Tuesday, June 30, 2009

How Can Inflation Be Too Low?

San Francisco Federal Reserve Bank head Janet Yellen, Democratic stalwart and wife of Nobel Prize winner George Akerlof (co-author of "Animal Spirits" with Robert Shiller), is reported by Calculated Risk to have given a downbeat speech tonight. You can link to a nice summary by clicking here. (The actual text of the lengthy speech can be obtained by clicking here.) The bulk of what she says makes sense. However, CR's post ends with the following quote from Dr. Yellen:

"I think the predominant risk is that inflation will be too low, not too high, over the next several years."

She did not say that she fears rampant deflation; that would indeed be a consummation devoutly to be wished against. But given how much prices have risen the past 3-5 years, how can inflation possibly be too low?

If she wants the Fed to make some money from monetizing the debt and buying gazillions of dollars worth of ultra-low interest rate mortgages, how on earth can the Fed wish for anything but very low inflation to justify very low or even declining interest rates?

And if the Fed engineers another big inflation, it will be many years before anyone willing lends money to the Federal Government at other than a high interest rate. Bond vigilantes returned recently merely due to the huge Federal deficits. Just wait to see their vigilante behavior if inflation resurges. It won't be pretty.

Copyright (C) Long Lake LLC 2009

Where Are the Green Shoots?

Despite the strong signals for economic growth from the Leading Indicators, it is disconcerting to find consumer confidence down in May (Conference Board today), as well as the following:

Restaurant Industry Outlook Softened in May as Restaurant Performance Index Posted First Decline in Five Months

The outlook for the restaurant industry was dampened somewhat in May, as the National Restaurant Association’s comprehensive index of restaurant activity registered its first decline in five months. The Association’s Restaurant Performance Index (RPI) – a monthly composite index that tracks the health of and outlook for the U.S. restaurant industry – stood at 98.3 in May, down 0.3 percent from April and its 19th consecutive month below 100.

“With the performance of the current situation indicators holding relatively steady in May, the RPI’s decline was the result of restaurant operators’ dampened outlook for each of the four forward-looking indicators,” said Hudson Riehle, senior vice president of Research and Information Services for the Association. “


Bad news out of the Chicago Fed on the Midwest Manufacturing Index

The Chicago Fed Midwest Manufacturing Index (CFMMI) declined 3.1% in May, to a seasonally
adjusted level of 78.2 (2002 = 100). Revised data show the index was down 1.4% in April, to
80.7. The Federal Reserve Board’s industrial production index for manufacturing (IPMFG)
was down 1.0% in May. Regional output in May declined 24.4% from a year earlier—lower
than the 15.2% decrease in national output.

Past is not prologue. Cycles turn. However, it sure looks as if too many business trends are flat to down so far into an economic downturn and despite an almost uncountable number of Fed and Federal programs.

Whither prices of financial assets if the expected recovery is below expectations?

Today's price action, with stocks and gold down and Treasuries flat, may tell that tale.

Copyright (C) Long Lake LLC 2009

Gallup Finds June Retail Sales Lower than May's; So Far, No "Stimulus"

The Associated Press is out with a report titled Summer looks like a washout for some retailers.
While we need to avoid hindsight bias which would make us accentuate the negative because of the recent past, and thus we may look past the intro comments, some observations buried deep in the article are disquieting:

As consumers get ready to celebrate July Fourth, many merchants already have dismissed summer as a washout.

Macy's flagship store has racks of summer tops, swimwear and dresses marked down as much as 50 percent, while luxury retailer Bergdorf Goodman is slashing prices on designer goods by as much as 70 percent. Meanwhile, piles of clothing as well as barbecue grills, tents and gardening tools are bypassing stores and heading straight to liquidators as merchants try to conserve their cash. . .

Friday's government economic reports weren't comforting to merchants, showing that households used most of their government stimulus payments to boost savings to the highest level in more than 15 years in May, instead of splurging at the mall.

"There was a lot of hope with the surge in confidence," said Dennis Jacobe, Gallup's chief economist. He added that consumers were convinced that the second half would be better but he noted, "you can live on that hope for only so long."

According to a Gallup Poll survey of 1,000 consumers taken June 15-21, confidence has faltered as stocks have stumbled and gas prices have risen. He added that he's seen a deterioration in June sales from May.

Michael P. Niemira, chief economist at the International Council of Shopping Centers, estimated that June's same-stores sales have so far registered a 6 percent drop, worse than the projected 5 percent decline and May's 4.6 percent decrease. The figures exclude results from Wal-Mart, which no longer releases monthly numbers. Same-store sales, or sales at stores open at least a year, are considered a key measure of retailers' health.

Niemira says he isn't reducing his forecast yet because he believes the true test will come when the weather warms up.

Could the Obama tax cut/transfer payments be producing the same minimal economic effects as did the 2008 tax cut?

It would appear that the Feds have borrowed a lot of money for it to have almost completely ended up in the bank. This is a clever form of bank recapitalization, but not what the alleged purpose of the tax cuts and increased transfer payments was.

As stated here before, the economy needed a rest after a period of frenzied activity that we have learned was goosed by record amounts of leverage (borrowed money). Economic activity will return at its own pace as real human needs and desires are satisfied. Government "stimulus" has once again proven useless.

Copyright (C) Long Lake LLC 2009

Market Musings

As predicted here recently, the Treasury bond market has had a sharp move upward in price, down in yield; the next 50 basis points lower will not likely be as easy but history suggests it will come.

U. S. stocks appear finely balanced. Stocks are soaring overnight in Tokyo despite news that a measure of employment opportunities in Japan just hit an all-time low. China, too, is red-hot, even as Fitch reportedly is considering a major downgrade of the Chinese banking system. The possibility that a bubble is in existence there must be considered.

Cheers are expected in the U. S. as annualized auto sales are expected to exceed 10 million units on the strength of discounted financing (paid for by taxpayers!). This sales pace was, however, first reached 42 years ago. Not impressive.

While the stock averages grind higher, the charts of strong companies continue to show no strength; check out UMB Financial, Wal-Mart, and GE. This market resembles that of 2002, where a number of stocks went on to resist the downward pull after the rally into early 2002, but where the averages made a new low a year after the recession ended. Certainly, there is near-universal belief that disaster has been averted and new lows are almost out of the question. Short-term, this belief feeds on itself. People need a theme, and this one is not played out yet, it would appear.

The stock charts, fundamentals, P/E's, dividend yields and the like for a few stocks such ROST and TEVA are unimpeachable. They can continue to trend upward no matter what GE or IBM does.

More worrisome, however, from recent market action is the action and charts in prior leaders such as Monsanto and Potash. Both have declining earnings estimates and failing charts, yet the stocks were up today, which is a warning sign of a low-quality bull move. IBM and MCD, which have rising earnings estimates, low P/E's and dividend yields better than cash or 2-year T-notes, are churning. Go figure.

Insiders are reportedly selling at a very fast pace in June. In the setting of a receding bear market/late-stage economic downturn, with a growth-oriented Fed, this is not a terrible sign, however.

Thus there is a yin for every yang.

Generating positive income, and waiting for India to re-enter the gold market before buying gold or adding to one's holdings, continue to make sense. Large directional bets are gambling.

Copyright (C) Long Lake LLC 2009

Monday, June 29, 2009

Emphasizing the Trade in Cap and Trade:

Yesterday, in Cap and Trade Will Likely Pass Because It Favors Big Finance, EBR opined that in keeping with the actions of the current and two prior administrations, a "climate change" bill based on creating a trading market would likely pass because it provides a large, unending previously undreamt of revenue stream for the financial community to profit from and which will undoubtedly be dominated by Big Finance rather than by small players.

A straightforward tax on carbon as it is used for fuel, floated briefly and timidly by the Clinton-Gore White House, has been given no consideration by the parties to the cap and trade juggernaut.

This view is supported by an article that appeared today on Bloomberg.com:

CO2 Traders Hedging Against New Climate Laws, RNK Capital Says

Carbon traders will buy more option contracts this year as a hedge against new climate laws and devaluation of credits for richer nations that help cut greenhouse gas in the developing world, RNK Capital LLC said.

Ken Schneider, an options trader at New York-based environmental hedge fund RNK, said investors are buying put options on speculation there will be new restrictions on United Nations’ Certified Emission Reduction credits.

How much simpler and less expensive to simply tax carbon-based fuels more heavily!

For the followers of the geniuses who eviscerated the Glass-Steagall separation of investment banking from conventional depository-based banking, who ruled that collateralized debt swaps were the only form of insurance that AIG could write that required no reserves, and who bailed out financial institutions with trillions of dollars with no upside for taxpayers other than that these same institutions could then lend the taxpayers that very same money at a profitable rate of interest, the only way is "Blank" and TRADE.

Copyright (C) Long Lake LLC 2009

Sunday, June 28, 2009

A Crisis That Just Won't Die

Calculated Risk has a multiply-worthwhile post this evening: http://www.calculatedriskblog.com/2009/06/bis-toxic-assets-still-threat.html.

It links to a Guardian (UK) article "scooping" a Bank of Int'l Settlements report that calls for more action on toxic assets on the books of large complex financial institutions; links to a WSJ article detailing the incredible shrinking PPIP; and, interestingly, repeats CR's prior view that certain Big Finance companies should have been allowed to be "pre-privatized".

Linking to the above will then allow cross-links as described.

Those who have not read CR should know that this is the most factual, least opinionated financial blog I have seen. For CR to still, in retrospect, favor the view that BofA should have been put out of its misery is compelling.

Copyright (C) Long Lake LLC

Cap and Trade Will Likely Pass Because It Favors Big Finance

While thinking about the climate change legislation that heads to the Senate for review, I got curious about the history of climate change thinking.

I Googled "global cooling" and quickly got to the site linked to here titled "Fire and Ice". While it is long, I link to it because and it has numerous quotes reflecting the history of media and scientific thinking about global cooling and warming. Clearly it is published by a political organization, but
I am going to trust that the quotes are accurate.

The first Earth Day was celebrated on April 22, 1970, amidst hysteria about the dangers of a new ice age. The media had been spreading warnings of a cooling period since the 1950s, but those alarms grew louder in the 1970s.

Three months before, on January 11, The Washington Post told readers to “get a good grip on your long johns, cold weather haters – the worst may be yet to come,” in an article titled “Colder Winters Held Dawn of New Ice Age.” The article quoted climatologist Reid Bryson, who said “there’s no relief in sight” about the cooling trend. . .

The Nov. 15, 1969, “Science News” quoted meteorologist Dr. J. Murray Mitchell Jr. about global cooling worries. “How long the current cooling trend continues is one of the most important problems of our civilization,” he said.

If the cooling continued for 200 to 300 years, the earth could be plunged into an ice age, Mitchell continued.

Six years later, the periodical reported “the cooling since 1940 has been large enough and consistent enough that it will not soon be reversed." . . .

Various climatologists issued a statement that “the facts of the present climate change are such that the most optimistic experts would assign near certainty to major crop failure in a decade,” reported the Dec. 29, 1974, New York Times. If policy makers did not account for this oncoming doom, “mass deaths by starvation and probably in anarchy and violence” would result.

Time magazine delivered its own gloomy outlook on the “World Food Crisis” on June 24 of that same year and followed with the article “Weather Change: Poorer Harvests” on November 11. . .

Newsweek was equally downbeat in its article “The Cooling World.” “There are ominous signs that the earth’s weather patterns have begun to change dramatically,” which would lead to drastically decreased food production, it said.

“The drop in food output could begin quite soon, perhaps only ten years from now,” the magazine told readers on April 28 the following year.

This, Newsweek said, was based on the “central fact” that “the earth’s climate seems to be cooling down.” Despite some disagreement on the cause and extent of cooling, meteorologists were “almost unanimous in the view that the trend will reduce agricultural productivity for the rest of the century.”

"Cap and trade" promises huge profits for Big Finance (and small finance) with uncertain benefits for humanity, small reductions in coal usage in America, and significant tax expense. Regardless of the scientific merits of reducing CO2 emissions, this bill appears to be yet another of the Establishment's stratagems to be sure that the financialization of the world proceeds apace. If CO2 emissions are bad, why not simply tax them?

Surely the powers that be can have reduced tax rates for existing CO2-emitters if that is desired, perhaps with tax rates that rise over time; and high rates for "non-green" new CO2-emitting power plants, autos, etc.

This bill is in the same spirit of the proposals that if you are alive in the United States, you MUST purchase health insurance. It benefits the famous "FIRE" economy: Finance, Insurance and Real Estate.

Whatever the various environmental or social merits of these proposals, somehow their implementation is always the same: the private FIRE economy gets to siphon off more and more of society's goods and services.

Will this ever end?

Copyright (C) Long Lake LLC 2009

High-End Housing Has Significant Headwinds

Henry Blodget, formerly the hyper-bullish analyst and now realist-bearish financial writer and interviewer, has an article titled The New Homeowner Hallucination: "We'll Rent for a Year and then Sell when the Market Comes Back". Here is the intro:

Mark Hanson of the Field Check Group continues to write great analyses of the housing market. Mark remains extremely bearish, and he attributes the recent pick-up in sales velocity to seller capitulation rather than renewed buyer demand.

Mark thinks the next segment of the market to crash will be the mid- to high-end, where many smug homeowners are now telling themselves they'll just rent their houses for a year while they wait for the market to "come back." Needless to say, Mark thinks these folks are dreaming. . .

The article provides Bay Area examples. I checked in with a realtor in a super-prime community on the Central Coast to see if this article resonated with her. The answer was Yes, for sure, no doubt about it.

It sounds as if there are too many sellers, or potential sellers, all wishing and hoping, and waiting, for a price rebound. Sounds like uncounted, shadow inventory.

In the meantime, even if jumbo mortgages are becoming available, how many people would borrow $2-4 M at 7% interest plus principal paydown (this is "in" now!) to live in a lovely area that is fantastically expensive relative to the alternatives? It's one thing if they have the spare cash, but most of those sorts of buyers already own all the houses they need.

Not that the Fed cannot engineer an inflationary recovery, but if your financing cost is 7% and your purchased asset is rising 2% a year in value, and you could rent at an annual cost for 3% of the worth of the home ( which is market rent in this community), renting is less costly.

And if Mr. Hanson et al are correct, luxury home prices have lots of deflation ahead, not inflation.

A house should primarily be a place to live, with financial gain a secondary motive and preferably no motive at all.

Copyright (C) Long Lake LLC 2009

Saturday, June 27, 2009

California Falling Seaward, Establishment Proposes More Debt as Solution for Everything

It is not only the State of California that is having financial problems. Today yours truly learned that a large uniform and office supply company with over 50 locations in 5 states, headquartered near Los Angeles, has recently reduced employees' hours to that of the slow season (winter). Another straw in the wind is that a local branch of a large casual dining company suddenly saw business drop off from a year on trend of down 3% to down 18%.

Meanwhile, courtesy of Calculated Risk, Hotel News Now reports on an upsurge in defaults and foreclosures in hotels in California, and goes on to say:

Initially, the wave of distress in California was seen by the smaller, non-flagged hotels in secondary and tertiary markets. As the hotel economy worsened, we have seen it impact all property types. The properties range from the luxurious St. Regis Monarch Beach Resort in Dana Point to the more economical Extended Stay and Red Roof Inn chains.

No market or brand is immune in this downturn. In reviewing the hotels in default or foreclosed on, we found that over 75% of the loans originated from 2005 to 2007. During this period, over 2,500 California hotels either refinanced or obtained new purchase loan financing. Unfortunately, based on today’s market values, we estimate that none of these hotels have any equity remaining. (Emph. added)

Meanwhile, while the Establishment tries to pretend that there has simply been a little disturbance, Simon Johnson of The Baseline Scenario has a nice summary of the alternative point of view, to which EBR subscribes, that a more fundamental problem caused the recent problems and needs a more thorough solution than that proposed by Team Obama; see What Next for the Global Crisis?

One of many examples of how wrong the consensus opinion is about what is wrong and what needs to be done is found in a post by Mish today, in his post Embrace Deflation- It's The Cure, Not The Problem. He references the current deflation in Japan in another article and quotes from it:

“Profits fall, then wages come down, then consumers stop shopping,” said Junko Nishioka, chief Japan economist at RBS Securities Japan Ltd. in Tokyo. “And because people aren’t shopping, companies lower prices. That’s the process that we’re starting to see. It isn’t easy to break out of.”

OK so far. What does he quote (from a different article) as the solution?

The Organization for Economic Cooperation and Development this week urged the Bank of Japan to keep pumping cash into the economy “until underlying inflation is firmly positive.” Since it cut the key interest rate to 0.1 percent in December, the central bank has been buying corporate debt and increased government bond purchases from lenders to revive growth.

Yes, the "solution" is to print money. The problem is clear from the first quote. The problem is inadequate profits. Once profits are inadequate (absent?), an economy has problems. The solution that the occupying power has imposed is the Western one, which is to pump up the financial community by giving it more business, selling and buying debt. One doubts that this is a traditional Japanese custom.

The same "solution" is occurring in the U. S., where the people have largely lost the equity in their homes, where over-leveraged corporations are going under and thereby creating a second round of work for the same financiers that sold them the debt on ridiculous terms to begin with, and where the Bushbama Establishment overall solution is the same hair of the dog approach that has been tried unsuccessfully here and has failed in Japan (and Zimbabwe).

Perhaps March 2009 was equivalent in a deflationary manner to fall 1974, with a cyclical rebound due; but the major trend then was down for 8 more years adjusted for inflation. Even if one accepts the unprovable, which is that stocks will remain in the rising channel adjusted for inflation that they are alleged to have been in for 200 years in this country, they are only in the middle of that channel, the bottom being Dow 4000. Consumer prices would therefore have to double for the current stock market to then be at the bottom of its long-term uptrend.

When we finally consider that the stock charts of many countries do NOT show a rising channel, and we consider the relative decline of the American empire, the conclusion here continues to argue for strategies focused on preservation of capital and income.

Copyright (C) Long Lake LLC 2009

Friday, June 26, 2009

More on the Media

In the previous post below, I referred to Bloomberg's accentuating the positive regarding today's incomes report. In fact, I decided not to comment that the title on the Bloomberg.com home page was even more laudatory than the positive title of the actual article. The home page headlined the article and has continued to have it as the lead article the entire day, as "Consumer Spending the U.S. Rises, Incomes Jump on Obama's Stimulus Efforts".

As if one heroic man did all this. And as stated, the article in the "below-the-fold" part got around to mentioning that, oh, wages and salaries FELL in May. What accounts for the discrepancy?

It turns out that the AP told the story much more straight:

Government stimulates savings more than spending
Millions of Americans get stimulus payments in May, but money goes into savings
By Martin Crutsinger, AP Economics Writer
On Friday June 26, 2009, 5:46 pm EDT

Households raised their savings rate to the highest level in more than 15 years in May as many used a big boost in money from the government's stimulus program to bolster nest eggs rather than to spend more.
Still, with consumer spending expected to stay subdued, a sustained economic recovery seems doubtful anytime soon.

The biggest chunk of the income gain in May came from $250 payments for more than 50 million Americans receiving Social Security and other government benefit programs. In all, $13 billion of the one-time payments were mailed last month.

Millions of other workers benefited from the tax-credit part of the $787 billion stimulus plan. That program provides up to $400 for individuals and up to $800 to married couples. Workers began receiving that benefit in April in the form of less money withheld from pay, averaging about $10 per weekly paycheck.

The bigger Social Security benefits pushed incomes up 1.4 percent in May, the biggest gain in a year. Yet it did not cause a similar jump in spending. Consumer spending rose only 0.3 percent. . .

DoctoRx here. More and more, it looks as though the owner of Bloomberg is acting like the politician of a deep blue city, with his editors and perhaps reporters shining light on the side of the news that is more favorable for the ultimate Leader in Washington.

As old media crumbles, we see in Bloomberg.com perhaps the ultimate intersection of New Media, Big Finance and politics. It is not a pretty sight.

Copyright (C) Long Lake LLC 2009

Media Continue to Accentuate the Positive

Bloomberg has some good news in a headline today, Consumer Spending Rises, Stimulus Lifts Incomes. What the headline does not say is that the rising incomes were entirely due to government transfer payments or tax cuts. Buried deep in the article is the fact that "wages and salaries dropped 0.1% in May". Worse, private wage and salary disbursements dropped $12.4 B in May, having "only" dropped $0.7 B in April.

No green shoots other than in government transfer payments.

In that regard, Eurointelligence leads one to the Financial Times article that

Exporters warn of German credit squeeze

By Ralph Atkins in Frankfurt

Published: June 25 2009 20:59

Germany’s powerful export industry is warning of a credit squeeze in Europe’s largest economy even after the European Central Bank’s injection this week of one-year liquidity into the eurozone banking system.

The German BGA exporters’ association on Thursday forecast a “dramatic deterioration” in credit conditions in coming months, which would result in “massive financing squeeze”.

Anton Börner, BGA president, told the Financial Times that “for middle- and long-term credit we already have significant difficulties”. Even for short-term credit, he expected banks to “exert massive pressure on borrowers”.

Mr Börner blamed the squeeze on the delayed impact of the hit Europe’s banks had taken from “toxic” assets as a result of the global economic crisis.

The article continues:

The alarmed tone is significant because German policymakers have argued that the export-dependent country is not facing problems in the supply of credit to business or households. Instead, the economy is seen as being hit by a global collapse in demand for its industrial products.

Earlier this month the Bundesbank warned gross domestic product would contract by 6.2 per cent this year, but it “assumed that the situation on the financial markets will gradually ease and that Germany will not experience a general credit crunch”.

Late on Wednesday, the VDA German automotive industry association also warned its members were facing increasing difficulties obtaining credit.

The severity of continental Europe’s recession was underlined on Thursday by a 35.5 per cent fall in eurozone industrial orders in April compared with the same month a year before, reported by Eurostat, the European Union’s statistical office. That was the steepest such fall since records began in 1996. Germany reported a 39.5 per cent drop.

In both the spring of 1930 and the spring of 1931, green shoots appeared. Then, markets collapsed. In the severe 2 year bear market of 1973-4, markets collapsed and the economy sank unexpectedly after things were looking better after the spring.

Looking at all the accentuating of the positive and then the actual real world employment facts, and severe problems elsewhere in the world, it would appear that investors need to steel themselves to resist the selling machine that Wall Street is.

Copyright (C) Long Lake LLC 2009

Thursday, June 25, 2009

Uninspiring Stability Breaking Out All Over?

We reported very recently that a GE Vice President reported no green shoots hanging around GE's neighborhood. Yesterday, Warren Buffett gave an interview to GE's subsidiary network CNBC stating that he receives daily updates on about 70 businesses, that the economy in the U. S. is in "shambles", and that there is no economic improvement visible. He did express optimism that on a 10-year basis, the stock market will beat the Treasury bond market. Uncle Warren said he has NO fear of deflation, just inflation on a 2-year horizon and beyond.

EBR believes that Mr. Buffett is making the wrong comparison between stocks and Treasury bonds. One buys Treasuries for security, not to "beat" stocks. The correct comparison is between stocks and corporate bonds. On that basis, corporate bonds are strong competition for stocks on a risk-reward basis.

Further in the anti-green shoots meme, we can point to Mervyn King, head of the Bank of England, who is bearish on the U. K. economy; the American Automobile Association, which has downgraded its estimate of the number of drivers to hit the roads this season; Johnson Redbook, which recorded below expectation retail sales, and others. On the other hand, Nouriel Roubini appears to grudgingly accept that matters are "stabilizing". For him, that's wildly bullish. And of course, the ECRI has "pounded the table" that recovery is certain this summer.

I feel like a religious agnostic. I can believe that all points of view and predictions are correct, but just not all at the same time. Inflation? For sure, but when. Bonds: they make sense with slack in the economy and perhaps chastened consumers for years to come. Cash: sounds good; keeps your powder dry to jump in the correct direction. Gold: for sure, but too many true believers have kept it churning. Stocks: primarily as income vehicles to compete with cash; and, the right tech stocks, which sat out the last cycle, are due to have their day.

One good rule of life: the future is more like today and yesterday than one thinks. If GE, Berkshire Hathaway and the Bank of England see no green shoots growing, why should tomorrow suddenly burst out with wild and crazy growth or sudden inflation? Anything is possible, but I wouldn't bet on it.

Copyright (C) Long Lake LLC 2009

Wednesday, June 24, 2009

Durable Goods Manufacturers' Shipments Reported Down 19%, and That's the GOOD News

The Census Bureau and Commerce Department have reported their monthly estimate of durable goods shipped. The media are portraying the news as good, with some monthly sales gains. No dispute there. Sadly, what the media does not give is the actual data, which EBR receives by Email monthly from the U. S. Government free of charge. Here are some data.

May 2009 vs. May 2008, shipments are down 19% (to $170 B) and new orders are down 27% (to $161 B). These are monthly, not annualized numbers, so this is a significant part of the economy.

Re the ratio of shipments to new orders, in May 2008, they were in balance, $215 B vs. $213 B. Despite the improvement in orders, the ratio remains worse now, with shipments in May 2009 as described above, $170 B vs. $161 B.

Thus, shipments continue to exceed new orders by a greater absolute amount and by a greater ratio than one year ago.

Consider that nondefense orders for new aircraft AND parts are down 73% year on year.

The overall trends are indeed improving, but when you are looking at year on year new orders down 27% in comparison with a month one year ago that was already 6 months into a recession, times are tough. If something drops from 100 to 73 to equal a 27% drop, then an increase of over one-third is needed just to get back to baseline; forget about the growth that was expected when the index was at 100. This is depression math. Much sustained growth is needed just to get get back where we were not long ago.

Copyright (C) Long Lake LLC 2009

Tuesday, June 23, 2009

More Withering Green Shoots; Good for Treasuries

Courtesy of Zero Hedge are two news items indicating that consumers aren't feeling in the pink or spending the green. To go along with the theory that there is a conspiracy to engender good feelings amongst the populace which will lead to a self-sustaining economic upturn, little publicity has accompanied these discordant data points. Each report is brief and worth a click-through.

First, Redbook:

US Retail Sales -4.4% First 3 Weeks June Vs May

Note: these sales are worse than estimates. Next, the ABC News Consumer Comfort Index, which is titled

US consumer confidence nears record low in latest week:

NEW YORK, June 23 (Reuters) -
ABC News on Tuesday released its weekly index on consumer confidence in the United States.

The Consumer Comfort Index fell in the latest report to -53 from -49 the prior week.

The index is now just one point above its all-time low of -54, which was reached in the week ended Jan. 25, 2009, and before that in the week ended Dec. 1, 2008.

Those surveyed were especially bearish on their personal finances, which number was greatly below that of 6 weeks earlier.

Not all news is below expectations. For example, chip-maker Marvell Technology raised its sales estimate for the current quarter. The stock went . . . down on the news.

More and more, it is looking like a rerun of the first recession of this decade. Stocks fell in the second half of 2000, 2001 and 2002. The green shoots and in fact the technical end of the recession in the fall of 2001 gave way to a near-double dip and stock market bottom in late 2002 into late Q1 of 2003. Mixed in with these average prices were new highs in the secondary indices by mid-2002. Let us see if the strongest companies can repeat that performance should the averages take another tumble.

Meanwhile, except for about the 2 months between mid-January and mid-March, gold has tracked the stock averages fairly closely (though with a stronger chart in general), and may well do so again.

Quietly, the stock that tracks the long Treasury bond, TLT, is up 6% in a short time after perhaps a record 6-month sell-off. We may be in the midst of a perfect storm for Treasuries: economy strong enough to allay fears of a default but weak enough to suck money out of riskier investments.

Copyright (C) Long Lake LLC 2009

Big Pharma and "Reform"

We are being treated to financial system "reform" that is not reform (see prior post, below). Now we are treated to headlines of major "concessions" from another bastion of free enterprise, Big Pharma. The headlines suggested that the populist President had wrenched concessions from Big Pharma to the tune of $80 Billion.

When the CEO of Pfizer, who was then head of the Business Roundtable, was asked on a TV interview a few years ago how he defended the fact that the brand pharmaceutical industry had the highest profit margins of any, he responded to the effect that, gosh, some industry had to have the highest margins, and why shouldn't be us, since we're the good guys, making products that bring such good to mankind.

A response would be- gosh, what about all the taxpayer subsidies for healthcare that allow so many people to allow Pfizer to mark up the price of Lipitor from a production cost of at most 2 cents per pill to a retail cost of over $2 per pill? If GM could have achieved just a tiny fraction of that markup, it would be a paragon of competitiveness.

In that vein, consider the following two headlines and summaries:

For Drug Makers, Concessions Have a Bright Side
Wall Street Journal, Laura Meckler and Alicia Mundy, 06/23/2009
The pharmaceutical industry's agreement to contribute $80 billion over 10 years to a proposed health-care overhaul could yield new business for drug makers, and provide them more certainty about how big a hit they'll take from government cost-cutting. At the White House Monday, President Barack Obama touted the weekend deal between the industry, the White House and a key Senate committee, saying the money would help pay for "overall health care reform.


Federal Saving From Lowering of Drug Prices Is Unclear
New York Times, Robert Pear, 06/23/2009The White House on Monday hailed what it described as a “historic agreement to lower drugs costs” for older Americans, but it was not immediately clear how much the government would reap in savings.

What's true for Big Finance is true for Big Pharma for Team Obama. The more a politician promises change, doing so vaguely but loudly, the more things will remain the same after the victory.

Copyright (C) Long Lake LLC 2009

The Longest Word

Caroline Baum has an opinion piece about the administration proposals on "reform" of the financial system on Bloomberg.com titled Obama Bulks Up 'Too Big Too Fail' With Steroids. Here are two choice paragraphs.

In other words, the same folks who missed, or did nothing to prevent, the worst crisis since the Great Depression will definitely, absolutely, positively be able to anticipate the next one. Uh-huh.

It gets worse. Instead of eliminating the doctrine of “too big to fail,” which encourages risky behavior because of perceived government backing, the Obama plan defines, institutionalizes and expands on it.

It's a concise read which EBR generally endorses. EBR predicted in December that there would be a Bushbama continuity in the field of finance. The news continues to be bad in that regard. We learn today that the allegedly conservative Republican Robert Bennett of Utah would look positively at the appointment of Larry Summers as new Fed Chairman. Some populist Mr. Obama is turning out to be!

From the prism of 2001-5, with the country looking to be center-right politically, Jimmy Carter was remembered in many circles as a wild-eyed liberal. It was easy to forget that Sen. Edward Kennedy engaged in the unusual step of challenging a sitting President within his own party- and from the left, as not being liberal enough. The financial blogs I go to, which range from libertarian/center to left- has hardly a good word now to say about this administration's financial policies.

As predicted by EBR, the administration has accepted the recommendations of the G30, led by an AIG Vice President, for financial system reform. Mr. Obama is channeling the longest word we learned as schoolchildren: antidisestablishmentarianism. In short, this word means being pro-Establishment. One thing the Establishment does not like is change. It simply likes to change lipstick colors on the same pig.

Copyright (C) Long Lake LLC 2009

Monday, June 22, 2009

Excessive Cheerleading, Even from the Non-MSM

As noted recently, EBR objects to the cheerleading on the stock market from ECRI, which is part of the main-stream media. We have no problem with ECRI tooting its own horn, especially in view of its stellar forecasting record- but it is an economic cycle forecaster. Economic cycles may not correlate with stock prices; and the argument becomes circular, because the trend of stock prices is itself a predictor of changes in the economy.

This blog is in fact called Econblog Review because it was the blogosphere (plus ECRI, it must be said) rather than the MSM that provided the crucial insights that kept yours truly bearish on the economy and the financial markets all through the tantalizing "buying opportunities" in the winter, spring and summer of 2008.

The good news about the blogs I review is how flexible most of them are. For example, Obama fans have stuck true to the principles that made them anti-Bush, and several are now for the most part anti-Obama on economic/financial policy grounds. That's independence (right or wrong). No cheerleading, therefore credible.

Yves Smith at Naked Capitalism has reported that a reliable source says that the Fed heads are under orders to either cheerlead or keep quiet. It is as if the "Yes we can" theme has been made official policy, so that we can wish ourselves back to prosperity.

Amongst the non-MSM is an under-the-radar group known as Changewave. This organization polls executives and reports on the economy. It was one of the sources that warned me that the economy was really, really bad last fall. Changewave (via Email, no link) is reporting some good news on the second derivative: things are getting worse more slowly. But they tout this as follows: Economy Stabilizes-- Longer Term Outlook Shows Dramatic Improvement. What is its evidence? 44% of respondents project sales will come in below plan for the current quarter, down from 52%. This is the sort of green shoots stuff that is just not great news. Dramatic Improvement? No. Improvement? Yes. In fact, Changewave saw the same sort of improvement in 2001, about 18 months before the economy truly turned up and the stock market saw its final bottom.

Sure, be optimistic in general, but it just seems that too many players are playing ball with the Establishment.

I'd be a lot more bullish on the financial market if the Changewaves and ECRIs of the world were downplaying the second derivative stuff and focusing on the negative- a la all the worry about the jobless recovery in 2003.

Meanwhile, the recent call here that gold was acting heavy is looking good. Deflationism is in for the nonce.

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China's Real Estate Market Explained

Courtesy of a long Zero Hedge post, a seemingly credible article was referred to about Chinese residential real estate markets, the mindset of buyers/investors there, and the like, in China's Real Estate Riddle. It's not long and worth a read in its entirety. Here are the opening two paragraphs:

"The end is near!” That was the message top government expert Cao Jianhai delivered in April when he predicted that residential property prices in China will plunge by half in the next two years. He reasons that China’s recent run-up in housing—average prices have tripled over the past five years—is unsustainable given the huge volume of new apartments sitting empty throughout the country.

Mr. Cao’s forecast is pretty scary, and not just for homeowners. China’s banks may not have invested in risky mortgage securities like CDOs, but they make most of their business loans based on collateral in companies’ real estate assets, which frequently are pegged to the going price of nearby residential developments. If that collateral were suddenly cut in half, China could face a banking meltdown that makes the West’s financial crisis look like a walk in the park.

Given the L. A. Times article of several months ago detailing immense overbuilding in commercial real estate in Beijing, and suspicions that China has been speculating in the commodities markets, a coherent narrative has emerged that describes a major bubble in China.

Add bursting of a possible Chinese bubble or twin bubbles to the list of possible bits of bad things that could happen to roil either markets and/or real economies in future months.

Copyright (C) Long Lake LLC 2009

Sunday, June 21, 2009

More Big Finance Uber Alles

Per Calculated Risk comes more irritating news, as reported in the Guardian (UK): Goldman Sachs to make record bonus payout.

Staff at Goldman Sachs can look forward to the biggest bonus payouts in the firm's 140-year history after a spectacular first half of the year, sparking concern that the big investment banks which survived the credit crunch will derail financial regulation reforms.

A lack of competition and a surge in revenues from trading foreign currency, bonds and fixed-income products has sent profits at Goldman Sachs soaring, according to insiders at the firm.

Staff in London were briefed last week on the banking and securities company's prospects and told they could look forward to bumper bonuses if, as predicted, it completed its most profitable year ever. Figures next month detailing the firm's second-quarter earnings are expected to show a further jump in profits. Warren Buffett, who bought $5bn of the company's shares in January, has already made a $1bn gain on his investment.

Goldman is expected to be the biggest winner in the race for revenues that, in 2006, reached £186bn across the entire industry. While this figure is expected to fall to £160bn in 2009, it will be split among a smaller number of firms.

Barclays Capital, Credit Suisse and Deutsche Bank are among the European firms expected to register bumper profits, along with US banks JP Morgan and Morgan Stanley following the near collapse and government rescue of major trading houses including Citigroup, Merrill Lynch, UBS and Royal Bank of Scotland.

The entire rescue operation, and perhaps even aspects of the crisis, is looking more and more like a well-planned looting operation. All of a sudden Credit Suisse, which helped set off the current mess with the alleged loss of a few billion by Jerone Kerviel (January 2008 news), has a bumper profit?

The current news fully explains why it was necessary for the last large AIG payout to Goldman, Deutsche Bank et al to be covered up by simultaneously publicizing the relatively trivial bonuses some AIG individuals received.

These guys are all for free markets except when they benefit from unfree and unfair markets. The deal that's going on is clear. Big Finance will make sure that Big Government will prosper. They are working hand-in-glove.

What that means for the economy and the markets has not yet been revealed to the hoi polloi.

Copyright (C) Long Lake LLC 2009

Economic Reports from the Front Lines

Today, your intrepid blogger braved drizzly Beverly Hills skies and had breakfast with the founder of a medium-sized chain of jewelry stores in the Southern California region. Did this gentleman, who had long since given his stock to his descendants, see green shoots? More no than yes, unfortunately. To wit: Last year the company had become unprofitable. Their long-time bank pulled their line of credit for that reason only. The company had minimal need for short-term debt, financed their needs out of the founding family's pocket temporarily, and found a new bank. The old bank that stiffed them had a separate asset management division, which had no clue that it was about to lose a long-time client. (It would be good if these divisions communicated!) Anyway, enough employees were fired or otherwise had hours reduced so that the company is profitable again. The bad news is that sales still stink, probably down 15% from two years ago. Two major competitors have gone bankrupt in the past year or so, so all other things being equal, business should be up as migration to the survivors has occurred, and it is not noticeably up.

Furthermore, Beverly Hills and nearby less tony areas have immense amounts of high-profile empty commercial storefront for lease. It's a severe situation, and commercial real estate is a lagging indicator, suggesting worse to come. It was hard to look at all the rentable commercial space and not expect a prolonged time return to the prior peak level of economic activity.

Moving back to the home (Florida) front, a report from a banker with a major lender is that there are no green shoots. None. Refi activity has recently shrunk to near zero with the pop up in mortgage rates; home sales are horrible, and home prices are eroding. Other personal sources in California and Florida report no green shoots visible yet, either.

Perhaps other regions are more buoyant.

That's a quick report from the front lines. Here's a comment from one of the largest corporations in the known universe, General Electric, from Bloomberg.com, in GE Vice Chair Rice Sees No ‘Green Shoots’ in Orders:

General Electric Co. Vice Chairman John Rice said he isn’t seeing an increase in orders even as U.S. economic statistics suggest the world’s largest economy may soon shift to a recovery.

“I am not particularly of the green shoots group yet,” Rice said today to the Atlanta Press Club, referring to a phrase used by Federal Reserve Chairman Ben S. Bernanke that described signs of a nascent recovery. “I have not seen it in our order patterns yet. At the macro level, there may be statistics suggesting the economy is starting to turn. I am not seeing it yet.”

It is more than 3 months since Dr. Bernanke green-shooted (green-shot?). The stock market has responded with a major bull move. Yet the economist David Rosenberg points out that more than all the up-indicators in the Leading Economic Indicators were financial ones; the real-world indicators actually were slightly down in May. If Paul Krugman is correct that the U. S. is in a liquidity trap, then the financial indicators will overstate the future response of the real economy. Furthermore, both the LEI and the ECRI's indicators take rising commodity prices as positive signs. I question whether a rise in the price of oil is a positive leading economic indicator. Perhaps it was in the days when the U. S., Western Europe and Japan were the only importers of oil that counted. To the extent that the rise in oil price and that of other commodities relates to China using oil and the other commodities for its internal growth, it would appear that this is a positive leading indicator for Chinese GDP and a negative indicator for U. S. GDP.

One final observation: Much as the Street likes to speculate on the future with various indicators, the action of the Dow Jones post the 1932-3 bottom(s) in the market correlated closely with one variable: dividend payments. As companies resumed or increased dividend payouts after the Crash, stock prices rose; when dividends were cut after the 1937 recession, stock prices fell apace. In other words, investors need not neglect the facts they see around them. All the rest is guesswork about the future; and in the other direction, an over-reliance on historical precedent can also lead one seriously astray.

With many markets balanced between their 12-month high and low points, and with several sitting by their declining 200-day moving averages which are now intersecting with their rising 50-day ma's, there is lots to follow fundamentally and technically: a rare time of equilibrium in a variety of ways. Lots of pots a-boiling.

Copyright (C) Long Lake LLC 2009

Saturday, June 20, 2009

Iran and Gold

When gold is in a decent uptrend, news such as this week's about events in Iran would send it at least moderately higher. Today we have the previously unimaginable event, which we may in America greet with some schadenfreude, of a suicide bomber striking an important site within Iran, per the New York Times:

Update | 10:11 a.m. Reuters reports that an Iranian news agency says that the bombing in Tehran on Saturday at a highly symbolic site was carried out by a suicide bomber:

A suicide bomber blew himself up near the shrine of Iran’s revolutionary founder, Ayatollah Ruhollah Khomeini, in Tehran on Saturday, Iran’s semi-official Mehr news agency reported.

“A few minutes ago a suicide bomber blew himself up at the shrine,” Mehr quoted a police official, Hossein Sajedinia, as saying. Two other people were wounded in the incident in the northern wing of the shrine, another news agency, Fars, said.

DoctoRx here. Major civil unrest in Iran, continued bombings in Iraq, continued war in Afghanistan and waxing/waning war in Pakistan; Fannie/Freddie (the American taxpayer, that is) looking at 125% loan to value mortgages: yet gold can't move. There are no short-term net inflationary pressures, outside of Chinese commodities buying, which are thought by some experts to be fueled by speculation rather than by use. It is felt at EBR that gold has a bright future, but lower prices may well be in the offing.

Copyright (C) Long Lake LLC 2009

The ECRI Doth Pound the Table Too Much

The Economic Cycle Research Institute may be going a bit overboard. It is by now hardly a surprise that, with new home construction near zero, auto sales not much more than half their high, with unprecedented monetary stimulus in the U. S. and elsewhere, the longest economic banana since the Great Depression will give wa y to some degree of growth one of these days. Growth of 1% - which merely equals population growth- counts as growth, though it will not feel very good.

Why then does the ECRI come out today with the following news release (through Reuters, as always): WLI Virtually Pounding Table on Recovery, which states:

"With WLI growth rocketing up almost 30 percentage points in six months, it's virtually pounding the table about the recession ending this summer," said Lakshman Achuthan, managing director at ECRI.

(The WLI = Weekly Leading Indicators.)

Within the past week, I saw a clip of an interview with Dr. Achuthan, who at the end of the interview not only predicted that growth would resume by Labor Day, but he recommended that stocks were a good investment.

I feel that this last statement is an absolute no-no. While the stock market has been a leading indicator for the economy, it's circular to then say that the leading indicators are good predictors of the stock market. I would be more bullish if he had warned people that stocks, up 40% or so from their low point less than 4 months ago, and at above-average P/E ratios and historically low dividend yields, may be poor investments. He certainly could have done well to have pointed out that had one bought the stock market as the end of the 2001 recession loomed, much lower lows lay ahead a year and a half later.

David Rosenberg points out that the Conference Board's Leading Economic Indicators, which are strongly positive, would have been slightly lower on the last report if they were limited to the real world indicators; all the money-finance indicators such as money supply, stock market and yield curve are what are predicting growth. In other words, it's all about "stimulus".

He is not impressed.

The bull market that peaked in 2000 far exceeded the valuations reached in 1929. The crash, adjusted for inflation, since 2000 has been tremendous, but has only brought valuations at best back to average. The Federal Government now controls or directly influences massive segments of the economy; this will probably lower the P/E ratio. Purveyors of used stocks need volatility to make their money. When the ECRI goes from cheerleading its predictive ability (it is a business, after all) to cheerleading the stock market, it's no longer AAA-rated; and neither is the market it is flogging.

Copyright (C) Long Lake LLC 2009

Friday, June 19, 2009

Team Obama Believes that 125% Loan to Value Mortgages Make Sense

A common "witty" definition of insanity is doing what has failed all over again in the hopes that the next time it will be different. Does that apply here, per Bloomberg.com in Obama’s Mortgage Refinancing Program May Be Expanded? Here is the intro; read the rest if you can stand to:

Fannie Mae and Freddie Mac may get permission to begin refinancing mortgages with loan-to-value ratios above 105 percent as the Obama administration seeks to boost participation in its anti-foreclosure programs.

“We’re actively considering how to structure a program that makes sense over 105 percent,” Federal Housing Finance Agency Director James Lockhart said yesterday. He said a ratio of 125 percent “is a number” that’s on the table, though “not necessarily the number we’re going to end up with.”

Mr. Lockhart's political masters may think that free living "makes sense". That doesn't make it sensible.

It would appear that the Obama administration is in Never-Never Land. This has gone beyond Alice in Wonderland and Looking Glass World stuff. Or, think of Disney's Fantasy Land. The rest of the world must look at this, gasp, and resolve to move away as soon as is practicable to other than the U. S. dollar as the reserve currency. This does not happen overnight, however, but it did not take more than a few years under Jimmy Carter for the U. S. to be forced to issue bonds denominated in German marks. The U. S. responded with Volckerism. Will past be prologue?

Copyright (C) Long Lake LLC 2009

Thursday, June 18, 2009

Stock Market Update: The Good, the Bad and the Ugly

GOOD: Here is a summary of the good news, from the fine economist Edward Harrison, who blogs at Credit Writedowns, responding to the employment report from today:

The unemployment insurance weekly claims report revealed that the number of persons filing an initial claim rose 3,000 this past week to 608,000. While these are still very high numbers, they are the lowest since January, suggesting that claims have peaked in this cycle. Nevertheless, jobless claims are not falling back nearly as quickly as they have done in previous business cycles, making it likely that a lack of employment gains will be a drag on growth for months to come. . .

Conclusion? The job market is still weak. The unemployment rate will easily hit 10% in the coming months. As a result, expect consumer demand to be weak. Nevertheless, the job market is marginally improved and most indication suggest this is likely a permanent but slow trend.

In addition, the Conference Board's leading economic indicators both ticked up and had an upward revision for the prior month. Net production is scheduled to hit bottom and turn upward, and one of these days is even likely to grow faster than population.

BAD: Here's some bad news. Following the Peter Lynch approach of relying on what you know, I am increasingly contrarily bearish. To wit:

In the fall of 2007, with the Dow around 14,000, I had dinner with some longtime friends and stock market investors. They asked what I thought of the market. I responded that I had gotten out of stocks in late summer around Dow 13,000, was surprised that prices were higher, and I strongly made the case that they should sell everything. They listened politely.

In the winter of 2009, my friend called me. They had finally sold everything around Dow 7500. They were eager to get back in at Dow 7100; what did I think? (They took my advice and edged in.) So there's leading indicator #1 of a possible major bottom.

A few days ago, I received an Email from someone for whom I manage money as a favor (I am neither a registered money manager nor investment adviser). She is very conservative re stocks, loves residential real estate as an investment, and is happy if I stay out of the market; though over the years I have made her lots and lots of money in stocks.

What did she do? A friend had tipped her that the friend made 5X her money buying AIG at the bottom; and my "client" went ahead and made the first self-directed "buy" in her account, buying AIG and the "new" GM.

Two contrary indicators: one signaled the bull move off the panic bottom. Does the other signal that the likely end of the recession is more than priced in, allowing a rerun of the 2001-3 economic/stock cycle?

The above is consistent with analysts such as Robert Prechter, who called the March bottom and is now calling for another major decline. Too many people munching on the green shoots?

UGLY: I ignore manipulated GSEs or related entities such as JPM or BAC as predictors of the real economy or markets. Much more realistic are real companies that are far away from these games. Some of the mainstays are Wal-Mart, Costco, and P&G. These are all well-run companies. All charts show the 50-day average below the 200-day average, the stock below both averages, and general ugliness. Forthermore, among non-manipulated financial companies, consider Northern Trust (NTRS) and UMB Financial (UMBF), a well-regarded Midwest regional. NTRS just now has returnd the TARP money that was forced upon it; it was not even a stress-tested company.

Conclusion: Perhaps too many small investors know that the economy is turning for at least the short-term health of the stock market.

Instantaneously, consumer prices are dropping but could be rising sharply in 2 years. Cash therefore provides a positive real return after deflation while eliminating the chance of capital loss should rates rise a lot in the short-to-intermediate term. As the economy shows more contemporaneous signs of stabilizing while inflation fails to erupt as the weeks go by, it is easy to see gold prices erode, as well. There is just too much slack and too much New Frugality for prices to explode upwards "tomorrow".

Treasuries: The prior recession ended in fall, 2001; rates hit their first bottom a year later and 50 basis points lower, in fall 2002; and then rates had an even lower bottom in June 2003. (And obviously rates went lower in 2008!) Probably the single best way to play overenthusiasm about the end of the economic downturn amongst stock buyers is exposure to Treasurys of long enough duration to allow price upside should rates drop a good deal.

Copyright (C) Long Lake LLC 2009

Wednesday, June 17, 2009

Not Much Financial System Reform We Can Believe In

EBR believes that the administration has made a substandard start at financial system reform. Here are some first comments.

1. The administration wants to give the Fed more powers. However, the Fed more than any one institution enabled this mess. What is needed instead is to oversee the Fed better to verify that it can fulfill its current role. We should also ban such nonsense as letting Alan Greenspan serve 16 years as Fed Chairman. Au contraire, consider limiting the Fed Chair to one 3-6 year term. Also, since the House of Representatives creates all spending proposals, let the House nominate the incoming Fed chairman, let Congress approve him/her, and let the White House have veto power. That might take away the Nixonian and Bushbama approach to the Fed, which is that it is an affiliate of the Treasury Department.

This proposal is a disaster. We must recall that no-one owns the Federal Reserve Bank. It controls our money but answers to no one. It has no stockholders. It is too powerful as it is.

2. The President wants the power to simply dismantle financial companies whose failure would, in the opinion of the powers-that-be, harm the financial "system" - whatever that actually is. Just think 0f the potential for political abuse. The message would be: play ball, or we will shut you down. After the company has been shut down, what good would it do to show that the company was sound, after all?

A much better solution is Nassim Taleb's: do not allow any company to be big enough to threaten the stability of the world or the U. S.'s financial system should it fail. Small is beautiful.

A related solution is that the banking system should be a small utility-like cog in the wheel, processing payments and making low-risk loans. All the gambling should be done by uninsured entities that are free to succeed or fail without involving taxpayers.

3. The administration wants to regulate all sorts of complex derivatives. One cheer for that. But what it will not do is simply ban the toxic ones, such as "credit default swaps", that simply add costs to the system and distort incentives. Failing that, there is no proposal to ban systemically important financial companies from owning these sorts of securities. One thing we have learned is that regulation cannot or deliberately will not keep up with the pace of financial "innovation".

4. Mr. Obama wants to strengthen the Community Reinvestment Act. The premise is that banks must invest in communities where they gather deposits.

Let's forget about ethnicity and ask whether this proposal is sensible. Consider the many small towns that dot Pennsylvania and the West. They were built in, say, the 1800s to service mines and factories that no longer exist. But the houses and roads exist, so the towns live on, generally shrinking. No sensible investments can be made there, as the towns are likely going to continue to shrink away absent an unexpected boom. No pensioner living in the town wants to lend money to the local bank to invest in the town; the depositor wants the deposited funds to make loans in growing areas where the loan opportunities are greater, prices of assets are trending upward rather than downward, people are moving in rather than out, etc.

The CRA makes no sense. Sure, lenders should not discriminate on the basis of skin color, religion or the like, and laws could be strengthened in that field should they be insufficient at present. But the upshot of the CRA may simply be to deprive small towns of a bank branch that otherwise would be happy to gather deposits and provide routine banking services, but sees no loan opportunities in the town. Beware unintended consequences.

5. Mr. Obama has now spoken of a need to rush a bill through to passage. Given how favorably disposed toward the debt culture the President has said he is, the best thing would be for Congress to give the White House proposal a very, very long and careful look. Whatever is passed needs to make Democrats happy when they are out of power as well as when they are flexing their muscles. The idea of making the unaccountable, imperial and often incompetent Fed increasingly powerful seems especially antithetical to the populist roots of the current party in power.

Copyright (C) Long Lake LLC 2009

Why the CPI Chronically Understates Housing Deflation After a Boom

The Consumer Price Index is out today and is reported to show prices down 1.3% yr on yr, the largest drop since 1950. However, this index understates the drop in prices. Here is a link to the Bureau of Labor Statistics description of how it estimates housing costs in the CPI: http://www.bls.gov/cpi/cpifacnewrent.pdf.

This total is 30.4% of all costs. There is one fundamental flaw, which is conceptual. 24.4% of the entire CPI is supposedly from what a homeowner would pay to rent the home he/she lives in. The problem is that this cost is theoretical, imaginary and unvalidatable. What is validatable is what the house is worth as an asset, what the mortgage would be on the house, what the taxes and other expenses of maintaining the home are, etc.: in other words, what the cost of OWNING is. The idea that an owner would in effect rent to himself and that that guesstimated cost is part of the cost of living is strange.

The practical problem stemming from this technique is that the owner is asked what his house is worth as a rental unit. Well, most people are going to overestimate the value, and in truth most people who own their own home live in communities without well-developed home rental markets, and often the rental homes are not as well-maintained as the owned homes, so who knows what the rent would be? Further, if all owners rented their homes out, there would be more supply, and rents would then drop.

The beancounters at BLS insist that rents are rising and that "owner-equivalent rent" (that 24.4% of the CPI) has risen over the past year and rose last month.

In other words, the CPI probably understated housing inflation somewhat during the housing boom, but because of the technique of owner-equivalent rent, most homeowners were probably generous in their estimate of OER increases. However, most homeowners are loathe to acknowledge that their home is declining in price, and so they are understating the OER decline. Numerous studies show that people will agree that the housing market is in a decline locally, but believe that their individual house price is resisting that tide. That's human nature, apparently.

Thus, 24.4% of the CPI is, most importantly, an inappropriate measure of inflation, but we can't change that.

What we can do is realize that within the confines of using owner's-equivalent rent as a measure of price changes to live in a home, there is likely a systematic bias for the CPI to keep up with price increases in a housing boom but to lag price decreases in a housing bust.

Copyright (C) Long Lake LLC 2009

Tuesday, June 16, 2009

What You Think You Know is Sometimes Precisely What You Don't Know

The perils of predictions:
Here is a chart I was Emailed, but I cannot identify the original source.
The chart shows the Obama administration's predictions at the time the "stimulus" ("ARRA") was going through Congress. The figures reflect the thinking of the best minds that Team Obama could find.
Making predictions about the past is a lot easier than doing so about the future, even the near future.
Many things have changed in the financial world recently, just as they changed in 1979-81 when first Paul Volcker and then Ronald Reagan came to the fore with new strategies for the financial system and the economy. It is not, however, 1982, when it became clear that neither Volcker nor Reagan was "for turning" and when the 16-year bear market in financial assets came to a loud end that was so obvious that the New York Times headlined it when it happened (August, 1982).
What sort of "flations" face us, and in what sequence; and how much like Japan post-bubble will be the U. S. economy's intermediate-term course, are murky. Usually yours truly does NOT believe in much financial diversification; usually trends in motion worth joining appear clear. Not now. Thus the recommendation for overweighting in cash, with the rest of one's funds in high-quality assets that provide a yield, with the exception of gold.
Copyright (C) Long Lake LLC 2009

What You Know is What You Don't Know

Health Care "Reform" is Already Here and is Already a Mess

The news keeps on coming. The WSJ is reporting on a fiasco involving home oxygen therapy. My medical advice is: don't get old. In Medicare Rule on Paying for Oxygen Vexes Patients, the Journal reports (click on insert for better image, and please think about it):

More than one million people rely on Medicare to pay for home-oxygen therapy. Now some patients are running into problems switching their suppliers because of complex new rules the federal insurer uses to pay for the services.
Under the new rules, which began to affect patients on Jan. 1, Medicare will pay suppliers at its prevailing rate for the first three years after a patient begins coverage. Suppliers are then required to continue providing oxygen services to patients for another two years, but at a sharply reduced payment rate. . .

Donna Miller of Lancaster, Ohio, uses an oxygen concentrator and a CPAP machine at night to help her breathe. The 71-year-old says she is planning to move into senior housing located in another town and that she contacted a nearby supplier that she heard provides good service. But because Medicare cut the payment for her oxygen when she reached the three-year cap this year, Ms. Miller says she is still trying to work out a transition plan with the new supplier. "I don't think it's fair that I have to go through all this red tape," she says.
Yours truly dealt with Medicare for many years. The only good thing about it is that the HMOs are worse.
If things are this bad now (and they are), just wait till the whole country is Medicare-ized AND costs are cut more in the name of efficiency and prevention.
Copyright (C) Long Lake LLC 2009

One More for the Road: Yes We Can? No, We Cannot

I thought that I was finished for the night, but in keeping with the hair of the dog debt-upon-debt strategy of the Bushbama-Bernanke Continuity, here is one more for the road: the entirety of a post from Calculated Risk that you should read with consideration of some alcohol or prescription benzodiazepine in your system first. Basically, because some leveraged buyout of Extended Stay America was done on terms that were crazy even for a crazy time, "your" Federal Reserve Bank is taking a not inconsiderable hit (see bolded section):

Federal Reserve Appears to be Big Loser in Extended Stay Bankruptcy
by CalculatedRisk on 6/15/2009 09:29:00 PM
A few more details on the Extended Stay Bankruptcy (ht Brian):
Purchase Price in April 2007: $8 billion.
Source WSJ: "Wachovia, Bear Stearns and others lent Lightstone founder David Lichtenstein $7.4 billion so he could buy the 684-hotel chain from Blackstone Group for $8 billion in April 2007."
Current Value: $3.3 Billion.
Source WSJ: "The hotel chain is now valued at $3.3 billion, according to its filing. That figure isn't even 60% of the buyout price and even lower than the amount of the first mortgage, $4.1 billion."
Capital structure:
Source WSJ: "The hotel chain has $4.1 billion in a senior first mortgage that was mostly sold to investors as CMBS. Behind those secured creditors is the $3.3 billion of mezzanine debt divided into 10 classes ranked one through 10 in seniority."
Federal Reserve has Bear Stearns share.
Source WSJ: "U.S. taxpayers also have had an interest in the talks because another lender in the buyout was Bear Stearns Cos., whose stake was taken over by the Federal Reserve after Bear collapsed in March 2008."
Federal Reserve Losses: If the Bear Stearns held only the senior debt, the Federal Reserve appears to have taken a 20% haircut. If the Fed owns any of the Junior debt - that is probably worthless.

And from the NY Times Dealbook (April 2008)
Under questioning from Robert Casey Jr., a Democratic Senator from Pennsylvania, Mr. Bernanke said Wednesday that the assets making up the Fed’s collateral were “entirely investment grade, entirely current and performing.” He said BlackRock, which the Fed has hired to manage the collateral, is “confident, or at least reasonably confident, that we would be able to recover the full amount.”

But, he was asked, what if BlackRock concludes that the collateral is worth far less than $30 billion? Can the Fed go back and ask for more?
Mr. Bernanke’s answer was brief: No, we cannot.

DoctoRx here. If anyone is wondering how Robert Prechter (see prior post below this one) could be correct that much lower stock market lows are coming by next winter, please consider what worries about the failure of the Federal Reserve Bank would mean to stock prices.

Copyright (C) Long Lake LLC 2009

A Bad News Bear WIth a Hot Paw

Reuters is reporting that U.S. likely to lose AAA rating: Prechter.

I repeat this because Mr. Prechter has been hot the last two years. He called a stock implosion related to lax lending practices. More impressive, he went tactically very bullish at the stock market bottom this winter. He is now calling for an end to this Potemkin rally (my term). Here is the article:

Technical analyst Robert Prechter on Monday said he sees the United States losing its top AAA credit rating by the end of 2010, as he stuck by a deeply bearish outlook on the U.S. economy and stock market.
Prechter, known for predicting the 1987 stock market crash, joins a growing coterie of market heavyweights in forecasting the United States will lose its top credit rating as the government issues trillions of dollars in debt to fund efforts to bail out the economy.
Fears about the long-term vulnerability of the prized U.S. credit rating came to the fore after Standard & Poor's in May lowered its outlook on Britain, threatening the UK's top AAA rating. That move raised fears that the United States could face a similar risk, with the hefty amounts of government debt issued in both countries to pay for financial rescues causing budget deficits to swell.
Prechter, speaking at the Reuters Investment Outlook Summit in New York, said he sees investors' confidence in an economic rebound fading, a trend that will drag the S&P 500 stock index .SPX well below the March 6 intraday low of 666.79 by the end of this year or early next.
"There will be a leg down in stock prices, and it will affect all other areas," including corporate bonds and commodities, said Prechter, who is executive officer at research company Elliott Wave International, based in Gainesville, Georgia.
Prechter, who is known for his bearish views, has repeatedly forecast a steep decline in stocks this year, even as the stock market has rebounded from 12-year lows set in March as optimism about an economic recovery has risen.
Despite the government and Federal Reserve's massive rescues for financial companies and securities markets, Prechter expects credit markets to clam up again as they did in the first phase of the global financial crisis and for the U.S. economy to sink into a depression.
Although U.S. banks' recently passed government "stress tests" that assessed the adequacy of their capital levels to absorb losses and have been able to raise some capital in debt and equity markets, "the banking sector is in severe trouble," as more loans turn bad, he said.
The economy "is obviously heading toward a depression," despite the government's efforts to dodge one, said Prechter.
Federal Reserve Chairman Ben Bernanke has not averted a re-run of the 1930s Great Depression, even though investors are becoming firmly convinced that the Fed has avoided disaster and that the economy has hit bottom.
"It's the next leg down (in stocks) that will make it clear that these things are not true," Prechter said.

DoctoRx here. Prechter is also bearish on gold prices for now and predicts more deflation, not accelerating inflation. He joins Nouriel Roubini in not fearing inflation, in expecting a "below expectations" economy, and a poor stock market.

The average severe bear market lasts at least two years. The worst was 43 months (1929-33). The mild recession of 2001 was associated with a 29-36 month bear market, depending how you count.

For this one to have ended after about 16 months would be unusual. No matter how many technicians and talking heads tell the world that the worst is behind us, that A) can only be known in retrospect and B) may be true only temporarily, just as the 1974 stock market low was substantially undercut in inflation-adjusted terms by the prices present all throughout 1982, despite bull and bear markets in the 7-8 intervening years.

For all their troubles, Treasury yields could challenge their lows of December if we merely get what Roubini is predicting, which is a technical economic recovery that nonetheless feels like a recession. For now, cash is king.

Copyright (C) Long Lake LLC 2009

Monday, June 15, 2009

Sparing the Change

In ominous news for change we can believe in regarding financial system reform, Bloomberg is reporting that
Obama’s Bank Revamp May Stall as Congress Tackles Rival Issues:

The Obama administration’s revamp of U.S. banking and market regulations may be stalled into next year as Congress and the president set health-care reform and climate control as domestic priorities.
The ability of banks to repay U.S. aid and raise capital without government help may signal the economy is rebounding, easing pressure for sweeping change in financial rules. A delay this year may push the political debate into the 2010 congressional election campaign. . .

Obama’s regulatory proposals may be scaled back because lawmakers and the public perceive the financial crisis has abated and support for more aggressive options has faded, said Peter Solomon, founder of investment bank Peter J. Solomon & Co.
“Regulation’s going to be the same thing,” said Solomon, 70, counselor to the U.S. Treasury in the Carter administration. “There’s really been no fundamental change; there’s been a papering over, and this is it again.”

No surprise. Big Finance has raised big money and the stocks have been conveniently moved up. The stocks can now drop or be "dead money", and the toxic assets can be ignored and written off over time. Since Wall Street does not desire reform, let's call the whole thing off. What's $12 Trillion or so in financial subsidies, grants and guarantees amongst friends?

The undead bank holding companies swim on, providing an ongoing drag to the rest of the real economy.

Be sure to watch Citigroup stock. It is holding above $3. Many institutions cannot own a sub-$3 stock. If it goes below $3 for a sustained period, the next leg of this crisis may be upon us.

Copyright (C) Long Lake LLC 2009

Onward, Statist Capitalists

From the WSJ tonight:

U.S. Intervention Pits 'Gets' vs. 'Get-Nots'

The government's massive intervention has shifted the way companies do business. Many are now are competing on the basis of their ability to tap government money, opening a divide between the gets and get-nots . . .

'Nuff said.

Copyright (C) Long Lake LLC 2009

Who Put the "Less" in "Stimulus"?

The L. A. Times, no tool of the shrunken right-wing conspiracy, is out with a report questioning just how much stimulating is going on, in Some projects raise question: Where's the stimulus?

As President Obama moves to accelerate the flow of federal funds intended to rev up the economy and energy efficiency, public officials are voicing concerns about the merit of some plans.

Here are some gory details.

1) From Joe Biden this month:

"There are going to be mistakes made. . . . We know some of this money is going to be wasted." . . .

2) In Minneapolis, the City Council voted recently to spend $2 million in stimulus funds on a vacant 99-year-old theater that developers want to convert into a center for dance. The project would create about 48 permanent jobs, city documents indicate.

In the competition for the limited stimulus money, the council awarded less than $300,000 to a company that wants to open a solar-energy-panel manufacturing plant that would create 360 jobs by 2011, according to city records.

Because the solar plant didn't get more funding, its chief executive officer, Joel Cannon, said he wouldn't be able to open the plant in Minneapolis. . .

3) Oklahoma officials were stunned to see the $1.1-million guardrail project offered up by the Army Corps of Engineers as a candidate for stimulus money. With so many other pressing needs, spending money in a desolate area showing no signs of a comeback is indefensible, they said.

"They're not mowing the weeds, which are 2 or 3 feet tall," said Ted Graham, city manager in nearby Guymon, Okla. "They quit maintaining the lake in the park, so it would be a frustration if they spend a million dollars on a guardrail they don't maintain currently."

A spokesman for the corps said that repairing the guardrail with stimulus money was one of several options under consideration. "The guardrail is deficient, broken and needs repairs," said Ross Adkins, spokesman for the corps' Tulsa district.

He conceded that the guardrail is within an area that "has pretty much been abandoned."

"There's no water there, no recreation to speak of. There's nothing there to attract people," Adkins said.

Is that last quote a metaphor for most of the "stimulus" program itself?

Copyright (C) Long Lake LLC 2009

Sunday, June 14, 2009

Too Many Loud Voices of Support for the Dollar for Comfort

Skeptical minds are questioning the implications inherent in the Bloomberg.com article, Russia’s Kudrin Signals No Alternative to Dollar Global Status. Please consider all the following from the article:

Russian Finance Minister Alexei Kudrin said the dollar is in “good shape,” further affirming that there’s no substitute for the world’s reserve currency.
Kudrin rushed to reassure investors of Russia’s confidence in the dollar just days after his boss, President Dmitry Medvedev, questioned its global status, joining China’s central bank Governor Zhou Xiaochuan in suggesting the world may need another benchmark for settling international debts.
“It’s too early to speak of an alternative,” Kudrin said in an interview two days ago in Lecce, Italy after meeting officials from the Group of Eight nations. . .

“At this point there’s no alternative to the U.S. dollar in terms of deep liquid markets and trading 24-7 globally,” Michael Woolfolk, senior currency strategist at the Bank of New York Mellon in New York, said yesterday in a telephone interview. “Nothing even comes close to the dollar in terms of reserve status.” . . .

The dollar got some support last week when Japanese Finance Minister Kaoru Yosano said his country’s confidence in U.S. Treasury securities is “unshakeable,” signaling the second- biggest foreign holder of the securities will keep buying them.
“We have complete trust in the fact that the U.S. views its strong-dollar policy as fundamental,” Yosano, 70, said in an interview in Tokyo on June 10 before attending the G-8 meeting of finance ministers in Italy. “So our trust in U.S. Treasuries is absolutely unshakable.”

Over the past two years, it has become clear that the United States has committed a fraud upon the rest of the world by creating securities tied to loans on the value of housing in the U. S. These loans, called mortgages, were "packaged" in inscrutable ways and are defaulting at ridiculous levels despite allegedly high-class U. S. rating agencies having blessed these securities as "AAA". Other AAA and less highly-rated U. S. loans have proven unsound, as well.

Furthermore, the Bushbama Continuity has perpetuated the malinvestment here in homes, rather than directing investment to export-oriented industries in which the U. S. actually has a competitive advantage.
These industries include medical technology, information technology, agricultural know-how, and even- somewhat oddly- financial services knowhow.

The more the U. S. continues to bail out homeowners and especially the holders of the mortgages, the weaker the dollar will trend.

All the above expressions of support for the dollar only serve to demonstrate its weakness. It's obvious who Charles Atlas is when lined up against the 97-pound weakling. Right now, the U. S. is Charles Atlas in the advancing stages of a wasting disease, and the former weaklings are continuing to bulk up.

The only safe way to make money from a continuation of this trend is to own the once and possible future currency known as gold, though only with a very long-term horizon. Owning BZF (the Brazilian real) on pullbacks continues to make sense.

Copyright (C) Long Lake LLC 2009

DoctoRx Reviews "Animal Spirits" on Naked Capitalism

Readers may wish to visit http://www.nakedcapitalism.com/ and scroll down to find a guest post by me on the book "Animal Spirits", or click directly to that post by clicking here.

This invited guest post is a follow-on to the May 10, 2009 EBR post titled Yves Smith, "Animal Spirits", and the Big Lie Technique.

Yves Smith, proprietress of Naked Capitalism, requested that I not comment on her in this book review she posted today; therefore the reworked version that more thoroughly focuses on the book rather than a theme.

I am beginning a review of "Wall Street Under Oath", by Ferdinand Pecora, with a focus on the current financial crisis rather than on the 70-year old book per se, and anticipate that this may also receive an airing on NC.

Copyright (C) Long Lake LLC 2009

Saturday, June 13, 2009

Obamacare Proposals: '1984'-Type Newspeak in 2009

In late 1993 and truly getting going in 1994, the President and Mrs. Clinton unveiled a "Hillarycare" proposal for a new system of financing and organizing healthcare that had the advantage of being comprehensive and the disadvantage of being so unpopular that a solidly Democratic Congress never even brought any version of the plan to a floor vote.

The early portents from the 2009 version of Big Government-provided health care are worse, especially given that Mr. Clinton had the tactical brilliance to get a large tax increase in place before proposing spending lots of money to sort of socialize health care. The current President, unwilling to wait even one year for the economy to respond to his massive "stimulus" program, has in his proposal bowed to the bond market and proposed all sorts of cutbacks in care and tax increases. Since the majority of Americans have good health care coverage now, Mr. Obama has lots of selling to do. Worse, the language used to sell the program has become, predictably and sadly, Newspeak. Cuts in care are unspecified and unachievable "savings", efficiencies, productivity gains, and the like. These cuts are large and come out of bottom-of-the-barrel Medicare/Medicaid payment rates.

Those interested in the details may want to first review the White House's summary of its proposal, titled: Paying for Health Care Reform: $313 Billion in Additional Savings to Create a Deficit Neutral Plan.

Then, as an example of the practical problems involved, check out an article by a great friend of the President, the New York Times, from today with the understated title, Health Plan May Mean Payment Cuts. (Hint: "May" is the understated word.)

Or you may want to review Bloomberg.com's article, Obama Outlines $313 Billion in Health Care Savings, from which a brief section is copied here:

White House Budget Director
Peter Orszag said the additional revenue along with cuts and projected savings will cover the estimated $1 trillion cost of a health-care overhaul even if the final, total figures “are still undetermined.

“We are making good on this promise of fully financing health care reform over the next decade,” Orszag said in a conference call with reporters yesterday.

The administration’s cost estimates are lower than those of private analysts. Gail Wilensky, a former administrator at the Centers for Medicare and Medicaid Services, has said the cost may approach $1.5 trillion and other projections are as high as $2 trillion.

Given that that the Government cannot really "fix" the economy (to the extent that this remains a free enterprise system, an assumption that looks shakier by the month), but it can "fix" the health care "system", then it is incumbent upon the majority party to pass something that it believes in, no matter what the electoral consequences are. It did nothing in 1994 and got whipped big-time anyway.

Bob Woodward reported in "The Agenda", about Bill Clinton's first year in office, that he rejected enacting catastrophic rather than comprehensive soup-to-nuts health care coverage for all Americans as not grand (grandiose?) enough, even though covering catastrophes only would have passed very easily. That would have been a camel's nose under the tent, easy to expand upon. Will the Democrats go for an all-or-none approach again? If finances do not allow a huge program now, what's wrong with incrementalism?

A new President replacing an unpopular departing one, with a fawning press corps that in some mainstream circles is now comparing him to G-d, has had things almost all his way. A less popular new President, Bill Clinton, was able in 1993 to get a not-very-popular tax increase through by the narrowest of margins.

There is no predicting what will happen next in this battle.

Copyright (C) Long Lake LLC 2009