How to Profit from American Inflation?

Condor Advisers write: In addition to rapidly increasing political instability, growing pressure in the US Congress for the devaluation of the dollar will also undermine support for the greenback. Democrats, who now control Congress, have long lobbied for the revaluation of the yuan and yen against the dollar. Revaluation of the Chinese and Japanese currencies means devaluation of the dollar. The political pressure for dollar devaluation ratcheted higher late last month after the announcement by US auto maker Ford that it lost US$13 billion in 2006. This record loss surpassed the record loss posted by General Motors in 2005 of $11 billion. While some of these enormous losses can be pinned on very high health-care and retirement costs burdening US auto makers, much of the blame for these losses is landing squarely in Tokyo for its weak-yen policy. Backed by US manufacturers and their unionized employees, Democrats in Congress are also vilifying Beijing for its weak-yuan policy, which has helped push US imports from China to dizzying levels over the past several years. In the coming months, Democrats are likely to push strongly in Congress for legislation calling on China and Japan to take action to strengthen their currencies - at the dollar's expense.

Though inflation expectations in the United States are now heading higher, the Federal Reserve continues to resist pushing official interest rates higher for fear of provoking an economic recession and widespread losses among US banks, which are very vulnerable to mortgage defaults. Though economic growth in the US is widely expected to slow in 2007, US stock markets continue to move higher, making equities increasingly overvalued. Finally, as the prices for many dollar-denominated agricultural goods double in 2007, many of the world's central banks will encourage the appreciation of their own currencies in order to contain imported inflation. The only factor supporting the dollar is the misunderstood contention that interest-rate differentials favor the greenback. In nominal terms this is true. However, real yield differentials favor most other currencies, even the yen, against the dollar. Rising inflation in the US will further widen real yield differentials in favor of other currencies against the dollar during 2007. The dollar's swoon appears inevitable in the coming months. As the value of the dollar drops, US asset markets will also swoon. Against this background, precious-metal prices will head sharply higher as investors increasingly diversify out of dollar assets backed by weakening profit outlooks and falling real yields.

The shekel is strengthening as will Israeli stocks. Commodities will rise, shares of companies based on export to the US will stagnate. Those like Africa-Israel, based on Russian will continue rising. The yuan will have to rise, and with it the value of Chinese stocks, but expensive yuan is bad for Chinese exports.