August 31, 2015
If you’ve ever picked up a copy of The Economist magazine, you’ve probably heard of the Big Mac Index.
This is an interesting tool where a bunch of reporters from around the world are forced to go into McDonalds and find out the price of a Big Mac in local currency.
In Santiago, Chile, for example, a Big Mac runs 2,100 Chilean pesos, which is around $3. Meanwhile the average price for a Big Mac in the United States is $4.79.
This suggests that the US dollar is substantially overvalued against the Chilean peso.
It’s the same story across most of the world. In Russia, a Big Mac costs 107 rubles, which is just over $1.50.
The reason The Economist uses the Big Mac is because it’s basically the same product no matter where you go in the world.
There are some subtle differences, but McDonalds generally serves the same pink foam disguised as beef wherever you go. So in theory it should all cost the same.
When a Big Mac is too cheap or too expensive, this suggests that the currency is either undervalued or overvalued against the US dollar.
Now I’d like to add a new way of comparing currencies: airfare.
As I travel around the world, I often buy what are known as round-the-world tickets (RTW).
RTW tickets are issued by airline alliances like OneWorld or Star Alliance, and they’re typically very cost effective.
RTW is just like it sounds. You fly, for example, from London to Chicago to Shanghai to Dubai and back to London, all for one special fare.
It’s a cheap, easy way to see the world.
But I’ll let you in on a little secret that I’ve picked up over the years: the price of a RTW ticket varies dramatically depending on the city where you start.
As an example, I just researched a OneWorld RTW ticket with the following itinerary:
Los Angeles – Sydney – Bangkok – Hong Kong – Johannesburg – London – Los Angeles.
Six different cities around the world on five continents.
Now, if I start and stop that itinerary in Los Angeles, the price for a business class ticket is $14,164.60.
That’s not a bad price for a business class experience. But if we experiment a little bit, something interesting happens.
Starting and stopping the journey in Los Angeles means that OneWorld prices my ticket in US dollars.
But it’s also possible to fly the same route by shifting the cities. For example, instead of starting/stopping in LA, I can start/stop in Sydney.
So the route becomes Sydney- Bangkok – Hong Kong – Johannesburg – London – Los Angeles – Sydney.
It’s the same flights to the same six cities, I just start/stop in a different place.
Here’s what’s crazy: if I start/stop in Sydney instead, the price changes. Now instead of $14,164.60, it’s $15,272 Australian dollars, which is about $10,900 USD.
So the same six flights now cost you 23% less.
Note that the RTW ticket is always priced in the local currency of the city where you start.
And unlike the Big Mac Index where the results are skewed by the costs of ingredients, property, and labor, here you’re comparing the exact same product.
I did the same with each city on the list, and the most incredible difference came when I started and stopped the trip in Johannesburg.
Johannesburg – London – Los Angeles – Sydney – Bangkok – Hong Kong – Johannesburg.
Flying to the exact same cities, the price is now 81,395 South African Rand.
Based on current exchange rates, this is just barely over $6,000.
In other words, you pay over $14,000 by starting/stopping in LA, and just $6,000 to start/stop in South Africa, even though you’re visiting the exact same six cities on the exact same flights in the exact same business class cabin.
What’s even more amazing is that if you do the exact same itinerary from LA in economy class, the price is $7,545.
So that means that if someone flies from LA, they’ll pay more to fly in coach than someone starting in Johannesburg pays to fly in business.
Clearly, you’d be better off buying a separate ticket to South Africa and beginning your RTW journey from there.
Or you could spend about $200 and get a ticket to Vancouver, and start a RTW from Vancouver, which costs about $10,000 in business class and gives you a $4,000 savings.
Now, I’m not here to tell you about how to save money on airfare (though I hope you give it a try).
The bigger idea is that it’s clear that the US dollar is painfully overvalued against nearly every currency in the world.
Right now the dollar appears to be the “safe” place to put your money. However, this isn’t based on anything.
The fundamentals for the US dollar are terrible, but people keep dumping money into it like trained monkeys simply because nothing else in financial markets makes any sense.
To be clear, I fully expect the dollar to get even stronger as even more trained monkeys pile into US dollar assets.
But it’s important to show that this perception of ‘safety’ is based on a complete myth. Every credible fundamental suggests that the dollar is dangerously overvalued.
In the long run these things tend to equalize, and the dollar’s strength may end up being the biggest bubble of all.
Of course, it raises the question-- if not the US dollar, then which currency is the safe haven? The euro is garbage, the Chinese are fighting a depression, Japan is a disaster.
And that’s precisely the point.
When every option in the financial system is grounded in absurdity, the only solution is to start looking for safety outside of it.