MoneyWeek Roundup: How hyperinflation could come to Weimar Britain
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MoneyWeek Editor
John Stepek Mar 20, 2010
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● It's been a busy week for Money Morning. On Monday, I caused a bit of a stir when I said that Gordon Brown can't be trusted with the public finances, and so sterling would take a dive if Labour won the election.
Some readers agreed. Others took it for 'Tory propaganda'. And some readers think we just shouldn't discuss politics full stop. But no one tried to defend Mr Brown's record.
For my part, I don't particularly want to offend anyone. But neither do I think that MoneyWeek can or should ignore how politics will affect your investments. Markets are more interlinked with politics now than they have been in a very long time. How can they not be, when it's the politicians who make the decisions about who gets bailed out and who doesn't?
I'm not telling anyone how to vote. And I didn't say anything about voting Tory. If you gave me the power to choose one person I'd like to see in government, it would probably be Vince Cable. I don't think he's the hallowed genius that everyone makes out – the mansion tax proposal was badly handled and makes little sense (my colleague Merryn Somerset Webb has a much better idea for making property taxation fairer).
But he'd shake things up a bit. And he's actually had a real-life grown-up proper job outside of professional politics. And that's what we need now. A part of me even thinks a hung parliament might be a good thing, just to scare our political class out of its complacency.
But my point was simply that if you look at Mr Brown's history of over-spending, then the Government's promises about the public finances have no credibility. And because of that, the likely result of another Labour victory would be a weaker pound (and before I forget, we've more on currencies in general in the current issue of MoneyWeek, out now - if you're not already a subscriber, claim your first three issues free here).
● In any case, it seems that science and engineering get people even more excited than politics. Our Money Morning on the state of Britain's skills base (What Britain needs: fewer beauticians and more scientists) drew in more reader emails than almost any other topic we've covered in recent years – including house prices.
I'm still reading through the responses – several of which I'd like to reprint in full – so this certainly won't be our last word on the topic. But one theme coming through from many of the readers' comments is that the problem is short-termism on the part of both investors and the government. "Technology is a numbers game. Not every punt will pay off. You wouldn't fire an investor who made one dud trade. But scientists, engineers, even whole companies are only as good as their last development, and one lemon can blight an entire career."
There's also the running theme that we're good at coming up with ideas, but terrible at commercialising them. As one reader pointed out, "in 1989 the then Japanese Ministry of International Trade and Industry revealed that 58% of Japanese technology exports had originated from UK Intellectual Property ideas, no longer controlled by the original inventors."
Others argued that this is an inevitable effect of globalisation. You can get cheaper scientists and engineers with the same skills in other countries. So why pay for them here? I have some sympathy with this argument.
But presumably you can get cheaper bankers elsewhere too. The Chinese and the Indians can add up and cook the books as well as any Westerner. So if it's all the fault of globalisation, then why hasn't the financial sector succumbed to the same pressures, beyond the outsourcing of the occasional insurance telesales job to Glasgow? Why aren't investment banking wages under pressure?
I realise that London has many advantages as a financial centre. But if we can and do protect our financiers, then why not our industrialists too?
I'll leave the last word for the moment to one of our site commenters. "Where do journalists fit into this wealth creation argument?" I'll get back to you on that one – I suspect this particular debate will run and run…
● Sticking with science, Dr Mike Tubbs' whole investment strategy is based around companies that focus on research and development. And this week Mike turned his attention to one of the most exciting areas in today's pharma business - vaccines. I'll let Mike explain.
"The sudden outbreak of swine flu last year caused a frenzy in the biotech industry. As scientists burned the midnight oil to develop a vaccine to battle the H1N1 virus, millions of dollars were ploughed into research. Some stocks rose nearly 700% in the aftermath.
"As hysteria over the outbreak died away, some of those vaccine developers fell hard. But this was no one-off. Governments across the world are investing millions as they stockpile vaccines that will protect their economies against the next pandemic which could be much more serious than swine flu.
"Meanwhile, many large pharmaceutical companies are growing their vaccine divisions. And small vaccine makers are signing hugely lucrative deals with big pharmaceutical firms to develop their early stage drugs."
Small wonder. "The global vaccine market is expected to be worth $34 billion in revenues by 2012." So how do you take advantage? Mike's already tipped a very promising stock in the area, with a fantastic development pipeline. And this week, some news on recruitment saw the investment case for the group become even more compelling. If you want to learn more about Mike's newsletter, Research Investments, call 020 7633 3600.
● Here's a pop quiz for you. It's 1955. You've got £1,000. You can put it in property; the FTSE All-Share index; or small cap stocks. What do you pick?
You're not daft. You know I'm asking you this question for a reason. And you're right, the answer is small caps. If you'd invested in either of the first two, Tom Bulford reckons you'd have turned your £1,000 into about £500,000 by now, an annual return of about 12%.
Not bad at all. "But here's the thing," says Tom. "If you had invested in small companies back in 1955 you would not now have £500,000. You would have £2.6m!" Pretty incredible. But what's even more incredible is that this equates to an annual return of just 15.4% or so. "That little 3.4% of additional annual return is now, 55 years later, worth an extra £2.1m. That's the power of compound interest at work. It is also a logical outcome of the oft-quoted saying that 'With greater risk goes greater reward'."
Now of course Tom loves his small caps – he's not the editor of the Red Hot Penny Shares newsletter for nothing. And as he points out, "we can't possibly know whether there's another £2.6m waiting for small-cap investors in 55 years' time." However, "anybody bold enough to back small companies over the long term has a wealth of evidence that points to potentially market-beating returns." For more on how Tom picks his stocks, have a look at the promotion for his newsletter here.
● Speaking of top tips – I don't often blow our own trumpet about specific stock tips, but I feel the need to congratulate my colleague David Stevenson on one of his recent picks.
Back in January, David tipped troubled fashion chain French Connection in MoneyWeek magazine, at around 33p. At the time, the chain was facing an uncertain future. But David did his due diligence and wagered it was worth the risk.
And he was right. The group has sold the Nicole Farhi brand and is closing loss-making businesses. The share price is now well above 45p and the company looks to have turned a corner. So should you take your 50%-odd gain now (that's in two months – if David was still working as a fund manager he'd no doubt be calling that a 300% annualised gain!) or hold out for more? Now, David gives his current view on the stock.
● You don't often read cheery stories from the era of hyperinflation, but Tim Price had one for us this week. "Early in 1923, a German man found himself with a single dollar bill. He got hold of six friends, and went to Berlin one night, determined to blow the lot," wrote Tim. "Come the small hours of the next morning, after a slap-up dinner and a tour of the city's nightclubs, he still had change in his pockets."
Not bad if you've got the foreign currency to draw on. Bit of a nightmare if you were stuck with marks at the time though. The price of a loaf in Berlin was 0.5 marks in December 1918. In December 1921, it was four marks. The next year – 163 marks. And by November 1923, it was a staggering 201,000,000,000 marks.
I don't know about you, but when I read about that sort of wealth destruction, the idea that our central bankers' biggest fear is that we end up like Japan just seems like some sort of sick joke.
But hyperinflation couldn't happen now. Not here, surely?
"Or could it?" asks Tim. "Wage inflation is hardly a problem in the UK just now. But I think that inflation could take off if our politicians are unable to accept the gravity of our situation. Imagine if UK gilt yields start to rise rapidly, as investors question the political will to tackle the deficit. Sterling, having weakened markedly over the past year, starts to freefall. But the market understands that the economy will be too fragile for the Bank of England to raise interest rates to defend the currency (a situation similar to the UK's ultimate ejection from the European Monetary Union in 1992). A sterling crisis becomes a rout. Inflation, perhaps superinflation, enters via the imports market."
Now just to give you some context, Tim is no scaremongering extremist. And he's not looking for column inches. He manages money for a living. So when he talks about hyperinflation as a potential worry, he means it. And as with any extreme economic event, a lot of it comes down to political will.
"Those who have studied the Weimar experience suggest that the point of no return in the inflationary process did not come about through currency depreciation alone, nor from the growing velocity of money in circulation, nor from the balance of payments deficit. In fact it came from a devaluation of political principles. In the words of Adam Fergusson, author of When Money Dies: The Nightmare of the Weimar Collapse: "What really broke Germany was the constant taking of the soft political option in respect of money."
Hmm. In other words, if our politicians continue to follow the path of least resistance, then we'll end up going for broke. Better prepare ourselves for the worst then. Tim has four investments in particular he reckons you should stock up on before the next market downturn – you can get a broad overview of them in this promotion for his Price Report newsletter.
● We'll be back on Monday, probably with a preview of what next Wednesday's Budget might hold for us all – but don't let that put you off. Forewarned is forearmed after all.
Useful links
Want to find out more about any of the newsletters and contributors I've quoted today? Just click on these links:
• Dr Mike Tubbs' Research Investments newsletter - enquiries for this exclusive service are by phone only, call 020 7633 3600
• Tom Bulford's newsletter, Red Hot Penny Shares
• Tim Price's newsletter, The Price Report
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John Stepek
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