Approach the Roadmap to Wealth

1. Why is the Federal Reserve so focused on the Consumer Price Index (CPI)?

  On July 9, Jerome Powell, the Chair of the U.S. Federal Reserve (Fed), appeared before Congress. 

He avoided making specific comments about the timing of a rate cut and remained cautious when discussing the schedule for rate cuts during his testimony before the Senate Banking Committee. 

He indicated that more positive indicators are needed to believe that the inflation rate can reach the Fed's target of 2%. 

Therefore, he stated that additional evidence of cooling inflation is necessary before considering a rate cut. 

In the aftermath of Powell's remarks, the yield on the U.S. 10-year Treasury note, a benchmark for market interest rates, hit 4.327% before closing at around 4.29%. 

The market expects two rate cuts of 0.25 percentage points each in September and December, but there is also a high possibility that no rate cuts will occur at all. 

As a result, the market is now focused on the U.S. Consumer Price Index (CPI) for June, which will be released this evening (the 11th).

  The Consumer Price Index (CPI) is an indicator that measures the price changes of goods and services purchased by consumers. 

The CPI, calculated by compiling the price changes of representative items purchased by consumers over a specific period, is used to assess inflation (price increases) and deflation (price decreases). 

Since the CPI announced on June 12, 2024, was 3.3% (for May), falling short of the Federal Reserve's target of 2%, 

Powell is concerned about inflation resulting from a rate cut. If the U.S. inflation rate slows as expected and records a low growth rate, expectations for a rate cut could spread quickly. 

However, if prices are reported higher than anticipated, investor sentiment could be significantly damaged, leading to a cooling job market and a potential economic recession. 

As inflationary pressures increase, the yield on the U.S. 10-year Treasury bond, which has been rising, currently stands at 4.2864% (as of July 11). 

The fact that the 10-year U.S. Treasury yield rose from 3.8% in 2023 to 4.28% provides an important economic signal. 

The rise in the 10-year Treasury yield indicates that market inflation expectations have increased. 

Unlike the inflation driven by employment, such as in services and housing, which is decreasing, it is likely that in the second half of the year, inflation in goods like energy and food will follow. 

Regardless of grain prices, a continued economic recession may result from rising oil prices, logistics costs, and labor costs. 

Therefore, countries like ours, Japan, Taiwan, and Germany, which have strong manufacturing sectors and a high export ratio, are focusing on high exchange rate policies, favoring a weaker currency to enhance export competitiveness. 

  Driven by the 'Magnificent Seven' tech companies, the U.S. dollar, also known as the 'King Dollar,' is on the rise, while almost every other country, except the United States, is maintaining a weak currency. 

In particular, the Japanese yen, which shifted to a weak yen under Abenomics in 2011, is now plunging into ultra-weak territory. 

Countries engaged in currency wars to devalue their currencies are neglecting fiscal soundness and are opting for easy economic stimulus measures through quantitative easing, flooding the market with money. 

They are passive in enhancing growth potential, quality competitiveness, and price competitiveness through currency devaluation and price stability. 

In reality, a low exchange rate policy must ensure that the pace of exchange rate decline does not outstrip the pace of corporate competitiveness improvement in order to sustain prosperity. 

If the exchange rate declines faster than corporate competitiveness improves, it could lead to a current account deficit. 

Moreover, a low exchange rate policy with high interest rates is a critical burden during elections. 

Therefore, those in power often adopt high exchange rate policies or interfere with central bank independence by adjusting policy interest rates. 

With the 2024 presidential election approaching in November, Trump is openly discussing the replacement of Federal Reserve Chairman Powell, whose term ends on February 5, 2026. 

Trump, who previously increased the fiscal deficit with tax cuts and large-scale infrastructure investments, differs from Powell, who is concerned about economic overheating and inflation. 

In the long term, election policies are unpleasant factors that drive inflation and price increases. 

The future direction of the won-dollar exchange rate, which stands at 1,379 won (as of July 11), is tied to the U.S. presidential election. 

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2. What Are the Risks to the Korean Economy Warned by the OECD?

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  The U.S. Consumer Price Index (CPI) for June, released on the evening of the 11th, decreased by 0.3% compared to May, standing at 3.0%. 

Since peaking at 9.1% in June 2022, the CPI growth rate has maintained a downward trend, remaining in the 3% range since June of last year. 

As the decline continues and the growth rate slows, the likelihood of a rate cut by the Federal Reserve in September increases significantly. 

The Bank of Korea is also expected to lower interest rates after September, closely monitoring trends in housing prices and household debt. 

The interest rates on home mortgage loans at KB Kookmin Bank, based on the new COFIX, range from 3.78% to 5.18%, while the mixed (hybrid) rates range from 3.13% to 4.53%. 

As buying sentiment for apartments revives and transactions increase, the rise in apartment prices in Seoul and the metropolitan area is accelerating. 

According to the Korea Real Estate Board, the weekly growth rate of apartment prices in Seoul is currently 0.24%, the highest in 5 years and 10 months. 

However, the Organization for Economic Cooperation and Development (OECD) has warned that household debt and potential defaults in real estate project financing (PF) pose risks to the Korean economy. 

As of the end of June, housing mortgage loans, including jeonse loans, amounted to 876 trillion won, with other loans, such as credit loans, totaling 237 trillion won. 

This brings the total household debt balance to 1,113 trillion won. 

Household debt is increasing by approximately 6 trillion won per month, which amounts to around 72 trillion won annually. 

  Real estate project financing (PF) is a unique system in Korea, where the developer covers the project costs using funds collected from pre-sale buyers and the credit of construction companies. 

Unlike foreign countries, where the average equity ratio in real estate PF is 30-40%, the equity ratio in Korea is only 3.2%. 

This could become a significant issue if loan defaults occur due to an economic downturn. 

Real estate project financing is mainly carried out during economic expansion phases, such as periods of economic boom. 

During these times, the increased demand for real estate from consumers creates a greater need to initiate new projects, making it easier to secure funding. 

As real estate prices rise, there is an expectation of high returns upon project completion, which encourages investors to contribute more funds. 

Additionally, when interest rates are relatively low, the cost of financing a project decreases, allowing developers and construction companies to obtain funds more easily. 

  However, during an economic downturn, decreased consumer income and increased unemployment lead to reduced demand for real estate, weakening the motivation to pursue new projects. 

Financial institutions, wary of risks, reduce loans and investments, making it difficult for developers and construction companies to secure project funding. 

As a result, the funds borrowed at high interest rates expose these companies to the burden of loan repayment, complicating the completion of projects. 

Second-tier financial institutions that were lured by high interest rates and provided bridge loans based solely on the project plans of low-credit developers are also at risk of collapse. 

Recently, the delinquency rate on real estate PF loans in the savings bank sector has reached 7% due to the economic downturn and rising construction costs. 

Amid suspicions involving construction companies and banks, the lack of supervision and investigation by relevant authorities on bad loans makes self-regulation efforts seem doubtful. 

It's absurd that a business with a leverage ratio of 33 times, funded 97% by other people's money, is possible based solely on a project plan. 

Given the contraction of the domestic market and the weakening growth momentum in the export market, it's unlikely that the myth of real estate's invincibility will be repeated. 

Fortunately, the delinquency rate on household loans is at a low level of 0.26%, so if the supply issue is resolved, the real estate problems in Seoul and the metropolitan area could be somewhat alleviated. 

However, due to the accumulated failures in exchange rate and fiscal policies, welfare policies, and public enterprise debt, the government's financial capability is weak, and the 'Korea ship' is expected to emerge from the tunnel of winter only by 2034. 

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3. Why Did Oil Prices Plummet During the Second Oil Crisis?

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  On October 6, 1973, Egypt and Syria launched a surprise attack on Israel to reclaim the Sinai Peninsula and the Golan Heights, which they had lost during the Six-Day War, thus starting the Yom Kippur War (Fourth Arab-Israeli War). 

On October 16, six oil-exporting countries in the Persian Gulf raised the posted price of crude oil by 17%, from $3.02 to $3.65 per barrel, during an OPEC meeting. 

As Israel, supported by the United States, counterattacked and encircled the main Egyptian forces in the Sinai Peninsula, the tide of the war shifted, leading Egypt and Syria to agree to a ceasefire on October 25. 

Feeling humiliated, the oil-producing countries reduced oil production and raised the price to $11.651 per barrel as of January 1, 1974. 

When Nixon proposed a compromise to Saudi Arabia, the leading OPEC nation, offering infrastructure development and military defense in exchange for purchasing U.S. Treasury bonds with petrodollars, the demand for dollars surged. 

However, the global economy, which was heavily reliant on oil for most key industries, experienced a recession and inflation due to the oil shock.  

  As double-digit inflation caused severe balance-of-payments deficits, major countries responded by implementing devaluation policies based on the floating exchange rate system. 

Developing countries, reliant on loans from the IBRD and IMF, found themselves trapped in harsh bailout conditions, leading to economic recessions. 

In August 1978, Carter, upon the recommendation of National Security Advisor Brzezinski, appointed Paul Volcker, former President of the Federal Reserve Bank of New York, as Chairman of the Federal Reserve. 

Volcker, who had played a key role in dismantling the gold standard, significantly raised interest rates after taking office. 

Developing countries and Third World nations were then subjected to harsh debt repayments. 

In January 1979, Mohammad Reza Pahlavi, the Shah of Iran, who had ruled through secret police, was overthrown amidst anti-government protests led by Ayatollah Khomeini. 

In March, Egypt and Israel, under Carter's mediation, signed the Camp David Accords, ending the Middle East conflict. 

Carter sought to reduce the threat of nuclear war by signing the Strategic Arms Limitation Treaty (SALT) with Soviet General Secretary Brezhnev, but this effort was derailed by the Soviet invasion of Afghanistan. 

In December, 85,000 Soviet troops attempted to intervene militarily to protect the pro-Soviet regime in Afghanistan. 

Following its fourth attempt to establish dominance in Afghanistan since occupying Panjdeh in 1885, the Soviet Union became embroiled in a civil war between the pro-Soviet government and the Mujahideen. 

At the end of December, citing domestic political and economic turmoil, Iran drastically reduced its oil production and eventually halted it altogether. 

  In April 1980, when the price of oil surged from $14.8 to $39.5 per barrel, the second oil shock occurred. 

The global economy once again plunged into a severe recession, and the U.S. economy faced stagflation as inflation concerns worsened. 

Fortunately, with aggressive interest rate hikes by Federal Reserve Chairman Paul Volcker, inflation expectations were curbed, and by 1983, the consumer price inflation rate dropped to 2.36%. 

Oil prices also stabilized downward, falling to $29 per barrel in February and plummeting to $12.6 per barrel by March 1986. 

As the Federal Reserve's rate hikes increased the value of the dollar, oil-producing countries lost the incentive to raise oil prices, as the appreciation of the dollar increased the real value of the dollars they received. 

The sharp decline in oil prices occurred because oil-producing countries benefited from the dollar's appreciation without needing to raise oil prices. 

Additionally, following the oil shock of the early 1980s, energy conservation efforts and the development of alternative energy sources reduced oil demand and stabilized supply. 

Although the dollar was devalued after the Plaza Accord (1985), the drop in oil prices was the result of various factors that began during the earlier period of a strong dollar. 

  Approach the Roadmap to Wealth

4. The biggest risk associated with investing is.

Approach the Roadmap to Wealth.

  John Bogle (1929-2019) laid the foundation for his future career with his Princeton University thesis, 'The Economic Role of Investment Companies.' 

In 1974, he founded one of the largest and most respected mutual fund companies in the world. 

In 1975, Bogle developed the world’s first index fund, 'Vanguard 500.' He believed that low-cost index funds could outperform actively managed funds over the long term. 

The 'Vanguard S and P 500 ETF' is an exchange-traded fund that tracks the S and P 500 index. 

The S and P 500 index is recognized as an indicator of the overall market trend because it encompasses a wide range of industries and sectors. 

Vanguard provides efficient asset allocation through a market index that includes 500 large-cap U.S. companies. 

It achieves impressive annual returns exceeding 30%, helping numerous investors increase their wealth. 

In his book 'Common Sense on Mutual Funds' (2007), Bogle reveals investment principles validated by the market and time. 

High management costs and fees can erode investment returns over the long term, making it crucial to minimize investment costs for optimal performance. 

To benefit from compounding and achieve market-average returns, one must invest long-term without being swayed by short-term market volatility. 

Diversifying investments across various portfolios reduces risk and enhances overall stability. 

Focusing on the simple yet effective management of index funds while avoiding overly complex investment strategies and unnecessary transactions is key. 

Although the world of investing is shrouded in uncertainty, investing in stocks and bonds through index funds can grow one’s wealth.  

  Dividend ETFs are divided into index dividend funds and actively managed dividend funds based on discretion and involvement. 

Index funds, designed to track a specific market index, allocate assets in the same proportion as the securities included in the index. 

Index funds, which provide market-average returns, have lower management fees and transaction costs, which can enhance long-term investment returns. 

However, it is difficult to expect returns above the market average because they track the index exactly. 

Actively managed funds aim for returns above the market average through the fund manager’s analysis and research. 

Since managers actively trade stocks based on market conditions, operating costs and fees are higher. 

Performance can vary depending on the manager’s decisions, leading to higher volatility that may erode returns. 

For example, SCHD, which invests in dividend aristocrats, dividend growth stocks, and dividend achievers, seeks stable and sustainable dividend income. 

The SCHD ETF is a U.S. dividend index fund offered by Charles Schwab. 

It tracks the Dow Jones U.S. Dividend 100 Index, which continually rebalances based on quantitative indicators of the 100 companies with high dividend growth. 

Recent advantages include stable dividend payments with about 11% annual growth over the past decade and low management costs. 

With a 20 million won investment, the first