Thursday, December 31, 2009

ECRI Cautions About The Current Economic Cycle's Durability

Dr. Achuthan of the Economic Cycle Research Institute was on CNBC today with a must-watch interview. If you only have a minute, start at around the 7 minute mark. Basically his view is that we may well not be in a long expansion; he talks about a growth slowdown perhaps in the second half of 2010 and is not bubbly about 2011-2. This supports the views stated over and over here. You want to own assets that will be around after another economic downturn and that can grow assuming the economy grows in the quarters ahead. An asset such as a Ginnie Mae that pays back not only interest but principal may be a Good Thing.

Note that the website lets one see ECRI's shorter-to-medium term leading indicators. Reserved for paying customers are the long leading indicators. My suspicion based on the above comments is that they have weakened a bit. From an investment standpoint, the deep cyclicals such as Caterpillar may be overvalued and technically overextended. Dr. Achuthan does offer some specific caution for developing countries with an export-driven economy.

From his discussion, it does not appear as though there is likely to be a lot of pricing pressure. In other words, the government and Fed may "print" money (generally electronic), but since most of what we call money-printing is really debt issuance via bills/notes/bonds rather than actual currency creation that gets spent, the effects on price increase turn out to be much more unpredictable than a Zimbabwe scenario. This view fits with that of David Kotok of Cumberland Advisors (who has had a hot hand this year), who was on CNBC yesterday and offered the view that Treasury rates are probably near their upper limit for some period of time (though he prefers "spread" products over direct government debt ownership).

The nearly 3-decade old bull market in Treasuries may, amazingly, not have died yet.
Copyright (C) Long Lake LLC 2009

Might On-Line Pessimism Be a Good Contrary Indicator?

Calculated Risk is such a widely-read blog that when it polls its readers, there are so many votes that there will be statistical significance from the results. Of course, those who respond are self-selected.

CR is now near completion of a 2-question poll. 57% of respondents expect a double dip in 2010 and half as many expect anemic growth of less than 2%.

The great majority of respondents expect the unemployment rate to be at or above 10% at the end of next year.

Many people read blogs to get away from the buy and hold (but please trade your holdings) cheerleading of the mainstream media and thus are likely more skeptical than the average. Nonetheless, historic economic downturns followed by pro-cyclical Federal and monetary policy usually are followed by growth. This degree of pessimism is a bit surprising. The only double dip recession I am aware of was the 1981-2 downturn, but that is easily explained because Fed Chairman Volcker eased up on the monetary throttle in 1980 prematurely, in part to help fellow Democrat Jimmy Carter get re-elected, then tightened again after the election. Mr. Bernanke is not about to do the same, you can assume.

None of the above has a lot to do with stock prices, which may be incorporating much rosier assumptions.

I voted for 2-4% growth (subpar given the severity of the downturn and the Fed's easy money policy) and a 9-10% unemployment rate at yearend 2010. Risks abound, of course, including a surge in growth elsewhere than in the U. S., pushing oil prices way up and slowing growth here.

In any case, a weak economy will favor discount retailers and a double dip will knock out even more competition for Wal-Mart and Target. Preserving capital in a world where it is unclear whether the country's largest banks are truly even solvent is not easy. Noting that large pockets of skeptics on the economy exist makes it easier to project upside from risking money in common stocks of high-quality companies.

Copyright (C) Long Lake LLC 2009

New York State Lives From Paycheck to Paycheck: Implications for Gold

In titling a grim article New York State Has First Deficit in General Fund, the NYT actually manages to understate the problem. Here are excerpts:

"New York State is officially living paycheck to paycheck,” said Thomas P. DiNapoli, the state comptroller . . .

Unpaid bills are already piling up. In September, the shrinking general fund balance forced Gov. David A. Paterson to delay a billion-dollar payment into the state’s pension system. This month, he delayed $750 million in payments to school districts and local governments . . .

Months ago, state budget officials said that without significant cuts, spending out of the general fund was projected to grow 37 percent through the 2013 fiscal year, while revenue was expected to grow only 3.4 percent. . .

(The above projection does not, I assume, include the substantial additional Medicaid costs that healthcare "reform" will impose on New York State. Yet Senators Schumer and Gillibrand favor the bill even though I am unaware that New York is getting a Federal gift on that front as are Louisiana and Nebraska.)

First California, then New York; New Jersey apparently is in pretty bad shape as well.

Meanwhile the "red" states of Texas and Florida have kept spending in check, are not internally politically dysfunctional as New York is said to be:

The deficit, analysts said, was a barometer not only of the New York’s fiscal peril, but of the political stalemate in Albany that has left the state spending more money than it can afford for months.

Yours truly is a small government advocate for reasons that are increasingly visible. Government is too important to fail. The Empire State should not be living paycheck to paycheck, though this would be understandable in a Great Depression, not a Great Recession.

Unions have failed in most of the country except in government, where their advantage is best seen in difficult economic times.

Problems at the state and local level are going to exert a strong anti-growth pull on economic activity. Presumably the Obama administration will respond to the troubles in the "red" states with more aid. If they can help GMAC, they can't afford an "Obama to New York: Drop Dead" headline. How will all this aid be paid for?

Gold is up over 1% overnight. Maybe there's a direct connection, maybe not. But when I went to bed, gold was barely up over the New York close.

Absent a policy change such as Volckerism breaking the back of the inflationary burst of the 1970s, multi-year bull markets tend to be bodies in motion that stay in motion in the same direction until they fall of their own weight of overvaluation. Unless one is an auric nihilist who truly thinks that gold is a barbarous relic, then there is no relative overvaluation of gold compared to other financial assets.

A couple of months ago, EBR questioned whether gold had gotten too popular. The price then soared, only to correct to about the level it was at when that post was written.

The economy simply fell into such a deep hole that assuming that the depression is technically over (about which I am uncertain) and does not double-dip in 2010, all sorts of fiscal strains are evident that will at least raise enough fears of money-printing and general price inflation (which I do not believe is in the cards for at least most if not all of 2010) to keep new buyers of gold interested and buying.

Let us wish 2010 well.

Happy New Year to all. Panty-bombers and their ilk excepted.


Wednesday, December 30, 2009

Consumer Confidence Rises While Current Conditions Are Poor: Implications

The nearby chart found on a Zero Hedge post was interpreted at ZH bearishly. On this one, I might take another view. Granted the chart is not a very long-term one, but my eye sees a pattern in which expectations in fact lead the present situation. It looks as though the two parameters diverge and come together; the two bear markets were presaged when stable to declining expectations plunged.
Yours truly believes that very high-quality stocks, not necessarily global in that the US dollar is probably no better or worse than the Euro or yen, will probably outperform cash on a multi-year horizon; at least there will be periods where that will be true. The more core belief here is that almost all financial assets are overvalued relative to earnings, so that cash is a rational place even at no interest.
How many people know that IBM today hit a more than 10-year price high? Or that Oracle is at an almost 9 year price high? Or that McDonald's is churning near its all-time price high that was set in August 2008, well into the bear market?
In other words, this has been a stealth bull market in selected stocks. Furthermore, it is quite easy to envision IBM, which has an amazingly strong chart, to run way past its 1999 high of $137 to the $180 range simply based on fundamentals ($12/share earnings for 2010 times 15 P/E). Of course, at some point the cycle will turn, Hewlett-Packard may pressure IBM in services and IBM could earn $8/share and given about zero tangible book value for the company, the stock could be halved from here. In fact, considering that oil prices had a 4-fold range last year, IBM stock could do the same. For now, however, the political imperative is growth and rising asset prices, and the feeling at EBR is not to fight the Fed or the trend.
The stocks that have garnered the most attention, such as Bank of America, are struggling. Quiet bull markets are marvelous things.
Gold was in a quiet bull market this summer. When it got noisy, it was time to sell.
The single best chart of a major asset class continues, in fact, to be gold. It is felt here that it is likely to continue to be strong, though likely not the single best asset for appreciation, but rather to be a superb asset on a risk-reward basis. Either growth will be strong, goosing commodities, or "money" will be "printed" to create either growth or the illusion of such. Not shown is a 2 year chart of gold, but it is ordinary bull market stuff, showing about a 14% annual appreciation from about $842 per ounce to today's sub-$1100 price. Not only that, we are close to two years out from the prior price high over $1000/ounce. In that context, the latest sell-off looks jejune and very possibly finished. Absent a major geopolitical action or major Fed money-printing announcement (which appears unlikely given decent economic data lately), fireworks in gold are neither expected nor desired. A move to GLD $113 from about $107 now would not be surprising in the next month, however. Gold is already off the headlines and thus has reverted to a quiet bull market though not a forgotten one; in other words the gold bull market is far from young.
Copyright (C) Long Lake LLC 2009

First, Kill All the Lawyers? reports the least surprising headline of the week/month/?year:

Trial Lawyers Sidestep Malpractice Curbs With Blitz in Congress

Neither measure (Ed.: House and Senate versions of healthcare reform) caps awards for victims of medical malpractice. The absence of such a provision reflects the clout of trial lawyers, whose PAC contributed $1.1 million this year to Democrats, trailing only the International Union of Operating Engineers and International Brotherhood of Electrical Workers, according to the Center for Responsive Politics, a Washington research group.

Former Democratic National Committee Chairman Howard Dean said at a town-hall meeting in Virginia in August that his party refused to limit awards “because the people who wrote it did not want to take on the trial lawyers.”

The public supports limiting awards: An NBC-Wall Street Journal poll in September found 65 percent of respondents backing limits on payments to people injured by malpractice.
. .

An Oct. 9 Congressional Budget Office report found that a $250,000 cap on awards for pain and suffering awards would reduce health costs by $54 billion over 10 years, or 0.5 percent of annual health-care spending.

Let's see here. A measly $1.1 million annual expenditure leads to over $5 billion extra costs yearly, including savings from less radiation from fewer scans ordered? One doesn't think that having both the President and the Vice President be lawyers has nothing to do with this, does one?

Birds of a feather are flocking together.

Copyright (C) Long Lake LLC 2009

Tuesday, December 29, 2009

Quality for the Short Run

The airwaves (read CNBC) are full of "worst 10-year period for stocks ever" in this country. Actually, it's worse than that. The dividend yields in other poor decades (e.g. 1928-38) were much higher. A buy and hold investor owning the Dow 30 in 1928 did fine after deflation a decade later, including dividends. Not so lately. But that's irrelevant to the future. Something about past vs. future performance meaning little. Obviously, Japan a decade from its 1989 bubble peak had a long, major bear market to go.

What yours truly looks for personally is the right combination of value and technicals. I have personally also learned to sell quickly if the market simply misperceives the brilliance of my purchase of a tradeable security.

What's going on now in the markets is unprecedented and calls for fresh thinking. Zero percent interest rates should be associated with Depression-like conditions, one might naively think. But there is no Great Depression today, not with a Starbucks seemingly near every other midtown Manhattan intersection.

The single best analogy to our economy and markets, in this commentator's opinion, is Japan 1990s. The Establishment has created weak, large surviving financial institutions. These include Citigroup et al plus AIG and of course Fannie/Freddie, the unending bailout kings. The stock prices of these companies reflect their travails and trade as options given the long-term upside potential.

On what I consider to be an overvalued stock market, one can find reasonably-valued companies and assets as discussed here recently. These include IBM, Oracle, Ross Stores, TJX, Wal-Mart, McDonald's, Teva, National Presto and gold. All of these have strong long-term charts, record earnings (gold has no earnings, of course), and all have good 1- and 2-year charts as well. Then there are a few reasonable value, low P/E companies such as Chubb and Everest Re (CB and RE).

Meanwhile one sees a host of true experts such as John Hussman and bloggers who called the top a couple of years ago who warn of possible dire consequences of a stock market break, a financial collapse, etc.

Breathes one with soul so dead who isn't aware of that possibility?

The argument a year ago at EBR when founded one year ago was that stocks were dangerous, and indeed they proceeded to drop about 40% before beginning this historic rally. While this site does not give investment advice, it does comment on investments and focuses on risk vs. reward. The feeling here a year ago and well into the last few months was that gold under $1000 and especially earlier this year under about (say) $930 was the best risk-reward asset, as the only certainty was money-printing.

With gold around $1100 and the key India market not loving that price, gold is up (say) 20%, or twenty years of 1% interest on money in the bank (I know that's an odd comparison); holders or buyers of GLD may want to sell covered calls on price strength; or brave souls may want to sell puts. Gold will endure. It cannot default. Can it go out of favor permanently? In my opinion, that's highly unlikely. Can it rest in price or drop? Sure. But methinks the aggregate credit mess is actually worse now than ever (covered up for now with money-printing and the favorable nature of the business cycle) and so gold is core in my opinion.

Treasuries are lining up in an uber-bearish technical configuration. I read somewhere today that short interest in them on the futures markets is the highest since October 2008. But wait, that was the best time ever to buy Treasuries and sell stocks! (I' m not sure what day/week in October the data is from). In yours truly's trading position in TLT, I note that a price rebound to 92 would be unremarkable in the context of a true bear market, and also note that TLT is sitting on 2-year price support (high yield) and is well within its multi-year trading range.

Even more relevant, the 30-year T-bond closed yesterday at 4.70%. This is its 2-century average according to a chart from a few years ago put together by Louise Yamada. Remember that 10 years ago, the talk was of a shortage of Treasuries. Extrapolating too many years out from the current promiscuous marketing of Federal debt is difficult; remember Japan as the best analogy I know. Given that labor costs are dominant in pricing of consumer products, there should be limited inflation of prices in the next year or more. Treasuries may surprise with lower interest rates. I have no fixed views, but try as FDR did to inflate and grow the economy, Treasury rates kept going lower and bottomed only early in the 1940s. For now I am comfortable with Treasuries and Ginnie Maes (full faith and credit securities) on a buy and hold basis for a portion of my assets. Might the yield be negative after inflation? Sure. But it will be positive in nominal terms, and this would beat a second decade of Japan-like stock market returns.

Amongst stocks, a key question is, what is the structure of the economy?

Clearly it is that credit flows most easily to companies or individuals with a high likelihood of repayment of said credit, except for mortgage debt that the Feds have made a special case.

So from an investment standpoint, one must go with that flow and avoid the stocks of needy borrowers.

Companies such as IBM, Chubb, Oracle and Ross Stores often trade at mid-teens multiples of free cash flow. Free cash flow is a great asset now. Citigroup would love to have it for itself, that's for sure!

Self-financing companies, which have free cash flow, can take on or pay down debt as they desire. They can sell the company (IBM is too large), break it up or spin out a sexy sub (think McDonald's with Chipotle), raise dividends, continue the game of share buybacks, make acquisitions (Oracle's latest m. o.), or just keep on keeping on. They don't need to sell stock. They are in a sweet spot in the financial firmament right now.

Barring another systemic collapse, which is probably unlikely since everyone's on guard for that (I hope!), it appears here that in a world starved for yield, the powers that be are going to continue to continue to pursue policies that buoy the weak financial sector. The equal and opposite reaction may be to send certain asset prices "too" high. Unlike the moon shots off depressed bases in low-priced stocks off the bottom in 2009, the bet here based on theory and current market behavior is that there could be a surprising "melt-up" in some of the above names, as has already happened for NPK (National Presto).

The 1973-4 brutal generational bear market, which took the averages to about 12-year lows at its bottom and was thus similar to the 2008-9 lows, was followed by nominal new highs (not inflation-adjusted highs, though) in the stock market due to the drop in oil prices and interest rates; many trend-followers who were willing to avoid large-cap stocks did pretty well in the several bear markets that followed the 1976 market top until the final bottom of the secular bear market in 1982.

The Fed wants investors to gamble. It is doing its part by owning junk mortgage-backed securities and other dodgy assets.

Don't fight the Fed. Don't fight the tape, either. The Fed and the Feds will do all the markets let them do to create at least the perception of economic strength. I suspect that one of these days, we will see sharply lower Treasury rates, but when and to what level I have no idea, and whether this will be the final opportunity to sell Treasuries as the multi-decade bull market finally dies is to be evaluated at the time should it occur. That said, the thinking here is that the best values and the best stock charts are in self-financing dividend paying stocks such as those mentioned above. For now. Stocks for the long run? No, never, no-how. Stocks with the "right" risk-reward? Always in fashion. For the season, at least.

Copyright (C) Long Lake LLC 2009

Monday, December 28, 2009

Reasons for "Optimism" on Asset Prices

We have been bombarded with recitations of how poor the past decade his been. This is good. "Morning in America" is not mainstream yet in financial market thinking. Just this morning, leads with the following:

The Big Zero by Paul Krugman, which says:

But from an economic point of view, I’d suggest that we call the decade past the Big Zero. It was a decade in which nothing good happened, and none of the optimistic things we were supposed to believe turned out to be true.

The next headline is also gloomy from an American perspective:

The decade the world tilted east by Niall Ferguson, which while more uncertain in message than Dr. Krugman's, contains this telling paragraph:

While the developed world teetered on the verge of a second Great Depression, China suffered little more than a minor growth slow-down, thanks to a highly effective government stimulus programme and massive credit expansion.

DoctoRx here.

The Krugman comments are way over the top. Nothing good happened? Nothing at all? What about the election of a progressive President? None of the optimistic things that were envisioned at the start of the decade happened? None at all?

This sort of thinking does not win one a Nobel. Where was Dr. Krugman's editor on this one? The editor's job is precisely to tell the writer that OK, now that you have vented, let's make the article one in which every sentence is literally true.

As far as Dr. Ferguson, his view is more the conventional one. But as Japan shrank in importance economically, China grew due to outside investment, not due to internally-generated funds. China offered cheap labor and a place for the West to evade environmental restrictions.

When you put matters in perspective, yes, readers know I am generally skeptical of much of what has gone on in the U. S. economy and especially in the financial system per se. But we need balance here. The Chinese are not, metaphorically, ten feet tall. They may be like the U. S. in the 1800s, with frequent booms and busts. Currently the imbalances in the U. S. are such that there may finally be some investment plays wherein the fundamentals and technicals are on the same page, as opposed to the relief rallies in low-quality stuff off the March 2009 bottom. The trend-following strategy is to go with super-strong high-tech companies with low-ish P/E's that generate lots of cash from operations, such as Oracle and IBM (risk capital only). The contrarian one comes from a poll of bloggers I read yesterday on Paul Kedrosky's site, Infectious Greed. Bespoke Group asked their predictions for 2010. There was unanimity on only one asset class. Every blogger was bearish on Treasuries. Happily, one of the other not-bullish asset classes was gold.

Gold and high-tech have the best charts over the best year or two and are the farthest from government support a la AIG and Fannie/Freddie. The best long-term chart still belongs to Govvies. To round out four legs of an investment table, a number of global dividend payers have yields that exceed the yields on the companies' own short-term debt.

In a world of overvalued financial assets all across the spectrum, the best one can do with money is find the best relative value. Whatever one does, one has to be able to sleep at night with one's asset allocation if a bear market in that asset occurs. That's an individual decision that no one can make for anyone else.

Copyright (C)

Dumb and Dumber

In New restrictions to add to air-travel headaches, Yahoo/Finance is reporting:

New security restrictions swiftly implemented following a botched attempt to blow up an airliner on Christmas Day will make air travel more burdensome and could discourage some business fliers, key customers for the airlines.

Passengers will likely face longer lines at checkpoints and less freedom to move around the airplane during flight. Leisure travelers, such as the families that packed airports to return home on Sunday after the holiday, are likely to put up with the new inconveniences, as they have before.

But business travelers may think twice before flying if stepped-up security means spending hours at the airport. That's troubling to the airlines, because business travelers tend to fly frequently and pay higher fares.

Alarmed by the prospect of losing their best customers, airlines are already asking federal officials to make any new procedures palatable to passengers.

The past 24 hours, I have seen airline security experts and political pundits opine on this issue. What only one person (a Republican Senator) mentioned was the obvious, which is that Richard Reid and the latest villain were known adherents of jihadist Muslims. It's time for real profiling. The latest bad guy was in fact already on a terrorist watch list. What about putting any such air traveler through the wringer before he/she gets on a plane? Doh?

Instead, the CNN commentators yesterday all sort of agreed to a "what can you do" resignation to this problem, as did a security expert on FOX News this AM. Sorry. Fair-skinned grandmas and priests don't blow themselves up on airplanes. Regarding the Yahoo writeup, CEO road warrior don't do so either.

Switching topics but staying within the realm of common sense, if a Republican Congress passed a healthcare bill and called it a reform to benefit the people, but took drug reimportation from Canada off the table, do you think the Democrats in Congress and, let us say, a Democratic President, would yell and scream? Oh, but the practicalities of getting 60 Senate votes, they now wail.

The country has been captured by political correctness gone wild in the airline screening business and by corporate interests. Wouldst this Congress and administration believed in some political correctness in actually passing a healthcare bill that promoted generics, attacked bloated pharmaceutical company profit margins, provided benefits to the people the same time that taxes were imposed, and got practical with the life and death issue of screening air travelers.

Not to mention the Bushbama continuity continuing to socialize the losses while the winners of the past decade count their millions or billions.

The world has gone a bit mad.

Copyright (C) Long Lake LLC 2009

Saturday, December 26, 2009

In Your Debt

The Guardian has a bite-sized summary of the decade of debt titled The global economy's decade of debt-fuelled boom and bust: Borrowing was both the shaky foundation of global growth and the cause of its collapse.

Here is one of the key points in this article:

. . . debt-driven growth is eventually unsustainable. To generate growth from borrowing, you have to borrow more year in, year out. The second is that borrowing binges lead to asset booms, which investors seek to rationalise using arguments such as "a new paradigm" or "a wall of money".

The final lesson is that the point of maximum danger in any borrowing boom is when borrowing starts to slow, not when it stops. "However much you borrow and spend this year," Joshi says, "if it is less than last year, it means your spending will go into recession."

Currently the U. S. and I believe the U. K. and Australia have pushed total debt:GDP to a new record high.

Extend and pretend.

Money that you hope appreciates should be as far from borrowing and lending as possible. (Gold is the ultimate in that regard in the classical sense, but unfortunately people borrow nowadays to buy all assets, whether gold or Apple Inc.)

Copyright (C) Long Lake LLC 2009

Stocks for the Intermediate Run

One of the good things about markets is the ability to look for relative undervaluation. Readers know that I believe that we are in an era where labor is undervalued relative to financial assets, and a re-equilibration is likely to occur. Once that is said, what is the manager of money to do?

Yours truly took the long view about 28 months ago to exit stocks for cash and bonds. This winter, when it looked likely that a fragile technical stock market bottom and bond interest rate bottom was made, specific stocks were mentioned along with gold. The stocks have all done well with limited risk: Teva (TEVA), Ross Stores (ROST), and National Presto (NPK) all made all-time highs, and all remain in all-time high territory. The other specific stock was McDonald's (MCD), which has done well but did not hit an all-time high and has to be sure lagged the market. This lagging is specifically related not to any special failing of the company, which kept exceeding earnings expectations and had a substantial dividend increase, but due to the catch-up nature of the stock rally.

Regular readers know of my consistent kind words for gold all year, whether the metal was priced in the $800s or the $1000s, and of the tactical sell when GTU reached about a 7-8% premium over NAV when the physical metal was around $1200. The recent strength of the dollar per the DXY index is seen much less using the St. Louis Fed's trade-weighted index.

Any number of technicians and fundamentalists are both positive on gold longer-term but cautious to bearish short-term.

In a primary bull market, the trend is your friend. Either gold has gotten too popular and should be avoided for some time to come, or the recent strength of the dollar against the Euro is just that one drunk is a little more upright than the other this spree. On Christmas Eve, more support for Fannie/Freddie came out, along with the revelation that Treasury also spent hundreds of billions of dollars buying mortgage-backed securities this past year. Yikes, as they say.

This is all gold-friendly.

What happened technically to gold this summer and fall was that while the price remained below its winter 2008 highs, its moving averages went t0 new highs-- and quietly.

A similar thing appears to be happening with certain individual stocks which meet the criteria for reasonable valuation (little is cheap!) and strength not just in the stock price but in the 50 and 200 day moving averages, along with upside earning surprises or at least rising earnings estimates. Unsurprisingly, these companies are global and are self-financing. In addition to all the ones listed above except MCD, these include Oracle (ORCL), IBM and TJX, all of which have consistent records of shrinking shares outstanding; though ORCL has turned into such a serial acquirer that it pays dividends instead.

One perhaps fundamentally undervalued group of stocks includes some insurers. Chubb (CB) and Everest Re (RE) are off of their panic lows but have global franchises, high quality financial bona fides, and limited to no premium to tangible book value. In normal financial times, these stocks trade at premiums to book value. Their P/E's are single digits. There is nothing exciting at all about their financials, and they are well off their bear market lows, so purchase of them is likely to be boring. But assuming a muddle-through economy this year, I believe we are seeing the market neglect certain sectors and be over-excited about others.

What, you ask, are those companies?

Look at Barron's this week, with a lead article warning about Burlington Northern.

It appears that the "Street" is much more optimistic about BNI's 2010 earnings than even the best-case scenario of the company itself.

Many industrial companies have declining consensus earnings estimates, high P/E's and stock prices double their low of the bear market. Methinks the risk-reward is better with the above-mentioned names that pay dividends, have controlled but positive stock charts, and a true valuation story so that barring an AIG-type collapse, one can hold the stock should it drop after purchase and not feel compelled to sell if it goes up the way one might if one bought Amazon at 80 times earnings.

The above is stated with the repeated caveat that there is a reason why short term interest rates are near zero.
That reason is that there really is a financial crisis, and the government wants real interest rates to be negative. Now that they have in fact have crossed that threshold and the ECRI data continue to be strong, we may be at that point in the economy and markets where everything seems to work. Inflation is cyclically low, as labor is by far the most important input to prices and labor has zero pricing power; therefore profits rise; the Federal deficit surprises people by being less than expected, yet the Fed does not take away the punch bowl.

We are in a make-believe financial world, where a roll-up like Teva with no tangible book value and a minimal dividend can be a powerhouse company and trillions of Federal or Fed dollars just appear at will. No asset is good or bad, it's just what is the flavor du jour and what was yesterday's flavor. If ORCL is at an 8 year high in stock price on good news and also on its moving averages, a melt-up is possible. That ORCL also has no tangible book value and almost no dividend yield means something in a bear market. It means nothing when stock buyers ignore those fundamentals. If you buy the stock or own it already, you must remember there is no large stash of gold carried at $42.20 per ounce in the company coffers to provide fundamental value. Oracle is a strong company that just might be a good speculative asset play for the months ahead.

Anyone owning stocks should in my opinion be able to follow Mr. Buffett's rule and be able to financially and psychologically withstand a 50% fall in the stock averages.

No guarantees, but all the stocks mentioned above are of very high apparent quality and thus should drop less than the market in a general collapse. When and from what level and with what degree of warning the next market downturn will occur is unknown. Perhaps it will start Monday.

Caveat emptor and owner.

Copyright (C) Long Lake LLC 2009

Thursday, December 24, 2009

Atmospheric Carbon Dioxide Levels on a Geologic Time Frame

Yours truly spent time is his young adulthood in an evolutionary biology Ph. D.-level course of study and was interested, post-Copenhagen, to review matters studied decades earlier.

You may click on the graph for more detail.

The Earth is at historically very low levels of atmospheric CO2 levels. A rise will do more for agricultural productivity than depleting the earth of nutrients to goose yields, I suspect. A foot higher sea levels? Even Miami wouldn't notice it, much less New York or California.

Cap and trade is a clear scam to benefit crooks and Big Finance (there is some difference); Europe has already apparently had a multi-billion Euro heist. Why not simply tax gasoline sales, oil and coal companies receipts, etc?

The famous "hockey stick" 1000 year temperature graph of 10 years ago has been proven to have been a fraud, as it eliminated the Medieval Warm Period. Why is Greenland called what it is called, after all?

(The position at EBR is that all resources, including carbon, should be used with caution; "growth" as a primary goal of social and political thought is dangerous; sustainability and quality of life are important factors; diminished volatility in markets is good; trying to reblow bubbles or sustain the dying from burst bubbles is bad. Yours truly has no idea whether the earth is warming much and what the future trend will be, and whether CO2, a weak greenhouse gas, makes much difference in the scheme of things.)

Draw your own conclusions.

Remember how many special interests stand to gain from imposition of cap and trade, control of your life from carbon permits and taxes, etc.; do not accept subservience to Dr. Al Gore et al. After all, it is he and his ilk who travel the world in private jets, not you.

Gandhis, none of them.

Think different.

Copyright (C) Long Lake LLC 2009

Boom and Bust

Steve Hanke has an interesting, informative piece in GlobeAsia titled Booms and Busts.

He discusses the relationship of skyscraper construction in relation to easy money-induced booms, the fallout afterward when the boom turns to bust, and then suggests that we should be entering a boom phase:

Moving from Dubai to the United States, the spread between
Baa and Aaa corporate bond yields has dropped from its peak of
350 basis points at the end of 2008 to under 120 basis points. The
narrowing of this spread is the largest since the 1930s.

As the accompanying table signals, the United States should
have entered a boom. Indeed, if the annualized real growth rates
in the next two quarters (Q4 2009 and Q1 2010) don’t hit 7%, we
will know that the Obama administration’s interventionist policies
have been a bust.

We now know (for now!) that Q3 GDP was more or less flat absent cash for clunkers and the credit for first-time homebuyers along with the massive ongoing government stimulus. It is hard to see that Q4 will be dramatically better, given the certainty that consumer spending has been sluggish and given the commentary from Warrren Buffett and many others that their businesses have not seen much in the way of revenue growth in the U. S.

So, leaving aside Dr. Hanke's political comment above, my comment would be that we are at the tail end of the effectiveness of interest rate cuts to be associated with/cause a boom. This is the Japan scenario: ice, not fire. Demographics, debt levels, burdens of quasi-empire, better ROIC in developing countries, etc., all suggest that the cyclical rebound is to date more muted than in the past (just as the downturn was actually more muted than it could have been). Not the end of the world, though.

In this scenario, the Fed stays easy and bodies in motion stay in motion until, one fine day, they don't. In other words, the trend is your friend, until it is not. Let us see if gold stays within a well-defined structural bull market. For now, it's resting and I am sitting tight, having bought part of my large position back after about a 9% pullback. There are lots of arguments for and against gold; I'm ignoring them and simply saying that easy money is inflationary and therefore good for gold.

For now, my attention is more on Oracle, Teva, Ross Stores, and other stocks that have broken out to new highs or multi-year highs (ORCL) not just on price but based on 50 day or even 200 day moving averages. IBM is close. I am not aware of any major asset class that is undervalued.

But "money" must go somewhere. Investors should watch with gimlet eyes. Boom, bust, schmoom, schmust, all that stuff comes and goes, but fundamental valuations drive long-term returns. And right now I continue to dislike what I see in that regard.

Copyright (C) Long Lake LLC 2009

Wednesday, December 23, 2009

Is the Hated Long Bond Ready to Rally?

The 10-year Treasury bond's yield advantage over the 2-year and the 3-month T-bill is at or near record amounts in absolute terms. Other similar spreads were seen in spring 1992, August 2003, and June 2009. All cases were positive for the bond market as well as the stock market.

What matters is not only the absolute yield differential but the ratio of yields. In 1992, Treasuries were yielding almost 7%, so the ratio of the 10-year to a short-term yield was not nearly so great as now. Taking this to an absurd case, what if the short term rate were 100% and the 10-year were 105%? That would be an even greater spread, but the yield curve would be flat.

Contrarians can once again buy long bonds for a trade. The Gallup hiring/not hiring difference just went to negative 6. This is consistent with a jobless recovery and is of a piece with recent non-seasonally adjusted unemployment claims (rising) and Q3 GDP downward revisions X 2 (old "news" of limited importance to be sure).

Whatever complacency about the course of this recovery exists-- with some very high GDP numbers for the quarter just now ending and early next year in the ether-- and with the VIX under 20, a lot of fear is for certain out of the market, any excuse to take profits may do. A weak jobs report next month could be that excuse.

Copright (C) Long Lake LLC 2009

Tuesday, December 22, 2009

European Cooling

In Weather Takes Further Toll on Europe, the WSJ reports that:

Snowstorms and freezing temperatures continued across Europe, disrupting Christmas-holiday travel for thousands of people and claiming at least 80 lives.

Poland, where 29 people have frozen to death since the start of the weekend, and Ukraine, with 27 fatalities, have fared worst. But the effects are being felt from Scandinavia to Italy. A homeless organization in France said 12 people have died in the severe cold this month.

Following hard upon the irony of the American President leaving the Copenhagen climate summit a day early because of snow in Washington, this article goes to end with the following:

Private forecaster WSI said most of Europe is likely to experience colder-than-normal temperatures over the next three months. Todd Crawford of WSI said a combination of El Niño, a cold north Pacific and cold midlatitude North Atlantic sea-surface temperatures pointed to a continuation of frigid weather.

"There may be a relaxation of the current cold pattern during January, followed by a return to more consistent colder weather in February and March," he said.

The climate is always changing. There really and truly was fear of global cooling a quarter of a century ago. I remember that for a fact, for I was aware of its possibility when I moved from New York to Florida in the mid-1980s. Only to run into some record hot months. Go know.

How much human effort will be spent on changes in manufacturing and transportation to have minimal effect on the weather half a century out? Where are the green industries? Will this be the next Internet-like "hot" investment fad?

I dunno. But it looks as though there will be at least some cooling the European fervor for pro-cooling measures when this winter finishes.

Copyright (C) Long Lake LLC 2009

Dividend Matters

In this speculative set of markets, it's nice to see a reasoned discussion of dividends as in the linked Business Week article. In the early stages of the Great Depression, dividends were high single digits. Now the S&P 500 yields about 2% (exact rate depends on how you measure the yield of 500 stocks weighted by float.)

My basic take is that if we are years away from surpassing the total dividend payout set at peak, it is anyone's wild guess as to what competing interest rates will be, what P/E's will be, etc.

People such as David Kotok of Cumberland Advisors who have been quite right this year to be long continue to be long, citing liquidity and absence of labor cost pressures. So, sales should rise and margins should be strong.

The novel problem is the eerieness of 0% interest rates, which are occurring allegedly because there is still a financial crisis going on. Meanwhile, the rest of the financial community is partying. What is this liquidity then other than leverage similar to that which ultimately imploded the system a year ago? Will stocks double so that the dividend yield on the SPY is only 1%, but that still is as good as cash? Will the trick for the next bear market be that stocks peak well before the Fed truly tightens?

Stay tuned. Whether it's a Ginnie Mae, a 10-year Treasury, or even Teva yielding 1.1% or ownership of GLD or SLV with covered call selling, investors should focus on income precisely because most of the media are not doing so.

Copyright (C) Long Lake LLC 2009

Q3 GDP Revised Down Again, but Lacking in Importance reports:

The economy in the U.S. expanded in the third quarter at a slower pace than anticipated as companies curbed spending and cut inventories at an even faster pace, reductions that have set the stage for an acceleration in growth.

The 2.2 percent increase in gross domestic product from July through September compares with a 2.8 percent gain previously reported by the Commerce Department in Washington.

Improved consumer spending combined with a record drop in stockpiles this year will promote increases in production that may keep the world’s largest economy growing well into 2010. At the same time, companies such as Dell Inc. point to gains in business investment that signal growing confidence the expansion will be sustained.

“All signals point to a strong fourth quarter,” Nigel Gault, chief U.S. economist at IHS Global Insight in Lexington, Massachusetts, said before the report. “Growth is shaping up at around 4 percent as the inventory cycle turns upward.”. . .

The 2.8 percent projected pace of growth was based on the median estimate of 73 economists in a Bloomberg News survey. Estimates ranged from gains of 2.5 percent to 3.7 percent. The GDP report is the third and final for the quarter. The government’s advance estimate two months ago was 3.5 percent.

Remember that these are annualized percentages. So what has happened is the GDP growth in the quarter was estimated 2 months ago at 0.875% (3.5% divided by 4). It is now estimated at 0.55%.

I was reviewing some numbers recently and saw that GDP for 1983 had been revised recently. Perhaps those revisions are final. Basically these numbers are useless to investors or, truth be told, voters or policymakers.

The CEO of Conagra was on CNBC yesterday. Was he bullish? Yes, on his company's performance. He is budgeting for a sluggish economy. Warren Buffett recently said that his company really had not seen much of an improvement in business. The Gallup polling yesterday showed the hiring/not hiring indicator at a completely miserable negative 3.

In the quote above, Mr. Gault may well be correct. But this will mean little for the long term. The Government continues to borrow and print as much money as, I suspect, all businesses in the U. S. will show as profit this year. All this "money" injected into the pockets of seniors, poor people, agribusinessmen, Big Finance, etc. will one way or another get spent. The deleveraging risks should be to deflate prices that have gotten above the ability of wages and savings to pay for them without ever-more frantic financing schemes. That is why as gifted a stock market forecaster as Barry Ritholtz both sees more stock market gains ahead but a flat market at best on average for years to come.

No disagreement here.

Copyright (C) Long Lake LLC 2009

Sunday, December 20, 2009

Twas Brillig and the Slithy Toves Did Gyre and Gimble in the Wabe is choosing to run with S&P 500 May Climb 6% on Santa Claus Rally: Technical Analysis, which says:

The Standard & Poor’s 500 Index may end the year as much as 6 percent higher if a typical December rally drives the gauge past a key resistance point, according to technical analysis by Bell Direct’s Julia Lee.

The index, which closed yesterday at 1,096.08, has climbed through December in 16 of the past 20 years, said Lee, an equities analyst in Sydney. Further gains this month in what’s sometimes known as a Santa Claus Rally could push the gauge past 1,121, the 50 percent retracement level that Fibonacci analysts identify as a point of significant resistance.

“The 1,121 level is the 50 percent retracement from the high of the bull market in 2007 to the low of the cycle in 2009,” said Lee. “It will be a challenge to break past that, but if it does, my guess is that the index will drift even higher to 1,160. If it doesn’t, we’ll probably just see a sideways movement.”

While I give some credence to technical analysis, it is irresponsible to the non-professional reader to suggest that with 2 weeks left in the year in what is usually quiet trading, and only about 7 trading days, that the index can rise 6%. Annualizing a 6% gain every 2 weeks gives an appreciation rate of about 329% yearly.

Yes, anything can happen, and yes, an improving economy associated with Fed ease is a potent combination for the bulls. But it is much better to see gloomy headlines that worry that stocks are poised for a fall than the uber-bullish gibberish quoted above. Rather than waste your time reading this stuff, please reread perhaps the most famous piece of nonsense ever written, namely Jabberwocky.

Copyright (C) Long Lake LLC 2009

S&P 500 Valuations and Stock Prices

The total market capitalization of the S&P 500 is about $13.5 T. Per Zero Hedge and CapIQ, total shareholder equity of the companies in the index is $4.8 T. Goodwill is $1.6 T. These are high ratios historically. In addition, the dividend yield is slightly under 2%.

Click HERE for a list of dividend yields on the S&P 500 index going back to the 1800s (synthetic index for long-ago years, I believe).

Note the high yields from the 1930s well into the 1950s. It was that era that really provided the upside to stock returns vs. bonds. If one looks at the 1970s and then especially the early 1980s, it is easy to demonstrate that an investment in zero coupon 30-year Treasuries in 1982 did just as well as the stock market with less volatility and fewer ongoing costs. Depending on the exact interest rate at the time, a long-term Treasury bought when inflation was raging but Mr. Volcker had tightened money severely was only a few dollars, destined to turn in a few years (2012 if bought in 1982) into one hundred dollars.

Conclusion: The above is a simple way to look at stock valuations including comparative valuations during times of very low Federal debt interest rates. The results are consistent with Andrew Smithers' analysis and that of Jeremy Grantham.

The Smithers analysis is that the stock market is almost 50% overvalued. This would imply that fair value for the S&P 500 index is not much about 700. Given that the averages spend as much time below fair value as above it, and given that even a rising dividend payout stream could be consistent with a 50% decline in stock prices to allow (say) a 5% dividend yield for the index, my conclusion is that there is substantial downside risk in stock prices, even under a decent scenario for economic performance.

The above analysis recognizes that all financial assets are correlated. In retrospect we look back at post-War World II low stock valuations and low Treasury yields and see the value in stocks, but in those days, the general worry was that a deflationary Depression would return. Now the worry is that an inflationary period will return; but there is no high-yielding secure government debt to flee to as there was in the 1980s. All is at risk. In this environment, Ginnie Maes, which pay back principal as well as pay interest, may be the best investment for a substantial chunk of retirement money.

Copyright (C) Long Lake LLC 2009

Saturday, December 19, 2009

Article on the Census not Sensible

You know the Establishment is grasping at straws when a decennial, predictable event is touted as being able to "spark" the economy. In Economists See a Lift in 2010 Census, the New York Times leads off this national article (i.e., one not relegated to the business section) as follows:

Next year’s census will not only count people, it will also put money in millions of pockets and potentially create a well-timed economic spark.

I stopped reading shortly thereafter. Any "economist" who believes that people creating lots of carbon emissions by driving around town, then parking and knocking on people's doors to ask questions can provide vitality to the economy has an incomplete understanding of what a healthy economy comprises. One of many rejoinders to this point of view is that the article could just as easily have said that providing free money AKA welfare (as in corporate welfare to Big Finance or to retirees) can "spark" the economy. It's call money-printing and it DOES NOT WORK.

Copyright (C) Long Lake LLC 2009

What Chinese Pig Farmers Have to Do with Fannie Mae, AIG and Goldman Sachs

The New York Times is running a concise review of financial companies that are to one degree or another wards of the Feds. It is horrifying. Here are excerpts from 4 Big Mortgage Backers Swim in Ocean of Debt:

Even as the biggest banks repay their government debt in what is being heralded as a successful rescue program, four troubled giants of the financial world remain on government life support.

These companies, the American International Group, Fannie Mae, Freddie Mac and GMAC, are not only unable to repay the government, they are in need of continuing infusions that make them look increasingly like long-term wards of the state.

And the total risk they pose to the taxpayer far exceeds that of the big banks. Fannie and Freddie, in the final days of the year, are even said to be negotiating with the Treasury about greatly expanding the money available to them. . .

Fannie Mae recently warned, for example, that it could not pay the dividends it owes the Treasury, so “future dividend payments will be effectively funded with equity drawn from the Treasury.”

It would appear that Fannie Mae is involved in a Ponzi scheme with the Treasury.

All the above and almost all of the point of the entire article relates to the old Irving Fisher/Austrian economics point of too much aggregate debt. As debt levels in the West relative to the size of the economy have risen over the past 3 decades, secular economic growth has slowed and Treasury borrowing rates have fallen concomitant with decreased private demand for funds (e.g., decreased perceived real investment opportunities for the private sector).

From an investment standpoint, the opposite of debt is ownership, and an opposite of paper money is hard money AKA gold (and silver?), and by extension other physical goods known as commodities. But what happens when ownership of hard money occurs due to borrowing paper money (in electronic form)? One has a confusing situation. The mistrusted fiat money sector is used, on the margin with leverage, to purchase a form of insurance against itself. Logical? I think not. Yet ultimately gold is gold, nothing more or less. It just sits there, not tarnishing even after centuries at the bottom of the sea. It can't pull an AIG and have one obscure division ruin the entire entity or morph from an auto manufacturer to a finance company with a manufacturing subsidiary, as GM effectively did. It also can't become Apple Inc. Gold should be the ultimate non-get rich quick asset, a topic addressed next.

Mish has a compelling, must-read article that addresses this in China Faces Crash Scenario, which in turn references what strikes me as a credible article by a man named Brent Cook titled Pig Farmers are Making Brent Nervous. Here are excerpts from the latter:

Before getting into to the relationship between copper and pork products, I want to draw your attention to what makes me nervous, have a look at these photos from China. They are excerpted from a China Central Television Channel (CCTV) program documenting private speculation and hoarding of metals throughout the country. According to an associate of mine at an Asia-focused hedge fund who was just in China, “It’s pervasive; people are piling this stuff up in their backyards."

He Jinbi from Maike (metal trading company). He told CCTV they saw many farmers in Guangdong province stocking more than 100 tonnes of aluminium at home. These people used to raise geese for living.

Because the interest rate is too low in China. Many farmers could make hundreds of RMB profits per tonne, with dozens of Rmb per tonne cost of interests. They use their existing inventories to borrow more from banks. Banks are very 'happy' to lend to them. . .

A September 17 Bloomberg story by Singapore-based Glenys Sim reports that “Private investors in China, the world’s largest metals user, have stockpiled ‘substantial’ quantities of copper as the government ramps up stimulus spending to spur the economy.” The article points out that pig farmers and other speculators have amassed in the order of 50,000 tonnes of copper. That is about half the level of inventories tallied by the Shanghai Futures Exchange."

Mr. Cook goes on to state flatly:

What is obvious is that gold and now base metals have become speculative investments that in addition to being bought as hedges against inflation and a falling US dollar are the latest get rich quick scheme. . .

I remain cautious and somewhat concerned by what appears to be hot and fickle money jumping into a sector that is apparently taking its cue from pig farmers.

Only for reasons of space have I ignored the rest of Mish's article, which has several linked articles.

The Brent Cook article states that banks are happy to lend to pig farmers for commodity speculation. Here is an online dictionary's definition of a bank:

"an institution for receiving, lending, exchanging, and safeguarding money and, in some cases, issuing notes and transacting other financial business."

Note the word "safeguarding". Your "money" in the "bank" is not safe except at the most conservative institutions. It would appear that much of the global economy has been, through overt governmental and business policy and by governmental neglect as well, subjugated to the traders, middlemen and salespeople who benefit from volatility with government bailouts as a given.

When what should be an uncorrelated asset--gold--trades up hard and down hard due to the same leverage that it should be insurance against, what you have is a mess. My guess--just a guess-- is that central banks need "money" and those in countries that have lots of gold, such as the U. S., France and Germany are more than happy to see gold's price trend higher, because this provides a larger capital base on which to continue to support the economic basket cases of their economies, so that unlike past years, official policy may work in favor of gold owners, not against them.

On the other hand, every other commodity, including silver and platinum, are for official purposes all the same: industrial commodities. They are imports for the powers in the G7 and G20 and all things being equal, lower prices are better for their economies than are higher ones.

To summarize, the post-Cold War economic stability of the West of the 1990s is definitely gone.
Whatever price gold and stocks had then is mostly of historical relevance. The U. S. is going the route of Japan with weak, giant financial institutions, politically-motivated infrastructure spending paid for with borrowed funds and a carry trade currency. The economy built on outsourcing, China, may well be in the late stages of a complex financial bubble, and the world's largest economy is being propped up by taxpayers borrowing in part at zero percent interest rates (but with massive re-financing risk as this borrowing is short-term), and Goldman, Sachs and other trading companies are as happy as Chinese pig farmers.

The only theme an investor can follow is that the powers that be don't care about you. In fact, they want your money. Thus American homeowners have systematically been turned into renters for the most part. How to preserve capital adjusted for "flation" has been deliberately been made so complex that the average person has better odds, perhaps, in Vegas than playing our markets. "They" have made it overly complex. Your job is to keep it simple and keep your eyes open and your hand on your wallet. Emulate not Chinese pig farmers. Whether precious metals and other ETFs are the Western equivalent of copper and aluminum in their yards is unclear. More than ever in modern financial times, you never know.

Copyright (C) Long Lake LLC 2009

Friday, December 18, 2009

Empty Agreement on Climate Change and Relevance to Health Insurance Legislation

What I found most relevant to my life in Bloomberg's Obama Snubbed by Chinese Premier at Climate Meeting was not the snub--which is of no importance to me-- but the following quote from it:

“Coming back with an empty agreement, I think, would be far worse than coming back empty-handed,” White House press secretary Robert Gibbs said yesterday in Washington.

Given what the healthcare "reform" effort has devolved into in the Senate, why does the White House principle on climate change not apply to health insurance?

Let's focus on health first, and insurance second. I once again call upon the smoker-in-chief to break the habit.

Copyright (C) Long Lake LLC 2009

Thursday, December 17, 2009

Financial Stocks Deteriorating

I recently warned that market watchers should watch JPM. It, BofA, and of course Citigroup have begun to roll over (Citi of course has indeed rolled over). (To a lesser degree, so has SPY.) This is dangerous in the setting of very wide spreads, which helped goose the stocks in their mammoth rallies this winter-summer. In the same manner, Markit's CMBX index has begun to break down.

A curent, thorough and relatively calm review of the bear case for stocks and the economy is found at the site of Comstock Funds (short-sellers) in Why We Remain Bearish.

The intermediate and long-term gold charts show more underlying strength. Bloodied bulls who fundamentally "believe" in gold as the one monetary asset not based on debt can console themselves with the knowledge that typically long-term bull markets have relatively slow and relatively steady uptrends (excluding blastoff phases when beginning) and short, sharp sell-offs. Stocks are tired and steadily losing momentum, having rallied to resistance; gold is undergoing profit-taking and aggressive short-selling.

Nothing, of course, "has to be", and the current times are without precedent, as may be the amount of market manipulation. So investors and traders are both advised to be more humble than usual.

Also relevant is the advice:

Illegitimi non carborundum.

Copyright (C) Long Lake LLC 2009

Focus on the Trade-Weighted Dollar Index, not the DXY

Much is made of the weakness of the Euro and perhaps the yen vs. the dollar. OK, these are frail currencies.

So the DXY artificial, limited dollar index is rising. Reflexively perhaps, gold and stocks have fallen today. However, the real world has currencies to exchange in trade in goods and services. The St. Louis Fed keeps track of the broad, trade-weighted index. The nearby chart shows this visually (click on it for greater detail).
There has been NO rebound in the dollar as a currency when measured in terms of trade balances. It remains a flawed currency with dangerous fiscal policies and a Fed whose balance sheet contains an unknown quantity of impaired assets.
The zero interest-rate policy is suppressing value of the dollar where it counts, in trade. This is one of the sources of the fake boom/boomlet now underway that economists/personalities such as Larry Kudlow tout and serious players such as ECRI point out.
The downside of all this is price inflation. It's a classic trade-off. Now that the trade-weighted dollar index is around 100, where it was 2 years ago, recall what inflation was doing 2 years ago. Gold was surging to hit above $1000/ounce in March 2008; it is only up another about 10% since then despite all the financial chaos and money-printing.
If the economy has actually turned and employment is going to finally rise significantly (something not noticed by ordinary workers per the poll as recently as today's report), price inflation is going to far exceed interest rates paid by money market funds or most bank accounts. This will lead to more and more speculation in financial instruments. Only tight regulation (absent) and/or much higher real interests is likely to prevent said speculation.
The speculation here is that precious metals will be a beneficiary of price inflation that exceeds prevailing short-term interest rates, and that should inflation equal or exceed the 5-10 year Treasury interest rate, all heck could break loose, including new records in a variety of commodities.
Copyright (C) Long Lake LLC 2009

Wednesday, December 16, 2009

Obama on Health Financing: It's My Way Or I'll Bankrupt the Government

In an astonishing assertion, the President says that if whatever deal Congress can cobble together on health care financing is so vital that the Federal Government will spend more money than it can tax, print or borrow on healthcare rather than adjust expenditures to avoid bankruptcy:

President Obama said in an interview with ABC News' Charles Gibson today that if Congress fails to pass health care legislation that lowers costs, the federal government "will go bankrupt."

He also painted a gloomy picture resulting from the failure of health care overhaul.

"Anybody who says that they are concerned about deficit, concerned about debt, concerned about loading up taxes on future generations, you have to be supportive of this health care bill because if we don't do this, nobody argues with the fact that health care costs are going to consume the entire federal budget," the president said.

This is a version of "my way or the highway". It's childish, irresponsible and illogical. The Government can control its own spending on anything except interest and principal on direct obligations of the Federal Government. Everything else is elective.

The more the polls go south on the current deal, which has for now devolved into a handout to insurance companies (!) as well as Big Pharma, the more histrionic the President gets-- and he was over the top this summer, arguing against doctors who took out childrens' tonsils and took off limbs from diabetics simply to make more money.

This is the wrong way to pass something as important as healthcare "reform".

Copyright (C) Long Lake LLC 2009

Citi Again!

Breaking news from

The U.S. Treasury Department is delaying sales of its Citigroup Inc. common stock because of the low price in the bank’s secondary offering, a person familiar with the matter said.

The Treasury still plans to sell all of its stake in the bank over the next six to 12 months, the person said today on condition of anonymity.

This blog has inveighed against keeping Citi alive since inception about a year ago. Citi's direct predecessor was one of the major contributors to sucking the public into the bubble in the late 1920s, and Citi was bailed out in 1980 and the early 1990s.

Alert readers are aware that Abu Dhabi seeks to terminate Citi stock purchase:

Citigroup Inc. said Tuesday that the Abu Dhabi Investment Authority has filed a claim against the bank seeking to either terminate a deal to buy $7.5 billion worth of its stock or receive damages of more than $4 billion.

It's simply unclear whether the hundreds of billions of dollars of off-balance sheet SIV assets that Citi continues to own and supposedly will have to take on-balance sheet soon makes it functionally insolvent.

Citibank depositors are quite different from Citigroup stockholders and bondholders. Calling Citigroup (and BofA, GS, etc.) a "bank" was the linguistic mechanism that helped justify the bailouts. These bank holding companies could disappear while protecting insured depositors of bank subsidiaries. At this point FDR's argument that a bank should just be a bank and bank holding companies were simply bad things is valid.

Citi should have gone into receivership or something similar within the past year. Now we have the spectacle of the most powerful government in the history of the world messing around with $3 stocks. Humiliating for the U. S. and for Citi.

Copyright (C) Long Lake LLC 2009

Tuesday, December 15, 2009

Pave We Must

The WSJ shows that Barack Obama likes road work in the U. S. and in Afghanistan in Surge Focus is Roads, Police:

The troop surge in Afghanistan will focus on expanding and connecting safe areas of the country, and on revamping the troubled Afghan police, the U.S.-led coalition's day-to-day commander said in an interview.

"There are pockets of security -- but they are not connected," Gen. Rodriguez, who heads the newly established International Security Assistance Force Joint Command, said during a visit to Herat. "Afghan people need, in addition to being secure, to be able to move to places that are important to them, such as to sell farm produce. We've got to be able to expand the secure areas for the people, and improve their freedom of movement."

It's apparently not enough to "stimulate" our economy by doing road work. Perhaps the poorest country in Asia needs the same, it appears. But where is the money coming from for us to do all this? China or thin air? And when these roads are built, can't the Taliban use them for easier transit as well?

The Democrats who claimed to detest nation-building in Iraq love it now. But there had been no great financial crisis then. There has been one now. What appeared affordable looks much less so now. Changing times call for changing strategies. Many people expected more creativity from President Obama than they are getting. We can hope for the best, but this continues to look to Viet Nam-like to make this old anti-war protester comfortable.

Copyright (C) Long Lake LLC 2009

Bloomberg Continues Its War on Gold

In Gold Buying by Central Banks Signals Sell as Past Haunts Future, provides some factoids about years in which central banks were net buyers of gold followed by gold price declines:

Some of the biggest buyers of gold may be sending the strongest signal to sell it, if past performance is indicative of future results.

Central banks, holding about 18 percent of all gold ever mined, are expanding their reserves for the first time in a generation as a nine-year bull market drives prices to a record.

The banks will buy 13.8 million ounces (429 metric tons) this year, worth $15.5 billion, for the first net expansion in reserves since 1988, New York-based researcher CPM Group estimates. Gold fell 15 percent that year and took another 15 years to trade again at the same price as central banks from Switzerland to the U.K. cut their holdings. . .

“This is late in the game to be buying gold,” said Peter Morici, a professor of business at the University of Maryland in College Park and former economic adviser to the U.S. government. “Central banks are not known for their investment acumen. What it reflects is a lack of confidence in the U.S. economy and the long-term durability of the dollar as a store of value.”

Dr. Morici achieved a Bingo! Yes, the rise in the price of gold against all fiat currencies this decade reflects a lack of confidence in the durability of all paper currencies as stores of value.
EBR in general has no interest in the relative values of one paper currency vs. another. The flavor of this month appears to be that the Euro is a flawed currency, so the USD has been rising against it. Big whoop. The main point is that money-printing is the major policy tool both for our Fed and US and European Governments; while the European Central Bank is less "into" money-printing lately than the Fed, this is relative and the ECB traditionally holds lower-quality assets than the Fed.

To show you that I am not making up the political bias of the article, please make sure you have digested the above and consider reading the first part of the article, not just the above excerpts; then read the end of THE SAME article:

Central bank buying may support prices. The bull market of the 1970s, when gold rose from $35.17 at the end of 1969 to $512 by the end of 1979, was in part caused by central bank hoarding, according to Daniel Sacks, a money manager of the Investec Global Gold Fund at Investec Asset Management, which oversees about $47 billion.

“Central banks recognize the economic crisis could linger,” said William O’Neill, a partner at Logic Advisors in Upper Saddle River, New Jersey, and former head of futures research for Merrill Lynch & Co. “Gold has assumed the front and center position as the alternative currency.”

The same writer and editor of the same article apparently found it so confusing to create a long writeup that they forgot their thesis was that central bank buying is a contrarian sell signal for gold. Now they take the obvious, logical position: it takes motivated buyers relative to sellers who don't want to sell to create rising prices. When large holders such as central banks don't want to sell, the supply-demand curve shifts. In addition, when they actually look to buy more, the balance of buying-selling pressure shifts further in favor of sellers; i.e., it favors higher prices all things being equal.

The financial markets are so opaque, one never knows, but the straightforward view is that gold remains in a structural bull market, governmental policy is pro-growth, pro-deficits, pro-money-printing, and quite tolerant of inflation, and that there are so many articles that are coming out with an obvious and poorly-reasoned anti-gold bias that no matter what happens to the gold price, we are nowhere near a manic top a la NASDAQ 1999-2000 or gold itself 1979-1980. My enthusiasm for gold investing increases every time I see this sort of article. Keep it up, bears. You have nothing to lose but your shorts.

Copyright (C) Long Lake LLC 2009

Bankers Show the President the Back of Their Hands, Not the Cards in Those Hands

Since this blog does not have a "Links" section, here is a link to a fun read that is a first-class post by Jesse on the recent "summit" at the White House with financial leaders:

On first read, I agree with all the major points and implications. Good work!

Copyright (C) Long Lake LLC 2009

Chaos in Copenhagen as Attendees Freeze Outdoors and Transit System Goes Blooey

The NYT reports that China and U.S. Hit Strident Impasse at Climate Talks:

COPENHAGEN — China and the United States were at an impasse on Monday at the United Nations climate change conference here over how compliance with any treaty could be monitored and verified.

China, which last month for the first time publicly announced a target for reducing the rate of growth of its greenhouse gas emissions, is refusing to accept any kind of international monitoring of its emissions levels, according to negotiators and observers here. The United States is insisting that without stringent verification of China’s actions, it cannot support any deal.

The stalemate came on a day of public and private brinkmanship as the talks moved into their second and final week. Earlier Monday, a group of poor nations staged a brief walkout from the bargaining table, and a chaotic registration system left thousands of attendees freezing outside the conference hall and forced the temporary closing of the subway stop near the Bella Center, where the meetings are being held.

The slow progress of the climate negotiations could pose problems later in the week, when the heads of government begin arriving. It is not customary for so many technical, financial and emotional issues to be unsettled when national leaders sit down to negotiate an agreement.

This appears to be a poorly-produced show. I wouldn't know, but is it possible that that President both has too much on his plate and would be helped by being more decisive?

Copyright (C) Long Lake LLC 2009

On Escaping the TARP Trap

From Time's Citi's TARP Repayment: The Downside for a Troubled Bank:

. . . analysts say Citi's rush to repay the assistance it got through the government's Troubled Asset Relief Program (TARP) will make the bank weaker, not stronger. . .

Christopher Whalen, managing director of research firm Institutional Risk Analytics, thinks the problem with Citi's repayment has less to do with capital ratios and more to do with waning confidence in the bank around the world. In early December, the investment arm of the government of Kuwait sold its entire investment stake in Citigroup. "Foreign investors like to see the government's stake in Citi," says Whalen. "If the government gets out, investors around the world will flee." . . .

Letting Bank of America repay its TARP funds was ridiculous, but letting Citi out is even more problematic," says Whalen.

All this getting away from TARP has one major rationale: to begin overpaying senior management again. Greed is not good but it is eternal.

Copyright (C) Long Lake LLC 2009

Mainstream Thinking as Contrary Indicators: Unemployment and Gold

In its current above-the fold online article Poll Reveals Depth and Trauma of Joblessness in U.S., the New York Times may be ringing a bell for the (sort of) end of the jobless recovery and the (sort of) beginning of the "jobful" recovery. To date, there has been much more diminution of firings/lay-offs than there has been new hiring. Basic economic knowledge says that can only take business so far (and it takes it not very far). A year ago, the MSM was full of pictures of people in bread lines from the 1930s. Now, two years after the Great Recession began with a whimper, it is a bit late for the Times to run this sort of story and have anyone think that it has any predictive value (not that there is anything wrong with the content of the story). Let the hiring begin!

The yang to the above yin is that I believe that small business is going to "under-hire" in this expansion because of such factors as healthcare reform mandates, assuming that a bill passes, along with significant state and Federal marginal income tax increases. Having been a small business owner at one point, happily with substantial ability to earn more or less income by working harder or less hard, I can verify that the current level and trend of marginal tax rates had a real effect on my work effort, expansion plans, etc. Thus I suspect there will be a bit of a Potemkin quality to the Dow and S&P 500 indices, wherein the companies comprising those indices will tend to have better business results than average for the economy.

I personally exited the stock market at Dow 13,000, 28 months ago. I resumed stock investing in a modest way this summer at Dow 8500 or so. But my heart was with gold, as regular readers know. Strong companies that have not been directly involved with credit creation look to be sensible investments on a multi-year basis, though in the context of what I believe to be an overvalued stock market on an asset and dividend-paying basis. (Reported earnings don't matter all that much, FYI, when assessing fair value to a minority investor in a publicly-owned company.)

That brings us to gold. Randall Forsyth has a poorly-argued screed against gold in Barron's online today titled Nostalgia for the Gold Standard is Misplaced. He gets it wrong early on by saying:

The fundamental force behind the surge in gold is, of course, the economic crisis from which we may (or may not) be emerging.

Not so. Gold started rising after 9/11 and briefly quadrupled from its 2001 low in early 2008. It then stagnated/digested its gains until as late as 2 months ago, when it broke out not due to the crisis but due to the zero interest rate recovery. Too much credit chasing too few real goods and services. In other words, financial speculation is back, as the Fed and the Feds have more or less successfully reflated without an intervening general deflation of the overall price level.

Forsyth concludes:

Impassioned adherents of the gold standard gloss over the inability to counter deflation. Modern democracies simply will not tolerate the Dickensian unemployment and suffering brought on by debt deflations, however, which is why the Federal Reserve was created during the Progressive Era that also had previously brought anti-trust laws and the beginnings of other government regulation of business.

What we gold investors say is that there is nothing inherent in modern democracy that requires excessive credit creation in the first place. Without that debt creation, there cannot be a debt deflation; and let us consider all the price inflation that has occurred since indexing of tax rates for inflation brought the Federal government larger and larger deficits (inter alia) in the early Reagan years and coincided with more and more debt/income in the private sector. In other words, modern policy is to print money. Helicopter Ben, remember? Keynesians still believe in the price illusion, strange though it is for this blog's sophisticated readers to believe. Give a worker a raise of 5% and have him/her pay 5-7% more for what he/she buys is supposed to make the worker happier than providing no raise and having what he/she buys drop 2% in price. Supposedly this deflation must be "fought" by printing money. But deflation in price is good for consumers. When the MSM brings out debt deflations as a straw man, hold onto your wallets. Inflation is in the works.

There are many, many good points to be made against investing in gold. As someone who came into his first investable money in 1979, I stayed away from gold until 2001. My focus was on growth and disinflation; stocks only till 1997-8, then stocks and bonds.

Putting the Times unemployment article together with the Barron's anti-gold article as representative of an important segment of Establishment New York thinking, here's one scenario to consider:

The economy picks up speed just as it did in 1975-6. Federal and Fed policy are pro-cyclical, as they were then. The Fed does its usual thing and does not raise rates until the unemployment rate has declined a good bit. Price increases pick up steam, and the same inflationary psychology not only of the Carter years but of 1936 return. P/E ratios for stocks fall; long-term interest rates do not fall; and investors go with the inflationary hedges based on "fundamentals" and strong, self-fulfilling chart patterns.

A final bit of history. Gold went from $35/ounce to over $700/ounce in ten years, from 1969-79. It then lost almost all its value vis-a-vis cash or long-term T-bonds in the intervening 20+ years. Timing is everything with this asset.

The NASDAQ index (IXIC) went up about 15 times from its October 1990 recession low to its March 2000 high.

If gold were to have a lesser, ten-fold move from its 2001 low to an upcoming high, that would take it to about $2500. This amount happens to roughly equal its inflation-adjusted high of 1980. But in a broader sense, since gold appears to be in some rough equilibrium with other financial assets, over many years, I suspect that it will rise roughly in line with the general price level (or fall less than any unexpected general decline in the price level).

In a world where "cash is trash" in that we know that even forgetting about taxes on interest, government policy is for inflation rates to exceed bank rates on cash, one can hold gold and forgo essentially no interest income, and one knows that Establishment thinking notwithstanding, gold is likely to be a monetary metal longer than Barron's is likely to have any influence.

So for me, having adequate gold reserves, some physical but mostly in ETFs (GTU preferably), provides speculative upside with a long-term buy-and-hold comfort level that I currently lack for the general stock market, cash, Treasuries, and real estate.

Copyright (C) Long Lake LLC 2009

Monday, December 14, 2009

Letting Citi Go

Citigroup is said to be near agreement to free itself of executive pay caps, within 24 hours of the President bashing Big Finance on network TV.

By Bloomberg's estimate, Citi is said to have a market value of about $90 Billion.

Since the Federal Government bailed out the company, which almost certainly would have gone bust in the panic a year ago making the common stock worthless, shouldn't the Feds have structured this so that the taxpayer reaps at a minimum 50% of that $90 Billion, and reaps it now?

And what about all the bondholders of the holding company? They have been receiving interest payments for years (depending on the vintage of the bonds). Why was there no haircut for them, as well?

All this is happening as the over $1 Trillion spending bill heads soon to the White House for signature. It is being widely reported that discretionary spending is rising 10-12% overall year on year. All this is under the PR guise of helping the economy . . . except that there's no funding for this extra spending. So much for the idea that the criticisms one Party makes of the other when out of power mean anything when power shifts from the outs to the ins.

So far as the economy goes, there appears to be a general comfort level that uneven better times lie ahead.

The major fly in the ointment, it seems here, is that asset prices have been propped up too high and that small business is objectively in the toilet. Multinationals and other large companies with political influence and good access to capital may prosper and keep the stock averages up, but the bailing out of Big Finance has not led to any trickling down of its alleged prosperity to the average person.

It is no wonder that as of yesterday, Rasmussen Reports had the President sinking to his lowest ratings ever. People get it. They get that the bailout went to Big Finance, Big Labor, et al. Thus they likely understand that the bashing of Big Finance by the President yesterday was for show, and that the reality was that Citi is now going to be free to pay its executives as much as it wants so that they can screw up on a grand scale for the umpteenth time.

Copyright (C) Long Lake LLC 2009

Saturday, December 12, 2009

Geothermal Failure a Canary in the Proverbial Coal Mine on Energy Policy

The New York Times reports: Geothermal Project in California Is Shut Down:

The company in charge of a California project to extract vast amounts of renewable energy from deep, hot bedrock has removed its drill rig and informed federal officials that the government project will be abandoned.

The project by the company, AltaRock Energy, was the Obama administration’s first major test of geothermal energy as a significant alternative to fossil fuels and the project was being financed with federal Department of Energy money at a site about 100 miles north of San Francisco called the Geysers.

But on Friday, the Energy Department said that AltaRock had given notice this week that “it will not be continuing work at the Geysers” as part of the agency’s geothermal development program.

The project’s apparent collapse comes a day after Swiss government officials permanently shut down a similar project in Basel, because of the damaging earthquakes it produced in 2006 and 2007. Taken together, the two setbacks could change the direction of the Obama administration’s geothermal program, which had raised hopes that the earth’s bedrock could be quickly tapped as a clean and almost limitless energy source.

There may a deeper significance that this news is out before the President goes to Copenhagen.
How on earth a growing population is going to drastically cut its use of fossil fuels with massive use of nuclear energy or as-yet unproven technologies is unclear.

Geothermal was never going to account for much energy production, but the failures described in the Times article foreshadow other failures to come in more important fields--as well as successes, to be sure.

The Obama administration cannot both promote energy-intensive computerized learning and expansion of Internet usage, as well as extensive roads programs to encourage more automobile use, and at the same time call for huge declines in per capita energy use.

The President needs to pick one direction on energy policy and fight for it.

Copyright (C) Long Lake LLC 2009

Tall Paul Calls for More Investment and Less Consumption

Per, Paul Volcker has said what this blog has been saying since inception, which is that Americans overconsume relative to their real earnings (and the obvious mechanism to allow the overconsumption is easy credit, thus the long-overdue tightening of lending standards):

Former Federal Reserve Chairman Paul Volcker said imbalances in the structure of the U.S. economy pose a bigger challenge than the financial crisis and will impede economic growth for some time.

“We have another economic problem which is mixed up in this of too much consumption, too much spending relative to our capacity to invest and to export,” Volcker, an adviser to President Barack Obama, said today in Berlin. “It’s involved with the financial crisis but in a way it’s more difficult than the financial crisis because it reflects the basic structure of the economy.” . . .

“It’s likely that economic growth is going to be pretty sluggish for a while,” Volcker said in a Bloomberg Television interview.

Given the enormity of the falloff in the economy post-Lehman's collapse, the percent growth rates are going to look fine. However, even ECRI is predicting much shorter growth-recession cycles than we were used to in the 1983-2007 time frame, and it has been as bullish as any organization for the past about 10 months.

The sooner the U. S. government speaks truth to borrowers, as well as sets an example by restraining its own borrowing and spending, the sooner the economy can get back on a healthy long-term track.

Copyright (C) Long Lake LLC 2009