Fear grips banking customers in Venezuela

The march towards nationalization continues unabated. Over the past year the oil, telecommunications, electric, and steel-making sectors have been impacted in President Chávez’s ceaseless drive towards a socialist paradise.

Now the crisis has spilled over to the financial sector as the government seized control of a large Spanish-owned bank, Banco de Venezuela. Nervous depositors lined up seeking reassurance, and many fear a run on the bank in the coming week. Not helping matters, the central Venezuelan bank has been vague in attempting to reassure depositors that the banking system was solid.

Nearly all the companies seized by the government have been run into the ground over a short period of time; productivity has dropped and the feeble earnings have not been reinvested back into the companies.

Venezuelan bonds fell Friday for a second day reflecting “fears over the possible collapse of several banks because of rules forcing them to sell $5 billion of complex securities called structured notes. Banks bought the notes last year at values tied to high black-market rates of the dollar, exposing some of them to huge losses after the local currency, the bolívar, strengthened this year.”

Attempts of individual banks to negotiate their way out of the crisis has not paid returns as the IMF and World Bank have effectively shut off the spigot after being threatened with expulsion by Mr. Chávez.

Even the high price of oil can not cover the cost of large scale programs in Venezuela beyond the next couple of years. Any significant drop in the price of oil will cause an immediate fiscal crisis. At 32%, Venezuela also is experiencing the highest inflation in Latin America. Food-based inflation is above 52%, a crushing level for most of the population. The fiscal crisis and high inflation levels can be directly linked to government policies. This has left the poorest portion of the population, which Chavez claimed would be helped by the government’s policies, in even greater despair.

Global Inflation: The New Crisis

A new monster has raised its ugly head to spook investors. Inflation is accelerating at a rapid pace providing policy makers with a new set of ulcers. Unfortunately basic antacid tablets will not cure the unsettled guts of national regulators.

The spike in inflation gives flashbacks to the dreaded 1970s with stagflation era. Many older investors do not enjoy reminiscing about interest rates above 14%, food rising in price each week, investors hoarding gold coins, and long gas lines. The dilemma is that all the statistics indicate that we are heading towards a scenario with run-away rising inflation worldwide.

Regulators have commented on rising inflation, raised interest rates in hopes of moderation, and are shocked to see the numbers running upward like an out-of-control train down the tracks. With rising commodity costs, pent up wage increase requirements, and tightening credit; there is not very much the regulators will be able to do to apply the brakes.

Certainly the news flow has not been encouraging, the ECB raised lending rates today amid record inflation, while U.S. Treasury Secretary Henry Paulson said inflation was becoming the top economic focus of many countries.

Inflation is a global phenomenon; impacting countries as diverse as Iran (with 26% inflation), the Philippines, Brazil, India, Russia, South Korea, Mexico, and Indonesia. No country is immune and no market is safe. Rapidly increasing inflation is the top concern in most nations, and the situation rapidly appears to be heading towards stagflation.

The immediate question becomes how should an investor prepare for this situation? The first emphasis is that a greater portion of your portfolio needs to be placed in commodities and precious metals, or in stocks focused on these industries. There is also a need to have your income oriented investments placed in vehicles which are inflation indexed in regards to interest rates. The other alternative is the keep cash in shorter term CDs as inflation and interest rates rise, allowing an investor to ride the rising curve.

Successful investing in a rising inflationary environment is difficult. Usually the stock market returns are dismal and many other investments are also victims of an inflationary spiral. Still it is best to keep your focus on the long term, and maintain a diversified portfolio of stocks that have wide economic moats. These companies invariably become stronger in downturns as competitors fall by the wayside.

Investors should pay close attention to news about inflation during the remainder of 2008 and start making appropriate adjustments to their portfolio to ride out the storm.

Riots in the Streets: Food

Well not quite yet… however a number of media pundits are urging people to stockpile food in order to get the best return on their money. According the CNBC, the price of eggs has risen 45% in the past few months; milk is up 33%, and cheese up over 15%. Coupled with the rising cost of fuel at the pump, most families are facing a double wammy.

The trends in food pricing are not going to change, but are likely to get worse. Most analysts are expecting even steeper price increases over the remainder of 2008. Economists would classify the situation as stagflation despite the government claiming the official inflation rate is below 3%. The situation is reminiscent of some of the previous Western economic calamities where inflation spun out of control.

Obviously the Fed policy is focused on propping up the markets instead of controlling inflation. As the money supply is increased by billions of dollars per week, the door is left open to out-of-control inflationary pressure.

The average bank account is yielding under a 4% return. As food prices climb weekly, the obvious better return is to hold food instead of cash. This has created a situation where many smart consumers are stockpiling food from their local wholesale club (Sam’s etc.) to get ahead of the curve.

The Wall Street Journal outlines how consumers are stocking up the pantry.