By MoneyMorning.com.au

Let’s talk Japan.

Every year some analyst comes out with a variation of the story that Japan’s economy is about to rebound.

Usually the argument goes something like this: Japanese markets are impossibly cheap and the central bank will be there to prevent a catastrophe.

Or sometimes there is another variation of the Cinderella story.

Either way, don’t hold your breath. Japan’s economy posted its first trade deficit since 1980 last year and the big trade surpluses needed to drive the Nikkei back to its glory days are over.

At best, Japan’s economy is going to see balanced trade figures or a small surplus in the years ahead. It won’t be enough.

If you’re not familiar with what a trade deficit is, here’s what you need to know: Japan imported $32 billion worth of stuff more than it exported for the first time in 31 years.

Critics say there are mitigating factors behind the figures and they’re right.

Against the backdrop of one of the world’s fastest aging populations, one of the lowest birth rates on the planet, a renewed reliance on foreign energy, and a yen that is so expensive that Japanese corporations are offshoring production, it won’t be long before the country eventually plows through its savings.

So $32 billion is just the beginning…

In fact, we are more likely to see Godzilla walk out of Tokyo Bay than we are to witness a return to Japan’s halcyon days.

Worse, I believe that within the next five years, Japan’s economy will long for the good old days when the trade deficit was merely $32 billion, instead of $100 billion, $200 billion or worse.

Not one of the things I’ve just mentioned – that the critics cite as short-term influences – are anything but continuations of much longer-term trends. Nearly all of them are being driven by Japan’s declining population.

You may not know this, but Japan’s population is projected to shrink by 30% by 2060. That means the total population will go from 128 million people today to only 87 million people in less than 50 years.

That’s hard to imagine since Japan is one of the most densely populated countries on the planet. But the effects are already visible.

In my neighborhood in Kyoto, for example, we see abandoned houses that fall in on themselves after people die and there are no longer any other family members to live there. We see schools that are shut down in the region because there are no kids to attend them.

We’re also seeing companies shuttered because there are no markets for their products, including my wife’s family kimono business, which closed after 300 years in existence.

Simply put, you just can’t grow a population or its stock markets without people.

Japan also has no immigration policy to speak of, so there is no means of replacing the “silvers,” or senior workers, who are leaving their productive years behind them.

By 2060 the number of people who are 65 or older is going to double. At the same time, the number of people in the workforce between 15 and 65 is going to shrink to less than 50% of the total population.

By 2050, there will be 75 retirees for every 100 workers. By comparison, in the United States in 2050 there will be about 32 retirees per 100 workers.

You’d think Japan could get “busy” and produce more children but even that’s problematic. The country has one of the lowest birthrates on the planet. Many young Japanese simply don’t want romance — let alone children.

In fact, many Japanese don’t even want sex.

As reported by CNBC, one AFP study reported that 36.1% of teenage boys between the ages of 16 and 19 have no interest in sex. That study in 2010 reflected results that were double the 17.5% reported only two years earlier. Girls are even worse, with more than 59% in the same age group reporting no interest.

Things are so bad according to one study I’ve seen, that at the current birth rate the last Japanese person will be born 953 years from now.

Critics challenge this assumption, arguing that somehow Japan’s hyper-aged will reinvigorate the economy in an orgy of retirement spending and consumption.

That depends on generous pensions and an intact financial system – neither of which Japan has at the moment.

Japan’s debt stands at 200% – 253% of GDP, depending on which studies you read, and is headed in the wrong direction. In fact, it looks like a ski jump that’s three times our own debt burden. Senior citizens I know are doing everything they can to hang onto their jobs for as long as they can.

As a result, there is literally nowhere for younger workers to go… except into low value “arubaito” or part-time work with no benefits, no promotions and very little economic value to contribute to Japan’s recovery.

My nephew, for example, struggled for years in such a job before getting training and finding work as a mechanic for Mazda.

To be fair, Japanese citizens purchase approximately 95% of Japanese debt. That’s why the country has been able to hang on and has not had its own Greek holiday.

By contrast, we borrow about 50% of our money as a nation from overseas, and we’re dangerously close to our own version of Greece’s meltdown.

But as the number of retirees rises and the number of workers falls, the Japanese government is going to have challenges maintaining this internal funding capacity.

At some point – either because there are not enough debt buyers or rates rise too high – they’ll have to turn to external creditors and interest rates that could easily be double the 1.5% the Japanese government pays lenders now.

At that point, debt payments would consume more than half of all government revenue according to The Atlantic.

And then it’s game over.

So what’s an investor to do? Well for one thing, I sure as hell wouldn’t invest in Japan on anything other than an extremely short-term basis.

Despite the fact that trade deficit numbers may ping-pong back into positive territory in the months ahead, there’s no reversing the current long-term trend.

The notion that the Nikkei is somehow undervalued is naïve if you do not take the population and its effect on debt into account.

While it is true there may be short bursts of growth, there’s no ignoring the fact that the bellwether index is trading at 8,802.51, or 77% below the high it achieved in 1990 and 12% below where it started in 1984.

With very few exceptions, money invested in Japan’s economy is going to get trapped there.

That’s why, unless you’ve got money to burn, you can say “sayonara” to Japan.

Keith Fitz-Gerald
Chief Investment Strategist, Money Morning (USA)

Publisher’s Note: This article originally appeared in Money Morning (USA).

From the Archives…

Is There a Reason You’re Not Using the 90/10 Strategy?
2012-01-27 – Kris Sayce

In the Market or Under the Mattress?
2012-01-26 – Keith Fitz-Gerald

What if the Australian Dollar Was a Stock?
2012-01-25 – Kris Sayce

Why Tungsten and Other Strategic Metals Could Prove Good Investments
2012-01-24 – Dr. Alex Cowie

Will These Commodities Help You Claim The Best Investment Gains Of 2012?
2012-01-23 – Dr. Alex Cowie

Godzilla Will Come Out of Tokyo Bay Before Japan’s Economy Rebounds

By MoneyMorning.com.au

Last week, a massive liquidity injection from the European Central Bank (ECB) was the catalyst for change in market direction and sentiment.

While this has removed the immediate threat of a European credit crunch, it has not altered the underlying fundamentals. The Eurozone remains structurally flawed. I still believe that at some point you will see a breakup of the euro, led by Germany exiting the currency union.

Greece remains in an intractable debt problem. Portugal is not far behind. Without genuine debt relief (even the plan to reduce Greece’s debt ‘voluntarily’ by 50 per cent will not solve its problems) this saga will continue.

But debt relief means writedowns, which will trigger the payout of billions of euros in derivative insurance payments. The global banking system is not strong enough to handle such an event, so it will be avoided at any cost.

So don’t expect to see any meaningful reform in Europe.

Meanwhile, the market is acting as though the liquidity injection has solved the problem. Time and time again throughout this prolonged crisis the market has responded positively to central bank intervention. But time and time again the liquidity injection provided only a fleeting boost to prices.

I don’t expect things to be any different this time around.

The chart below shows the S&P500, the most important stock index in the world. Since the panic sell-off in August 2011, the S&P500 has advanced within a channel, identified by the blue lines. It momentarily broke below that channel in early October and then above it during the subsequent rebound in November.

It’s coming up against the top of the channel again. I think any break above it will be a false break and we’ll soon see a correction back down to the lower part of the channel. There is definitely strong momentum and sentiment behind global equity markets now. But given the still fragile fundamental economic backdrop, I expect reality to return soon.

Click here to enlarge

The Australian All Ordinaries chart index looks a little different. The pattern of the past four months or so resembles a ‘bearish flag’ formation. In general, these formations serve to consolidate the moves of an existing trend – in this case a downtrend that began in April 2011. Once the consolidation period is over, the trend continues.

Click here to enlarge

I’m not a chartist. But when you combine a weak economic outlook with fragile-looking charting action there’s good reason to remain cautious.

I still believe you’re seeing a pretty convincing bear market rally.

The bear market might feel like finding goods stocks is hard.

But keep in mind when searching for stocks, value and price are two different things.

With the market firmly focused on price, it’s easy to ignore (or not even care about) value.

As investors in businesses, it’s our job to focus on value not price. It’s very hard to do and not everyone’s cup of tea.

Put simply, when you estimate intrinsic value you’re estimating what a company’s really worth. This is different to its share price, which is only based on Mr Market’s emotional judgement – not rooted in sound knowledge of a company’s financial position or business fundamentals.

In the last few months, I’ve increasingly heard that value investing is useless in this environment. To be successful you need to trade and take a shorter-term view. That might work for some people. But it’s precisely at these times of great uncertainty that value investing can protect your wealth.

Greg Canavan
Editor, Sound Money. Sound Investments.

From the Archives…

Is There a Reason You’re Not Using the 90/10 Strategy?
2012-01-27 – Kris Sayce

In the Market or Under the Mattress?
2012-01-26 – Keith Fitz-Gerald

What if the Australian Dollar Was a Stock?
2012-01-25 – Kris Sayce

Why Tungsten and Other Strategic Metals Could Prove Good Investments
2012-01-24 – Dr. Alex Cowie

Will These Commodities Help You Claim The Best Investment Gains Of 2012?
2012-01-23 – Dr. Alex Cowie

A Bearish Pattern Forms – Stick with Value Investing

The Central Bank of Nigeria maintained its monetary policy interest rate at 12.00%.  The Bank also held the cash reserve ratio at 8%.  Bank Governor, Lamido Sanusi, said: ”We are holding our first meeting of 2012 at a time that is possibly a turning point in the economic history of the country.  The dark clouds in the global horizon remain present.  Forecasts are for slower growth rates in the developed world and emerging markets.  The violence and tragic bombings in northern Nigeria continue to pose a source of concern for investors, and efforts are underway to find a lasting solution.  The recent demonstrations by citizens and opposition parties against fuel subsidy removal have also raised temperatures in the political space“

Previously the Nigerian central bank raised the the monetary policy rate by 275 basis points to 12.00% at its October meeting, after increasing by 50 basis points in September rate 75 basis points in July, and increasing it by 50 basis points at its May meeting this year.  Nigeria reported annual headline inflation of 10.3% in December, compared to 10.5% in October, 9.3% in August, down from 9.4% in July, 10.2% in June, 12.4% in May, 11.3% in April, and 12.8% in March, and just above the Bank’s inflation target of 10%.  

The Central Bank of Egypt held its overnight deposit rate unchanged at 9.25%, and the overnight lending rate at 10.25% and 7-day repo at 9.75%.  The Bank said: “Looking ahead, the current political transformation may continue to have ramifications on both consumption as well as investment decisions, adversely weighing on key sectors within the economy. Moreover, downside risks surrounding the global recovery have mounted on the back of fiscal and banking sector challenges facing the Euro Area and possible spillovers to other regions. These factors, combined, pose downside risks to domestic GDP going forward.”

Previously the Bank maintained its interest rates unchanged when it announced policy settings in October this year.  Egypt reported annual consumer price inflation of 9.55% in December, up from 8.21% in September, 8.49% in August, 10.4% in July, compared to 11.8% in June, 11.9% in May, and down from 12.1% in April.  The toll of the revolution was seen as Egypt’s gross national product contracted by 4.2% year-on-year in the third quarter of the 2011/2012 fiscal year and investment fell 26% due to uncertainty arising from the political upheaval.

Real GDP expanded by 0.3% in Q1 2011/2012 (0.4% in Q4 2010/2011), full year GDP growth was 1.8% in 2010/2011 vs 5.1% in the 2009/2010 year.  The Egyptian pound (EGP) has weakened about 3% against the US dollar over the past year, while the USDEGP exchange rate last traded around 6.03

The Ceska Narodni Banka held the two-week repurchase rate at 0.75% as expected, and kept the discount rate unchanged at 0.25% and Lombard rate at 1.75%.  The Bank said: “Monetary-policy relevant inflation will be close to the target over the entire forecast horizon. Headline inflation will rise temporarily to just above 3% in 2012 owing to a VAT increase, but will fall back below the target at the start of 2013. Consistent with the forecast is stability of market interest rates in the near future and a modest decline thereafter. The risks to the forecast are balanced.”

The Czech central bank also kept the repurchase rate unchanged at its November meeting last year; its last change was a 25 basis point cut in May 2010.  The Czech Republic reported annual inflation of 1.8% in September, compared to 1.7% in August and July, 1.8% in June, 2% in May, 1.6% in April, and 1.7% in March this year, and within the Bank’s official inflation target of 2%.  

The Central Bank of Kenya kept its benchmark lending rate steady at 18.00%, and held the Cash Reserve Ratio at 5.25%.  The central bank Governor, Njuguna Ndung’u, said: ” In view of developments and the need to ensure that inflation declines to levels consistent with the Government’s target, the Committee decided to retain the Central Bank Rate at 18.0 percent. This will allow time for the policy measures in place to work out and deliver decisive results on inflation and inflation expectations.”


At its December meeting the CBK increased the interest rate by 150bps to 18.00%, after hiking by 550 basis points and raising the Cash Reserve Ratio by 50bps to 5.25%at its November meeting .  That move followed a 400bp increase of the interest rate to 11.00% at its October meeting, after raising 75bps in September, and previously increasing, and subsequently decreasing the discount window rate by 75 basis points to 6.25%.

Source: ForexYard

The USD posted gains across the board on Friday, following the release of a better than expected US Non-Farm Payrolls figure. The US added 243K jobs in January, a significantly better number than the forecasted 150K. The positive jobs report resulted in the US Unemployment Rate dropping 0.2% to 8.3%, its lowest level in three years.

Following the release of the employment figure, the dollar rallied against virtually all of its currency rivals, including the euro and Japanese yen. The EUR/USD dropped as low as 1.3065, before staging an upward correction. The USD/JPY shot up over 50 pips, reaching as high as 76.72. The bullish dollar temporarily eased fears that the Bank of Japan (BOJ) would soon intervene to limit yen growth.

Whether or not the dollar is able to maintain its bullish momentum next week, is largely dependant on euro-zone news. Specifically, investors will be closely watching Greece to see if that country can successfully come to a debt swap agreement with its investors. Additionally, rumors that Portugal could be on its way to defaulting on its debt have weighed down on the common currency. Should any positive euro-zone announcements be released next week, investors may shift their assets toward riskier currencies and give the euro a boost.

Forex Market Analysis provided by ForexYard.

© 2006 by FxYard Ltd

Disclaimer: Trading Foreign Exchange carries a high level of risk and may not be suitable for all investors. There is a possibility that you could sustain a loss of all of your investment and therefore you should not invest money that you cannot afford to lose. You should be aware of all the risks associated with Foreign Exchange trading.

Rarely have Americans faced a more challenging investment landscape.

Bonds yield next to nothing. Money markets pay literally nothing. Residential real estate is swamped in a flood of short sales and foreclosures. Gold – after climbing six-fold over the last 12 years – may have topped out. And stocks are gyrating madly.

Given all this, where does the prudent investor put his money to work?

That’s what I asked Rick Pfeifer, an Oxford Club Pillar One Advisor and Senior Portfolio Manager with Fund Advisors of America, a Maitland, Florida-based money management firm, in a recent interview:

Q: Rick, the typical investor is disgusted with the yields on bonds and cash and scared to death of the stock market. What are you saying to clients?

A: I’m telling them that now is an excellent time to take a portion of their portfolio and diversify into alternative assets: convertible bonds, preferred shares, foreign currencies, hedge positions, ultra-cheap commodities and so on.

Q: Okay, let’s take these one at a time. What are you buying now and why?

A: We recently launched a managed account for individual investors that we call The Global Hedge Portfolio. The idea is not to replace your traditional stock and bond portfolio, but to offer a complement to it. We’re seeking profits in investments that don’t move in lockstep with either the S&P 500 or Lehman’s Treasury Index.

Q: Give me a couple of “for-instances.”

A: Take the situation in the Eurozone, for example. We see European leaders and the European Central bank doing a whole lot of talking, but we don’t see genuine, concrete steps toward solving the huge fiscal problems in Southern Europe. Some might even argue that the reason they haven’t yet taken serious corrective steps is because their options are so limited. Italy, for example, is simply too big an economy to bail out, in my view. My co-strategist Greg Galloway and I forecast that the euro will fall to parity with the dollar within 12 months. So we are short the euro in our Global Hedge Portfolio.

Q: Can’t fault your thinking there. I’ve been saying much the same thing for months now. What else are you doing?

A: We’re investing in overlooked asset classes with plenty of upside potential. Take timber, for example. Over the long run, investments in timber have beaten stocks by about 4% annually – and with considerably less volatility. Plus, timber is uncorrelated to stocks, making it an excellent way to balance your portfolio. One timber trust we own is seeing revenue grow 23% annually. Operating margins top 24%. And we’re getting a 3.5% dividend yield, too.

Q: What else are you buying?

A: We’re finding bargains in certain international markets, particularly Asia and Latin America. Because domestic demand there is growing, these areas are largely immune to problems here at home and in the Eurozone. For example, we’re buying an Asian auto manufacturer that’s selling for just half of annual sales. It’s trading at a substantial discount to book and should easily triple its earnings this year. We’re also picking up undervalued oil assets in Brazil, high-yielding energy trusts in Canada, a high-quality wine maker in Chile and the world’s leading food company, denominated in Swiss francs.

Q: How about metals?

A: We’re not buying commodities directly. Instead, we’re buying metal producers that appear undervalued and have big dividends attached.

Q: What about gold?

A: I don’t know what gold is going to do and I don’t think anyone else knows, either. But some gold producers are selling at mouth-watering prices right now, even if gold goes nowhere. One of our favorites yields 10% right now. If gold takes off, great. But if it moves sideways for a while, a 10% yield makes it a comfortable wait.

Q: What if gold moves south?

A: We run trailing stops on our investment positions. That gives us unlimited upside potential with strictly limited downside risk.

Q: Anything else you really like?

A: Quite a few things, really. I’ll mention one. Residential real estate is a mess, not only in the United States but in many overseas markets, as well. But we’re finding real bargains in commercial real estate in select overseas markets. Of course, we’re not buying the buildings themselves. Our investments are totally liquid. And, in addition to potential share price appreciation here, some of the assets are currently yielding more than 7%.

Q: Good to know, Rick. And an excellent reminder that for investors who are willing to invest worldwide, there are always opportunities available somewhere. Thanks for sharing your thoughts with us today, Rick.

A: Any time. It’s my pleasure.

Good Investing,

Alexander Green

Article by Investment U

By MoneyMorning.com.au

Let’s talk Japan.

Every year some analyst comes out with a variation of the story that Japan’s economy is about to rebound.

Usually the argument goes something like this: Japanese markets are impossibly cheap and the central bank will be there to prevent a catastrophe.

Or sometimes there is another variation of the Cinderella story.

Either way, don’t hold your breath. Japan’s economy posted its first trade deficit since 1980 last year and the big trade surpluses needed to drive the Nikkei back to its glory days are over.

At best, Japan’s economy is going to see balanced trade figures or a small surplus in the years ahead. It won’t be enough.

If you’re not familiar with what a trade deficit is, here’s what you need to know: Japan imported $32 billion worth of stuff more than it exported for the first time in 31 years.

Critics say there are mitigating factors behind the figures and they’re right.

Against the backdrop of one of the world’s fastest aging populations, one of the lowest birth rates on the planet, a renewed reliance on foreign energy, and a yen that is so expensive that Japanese corporations are offshoring production, it won’t be long before the country eventually plows through its savings.

So $32 billion is just the beginning…

In fact, we are more likely to see Godzilla walk out of Tokyo Bay than we are to witness a return to Japan’s halcyon days.

Worse, I believe that within the next five years, Japan’s economy will long for the good old days when the trade deficit was merely $32 billion, instead of $100 billion, $200 billion or worse.

Not one of the things I’ve just mentioned – that the critics cite as short-term influences – are anything but continuations of much longer-term trends. Nearly all of them are being driven by Japan’s declining population.

You may not know this, but Japan’s population is projected to shrink by 30% by 2060. That means the total population will go from 128 million people today to only 87 million people in less than 50 years.

That’s hard to imagine since Japan is one of the most densely populated countries on the planet. But the effects are already visible.

In my neighborhood in Kyoto, for example, we see abandoned houses that fall in on themselves after people die and there are no longer any other family members to live there. We see schools that are shut down in the region because there are no kids to attend them.

We’re also seeing companies shuttered because there are no markets for their products, including my wife’s family kimono business, which closed after 300 years in existence.

Simply put, you just can’t grow a population or its stock markets without people.

Japan also has no immigration policy to speak of, so there is no means of replacing the “silvers,” or senior workers, who are leaving their productive years behind them.

By 2060 the number of people who are 65 or older is going to double. At the same time, the number of people in the workforce between 15 and 65 is going to shrink to less than 50% of the total population.

By 2050, there will be 75 retirees for every 100 workers. By comparison, in the United States in 2050 there will be about 32 retirees per 100 workers.

You’d think Japan could get “busy” and produce more children but even that’s problematic. The country has one of the lowest birthrates on the planet. Many young Japanese simply don’t want romance — let alone children.

In fact, many Japanese don’t even want sex.

As reported by CNBC, one AFP study reported that 36.1% of teenage boys between the ages of 16 and 19 have no interest in sex. That study in 2010 reflected results that were double the 17.5% reported only two years earlier. Girls are even worse, with more than 59% in the same age group reporting no interest.

Things are so bad according to one study I’ve seen, that at the current birth rate the last Japanese person will be born 953 years from now.

Critics challenge this assumption, arguing that somehow Japan’s hyper-aged will reinvigorate the economy in an orgy of retirement spending and consumption.

That depends on generous pensions and an intact financial system – neither of which Japan has at the moment.

Japan’s debt stands at 200% – 253% of GDP, depending on which studies you read, and is headed in the wrong direction. In fact, it looks like a ski jump that’s three times our own debt burden. Senior citizens I know are doing everything they can to hang onto their jobs for as long as they can.

As a result, there is literally nowhere for younger workers to go… except into low value “arubaito” or part-time work with no benefits, no promotions and very little economic value to contribute to Japan’s recovery.

My nephew, for example, struggled for years in such a job before getting training and finding work as a mechanic for Mazda.

To be fair, Japanese citizens purchase approximately 95% of Japanese debt. That’s why the country has been able to hang on and has not had its own Greek holiday.

By contrast, we borrow about 50% of our money as a nation from overseas, and we’re dangerously close to our own version of Greece’s meltdown.

But as the number of retirees rises and the number of workers falls, the Japanese government is going to have challenges maintaining this internal funding capacity.

At some point – either because there are not enough debt buyers or rates rise too high – they’ll have to turn to external creditors and interest rates that could easily be double the 1.5% the Japanese government pays lenders now.

At that point, debt payments would consume more than half of all government revenue according to The Atlantic.

And then it’s game over.

So what’s an investor to do? Well for one thing, I sure as hell wouldn’t invest in Japan on anything other than an extremely short-term basis.

Despite the fact that trade deficit numbers may ping-pong back into positive territory in the months ahead, there’s no reversing the current long-term trend.

The notion that the Nikkei is somehow undervalued is naïve if you do not take the population and its effect on debt into account.

While it is true there may be short bursts of growth, there’s no ignoring the fact that the bellwether index is trading at 8,802.51, or 77% below the high it achieved in 1990 and 12% below where it started in 1984.

With very few exceptions, money invested in Japan’s economy is going to get trapped there.

That’s why, unless you’ve got money to burn, you can say “sayonara” to Japan.

Keith Fitz-Gerald
Chief Investment Strategist, Money Morning (USA)

Publisher’s Note: This article originally appeared in Money Morning (USA).

From the Archives…

Is There a Reason You’re Not Using the 90/10 Strategy?
2012-01-27 – Kris Sayce

In the Market or Under the Mattress?
2012-01-26 – Keith Fitz-Gerald

What if the Australian Dollar Was a Stock?
2012-01-25 – Kris Sayce

Why Tungsten and Other Strategic Metals Could Prove Good Investments
2012-01-24 – Dr. Alex Cowie

Will These Commodities Help You Claim The Best Investment Gains Of 2012?
2012-01-23 – Dr. Alex Cowie

Godzilla Will Come Out of Tokyo Bay Before Japan’s Economy Rebounds

By MoneyMorning.com.au

Whatever you think of Facebook (our old pal, Dan Denning says Facebook “diminishes the quality of your thought…”) there’s no arguing it’s a great example of free market entrepreneurialism.

For an eight year old company, it has come a long way.

According to the Form S-1 filed with the U.S. Securities & Exchange Commission, Facebook made a USD$1 billion profit in 2011. That’s the third year of profits in a row. It made USD$229 million in 2009 and USD$606 million in 2010.

Make a note. That’s profit. Facebook has more cash coming through the door than it has cash going out the door.

That sets Facebook apart from one of last year’s most-watched public offerings, Groupon Inc., [NASDAQ: GRPN]. In its last annual report Groupon lost USD$389 million in 2010.

And for the first nine months of last year it lost USD$214 million.

One Internet company makes a billion… another loses hundreds of millions.

But here’s the thing: just because Groupon loses money, it doesn’t make it any less entrepreneurial than Facebook.

Both guys behind the firms had an idea. They both figured they could make a bucket load of money from it. So they took a risk and got investors to back them.

The thing for investors, looking at both companies, is which is the better investment?

Should you buy Groupon while it’s still making a loss… but with potentially years of growth ahead of it? Or should you buy Facebook, which is set to trade at a premium? (Meaning that investors have built future profit growth into today’s price.)

Or maybe you should buy both.

Well, let’s look at Groupon first. We’ll straight out say we wouldn’t buy it.

Simply because we don’t see it as a viable business. The company approaches businesses to convince them to offer discounts. Groupon then splits the revenue with the business customer.

For instance, if a restaurant offers a 50% discount off a $100 meal, it splits the remaining $50 with Groupon. That’s great for Groupon. But not so great for the business – effectively, discounting its product by 75% with no guarantee of repeat business.

To us, that seems a costly way to get customers. And it seems as though while Groupon and the end consumer win, the business loses.

That’s no way to build a viable business. For a company to succeed, each side (the company and consumer) needs to believe they’re getting a good deal. That’s the beauty of free market capitalism. Each side of a deal walks away thinking they’ve come out ahead.

We’re not convinced that happens with Groupon.

Compare that to Facebook, where everyone gets something of perceived value: Facebook makes money. Advertisers pay comparatively cheap ad rates to get in front of hundreds of millions of people. And consumers get to network, show off and play silly games.

Everyone’s a winner.

So, does that mean we’d buy Facebook? Let’s see…

Even though everyone’s a winner, it doesn’t make Facebook a slam-dunk trade. As we say, investors have built profit growth into the current price.

Estimates are Facebook will list with a market capitalisation of USD$75-100 billion. That’s huge. It’s more than 100-year old technology company, Hewlett Packard [NYSE: HPQ], which has a USD$56.6 billion market cap.

And more than dot-com darling, Amazon Inc. [NASDAQ: AMZN], which has a market cap of USD$82.7 billion.

Not only that. If Facebook has a market cap of USD$75 billion, that would value it at 20-times sales, and 75-times earnings. That’s compared to Google Inc’s. [NASDAQ: GOOG] 20-times earnings.

In other words, investors figure Facebook still has plenty of growth. And maybe it has. But with a big premium priced in, investors have big expectations.

For example, let’s assume over time Facebook’s value will move closer to Google’s of 20-times earnings. In order to justify a market cap of USD$75 billion, Facebook will need to grow profits to USD$3.75 billion.

That’s a 275% increase on today’s profits.

But that doesn’t mean the Facebook share price would go up. As we say, the share price already reflects future growth. And if it doesn’t achieve the profit growth… oh boy, the share price of Facebook would soon take one heck of a beating.

And of course, investors won’t want the Facebook share price to stay still. Investors will want the share price to go up. For that to happen it needs profits to keep growing… USD$5 billion, USD$7 billion, even USD$10 billion or more.

In other words, it has to follow the same earnings growth as Internet giant, Google. That’ll be tough… but not impossible.

Online advertising is growing at more than twice the rate of non-online advertising. For instance, a report at the start of last year by MagnaGlobal projected the following ad growth rates:

As you can see, every single “new media” ad channel is outgrowing the four “old media” ad channels.

Of course, some of the “new media” is growing from a low base. Such as online video, which only received USD$2.2 billion in ad dollars in 2009 compared with USD$109.5 billion for network television.

But the point is, online ads have plenty of room for growth. You can’t say the same for print advertising. You only have to look at revenues for the big media companies such as Southern Cross Media Group [ASX: SXL] to see how sales and profits have stagnated for the past five years.

So, yes, Facebook does “diminish the quality of thought”. And it is a vacuous, inane and shallow media. And the shares are likely to begin trading for an obscene premium over current profits. But…

It’s also a great company.

It’s the perfect example of how a free market gives consumers a service they didn’t know they wanted. Remember, when businesses such as Facebook (and just a year before it, MySpace) were created, there was no guarantee of success.

It took guts by the company’s owners and investors to put time and money on the line.

Today, Facebook is a success. And the share price will reflect that.

The only dilemma for potential investors is whether Facebook will follow Google’s lead and gain 588% in eight years. Or whether it will follow MySpace down the toilet (Ed note: News Corp paid USD$580 million for MySpace in 2005… and sold it for USD$35 million in 2011 for a 93.9% loss!)

As a punter, we like Facebook as a red hot gamble. You wouldn’t want to bet your retirement fund on it, because there’s little doubt to us the shares will either soar or slump.

Facebook is a high-risk punt. It isn’t a stock for investors. It’s a stock for crazy speculators.

If that sounds like you… we’d say, go ahead, buy some.

Cheers.
Kris.

P.S. Facebook isn’t the only punt I recommend investors make in 2012. At an exclusive gathering of investors next month, I’ll explain which stocks to buy this year for maximum gains. You can reserve your seat to this event by clicking here…

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USDCHF traded in a narrow range between 0.9114 and 0.9249 for several days. The price action in the range could be treated as consolidation of downtrend from 0.9594. Key resistance is at 0.9350, as long as this level holds, downtrend could be expected to resume, and one more fall towards 0.8900 is still possible. However, a break above 0.9350 will indicate that the downward movement from 0.9594 had completed at 0.9114 already, then the following upward move could bring price back towards 0.9594 previous high.

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