Saturday, November 29, 2008

The Mother Of All Bear Market Rallies

Insight: We Are In For The Mother Of All Bear Market Rallies

By Barton Biggs | 24 November 2008

Before we all are swept away into total despair, let’s take a step back and imagine what could get stocks around the world going up for a while. Bear in mind that I am hedge fund manager, have been wrong on the severity and duration of this panic, and that at this moment I am close to shore. In other words— I have little risk on.

First, let me point out that by definition the bottom of a bear market has to be the point of maximum bearishness. Thus sentiment becomes a crucial indicator. The systematic work that we do on measuring sentiment (and we monitor about twenty indicators for the US and a dozen or so for other equity markets) show very extreme and in many cases record levels of bearishness. Obviously not every indicator is at an all-time high, and in some the history is short, but the message is powerful. Furthermore there is compelling evidence that investors, hedge funds, pension and mutual funds, and the public are not just talking bearish, they have raised astounding amounts of cash.

I am chastened by the fact that all the data we look at are from the last forty years which was really just one great magnificent secular bull market of wealth creation marked by periodic bears that were buying opportunities. No one knows what levels of pessimism were necessary to spawn the 40 per cent 1929 rally during a massive secular bear market. [[Note: the 1966-1982 secular bear was every bit as bad as the 1929-1946 secular bear, inflation adjusted! : normxxx]]. Nevertheless I’ve never seen capitulation and despair like this. We must be pretty close to maximum bearishness.

Second, valuations are cheap. There’s no point in going into an elaborate dissertation; it’s an inexact science. Using the best historic measures, normalised earnings, book value, and free cash flow, stocks around the world are very cheap, but not as cheap in absolute terms or versus interest rates as they were in the 1930s or at the 1974 bottom. Nevertheless, the 4 per cent dividend return on the S&P 500 exceeds the yield on the ten and thirty year Treasury bonds for the first time in fifty years. If emerging market equities, where the growth is, at six to eight times earnings are not cheap I don’t know what is.

Third, stock markets have been obliterated and are deeply oversold. Even dead cats bounce. The Dow has had the steepest decline since the 1930s, and the spread between the price and the 200 day moving average at 34 per cent is the greatest since July 19, 1932. The US market is down almost 50 per cent from its highs, Europe is off 55 per cent, and emerging markets, 65 per cent with some unfortunates like Russia off 70 per cent. History shows that even in enduring, secular bear markets there are not just 20 per cent bounces, but usually one 30 to 50 per cent rally [[which usually comes about now, ie, just after the huge initial drop: normxxx]]. We should be due.

As far as the economic fundamentals are concerned, investor and consumer confidence have been ravaged by the sudden violence of the global recession. It is going to be deep and it may be long lasting. The bears say at best it will be like Japan’s on-going slow death. At worst, it will be a replay of the 1930s.

I think both these outcomes are highly unlikely. The so-called authorities have learned[!?!] from the policy errors of the past, and the response this time, while not perfect, has been faster and far bigger [[and, so far, to no obvious effect: normxxx]]. The effects are just beginning to be felt[!?!] In fact the stimulus has been unprecedented and there is almost sure to be more on the way beginning with the new Obama Administration. The authorities seem to understand that they have to risk overkill.

And the fabric for economic healing is developing. In the US, average hourly earnings are rising at a 3 per cent annual rate and the CPI is probably declining at a 5 per cent rate thanks to the fall in gasoline, fuel, and food prices, so real average hourly earnings are rising at an 8 per cent pace. The savings rate is rising. The sharp collapse in the price of oil while hurtful to parts of the world, is very beneficial to the US, Europe, and Asia. The consumer spending collapse we are experiencing may be short-lived but that doesn’t mean a boom is coming either.

Finally, my guess, and it’s nothing more than a guess, is that the deleveraging that has caused such heavy selling is two thirds done. In listed equities, it may be 80 per cent finished. Hedge fund redemptions are substantial and will continue into next year, but hedge fund liquidity is at a record high and hedge funds’ gross exposure and net long is at a record low. Conversely investor liquidity is at a record high. All good contrary indicators.

If I’m bullish why aren’t I in there now? Because I would like to see the credit markets unclog and spreads come in more. At the bottom of a panic, the news doesn’t have to be good for stocks to rally, it just has to be less bad than what has already been discounted. I want the markets to stop going down on bad corporate and macro-economic news. The fact that it still does shows the bad news has not yet been fully discounted. I have no idea when the next bull market starts, but I do think we are setting up for the mother of all bear market rallies.

The writer is managing partner at Traxis Partners, a New York based hedge fund, and the author of Hedgehogging.



The contents of any third-party letters/reports above do not necessarily reflect the opinions or viewpoint of normxxx. They are provided for informational/educational purposes only.

The content of any message or post by normxxx anywhere on this site is not to be construed as constituting market or investment advice. Such is intended for educational purposes only. Individuals should always consult with their own advisors for specific investment advice.

Friday, November 28, 2008

Little Solace in Bonds

Seeking Solace? You’ll Find Little In The Bond Market

By Jeff Sommer | 22 November 2008

A worker outside the London office of Lehman Brothers. The firm’s collapse forced liquidations of bond holdings by major institutions— and investors became wary of many classes of bonds.

When your safe haven comes under attack, you’re really in trouble. But that’s what has happened this year to many investors, as some bond portfolios have taken enormous hits, The New York Times’s Jeff Sommer writes.

It’s bad enough that the stock market has plummeted. Even with a late-day rally on Friday, the Standard & Poor’s 500-stock index is down more than 45 percent for the year to date. Stocks have not declined that much in a full year since 1931.

But see First Year Of Major Correction [Right] (Dow, as percentage, since 1900) Source: ChartoftheDay

But bonds? They’re supposed to be the Steady Eddies of a well-diversified portfolio— safe, boring and a necessary part of an investor’s diet, like spinach, Mr. Sommers notes. The excitement— and risk— in a portfolio should come from stocks. If bonds fluctuate at all, they are expected to rise in value when stocks decline, buffering a portfolio’s returns in a rocky market. That, at least, is the common expectation, said Robert L. Rodriguez, chief executive of First Pacific Advisors and co-manager of the FPA New Income mutual fund.

But the global credit crisis has shattered the expectations of many investors in fixed-income as well as equity markets. With forced liquidations of bond holdings still under way by major institutions in the wake of the Lehman Brothers failure in September, even the slightest whiff of risk in a bond has put off investors, resulting in big losses. And bonds are certainly not a sideshow: Much of the turmoil in the financial sector and the overall economy has emanated from the credit markets.

So far, only the most unimpeachably safe fixed-income securities— for the most part, those issued by the Treasury or otherwise backed by the United States government, directly or indirectly— have generally held their value. "Investors are confused, and they have a lot of misconceptions," Mr. Rodriguez told The Times. "You have to get to the basic question, and that is, which bonds do you actually own?"

Long-term corporate bonds, for example, declined in value by more than 18 percent, on average, through October, according to Ibbotson Associates, a Morningstar subsidiary. That’s worse than any full-year decline on its records going back to 1926. The rout in corporate bonds, particularly high-yield or junk bonds, has been worse, by some measures, than even the distressed market of the Great Depression, said William H. Gross, co-chief investment officer of the Pacific Investment Management Company. Junk-bond yields— which move in the opposite direction of prices— recently soared above 20 percent.

"These are unheard-of, unseen yields that have never taken place in anyone’s lifetime," Mr. Gross, who manages Pimco Total Return, the country’s largest bond fund, told The Times. "Even during the Depression, corporate bonds did not trade at these particular yield spreads," or premiums over yields of comparable Treasuries, Mr. Gross added. On the positive side, long-term government funds tracked by Morningstar were up 9.2 percent for the year through Thursday.

But in many parts of the market, the returns for bond mutual funds are sobering, with performances that would be abysmal even for stock funds in a typical year. High-yield bond funds were down 29.6 percent for the year through Thursday, emerging-market bond funds were off 26.5 percent, and bank loan funds were down 24.7 percent. Even intermediate-term bond funds, a middle-of-the-road category often used as a core holding for portfolio balancing, were down 9 percent.

This is no typical year, however, not by a long shot, Mr. Sommers says. "Never before, in 25 years, have I seen conditions like this," Mary J. Miller, the director of T. Rowe Price’s fixed-income division, told The Times. "It’s not just credit risk," she said. "Some parts of the market are liquidity-impaired— there just aren’t enough buyers out there."

Municipal bonds have been "considerably punished," she said, because of a lack of buyers and the "acute risk aversion" that has permeated the market. Most municipal bonds are, in fact, creditworthy, she said, but their prices have gone down anyway. The loss of independent firms that functioned as market makers— like Bear Stearns, Lehman Brothers, Merrill Lynch and Wachovia— has disrupted markets, she said, and so has the continued unwinding of leveraged bets, often packaged as complex derivatives, taken by hedge funds.

Mr. Gross of Pimco described the wave of selling by hedge funds as akin to "a margin call" in which bond holders are forced to sell securities at lower and lower prices. Still, some bond funds marketed as core holdings for buy-and-hold investors have held their own this year. In the current market, that means not losing much money, and, in some cases, maybe gaining just a little.

These funds include Pimco Total Return, which was down 0.3 percent through Thursday; the Vanguard Total Bond index fund, up 0.9 percent; the T. Rowe Price New Income fund, down 2.3 percent; and FPA New Income up 3.7 percent. All of these funds are highly rated by both Morningstar and Lipper. This modest performance was possible because these funds did not dabble much, if at all, in risky areas of the market, said Jeff Tjornehoj, senior research analyst for Lipper. "Funds that did well in up-markets by taking on risk have been punished now," he told The Times.

There are many ways of minimizing risk. The Vanguard Total Bond index fund is passively managed, and mirrors what until recently was known as the Lehman Aggregate Bond index— and is now called the Barclay’s Aggregate Bond index, as a consequence of Barclay’s absorption of Lehman’s bond analysts and indexes. Treasuries within the index gained in value while corporate bonds fell, and the results have been "about what you might have expected from a core holding," Fran Kinniry, who runs the investment strategy group at Vanguard, told The Times.

FPA New Income has taken a different approach, holding large quantities of cash and Treasuries, and keeping the average duration— essentially, the time before a security matures— down to about one year. Reducing duration cuts down on the risk of shifts in yields and inflation expectations. Pimco has taken another tack, by buying Treasuries and investing in fixed-income securities of Fannie Mae and Freddie Mac, the mortgage giants that have been bailed out by the federal government. "We’ve essentially made ourselves partners" of the government, Mr. Gross told The Times.

Mr. Gross is taking a similar approach, he said, with investments in the preferred shares of bank holding companies in which the Treasury is injecting capital. With a shortage of liquidity, and an epidemic of risk-aversion, he said, it makes sense "to buy something where you can partner with Uncle Sam as opposed to being left out in the cold."

With commodity prices declining and the Consumer Price Index dropping in October by the greatest amount on record, there are signs of disinflation, perhaps even the possibility of a cycle of declining prices, known as deflation. Bond strategists caution, however, that the current outlook for inflation has been made murky by the attempts of the Federal Reserve, and of central banks and governments around the world, to pump money into the financial system in an effort to strengthen the global economy.

For Mr. Rodriguez, this is a major concern, and further reason to minimize all of his bets. "We may be facing deflation first, and then inflation down the road," he told The Times. "This is a very difficult time." Mr. Gross said that for months to come, he expects the bond market to be struggling to evaluate the risks of both deflation and inflation. "It’s a legitimate debate," he told The Times, "and we don’t have any clear view as to which one wins."



The contents of any third-party letters/reports above do not necessarily reflect the opinions or viewpoint of normxxx. They are provided for informational/educational purposes only.

The content of any message or post by normxxx anywhere on this site is not to be construed as constituting market or investment advice. Such is intended for educational purposes only. Individuals should always consult with their own advisors for specific investment advice.

'It's Just Time'

On Martin Armstrong's 'It's Just Time'
Click here for a link to complete article:

By Seeking Alpha | 28 November 2008

I have had the privilege of reviewing and sharing Martin Armstrong's new essay "It's Just Time," dated October 10th, 2008. As many of you know from last year's NY Times article by Gretchen Morgenson, Martin Armstrong has spent almost nine years in prison for contempt of court, more years than if he had been actually convicted of securities fraud. It's a disturbing tale of injustice involving one of the greatest economic and market minds of our time.

[ Normxxx Here:  He is accused of bilking some Japanese gold investors of many millions of dollars, but refuses to turn over the books of his operation or reveal what he did with the money. He seems a certifiable nut— possibly larcenous— and many of his theories are pretty weird. But MOST IMPORTANT his cycle predictions seem to work about quite as well as any other!  ]

I ran across Martin's work in my original studies of market and economic cycles after the NASDAQ bubble began to burst. While I didn't know it at the time, his Economic Confidence Model encapsulated all the cycles from Kitchin's to Kondrateiff's and could predict market turns almost to the day. I was fascinated enough to cut and paste a copy of his article, "The Business Cycle And The Future" from his Princeton Economics web site. Little did I know that nine years later, Martin would still be in jail and my blog would be one of the last public sources of his Business Cycle essay.

Martin's economic work should have received a Nobel prize by now. Instead, the man is relegated to recording his thoughts on a single-spaced, IBM type writer from prison. His 77 page essay can be accessed here (pdf warning).

In the first part of his new essay, Martin provides a deeper explanation of his economic cycle theories. Traders and investors will be fascinated by his elaboration of the 8.6 month internal cycle, his 224 year political cycle and the 37.33 Month cycle frequency. He also explains the inter-relationship between the shorter 8.6 month cycle and the longer cycles which are currently dominating the economic and market landscape. Finally, Martin offers a brief glimpse into a previously undisclosed volatility cycle called the Schema Frequency.

The second part of the essay is wide ranging and sometimes difficult to comprehend. In it Martin makes references to his own plight while implicating numerous international political and financial figures in a grand conspiracy. I have no way of judging the veracity of Martin's theories as to why he has been jailed for nine years on contempt of court.

His tale is a mix of "Three Days of the Condor" meets "The Man Who Knew Too Much." What I do know is that the facts surrounding his jailing are as unimaginable and unbelievable as the accuracy of his models and predictions. For the sake of the nation's economic well being, his thoughts should be heard by the new Administration not from behind a jail cell, but face to face in the Oval office[!?!]

Having been called on by heads of state and corporate CEOs, Martin follows through by offering his solution for the current financial crisis— a crisis he predicts will end the reign of the United States as the leading financial super power unless drastic action is taken.

We must come to face the real facts. Traditional old world economics is no longer applicable. The greatest error of the money supply being fixed to the gold standard, was that the discovery of gold determined the supply of money altering policies of government and subjecting the private sector to swings in the boom and bust sense that would be influenced with respect to amplitude increasing volatility. We can see such periods following the Gold Rush of 1849 in California and the consequences of the deliberate inflation created by the "Silver Democrats" that led to virtual bankruptcy requiring J.P. Morgan to bailout the government in 1896.

No doubt there will be those who would never consider deliberate inflation as fiscal irresponsibility. However, when Paul Volker was fighting the commodity boom into 1980 and raised short-term interest rates, we must realize that the biggest spendthrift within society is the government.

By deliberately raising interest rates to stop private sector spending, the national debt was put on an exponential growth path. The Government cannot be the stationary
"disinterested" observer in Einstein's theory of relativity. It cannot see its own actions because it is so busy trying to attribute blame to everyone else. This is the fate of our nation at stake. This is the future of our children. Are we to be so irresponsible like a drug addict who steals today with no regard for the consequences just to obtain that quick fix?

If we merely borrow to fund the economic bailout, we have two major problems. The contraction of leverage far outnumbers the actual money supply even if we now count all cash and outstanding debt as money. Because there has been no regulation of the amount of leverage between banks as is done within the exchanges who raise and lower margin requirements in futures to manage the amount of leverage (
"gearing"), we are looking at a contraction that could exceed the GDP in multiples. We must realize that borrowing to bailout the banks, is economically indistinguishable from moving money from your left pocket to your right.

We are actually further adding to the economic contraction by soaking up cash in the system and redistributing [[but it works, providing we can keep borrowing from the Chinese: normxxx]]. This is merely a form of Marxism. What we must to is to expand the sheer actual money supply to offset the contraction the
"real" money supply created by the private sector in electronic format that is also indistinguishable from suddenly discovering gold in California back in 1849. The fiscal policy of the nation has been usurped by the bankers, who did not even understand what they were doing.

We need to review the Keynesian theory. Borrowing does not stimulate for it will not-increase the money-supply to compensate for the contraction. Even buying the debt from the banks by injecting more capital, is pouring bad money after even worse money. The Sub-Prime Mortgages 'should be purchased from the banks at current market value, placed in a public fund not managed by bankers, allow the mortgages to be renegotiated into a fixed rate, extending the time if necessary, but revaluing the property as Julius Caesar did, and setting up a reasonable payment schedule.

If the homeowner cannot cope with the payments, then they lose the home. The bankers have to suffer their fate. Let the banks reorganize and consolidate, and there must be the survival of the fittest. That is not to say we should abandon FDIC. We must stand behind all bank deposits. That is the price we must pay as a nation' for the failure to regulate the
"big" houses as we do the "small" players.

We must collect the Sub-Prime Mortgages into a single fund that should then allow private investment. Individuals could invest even their 40lKs in part, and we must curtail government borrowing at all costs. Those who do not want to see the
"social" spending of the Democrats, we should realize that there would have been far more than 'a chicken in every pot' had we not spent so much on interest [[on the national debt: normxxx]]. In fact, had there not been interest payments, we could have spent the same amount of money and there would be a national healthcare like that in England.

We must confront what is going on. It is time we restructure Government itself. Locking up every person in Banking or Wall Street will not solve the problem. Capitalism is not at fault. The
"club" seeks "riskless" trades and relies upon Government to cover losses so why bother worrying about risk?

Long-Term Capital 'Management collapsed when the IMF could not continue to support Russia that the
"club" was buying their paper at 50-100% rates of interest. This is the same problem[!?!] The Sub-Prime Mortgages displaced risk for they looked to the Government as a guaranteed trade. That is not capitalism— that is plain old fashion corruption. Let us deal with the truth!

The bad portfolios in Japanese corporates were purchased with a note removing the problem allowing them to get back to business.
Do not allow the banks to work-out these problems and do not hire bankers to control the bailout. Hire qualified fund managers who will not protect the banks. "A lawyer who represents himself has a fool as a client."

Bankers protect bankers. How can you prosecute the people in charge of the bailout? We need independent management and consolidation of SEC, CFTC and the Federal Reserve into one regulatory body that protects the system, not [[not the individuals whom the system needs protecting against! : normxxx]]

It is time for serious reorganization.

Stop the Marxism! We need to return to basics. End the income tax and replace it with a 10% National Sales Tax (excluding raw food & basic clothing) that also includes real estate [[or a Value Added Tax, as in Europe?: normxxx]] China has boomed because it had no income tax!

This is what the men who established this nation established until Marxism began with the passage of the income tax 'only for the rich' in 1909, that now applies to everyone. Stop borrowing money from the poorest with no interest masking it as a
"refund" check confusing them to make it appear as a gift. Do this, and we will reestablish jobs in America.

It will matter not if someone is an illegal alien or not for they will still pay their fair share. We are losing jobs because of high taxes and high heathcare costs that just make it cheaper to set up service oriented jobs in India, Philippines, or Mexico. It is time the 8OO pound gorilla lost a little weight. This will create a offsetting economic boom that will save the nation. Marxism does not work.

We cannot be a little-bit pregnant. The Constitution was established to preserve the
"Blessings of Liberty" to all posterity, not depending upon race, creed, or class. Marxism was a disaster. It should offer no model for the future. Just look at Russia and China. If we do not reorganize, Ayn Rand will be correct!

We can still have the benefit of a collective society that affords common goals to secure the individual way of life. There must be the funded programs with the growth in spending limited to the GDP growth that must be set by a global 'economic independent organization not subject to the political pressures of one nation. The economic statistics are bogus. They are politically manipulated like inflation to reduce government spending where many areas are indexed to CPI.

Government will always corrupt itself[!?!] The reason we [had] the
"Julian Callendar" [[until 1632, when the Gregorian calendar was more or less universally adopted: normxxx]] is because the Romans knew [their lunar] calendar was incorrect and that additional days had to be inserted to maintain the seasons. Thus, someone had to be given the job to decide how many days to insert and when. That Job was given to the High Priest ("Pontiff Max!!"), who was routinely bribed to stall elections by [gratuitously] inserting whole months at a time. When Julius Caesar [took over the] government, he [made] massive reforms and eliminated the corrupt job of 'managing the callendar'.

This illustrates that we must remove the temptation to manipulate economic statistics to effect certain policies. As they say, statistics can be made to ensure they do not tell the truth. Carrots are very dangerous, because everyone who has ever eaten one has eventually died! Every country calculates their statistics according to a unique formula. How can we even compare economic growth from one nation to another?

We can monetize part of the debt by redeeming a specific quantity with newly generated cash. There should be some controls on the quantity of dollars created internationally through regulation carried into place by the Federal Reserve. We must also reestablish the entire purpose of the numerous branches of the Fed. That was put in place after the San Francisco Earthquake and the Crash of 1907.

It was understood that there was a problem of regional capital flows. To prevent a shortage of cash that led to bank failures in some regions, each branch was autonomous [which] allowed for interest rates to be higher in some regions. We saw these problems in the 1980s, when a single national interest rate was used to stop stock market speculation that depressed farmers, because for World War II, all policy was usurped by Washington because there was to be a great expansion in debt.

We need to stop using a giant club to stop one effect by punishing everyone. Do not forget, lower interest rate may not entice investment (see Japan 0.1%), yet it will deprive the elderly, who are one of the largest savers, from earning an income when they no longer can work. Just like a company gone into distress, we just have to deal with the whole problem. If we think we can just have big public trials like Nero did with the Christians to cover-up the burning of Rome, then we are going to have no future.

You can execute all those on Wall Street. It still will not help. We need real legal reform and stop the abuse of prosecutions for political purposes. The true wealth of a nation is its consistent Rule of Law that protects not merely the personal liberty of citizens, but their property. If the Rule of Law is not going to be upheld and can be even manipulated for religious purposes, then we are just reducing ourselves to a Banana Republic with nuclear weapons, and capital will flee!

We need serious reform of how government operates. We need a single agency to regulate the financial markets and banking. We have to stop the buying-off of Government attorneys and if they are not interested in a career, then get your experience someplace else. We need integrity to be restored. We must stop the abuse of
"big" firms instigating the government agencies to remove competitors.

This is either going to be a nation of true liberty, or melt-down the statute of liberty and use it for handcuffs and stop the propaganda. We must realize that
"real" capital will flee if we are not fair and consistent in our treatment of all those within our society. If we are so intolerant that the Calvinistic forces that seek to gain control of the law to effect religious objects, we are no better than the Taliban in Afghanistan. True liberty and freedom is a given that is divine.

Everyone has the free will to pray or to sin. A sin to one group is not a sin to another. There are a host of variations in Islam, Christianity, and Judaism. Who is right and who is wrong is not for courts or government to legislate. We must defend the right to speak freely for everyone, or we will silence ourselves.

It was the hatred by the Protestants of the Catholics that not only tore England and Ireland apart, but led to [various restrictive and punitive laws in the early United States that sought to ban or restrict the free exercise of religion by Catholics and other minorities, eg, Jews and Quakers. Most recently, an excessive puritanical spirit, post World War I, led to that invidious experiment known as Prohibition!]

As Margaret Thatcher once said,
"It is just time." She instinctively knew that cycles exist because people just get tired of the same old thing. We have an absolute right to good honest government. That is the battle cry of every civil war known to history.

Just as Julius Caesar was a man of the people who was cheered when he crossed the Rubicon, we need someone of integrity so bad, unless we obtain honest reform, we are perhaps inviting the Gods of War to return. The people crave a fresh start, and they crave fiscal responsibility. Where are the aspirations, dreams and promises of Jefferson & Madison? Where have they gone?

Edward Gibbon (1737-1794) wrote a most notable epitaph in his celebrated
The Decline and Fall of the Roman Empire first published between 1776 and 1788. [He described] two men who ascended the Capitoline Hill in Rome to survey that which remained. One remarks to the other:

"Her primeval state, such as she might appear in a remote age, when Evander entertained the stranger of Troy, has been delineated by the fancy of Virgil. This Tarpeian 'rock was then a savage and, solitary thicket. In the time of the poet, it was crowned with the golden roofs of a temple; the temple is overthrown, the gold has been pillaged, the wheel of fortune has accomplished her revolution, and the sacred ground is again disfigured with thorns and brambles. The hill of the Capitol, upon which we sit, was formerly the head of the Roman empire, the citadel of the earth, the 'terror of kings'; illustrated by the footsteps of so many triumphs, enriched with the spoils and tributes of so many nations. This spectacle of the world, how is it fallen! How changed! How defaced! The path of victory is obliterated by vines, and the benches of the senators are concealed by a dunghill."

Id./Chapter LXXI

We have a choice. Fix what is broken, or die leaving behind nothing of any significance as the dreams that once filled this land evaporate into oblivion. The impatience of capital will not long suffer the suspension of truth. Civil unrest and even war follow economic declines. The clock is ticking. The Civil War cycle turned in 2002. The Clash of reason is on the horizon. It cannot be business as usual.

Thursday, November 27, 2008

Bush's Recession, Rooted In Self-Interest

Bush's Recession, Rooted In Self-Interest

By Bob Burnett | 28 November 2008

While there are many technical explanations for the current recession, the underlying cause is the pervasive ideology of 'self'-interest that has guided President Bush's administration and thoroughly permeated mainstream American ethics— in particular, the financial sector.

While George Bush ran for President as a born-again Christian and "compassionate conservative," his behavior indicated he was guided not by the principles of Jesus but rather by a narcissistic morality of personal advantage. While making a revealing documentary about the 2000 Bush campaign, filmmaker Alexandra Pelosi asked the candidate why she should vote for him; Bush replied. "It's in your interests." Pelosi observed, "He didn't push the country's interests— but rather, my interests." Bush's primary consideration was 'what's in it for me'?

As President, Bush conflated his personal interests— strengthening his power— with those of the United States and political considerations governed all White House decisions. In late 2001, after leaving his appointment as head of the White House Office of Faith-Based and Community Initiatives, John DiLulio observed: "There is no precedent in any modern White House for what is going on in this one: a complete lack of a policy apparatus. What you've got is everything, and I mean everything, being run by the political arm."

Presidential decisions were determined by a toxic alchemical mixture of power and greed. Major legislative initiatives— energy and healthcare— were written by corporate lobbyists to benefit their own interests at the expense of average Americans [[to this day, vice-president Cheney refuses to reveal what went on behind closed doors in the drafting of the admninistraion's energy bills: normxxx]]. And the President's self-centered attitude influenced both Main Street and Wall Street.

Bush promoted a national culture of profligacy. After 9/11, when asked how Americans should respond, he advised us to "go shopping." Rather than calling on our patriotism [[or ever commiting sufficient resources towards the war: normxxx]], the President [[cut taxes largely for the rich and : normxxx]] appealed to consumerism. Citizens responded by running up huge credit card debts and dipping deeply into their home equity. During the Bush Administration, Americans borrowed $6.2 trillion, doubling their debts and pushing the U.S. into a negative savings rate.

At the same time, the President expressed absolute confidence in the 'wisdom' of the 'free market' and greatly expanded the dangerous deregulation begun during the Clinton era. Among the consequences of Bush's extreme laissez-faire ideology were the accelerated flight of decent-paying jobs from the U.S. and pillaging of the environment. As Americans shopped until they dropped, [[mostly on borrowed money or money withdrawn from a house refi (not uncommonly into an ARM mortgage from a fixed-rate mortgage): normxxx]], financial-sector profits surged: by 2007 the finance industry represented a record 25 percent of US stock-market capitalization.

Aided by the loosening of regulations, banks such as Citgroup, broadened their scope of business and began to engage in a wide variety of financial activities [[a comingling of speculative financial activities with the more essential— which almost destroyed the banking sector in 1930-1933, and which the Glass-Steagall Act corrected for 66 years until its key provisions segregating banking practices were repealed: normxxx]]. With this explosive expansion came problems of control and oversight. The increased size of financial institutions made them more difficult to manage as executives at every level were pressed to make profits well beyond the range historically associated with banks.

At Citigroup, earning pressure caused bond traders to increase their participation in risky markets, particularly collateralized debt obligations (CDO's), which repackaged mortgages— notoriously sub-prime mortgages— with higher quality mortgages for resale to investors. The expansion of this niche business was fueled by its lack of oversight and its profitability— the fees were unusually high, so traders made millions in bonuses.

Because of deregulation, there was no Federal oversight of the CDO marketplace. Financial industry supervision supposedly came from rating agencies, such as Moody's and Standard and Poor's, but they failed to exercise the required due diligence. Nor did the internal auditors, such as Citigroup's "risk managers;" who were impeded both by the Byzantine nature of CDO's and their perceived value as major earnings generators [[and, hence, pressure to justify them regardless of merit. Besides, 'everyone was doing it!' So, what could be the harm?: normxxx]].

As the credit bubble grew, two pernicious moral propositions blinded top managers at Citigroup and other greedy banks to the ever-increasing probability of calamity: 'everyone else is doing it', so it must be okay; and didn't the ends justify the means? [[The money was just rolling in— and nothing bad had happened yet. : normxxx]] Over the course of the Bush Administration, the worldwide CDO market grew to near $500 Billion amd the derivatives market grew from a paltry $88,000 Billion in 2000 to well over $683,725 Billion today, resulting in gigantic executive bonuses and corporate earnings [[often in the Billions— a lot of new Billionaires were made in Bush's eight years, even as the median wage dropped: normxxx]]. Understandably, none of the participants was eager to jump off the gravy boat [[until just before it sank: normxxx]].

Lurking behind this frenzied momentum was a naïve faith in the wisdom of the marketplace: the belief that whenever excesses occurred, the market would 'gracefully adjust'. Recently, financier George Soros criticized "the prevailing theory of financial markets, which... holds that financial markets tend toward equilibrium and that deviations are random and can be attributed to external causes." He observed: "This theory has been used to justify the belief that the pursuit of self-interest should be given free rein."

The President of the United States has a dual responsibility to make key decisions and set a moral tone. By promoting a climate of unfettered self-interest, George Bush precipitated the current economic meltdown. American's eagerness for the onset of the Obama presidency indicates our need for a leader who will establish a public morality that emphasizes the common good.



The contents of any third-party letters/reports above do not necessarily reflect the opinions or viewpoint of normxxx. They are provided for informational/educational purposes only.

The content of any message or post by normxxx anywhere on this site is not to be construed as constituting market or investment advice. Such is intended for educational purposes only. Individuals should always consult with their own advisors for specific investment advice.

How Obama Is Already Taking Charge

How Obama Is Already Taking Charge

By Robert Reich | 27 November 2008

Obama's immediate challenge is to fill the leadership vacuum created by a lame-duck president with historically-low approval ratings who seems to have lost all interest in his job (at this writing, he's out of the country) and who's disappeared from the media, and a Treasury chief who has all but punted on coming up with any workable solution to the crisis. But Obama doesn't become president until 12 noon eastern standard time on January 20— and the national economy is imploding right now.

How does Obama manage this feat? Two ways: (1) appointing a highly-capable economic team, and (2) telling the nation what he plans to do starting the afternoon of January 20. Specifically:

(1) The members of Obama's new economic team fit the bill. They're reported (I have no inside knowledge) to include Tim Geithner at Treasury, Peter Orszag at the Office of Management and Budget, Jack Lew and Jason Furman at the National Economic Council, and Austan Goolsbee at the Council of Economic Advisors. All have several things in common. They're relatively young, in their late 30s or 40s, representing a generational change and a fresh start. Despite their youth, they're also experienced; almost all were up-and-comers in the Clinton Treasury, NEC, and OMB.

All are pragmatists. Some media have dubbed them "centrists" or "center-right," but in truth they're remarkably free of ideological preconception. All have well-earned reputations as hard workers, well-versed in the technical details of public and private finance.

They are not visible veterans of the old battles over supply-side economics or deficit reduction, nor are they well-known to the public. They are not visionaries but we don't need visionaries when the economic perils are clear and immediate. We need competence. Obama could not appoint a more competent group.

(2) The President-Elect has also signaled the country what he wants to do: enact an "Economic Recovery Plan" that will mean 2.5 million more jobs by January of 2011. In his words (from Saturday's radio address) a plan "big enough to meet the challenges we face ... a two-year, nationwide effort to jumpstart job creation in America and lay the foundation for a strong and growing economy." Again, I have no inside knowledge, but I'd expect it to be about $600 to $700 billion.

Its focus will be on infrastructure of a sort that will not only put people to work but also improve the productivity of the economy. His words: "We’ll put people back to work rebuilding our crumbling roads and bridges, modernizing schools that are failing our children, and building wind farms and solar panels; fuel-efficient cars and the alternative energy technologies that can free us from our dependence on foreign oil and keep our economy competitive in the years ahead."

In short, Obama's job-stimulus plan will be a down-payment on his larger plan to increase the nation's public investment. "These aren’t just steps to pull ourselves out of this immediate crisis," he says, "these are the long-term investments in our economic future that have been ignored for far too long. And they represent an early down payment on the type of reform my Administration will bring to Washington." He could not be more specific, at least while still President-Elect.

At a time when aggregate demand is shriveling because consumers aren't spending and investors have stopped investing, and exports are shrinking, Obama recognizes that government must be the spender of last resort. He will combine old-fashioned Keynesian economics with newly-fashioned public investments to pull the economy out of its slump. By putting his economic team in place barely three weeks after he was elected, and telling the nation what he plans to do immediately after he takes office, the President-Elect is asserting leadership at a time when the the Bush administration has all but abdicated.

Volcker Issues Dire Warning

Volcker Issues Dire Warning On Slump

By Ambrose Evans-Pritchard, Telegraph, UK | 17 November 2008

Paul Volcker, the former chairman of the US Federal Reserve, has warned that the economic slump has begun to metastasise after a shocking collapse in output over the past two months, threatening to overwhelm the incoming Obama administration as it struggles to restore confidence.

"What this crisis reveals is a broken financial system like no other in my lifetime," he told a conference at Lombard Street Research in London.
"Normal monetary policy is not able to get money flowing. The trouble is that, even with all this [government] protection, the market is not moving again. The only other time we have seen the US economy drop as suddenly as this was when the Carter administration imposed credit controls, which was artificial."

His comments come as the blizzard of dire data in the US continues to crush spirits. The Empire State index of manufacturing dropped to minus 24.6 in October, the lowest ever recorded. Paul Ashworth, US economist at Capital Economics, said business spending was now going into "meltdown", compounding the collapse in consumer spending that is already under way.

Mr Volcker, an adviser to President-Elect Barack Obama and head of his Economic Recovery Advisory Board, warned that it is already too late to avoid a severe downturn even if the credit markets stabilise over coming months. "I don't think anybody thinks we're going to get through this recession in a hurry," he said. He advised Mr Obama to tread a fine line, embarking on bold action with a "compelling economic logic" rather than scattering fiscal stimulus or resorting to a wholesale bail-out of Detroit. "He can't just throw money at the auto industry."

Mr Volcker is a towering figure in the US, praised for taming the great inflation of the late 1970s with unpopular monetary rigour. He is no friend of Alan Greenspan, who replaced him at the Fed and presided over credit excess that pushed private debt to 300% of GDP. "There has been leveraging in the economy beyond imagination, and nobody was saying we need to do something," he said. "There are cycles in human nature and it is up to regulators to moderate these excesses. Alan was not a big regulator."

Even so, he said the arch-culprit was the bonus system that allowed bankers to draw forward "tremendous rewards" before the disastrous consequences of their actions became clear, as well as the new means of credit alchemy that let them slice and dice mortgage debt into packages that disguised risk [[and has made equitable mortgage adjustments almost impossible : normxxx]].



The contents of any third-party letters/reports above do not necessarily reflect the opinions or viewpoint of normxxx. They are provided for informational/educational purposes only.

The content of any message or post by normxxx anywhere on this site is not to be construed as constituting market or investment advice. Such is intended for educational purposes only. Individuals should always consult with their own advisors for specific investment advice.

How To Invest In The Obama Recovery

How To Invest In The Obama Recovery

By Tim Middleton, MSN Money | 27 November 2008

Elected to fix the economy, the incoming president has signaled a commitment to focusing on 3 areas. Savvy investors can follow these trends for personal profit.

It's Always The Economy, Stupid

FDR won the Second World War, but he's better remembered for the New Deal. Ronald Reagan won the Cold War, but his economic reforms are what broke the back of stagflation [[and it's his elimination of steeply progressive tax brackets, unadjusted for inflation that he's remembered for: normxxx]]. Bill Clinton eradicated welfare as we knew it, but he'll be remembered more for free-trade deals that unleashed global prosperity.

Barack Obama won the White House promising to overcome the economic malaise created by his predecessor. He will be the first black president of the United States, but he wasn't elected because he's black. He was elected to fix a badly broken wealth engine. He made his priorities clear enough that we investors can see the outline of the kind of economic recovery he has in mind. We can, therefore, invest alongside these trends to our personal profit.

And though no presidential candidate can explicitly promise his favored constituents that he will give them absolutely anything they want, he can do it implicitly, and Obama has. These are the Three Anythings the incoming Obama administration offers to investors. Accept the invitation by buying:

  • Anything green, including the U.S. dollar.

  • Anything with its hand out, especially government itself.

  • Anything that would hurt if you dropped it on your foot, like a cement truck.

Alternative energy, municipal bonds and 'infrastructure' are the new Halliburton (HAL), the oil services giant whose stock more than doubled under the watch of its former boss, Vice President Dick Cheney— at least until the bear market came along. In league with global trends that recognize the greenback as the world's only reliable reserve currency, this trio will help restore the U.S. dollar to primacy over the euro. That bodes well for domestic over foreign securities, from stocks to bonds.

Here are the priorities, and how to invest in them, explained:

Go Green

When Sarah Palin cried "Drill, baby, drill!" she showed how clueless her ticket was in this year's election. Petroleum is so Republican. And except at extravagant prices, it is so scarce. (Ignore the current momentary dip; it won't last.) Moreover, so much of it lies beneath land under the sway of people who are not America's friends.

Wind and solar energy are expensive, too, but so was hydroelectricity once. Now it's the cheapest form of energy. Indeed, the Pacific Northwest has become the home to so many high-technology companies— including Microsoft (MSFT), the publisher of MSN Money— because theirs are generally energy-intensive enterprises— and that's where so many rivers were dammed to harness electric generating potential.

And the cost curve of alternative-energy sources is going down, not up. Solar panels exploit the same advantages in engineering as microchips, which makes it possible for them to become "relentlessly cheaper," just as LCD televisions have become, says Kevin M. Landis, the manager of the Firsthand Alternative Energy Fund (ALTEX).

Among the incentives the Obama administration could offer to aid alternative energy would be to expand net metering and time-of-day pricing, strategies already employed in parts of the nation. Under net metering, the excess electricity that power-company customers produce— through solar panels, for example— is bought by the companies at retail prices. Where time-of-day pricing is used, those prices peak in midafternoon during summer, exactly when solar energy is most abundant. The power companies, in turn, are spared the cost of building generating plants just to meet peak demand.

Stocks in this area can be extremely volatile, making funds a better choice for most investors. Relatively few mutual funds are specifically targeted to green energy, but several exchange-traded funds are, including PowerShares WilderHill Clean Energy (PBW), Market Vectors Solar Energy (KWT) and First Trust Global Wind Energy (FAN).

Buy American

The dollar began rallying earlier this year as the whole world dumped risky investments and flocked to U.S. Treasuries, which you can buy only with greenbacks. Demand was so great that three-month T-bills were yielding almost nothing. It was a reminder that, no matter what they say about the U.S., foreigners recognize it is the only superpower— economically as well as militarily.

Also, the U.S. was the first to recognize the current economic malaise and try to deal with it, in part by cutting interest rates. Thus, says Robert J. Froehlich, the chief investment strategist of DWS Investments, U.S. stocks will recover before those of other nations, and everybody knows that— including foreign investors, who will flock to our stock markets at the expense of their own.

The immediate way to play the dollar's rally is PowerShares DB US Dollar Bullish (UUP), up 13.5% for the year, through Nov. 19. The indirect way is to cut back on foreign funds and switch the proceeds to domestic stock funds. Froehlich also recommends Wal-Mart Stores (WMT), which gets only a quarter of its revenue overseas. In contrast, the average company in the Standard & Poor's 500 Index ($INX) is dependent on foreign sales for 41% of revenue.

Buy Government Bonds

Nobody is happier to give away taxpayer money than Congress, which has come perilously close this month to squandering it on the Big Three automakers, the stupidest managers outside the gold industry. The Democrat-controlled Congress will have no inhibitions in granting relief to states and cities, however, and you can invest in them through their bonds. Those bonds currently offer yields that approach 10% when you add in their tax benefits.

"We just bought some New York municipals at a 6.4% yield," marvels Lewis J. Altfest, a financial adviser in Manhattan. These are New York City double-A-rated bonds, which are free of federal, state and city income taxes. "Where does anyone come off giving you triple tax-free for a rate so much above Treasurys?" Altfest asks. "It's not an overstatement to say it's unheard of."

In more normal times, the bonds would yield about 15% less than Treasurys. Since a bond's yield is the reciprocal of its price— opposite ends of a teeter-totter, joined to each other— a return to normal yields would send prices soaring, generating lush capital gains for bond owners. Even federally linked bonds, namely mortgage-backed securities from the likes of the Government National Mortgage Association, aka Ginnie Mae, are selling at distressed prices, and most bonds backed by high-quality mortgages are explicitly or implicitly guaranteed by Uncle Sam.

But don't buy Treasurys. The federal issues are way overpriced because of the fear factor.

Buy Infrastructure

A substantial part of the municipal-bond business is tied directly to infrastructure, in the form of toll roads, airports and sewage treatment plants. Infrastructure is a favorite Obama theme and a perennial favorite of politicians because it can create immediate high-paying blue-collar jobs.

But you can also play infrastructure through equities. "You want to own the things that if you drop them on your foot would hurt— steel and railroads and those sorts of things," says Dennis Gartman, the publisher of an eponymous investment newsletter. "You want to own copper and Caterpillar (CAT), the movers and the makers of stuff. That's what infrastructure is." In usual investment parlance, infrastructure refers to public utilities, which themselves are a decent defensive investment, but doesn't capture the web of suppliers and other vendors in the infrastructure matrix. A better alternative is a fund that targets basic industries, such as Industrial Select Sector SPDR (XLI). This exchange-traded fund's top holdings include General Electric (GE), United Technologies (UTX), United Parcel Service (UPS), 3M (MMM) and Boeing (BA), as well as Caterpillar and Union Pacific (UNP). This is the "stuff" that Gartman is talking about.

Infrastructure isn't just a domestic issue. China has pledged more than $800 billion toward expanding infrastructure into its vast interior. China is roughly the size and shape of the United States, but only China's equivalent of the U.S. East Coast has been modernized. In U.S. terms, everything west of Pittsburgh is still dirt roads and rice paddies.

Saddled with an economic mess that would have tested FDR, Obama will not be free to implement as much of his agenda as he probably would like. And Congress, always fractious, can be counted on to throw up obstacles to success at every opportunity. But what James Carville famously told Bill Clinton's campaign staff in 1991— "It's the economy, stupid"— is just as true now. Obama will certainly fix his attention there, and he's more likely to build bridges than buy bullets. The investment climate will be tough for some time to come, but there will be winning sectors, and these Three Anythings will be among them.



The contents of any third-party letters/reports above do not necessarily reflect the opinions or viewpoint of normxxx. They are provided for informational/educational purposes only.

The content of any message or post by normxxx anywhere on this site is not to be construed as constituting market or investment advice. Such is intended for educational purposes only. Individuals should always consult with their own advisors for specific investment advice.

Tuesday, November 25, 2008

"Geithner Gotcha"

Investment Strategy: "Geithner Gotcha"

By Jeffrey Saut | 25 November 2008

"In short, it comes down to a simple bet: Either markets are correct, policy easing will prove to be ineffectual and we are looking at a deflationary depression (in which case a broad spectrum of economic thinking is wrong— from Keynes to Friedman). Or markets are wrong; the reflationary policies of the world’s financial leaders will mitigate the credit crisis and put the global economy on the road to recovery (by mid-2009 if past indicators are correct). Our readers know that we bet on the latter. However, that does not necessarily mean that we advocate piling into stocks. There is simply so much money to be made in the credit markets that the risk/reward scenario in equities cannot compete. Indeed, in credit markets you do not even have to bet whether we are facing a deflationary bust or not— you just have to believe these companies can repay their debt. And, excluding financials, there are still a lot companies that remain cash-flow positive with strong balance sheets and whose likelihood of bankruptcy is very small."

As the astute GaveKal organization notes, "Either markets are correct, policy easing will prove to be ineffectual and we are looking at a deflationary depression, or markets are wrong (and) the reflationary policies of the world’s financial leaders will mitigate the credit crisis and put the global economy on the road to recovery. Our readers know that we bet on the latter." Obviously I agree with GaveKal’s views, and while there is no question that the current financial fiasco is likely the most serious since the Great Depression, this is NOT the Great Depression. To be sure, the economy is nowhere near as impaired as it was back in the 1930s, as the following quip from Merrill Lynch makes clear:

"This is not the 1930s all over again. The government and the central banks are not sitting idly by as banks fail this time around. We have automatic stabilizers in place like welfare and unemployment insurance. Back in the 1930s, 40% of Americans lived in rural areas— a dust bowl today wouldn’t exactly have the same impact on today’s highly urban economy. Today’s labor market is far more flexible and productive. Back in the 30s, GDP plunged 27%, real private investment collapsed 87%, consumer spending contracted by 41%, industrial production plunged 54%, personal income fell 25%, the unemployment rate soared to 30%, and half the nation’s homeowners defaulted (not 10%), and 10,000 banks failed; and as over-saturated as we may be today, we don’t have that degree of excess capacity in the financial sector. Not that we are trying to sugar-coat the situation, but we need to put the current situation, which is an outlier, into perspective. It may be something more than just a garden-variety recession, but it is not the Great Depression II."

While not the Great Depression, we do think there will be a whiff of deflation over the coming few quarters. Recall, however, what Chairman Bernanke said in his 2002 speech about fighting deflation, as reprised by Merrill Lynch:

"Checking against Chairman Bernanke’s playbook for dealing with deflation we see that in 2002 he noted that the Fed could 1) target long-term yields, 2) purchase Agency debt, 3) offer direct loans to banks using a wide range of collateral, 4) purchase foreign bonds and municipals and, as a last resort, 5) use foreign exchange rates. Given that he has done numbers 2 and 3 and that 5 would not seem to be helpful in the current environment, it is important to consider the possibility that the Fed might choose to explore, as he put it, ‘A more direct method, which I personally prefer, would be for the Fed to begin announcing explicit ceiling for yields on longer-maturity Treasury debt.’"

Plainly Ben Bernanke is using, and/or considering, all the tools in his "toolbox" to dissuade the economy from plunging into a deflationary depression. Still, it appears that a pretty severe recession is in the works with 4Q08 GDP tracking toward a negative 5% reading; and, GDP is unlikely to turn positive before the second half of 2009 [[that "infamous second half" again…: normxxx]]. Adding to the deflationary, and recessionary, environment consumer prices (CPI) registered their largest monthly decline in the 61-year history of the data, ditto the PPI, unemployment claims leaped to their highest level since 2001, housing starts sank to their lowest level ever, permits for new houses also tumbled to their lowest level ever, and all of this caused the LEI (Leading Economic Indicators) to slide 0.8% in October. All of these indicators are setting the stage for an abysmal holiday selling season, telegraphed by last week’s -4.1% (year/year) collapse in nominal retail sales. In fact, according to Ed Hyman’s ISI organization:

"The single best correlation for holiday sales has been the stock market in the months leading up to the Christmas season with a 61% correlation. With the severe global recession, intense competition, and the halving of commodity prices already, we are probably entering a period of deflation. This is setting up the weakest NOMINAL GDP since 1954, something we worry the country’s businesses haven’t prepared for."

Meanwhile, the dour economic backdrop has caused analysts to lower their earnings forecasts on companies to the point whereby only 222 companies in the S&P 1500 have seen their earnings estimates increased. Obviously, this decline in earnings expectations has a caused a recalibration of P/E multiples with an attendant "hit" to stock prices. And last week that "hit" caused the S&P 500 to fall to its lowest closing level since April 1997, while other U.S. indexes set 5½-year lows. Moreover, the Wilshire 5000 index, the broadest measure of the U.S. markets, has now fallen by more than 50% since its peak 13 months ago; and Treasury yields also fell to record lows with the 30-year U.S. Treasury bond declining to lows last seen in the early 1960s.

Interestingly, the combination of lower stock prices and higher Treasury prices caused the dividend yield on the S&P 500 to exceed the yield on the 30-year Treasury bond for the first time since 1958. That means that a shareholder of the S&P 500 needs NO capital gains to outperform the holder of long-dated government bonds. And maybe, just maybe, those valuation metrics are what caused Vivan Watsa, CEO of Fairfax Holding (FFH/$276.68) and one of the few investors who have played this downturn to a tee, turning $500 million into more than $2 billion in the past year, to remove all of his downside stock hedges. Specifically Mr. Watsa stated:

"Given the unprecedented decline of the equity markets during the past several months, we felt it was prudent to promptly inform our shareholders that we closed out our equity index total return swaps this week and effectively eliminated our equity portfolio hedge. While we believe the recession may be long and deep, we also believe that stock prices may have already discounted the worst of the economic decline. As value investors, we are finding an incredible number of investment opportunities across the world."

For the past four weeks we too have spoken about finding numerous investment opportunities, citing things like The Wall Street Journal story that stated there are currently one in ten listed companies trading for less than the value of the cash and marketable securities on their balance sheets, as well as a list of companies that have increased their dividend every year for the last 20 years. And then there was this email of two weeks ago from one particularly bright portfolio manager, "I now have over 100 stocks on my watch list that are trading at, or below, book value and with superior fundamentals. Stocks, therefore, are too cheap and I am starting to buy for the first time this year".

Despite such investment opportunities, last week the DJIA slid below its October 10th low of 7882 that I had expected to mark the short/intermediate "low," thus activating downside targets between 7200 (approximately the 2002 low) and 7500 (50% retracement of the 1982 to 2007 Dow Wow). And, on Thursday and Friday of last week the DJIA traveled well into that target zone, leaving only 13 stocks in the S&P 500 above their respective 200-day moving averages, and extremely oversold, as can be seen in the charts. The Wednesday through Friday morning swoon lopped 1000 points off of the senior index, leaving participants in "crash mode," but Friday afternoon ushered in the "Geithner Gotcha".

For the last few weeks we have suggested that President-elect Obama could either adopt the FDR model, which would be disastrous for the economy and the markets, or he could step-up and provide leadership to fill the current leadership vacuum. Again as the GaveKal organization opined:

"Probably most important economic transformation which is about to occur is the transformation in personal leadership. Suppose you believe, as I do, that the financial meltdown triggered by the bankruptcy of Lehman Brothers was not a divinely ordained retribution for decades of greed and profligacy, but simply a bizarre accident, caused by the [[usual: normxxx]] incompetence of the Bush Administration, particularly of Mr. Paulson. In that case, the arrival of a credible new economic team in Washington, led by respected figures such as Messrs Volcker, Summers and Geithner, could transform psychology in global financial markets. With house prices stabilizing and an inspiring new leader replacing the doltish President Bush, American consumer and business confidence could enjoy a similar resurgence."

And, that appears to be precisely what happened late Friday. Hopefully, that mindset will continue this week.

The call for this week: We still think October 10th represented the capitulation "lows," as can be seen in the S&P 500 charts that shows the RSI and MACD indicators at their most oversold levels since the 1982. As Barron’s notes,
"For a bullish spin, though a weak one, the market has not made a significantly lower low since Oct. 10th. The word ‘significantly’ is important because some major market indexes, including the Nasdaq, have indeed been setting new lows. But the trend, if we can call it that, has been more sideways than decidedly down. A better, but still weak, bullish angle comes from trading volume, or the amount of money committed to either the bull or bear side each day. All of the higher volume days that have occurred since Oct. 10 have come on days when prices rose. Theoretically, when prices are going up and volume increases, it means that investors are chasing the market higher. That’s a sure sign of demand. Subsequent declines occurred with lower volume, so we can conclude that the desire to sell was not quite as strong as it was before Oct. 10th."
And don’t look now, but cold weather has crept into the country, which should be positive for the energy stocks we have been recommending.



The contents of any third-party letters/reports above do not necessarily reflect the opinions or viewpoint of normxxx. They are provided for informational/educational purposes only.

The content of any message or post by normxxx anywhere on this site is not to be construed as constituting market or investment advice. Such is intended for educational purposes only. Individuals should always consult with their own advisors for specific investment advice.

Saturday, November 22, 2008

Deflation: Abandon All Hope?

With the exception of Germany (which is not far behind), all of the European countries are now as badly off or worse than the UK!

Abandon All Hope Once You Enter Deflation

By Ambrose Evans-Pritchard, Telegraph, UK | 22 November 2008

The price of white truffles has fallen 84%. Fines wines have dropped 65%. Lobsters are off 52%. Deflation has reached the City. It has engulfed housing and now threatens to spread through the broader economy, lodging like a virus in the British and global monetary systems.

Deflation is sometimes likened to Dante's Inferno. "Abandon all hope" once you step into that Hellfire. We are not there yet, but Mervyn King, the Governor of the Bank of England, says it is now "very likely" that the UK retail price index will turn negative next year. This is a drastic reversal of the oil and food price spike that played such havoc with monetary policy just over the summer. "The world changed in September," said the Governor.

The Bank's fan charts point to zero inflation at current interest rates of 3%, but the startling new feature is that price falls could gather pace. This is a clear signal that the Monetary Policy Committee will cut rates again in December— perhaps by a full point to the historic low of 2%, last seen in the Great Depression. Mr King let slip yesterday that there is "obviously" a risk of deflation, although he remains sure it can be averted by a pre-emptive monetary blitz. Let us hope he is right.

A major curse of deflation is that it increases the burden of debts. Incomes fall: debts stay the same. This way lies suffocation. It was bad enough in the early 1930s when US farmers faced a Sisyphean Task trying to meet mortgage payments on their land as crop prices kept sliding. They suffered mass foreclosure and fled West, as recounted in John Steinbeck's Grapes of Wrath.

We forget, however, that overall borrowing was modest in the 1930s. The great credit bubble of the last 20 years has pushed debt levels in Britain, the US and other Western societies to unprecedented heights. UK household debt reached a record 165% of personal income last year. This is almost 50% higher than the burden at the onset of the recession in the early 1990s. Our sensitivity to debt deflation is therefore disproportionately greater.

"It is going to be absolute murder in Britain if inflation turns negative," said Professor Peter Spencer from York University. "The big difference with past episodes is that we are now much more heavily indebted. Few people owned their own houses in 1930s. Debts were miniscule."

Deflation has other insidious traits. It causes shoppers to hold back. They wait for ever lower prices. Once this psychology gains a grip, it can gradually set off a self-feeding spiral that is hard to stop.

It also redistributes wealth— the wrong way. Savings appreciate, which is nice for the "rentiers" with the capital. The effect is a large transfer of income from working people with mortgages to bondholders. (These may be pension funds, of course).

The modern warning to us all is the "Lost Decade" in Japan, a loose term for the on-again, off-again slump that ultimately led to zero interest rates and— when that failed— to the printing of money. After 18 years, the Nikkei stock index is now trading at 8,700— down from its peak of nearly 40,000. House prices have fallen by half. [[It had fallen as low as two-thirds! : normxxx]] Yet after all the stimulus, the country is once again tipping back into deflation.

Governor King said Britain was likely to avoid this fate. "We've taken action much earlier than was the case in Japan," he said. Not everybody agrees, even after the shock and awe cut of 1.5 percentage points by the MPC. Albert Edwards, global strategist at Société Générale, has long warned that central banks in the Anglo-Saxon countries have stored up trouble by stoking credit booms, and may find it harder than they think to engineer a soft-landing.

"This could easily go the way of Japan. It is true that Bank of England has moved faster, but Japan was a local bubble. This time it is the 'great unwind' on a global scale with leverage spaghetti everywhere," he said. "The monetary authorities don't have foggiest idea themselves whether this is going to work. They're crossing their fingers and hoping," he said.

Nor is it clear whether rate cuts are gaining much traction. The average rate of tracker mortgages has risen 72 basis points since last month, and credit card rates have been rocketing. The Bank's transmission mechanism is not working properly. This a variant of the 1930s struggle when the central banks found themselves "pushing on a string", in the words of John Maynard Keynes. He called for 'public works' to lift the economy out of its liquidity trap.

This is more or less what the US, Japan, China, and parts of Europe are now doing— with more in store after the G20 this weekend. Britain has pitifully limited scope on this front. We had a budget deficit of 3% of GDP at the top of the cycle— when we should have been in surplus— and we are heading for over 8%. This is already nearing the danger level. If the Government now lets rip on fiscal policy, we could face a 'gilts strike' as foreign investors retreat from UK debt. [[Sound familiar!?!: normxxx]]

The Bank of England has not run out of ammo yet. It can cut rates to zero if necessary and then escalate to direct infusions of money by purchasing bonds— or indeed by buying a vast range of securities, assets and even houses if necessary. Ultimately it can print money to cover the budget deficit.

As the late Milton Friedman put it, governments can drop bundles of banknotes from helicopters. If they really want to defeat to deflation, they can. Mr Friedman may have overlooked the fact that gunmen can shoot down the helicopter— the Bank of France in October 1931, when it ditched the dollar; perhaps Asian bond investors today?— but that is to quibble.

Professor Spencer says the Bank of England has learned the hard lessons. Without the constraints of the ERM, Gold Standard, or any other fixed exchange system, it retains great freedom of action. "They are very aware of the deflation risk. They are cutting rates very fast, and if necessary they too will turn to helicopters. But in the end they will keep the wolf from the door," he said.



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Russia's Banal Reality

Russia's Banal Reality Lies In Between Energy Superpower And Bankrupt State

By Ambrose Evans-Pritchard, Telegraph, UK | 17 November 2008

Russia has been losing $10bn in foreign reserves a week since it snatched South Ossetia and ramped up the new Cold War with nuclear threats.

Shoppers in downtown Moscow Photo: AP

A fifth of the Kremlin’s fire-fighting fund has gone before the economic crisis even starts. Would the Medvedev-Putin duo have provoked the West so nonchalantly had they known that global recession would soon cut the price of Urals crude oil to $49.35 a barrel, knocking away the chief prop of Kremlin finance and Russian power? The pace of capital flight quickened last week to $16bn after a botched mini-devaluation by the central bank.

Tinkering with currency bands is hazardous in a country where memories of the 1998 savings wipeout are still fresh. The Kremlin already faces a run on Russia’s banks as depositors rush to switch their roubles into dollars, despite the $200bn financial rescue package. Russia’s Globex bank suspended withdrawals by depositors on Wednesday. Kommersant newspaper reports that the deposit loss from rouble accounts reached 54% at Sobinbank in October, 27% at Globex, 25% at Raiffeisenbank, 24% at Unicredit, and 22% at Alfa.

"The deposit run has intensified to dramatic levels. The government’s attempts to slow panic migration to foreign currencies has failed," said Marina Vlasenko, from Commerzbank. The central bank is caught in a fixed exchange rate trap. Pegs create the illusion of currency stability just long enough to lull everybody into a false sense of security (note Greece and Spain inside EMU). Russia either burns reserves propping up the rouble, or it risks a self-feeding devaluation spiral.

There is a third way, of course. Premier Vladimir Putin issued a veiled threat on Monday to impose capital controls. Money flows out of the country would be strictly monitored, and "corporate egotism, any kind of corruption or abuse" would not be tolerated. Yes, he also said that "legal movement of capital overseas is a civilized financial transaction. There is no question of any state bans". Take your pick.

The cost of insuring against Kremlin default tells us that somebody is worried. Credit default swaps (CDS) on Russia’s debt traded at 827 last week, higher than Hungary’s debt (605) before it secured an IMF rescue. Gazprom debt was off the charts at 1155.

CDS contracts can overstate a case. But investors have rediscovered that the Russia story— stripped of BRIC’s happy talk— is still not much more than a leveraged play on oil and gas. Commodities made up 85% of export revenues at bubble peak in May, just before the RTS index on Moscow’s bourse began its 73% crash. A trillion dollars of paper wealth has vanished.

The government’ spending plan for 2009-2011 is based on a Urals oil price of $95. Finance minister Alexei Kudrin said the state would dip into its Reserve Fund (now 8.2% of GDP) to cover any shortfall. This is not a strategy that can survive the global slump we face next year. The Kremlin lives off energy taxes. It has no other income to speak of. The domestic bond market is tiny.

That is why it had to order oil companies last week to renew export shipments. They were selling at near $10 a barrel in the domestic market because crude prices have fallen to a level that no longer makes it rational to sell abroad given the state’s $40 export tariff. Russia must soon choose: either bleed its oil industry to death, or slash spending and face street riots. It is already mobilizing the apparatus of coercion. The Moscow Times bravely ran the headline "Police get orders to crush crisis unrest".

Interior minister Rashid Nurgaliyev said: "Anti-crisis groups are to be set up in the regions to intercept any early indications of destabilization." Marie Mendras, a Russia advisor to French president Nicolas Sarkozy, said the Kremlin is responding the only way it knows how. "The Putin regime is politically closed, won’t listen, and is incapable of adapting to this sort of financial crisis, so they are resorting to repression," she told a Russia Foundation meeting.

Will Russia go bankrupt again? Unlikely, said Charles Robertson, a strategist at ING. Foreign debt— at both state and private companies— was 10 times reserves before the 1998 default: it is roughly equal this time. While oligarchs and state firms have built up $500bn of dollar and euro liabilities, the volume of short-term loans that must be rolled over within 12 months is modest compared to the Asian and Latin American crises of recent years. The money supply in the banking system is a super-low 1.2 times foreign reserves.

"Today Russia is one of the safest countries in the world. We are aware of no case in history of a significant collapse in the currency with ratios this low," he said. The price of oil will not stay low enough for long enough to destroy the system as it destroyed the Soviet Union in the 1980s. The International Energy Agency warned last week that the world’s oil fields were depleting at an alarming rate. "We will require four new Saudi Arabias by 2030 to meet demand."

The inevitable energy rebound will bail out Russia again, but not enough to restore the country to superpower status soon, if ever. "Does Russia really have energy power?" asked Professor Alan Riley, from City University. "The giant gas fields are running down. Russia must turn to the High North where reserves are 560 kilometers into the Arctic, 360 meters down, and very expensive to extract. This is by an incompetent Russia with a Soviet-style gas system that has not made the investments needed," he said.

Somewhere between yesterday’s inflated talk of Russian riches and today’s talk of Russian bankruptcy lies the banal reality of a mid-ranking nation, run by a dysfunctional elite, with the worst aging crisis in the Western world, that happens to be sitting on a lot of resources.

As the adage goes: Russia is never as strong as she looks; Russia is never as weak as she looks.


Russia Lifts Rates To 12% To Save Rouble As Crisis Deepens

By Ambrose Evans-Pritchard, Telegraph, UK | 12 November 2008

Russia's central bank has raised interest rates a full percentage point to 12% to prevent a collapse of the rouble following a day of mayhem on the Moscow markets, prompting concerns that the financial crisis may be spiralling out of control.

The surprise move last night came after the authorities had spent $7bn of foreign reserves in a matter of hours trying to defend the currency, at a lower level. The central bank has now spent $84bn of its reserves over the last month. "The devaluation has begun," said Lars Christensen, Russia strategist at Danske Bank.

"The rouble has fallen out of its basket against the euro and the dollar. Russia is facing a serious confidence crisis and this could set off a self-fulfilling panic. What is clear is that economy is slowing drastically."

Chris Weafer, strategist at UralSib, said there were echoes of the 1998 crisis. "If people lose confidence, we could have a massive run on the banks as we saw twice in the nineties: then the game is up," he told Bloomberg. Russia is battening down the hatches for a deep slump. It has downgraded its oil forecast to $50 a barrel next year, a level that will play havoc with the state finances.

Expecting trouble, the Kremlin has mobilised the police to crush dissent. "If anyone tries to exploit the financial crisis, the authorities should bring criminal charges. We don't want a return to the 1990s when everything was seething," said President Dmitry Medvedev. Interior Minister Rashid Nurgaliyev said "the mounting consequences of the world financial crisis could well have an unpredictable effect.

"Anti-crisis groups have been set up in the regions… to intercept any early indications of destabilization," he said. Donald Jensen, an adviser to the US government, told a Russia Foundation meeting yesterday that the credit crunch posed a grave threat to the Kremlin. "This is pushing the Putin regime towards a crisis. Salaries are being held back and factories are being shut down in major cities. The regime cannot address all the demands that it is faced with," he said.

The Moscow bourse was closed after the RTS index plunged 10%, down over 70% from its peak. Credit default swaps measuring bankruptcy risk on Russian debt jumped 150 basis points to 630 as foreign investors scrambled to hedge exposure. "There is massive deleveraging going on in Russia on all fronts," said Luis Costa, an economist at Commerzbank.

Mr Costa said the oil slide had led to an abrupt change in the fortunes of Russia, which relies on commodities for 80% of its foreign earnings. "They are not going to have a current account surplus any longer. They could swing from plus 7% of GDP to minus 2% to 3% next year, which is quite a reversal," he said.

Any devaluation is a political risk given still fresh memories of the 1998 crisis, when many Russians lost their savings. The state-owned giant Sberbank has lost 2.5% of its deposits over the last month, while smaller lenders have suffered a classic bank run. Fitch Ratings downgraded twelve banks yesterday, warning of an "increased likelihood of a deterioration in the government's ability to provide support".

Russia still has the world's third biggest foreign reserves, but these have shrunk from $598bn to under $480bn due to capital flight since the Georgia war in August. Crucially, Russia's banks, oil producers, miners, and steel companies have amassed $510bn of foreign debt, mostly in short-term loans. Kingsmill Bond, from Russia's investment bank Troika Dialog, said the Kremlin has committed $280bn to shore up these companies.

While it still has some firepower left, it cannot weather a long slump in oil prices. If crude drops to around $50 a barrel, and stays there, the combined losses on Russia's current and capital accounts will reach $110bn a year. "We estimate that the rouble could drop by around 30%", he said.



The contents of any third-party letters/reports above do not necessarily reflect the opinions or viewpoint of normxxx. They are provided for informational/educational purposes only.

The content of any message or post by normxxx anywhere on this site is not to be construed as constituting market or investment advice. Such is intended for educational purposes only. Individuals should always consult with their own advisors for specific investment advice.