TO PARTICIPATE IN A COMMODITY POOL. IN SO DOING, YOU SHOULD BE AWARE THAT FUTURES AND OPTIONS TRADING CAN QUICKLY LEAD TO LARGE LOSSES AS WELL AS GAINS. SUCH TRADING LOSSES CAN SHARPLY REDUCE THE NET ASSET VALUE OF THE POOL AND CONSEQUENTLY THE VALUE OF YOUR INTEREST IN THE POOL. IN ADDITION, RESTRICTIONS ON REDEMPTIONS MAY AFFECT YOUR ABILITY TO WITHDRAW YOUR PARTICIPATION IN THE POOL. FURTHER, COMMODITY POOLS MAY BE SUBJECT TO SUBSTANTIAL CHARGES FOR MANAGEMENT, ADVISORY AND BROKERAGE FEES. IT MAY BE NECESSARY FOR THOSE POOLS THAT ARE SUBJECT TO THESE CHARGES TO MAKE SUBSTANTIAL TRADING PROFITS TO AVOID DEPLETIONS OR EXHAUSTION OF THEIR ASSETS. THE OFFERING MEMORANDUM CONTAINS A COMPLETE DESCRIPTION OF EACH EXPENSE TO BE CHARGED THIS POOL AND A STATEMENT OF THE PERCENTAGE RETURN NECESSARY TO BREAK EVEN, THAT IS, TO RECOVER THE AMOUNT OF YOUR INITIAL INVESTMENT . THIS BRIEF STATEMENT CANNOT DISCLOSE ALL THE RISKS AND OTHER FACTORS NECESSARY TO EVALUATE YOUR PARTICIPATION IN THIS COMMODITY POOL. THEREFORE, BEFORE YOU DECIDE TO PARTICIPATE IN THIS COMMODITY POOL, YOU SHOULD CAREFULLY STUDY THE OFFERINGMEMORANDUM, INCLUDING A DESCRIPTION OF THE PRINCIPAL RISK FACTORS OF THIS INVESTMENT. YOU SHOULD ALSO BE AWARE THAT THIS COMMODITY POOL MAY TRADE FOREIGN FUTURES OR OPTIONS CONTRACTS. TRANSACTIONS ON MARKETS LOCATED OUTSIDE THE UNITED STATES, INCLUDING MARKETS FORMALLY LINKED TO A UNITED STATES MARKET, MAY BE SUBJECT TO REGULATIONS WHICH OFFER DIFFERENT OR DIMINISHED PROTECTIONS TO THE POOL AND ITS PARTICIPANTS. FURTHER, UNITED STATES REGULATORY AUTHORITIES MAY BE UNABLE TO COMPEL THE ENFORCEMENT OF THE RULES OR REGULATORY AUTHORITIES OR MARKETS IN NON-UNITED STATES JURISDICTIONS WHERE TRANSACTIONS FOR THE POOL MAY BE EFFECTED.
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