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Markets extend losses, acquiescing to the
forces of financial gravity,
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David Walker with a few shocking figures worth
committing to memory,
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Plus, Bill Bonner on Obama and the end of the
beginning of the end...
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Joel Bowman, reporting from Taipei, Taiwan...
"It seems nothing can keep a bad market down," we opined last week,
adding, "If this bounce goes much higher, we're going to have to review
the laws of financial gravity."
Just when we were on the verge of losing faith in those immutable
laws...the market put them to the test for us, leaping off a cliff with
barely a cocktail umbrella to slow its fall. The Dow Jones Industrial
Average plummeted more than 4% during the past five trading days. The
broader S&P 500 index faired even worse. That's the thing about the laws
of physics - they don't require any faith. They are testable. They care
not for wish thinking and make believe, dot.gov statistic padding. Central
planners can fluff their
partly fraudulent, wholly misleading GDP figures all
they like...the truth always comes out in the end.
Unfortunately for investors (and ill-equipped base-jumpers), it's not the
fall that kills; it's what's at the bottom.
Readers will observe that one week does not a bear market make. But we are
not one week into a bear market. Depending on the metric with which one
chooses to define "bear market," we are anywhere from two to ten years
deep, arguably longer. Stocks, for instance, have handed investors
negative returns over the past decade...and that's in nominal terms.
Allowing for inflation - which has cost the once-almighty greenback about
one-third of its value since the turn of the century - results are far
more depressing.
Home prices too have slid into the red during the last ten years, as has
total employment when measured as a percentage of the workforce. Your
senior correspondent, Eric Fry, provided this helpful chart illustrating
as much in
last Friday's issue:
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Worse still, the closer one looks at the rotten
unemployment situation, the more alarming the situation appears. Addison
Wiggin, our publisher here at The Daily Reckoning, drilled a
little deeper into the figures...
"Here's one unemployment number that, near as we can tell, hasn't been
massaged," Addison mused in Friday's
5-Minute Forecast. "Otherwise, how could it
look this awful?
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"One out of every 25 people in the American work
force has been out of work for six months or longer. That's a good 60%
worse than the previous record set during the early-'80s 'double dip'
recession."
Curiously, most investors still seek shelter from the unfolding crisis in
the currency of the world's largest debtor. Stranger still, they shun
gold, the safe haven investment that don't owe nobody nuthin'. Our
favorite yellow metal slid all the way down to the $1,090s per ounce last
week as the greenback rallied on "safe haven" buying (though it has
rebounded $10 per ounce as we write this morning, suggesting at least some
support at these levels).
Short-term trends notwithstanding, unquestioning confidence in the dollar
is not like an immovable law of physics. Quite the reverse, in fact. On a
long enough time line, entropy wins over all matter. As the greenback
hurtles through space, wasting heat along the way, its value continues to
erode. Assisted by proposals to raise the national debt ceiling (the
latest of which would boost it to $1.9 trillion) and record monthly
Treasury auctions to keep the whole show financed, this trend toward
eventual currency disintegration ought to increase in both speed and
severity.
In the end, a dollar will still buy a dollar...but a dollar's worth of
anything else, including gold, will be more or less microscopic.
What does this mean then for those of us earning and investing in dollars?
How will it affect the broader economy that uses them as fuel? And just
how quickly are our elected and unelected officials burning through them?
Today and for the next few Mondays, we'll be presenting a few key excerpts
from former US comptroller general, David Walker's new book, Comeback
America: Turning the Country Around and Restoring Fiscal Responsibility.
[Astute readers will remember Mr. Walker as the "Fiscal Wake-Up Tour"
protagonist in Addison's documentary,
I.O.U.S.A.]
For Americans concerned about where their country is heading, Mr. Walker's
insights provide an invaluable reference point. The first in our series of
his essays appears below...
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The Daily Reckoning
Presents: |
Most people have at least a vague idea that the United States is on an
unsustainable spending trajectory. Unfortunately, too few are aware of
just how dire the situation really is. In this, the first in our special
series on fiscal responsibility, David Walker nominates a few numbers
all Americans might like to commit to memory. Details below...
The Scary Budget Numbers
By David Walker
New York, New York
The recession and attendant financial shock appear to be easing as I
write this. But in Washington, financial imprudence is part of the
fabric of government. You can see that in a single document that gets
updated every year: the US budget. In putting together the budget, the
president and Congress set our national priorities and allocate
resources among them. The results have been pretty consistent. Over the
forty years ending in 2008, revenues have averaged about 18.3 percent of
our economy and spending has averaged over 20.6 percent, resulting in an
average deficit of about 2.4 percent.
But that gap began to widen under Bush 43, who cut taxes while starting
two wars, bolstering homeland security, adding an expensive prescription
drug benefit to Medicare, and increasing other spending. In 2007, the
federal deficit stood at $161 billion, or 1.2 percent of our economy. In
2008 it was $455 billion, or 3.2 percent. In 2009, figuring in the
billions spent to pull our economy out of recession and on various
bailout efforts, the deficit rocketed to about $1.42 trillion, 9.9
percent of our economy.
In Washington, they speak of our "fiscal exposure" - the sum of all the
benefits, programs, debt payments, and other expenses that will cost us
big bucks in the future whether or not we want to cut spending. The term
I've used for all of that is our "federal financial hole." In the first
eight years of this century it has grown from $20.4 trillion to $56.4
trillion - a 176 percent increase.
Maybe you have a few bills - mortgage payment, auto loan, cable TV,
phone - deducted automatically from your checking account. How would you
feel if those expenses had risen 176 percent in eight years while your
income remained steady?
The hole is getting deeper because we are doing little to bring our
income into line with our spending. And until now I haven't even talked
about the interest payments on our federal debt. Suppose our government
fails to increase federal revenues above the current rate. Based on the
GAO's latest long-range alternative budget simulation, within about
twelve years, our interest payments will become the largest single
expenditure in the federal budget. By 2040, all of our federal tax
revenues will add up to enough to cover only our two biggest expenses:
interest on our debt and Medicare and Medicaid. Everything else - Social
Security, defense, education, road building, you name it - will fail to
be funded.
As you know, benefits payments are the biggest chunk of the government's
massive obligation. Since the 1960s, the growth of these mandatory
payments has overtaken what we spend on defense as a share of our
national output - and what we spend on everything else in our federal
budget, from law enforcement to border protection, children's programs
to national parks, highways to foreign aid.
Although defense has declined dramatically as a percentage of the
overall federal budget over the past forty years, we have actually
increased total defense spending. In recent years, we have added
resources to fight terrorism abroad. That means that other discretionary
programs are much more susceptible to cutting. These include education,
research, transportation, infrastructure, and other programs that, if
properly designed and effectively executed, can promote economic growth
and development. How will squeezing those areas serve to keep America
great?
All of this puts us in a major-league quandary. Our nation has to bring
what we earn into line with what we spend at a time when our spending
literally is out of control. One option - cutting investments in
America's future in order to finance our large and growing mandatory
spending programs - is another way of cheating the next generation.
Unfortunately, today we are both cutting our investments in the future
and handing our descendants a mountain of debt. That is a double whammy
for young people and the unborn. It's not just irresponsible, it's
immoral and downright un-American.
Joel's Note: Mr. Walker served as United States
Comptroller General from 1998 through to 2008 and is now the President
and CEO of The Peter G. Peterson Foundation. He is also the author of
Comeback America: Turning the Country Around and Restoring
Fiscal Responsibility, from which the above essay is
excerpted.
You may also be interested to know that we've just confirmed Mr.
Walker as a key speaker at this year's Agora Financial Investment
Symposium, to be held in Vancouver from July 20-23. If you
haven't done so already, make sure to reserve your spot at the
conference. Tickets to our annual event are already selling fast and the
early release discount won't last long.
In the meantime, be sure to tune in next Monday when we bring you Part
II of Mr. Walker's series on fiscal responsibility.
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And now over to Bill Bonner, who has today's reckoning from
Paris, France...
Is this it? Is this the beginning of the end?
In the beginning there was the word. And the word was 'subprime.' When
investors spoke the word in 2007, markets quaked. By the autumn of 2008,
Lehman Bros. had gone broke and stocks were falling all over the globe.
The end of the beginning came on March 9th, 2009. Stocks had lost about
half of their value...a loss of about $25 trillion, worldwide. The first
stage was over.
The next stage was the rebound...the bounce. It boosted stock prices
everywhere - particularly in the emerging markets. Worldwide, stocks
recovered about half of what they had lost in the first stage.
Now, we are either near the end of the middle stage or at the beginning
of the final stage. Last week, it looked like the final stage had begun.
The Dow fell 4 out of 5 sessions...with a big drop on Friday, of 216
points.
Fear is back. Oil is trading under $75. Gold dropped $13 on Friday.
Proportionally, gold lost less than stocks. At least a few smart
investors see gold as a refuge, rather than a threat.
Commentators are providing plenty of 'reasons' for the wobbles on Wall
Street. The Chinese are tightening credit. Obama is getting tough on the
banks. Take your pick. But the noise coming from the financial media
merely provides a way for investors to understand what is going on
without really understanding at all. On the surface, markets react to
the news. But their primary direction is determined by deeper currents.
Obama is losing the confidence of the nation. His health care reform
plan is a rat's nest of corruption and confusion. His handling of the
wars against the Iraqis and the Afghans is a disgraceful mixture of
claptrap and cupidity. And his treatment of the banks is one half
publicity stunt and the other half relatively unimportant.
Too bad. He seems like a likeable fellow. He just didn't realize that he
came into the presidency on the downside of the credit cycle. Fish gotta
swim. Birds gotta fly. And credit cycles gotta correct. That's why the
stock market - at present - is unfinished business. It is a work in
progress. A bear market began at the beginning of the '00s. It was held
off by a final, reckless increase in cash and credit from the feds,
following the pseudo recession of 2001. Then, after a spectacular bubble
in the financial industry and in residential real estate, the bear
market resumed in 2007. In 2009, stock prices reached a temporary bottom
and bounced. And now the end stage for the bear market may be beginning.
None of this is Obama's fault. He didn't create the credit bubble. And
he can't be faulted for not fixing it. It's not a fixable thing; at
least, not by politicians. Markets have to do their work. They have to
take prices down to levels where it makes sense - considering the risk
of loss - to buy assets again. They have to get rid of the mistakes.
They need to punish stupid...arrogant...and imprudent investors. They
need to move money from weak hands to strong ones. All of that takes
time. Offering the market more phony money only blurs the
picture...making the decisions more difficult.
You can't really fault Mr. Obama for doing the silly things he has done,
either. He's been too busy to think deeply about how an economy works.
That's why he has advisors. Unfortunately, his financial team is made up
of mostly jackasses, fools and opportunists - such as Larry Summers, Ben
Bernanke and Tim Geithner, not necessarily in that order.
Only "Tall Paul" Volcker has any clue what is going on. To his credit,
he's made some brave critiques of the banking industry. He's probably
giving Mr. Obama some decent advice, here and there.
But what can he say? Obama is president of all the Americans. He needs
to "do something" to make the pain go away. His party is counting on it.
The voters demand it.
Mr. Volcker knows you can't really make the pain of a correction go
away. It has to run its course. It has to do its job. All you can do is
to try to control the banks so it doesn't cost so much to bail them out.
Mr. Volcker may also realize that feds are only making things worse -
with their bailouts, deficits, subsidies, and boondoggle spending. But
so what? Fish gotta swim, remember. Democratic governments gotta play to
the voters. And the voters want solutions! They want leadership! They'd
rather have a bunkum, harmful solution than no solution at all.
And that's what they've got.
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And more thoughts...
Maybe this is the next leg down. Maybe it isn't. In either case, we
don't want to be holding a lot of stocks and real estate when we find
out.
If we're right about the depression/deleveraging...
And if we're right about the bear market...
You're probably going to see stocks lose another half of their value.
Remember, a correction is equal and opposite to the deception that
preceded it. That deception is almost a hundred years old...and has
added trillions of (largely fictitious) dollars to the nation's wealth.
An Everest of mistakes has been made. Can all this deception be
corrected in 2 years...with the feds fighting every inch of the way? Can
problems caused by too much credit be cured by more credit? Can a
generation's worth of mistakes be hidden under the carpet of bailouts?
Can the boondoggles be washed away by more boondoggles?
"They do one dumb thing," said our gardener, speaking of the feds. "Then
they do two dumb things so they don't have to admit they did something
dumb in the first place."
"The whole idea that you can cure financial problems by offering people
money that doesn't exist is preposterous," adds colleague Simone Wapler.
Governments have been up to this trick for a long time - but especially
since the world went on the paper money standard in 1971. Where
Americans had a dollar worth a dollar in 1913, today they have a dollar
worth 3 cents. What happened to the other 97 cents? Where did it go?
We don't know. But we'll take a guess - it went to the place where the
feds keep all that money they don't have.
Hey, we're not the only ones who think Japanese stocks may be a good
buy. Bloomberg reports:
Jan. 25 (Bloomberg) - Not even the slowest economic
growth in the industrialized world or deflation can keep Byron Wien,
David Herro and John Alkire away from Japanese equities.
Wien, the Blackstone Group LP adviser who predicted last year's rallies
in stocks and oil, says Japan shares are his favorites. Harris
Associates LP's Herro, Morningstar Inc.'s international manager of the
decade, says stocks at the cheapest ever relative to assets will gain
even if the economy stagnates. Alkire of Morgan Stanley Asset &
Investment Management is betting low debt levels will spur an advance
that beats the US.
Japan, the world's second-biggest equity market, is up 3.7 percent this
year as measured by the Topix index, the most among the world's 10
largest economies. Overseas investors pumped almost $13 billion into
Japan during the two weeks ended Jan. 15, the most since 2004. Companies
trade for an average 1.2 times book value, almost half the valuation for
the Standard & Poor's 500 Index, according to data compiled by
Bloomberg.
"My best investment idea is Japan," said Wien, 76, a former market
strategist at Morgan Stanley and at hedge fund Pequot Capital Management
Inc. who predicted the end of the technology bubble in 2000. "The
Japanese market looks relatively attractive assuming the earnings come
through, which I think they will."
Wien, Herro and Alkire's predictions are based on valuations instead of
economic prospects. Wien favors export-related companies, technology
makers, and drug and cosmetics suppliers. Gauges of automakers and
electronics companies in the Topix have climbed 11 percent and 6.2
percent, respectively, in the past three months, more than the broader
index's 4.3 percent advance.
"Japan is extremely cheap on fundamentals," said Herro, the chief
investment officer for international equities at Harris, with $55
billion in assets. "When you combine the two concepts of low price and
high quality to get a value proposition, especially if we see a movement
towards more sustainable operating profitability by corporate Japan,
this could be one of the best-performing markets over the next couple of
years."
Regards,
Bill Bonner,
for The Daily Reckoning
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Here at The Daily Reckoning, we value your questions and
comments. If you would like to send us a few thoughts of your own,
please address them to your managing editor at
joel@dailyreckoning.com
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