Financial mayhem

[Wolf DeVoon]

I've been working with a stock broker, a close friend who I trust, on the problem of what to do. Here's the situation in a nutshell. He manages $50 million. I manage $50,000. The other guys at the brokerage (my friend's peers) are in a complete panic. They're begging us to give guidance. I had a 30% gain last week, and my friend's fund is not negative, which makes him look like a genius. Here's what we talked about this afternoon:

The US economy is still the engine of world growth. There is no 'decoupling,' except maybe Russia, and everyone who gambled big money in Russia has lost every penny (Exxon, Shell, and the IMF in particular). It was incredibly dumb that Boeing outsourced all the 787 titanium parts to a Russian factory.

We are facing one of two possible economic scenarios. Either a bad recession of two or three quarters in 08, or a total meltdown like the Great Depression that will last for two, three, maybe five years, depending on what the next President and Congress do about it. Some things are dead certain. Congress and federal/state prosecutors in NYC are going to investigate Bear Stearns, Merrill Lynch, etc. Some brokerages and regional banks will probably fail.

Congress will bail out Freddie Mac and Fannie Mae. The Federal Reserve will cut interest rates and redouble lending to money center banks. None of this will do any good. Foreclosures will increase, factories and retailers will lay off workers, credit cards will default, and banks will stop lending altogether. State governments and municipalities will attempt to raise money with tax-free bonds to make up for gaping budget deficits and investment losses.

There is no obvious safe haven for money except to hoard cash as a hedge against deflation and gold in the short term.

Over to you, Brant.

Edited January 5, 2008 by Wolf DeVoon

[Brant Gaede]

I've been working with a stock broker, a close friend who I trust, on the problem of what to do. Here's the situation in a nutshell. He manages $50 million. I manage $50,000. The other guys at the brokerage (my friend's peers) are in a complete panic. They're begging us to give guidance. I had a 30% gain last week, and my friend's fund is not negative, which makes him look like a genius. Here's what we talked about this afternoon:

The US economy is still the engine of world growth. There is no 'decoupling,' except maybe Russia, and everyone who gambled big money in Russia has lost every penny (Exxon, Shell, and the IMF in particular). It was incredibly dumb that Boeing outsourced all the 787 titanium parts to a Russian factory.

We are facing one of two possible economic scenarios. Either a bad recession of two or three quarters in 08, or a total meltdown like the Great Depression that will last for two, three, maybe five years, depending on what the next President and Congress do about it. Some things are dead certain. Congress and federal/state prosecutors in NYC are going to investigate Bear Stearns, Merrill Lynch, etc. Some brokerages and regional banks will probably fail.

Congress will bail out Freddie Mac and Fannie Mae. The Federal Reserve will cut interest rates and redouble lending to money center banks. None of this will do any good. Foreclosures will increase, factories and retailers will lay off workers, credit cards will default, and banks will stop lending altogether. State governments and municipalities will attempt to raise money with tax-free bonds to make up for gaping budget deficits and investment losses.

There is no obvious safe haven for money except to hoard cash as a hedge against deflation and gold in the short term.

Over to you, Brant.

I don't know why a broker is managing money. There is a basic conflict of interest. Then you say he has a "fund." If you want to stay friends with this guy he must not know what your own investments are, because sooner or later there will be serious pain in the relationship. Otherwise it's okay to shoot the breeze.

I'm glad you had a 30% gain. I assume you didn't do it in a week but cashed in. If not, sounds very risky. How would you feel if you were wiped out or took a 30% loss?

The U.S. economy was the engine of world growth, now turned into very weak dollars. But Chinese markets (100% up in 2007) may continue up for a while out of inertia. Should last longer than Europe and India.

Recession yes, depression no. Excess liquidity is causing most of our economic problems and is being used now to fight them. Not very well because the Fed is acting too slowly, but so much for deflation.

The best gold investment is GLD which tracks the price of gold. A gold stock is much more volatile and dangerous, but the best are Yamana Gold and Barrick. Note: the latter has a market cap of 48 billion.

A European looking at America sees Americans as half as rich as they were five years ago. Americans are spending their way into the poorhouse.

Now take a stock like Altria (MO). It has a 4% dividend, will soon split into foreign and domestic operations and begin a massive stock buyback, most legal problems are behind it: think of it as a bond. Interest rates go down and the price of the bond (stock) goes up. Most excellent. Or, if you don't need income, Bershire Hathaway on pullbacks (one just happened). With 45 billion in cash and tripple A credit it could go up significantly as Buffett grabs bargains as they appear.

Best safe: ten-year treasuries. Hold for two-three years through a bond fund.

Best fund: Ken Heebner's CGM Focus Fund (CGMFX)--(up 87% in 2007) with an excellent track record in many markets for many years including 2000, 2001 and 2002. The man is a genius. Not for retirement.

Best investment book out there right now: Jim Cramer's "Stay Mad for Life." If you don't read this book cover to cover you are just ignorant--until you do.

--Brant

Note (edit): NEVER USE MARGIN! If your stock goes down you could lose that stock. If you own the stock outright even it it goes down 50% you still own it and no margin clerk can cash you out. This does not mean you should not have a margin account, however, or that you should hold a stock down 50%. Shorting is for pros.

Always have at least a 10 percent cash position to take advantage of opportunities without being forced to sell one equity to buy another.

Have a list of quality companies in different sectors and scale into them on market pullbacks. Or buy core positions now and then scale in over this coming year. I'm starting this year almost 100% cash. (I missed this last week's carnage.)

You MUST be diversified into at least 5 different economic sectors (avoid financials now).

Cash is king, don't be afraid of it. Even gold might have a big pullback.

Edited January 6, 2008 by Brant Gaede

[Wolf DeVoon]

Posted today at Prudent Bear:

It is pretty clear that income levels in the West are converging with those in the more competently run emerging markets. The bad news is that in the years ahead this is likely to happen through an absolute decline in Western living standards. The populations of India and China greatly exceed those of all the rich countries put together. The greater part of Western economies is vulnerable to low-wage competition. Thus the economic histories of a high proportion of the Western population under 30, except the very highly skilled, will involve repeated bouts of unemployment, with job changes involving not a move to higher living standards but an angry acceptance of lower ones. By 2030, it is possible that the median real income in the United States and Western Europe may be no more than 50-60% of its level today.

http://www.prudentbear.com/index.php/BearsLairHome

This in the context of Tata Motors of India buying Land Rover and Jaguar form Ford. Tata can build the same or better luxury cars with 90% lower labor cost. Bad news, esp. for British workers, but applies broadly to all US and European fat cat social welfare states.

Posted today at Seeking Alpha:

The term, “Debt Supercycle” is attributed to the BCA advisory, which has chronicled the rise of U.S. debt in one of the scarier charts to be found on the long-term prospects for the U.S. economy.

You’ll find it on page 3 of the document, An Inflection Point in the Debt Supercycle (although this particular portrayal downplays the uptrend with a longish horizontal axis). It shows U.S. non-federal debt as a percentage of GDP from the 1970s to present. As can be seen, the percentage of debt to GDP has been cycling ever higher – from 100 to 180 (with the surge since 2000 quite startling).

What this means is that there is a real capacity for a major economic implosion if market forces are left to unwind on their own. A debt-deflation spiral like the Great Depression of the 1930s is a possibility even -- unless the Fed responds quickly and dramatically (as it likely will) to stop the economic multipliers from gathering downward momentum.

There will be the usual fears over “pushing on a string,” and deflationary vortexes but the history of the Debt Supercycle and Fed policy indicates the latter wins out. Besides, there is still plenty of scope for a policy response of sufficient magnitude thanks to low consumer price inflation, aided by fiscal re-stimulation (federal debt is still relatively low at less than 40% of GDP), and a falling dollar.

The side effect of staving off another financial Armageddon will be another upleg in the Debt Supercycle and bubble-like episode (BCA’s picks emerging stocks and U.S. large caps as the favored assets). But this leaves one wondering where it will all end. Debt can’t keep rising relative to income forever. Perhaps the doom-and-gloom prophets will be right eventually about a supernova-like trauma. I don’t look forward to that at all.

http://seekingalpha.com/article/59087-can-...debt-supercycle

Sorry I can't find anything positive.

W.

Edited January 7, 2008 by Wolf DeVoon

[pbmaltzman]

Yeah, I'm in the midst of dealing with this myself. I do medical transcription as an independent contractor. I got an approximately 30% pay cut within the last couple of years (they changed the way lines were counted for production pay). This was on top of a work slowdown, then a learning curve with a second hospital client, new computer, and new software. For a while I was only making maybe half of what I'd done previously.

NONE of my bills went down at all. And my live-in wasn't working for much of the past several years.

Out of panic and desperation, I had gotten payday (and other) loans to help out.

I've been working more hours and working harder in an effort to bring my productivity back up to where I can handle the bills again without desperation measures. And my live-in is working again. Now I'm just hoping that my hands, wrists, and elbows will hold up under the stress.

Yeah, it's my fault that I didn't have a pile of money saved up before all this happened... but the live-in's situation didn't help either. Had he been working when I got my pay cut, things would have been a lot better around here.

My boss (small local company) still pays better than a lot of the big national companies (thankfully). But when the outstanding bills are paid off, we're either getting the hell out of Southern California permanently (moving to where the cost of living is cheaper), or perhaps I'm going to look into a mobile home. My guy loves Southern California weather (he can't drive), but it's gotten to the point that other things are beginning to trump the nicer weather.

Maybe Third Worlders can live on a low income and 15 people to one room, but this has been grueling for me, and I'm sure a lot of other people are in the same boat, even if they initially had more savings than I did.

I realize that I don't own my job... however, some days I feel as if all those Indians and Filipinos are getting jobs at my expense. They may think three cents a line is just dandy, but they don't have to deal with U.S. cost-of-living, taxes, and regulations like native-borns do.

I can't see anything positive in this situation either--not from my point of view. I wasn't living very high off the hog to begin with. I can finally see the light at the end of the tunnel, but it's been financial hell clawing my way back to some semblance of normalcy.

Finally, the more-frequent changing of jobs is a reality for many of us now. I am in my 50s and have not had long periods of unemployment, but I have done a couple of different jobs which have either become less plentiful, changed radically, or practically disappeared, such as low-level commercial artist, headline setting, typesetting, proofreader, word processor (once a hot job category with lots of classified ads), etc.

I don't think that medical transcription will disappear any time soon... but right now I'm hoping I can stay employed in this field until I croak.

If all the clients are looking for is a cheaper price, well, they can surely get that by outsourcing overseas... but I have also heard that this outsourced work is pretty variable in quality (literacy in terms of vernacular speech) and must be heavily edited by American editors. Maybe this will change as overseas personnel become more literate, but all I can say is that judging by the e-mails I get looking to take my job, they're not there YET.

Posted today at Prudent Bear:

It is pretty clear that income levels in the West are converging with those in the more competently run emerging markets. The bad news is that in the years ahead this is likely to happen through an absolute decline in Western living standards. The populations of India and China greatly exceed those of all the rich countries put together. The greater part of Western economies is vulnerable to low-wage competition. Thus the economic histories of a high proportion of the Western population under 30, except the very highly skilled, will involve repeated bouts of unemployment, with job changes involving not a move to higher living standards but an angry acceptance of lower ones. By 2030, it is possible that the median real income in the United States and Western Europe may be no more than 50-60% of its level today.

http://www.prudentbear.com/index.php/BearsLairHome

Edited January 7, 2008 by Pam Maltzman

[Wolf DeVoon]

Another seminal post today, by Bill Gross of Pimco:

The Bank of Shadows

and Wall Street brokers are busted:

http://www.bloomberg.com/apps/news?pid=206...&refer=home

Edited January 9, 2008 by Wolf DeVoon

[Wolf DeVoon]

This link just posted today, a concise, extremely clear explanation that I highly recommend.

http://www.prudentbear.com/index.php/GuestCommentaryHome

excerpt:

As yields in financial assets during the latter period of financial market growth were superior, capital pursued returns in the financial markets and not real assets. This financial asset inflation has until recently sequestered the visibility of monetary expansion away from consumer goods prices. The combination of the U.S. BLS and Statistics Canada’s muting of the CPI measures and apparent leasing of central bank gold to suppress the gold inflation signal has also contributed to the masking of the consequences of inflation of the money stock with its attendant record total debt levels in our economies.

We are now living through the terminal phase of a debt and credit cycle where greater amounts are required to be borrowed to pay interest on the existing debt to finance an economy already distorted by excessive credit creation and riddled with associated uneconomic enterprise, misallocation of resources, and speculative activity.

To illustrate the point, the annual credit market borrowing has increased to the extent that, in 2006, the U.S. economy required total credit market borrowing of $3.8 Trillion in a combined Federal, State, corporate and consumer measure. This $3.8 trillion in borrowing occurred in an economy with a GDP of $13.2 Trillion in 2006. Borrowing an additional 29% of GDP led to economic growth optimistically estimated at approximately 3% in 2006 using the current CPI measures.

The greatest danger we face today is the onset of hyper-inflation as the markets reallocate capital to real assets to protect wealth and price controls will not address the reason for this reallocation to protect wealth and maintain market function.

With world capital markets now inflated to more than $150 trillion in value, relatively small reallocations of this capital at the margins to assets undervalued in real terms such as commodities, energy, and precious metals can quickly explode the price of such critical assets in a bout of rapid-onset hyperinflation.

When the markets increasingly realize that bonds, currencies, and equities have been inflated over a prolonged period by monetary policy and have little value, this asset reallocation itself will likely follow the criticality theory model.

During periods of hyperinflation, currencies become worthless and this loss of trust in currency results in economies ceasing their normal function. Federal Reserve Chairman Bernanke and other central bank chairmen advocate making unlimited credit available to solve “liquidity” issues when it is the value of financial instruments and economic unsustainability that is at issue. Again, these injections of liquidity will destroy their currencies in addition to not addressing the underlying economic issues.

It is essential that a focus be placed on preserving faith in our currencies through immediate currency reform to avert a calamity beyond the very difficult economic contraction that is approaching.

[tjohnson]

Every chance I get I invest in becoming more self-sufficient, like a greenhouse, chicken coop, outdoor boiler, backup power, etc. because I have been concerned about the long term sustainability of the economies of Canada and USA and most industrialized countries.

[Wolf DeVoon]

It's worse than we think. In Atlanta, over 7,000 people showed up to apply for 300 Wal-Mart jobs paying minimum wage.

http://www.ajc.com/metro/content/metro/dek...0109.html?imw=Y

[Wolf DeVoon]

Ooooops! (potential 5-alarm fire) US may lose its AAA credit rating

"Today's Financial Times front page article that Moody's foresees the USA losing its AAA rating instantly rang alarm bells. For nearly a hundred years, the US Treasury has been the most creditworthy counterparty in the world, serving as the baseline against which all other credits are rated. Losing its AAA status as a creditor would undermine all US credit markets, the US dollar as a reserve currency and the global economy more generally as heightened uncertainty shakes up all credit evaluations."

http://www.dailykos.com/storyonly/2008/1/1...6169/389/434889

Edited January 12, 2008 by Wolf DeVoon

[Brant Gaede]

Ooooops! (potential 5-alarm fire) US may lose its AAA credit rating

"Today's Financial Times front page article that Moody's foresees the USA losing its AAA rating instantly rang alarm bells. For nearly a hundred years, the US Treasury has been the most creditworthy counterparty in the world, serving as the baseline against which all other credits are rated. Losing its AAA status as a creditor would undermine all US credit markets, the US dollar as a reserve currency and the global economy more generally as heightened uncertainty shakes up all credit evaluations."

http://www.dailykos.com/storyonly/2008/1/1...6169/389/434889

Like Bill Fleckenstein says: It ain't gonna happen.

--Brant

[Wolf DeVoon]

Here's a pie chart of a model brokerage account for 2008

link

Approximately half in cash. 44% in bulletproof funds BEARX, VIPSX, GLD

4% short General Motors in a March put option

2% long a gold mine in Mongolia, backed by Rio Tinto

Not shown: twice as much socked away in FDIC insured CDs

[BaalChatzaf]

Like Bill Fleckenstein says: It ain't gonna happen.

--Brant

I agree. Once we stop spending ourselves into bankruptcy on the incompetently fought Iraq war, things will settle down. It is amazing how -good- one can feel when he stops beating his head against a brick wall.

Ba'al Chatzaf

[Wolf DeVoon]

Once we stop spending ourselves into bankruptcy on the incompetently fought Iraq war, things will settle down.

Rubbish. Social Security, Medicare, muni debt, state and Federal revenue plunging, credit inflation bubble.

W.

[Brant Gaede]

Here's a pie chart of a model brokerage account for 2008

link

Approximately half in cash. 44% in bulletproof funds BEARX, VIPSX, GLD

4% short General Motors in a March put option

2% long a gold mine in Mongolia, backed by Rio Tinto

Not shown: twice as much socked away in FDIC insured CDs

I'd also consider Yamana Gold (AUY) as a more conservative speculative play. Way too much in CDs. Buy some Altria (MO) and get 4% plus capital appreciation. This company is virtually bulletproof. CDs are worse than bonds. However, they may help one sleep at night. That put option is getting close to expiring. Here's an idea for anyone who wants to have fun: Bank of America. It's merger with Countrywide Finance might not be very digestible. Put a long put on that!

--Brant

[BaalChatzaf]

Once we stop spending ourselves into bankruptcy on the incompetently fought Iraq war, things will settle down.

Rubbish. Social Security, Medicare, muni debt, state and Federal revenue plunging, credit inflation bubble.

W.

The Sky is Falling. We shall see.

Ba'al Chatzaf

[Wolf DeVoon]

Once we stop spending ourselves into bankruptcy on the incompetently fought Iraq war, things will settle down.

Rubbish. Social Security, Medicare, muni debt, state and Federal revenue plunging, credit inflation bubble.

W.

The Sky is Falling. We shall see.

Ba'al Chatzaf

The Fed will cut Monday morning or shortly thereafter. You get to look good for a few months. That's not the question. It doesn't matter if interest rates go to zero. I will personally bet $100 to a donut that US private sector employment falls 10% this year and rate cuts won't do a damn bit of good, because the issue is solvency not liquidity.

Two sound investment ideas for the coming crisis: food, uniforms and ordnance.

[BaalChatzaf]

Once we stop spending ourselves into bankruptcy on the incompetently fought Iraq war, things will settle down.

Rubbish. Social Security, Medicare, muni debt, state and Federal revenue plunging, credit inflation bubble.

W.

The Sky is Falling. We shall see.

Ba'al Chatzaf

The Fed will cut Monday morning or shortly thereafter. You get to look good for a few months. That's not the question. It doesn't matter if interest rates go to zero. I will personally bet $100 to a donut that US private sector employment falls 10% this year and rate cuts won't do a damn bit of good, because the issue is solvency not liquidity.

Two sound investment ideas for the coming crisis: food, uniforms and ordnance.

Hang on. We shall see. The Day of Reckoning is coming, but when? You say soon. Maybe. We shall see.

Ba'al Chatzaf

[Michael Stuart Kelly]

I will personally bet $100 to a donut...

Wolf,

When I was growing up, the phrase was "I bet you a dollar to a donut..."

Hmmmmmm...

Michael

[BaalChatzaf]

I will personally bet $100 to a donut...

Wolf,

When I was growing up, the phrase was "I bet you a dollar to a donut..."

Hmmmmmm...

Michael

Galloping Inflation.

Ba'al Chatzaf

[Wolf DeVoon]

A brief recap of how things stand. Arthur Laffer says there's no inflation, no recession ahead. Larry Kudlow says screw the inflation, run the printing presses at flank speed. Rick Santelli quotes Atlas Shrugged on air from the Chicago Board of Trade, and Cramer punts. In fairness to those who see America as the land of the free, here follows a multiple choice true-false quiz.

"Rising income inequality and slow real wage growth since 2000 reflect strong profit growth, much of which may be cyclical, and dramatic income gains for the top one percent of wage earners, a development that is more closely related to asset-market performance and technological and institutional innovations rather than conventional trade in goods and services."

http://benmuse.typepad.com/custom_house/20...collar-blu.html

"In light of the banking reforms and improved understanding of macroeconomic monetary theory, our economic situation is such that no recession will ever transform into the prolonged agony of the Great Depression. Businesses and individuals placing savings in banks can be reassured that should their bank fail, the FDIC will reimburse their deposits up to $100,000. This faith in the system in turn prevents the mass bank runs that worsened the situation at the beginning of the Depression. Federal Reserve officials like Alan Greenspan have exhibited appropriate and effective monetary responses to fluctuations in the economy, as opposed to the harmful actions taken by the Fed in the 1920s and '30s. By assessing the Federal Reserve and banks' actions in the past, we have ensured that the same mistakes will never be repeated again, and our country will never have to experience another calamity such as the Great Depression."

http://minneapolisfed.org/pubs/region/01-06/essay.cfm

Today, the total consumer debt is around $10 trillion... There is always the option to print money. That would go something like this. The US has a massive debt, so it prints money to ease the debt payments. This devalues the dollar. OPEC and China divest from the dollar, and then the dollar will devalue further. Theoretically, this would be good for exports if the US were not buying goods from China, Japan, Germany, and UK as well as service from India and Ireland. Jobs will move abroad, leading to increased unemployment. Things are already headed that way.

http://blogcritics.org/archives/2007/12/18/120921.php

“There is still a long way to go,” said Nouriel Roubini, an economist at the Stern School of Business at New York University and chairman of the research firm RGE Monitor. Mr. Roubini has long predicted the real estate downturn would cause a severe recession. He envisions foreclosures accelerating this year, and banks counting fresh losses. That could make them less able to lend and further slow economic activity, not just in the United States but around the world.

“We’re facing the risk of a systemic financial crisis,” Mr. Roubini said. “It’s not just subprime mortgages. The same kind of reckless lending has been occurring throughout the financial system. And it’s not only mortgages: Now it’s credit cards and auto loans, where we see problems increasing. The toxic junk is popping up everywhere.”

http://www.nytimes.com/2008/01/13/business...&ei=5087%0A

Edited January 14, 2008 by Wolf DeVoon

[Brant Gaede]

Hey, Wolf: I've got a thousand donuts!

--Brant

[Wolf DeVoon]

Hey, Wolf: I've got a thousand donuts!

--Brant

Limit one donut. You're on. 10% decline in US private sector employment in 2008. To be decided after BLS revisions June 09. Offsetting gains in federal, state, local government or government contractors does not count.

;)

[Brant Gaede]

Hey, Wolf: I've got a thousand donuts!

--Brant

Limit one donut. You're on. 10% decline in US private sector employment in 2008. To be decided after BLS revisions June 09. Offsetting gains in federal, state, local government or government contractors does not count.

;)

I'll buy the donut tomorrow morning!

--Brant

[Wolf DeVoon]

Hey, Wolf: I've got a thousand donuts!

--Brant

Limit one donut. You're on. 10% decline in US private sector employment in 2008. To be decided after BLS revisions June 09. Offsetting gains in federal, state, local government or government contractors does not count.

;)

I'll buy the donut tomorrow morning!

--Brant

You're going to hold a donut until June 09 !!! in what, nitrogen?

[Brant Gaede]

Hey, Wolf: I've got a thousand donuts!

--Brant

Limit one donut. You're on. 10% decline in US private sector employment in 2008. To be decided after BLS revisions June 09. Offsetting gains in federal, state, local government or government contractors does not count.

;)

I'll buy the donut tomorrow morning!

--Brant

You're going to hold a donut until June 09 !!! in what, nitrogen?

Naw, I'm just goin' to toss it bare-assed naked into my freezer.

--Brant