POUND TAKES LEAD OVER AUSSIE $ IN RACE TO BOTTOM

The GBP (Great Britain Pound) has jumped in front of the AU$, in the race to the bottom. The fall of the AU$ was arrested by the cut in AU short rates from 7.25% to 7%. The BOE continues to resist moving rates down and the GBP continues to fall. Since July 23, the GBP has fallen from 215 to 192 against the Japanese Yen (JPY). Since August 8, it has fallen from 2.05 to 1.909 against the Canadian Dollar (CAD). Since August 12, it has fallen from 1.28 to 1.23 against the Euro. Against the US Dollar, the Pound reached 2.000 on July 15 and has since fallen to 1.772!

One can look at respective yield curves to see the reason for the fall.

Japan Curve
6-months .97%
5-year 1.01%
10-year 1.46%
30-year 2.29%

US Curve
6-month 3.1%
5-year 3.0%
10-year 3.74%
30-year 4.36%

Euro Curve
6 months 5.25%
5-year 4.03%
10-year 4.14%
30-year 4.54%

GB Curve
6-months 5.75%
5-year 4.4%
10-year 4.5%
20-year 4.4%

Note the high 6 month rate in GB. The English really have their foot on the brakes. They are braking so hard that the 20-year rate is lower than the 10-year rate and equal to the 5-year rate. EU central bankers are standing on the brakes too, but not hard enough to push the 30-year rate down to the 10-year. America entered its slow down long before England. The US brakes were locked at 5.25% from June 06 until August 07. The US has released but even now the US Libor 6 month rate is about equal to our 5 year rate. Treasury bonds in the US continue to rally. Junk bond rates are still very high, but about to fall.

Like an 18 wheel truck coming down the mountain, the brakes are starting to give off a putrid odor. The US truck has already hit the foot hill slopes and has let up, but the GB truck is still high on the mountain and the brakes are getting hot. GB needs to let up soon or their economic truck will stop in the middle of the highway and cause multiple wrecks.

Data from places like China is hard to get, but the reserve rate in China is doing the same work as the short rate in GB. China's economic truck has been speeding down the tallest of mountains for a long time. The bank reserve rate has gone from something like 7% to 16% in the past 18 months or so (I have a chart saved somewhere). China growth is going to slow from the 11 to 12% annual rate to perhaps as low as the 4 to 6% range.

The amount of fuel being used by these economic trucks is falling rapidly. Going down hill, they will certainly try to keep their motors running, but, even after they release the brakes, they will use less fuel for a long while. The US economy grew at 3.3% last quarter, but America has gone from using 22 million barrels of oil per day to less than 20 million per day.

One way the analogy to trucks coming down does not hold is that the harder the GB brakes, the faster the GBP falls. The danger in braking too hard is actually of speeding the fall. While Great Britain does not want to brake too hard, it is coming close. Housing construction in England is falling faster than in the US and industrial production has slowed and unemployment is on the rise.

Until there is a "wold wide weighted average release", bond rates and demand for resources will continue to fall. A bump up in the polls by McCain will bring rates down even faster (the veto pen threatens the big spending ways of congress). Prospects of a drilling bill in Congress will also bring rates down more. Investors should remember that the market runs well in front of the economic cycle. Big money investors will buy the rumor and sell the news. By the time the drilling moratorium is suspended, the bulk of the decline in oil prices and bond rates will be over.

THE BIG INTERNATIONAL RACE

The parties to the big international deal race is on the home stretch. Sarkozy of France is the first Western head of state to visit Syria in five years. US negotiators will meet with Sarkozy, Assad (of Syria) and Erdogan (of Turkey), in Syria, today and tomorrow. Top level talks imply that negotiations are down to the nitty-gritty. The leaked details include the probability of Syrian assistance in controlling Hezbollah in Lebanon, the return of the Golan Heights to Syria, pipelines and oil refineries in Syria and trade deals between the EU and Syria.

Russia just canceled a meeting about Iran's nuclear power plant. Russia took over the construction of this plant from Germany in 1994. Russia scheduled it for completion in 2000. The latest delay, once again, implies the cooperation of Russia in bringing the negotiations with Iran to a conclusion. On the other hand, the Jerusalem Post reports that high level US negotiators are in direct talks with Iran in regard to nuclear power. It is possible that Russia suspended talks with Iran pending the outcome of talks between the US and Iran.

After Russia invaded Georgia and after the EU and the US mounted strong protest, Russia countered with negotiations with Syria and Iran. The early rumor was that Russia has agreed to sell sophisticated missiles to both countries. Russia, Iran and Syria have all vehemently denied the reports. It is clear that these nations have a lot at stake in seeing the conclusion of negotiations.

Russia (Gasprov) has agreed to take over the French (Total) contract to help develop a huge natural gas field in Iran. Should this situation hold it will be a result of the negotiations. It is very possible that Iran insisted on having Chinese and Russian participation as opposed to relying on the west. Iraq and China are working on a major agreement to develop Iraqi fields. Iraq is showing great independence from the USA. It is clear that negotiations with Iran are intertwined with negotiations with Iran. It is good news that China and Russia will be involved in the development of these resources. The skepticism about the purpose of the US goes down as it becomes reality that the oil in Iraq and Iran belong to those countries and not the USA.

Robert Gates is ready to recommend troop withdrawals to President Bush. General Petraeus is ready, progress has been made. The latest development is that the US will turn the administration of the Sons of Iraq (SOI) program over to the Iraqi government, on a trial basis. The results of this trial will say a lot about the Iraqi government. Is the predominantly Shiite government ready and willing to fairly administer programs for the benefit of Sunnis? America must maintain a presence in Iraq until the government demonstrates the ability to work across the isles between the Kurds, Sunnies and Shiites. The risk of civil war must be reduced.

IRAN IS GETTING ITS WISH

Even while Iranians suffer through rolling electricity blackouts (the typical city loses power about 2 hours per night) and through 2 hour lines to buy gasoline, Iran is seeing some of its wishes come true. In negotiations, Iran has expressed its desire to be a "major international player". In recent weeks, there has been a significant rise in the number of international deals developing between Iran and the rest of the world. These deals include small and large countries in Latin America and Africa. Other deals with Japan, China, Russia, Norway and others have been negotiated some time ago or are under consideration.

If you have watched the price of Gold lately, you know that there are powerful forces at work. The risk of WWIII is abating, the risk of hyper inflation is abating or both. As we have seen time and again, in the modern world, we try to fight wars with economic tools. Reagan won the Cold War with Russia without firing a shot. Bush was not able to be so patient because terrorist brought the fight to the US and the rest of the world. Still, it is absolutely incredible that the US has fought a successful war in Iraq with a loss of only 4,200 US personnel. I pray for all families who have sacrificed for the good of their country.

Iran is getting its wish to be a world player, but the US and the rest of the world are seeing a diminishing threat from Islamic Extremist. Gates and Petraeus will recommend that some of the troops withdrawn from Iraq go to Afghanistan. It is a blessing that the Pakistanis are shouldering the bulk of the fighting in the high mountains. The stationing of the USS Ronald Reagan off the coast of Somalia is putting psychological pressure on the fighting there. One of the key Somalian al Qaeda leaders was taken out recently.

The words of Obama will not end the war on terror. Words backed up by the combination of economic and military pressure will.

After Gold peaked at $825 in 1980, it fell to $298 by late 82. It bounced to $497 in 1987 before hitting the modern low of $253 in 1999. This time, it reached 1025 in March 2008 before making the turn, it traded at $808 this morning. By the time Gold hit bottom, users of Gold such as INTC were raking in tons of gold.

SELL GOLD, OIL AND COMMODITIES -- BUY BONDS, FINANCIALS AND CONSUMER CYCLICALS. (MOST SHOULD SKIP THE BONDS AND GO DIRECTLY TO BANKS AND DURABLE CONSUMER PRODUCT COMPANIES).