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1. Agcapita Macro Update
November 2009
1

2. Summary
By virtue of more than a decade of low and often negative real interest
rates coupled with increasingly rapid monetary growth, the economies of
the developed world have been increasingly skewed towards consumption
rather than production. Unfortunately, consumption is the destruction
of capital – by definition it represents the diversion of resources from
productive purposes. Both the private and public sectors have been
indulging in this protracted debt fuelled consumption spree. Savings rates
have plunged and fiscal deficits have expanded. Each year it requires a
larger and larger amount of additional debt to create each additional unit
of GDP – on the order of $4 of incremental debt to $1 of incremental GDP.
Why? Because on average, we are incurring debts that do not create
offsetting cash generating assets. At some point governments in the
increasingly indebted, consumption oriented and aging economies of the
west are going to be faced with an unpalatable set of options:
– Tax
– Shrink Contents
– Default 3 Monetary Authorities Ignoring
– Inflate Asset Inflation Again?
3 Banks’ Duration Challenge
Not surprisingly, the governments of the world seem intent on continuing
to inflate as they desperately force feed the markets consumption-oriented 3 US Federal Duration Challenge
programs in place of stagnant private sector demand. An interesting fact is 4 US Federal Outlays
that for the last decade in the US, private sector job growth has been absent 4 Do Gold Prices Signal Inflation?
and all net job growth has been in government or state dependent sectors.
We are facing massive “political inflation” as well as monetary inflation. 6 30 Years of Western
Consumption
The problem arises that all state spending requires that capital is first taken 6 Money Supply Growth =
out of the hands of the private sector via taxes, borrowing or inflation, then Inflation
deployed in typically loss-making (capital destroying) activities. The net 6 Demographics are Destiny
result is that the growing government spending and deficits are setting the
stage for much greater problems in the future. Rather than allowing private 7 Just How Fast is the Global
sector savings to replenish the pool of capital our governments are going Money Supply Growing?
further into debt to finance policies that at best can only serve to pull future 8 Quick News
consumption into the present.
1

3. To reiterate, what western economies need is more capital, not more
consumption. There is no way to create capital other than through savings
and hard work – a message to which our governments are reluctant to
listen. Printing money seems alluringly easy at first, but it does not create
capital, and worse, the inflation it creates ultimately causes long lasting
harm to the production structure of the economy.
I believe that in the current expansionary monetary environment there are
several important themes investors should consider:
1) Reduced Returns on Investments Tied to Developed Market Growth:
If current trends continue I believe the western economies could be
entering a period of low real growth if not outright stagnation as debt
levels are reduced and the capital base rebuilt. If this is the case,
investments that depend on developed market growth will be exposed
to a reduced demand profile and therefore reduced returns on the
whole.
2) Inflation: Real yield will continue to be scarce as governments seek
to suppress interest rates at the expense of exchange rates. Arguably
in such an environment inflation hedging investments should generate
superior returns.
3) Higher Returns on Investments Tied to Developing Market Growth:
While the developed markets seem poised for sub-trend growth, this
does not appears to be the case for the developing markets – China
in particular. With high savings rates, large domestic pools of capital
and favorable demographics these markets appear to be in a period
of sustained expansion. Of course for the foreseeable future, direct
emerging market investments will continue to be volatile and carry
significant and difficult to quantify political risk. We believe, therefore,
that the better way to invest in emerging market growth is to invest in
the things that emerging markets require – particularly commodities –
but where the investment premise is expressed in politically stable parts
of the world. For example, energy and agriculture in western Canada.
Regards
Stephen Johnston – Partner
2

4. Global Macro Update
Monetary authorities ignoring asset
inflation again?
The worlds monetary authorities are clearly ignoring “The average maturities of new debt issuance by
the rapid reflation in risky liquid assets and focussing Moody’s-rated banks around the world fell from
on CPI measures as their inflation yardsticks. The 7.2 years to 4.7 years over the last five years,”
net result will be a growing disconnect between according to the Financial Times - “the shortest
the speculative and real economies. This feels like average maturity on record. That means banks will
a replay of the residential real estate bubble, where face maturing debt of $10,000bn between now
ostensibly low consumer inflation measures allowed and the end of 2015, or $7,000bn by the end of
central banks to ignore massive asset price inflation. 2012, according to Moody’s.” It was the mismatch
Are we storing up another financial crisis as the between short-term financing and long-term loan
real and speculative economies seem to be rapidly portfolios that caused the banking system to collapse
diverging again? as underlying collateral values returned to historic
norms. If the banking system cannot roll its financing
Banks’ Duration Challenge requirements out to longer durations problems are
sure to re-surface as commercial real estate comes
The banking sector is facing a serious financing under pressure over the next 24 months.
challenge ahead. They need to borrow larger
amounts and at longer durations and they will be us feDeral Duration Challenge
competing with the US government to do so (see US
Federal Duration Challenge). The US government has an emerging duration
problem in its borrowings states Bob English of the
Precision Report, “A full 35% of the current Treasury
Chart 1: average Maturity of MooDys debt portfolio ($2.5 trillion) matures by the end of
rateD gloBal DeBt issuanCes FY2010 and must be rolled over, in addition to the
16.0 3,000,000
new debt that must be issued to cover the estimated
14.0 FY2010 deficit of $1.25 to $1.75 trillion.” Chris
2,500,000
Rupkey, economist at Bank of Tokyo-Mitsubishi
Average Maturity (Years)
Debt Issued (USD MIL)
12.0
2,000,000
10.0 states that “the budget deficit, while not expanding,
8.0 1,500,000
6.0
is still at levels unimaginable a few years ago,” …
1,000,000
4.0 “With receipts on the weak side, the Treasury will
2.0 500,000 have its work cut out for it when it comes to financing
0.0 0 the government’s flood of red ink” particularly at
1980
1981
1982
1983
1984
1985
1986
1987
1988
1989
1990
1991
1992
1993
1994
1995
1996
1997
1998
1999
2000
2001
2002
2003
2004
2005
2006
2007
2008
2009
longer durations.
Avg Maturity Per Year Face Amount of Wholesale Funding Issued
MTN share of Total Wholesale Funding System Average
Source: Moodys
3

5. Global Macro Update (continued)
us feDeral outlays
This chart from the St Lois Federal Reserve provides with Governor Mullins of what would happen if the
a glaring visualization of the magnitude of the Treasury sold a little gold in this market. There’s an
unfolding US government spending spree and the interesting question here because if the gold price
deficit it is fueling. The Federal deficit to GDP is at broke in that context, the thermometer would not
levels not seen since WWII and in absolute terms be just a measuring tool. It would basically affect
never seen before. the underlying psychology.” Greenspan was clearly
advocating direct intervention in the gold market
to reduce the traditional inflation signaling nature
Chart 2: feDeral net outlays versus of gold. If gold prices are indeed managed (as far
feDeral reCeiPts as possible) in a fashion akin to other exchange
3,600,000
rates, when gold is appreciating in a large number
3,200,000 of currencies is it time to pay attention? We believe
2,800,000 gold’s recent behavior is signalling an ongoing
(Millions of Dollars)
2,400,000 attempt at simultaneous competitive devaluation
1,600,000 (or global “race to the bottom”) as gold increases
1,200,000 in relative value against most currencies - evidence
800,00 that most governments are actively debasing their
400,00 currencies. Gold recently moved to 8-month highs
0
against the Euro, Swiss Franc and Canadian Dollar, it
-400,00
1895 1910 1925 1940 1955 1970 1985 2000 2015
also moved to news records versus the Indian Rupee
FYON ET FYFR
and Chinese Yuan.
Source: St. Louis Federal Reserve (shaded areas indicate
US recessions)
Chart 3: gloBal golD inDex
300
Do golD PriCes signal inflation? 275
250 Gold in top 10 currencies (weighted by GDP)
200 Gold in US Dollars
Think about this quote from Greenspan at the May 175
18, 1993 Fed meeting. The market price of gold 150
125
was increasing at the time and Greenspan, the then 100
Chairman of the Federal Reserve, said: “I have one 75
50
other issue I’d like to throw on the table. I hesitate 25
to do it, but let me tell you some of the issues that 0
-25
are involved here. If we are dealing with psychology, ‘00 ‘01 ‘02 ‘03 ‘04 ‘05 ‘06 ‘07 ‘08 ‘09
then the thermometers one uses to measure it have
Source: Bullion Vault
an effect. I was raising the question on the side
4

6. Global Macro Update (continued)
According to BullionVault.org, the price of gold
Chart 5: golD inflation aDjusteD PriCe
recently broke its previous high weighted against the
world’s top 10 currencies by GDP and further that
$2,000 an ounce
gold has beaten all other asset classes so far this
decade. Central banks have been net sellers of gold
for many years but this is changing.
1,500
Are global central banks, particularly those of the
emerging economies that run large US$ current 1,000
account surpluses beginning a move out of US$
reserves into gold? China, India and Russia all
certainly have been increasing their holdings. 500
unadjusted
‘75 ‘80 ‘85 ‘90 ‘95 ‘00 ‘05
Chart 4: Central Bank golD reserves
(thousanD tons) Source: Bloomberg, Bureau of Labor Statistics, World
Gold Council
30
Through Sept. 2009
28
Chart 6: golD reserves (tons, seP 2009)
26
United States 8,966
24 Germany 3,757
Int’l Monetary Fund* 3,326
Italy 2,703
22
France 2,695
China 1,162
20 Switzerland 1,147
‘00 ‘05 ‘09 Japan 843
* Adjusted to
Source: Globe and Mail Netherlands 675
reflect recent
Russia 627 sale of 220
India* 615 tones to India
European Central Bank 553 by the I.M.F.
Source: Bloomberg, Bureau of Labor Statistics, World
Gold Council
5

7. Global Macro Update (continued)
30 years of Western ConsuMPtion Money suPPly groWth = inflation
The consistent trend over the last three decades has Chart 8 shows US money of zero maturity (“MZM”).
been decreasing bond yields. MZM technically equals M2 plus all money market
funds, minus time deposits and in essence measures
the supply of financial assets redeemable at par on
Chart 7: us 30 year t-BonD yielD demand – a good reflection of overall US money
(nov 2009) supply. Do you see any deflation in this chart?
145
140
135
130
125
120
115
Constantly Decreasing Interest Rates
110
105 Chart 8: MZM Money stoCk
100
95
90
85 10,000
80
75
9,000
70 8,000
(Billions of Dollars)
65
7,000
60
6,000
55
5,000
50
4,000
45
3,000
40
2,000
35
1,000
0
30
1950 1960 1970 1980 1990 2000 2010
25 Source: St. Louis Federal Reserve (shaded areas indicate
81 82 83 84 85 86 87 88 89 90 91 92 93 94 95 96 97 98 99 00 01 02 03 04 05 06 07 08 09
US recessions)
Source: Stockcharts.com
DeMograPhiCs are Destiny
US interest rates have been decreasing by
approximately 1.0% every 4 years and as the price The 19th century belonged to the UK, the 20th century
of money or debt becomes less expensive more belonged to the US and it appears that the 21st
is consumed. The steady interest rate decline is century will belong to China. A consistent theme in
a product of a deliberate monetary policy that has the emergence of a new global power is a large and
driven consumption and on a larger scale driven growing pool of domestic savings with a focus on
asset prices as the financial sector intermediates investing in the capital base of the economy rather
increasingly profitable but risky speculative activities. than increasing consumption and a population of
What happens when this trend reverses? young workers.
6

8. Global Macro Update (continued)
The world’s western economies find themselves The US government is now in the position of
heavily in debt with deteriorating demographics. increasing its liabilities four times faster than its
It has been said that “demographics are destiny’. tax receipts. At some point governments in the
Unfortunately, our governments are attempting to fix increasingly indebted, consumption oriented and
our problems by accelerating the very policies that aging economies of the west are going to be faced
got us into this mess in the first place. with an unpalatable set of options:
– Tax - higher taxes are politically impractical
in the face of stagnant growth
Chart 9: us governMent oBligations – Shrink – reducing the size of government is
(trillions of us$) politically impractical in the face of large and
influential state sectors
Medicare – Default - possible but inflation, at least initially,
Social Column is much less noticeable
Trust Funds Total
Valuation Security A Total
Date Unfunded
A, B, D Unfunded US Debt
US Gov. – Inflate – printing money is almost invariably
Unfunded Obligations the preferred option for cash strapped
Obligations Obligations
Obligations
governments
2009 $15.1 $88.9 $104.0 $10.7 $114.7
2008 $13.6 $85.6 $99.2 $9.2 $108.4 The US Federal Reserve recently disclosed that it
2007 $13.6 $74.3 $87.9 $8.6 $96.5
purchased half of the newly issued US Treasuries
in the second quarter of this 2009, and of course it
2006 $13.4 $70.5 $83.9 $8.1 $92.0
made these purchases with newly printed money - it
2005 $11.1 $68.1 $79.2 $7.6 $86.8 appears “inflate” is the path that has been chosen.
2004 $10.4 $61.6 $72 $7 $79.0
Source: Sprott Asset Management just hoW fast is the gloBal Money
suPPly groWing?
The US federal funding gap is growing at rapid rate. According to Mike Hewitt at Dollardaze.org the global
Over the last 6 years: money supply (M0) continues to grow rapidly. M0 is
referred to as the monetary base, or narrow money
– Unfunded obligations increased by and is composed of notes and coins in circulation
approximately 50% from US$79 trillion and in bank vaults. M0 is the most conservative
to US$114.7 trillion; but measure of money supply growth. Interestingly
– Receipts increased by only approximately the largest currencies are growing at some of the
12%. most rapid rates showing that this is truly a global
phenomenon and not an artifact of just US actions.
7

9. billion in October from a year earlier, and corporate
Chart 10: y-o-y inCrease in M0 (us$ tax receipts last month were a negative $4.5 billion
equivalent as of august 2009) on the government’s books... Over the past week,
the Treasury auctioned a record $81 billion in its
quarterly sales of long-term debt. The Treasury’s
us$ us$ Per debt-management director... told a meeting of bond
Country %
Billions Capita market participants last week to anticipate another
US 10.50% $81 $268 year of government debt sales of $1.5 trillion to $2
trillion...”
EU 13.40% $126 $252
Australia 11.20% $4 $182 November 13 - Bloomberg (Bob Willis): “The trade
UK 8.40% $7 $111 deficit in the U.S. widened in September by the most
in a decade, reflecting rising demand for imported
Canada 6.80% $3 $96 oil and automobiles... The gap grew a larger-than-
S Korea 15.60% $4 $74 anticipated 18% to $36.5 billion, the highest level
since January... Imports climbed 5.8%, the most
Mexico 14.90% $5 $43
since March 1993, to $168.4 billion. The figures
China 11.50% $52 $39 reflected a $4.1 billion increase in imported oil as
Brazil 11.10% $5 $24 the cost of a barrel of crude climbed to the highest
level since October 2008 and volumes also rose...
India 18.60% $23 $20
Exports rose 2.9% to $132 billion, the most this
Source: Mike Hewitt Dollardaze.org, Agcapita estimates year, propelled by sales of civilian aircraft, industrial
machines and petroleum products.”
November 11 - Financial Times (Nicole Bullock):
quiCk neWs “Some of the same financial troubles that have
pushed California toward economic disaster are
November 12 - Bloomberg (Vincent Del Giudice):
wreaking havoc in nine other states and posing
“The U.S. budget deficit widened in October from
a threat to the nascent recovery, according to
a year earlier, reaching a record for that month...
research... ‘California’s fiscal problems are in a league
The excess of spending over revenue widened to
of their own,’ says Susan Urahn, managing director of
$176.4 billion last month, compared with a deficit
the Pew Center on the States... ‘but the Golden State
of $155.5 billion in the same month a year earlier...
is hardly alone.’ Arizona, Florida, Illinois, Michigan,
Spending for October declined 2.7% from the same
Nevada, New Jersey, Oregon, Rhode Island and
month a year earlier to $331.7 billion, and revenue
Wisconsin join California as the most troubled US
and other income fell 17.9% to $135.3 billion...
states... For residents, fiscal problems have meant
Individual income tax collections fell 29% to $61.2
8

10. higher taxes, layoffs of state workers, longer waits for
public services, more crowded classrooms and less
support for the poor.”
November 12 - Bloomberg (Darrell Preston): “U.S.
states, which are closing $250 billion of budget
deficits, will be forced to grapple with diminished
revenue until at least 2012, a survey of fiscal
officials found. The only thing that kept states from
‘draconian’ spending cuts has been $135 billion of
funding under President Barack Obama’s economic
stimulus package, according to a report from the
National Governors Associations and the National
Association of State Budget Officers. Revenue fell
7.5% in fiscal 2009, forcing states to close budget
gaps of $72.7 billion. ‘These are the worst numbers
we’ve ever seen,’ said Scott Pattison, executive
director of the budget directors group... ‘States have
been forced to lay off and furlough employees, raise
taxes, drain rainy day funds and sharply cut state
spending.’”
9

11. DisClaiMer:
The information, opinions, estimates, projections and other materials
contained herein are provided as of the date hereof and are subject to
change without notice. Some of the information, opinions, estimates,
projections and other materials contained herein have been obtained from
numerous sources and Agcapita Partners LP (“AGCAPITA”) and its affiliates
make every effort to ensure that the contents hereof have been compiled or
derived from sources believed to be reliable and to contain information and
opinions which are accurate and complete. However, neither AGCAPITA
nor its affiliates have independently verified or make any representation or
warranty, express or implied, in respect thereof, take no responsibility for
any errors and omissions which maybe contained herein or accept any
liability whatsoever for any loss arising from any use of or reliance on the
information, opinions, estimates, projections and other materials contained
herein whether relied upon by the recipient or user or any other third
party (including, without limitation, any customer of the recipient or user).
Information may be available to AGCAPITA and/or its affiliates that is not
reflected herein. The information, opinions, estimates, projections and other
materials contained herein are not to be construed as an offer to sell, a
solicitation for or an offer to buy, any products or services referenced herein
(including, without limitation, any commodities, securities or other financial
instruments), nor shall such information, opinions, estimates, projections and
other materials be considered as investment advice or as a recommendation
to enter into any transaction. Additional information is available by contacting
AGCAPITA or its relevant affiliate directly.
#400, 2424 4th street sW tel: +1.403.218.6506 www.agcapita.com
Calgary, alberta t2s 2t4 fax: +1.403.266.1541
Canada