Overnight the Shanghai Composite broke down 5% to a new multi-month low of 3411. This puts the index 44% off of its peak reached last October.
On a percentage basis, the Chinese stock market has lost considerably more value than either the U.S. or European stock markets. Granted, the Chinese market far outperformed those other markets in the past 5 years, however, the parabolic path of the Chinese stock market (up and down) is eerily similiar to that of the Nasdaq circa 2000-2002.
It was just over one year ago (February 2007), when the global markets had a mini-crash in reaction to the Shanghai Composite losing 10% in two days. That turned out to be a non-event, as the Shanghai Composite went on to more than double in value in the ensuing 9 months.
Therefore, it's very interesting that the Shanghai Composite has now shed 44% from peak to trough, and yet this time, there has been very little commentary on this fact...After all, we've been told time and again that the Asian markets have "decoupled" from the U.S. economy and therefore won't be affected by the U.S. slowdown.
The fact that the Chinese stock market is underperforming the U.S. stock market tells me that someone of intelligence out there understands that the Chinese economy is highly leveraged to the U.S. economy, and that the path of least resistance for both markets is down...
Thursday, March 27, 2008
Saturday, March 22, 2008
MORAL FAILURE
So far I have explained at length the various economic root causes for this historic economic breakdown that we are witnessing, many of which are due to the mismanagement of the United States' economy.
Beyond the relative decline of one country however, the current "Globalized" economy was doomed to fail regardless, as much from MORAL failure as economic failure.
From a moral standpoint, the vast majority of people on this planet do not get paid under the current "pyramid" model, nor do they stand any reasonable chance of ever getting paid. One of the central tenets of a successful Ponzi Scheme is that the people at the bottom of the pyramid must absolutely hold faith that they too will one day attain an improved lifestyle. This is why trade barriers have been falling around the world, as country after country has put its faith in the globalized pyramid scheme.
Unfortunately, as we are now witnessing in real-time, the Westernized lifestyle is not SUSTAINABLE, to say nothing of being SCALABLE. The model is not sustainable because it is massively resource intensive i.e. 5% of the World's population (U.S.) use roughly 25% of the current output of natural resources. Simple mathematics indicates that this model can only be maintained if U.S. incomes rise as fast or faster than prices of natural resources. With the explosion of commodity prices in the past several years (e.g. oil has increased 1000% since 1998), this is clearly not the case.
If the model cannot be sustained across the current base of consumers in North America and Europe, then the scalability of this model is not even remotely possible, as the 5%/25% figures above make it mathematically impossible for the majority on this planet (or even a decent sized minority) to ever achieve a Westernized consumption-oriented lifestyle.
Once the leaders of the various developing countries around the world actually wake up to this most obvious fact, then the trade barriers will go back up and the global Ponzi will be officially over - for good.
Where does that leave the world economy? It means for one thing that the race is on to find the next great source of energy, as it's not possible for oil to be the same enabler of growth in the next century that it was in the past century. In fact, those economies rigidly tied to the use of fossil fuels, will inevitably experience sub-optimal growth. More importantly, however, for developing and developed nations alike, there will be a forced migration to an entirely new economic model and away from the Westernized lifestyle. Some of the key aspects of this new economic model will be (among others):
- Reduced resource footprint / end of the mass consumption based life style
- Quality of goods over quantity. Renewed emphasis on reusability and repairability
- Shared services: public transportation; rent vs. own etc.
- Focus on quality of life vs. wealth and material aggregation
- Focus on community life over individualistic lifestyles
- Reduced role and size of Government
Needless to say, for those in the developing world who already practice most of the habits described above, the adjustment will be relatively easy. For those in the developed world, the adjustment will be wrenching, difficult, AND LONG OVERDUE.
Beyond the relative decline of one country however, the current "Globalized" economy was doomed to fail regardless, as much from MORAL failure as economic failure.
From a moral standpoint, the vast majority of people on this planet do not get paid under the current "pyramid" model, nor do they stand any reasonable chance of ever getting paid. One of the central tenets of a successful Ponzi Scheme is that the people at the bottom of the pyramid must absolutely hold faith that they too will one day attain an improved lifestyle. This is why trade barriers have been falling around the world, as country after country has put its faith in the globalized pyramid scheme.
Unfortunately, as we are now witnessing in real-time, the Westernized lifestyle is not SUSTAINABLE, to say nothing of being SCALABLE. The model is not sustainable because it is massively resource intensive i.e. 5% of the World's population (U.S.) use roughly 25% of the current output of natural resources. Simple mathematics indicates that this model can only be maintained if U.S. incomes rise as fast or faster than prices of natural resources. With the explosion of commodity prices in the past several years (e.g. oil has increased 1000% since 1998), this is clearly not the case.
If the model cannot be sustained across the current base of consumers in North America and Europe, then the scalability of this model is not even remotely possible, as the 5%/25% figures above make it mathematically impossible for the majority on this planet (or even a decent sized minority) to ever achieve a Westernized consumption-oriented lifestyle.
Once the leaders of the various developing countries around the world actually wake up to this most obvious fact, then the trade barriers will go back up and the global Ponzi will be officially over - for good.
Where does that leave the world economy? It means for one thing that the race is on to find the next great source of energy, as it's not possible for oil to be the same enabler of growth in the next century that it was in the past century. In fact, those economies rigidly tied to the use of fossil fuels, will inevitably experience sub-optimal growth. More importantly, however, for developing and developed nations alike, there will be a forced migration to an entirely new economic model and away from the Westernized lifestyle. Some of the key aspects of this new economic model will be (among others):
- Reduced resource footprint / end of the mass consumption based life style
- Quality of goods over quantity. Renewed emphasis on reusability and repairability
- Shared services: public transportation; rent vs. own etc.
- Focus on quality of life vs. wealth and material aggregation
- Focus on community life over individualistic lifestyles
- Reduced role and size of Government
Needless to say, for those in the developing world who already practice most of the habits described above, the adjustment will be relatively easy. For those in the developed world, the adjustment will be wrenching, difficult, AND LONG OVERDUE.
Sunday, March 9, 2008
PONZI ECONOMICS
According to Tim Ferris, author of "The 4-Hour Workweek", thanks to overseas (aka. sweat shop) outsourcing (my adjective, not his), the profit margins for a typical direct sale product are > 50%. In addition, up front investment costs are minimal (as low as $1,000 - $2,000) and all other costs are variable (based on number of units sold), which makes the model infinitely scalable. For a successful product, that makes the potential return on investment practically infinite, while the downside risk is minimal. As good as that all sounds, one look at the numbers explains who gets paid according to this new model, and who does not:
From page 186: Splitting the Pie: Outsourcer Economics
Revenue (per unit sale price): $92.25
Expenses:
Product Manufacturing: $10
Call Center: $3.32
Shipping: $5.80
Fulfillment: $2.35
Credit Card Fees: $8.14 (includes returns, bad credit etc.)
Royalties: $2.40
Total Expenses: $32.01
Profit: $60.94
NOTE: this does not include advertising costs, which vary depending on the method used. In the Pay-per-click internet model, advertising costs would also be variable.
Key observations about this model:
1) Net profit is phenomenal at 66%
2) The cost of the product itself is only $10. This includes all of the raw materials to manufacture, the cost of labour, all plant-related fixed costs and the manufacturer's profit.
3) Even if Labour is 50% of the $10 (i.e. $5), the cost of labour could double and still not materially impact the final NET profit margin. However, due to hyper (read: destructive) competition among overseas manufacturer's, neither the labourer nor the outsource manufacturer has any pricing power to raise the $10 price.
4) The numbers above explain how S&P 500 profits have increased by double digit percentages each of the past several years. Traditionally, the only way to increase profit margins was to increase productivity (output per employee), either by improved technology/automation or more efficient processes. A big chunk of that $60 profit used to go into the pocket of American workers. Under the outsource model the American 'Consumer' still pays the same final price and the entire increase in margin accrues to the owner.
Since it's abundantly clear who DOES get paid in this model, let's consider who doesn't get paid in this model:
1) The foreign worker making 50 cents per hour, 70 hours per week
2) The American manufacturing worker who now wears an orange bib and makes $8/hour at Home Depot (oh right, he just lost that job too thanks to the declining housing market...)
3) The environment, since there is no room in this model for any type of sustainable environmental practices
The last takeaway I would make is that of all of the costs above, the only piece that isn't already at rock bottom is the profit margin itself. There are many optimists saying that the stock market can't fall, because P/E ratios are at reasonable levels; however, as the above model shows, the market is priced off of historically inflated and unsustainable profit margins. As the economy slows, the first thing that will come down (indeed, the only thing with room to come down) are these generous profit margins - fortunately (or unfortunately, depending on how you look at it) there is a very long way to fall...
From page 186: Splitting the Pie: Outsourcer Economics
Revenue (per unit sale price): $92.25
Expenses:
Product Manufacturing: $10
Call Center: $3.32
Shipping: $5.80
Fulfillment: $2.35
Credit Card Fees: $8.14 (includes returns, bad credit etc.)
Royalties: $2.40
Total Expenses: $32.01
Profit: $60.94
NOTE: this does not include advertising costs, which vary depending on the method used. In the Pay-per-click internet model, advertising costs would also be variable.
Key observations about this model:
1) Net profit is phenomenal at 66%
2) The cost of the product itself is only $10. This includes all of the raw materials to manufacture, the cost of labour, all plant-related fixed costs and the manufacturer's profit.
3) Even if Labour is 50% of the $10 (i.e. $5), the cost of labour could double and still not materially impact the final NET profit margin. However, due to hyper (read: destructive) competition among overseas manufacturer's, neither the labourer nor the outsource manufacturer has any pricing power to raise the $10 price.
4) The numbers above explain how S&P 500 profits have increased by double digit percentages each of the past several years. Traditionally, the only way to increase profit margins was to increase productivity (output per employee), either by improved technology/automation or more efficient processes. A big chunk of that $60 profit used to go into the pocket of American workers. Under the outsource model the American 'Consumer' still pays the same final price and the entire increase in margin accrues to the owner.
Since it's abundantly clear who DOES get paid in this model, let's consider who doesn't get paid in this model:
1) The foreign worker making 50 cents per hour, 70 hours per week
2) The American manufacturing worker who now wears an orange bib and makes $8/hour at Home Depot (oh right, he just lost that job too thanks to the declining housing market...)
3) The environment, since there is no room in this model for any type of sustainable environmental practices
The last takeaway I would make is that of all of the costs above, the only piece that isn't already at rock bottom is the profit margin itself. There are many optimists saying that the stock market can't fall, because P/E ratios are at reasonable levels; however, as the above model shows, the market is priced off of historically inflated and unsustainable profit margins. As the economy slows, the first thing that will come down (indeed, the only thing with room to come down) are these generous profit margins - fortunately (or unfortunately, depending on how you look at it) there is a very long way to fall...
Friday, March 7, 2008
MELTDOWN
We are on the verge of the long awaited financial meltdown. Here is roughly how I see things playing out from here:
1) Stock market tanks (Timing: One day to 3 months, most likely 1-6 weeks): the market has been in denial for a long time, but time is running out ...
- The stock market is the key as it directly represents investor/consumer confidence - once it goes, everything else will collapse like dominoes
Strategy: Cash and/or Index puts
2) Credit market seizure (Timing: One day to 3 months, most likely 1-6 weeks in conjunction with stock market tanking): The credit crisis has been slowly spreading and panic has been contained. I expect things to come unglued very soon...
3) Fed Panics and Drops Rates to Near Zero (Timing: One day to 3 months, in conjunction with credit/stock market tanking)
Strategy: Avoid exotic derivatives (due to counter-party risk). Avoid long-term Treasuries, Corporates or Munis
4) Commodity Market collapse (Timing: One day to 3 months, most likely 1-6 weeks in conjunction with stock market tanking): The commodity market has been the last refuge for investors. I expect that last leg of the stool to be kicked out any day now
Strategy: Stay out of the way
5) Liquidity Trap (Timing: 6 months to 12 months, in conjunction with Fed panic)
6) Widespread Bank Failures (Timing: 1 month to 18 months). Once the credit market goes into seizure, the crisis will soon spread to the banks. People will be SHOCKED AND AMAZED at how fast banks will close...
Strategy: Hold $10k - $20k in hard cash. All other cash funds only in FDIC insured deposits (no more than $100k at any one bank)
7) Massive Layoffs (Timing: Now for next 2 years). Today's job report was worst in five years (100k jobs lost in private sector). It's all downhill from here...
8) Real Economy Collapses (Timing: 3 months for next several years).
9) Deflation takes hold (Timing: 3 months for next ~2 years). Asset prices and goods and services prices deflate
10) Government Gets Desperate (Timing: 1 - 2 years)
Strategy: BUY GOLD (bullion, coins, futures, CEF, GLD etc...)
11) Hyperinflation (Timing: 2 to 5 years - hard to predict)
Strategy: BUY MORE GOLD (bullion, coins, futures, CEF, GLD etc...)
12) Crime and Anarchy (Timing: Now for the foreseeable future): Crime rates are already starting to tick up...
Strategy: TBD...
1) Stock market tanks (Timing: One day to 3 months, most likely 1-6 weeks): the market has been in denial for a long time, but time is running out ...
- The stock market is the key as it directly represents investor/consumer confidence - once it goes, everything else will collapse like dominoes
Strategy: Cash and/or Index puts
2) Credit market seizure (Timing: One day to 3 months, most likely 1-6 weeks in conjunction with stock market tanking): The credit crisis has been slowly spreading and panic has been contained. I expect things to come unglued very soon...
3) Fed Panics and Drops Rates to Near Zero (Timing: One day to 3 months, in conjunction with credit/stock market tanking)
Strategy: Avoid exotic derivatives (due to counter-party risk). Avoid long-term Treasuries, Corporates or Munis
4) Commodity Market collapse (Timing: One day to 3 months, most likely 1-6 weeks in conjunction with stock market tanking): The commodity market has been the last refuge for investors. I expect that last leg of the stool to be kicked out any day now
Strategy: Stay out of the way
5) Liquidity Trap (Timing: 6 months to 12 months, in conjunction with Fed panic)
6) Widespread Bank Failures (Timing: 1 month to 18 months). Once the credit market goes into seizure, the crisis will soon spread to the banks. People will be SHOCKED AND AMAZED at how fast banks will close...
Strategy: Hold $10k - $20k in hard cash. All other cash funds only in FDIC insured deposits (no more than $100k at any one bank)
7) Massive Layoffs (Timing: Now for next 2 years). Today's job report was worst in five years (100k jobs lost in private sector). It's all downhill from here...
8) Real Economy Collapses (Timing: 3 months for next several years).
9) Deflation takes hold (Timing: 3 months for next ~2 years). Asset prices and goods and services prices deflate
10) Government Gets Desperate (Timing: 1 - 2 years)
Strategy: BUY GOLD (bullion, coins, futures, CEF, GLD etc...)
11) Hyperinflation (Timing: 2 to 5 years - hard to predict)
Strategy: BUY MORE GOLD (bullion, coins, futures, CEF, GLD etc...)
12) Crime and Anarchy (Timing: Now for the foreseeable future): Crime rates are already starting to tick up...
Strategy: TBD...
Wednesday, March 5, 2008
Filet Mignon
In earlier posts I made mention of the fact that traders have been selling puts into each decline. That seems to me to be risking dollars to make nickels. Above is a snapshot of the Shaeffer's Open Interest (put/call) Ratio for QQQQ which shows this ratio is at it's lowest level in the past year. The current SOIR is 1.25 and the 1 year rank is 1% meaning that 99% of the time the ratio has been higher. On the 2 year chart the SOIR ratio is in blue.
Selling puts into a decline is risky business. Essentially you are providing downside risk insurance to other investors (and/or removing your hedges) on the premise that there won't be continued downside.
For the past 4 years this strategy has been working great, but it's one of those things that works great until that one day when it blows up in your face. It's kind of like eating Filet Mignon every day - it's a great idea for a long time and then all of a sudden comes that heart attack...
Selling puts into a decline is risky business. Essentially you are providing downside risk insurance to other investors (and/or removing your hedges) on the premise that there won't be continued downside.
For the past 4 years this strategy has been working great, but it's one of those things that works great until that one day when it blows up in your face. It's kind of like eating Filet Mignon every day - it's a great idea for a long time and then all of a sudden comes that heart attack...
Sunday, March 2, 2008
The Boy Who Cried Black Swan
The concept of the "Black Swan Event" was introduced in Nassim Taleb's book, "Fooled By Randomness". Borrowing from Wikipedia, the definition of a Black Swan event, is a "large-impact, hard to predict and rare event beyond the realm of normal expectations".
The term "Black Swan" is intended to indicate something rare, as in the occurrence of black swans in nature.
While it's easy to agree that such events occur, I do not agree with all of Taleb's conclusions regarding these events. One of his key assertions in the book is that the markets are random (why not, the text books say so) and all trading success in the markets can be ascribed to luck - that is of course except his own proprietary trading system. (As an aside if you are thinking of reading his book, this guy has the ego the size of the Grand Canyon, which makes it a difficult read).
His key point regarding Black Swan events, is that any trading strategy that works today or even for a few years, will eventually be wiped out a by a Black Swan event, because these, after all, are "unforeseen events".
My problem with this theory is that I don't believe Black Swan events are all that rare. Apparently the Asian currency crisis in 1987, the LTCM debacle in 1998, and 9/11, are all examples of Black Swan events. And yes, these financial crises all had different and unpredictable causes, but the outcomes were all relatively similar: the markets - stocks, commodities, risky bonds etc. all declined in unison, while "safe" treasuries rallied. If you tell me that a major selloff can happen three times in 5 years, then I probably should have a contingency plan to deal with such an occasion. The fact that millions of traders have survived all three of these recent events, tells me there is something wrong with his wipe out theory.
In addition, in order to define something as "rare" you need to have a time frame in mind, otherwise the use of the term could be completely erroneous. For example, on a day-to-day basis, a currency crisis is very rare, but over the course of a century, currency crises are relatively common occurrences.
Why waste my time or worse yet your time with all this? Simply because I know weeks or months from now, Taleb will be doing the talk show circuit telling everyone that this current crisis is a "Black Swan" event. There is no way it could have been predicted. Those (like me) who say they predicted it, are statistical anomalies - lucky fools. Unfortunately for Taleb, his theory cannot be proven. It is academic bullsh*t, no different than saying that a pro baseball player who hits home runs every night is a statistical anomaly - skill plays no role. I get it that Depressions don't happen everyday, however, from a historical perspective, they are not uncommon. There is no Great Power in the history of this planet that has ever borrowed its way to prosperity, and the United States won't be the first. Yes, trying to time the exact timing and sequence of the decline is/will be difficult, but the outcome is still inevitable.
For anyone to say that the current credit/economic fiasco was impossible to predict is like me quitting my job, maxing out my credit cards, mortgaging my house and then saying bankruptcy came out of nowhere.
My advice to Taleb is to put down his Monte Carlo simulator and pick up a copy of Paul Kennedy's Rise and Fall of the Great Powers, which is a must read for anyone who wants to put current events into historical context. From this book it is apparent that "Black Swan Events" are not very uncommon at all i.e. what the United States is experiencing now (competitive decline, depletion of the treasury, financial engineering, hubris, strategic overreach, energy shortage) has occurred to many other "Great" nations over the past 500 years.
The Boy Who Cried Wolf...
Which brings me to my other key point, that there is a line of specious reasoning making its rounds in the Mainstream Media which is the notion that something that hasn't happened so far, can't happen. After all, we've had debt and deficits for 30 years, no? We've survived the S&L crisis, the 1997 crisis, 1998 LTCM crisis, 9/11, so why should this time be any different? Those "perma-bears" have been crying doom and gloom for years now!
This line of reasoning is so specious that it falls strictly under the category of DISINFORMATION. It brings to mind the chain smoker who smokes for 20 years and thinks that he is invincible. Let me put a question back to these same cheerleaders: If massive debt and deficits are such a good idea, then why stop at giving out $1200 stimulus checks? Why not make it $60,000 per family - how about $6,000,000? Oh right, that's just crazy talk. Everyone knows that $1200 is the optimal amount...
One last thought for those who lump all bearish forecasters together as "perma-bears" and "stopped watches" in order to deride the messenger and ignore the message. The fact that the "Boy" was early in his forecast did not affect the outcome. In the end the boy was right: The wolf came, and it ate everything...
The term "Black Swan" is intended to indicate something rare, as in the occurrence of black swans in nature.
While it's easy to agree that such events occur, I do not agree with all of Taleb's conclusions regarding these events. One of his key assertions in the book is that the markets are random (why not, the text books say so) and all trading success in the markets can be ascribed to luck - that is of course except his own proprietary trading system. (As an aside if you are thinking of reading his book, this guy has the ego the size of the Grand Canyon, which makes it a difficult read).
His key point regarding Black Swan events, is that any trading strategy that works today or even for a few years, will eventually be wiped out a by a Black Swan event, because these, after all, are "unforeseen events".
My problem with this theory is that I don't believe Black Swan events are all that rare. Apparently the Asian currency crisis in 1987, the LTCM debacle in 1998, and 9/11, are all examples of Black Swan events. And yes, these financial crises all had different and unpredictable causes, but the outcomes were all relatively similar: the markets - stocks, commodities, risky bonds etc. all declined in unison, while "safe" treasuries rallied. If you tell me that a major selloff can happen three times in 5 years, then I probably should have a contingency plan to deal with such an occasion. The fact that millions of traders have survived all three of these recent events, tells me there is something wrong with his wipe out theory.
In addition, in order to define something as "rare" you need to have a time frame in mind, otherwise the use of the term could be completely erroneous. For example, on a day-to-day basis, a currency crisis is very rare, but over the course of a century, currency crises are relatively common occurrences.
Why waste my time or worse yet your time with all this? Simply because I know weeks or months from now, Taleb will be doing the talk show circuit telling everyone that this current crisis is a "Black Swan" event. There is no way it could have been predicted. Those (like me) who say they predicted it, are statistical anomalies - lucky fools. Unfortunately for Taleb, his theory cannot be proven. It is academic bullsh*t, no different than saying that a pro baseball player who hits home runs every night is a statistical anomaly - skill plays no role. I get it that Depressions don't happen everyday, however, from a historical perspective, they are not uncommon. There is no Great Power in the history of this planet that has ever borrowed its way to prosperity, and the United States won't be the first. Yes, trying to time the exact timing and sequence of the decline is/will be difficult, but the outcome is still inevitable.
For anyone to say that the current credit/economic fiasco was impossible to predict is like me quitting my job, maxing out my credit cards, mortgaging my house and then saying bankruptcy came out of nowhere.
My advice to Taleb is to put down his Monte Carlo simulator and pick up a copy of Paul Kennedy's Rise and Fall of the Great Powers, which is a must read for anyone who wants to put current events into historical context. From this book it is apparent that "Black Swan Events" are not very uncommon at all i.e. what the United States is experiencing now (competitive decline, depletion of the treasury, financial engineering, hubris, strategic overreach, energy shortage) has occurred to many other "Great" nations over the past 500 years.
The Boy Who Cried Wolf...
Which brings me to my other key point, that there is a line of specious reasoning making its rounds in the Mainstream Media which is the notion that something that hasn't happened so far, can't happen. After all, we've had debt and deficits for 30 years, no? We've survived the S&L crisis, the 1997 crisis, 1998 LTCM crisis, 9/11, so why should this time be any different? Those "perma-bears" have been crying doom and gloom for years now!
This line of reasoning is so specious that it falls strictly under the category of DISINFORMATION. It brings to mind the chain smoker who smokes for 20 years and thinks that he is invincible. Let me put a question back to these same cheerleaders: If massive debt and deficits are such a good idea, then why stop at giving out $1200 stimulus checks? Why not make it $60,000 per family - how about $6,000,000? Oh right, that's just crazy talk. Everyone knows that $1200 is the optimal amount...
One last thought for those who lump all bearish forecasters together as "perma-bears" and "stopped watches" in order to deride the messenger and ignore the message. The fact that the "Boy" was early in his forecast did not affect the outcome. In the end the boy was right: The wolf came, and it ate everything...
Thursday, February 28, 2008
LOOK OUT BELOW !!!
Looks like ALL of the markets (domestic stocks, global stocks, commodities) are getting set for a major leg down and here is why:
1) Since the January 22nd low, the stock market has been consolidating sideways in a very narrow pennant-shaped range. Usually a pennant formation is resolved in the direction of the trend, in this case down.
2) The Volatility index has declined since the January low, but it made a higher low and is beginning to rise again. Put sellers have been saved time and again these past four years, by V-Shaped recovery rallies, so they are highly conditioned to sell volatility into every decline. It's only a matter of time before this clueless cohort blow themselves up...
3) Oil, gold and commodities in general, appear to be in blowoff mode. Gold has risen 7 of the last 8 days and is now at $975/ounce. The charts of all commodities have gone parabolic...
4) Complaceny reigns: There appear to be few if any commentators looking for a major decline from here. The most bearish commentators are calling for a successful "retest" of the January lows.
5) The Euro has broken out to a major new high 1.52 vs. the dollar today, but similar to gold, the Euro move appears to be exhaustive, rather than breakaway. Likewise, the "dumb" money has been feeding at the Euro trough a little bit too long for this to be a lasting move...
6) Financial stocks started to break down again today on heavy volume. They led the way down in January, and most likely will lead the next leg down.
7) Treauries have caught a major reversal bid on very heavy volume in the past 3 days, indicating a flight to safety
8) The news flow this week has been unbelievably awful:
i) Decades' high inflation
ii) Rising unemployment claims
iii) Home prices falling by greatest percentage since 1930s depression
iv) Accelerating liquidity crisis in the debt markets, spreading to new asset classes
So far the market has weathered this perfect storm of bad data, but it likely wouldn't take much more to see things come really unglued...
1) Since the January 22nd low, the stock market has been consolidating sideways in a very narrow pennant-shaped range. Usually a pennant formation is resolved in the direction of the trend, in this case down.
2) The Volatility index has declined since the January low, but it made a higher low and is beginning to rise again. Put sellers have been saved time and again these past four years, by V-Shaped recovery rallies, so they are highly conditioned to sell volatility into every decline. It's only a matter of time before this clueless cohort blow themselves up...
3) Oil, gold and commodities in general, appear to be in blowoff mode. Gold has risen 7 of the last 8 days and is now at $975/ounce. The charts of all commodities have gone parabolic...
4) Complaceny reigns: There appear to be few if any commentators looking for a major decline from here. The most bearish commentators are calling for a successful "retest" of the January lows.
5) The Euro has broken out to a major new high 1.52 vs. the dollar today, but similar to gold, the Euro move appears to be exhaustive, rather than breakaway. Likewise, the "dumb" money has been feeding at the Euro trough a little bit too long for this to be a lasting move...
6) Financial stocks started to break down again today on heavy volume. They led the way down in January, and most likely will lead the next leg down.
7) Treauries have caught a major reversal bid on very heavy volume in the past 3 days, indicating a flight to safety
8) The news flow this week has been unbelievably awful:
i) Decades' high inflation
ii) Rising unemployment claims
iii) Home prices falling by greatest percentage since 1930s depression
iv) Accelerating liquidity crisis in the debt markets, spreading to new asset classes
So far the market has weathered this perfect storm of bad data, but it likely wouldn't take much more to see things come really unglued...
Wednesday, February 27, 2008
Fed already shooting blanks and Recession hasn't even started...yet
Since embarking on its rate cutting campaign last fall, the Fed has cut its interest rates several times in various increments bringing the Feds Fund rate from 5.25% down to 3%. Though seemingly Bernanke still has a few rounds left in the chamber, as I discussed earlier, if he cuts rates too low that would likely set-up a Liquidity trap scenario, negating the impact of the additional rate cuts.
It seems that my Liquidity Trap scenario has already been preempted by a transitory Stagflation scenario, which has rendered the Fed's latest round of rate cuts impotent. Since lowering rates twice in late January (.75% and .5%), long-term interest rates have been moving higher, not lower. The reason this is happening is due to the recent very high inflation readings - to wit, yesterday 's PPI print which was the highest since 1981.
These higher borrowing costs in combination with higher costs for food, energy, clothing, medicine, tuition...i.e. everything, is putting the squeeze on already highly leveraged consumers.
Yet, that hasn't stopped the man behind the curtain from continuing the rate cutting campaign, as just today Bernanke "signaled" to the markets that the Fed was preparing to cut rates again at its March meeting.
Why you ask, would the Fed continue to cut short-term rates and risk higher borrowing costs and living expenses for consumers? Easy - the Fed is cutting rates to steepen the yield curve which will allow banks to borrow short-term cheap and lend long-term i.e. the banks can make beaucoup $$$ via yield curve arbitrage. By doing so, the Fed is apparently more than willing to risk annihilating both the housing market and the general economy. It's a simple choice between Wall Street and Main Street and as always, Main Street loses.
As a post script, I would add, don't worry about this recent bout of stagflation. The deflationary spiral will soon enough obliterate commodities and any other bloated remnants of the great credit bubble.
It seems that my Liquidity Trap scenario has already been preempted by a transitory Stagflation scenario, which has rendered the Fed's latest round of rate cuts impotent. Since lowering rates twice in late January (.75% and .5%), long-term interest rates have been moving higher, not lower. The reason this is happening is due to the recent very high inflation readings - to wit, yesterday 's PPI print which was the highest since 1981.
These higher borrowing costs in combination with higher costs for food, energy, clothing, medicine, tuition...i.e. everything, is putting the squeeze on already highly leveraged consumers.
Yet, that hasn't stopped the man behind the curtain from continuing the rate cutting campaign, as just today Bernanke "signaled" to the markets that the Fed was preparing to cut rates again at its March meeting.
Why you ask, would the Fed continue to cut short-term rates and risk higher borrowing costs and living expenses for consumers? Easy - the Fed is cutting rates to steepen the yield curve which will allow banks to borrow short-term cheap and lend long-term i.e. the banks can make beaucoup $$$ via yield curve arbitrage. By doing so, the Fed is apparently more than willing to risk annihilating both the housing market and the general economy. It's a simple choice between Wall Street and Main Street and as always, Main Street loses.
As a post script, I would add, don't worry about this recent bout of stagflation. The deflationary spiral will soon enough obliterate commodities and any other bloated remnants of the great credit bubble.
Friday, February 22, 2008
TURBO FLAT TAX COMING SOON!
One of the key goals of the Right Wing movement during the past decades is to implement a flat tax at the Federal level. In fact, Steve Forbes has made it his life's mission to champion the flat tax and he even made it the primary platform for his failed Presidential bids in 1996 and 2000. Here is a guy born on third base, has had everything served up for him his entire life and yet his life's mission is to make the richest 2% of the country richer...I digress...
Fortunately for Steve, I believe we will be having a version of the flat tax very soon in this country; however, it won't exactly be the kind of flat tax that Steve Forbes was envisioning.
Here is how the "modified" flat tax will come into being:
1) As I've indicated below, the U.S. government is now bankrupt and the economy is heading for depression. So raising revenues the old fashioned way through taxes, isn't going to be very popular or successful.
2) The U.S. will experience severe deflation as the banking system collapses and money supply (credit) dries up
3) In response to the downward deflationary spiral, the Federal Government will be forced to prop up the economy through a MASSIVE fiscal stimulus program, far beyond the Tennessee Valley project of the 1930s and orders of magnitude larger than the recently announced "economic stimulus plan".
4) In order to finance this program, the Government will turn to the Federal reserve for funding. The Federal reserve, under heavy political duress, will do their duty and credit the Government bank account with hundreds of billions of *new* dollars. Yes, just like that, at the speed of light, via electronic deposit...
5) With this massive increase to the money supply, the dollars already in circulation will be immediately diluted and therefore devalued.
The great news for Steve Forbes is that this new "tax" program will be "flat" to the extent that it affects everyone proportionally. As an example, if my $10,000 savings declined to say $9,000, then Steve Forbes' $1billion would be worth $900 million - we were both "taxed" by the same % amount.
And the best part is that under this new plan, you won't even have to fill out a tax return!!!
Fortunately for Steve, I believe we will be having a version of the flat tax very soon in this country; however, it won't exactly be the kind of flat tax that Steve Forbes was envisioning.
Here is how the "modified" flat tax will come into being:
1) As I've indicated below, the U.S. government is now bankrupt and the economy is heading for depression. So raising revenues the old fashioned way through taxes, isn't going to be very popular or successful.
2) The U.S. will experience severe deflation as the banking system collapses and money supply (credit) dries up
3) In response to the downward deflationary spiral, the Federal Government will be forced to prop up the economy through a MASSIVE fiscal stimulus program, far beyond the Tennessee Valley project of the 1930s and orders of magnitude larger than the recently announced "economic stimulus plan".
4) In order to finance this program, the Government will turn to the Federal reserve for funding. The Federal reserve, under heavy political duress, will do their duty and credit the Government bank account with hundreds of billions of *new* dollars. Yes, just like that, at the speed of light, via electronic deposit...
5) With this massive increase to the money supply, the dollars already in circulation will be immediately diluted and therefore devalued.
The great news for Steve Forbes is that this new "tax" program will be "flat" to the extent that it affects everyone proportionally. As an example, if my $10,000 savings declined to say $9,000, then Steve Forbes' $1billion would be worth $900 million - we were both "taxed" by the same % amount.
And the best part is that under this new plan, you won't even have to fill out a tax return!!!
BANKRUPT
The United States Government is now officially bankrupt.
For 2008, the White House projects the fiscal deficit to be over $400 billion dollars (the entire Federal budget is a record $3.1 trillion dollars). Meanwhile, INTEREST on the national debt is expected to be also over $400 billion (The national debt itself is now over $9 trillion dollars and growing exponentially).
That means that the Government's entire new borrowings this year ($400B) will be allocated just to pay the INTEREST on past borrowings, without a dime left over for anything else. Putting this in perspective, if the Government was me or you or a Corporation, it would be legally bankrupt.
This by all definitions is the very meaning of PONZI borrowing. Investors purchasing bonds from the Federal Government will be paying themselves back, with yet still more bonds!
...And to think the economy is not even in recession...yet...
For 2008, the White House projects the fiscal deficit to be over $400 billion dollars (the entire Federal budget is a record $3.1 trillion dollars). Meanwhile, INTEREST on the national debt is expected to be also over $400 billion (The national debt itself is now over $9 trillion dollars and growing exponentially).
That means that the Government's entire new borrowings this year ($400B) will be allocated just to pay the INTEREST on past borrowings, without a dime left over for anything else. Putting this in perspective, if the Government was me or you or a Corporation, it would be legally bankrupt.
This by all definitions is the very meaning of PONZI borrowing. Investors purchasing bonds from the Federal Government will be paying themselves back, with yet still more bonds!
...And to think the economy is not even in recession...yet...
Subscribe to:
Posts (Atom)