Jim Rickards, Saudi Arabia, and the “Great Currency Shock of 2016”

What was Rickards pitching this week for his Currency Wars Alert?

By Travis Johnson, Stock Gumshoe, January 20, 2016

I’m absolutely sure that Jim Rickards knows a lot more about the global political economy and currency fluctuation than I do, so I’ll give you that point right up front.

That doesn’t necessarily mean he’s going to be able to make you a lot of money, or that the promises he uses to sell his trading service will come true.

Richards’ Currency Wars Alert and IMPACT System have been very, very heavily promoted in the past year or so by his publisher (Agora), and I haven’t written about him… so I guess it’s time to get around to it.

Why now? Well, partly because he’s had some time to be both right and wrong in his trade recommendations, so our readers who have tried the service out may be able to provide some feedback (is that you? Use the comment box at the bottom, please!) … and partly because his latest big sales push with a “live video event” earlier in the week promoted one specific “secret” trade, so there’s at least one teased idea of his that I can explain for you.

Generally, Rickards is predicting a US recession — caused by the Federal Reserve tightening during a time of weakness… but while that means he says he wouldn’t own US stocks right now, he says he does see opportunities to make money by buying options to leverage his insight into global currency trends.

The basic spiel for this next “currency shock” that he thinks you can profit from is about Saudi Arabia — he says that there have been two big “Currency Shocks” recently from overnight currency revaluations, the first one being the Swiss Franc’s decoupling from the Euro about a year ago (the second was the bump down in the Chinese Yuan, though that’s still underway and it wasn’t just a one-time thing like the Franc)…. and that the next one will be the Saudis removing their currency’s peg to the US Dollar, all of which are little salvos in the “currency war” that he says has been going on around the world since 2010.

This would cause a drop in the value of Saudi businesses, at least in US Dollar terms, so should bring down the value of the Saudi stock market… but, unfortunately, Rickards says there isn’t an easy and liquid way for individual investors to bet against the Saudi currency or stock market, so he has found what he thinks is a very good proxy: Turkey.

His argument, based on his analysis of the past and his expectations about how the dynamics will work in the region, is that a Saudi de-peg will cause the other governments in the region to also bring down the value of their currencies, and that Turkey — with lots of pressures on it from all sides — will be the largest and most liquid market to suffer as a result.

So he’s recommending a bet against Turkey’s market, and since he only recommends buying options in his newsletter/trading service, that means he’s buying puts on a Turkish ETF.

There’s really only one of those, particularly if you want options and liquidity, and that’s the iShares Turkey index ETF, ticker TUR.

Turkey’s market is cheap by most standard valuation metrics (PE of 8, for example), but has also fallen by more than 40% over the past year and is obviously a risky market for geopolitical reasons — if you shoot down a Russian jet and have ISIS and independence-seeking Kurds on your doorstep, let alone a flood of refugees and a perilous connection to the Euro, risks are high and unpredictable. So it makes sense that it’s cheap. Turkey is going to have a slowing economy for quite a while thanks partly to war and refugees cutting into tourism and, like many emerging markets, is beaten down.

Whether the Turkish market will fall further if the Saudi’s depeg their currency from the US Dollar, I have no idea.

The one Saudi Arabian ETF has fallen more or less in line with most other emerging markets ETFs (including TUR), but it has only existed for a couple months (and has no options trading, in case you’re wondering). I also checked with a couple of my brokers, and there are no shares of the Saudi ETF available to sell short… so, surprise surprise, lots of other folks have figured out that the Saudi economy is going to pay a price for their intentional flooding of the global oil market and the crash in oil prices. (That doesn’t necessarily mean a lot of people are shorting the ETF, it has very low liquidity and very few shares outstanding so it might just be too small to have many shares available to short — but I would assume that there’s far more demand to short that ETF now than there is to go long the ETF, it has fallen 20% this year and a bit more than that since it was launched last Fall.)

So, assuming you believe Rickards is right that the Saudi currency is going to be depegged from the dollar “any day now,” what would the investment be? He continually says that it could happen tomorrow, which is why you need to get in on this trade immediately (you won’t be able to after the depeg has alraady happened), but also allows as to how there’s no real certainty, he says it might take them two months or six months to get to that point. So I’m going to assume that he would want to have as much flexibility as possible, which means buying options out more than just a month or two… which probably means he would want to recommend buying puts on the TUR with an August 19 expiration, giving his prediction eight months to come true (there’s also a May 20 expiration, which he might be using as well — February seems way too early, that gives only four weeks to be “right”).

If you’re convinced, as Rickards is, that this will happen, then you would buy puts on the TUR — that means you’re entering into a contract that gives you the option (but not the obligation, that’s why they’re called options — buying them gives you an option, selling them gives you an obligation) to sell TUR at a certain price before the expiration date.

If you haven’t traded options before, it’s not all that complicated — buying a put option means you want the right to sell a stock at a set price in the future, you would buy that option because you think the stock (or ETF, in this case) will be below that price by the time the contract expires. Buying call options is just the reverse, you want the right to buy at a set price in the future, because you think the stock will be above that price. Strike prices that are ‘in the money’ are contracts that would be worth something today — ie, since TUR is at $34 now, the February put option with a $40 strike price is “in the money” and worth at least $6, since you could buy that option now and exercise it to sell TUR at $40. It’s actually trading at about $7, which means someone’s willing to pay an additional dollar over the $6 as a bet that it will fall a bit more over the next month… and the month before February expirations represents not just possible upside, it’s also possible downside — if TUR rises to $36 over the next few weeks, maybe that option is only worth $3 or $4, or if it does rise to $40 the option is essentially worthless (if anyone can sell TUR for $40 because that’s the current market price, no one will want to pay extra for the privilege of doing so).

And you don’t have to own TUR shares to “sell” it at the expiration date, the option to force someone else to effectively buy TUR from you at a set price has value without you actually owning the underlying equity to begin with, you would probably just sell the option back to close the contract when it hits your profitability level (assuming you’re right about which direction the price goes), you don’t actually have to buy TUR and then sell it to someone. Most options are not actually exercised, they’re just bought and sold to open and close the contracts.

So which combination of expiration date and strike price might Rickards be recommending? Well, as I look at them I don’t see many that are particularly compelling in terms of their trading volume (the number of contracts that have been traded today) or open interest (the number of contracts that currently exist), but there are a few possibilities…

May expiration:
May $35 puts (TUR160520P00035000) — open interest over 4,500 contracts, current price about $5
May $39 puts (TUR160520P00039000) — open interest over 4,000 contracts, current price about $7

August expiration:
August $32 puts (TUR160819P00032000) — open interest over 5,000 contracts, current price about $5

I don’t know what the trading volume might have been on those contracts on the day Rickards made his recommendation — not sure what day that was, frankly, but his big live video presentation that I watched which touted this pick, and which drove a lot of questions our way, was on Monday night this week (and he was apparently presenting from his house near the French King Rock here in Western MA, which is just a few miles a way from me — maybe I should go knock on his door). Today the trading volume so far on the August $32 puts is over 500 contracts, and that’s more than 5X the volume of any other contract in the options chain for TUR, so I’ll guess that this is the current recommendation from Rickards.

[Correction: check the comments at the end, I failed to look at a second source for available contracts, and the pick was almost certainly actually the August $30 puts that weren’t quoted in the first place I checked, not the $32s — TUR160819P00030000 has open interest around 7,000 contracts, huge volume of 4,000, priced around $4 currentlyR