April 11, 2007 – It is very difficult to understand where and how to invest your money without understanding politics. I know, I know. At first your reaction will probably be the same as 99% of all other investors. “What are you talking about?” is what you are thinking right? But understanding politics will help you pinpoint exactly what specific asset classes, what specific countries, and even at times, what specific stocks offer the best investment opportunities in the risk-reward paradigm of stock investing. “All maalamalama members should have a clear and deep understanding of what I mean by this. A superficial understanding of politics is insufficient. A deeper understanding of how politics drive economies throughout the world is necessary to make intelligent investment decisions. On a superficial level, every investor that is not living under a rock is aware of the verbal wars currently being fought between the U.S. and China regarding tariffs on Chinese imports. On a deeper level, one must understand what these negotiations, and the outcome of these negotiations will mean for the yuan-dollar exchange rate and the fate of the one trillion of dollar-denominated assets that the Chinese hold in their reserves.
The overwhelming mistake I see investors make in regard to understanding the intricate relationship between politics and stock picking are two-fold. One, they let nationalistic feelings blind them to the cold realities of war and economics and thus, make poor investment decisions based upon loyalty to a hardline government position rather than anything remotely based upon reality. They feel that if they disagree with the government stance that they are being a disloyal citizen instead of recognizing that as a higher primate, they have a brain and are thus entitled to use it.
Perhaps a simple story can best illustrate my point. Before the Mexican-American war, much of California as well as Southwestern America was Mexican territory. If you were born in what is now the lower half of California before the Mexican-American war, you would have been a Mexican and not American citizen, and most likely, though your brain, flesh, and organic material would be exactly the same, your politics as a Mexican would be dramatically different than that of an American. Or what if today, the U.S. Mexican border moved south by 10 kilometers and hundreds of thousand of Mexicans automatically became American citizens?
Do you think that their politics would change overnight just because they had become newly minted U.S. citizens? Most likely not. But had they been born American, most likely yes. Because something as arbitrary as an imaginary borderline drawn up by a government can sometimes polarize the same person into two completely different mindsets depending upon the date of his or her birth, can you now see the foolishness of stubbornly defending policies that are promoted by your government rather than critically examining these policies for falsehoods or truths before making a determination of their validity? And though I am American, I profess this statement as applicable no matter what country you live in.
I only write the above to give some background to an earlier blog I wrote that touched upon the importance of understanding politics when making investment decisions. In an earlier blog entitled “How to Navigate the Minefields of the Investment Industry Information Highway”, I wrote that even though I did not consider myself an expert in oil by any means, my understanding of politics led me to believe that oil would not drop below $50 this year even as the energy “experts” were writing articles about the inevitability of $40 oil by mid-year 2007 and eventually $20 oil. Back then, when I read these articles, I was shocked at the absolute absence of any import given to the role of politics in the determination of oil prices.
Again, these experts merely discussed how new discoveries of huge oil fields were happening, how better technologies to access deeper oil fields were being developed, and that all of this would drive oil prices down. As we all know by now, any “official” statistics about oil reserves, GDP, inflation, etc. are hardly trustworthy and are constantly manipulated to serve the purposes of those that release such statistics instead of being rooted in any kind of reality. So to base any type of projections solely on these numbers is bound to be fallacious.
That was the first reason I believed such predictions, though they were widespread at the beginning of this year, were such nonsense. The second reason why I believed that the rationale given for $40 and $30 oil in 2007 was such nonsense was that none of these “experts” predictions mentioned politics at all. If they had included politics in their analysis and the political analysis made sense, then I would have given these analyses much more legitimacy. In fact, if ever there comes a time when we see $30 oil, trust me, politics will be heavily involved. However, all of these predictions were based upon fundamental and supply & demand analysis alone. In fact, if any of the analysts merely looked back in time to 1973 then they would have understood that it is a moot point to predict the future of oil prices without discussing the implications of politics.
After the Yom Kippur War in 1973 in which Egypt and Syria attacked Israel, Egypt and Syria, the Arab gulf nations hiked oil prices by 70% and imposed production cutbacks in response to the U.S.’s assistance to Israel during this war. Eventually, Saudi and the Arab gulf nations imposed a total embargo on oil shipments to the U.S. for four months, a move that causes oil prices in the U.S. to skyrocket, hour long lines at gas stations, and panic in the U.S. economy although the embargo lasted little more than a mere five months.
In any event, though an extreme example of how oil prices could be fixed by OPEC nations under extreme circumstances, it would also be extremely naive to believe that after 1973, OPEC nations never colluded to fix prices either as concessions to requesting nations or to guarantee certain levels of revenues and profits to producing member states. And this is precisely the reason that most investment analysis models that rely on number crunching alone without the texture of politics will never properly analyze the future of an asset class or stock. Learn your politics and I guarantee you that your ability to assess investment opportunities will increase ten fold.
[tags]politics and stocks, Yom Kippur war, oil, OPEC, China tariffs[/tags]
