Is Inflation Returning to Canada?

Inflation comes from increases in the cost of labour, materials, production (overhead), shipping, as well as borrowing costs. The last factor is a big part of inflation since interest costs are embedded in practically every product or service created, and this cost must be passed on to consumers via inflation (price increases) or taxes.

The cost of labour has not been a big factor for many years due to stagnant wages and outsourcing of jobs to cheaper locales. Recently, there are movements to raise the minimum wage in many states of the United States and provinces of Canada. These wage increases would mean double digit increases of wages in a short span of time. Many of the lower paying jobs are paying minimum wage, so this effect will be significant. This effect will be tempered by automation and cutting of hours and benefits, but automation will mean large capital costs upfront and if hours are cut, the work has to get done by someone being paid a higher wage eventually. This translates into an inflation “bump” followed by an adjustment period for employers to find ways of regaining profitability after the initial wage shock.

On the materials side, commodity prices have been subdued since 2008, but there are signs that materials prices are coming back up. Energy prices have hit multi-year highs for crude oil. Base metals are beginning to more higher as well as agriculture and foodstuffs. The costs of shipping these goods have also been in the tank for about 10 years but the shipping prices are also making a comeback as evidenced by the Baltic Dry index. The CPI (Consumer Price Index) numbers have risen slightly but are not showing signs of persistence yet. The PPI (Producer Price Index) numbers however, are beginning to make larger increases.

On the interest rate front, the Federal Reserve and Bank of Canada are both raising interest rates slowly. Their actions are relatively benign in themselves, but the bond market sets the longer term interest rates. The 10 year Treasury curve is on an uptrend, which is a sign of higher rates to come as well. Aside from higher consumer debt costs, there is also the issue of higher corporate debt and government debt payments. All of these forms of debt will translate into higher prices for private and public services since virtually every government and large corporation has debt. Government debt translates into higher taxes, and corporate debt used to buy back shares and invest in new capital will translate into higher prices. This may become a self-fulfilling prophecy, as higher debt costs mean higher prices, and higher prices will mean higher input prices for labour and materials, which means higher inflation readings, which means higher interest rates, and so on.

Adding these components together, inflation may be coming back to Canada which will mean a different landscape from the last 10 years. It remains to be seen whether these early signals are a manifestation of a larger trend or a false alarm. There have been indicators in the past pointing to higher inflation that did not materialize.


Is Bitcoin The De Facto Reserve Cryptocurrency?

What is a reserve currency? This is the currency in which all other currencies are standardized against, and this measure is used for global trade, asset valuation and account settlement. The current reserve currency is the U.S. dollar since it was the strongest currency after World War 2. The strength of the currency was based on its trade position, political influence, military might, resources available and liquidity / recognition in the investment world.

In the cryptocurrency world, Bitcoin serves this function as other cryptocurrencies are converted into Bitcoin to access most exchanges. Since Bitcoin has the brand recognition of being the first known cryptocurrency, it has the advantage of breaking milestones first. Bitcoin was the largest cryptocurrency by market cap at the time of writing (January 2018), the first coin to be created in 2009 and the first currency to be utilized for futures trading around the world. Bitcoin is also the first decentralized currency in recent time, as there have been digital and electronic currencies created before and after Bitcoin that are not decentralized.

Do all of these “firsts” mean that Bitcoin can be called a reserve cryptocurrency? The short answer is not really, but treating Bitcoin as a reserve currency is very educational in showing its role in the alternate coin space. People say that Bitcoin has no value, its earnings are not measurable and therefore it is a Ponzi scheme or a fraud. The key to Bitcoin versus other coins is the access that it has to exchanges, fiat currencies and payment systems. It is too early to tell whether Bitcoin will retain this status as an access currency, or whether it will be replaced by a coin with better technology, marketing or usefulness.

Some alternate coins can have value derived from what uses they have and how much money they can save in business dealings – like smart contracts, cheaper payment systems or making processes more efficient. The savings translates into value by needing to use the coin or its network in order to achieve the savings. An example would be if you use a paper based accounting system which costs $5 to collect money from each customer – whereas an online solution might cost $2 per customer. In order to realize the $3 savings, you would need to have access to the internet, which means the internet provider may obtain the savings as their profit. Multiply $3 per person by 1 million customers and you get $3 million in value. In the case of a cryptocurrency, you would divide this value created by the amount of coins available, and you would get a price per coin. If there are 500,000 coins in supply, this translates into a value of $6 per coin.

How does this relate into a reserve cryptocurrency? For all of these other coins that exist, access to them will be made possible by using Bitcoin. Therefore the value that all of these coins create will be reflected in the trading volume of bitcoins. Does this make any sense? In the case of a reserve currency, even if 2 countries engage in trade that has nothing to do with this currency, they have to use the reserve currency to settle their trade. If South Africa is buying oil from Iran, they would do this deal in US dollars even though the US is not involved in it. If you were to issue a coin that buys and sells ebooks, it would be translated into Bitcoin for the coin to be useful for the masses.

Time will tell whether Bitcoin will keep the role of reserve cryptocurrency in the future, but in the present, it seems to be playing out.

The Stages of a Market Mania

What is a mania? It is defined as mental illness characterized by great excitement, euphoria, delusions and overactivity. In investing, this translates into investment decisions being driven by fear and greed without being tempered with analysis, reason or balance of risk and reward outcomes. The mania is usually running parallel with the business development of the product, but timing can sometimes run askew.

The late 90’s technology .com boom and today’s cryptocurrency boom are two examples of how a mania operates in real time. These two events will be highlighted with each stage in this article.

The Idea Stage

The first stage of a mania starts out with a great idea. The idea is not known to many people yet, but the potential for profits are huge. This is usually translated as unlimited profit, since “something like this has never been done before”. The internet was one such case. People using the paper systems of the time were skeptical as “how can the internet replace such a familiar and entrenched system?” The backbone of the idea begins to get built. This translated into the modems, servers, software and web sites needed to get the idea into something tangible. Investments in the idea stage start off lackluster and made by people “in the know”. In the case, it may be the visionaries and people working on the project.

In the cryptocurrency world, the same question is being asked: How can a piece of crypto code replace our monetary system, contract system and payment systems?

The Possibilities

The first web sites were crude, limited, slow and annoying. The skeptics would look at the words “information superhighway” that the visionaries were spouting and saying “how can this really be that useful?” The forgotten element here is that ideas start out at their worst, and then evolve into something better and better. This sometimes happens due to better technology, more scale and cheaper costs, better applications for the product in question, or more familiarity with the product combined with great marketing. On the investment side, the early adopters are getting in, but there is no euphoria and astronomical returns yet. In some cases, investments have made decent returns, but not enough to sway the masses into jumping in. This is analogous to the slow internet connections of the 1990’s, internet sites crashing or information being incorrect on search engines. In the cryptocurrency world, it is being witnessed by high mining costs for coins, slow transaction times and hacking or theft of accounts.

The Acceleration

Word starts to get out that this internet and “.com” is the hot new thing. The products and tangibility is being constructed, but due to the massive scale involved, the cost and time expended would be massive before everyone is using it. The investment aspect of the equation starts to get ahead of the business development since markets discount the potential of a business with the price of the investment. The euphoria is starting to materialize, but only among the early adopters. This is happening in the cryptocurrency world with the explosion of new “altcoins”, and the large media press that the space is getting.

The Euphoria

This stage is dominated by the parabolic returns and potential that the internet offers. Not much thought is given to the implementation or problems because “the returns are huge nd I don’y want to miss out”. The words “irrational exuberance” and “mania” begin to become common as people are buying due to sheer greed. Downside risks and negativity and largely ignored. Symptoms of the mania include: Any company having .com in its name is red hot, analysis is thrown out the window in favour of optics, the investment knowledge is getting less and less apparent among new entrants, expectations for 10 or 100 bagger returns are common and few people actually know how the product works or does not work. This has played out in the cryptocurrency world with the stellar returns of late 2017 and the incidents of company shares popping hundreds of percentage points by using “blockchain” in their name. There are also “reverse takeover offers” where shell companies that are listed on an exchange but are dormant have their names changed to something involving blockchain, and the shares are suddenly actively traded.

The Crash and Burn

The business scene for the new product is changing, but not nearly as quickly as the investment scene is changing. Eventually, a switch in mindset appears and a huge selling spree begins. Volatility is massive, and many “weak hands” and wiped out of the market. Suddenly, analysis is being used again to justify that these companies have no value or are “overvalued”. The fear spreads and prices accelerate downward. Companies who do not have earnings and who are surviving on hype and future prospects are blown out. The incidents of fraud and scams increasing to take advantage of the greed are exposed, causing more fear and selling off of securities. The businesses who have the money are quietly investing in the new product, but the rate of progress slows down because the new product is “an ugly word” unless the profits are demonstrated convincingly. This is starting to happen in the cryptocurrency world with the folding of lending schemes using cryptocurrencies and higher incidents of the theft of coins. Some of the marginal coins are crashing in value due to their speculative nature.

The Survivors

In this stage, the investment landscape is charred with stories of losses and bad experiences. Meanwhile, the great idea is coming into tangibility and for businesses that use it, it is a boom. It starts becoming implemented in day to day activities. The product starts to become the standard and the visionaries are quoted in saying that “the information superhighway” is real. The average user notices an improvement in the product and it starts mass adoption.  The businesses who had a real profit strategy take a hit during the crash and burn stage, but if they have the cash to survive, they make it to the next wave. This has not happened in the cryptocurrency world as of yet. The expected survivors are those that have a tangible business case and corporate backing – but it remains to be seen which companies and coins these will be.

The Next Wave – Business Catches Up to the Hype

In this stage, the new product is the standard and the profits are becoming obvious. The business case is now based on earnings and scale rather than the idea. A second investment wave appears starting with these survivors and extending to another early stage mania. The next stage was characterized by social media companies, search engines and online shopping which are all derivatives of the original product – the internet.

The Conclusion

Manias work in a pattern which plays out in a similar fashion over time. Once one recognizes the stages and the thinking process at each one, it becomes easier to understand what is going on and the investment decisions become clearer.

Is Bitcoin As Good As Gold?

Gold and Bitcoin have been used synonymously as safe havens and currencies. What is a safe haven? It is a place to park wealth or money when there is a high degree of uncertainty in the environment. It has to be something that everyone can believe in even if the current institutions, governments or players in the business game are not available. The wealth has to be kept safe in times of trouble. What are the risks to someone’s wealth? There is theft by robbery if it is a physical asset. There is damage by fire, flood or other elements. There is the legal issue in not being able to determine if the asset is really yours or not. There is access risk in that you may own the asset but may not be able to get your hands on it. You may own the asset but may not be able to use it due to some restriction. Who else do you have to rely on to be able to use your wealth – spending it, investing it or converting it into different units of measure (currencies)?

In cases like cash or currencies, you may have the asset and can freely use it, but it does not have value due to a systemic issue. There may be too many units of the currency such that using them would not purchase very much (hyperinflation). There is also devaluation – where a currency is arbitrarily devalued due to some economic or institution issue. Most of these issues come from too much debt and not enough assets to pay for them. A currency devaluation is like a partial or slow motion bankruptcy for a government or issuer. In a foreclosure scenario, the creditors (or users of the currency) would be getting a fraction of what the asset (or currency) was originally worth.

No Liability

One key aspect for both bitcoin and gold is that in creating either of them, there is no liability involved. National currencies are issued with interest attached, which means there is a liability to the issuer of the currency. The currencies due to being centralized can also be “delisted” or have their value altered, devalued or swapped for other currencies. With Bitcoin, there would have to be consensus among the players for this to happen. Gold is nature’s money, and since it was found, there is no one really in charge of how it works. Gold also has the history of being used as money for thousands of years in virtually every culture and society. Bitcoin does not have this reputation. The internet, technology and power grid are needed for Bitcoin to function, whereas gold just is. The value of gold is based on what it is being exchanged for. The value of Bitcoin is similar to buying a stock or a good: It is determined by what the buyer and seller agree it is worth.

Bitcoin Issues

Are there regulatory, institutional or systemic risks with Bitcoin? The answer is yes. What if a bunch of central banks or governments took over the Bitcoin issuance?  Would this not lead to control issues that could either stop the Bitcoin transactions or impair them? What if the justification was to stop terrorism or illegal activities? There are also technology issues like who controls the internet, the electrical energy involved in mining Bitcoins, or other issues in infrastructure (the electrical grid, the nuclear grid, the internet servers, the telecom companies etc.) Regulatory risks can also run the gamut from restricting who buys Bitcoins, how many can trade each day or perhaps issuing trillions of units of fiat currency and buying and selling Bitcoins with them which would cause convulsions in the prices of the unit, leading to mistrust and lack of use? Gold does not have these shortcomings. Once it is mined, it cannot get destroyed. It is not reliant on technology, infrastructure or any institution to make it valid. Since it is small and portable, it can be taken anywhere and still be useful without any other mechanism needed. The prevailing institutions can be changed many times and gold will still be valuable.

Gold is a classic safe haven because it does not need institutions to exist, is very hard to forge, cannot be destroyed by the elements and does not have issues of access or restrictions. Physical theft and restriction may be factors, but gold fares better than currencies or digital currencies at this point in time.

How Can Inheriting “Life Changing Assets” Affect Your Heirs?

Most people don’t consider what will happen after death. Why? Because it is scary. People don’t want to think about what will happen when they are not around and cannot influence whatever is going on in their environment. For this reason, many people do not have a will, funeral arrangements or a plan as to what will happen to their estate.

Aside from the tax consequences and keeping files organized, what else should you consider in terms of estate planning? There is a large personal element to estate planning because the effects of inheriting assets can be significant. This article focuses on how a large inheritance can affect someone receiving it.

Life Changing Assets

Does it matter what someone receives or how much it is worth as an inheritance? People think there are no consequences to inheriting large sums of money, businesses or real estate. This is not true! Larger assets or “complex” assets – things that need to be looked after – take energy and time to be managed, and some degree of knowledge. You can hire someone to do almost anything, but then there is the element of trust and fairness if there is more than one person who will inherit the asset. The ability to make decisions and have a degree of control is very important to a lot of people, and having to share this with another person (including spouses or family members) is challenging.

There is also the effect that comes from the inevitable changes that a business or sum of money can bring with it. Why? These things can be a permanent lifestyle changer. Inheriting a large sum of money is liked forced retirement. Would you like to be forced into having fun? Yes, it can be argued that you will continue your lifestyle as it was prior to the inheritance, but this rarely happens because it takes a lot of discipline. One of the key characteristics of something that is fun is that you have chosen to do it. If you have to run a business or a stock portfolio and you know nothing about it and do not like doing it, this can be a problem.

Quotations from the 1%

Looking at the quotations below gives you an idea of the issues involved in inheriting “life changing assets”.

“The first generation builds wealth, the second generation keeps the wealth, and the third generation spends the wealth. The fourth generation would have to start over again.”

“Leaving enough of an inheritance for someone to do something, but not to do nothing.”

“With more money comes more headaches.”

“You will have to spend as much time keeping the money as you did creating it.”

“You will not get rich working for someone else.”

“Owning things is not as wonderful as people think. The real symbol of power is how much control you have over these things. From a tax and estate perspective, owning things is quite a burden.”

“You don’t own things. The things own you.”

“Hold your friends close, and your enemies closer.”

Running a business or inheriting a large sum of money is a lifestyle. It is not just how much you can spend and what image to uphold, it is also how you can preserve your wealth, what legacy you will leave behind, who you will trust and how to make sure you are not a target of thieves, mostly from people closest to you. People are affected by large inheritances not just by what happens internally to them, but how other people perceive them. Evidence of this comes from big lottery winners. If you are not ready for a large lottery win, the typical outcomes are greed followed by bankruptcy, alienation due to jealousy, a total reinvention of one’s lifestyle and relationships, or perhaps a giant ego trip. Like most things, you need to be prepared to know what to do when a large asset arrives.

To Whom Do You Leave Your Estate?

Do you want to bypass family altogether and leave things to friends, charities, institutions etc.? There is a money and tax component to this decision, but the real driver would be: What is the purpose of including such and such a person or organization in my estate? There is typically something personal or special that is behind this type of decision. If someone is not inheriting something, why would that be? The consequences of both of these decisions will have lasting effects. Keeping things fair and justifying your decision will likely be the key to keeping your soul at rest when the time comes. Visualizing who will actually manage the assets and for what purpose may be helpful in determining how to lay out the estate.

Is Bitcoin Money?

What is money? Money is a measurement unit for the purpose of exchange. Money is used for valuation of goods, settling debts, accounting for work performed, and standardizing the measurement of production. Money has to be divisible, portable, stable in value, easy to obtain, durable over time and must be trusted by all parties using it. Imagine money that is too large to divide into pieces, heavy to carry, spoils after 2 days, gets damaged easily or can be eaten by animals? If these are the characteristics of the currency, it would not be that useful and many business deals would not happen.

The most important element of money is trust. If you work for someone and you are not sure if you will get paid, would you do the work? If you did the work, and you got paid in something that was not accepted in many places, is it a valid payment? The economy and money system is built on trust, and it can be broken by a lack of trust by the majority of people. A run on a bank is a classic example of people losing trust in a bank and it going bankrupt shortly thereafter. Trust is also the pinnacle of trade and business deals. It you don’t believe the person whom you are doing an exchange with is trustworthy, the deal would not be initiated. Privacy is an element of trust. If every deal you made was broadcasted in the public realm, a portion of trust would be lost. Someone may undercut (steal) your business deal or rob you of the proceeds after the deal is done. The best security is achieved through privacy. If someone knows you have made a lot of money, they will find a way to steal it from you if that is their intention.

In the case of bitcoin, does it function as money? It is portable, easily divisible, can be used to value assets and settle debts. Is the value stable? Since the price of Bitcoin moves around a lot versus other currencies, the answer is likely no. If you are trying to buy a basket of apples and are paying for them in Bitcoin, those apples can double in price in a week, then go down 30% the next week and then double in price shortly thereafter. If every transaction was this volatile, you would not be able to buy many goods and know how much you can spend. The same thing would happen with business deals. The price of all of the components would fluctuate wildly and create a lot of issues in making deals because the costs and revenues would vary too much.

Is Bitcoin trustworthy? Trust can be viewed in many ways. In the traditional money systems, the value of a currency is being eroded by inflation. This makes them unstable over the long term because they are losing purchasing power over time. Who is controlling this inflation? One school of thought blames it on higher labour, material and overhead costs over time – production inputs for business. Another school of thought says that inflation is a monetary phenomenon, which means that whoever issues the money is issuing more money than the goods being produced. Is inflation a legitimate characteristic of money or is it a slow theft over time?

If you don’t trust how the money system works, you may place more trust in Bitcoin since it is decentralized. The problem with decentralized systems is: Who will cover for fraud, scams or bad behaviour? The regulator or central authority acts as the referee to keep the game clean. If the referee is bribed or is biased however, suddenly the trust is lost and the game might as well be played without a referee if the players themselves are honest. If your bitcoin wallet is lost or your passwords lost, you will not be able to access your bitcoins either.

Other ways trust can be questioned include having limited access to money (capital controls or system malfunction if digital currency), having to give much of your money away to a third party (taxation, organized crime or perhaps coin miners and exchange operators), counterfeit money (physical or digital), identity theft or loss of a confidence in an issuer (bankruptcy).

Bitcoin is a contender to be a currency, but stability of price and trust for the average person has not been established yet.


Why Is the Blockchain Technology Important?

Let’s say that a new technology is developed that could allow many parties to transact a real estate deal. The parties get together and complete the details about timing, special circumstances and financing. How will these parties know they can trust each other? They would have to verify their agreement with third parties – banks, legal teams, government registration and so on. This brings them back to square one in terms of using the technology to save costs. In the next stage, the third parties are now invited to join the real estate deal and provide their input while the transaction is being created in real time. This reduces the role of the middleman significantly. If the deal is this transparent, the middleman can even be eliminated in some cases. The lawyers are there to prevent miscommunication and lawsuits. If the terms are disclosed upfront, these risks are greatly reduced. If the financing arrangements are secured upfront, it will be known in advance that the deal will be paid for and the parties will honour their payments. This brings us to the last stage of the example. If the terms of the deal and the arrangements have been completed, how will the deal be paid for? The unit of measure would be a currency issued by a central bank, which means dealing with the banks once again. Should this happen, the banks would not allow these deals to be completed without some sort of due diligence on their end and this would imply costs and delays. Is the technology that useful in creating efficiency up to this point? It is not likely. What is the solution? Create a digital currency that is not only just as transparent as the deal itself, but is in fact part of the terms of the deal. If this currency is interchangeable with currencies issued by central banks, the only requirement remaining is to convert the digital currency into a well-known currency like the Canadian dollar or the U.S. dollar which can be done at any time.

The technology being alluded to in the example is the blockchain technology. Trade is the backbone of the economy. A key reason why money exists is for the purpose of trade. Trade constitutes a large percentage of activity, production and taxes for various regions. Any savings in this area that can be applied across the world would be very significant. As an example, look at the idea of free trade. Prior to free trade, countries would import and export with other countries, but they had a tax system that would tax imports to restrict the effect that foreign goods had on the local country. After free trade, these taxes were eliminated and many more goods were produced. Even a small change in trade rules had a large effect on the world’s commerce. The word trade can be broken down into more specific areas like shipping, real estate, import/export and infrastructure and it is more obvious how lucrative the blockchain is if it can save even a small percentage of costs in these areas.