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Eric Fry, reporting from Laguna Beach, California...
The S&P 500 Index jumped more than 1% yesterday - lifting the index to
within a whisker of a new one-year high. So let's have a moment of
silence, please, for the millions of S&P Index put options that have died
in vain... Thank you.
As it turns out, not every sort of put option is perishing on the
financial battlefield. A handful of very conspicuous stocks and indices
are refusing to join the S&P on its march toward new highs. Most financial
stocks have slumped about 5% from the highs they hit on October 14.
Citigroup and Bank of America are both down more than 10% since then.
Likewise, the Dow Jones US REIT Index has been slipping over the last few
trading sessions, even though the S&P has been inching higher.
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Is this divergence just a temporary "stock market thing," or does this
divergence reflect a very real "Main Street thing." Dan Amoss, editor of
the Strategic Short Report, believes it is the latter...and he
said as much in yesterday's
5-Minute Forecast...
"The upcoming third-quarter earnings reports from real estate investment
trusts will not be pretty," writes Dan Amoss, whose
Strategic Short Report readers are currently betting against
the REIT rebound. "Second-quarter earnings for the sector were boosted by
one- time gains from buying back publicly traded bonds at discounts, and
taking advantage of bond investors' newly whimsical attitude toward credit
risk by floating new bond issues. Earnings were also boosted as REIT
executives slashed property operating and maintenance expenses. But that
can only go so far before real estate quality becomes an issue. The
competitive environment to fill vacant space will squeeze REIT profits. If
you're a high-quality tenant, it will be a 'buyers' market' for years...
"The Dow Jones US Real Estate Index has tacked on a hefty 30% rally since
second-quarter earnings season in July. REITs are now priced for
perfection, rather than being priced for the obvious multiyear depression
staring REIT owners in the face."
--- Dan Amoss' Strategic Short Report ---
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And over to Bill Bonner, with a few thoughts from Waterford,
Ireland...
How much juice is left in this bear market rally?
Since it peaked in 2007, the UK stock market lost 60% of its value. As of
yesterday, it had recovered half of what it had lost.
All over the world, the story is about the same. Markets have recovered
half or more of what they gave up.
The US is a laggard. While the S&P is up 60%, the Dow isn't yet at the
halfway point. Some foreign markets, meanwhile, have 100% + gains.
Fund managers who missed the rally are kicking themselves. They've failed
to keep up with the benchmarks.
Even before the market headed up in March we echoed Richard Russell's
words: "One of the surest phenomena in the financial world is the bear
market bounce," he said. We also guessed that the bounce would go to about
half the previous losses. We based that on what had happened after the
Crash of '29.
Well, we're still not there. But an analyst from Morgan Stanley tells us
that markets tend to do better than that. The typical bounce is about 70%,
says he.
Whew! That's a pretty serious bounce. If we'd known it was going to be
that big we would have encouraged dear readers to bet on it. Instead, we
judged it a dangerous countercurrent...like a back eddy or rip tide. Yes,
it can take you places...but not necessarily where you want to go!
Our outlook here at The Daily Reckoning is very long term. We
don't like betting on countercurrents...even important ones. Instead, we
like to go with the flow...and keep going with it until it arrives at its
end.
That's not as easy as it sounds.
In 1999, it looked like the bull market had come to an end. We thought so.
We told readers to get out of stocks...and stay out. Gold was a better
place to be.
Investors made nothing in stocks for the next 10 years. In real terms, the
stock market decline began in January 2000. Prices went down. They
bounced...such a big bounce that it looked like a genuine new bull market.
But after inflation, there wasn't much left. Adjust for purchasing power
and investors were worse off every year. Even now, after a 7-month bounce
and a 45% gain, Dow investors are still down 30% to 40% from the highs set
in 1999.
Dave Rosenberg...
"The only thing we really learned in this extremely flashy, seven- month,
60%, nine-point multiple expansion-led rally, is that momentum investing
never did become extinguished this cycle. It is really a fascinating
commentary on human behavior that so many 'investors' are lamenting about
how 'the train has left the station' without them. Please, give us a giant
break! The train has left the station countless of times in the last 10
years but obviously none of these trips lasted very long because the
reality is that equities have failed to generate any positive return over
this time interval.
"As for the here and now, there is another reality. Price gains in the
stock market have generally occurred with low volume. There are limited
buyers - hedge funds and flash traders - but no sellers (not yet, anyway).
And, we saw in yesterday's decline that volume climbed across the board,
and the number of high-volume selloffs is a major red flag that should not
be ignored."
The typical major bear market lasts 15-20 years. The last one began in
1966. It wasn't until 1982 - 16 years later - that the next major bull
trend began.
This bear market is already 10 years old. Perhaps it will end in 2015.
Maybe in 2020. We don't know when. We only know how it will end - in
misery.
Now, despite 10 years of stinkin' returns, investors still believe in
stocks. They still hope to find the 'next Google.' They still punish fund
managers who hold back. They still read the financial press. They still
watch CNBC. They still want to know what stock to buy.
Yesterday, they bid up the Dow 131 points. The price of stocks to gold is
about 10 to 1. When this trend began ten years ago, we predicted that the
Dow and gold would go all the way to 1 for 1. We guessed it would happen
at the 3,000 to 5,000 level. We'll stick with that prediction until it
proves correct...or it makes us look like a fool.
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And more thoughts...
Government debt? No problem. The net interest paid by the US government is
actually about the same - as a percentage of GDP - as it was 40 years ago.
It's only 1.3% of output - nothing to worry about.
But wait...what's this? The average maturity of that debt has come down
from more than 5 years to only 4. And according to the Office of
management and Budget, if the US continues on its present course, net
interest will rise to 5% of GDP in 2019 and 10% in 2034.
And that assumes there is no big increase in interest rates...and that the
economy recovers as planned. If either of those things fails to happen,
the situation will degrade fast.
Imagine if the government were forced to refinance debt at double-digit
interest rates - as it was in the late '70s. Net interest could go to 5%
of GDP within months.
We're in a depression, not a recession. Depressions take longer to sort
out. But they are also far more treacherous. Because there are always
periods when things seem to be going "back to normal," only to go back
down again as soon as investors turn bullish.
Richard Koo, author of The Balance Sheet Recovery, recalls how it
was during Japan's long, dark passage:
"We had these false starts... The economy would begin to improve and then
we'd say 'oh my god, the budget deficit is too large.' Then we'd cut
fiscal stimulus and collapse again. We went through this zigzag for 15
years."
Koo understands what is going on, more or less. Companies and households
are paying off debt. He and Paul Krugman believe the feds have to continue
pumping money into the system or they're going to have a "lost decade,"
just like the Japanese.
You have to keep the stimulus money flowing "until the private sector
de-leveraging is over," he says.
By our calculations, it will take 5-10 years for the private sector to
de-leverage. By that time, the feds will have added trillions in debt to
public finances. Since they can't finance that much from private domestic
savings, and since foreigners will be wary about lending that much even if
they had it, the Fed itself will have to pony up the money. This will put
the dollar in further danger...along with the entire global financial
system.
Koo may be right - as far as his thinking takes him. He should think a
little further. The problem is debt. Too much debt in the private sector
caused bear markets and a bank crisis. Too much debt in the public sector
will cause big problems too - a default...and hyperinflation. Worse than a
depression.
We've got more thoughts on that too, but first, today's essay...
|
The Daily Reckoning
Presents: |
Have you ever wondered what would have
happened if the government didn't step in to bail out every well-
connected, "too-big-to-fail" institution on Wall Street?
When the crisis became apparent enough for even politicians to recognize
it, those who didn't see it coming in the first place tried to tell us
how the future would pan out. Mr. Bernanke told us that if we didn't do
something, "we may not have an economy left on Monday." Vice President
Joe Biden told us that if the rescue package didn't go through,
unemployment would soar to (gulp) 9.6%...
So, what if we had done nothing? No bailouts. No stimulus. No monetary
policy. No fiscal policy. What might have happened? As usual, history is
ready with the answer, if only we'd care to listen...
Macro for Dummies
By Bill Bonner
Waterford, Ireland
"He who goes a-borrowing, goes a-sorrowing."
The quote comes from Ben Franklin. But it was recalled to us neither by
America's president, nor Britain's Prime Minister. Instead, the
Telegraph in London reported it from the mouth of Cheng Siwei, a
"top member of the Communist hierarchy."
What goes around comes around. The Anglo-Saxons have forgotten what
makes a successful economy. The Chinese have remembered.
Just look up Warren Harding on Wikipedia. The first entry you will find
is not the 29th president of the United States of America, but a rock
climber with the same name. But what do you expect? History is nothing
but a long list of disasters in chronological order. Historians love
calamity. And they reserve their highest accolades for those who cause
them. The same is true in financial history. Those who make it big are
those who make it worse.
It is safe to assume that no one working at the Federal Reserve or at
the White House has a picture of Warren Gamaliel Harding over his desk.
Yet, if American presidents were ranked on the basis of how well they
faced up to financial disaster, Warren G. Harding might be somebody. His
handsome face would be carved on Rushmore. His likeness would grace the
$100 bill. Harding was the last American president to deal honestly with
a major financial crisis. Every president since has tried to scam his
way out of it.
By the time Harding took office in '21 the Panic of 1920 was taking the
unemployment rate from 4% to nearly 12%. GDP fell 17%. Then, as now, the
president's subordinates urged him to intervene. Secretary of Commerce
Herbert Hoover wanted to meddle - as he would 10 years later. But
Harding resisted. No bailouts. No stimulus. No monetary policy. No
fiscal policy. Harding had a better approach; he cut government spending
and went out to play poker:
"We will attempt intelligent and courageous deflation, and strike at
government borrowing which enlarges the evil, and we will attack high
cost of government with every energy and facility which attend
Republican capacity...it will be an example to stimulate thrift and
economy in private life.
"Let us call...for a nationwide drive against extravagance and luxury,
to a recommittal to simplicity of living, to that prudent and normal
plan of life which is the health of the republic."
Within a decade, Harding's views were collectibles. But in 1921, he
still saw the economic world as a moral world ordered not by man, but by
God. This was not the result of long study or deep reflection on his
part. He was probably the dummy everybody said he was. As Keynes pointed
out, politicians are always in thrall of some dead economist. At least
Harding was in thrall to the good ones.
"No statute enacted by man can repeal the inexorable laws of nature," he
announced. "Our most dangerous tendency is to expect too much of
government..."
Harding was not the first to see the economy as a 'natural' order...one
that you disturbed at your peril. A Taoist named Zhuangzi, who lived
about the same time as Alexander, observed: "Good order results
spontaneously when things are let alone."
Later, economists of the Scottish enlightenment, notably Adam Smith and
Adam Ferguson elaborated. Smith, like Harding, saw the economy ordered
by the invisible hand of God. Ferguson saw markets as a 'spontaneous
order,' which were the "result of human action, but not the execution of
any human design".
The same basic insight led Irving Fisher - the greatest economist of the
1920s - to come up with his debt-deflation theory of depressions. After
people had borrowed, they needed to pay back. Busts followed booms;
there was no getting around it.
Warren Harding may never have been the brightest bulb on the White House
porch, but intuitively he understood that proper macro-economic policies
were more the product of virtue than of genius. Debt led to trouble;
that's all he needed to know.
Keynes came along a few years later. Keynes was a genius; everybody said
so. And he had an answer for everything. Nature? Government could do
better. Debt? Don't worry about it, he said. Why not just let capitalism
sort itself out? Without government intervention, it will only get
worse, said Keynes.
But Harding had already proved him wrong. Harding did the very opposite
of what Keynes recommended. Instead of increasing government spending,
he reduced it. He cut the budget almost in half. He slashed taxes
too...and cut the national debt by a third.
Japan at the time struggled with the same downturn. But it had no
Harding at the helm. Instead, its masters prefigured Keynes, trying to
stay the correction using price controls and other interventions. The
result was a long-drawn-out affair that lasted until 1927 and ended in a
bank crisis. In America, meanwhile, by 1922 unemployment was back down
to 6.7%. By 1923 it was down further - to 2.4%.
This lesson was entirely lost on the world's economists. When the next
crisis hit a decade later, they turned to Keynes. Of course, it turned
out to be a moral world after all. They got what they deserved.
Regards,
Bill Bonner,
The Daily Reckoning
--- Major News Outlet Calls This The "Next Crisis"... ---
THE GREAT AMERICAN "RECOVERY RIP-OFF!"
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------------------------------------------------------------------
And finally, Bill Bonner has today's Daily Endnote...
We sat in a cab yesterday, stuck in traffic in central London. We
watched people walk by and wondered. What are they thinking about? What
do they want out of life? What do they think of themselves?
There were hundreds of them...different shapes...different sizes. A
businessman in a pin-striped suit, briefcase in hand, concentrating on
his sales report; he almost stepped in front of a motorcycle. A
salesgirl, grotesquely overweight...yellow hair streaked with
brown...wishing she hadn't had so much to drink the night before. A
lawyer daydreaming about his secretary. A man who would have rather been
fishing...still in his waxed coat. A woman annoyed about something. A
heavy construction worker, his legs splayed outward as he walked. A
tense young woman who dared not look up. A woman worrying about her son.
A man thinking about buying a new car. One man trying to remember a line
from a song he learned 30 years ago. Another talking to herself. One
looked like a doctor taking an afternoon stroll. Another was stark
raving mad.
All of them walking along...from one place to another...shuffling
along...the living towards the dead.
We were thinking of our children. What a different world they grow up
in. And yet, it is still the same too. A man might have been stuck on a
London street 50 years ago...and hundreds of years ago he might have
watched the same shopkeepers and carpenters walk by, each caught in his
own thoughts like a fly in a spider's web.
Our old friend John Mauldin wrote to say that his mother's experience
was not much different than ours. She joined the WACs during the
war...met John's father...and then nature took her course.
But both John and your editor had a big advantage in life. We both
caught the upswing.
Not so with our children. They inherit a different world. America was
the world's leading nation in the '50s and '60s. And it was growing in
power and wealth - rapidly. We grew up with it. Things were getting
better and better...we were sure we'd live much grander, richer, and
more exciting lives than our parents. The sky was always the limit!
Now, America is in decline. China's economy grows while hers declines.
The Far East has savings, while she has none. The Asia nations are net
exporters, making huge profits...while American industries are judged
too old, too expensive, and too highly regulated to compete. Americans
have debt up the kazoo, while their competitors have little. A young
person in America has to look forward to supporting 70 million retired
baby boomers...and paying for their drugs, their food, their wars, and
their bailouts.
For our children - ours and John's - the situation on a personal level
is different too. Coming from poor families, we could look forward to
much more wealth and material success than our parents ever knew.
We came back to Ireland this week for a reason that our parents would
never have dreamed of. Your editor has set up a family office. It is a
very modest affair by family office standards. The typical family office
manages a fortune of $100 million, according to The New York Times.
We may not even be on the same planet with these rich families; but we
are in the same universe. That is, we try to think about...and
manage...our wealth as rich people do...as a family legacy or an
endowment, not as a retirement fund.
What wealth we have accumulated - even if it is paltry - will be held by
a family-owned corporation. Then, the corporation, run largely by the
adult children, manages the assets - from our base in Ireland.
Your editor, freed from the responsibility of managing his own money
will be free to wander and think...like a vagabond, a gypsy, a refugee,
an itinerant mendicant...forced to sup on whatever is at hand and take
lodging wherever he can find it - but favoring the Four Seasons and
Chateau Margot when they are available.
Whatever else this does, it puts the children in a very different
situation from their parents. Instead of starting out with nothing,
they're starting out with something. While this would seem to be a big
advantage to them, it has huge hidden disadvantages. Like America
itself, they are in danger of finding themselves slipping downhill.
Instead of expecting things to get better, they may find it hard even to
hold onto what they've got. Instead of the "Morning in America" that
Ronald Reagan promised, they may find that it seems more like evening,
both in their personal as well as their national lives.
"From shirtsleeves to shirtsleeves in three generations," say the
French. The grandfather begins without a coat. His grandson ends that
way.
But what to do? Spend it all now...so the children begin with the same
clean slate we had? Move to Brazil or India - countries with more
obvious upside?
In the deep, cosmic end, it probably doesn't matter. The advantage to
starting out on an upper rung of the ladder may be about equal to the
disadvantage of having to worry about falling off. Who can know?
Every man has to play the cards he's been dealt. What else can he do? He
may have a humpback or a beautiful voice. He may have had a hard
upbringing or a soft head. He may have a fortune worth of poetry in his
soul but not dime in his pocket. As far as we can tell, every young man
starts out even. Each one begins life in the same place - where he is.
And every generation takes what it is given, and makes the best of it.
The real advantage in life is having the gumption to get on with it; no
one knows where that comes from.
Enjoy your weekend,
Bill Bonner
The Daily Reckoning
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