Trouble with the Financials; and the Borg

I have highlighted this market problem months ago, when JPM and GS began breaking down on the charts. I believe such issues as the yield curve flattening are hurting.

In addition to the severe chart damage that C and BAC have suffered, a much more obscure bank/financial services company, UMB Financial,

has broken to a 12 month low and within about half a point of its March, 2009 low. What is noteworthy is that the company recently announced a blowout quarter to the upside, and analysts took their 2010 and 2011 numbers up sharply. That this stock should collapse strikes me as a warning sign that the "troops" are not doing their jobs, no matter if GS and JPM should be "not too bad" right now.

As stated in this space ad infinitum, gold and Treasuries are in bull markets. The most probably outcome in my world is that they meet for a championship fight in the near or distant future. In the meantime, the dictum is to not fight the Fed. Gentle Ben wants lower interest rates. The economy is taking another dive. The gold market rallies on debt monetization. Both the bond and gold are like the Borg. Resistance has been futile. I don't see anything to change those parallel trends.

Copyright (C) Long Lake LLC 2010

Market Update with Focus on Treasuries

Regular readers know, and those who peruse my recent and not-so-recent writings, see that matters are playing out similar to the scenario suggested. There is really no new economic data. This is not like summer 2008 with Fannie/Freddie going down and then the Lehman/AIG mess. We are seeing markets doing what they do: roil and create commissions for brokers, and with the trend envisioned here.

The path of least resistance for long Treasury rates remains down. The 30 year Treasury is fighting this move downward. Anyone who is betting on the spread between the 10 and the 30 year to widen further is trading a dangerous market.

Here is one of many scenarios. The 10 year has had a massive move in a short time and is overbought. Let us say that its yield stabilizes at 2.8% (I have no idea). If that occurs, a reasonable expectation is for the 30 year to trend down to the zone of congestion from early 2009 at 3.5%. Investors in discount coupon long bonds or zero coupon long bonds would do very well if they bought even after this move.

An important caveat for market timers is that when the 2-10 year Treasury spread blew out to record and near-record levels in the past year or so, it took some time and patience for the 10 year yield to collapse. Thus my speculations about the 30 year yield lack a timing component.

Furthermore, gold today is trading differently from interest rates, the S&P 500 and silver, all of which are seeing about 2.4% moves downward (do you think this is coincidence or algorithms?). I suspect that gold and Treasuries are continuing to be winnowed out as the "survivors" of this current crisis and that the "winner" is uncertain.

I continue to look at publicly traded common stocks as an asset class (though not specific companies) given the overwhelming matters bedeviling our economy. My sense is that the downward bias toward fair value continues but that the inherent costs of selling short are too high for most people to bother doing so.

Copyright (C) Long Lake LLC 2010

Fearing the Bear, but Who Knows Where and When?

The stock market feels a bit like the economy- creepy if one looks at the linked chart and clicks on the 5 yr button. My interest is in the July 2007 period till now on the 10 year bond.

What my eye sees is a steady downtrend in rates with some variations from trend: the initial accelerated drop in rates in the second half of 2007 related to the sudden Fed moves, then the post-Lehman collapse in rates at the end of 2008, and the overshoot upward in rates this year just as various economic indicators proved to be peaking or to have peaked.

Bill Gross is looking at ZIRP through perhaps 2013, which is to say (scream): Japan! Japan! Japan! (Sort of the opposite of Tora! Tora! Tora!)

And Consumer Metrics, which claims to lead GDP by 1-2 quarters, just reported that July was so bad that only one month in the 2008-9 cycle was worse; and just by a smidgen. Even worse, CM's average reading for the first 7 days of August is more than a point below that lowest level in the Great Recession (assuming it is over), which occurred in August 2008.

And we all know what happened to stocks beginning late in August 2008 and thereafter.

I feel about stocks on trend, though not in degree, the way Nassim Taleb says he felt about Fannie and Freddie when he was shown a balance sheet analysis of them in, perhaps, 2001 or so. He recounts that he predicted disaster, but had no idea when that would occur. He just thought they were risky and way overvalued.

My sense on stocks is not that the market goes to zero the way a 100:1 leveraged mortgage company can go to zero, but rather that the stock market is over-promoted and that far too many companies that are called "blue chips" in fact have no, or negative, tangible book value. This is a result of stock buybacks, debt-based acquisitions, various accounting maneuvers, and of course value that does not appear on the balance sheet. But the beauty of Smithers' analysis is that he considers both earnings and tangible asset values. These usually agree, and now each is suggesting that the S&P 500 is about 50% overvalued.


In other words, pros know that earnings are only one of several ways to value companies, but CNBC et al focus almost exclusively on a non-GAAP measure of earnings called "operating earnings", which as you know means whatever a company wants it to mean. Let's say business shrinks for a product line and a production facility must be closed ahead of schedule. The company will say that's not a normal cost of doing business and try to exclude it from the public's evaluation of its earnings. But those unpredictable downside costs are just as valid as the occasional earnings beat because customers double-ordered due to fears of a product shortage!

Because it's not easy for either of Smithers' measures (q and CAPE) to change fast, the way the stock market can get to his view of fair value within the next several years can only be by declining. There is really no other way. Now it may never get to fair value, of course, but on the other hand a sober view of his chart shows that overvaluation periods have alternated with undervaluation periods.

I invest based in good measure on the principle of reversion to the mean, though looking at momentum and fundamental factors as well. But I believe that one should never ever fight the principle of mean reversion.

For stocks and the real economy, there is unfortunatley no New New Thing; war seemingly without end in Asia continues; most important recent IPOs have been of Chinese companies it would seem; and for the most part the average stock or index fund just allows one a powerless, tiny minority share in companies that care about their insiders before they care about their public stockholders.

And if states and the Federal government actually balanced their budgets, either by spending cuts or tax increases, what would happen to corporate profits???

Given that no one can answer that question (which of course is wildly theoretical), the entire economy and therefore the valuation of stocks is based on more speculation than usual. To value stocks on the basis of zero short-term cost of money is crazy, as we know from Japan that chronic ZIRP has led to numerous stocks selling well under tangible book and for less than quick liquidating value; and their stock market now yields far more than their 10-year government bond. Meanwhile our 10-year still yields about 40% more than the S&P 500 as a whole.

All this is with the backdrop in which the financial class that has been treated so well by the government the past many years moans about "deflation" and somehow thinks the central bank of the United States can make their lives even better than they are now while every survey of real people shows that the recession/depression continues.

What I'd rather do than buy the stock market when it is priced for a boom when there is actually the opposite of a boom going on is to buy stocks after chronically depressed economic times have persisted when stocks are priced for said bad times to continue. Think 1921, 1948, 1982 (see Smithers' chart). Not 2010.

In my opinion, one has to be very quick and agile to gather rosebuds from buying into this stock market. Too many thorns . . .

Copyright (C) Long Lake LLC 2010

A Small Contrarian Positive Portent for Gold: Kitco Quite Bearish

Having either been hit by, or dodged, all sorts of bullets in the past decade, investors are gunshy. One of the most reliable guides to getting out of an asset that has appreciated is when the chatter is uniformly positive. Thus I take the interview that Kitco's Jon Nadler gave as a positive to stay the course with gold. Kitco is in the business of selling gold and other metals. Yet their expert ends the interview by looking for gold price downside to under $1000/ounce to get the "cobwebs" out of the market (what that means, I don't know), and even more strikingly, he refers with some approvingness to S&P's prediction of gold dropping to $680/ounce in 2-3 years.

Given that markets should rise, that means that S&P is saying that gold is priced approximately twice as high as it should be, or in other words, that the U. S. dollar is massively undervalued against a form of wealth preservation that Mr. Nadler specificies has served that function for about 5700 years. Hmmm . . .

Gentle Ben has more than doubled the monetary base to "fight deflation" with some keystrokes on a computer. The quantity of gold available to the world doubles about every 35 years. Which is inherently easier to devalue?

If gold is worth $600/ounce, then it is worth the price it first hit 31 years ago.

OK. Let me buy toothpaste for the same price as 31 years ago. Please note that toothpaste is almost all water. The second leading ingredient in my Crest(R) is sand (silica). The gross margin for Crest is certainly well above 90%, far exceeding the average gross margin for gold miners.

I believe Chairman Bernanke when he speechified years ago that he would use every helicopter he could commandeer to make sure that "it" (price declines/deflation) won't happen hear once again. Whether or not this is more like the summer of 2007 or (heavens forfend) 2008, or even 2004, I am not seeing this cycle as one where the marvelous principle of alternation of cycles applies to gold (whereas I do see it applying to tech on the upside and housing/finance stocks on the downside).

Thus I take the uber-bearish comments of Mr. Nadler as supportive of my regretfully constructive view of gold-related investments.

Copyright (C) Long Lake LLC 2010

WaPo Disguises an Editorial for a Democrat for Congress as Reporting on the "Stimulus" While Showing Itself out of Touch

The Washington Post has a revealing article out titled Democrats get little boost from stimulus. Taken literally, the title suggests that they in fact got a boost from ARRA (the "stimulus" program); but I'm not sure that's true. It may in fact be that they got no boost or a negative boost. The article helps explain why. Here are some quotes from it in italics and commentary from me. The article also serves as unpaid advertising for the Democrat running against Mr. Ganley. Here's the beginning:

Republican House candidate Tom Ganley sold more than 800 cars last summer through the "Cash for Clunkers" government rebate program. But does Uncle Sam get a thank you?

"Let's talk about Cash for Clunkers," the voluble millionaire, who owns the largest auto dealership group in Ohio, told a group of voters here recently. "It created a 30-day surge in auto sales. After it ended, there was no business. It was like the faucet was shut off." . . .

"I'm against government intervention of any kind," Ganley asserts.

Based on the last quote, maybe Ganley should be Car Czar! (But wait, he and I oppose Car Czardom; and there's a rub . . .)

Just what was the point of Cash/Clunkers, other than to raise the price of used cars by taking "clunkers" off the market? Why not let the market determine the relative value of "gas-guzzlers"? A simpler intervention would have been to have raised the gasoline tax and/or subsidize the price of fuel-efficient cars. A year later, are we glad that the Feds "stimulated"? Are you into jolts of amphetamine and then withdrawal from said jolts?

The stimulus "creates work and not jobs," Ganley told the gathering of voters. "That may sound like a contradiction, but as we drove out here today there were all the orange barrels out on the highway, and all this work was being done with money from the stimulus. But as soon as that road's finished, the work's gone."

Ganley sounds like an Austrian! Sometimes government stumbles upon spending that actually has a good return on investment, but in general I believe that Christina Romer performed valuable research prior to joining Team Obama demonstrating that the multiplier effect of government spending is less than unity. Work, not sustainable jobs: good line.

The centerpiece of the stimulus effort, the $787 billion American Recovery and Reinvestment Act approved in February 2009, included a sprawling array of policy initiatives. Obama got to deliver on campaign promises to invest in alternative energy and advance high-speed rail development. Liberals got their funding for Head Start and community food banks, and centrists got middle-class tax breaks. . .

It proved difficult to keep track of all that spending, and the White House and Democratic leaders had a hard time showing how it was contributing to the recovery.

"The branding and marketing was done very poorly," said Alan Blinder, a Princeton University economist who supported the stimulus. "When you spend that much money, there should be more recognition."

Starting backwards, Dr. Blinder makes little sense. Branding and marketing? Recognition? As if the administration didn't tout this program enough?

Moving upwards, the statement that "it proved difficult to keep track of all that spending" is anodyne. I think of Iraq War unaccountable spending and the current billions of cash U. S. dollars that now flow yearly out of Kabul airport to the Middle East; and I think of the failure of the allegedly anti-corruption Democratic Congress to investigate the apparent massive Iraq War contractor abuses. Dogs that don't bark when they should have alerted detectives over the years to otherwise unsolvable solutions to crimes.

What I suspect happened was that the ECRI's Long Leading Indicators turned up in December 2008. By January 2009 or thereabouts, I recall reading that the leaders of Big Finance had their swagger back. So I think that Team Obama knew that the Great Recession was winding down, and that they could accomplish social, political and economic objectives by passing a pork-laden program, claiming that it was averting a Depression, and sweep to a successful midterm election on the heels of this great victory over threatened economic death.

Only it didn't happen that way. Thus this article, which is preparing the Party faithful for a weak showing in November.

The pork had a large corporate component:

The list includes $400 million to replace the decrepit Inner Belt Bridge in suburban Cleveland and $25 million to expand a BASF Catalysts lithium-ion battery plant in Elyria. . .

A year ago, Akron-based First Energy Service Co. applied for a $36 million U.S. Department of Energy grant to install 5,000 high-tech meters in Cleveland area homes, a project that would turn the region into a test market for "smart grid" technology aimed at reducing energy consumption.

Energy was one of Obama's stimulus priorities. With plans to eventually reach 44,000 households, the company could wind up creating an estimated 1,200 jobs in installation services, infrastructure upgrades and meter manufacturing.

A year later, the project has yet to get underway. First Energy's application was approved in late October, but Ohio hasn't come through with $36 million in matching funds. "There is a lot that goes into preparing something like this before the first dollar is spent or the customer sees any effect," First Energy spokeswoman Ellen Raines said.

BASF is a gigantic German conglomerate. Why are Americans borrowing from Chinese to subsidize BASF? And FirstEnergy (FE stock symbol)? It only reported after-tax profits of almost a billion dollars last year.

This is outrageous stuff, and the Post runs it as if it were completely normal that our government, deep in debt, is going deeper in debt to aid massive companies.

Finally, let me remind you that the article begins with the fact Mr. Ganley is running for Congress this year as a Republican. In case there is any doubt as to who the Post is plumping for, the article ends, out of the blue, with a quote from an auto dealer competitor of Ganley calling him "duplicitous". And, referring to Cash for Clunkers, the competitor's quote ends the article as follows:

"This program woke up the market. It was an unqualified success."

Right. And I've got a great deal on a used car for you. And maybe a used bridge.

And to end in the middle of the article, how "clue-ful" is the reporter and editor who apparently with a straight face stuck this plaintive sentence in?

How can nearly $1 trillion flush through the U.S. economy, with tangible results, and still leave voters dubious?

Here's my answer. Firstly, this was a 3-year program or longer, so much less than $1 Trillion was spent. Secondly, I see no tangible results. Viz., FirstEnergy, above. And I live in heavily "blue" districts that should have been high on Obama's help-out list. Third, people "get" that there's no free lunch. Third, Americans are probably more perceptive than the writer of that question.

Unfortunately, they also "get" that the "outs" in November are the same guys they got disgusted with in 2006, and who offer nothing new.

So the national mood remains sour, and the well-fed survivors at the Post and the ever-more powerful and ever-more numerous political class in Washington just can't see why the helpees out there in the real world don't feel the love their master-helpers have for them.

Often out of touch, but never out of power; that's our permanent Establishment.

Copyright (C) Long Lake LLC 2010

U. S. Down So Long In Afghanistan But It Doesn't Seem Like Up

Is David Petraeus turning the tide in Afghanistan? Consider the following from The AfPak Channel today:

NATO airstrikes yesterday reportedly killed over two dozen Afghan civilians in two separate incidents in the eastern province of Nangarhar, after a helicopter struck a car carrying a flood victim and his family, and an airstrike hit a compound from which NATO forces were reportedly taking fire (LAT, AFP, BBC, AP, AJE, NYT, VOA). Afghan President Hamid Karzai has ordered an investigation into the deaths, which occurred less than a day after ISAF Commander Gen. David Petraeus issued rules restricting the use of airstrikes against structures (Reuters). And in Nangarhar's capital Jalalabad, many music stores are shutting down after a stepped-up Taliban intimidation campaign (Guardian).

A suicide bomber struck a joint Afghan police-NATO convoy in Kunduz, reportedly killing at least 11 Afghans (NYT, AP). And Germany announced that it would pay 100 Afghan families $5,000 each as compensation for the deaths of civilians killed in a German-ordered airstrike on a fuel tanker in Kunduz (Canadian Press).

Moral: Win when you surge. The above does not look like a win in progress. It looks like the Keystone Kops at their klutziest.

Copyright (C) Long Lake LLC 2010

Bill Gross Talks His Book on Treasuries; a Persuasive Case at Least for a Trade?

From Bloomberg.com:

Pacific Investment Management Co.’s Bill Gross said the Federal Reserve is unlikely to raise interest rates for two to three years as it seeks to keep the economy from slipping back into recession.

Treasury two-year note yields dropped below 0.50 percent for the first time today after the Labor Department said the economy lost more jobs in July than economists forecast. The difference in yields between 2- and 10-year notes is 2.33 percentage points, more than double the average of 1.11 percent for the so-called yield curve over the past 20 years. The spread reached a record 2.94 percent on Feb. 18.

More reason to reach for yield despite the Federal deficit. The fact that "everyone knows" that buying long Treasuries is a dangerous investment is a positive for said trade/investment. Just like "everyone knew" that it was a New Era in investing in the late '90s and for homebuilding stocks 5 years ago.

Who knows, but in Japan, the 30 year Govvie yields 1.74%. So 3-3.5% in the country that continues a form of military occupation of Japan is certainly possible.

Copyright (C) Long Lake LLC 2010

More Sort-of Bullish News and Bullish Price Action in Treasuries

Continued weak results on the employment front from the Bureau of Labor Statistics jibes with all sorts of other weak coincidental and forward-looking data. The ECRI's Weekly Leading Index is now marginally below that of one year ago, with its smoothed growth rate fairly deep in negative territory.

Diminishing growth expectations are reflected in rising prices for Treasuries, especially at the short end. Because mathematically a 10 year Treasury is ten 1-year Treasuries, but the peculiar way bonds are quoted means that the first year interest of a 10-year bond is currently almost 300 basis points above that of a short-term T-bill means that as the near-zero rate structure has spread to 2-year issues, yields up to 10 years are being pulled down by those buyers who continue to hide out in longer-term but short maturities. Even the 3-year Treasury pays only about 3/4% interest per year.

The reluctance of bond buyers to go long-term on Treasuries has led to a further widening of the record spread between 10 and 30 year issues. This is currently about 120 basis points. Nothing is guaranteed, but sophisticated bond buyers know that in a constant yield environment with an up-sloping yield curve, part of the total return is implied price appreciation. In other words, let us say one buys a 10 year bond to yield 3% per year. In one year, one now owns a 9 year bond, which in this hypothesized rate environment yields, say, 2.75%. The owner of the bond pockets the 3% return and now can sell the bond at a higher price.

As an example, a 10-year zero coupon bond yielding 3% yearly is priced at 74.41. A 9-year bond yielding 2.75% is priced at 78.34. Thus holding a 3% bond for one year under a constant interest rate environment gives a theoretical total return of about 6%. Magic!

This sort of math does not work on the flat part of the yield curve, however. Where the yield curve today is relatively flat is in the 25-30 year segment for Treasury zeroes. There the more speculative short-to-intermediate term attraction is the prospect that, for example, the 10-year yield stays stable and a 5:4 ratio of 30-year to 10-year yields returns. That would imply a 30-year T-bond yield of about 3.5% and huge capital gains for owners of long-term zero coupon Treasuries.

25-year zero coupon yields on U. S. Treasuries are about 4.2% today. That's the downside assuming no default. That compares with total alleged historical returns from the American stock market of 9% per year. That number does not include trading costs, however.

Zero coupon taxable bonds, such as Treasuries, fit best into tax-deferred accounts, as the implied yield is considered as taxable interest by the IRS. I have been personally shifting cash (otherwise now defined as trash) into zero coupon Treasuries lately, both in taxable and non-taxable accounts. Thus I am for the nonce buying into the Japan scenario rather than the Grecian aspect of the duality of Federal finances.

Caveat emptor.

Copyright (C) Long Lake LLC 2010

Apple Update

I have previously blogged about AAPL as one of the few stocks I like here for the long haul. Given receding concern about the iPhone 4's reception, one of the other many issues is the rise of Android software in various phones from various manufacturers. Will Android surpass iPhone's operating system?

My response as an AAPL investor is, is that the most important question? Is it winner take all, or Coke/Pepsi? Already the race is narrowing, per (among many writeups) Mobile apps now a "two-horse race" between Apple and Google, which begins:

Apple and Google combined will have almost complete dominance of mobile apps this year, ABI estimated today. It saw the field as now just a "two-horse race" between Android and iOS that would give the two 78 percent of all app downloads this year. Apple will still have the clear majority with over half, 52 percent, reaching iPads, iPhones and iPods.

Meanwhile, I believe that Google is giving away Android software, with all sorts of competitive implications, whereas AAPL is making lots of money today from iPhones and related mobile devices.

The entire field is booming. Here is a Bloomberg.com article about Japan, the elderly, and iPods titled This Is Your Grandfather’s IPad as Japan Elderly Embrace Apple. The beginning is engaging:

Hikosaburo Yasuda says he knows a trend when he sees one and plans to buy Apple Inc.’s iPad to keep up with junior members in his computer club. Yasuda is 95.

“It’s important to always try new things, otherwise you get left behind,” Yasuda said. “All these books in just one place, and so many familiar, classic titles that I’ve never had a chance to read. I want to buy the iPad just for that.”

The world is changing as the above article demonstrates. Apple is a prime mover in driving the change. The stock is trading at perhaps 16X calendar 2010 earnings with rapid secular growth occurring. There is no debt and to my knowledge little likelihood of a BP-type or AIG-type disaster scenario that could implode things. Whether the stock will prove to be better than cash or a bond is of course unknowable, but I own it as part of a diversified portfolio that has proportionally very little exposed to stocks other than ETFs that own physical precious metals.

Despite the worries over the iPhone, AAPL has a classic chart for a stock that could prove to have much more to run. I would be worried if it were anything like Cisco 10-11 years ago, selling at a ridiculous multiple in a hyped sector. As always, time will tell and readers must know that I am not an investment advisor and thus am offering no investment advice to anyone, and also may change my views at any time for any reason.

Copyright (C) Long Lake LLC 2010

The Death Zone

This week's title of the ABC News Consumer Comfort Index is not encouraging: Consumer Confidence: Into the Death Zone. Here are excerpts:

Consumer confidence matched its low for the year this week, with the ABC News Consumer Comfort Index extending a steep 9-point, six-week drop from what had been its 2010 high.

The weekly index, based on Americans’ views of the national economy, the buying climate and their personal finances, stands at -50 on its scale of +100 to -100, just 4 points from its lowest on record in nearly 25 years of weekly polls, set in December 2008 and January 2009.

Underscoring its current deep weakness, the CCI has been -50 or lower just 27 times in 1,284 weekly polls – all but one of them since August 2008. (The other, February 1992.) It's in effect the death zone for consumer sentiment.

The CCI has been this low twice previously this year, in February and April, then advanced through late June before turning back down. Compare -50 to its 24-year average, -13.

It is a commonplace to point to other consumer and small business data that sadly all point to the same result: big company profits are high on the back of cost-cutting and perhaps good demand from other than the U. S. or Western Europe.

With oil prices now above $80 per barrel and housing on its backside, the Ins in Washington have to be sweating, no matter where they are this summer. After all, they stimulated! But it's looking more and more that the public is agreeing with the view consistently held at this blog that is was "stimulus" rather than real stimulus. And the Fed's money-printing stayed too much within the semi-hermetically sealed financial system, pushing up asset prices much more than the real economy.

Unfortunately, this is not 1979-80, where new ideas and policies were afoot. It is certain that the Republicrats will emerge victorious in the November elections. Or perhaps it's not so certain: perhaps it will be the Depublicans. In other words, the Establishment will win again, and the Bushbama Continuity of government-Big Finance working together to prop up asset values rather than focusing on allowing the real economy to work things out with a minimum of government intervention will likely continue. At least until the next major crisis.

In any case, the view here is that since the only bubble is that price to earnings of cash, which the authorities promise will remain in bubble territory indefinitely, the other trends that are extant are likely to stay extant. These include uptrends in gold and meandering in stocks, with risks tilted to the downside for the latter; and a counter-intuitive emerging bubble in increasingly longer-dated Treasuries.

Of these assets, the only one that I personally have any real confidence in is gold, and this is sad, because I have never been a gold bug. The devil made me do it!

Copyright Long Lake LLC 2010

Playing Offense Defensively with the Long Bond

More and more deterioration in small business and consumer data make this period look more and more similar to the similar period two years ago, with the stock market looking both a bit toppy on certain sentiment data (Lowry's at a 13 + year short-term overbought high) yet looking like rolling over a la 2008.

Given that the 30 year T-bond is reported to be at a record number of basis points above the 10 year note, currently at about 114 bps, and that what matters just as much perhaps is the ratio of yields (who would care if the 10 year were at 90% per annum yield and the 30 year were at 93%?), which is that much farther into record territory, going long the 30 year (with or without an offsetting short against the 10 year, which is not my style at all), is a relatively low risk purchase. If done with the inherent leverage of a zero coupon long bond, so much the better given that the yield to maturity is greater for the zero vs. par bond and also provides a truly reliable yield, unlike the par bond that assumes reinvestment income where currently there is none.

This is said with full knowledge of and concern about the massive Federal deficits.

Disquieting times . . .

Copyright (C) Long Lake LLC 2010

Statist Quo Changing?

Now that the Ministry of Truth or whatever it's called has revised economic growth lower during the reign of the president who has become an unperson as well as for 2009 which of course had an economy that stank due to the Party of the unperson, naturally whatever growth is claimed during the reign of the Party now in power will be compared to a lower base and will therefore look better. This is especially so because the administration appears to be asserting, more or less, that any jobs created or saved during its tenure are due to its policies, but all the difficulties are due to President Unperson.

So now that we know that official statistics are unusually uncertain, and the future as always is unknowable, what is an investor to do?

As Mark Twain cracked, every month in the stock market is risky. Historically, the two worst consecutive months are August-September. So a decent respect for history is wise, especially following a marvelous July for the averages.

Nonetheless, consider relative values of stocks vs. government bonds in the past ten years. Then, govvies yielded 6-6.5% per annum. The S&P 500 traded at 30X earnings, which is an implied earnings yield of 3.3%, with a dividend yield not much above 1%.

Now matters are partially to completely reversed. In addition, company after company is better financed than the Feds, with many fewer contingent liabilities.

A decade ago, "everyone" "knew" that the abstraction called "the economy" was unendingly strong. Now there is chronic depression upon the land, at least psychological if not in economic reality. But the corn remains as high as an elephant's eye and there are no shortages or almost anything except common sense out of Washington; so the basis of economic scene remains a real potential (if that phraseology makes any sense). And help may be on the way for those of us who oppose the statist trend of the past several years: legislative gridlock already appears to have hoved on the scene.

Another positive trend is that the practical failures of money printing have become more and more apparent to more and more people. The Dems should have known better: why should they embrace a creed (deficits stimulate the economy) that that loser Richard Nixon embraced four decades ago, when he announced that he was (and we allegedly were) all Keynesians now? After all, the only president of their party to have won re-election since FDR was Bill Clinton, whose big economic achievement was to raise taxes in the teeth of an allegedly jobless recovery.

What may happen is that just as in 1993, some degree of balance will be restored to the public and private accounts as the will of the people appears to dictate, the world will not end as this Federal government is not very good at stimulating productive enterprises with a very positive return on capital, and the country can get back to meeting the real needs of real people rather than the desires of the entrenched powers who have grown fat on the malinvestments of the past years.

So on one hand, there is reason to hope that the rapid growth of Federal involvement in the economy of the past 24 months has peaked; but on the other hand, the Party currently out of power has shown little evidence of new thinking.

The seasonality of markets and the unfortunate gigantic role that Leviathan now plays in the American economy suggest that the next couple of months are good ones for investors to prepare a game plan for the months ahead, as the weakening economy becomes more apparent to more people and the political landscape becomes, perhaps, clearer.

Future posts will report and theorize on this topic in more detail.

Copyright (C) Long Lake LLC 2010

"The Numbers Are Not Frightening." Really?

Bloomberg.com reports IMF Says U.S. Financial System May Need $76 Billion in Capital :

The U.S. financial system remains fragile and banks subjected to additional economic stress might need as much as $76 billion in capital, according to the results of International Monetary Fund stress tests.

Agreed. So far, not frightening. But what about this?

The IMF said about $1.4 trillion of commercial real estate loans will mature from 2010 to 2014, almost half of which are already “seriously delinquent,” with payments 90 days or more past due, or “underwater,” with loan values exceeding property values.

For some reason, that does appear at least a bit frightening. The article also says:

The IMF stopped short of recommending recapitalizing the banks it studied in the report. Instead, it urged regulators to monitor conditions, especially for smaller institutions with less market access.

Given the immense influence the U. S. has on the IMF, one can only wonder how severely an uninfluential country in similar condition would have been handled.
Sometimes being too big to be criticized is not good.

$700 Billion in delinquent commercial real estate loans frightens me. Of course, residential real estate is a much larger market. What unrealized, unaccounted-for losses in that field reside on various balance sheets?

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Continued Bad News from Small Business

Rasmussen Reports reports that its Discover(R) Small Business Watch survey for July has been completed and is generally worse than June:

Small business confidence fell for the second month in July as a higher percentage of small business owners rated the current economy as poor and see it only getting worse, according to the Discover Small Business Watch. The index dropped to 83 in July from 86.1 in June. It has been below 83 only once since the beginning of 2010.. .

What I found most striking in the report was:

Record Number of Small Business Owners Taking Home Less Pay

•73 percent of small business owners surveyed also report current economic conditions have caused them to take home less money in July, up from 69 percent in July 2009 and 55 percent in February 2008, when the Watch first posed this question.

In order to finance foreign war(s), expand social spending, and fight for re-election, is the government tempted to print money, or shall I call it "money"?

In that vein, the decade-long trend toward historical norms of the Dow or S&P 500/gold ratio has had a significant rebalancing with the simultaneous moves in opposite directions of stocks vs. gold. Of course there are no guarantees that past is prologue, but when a major asset class goes into new high territory after a prolonged bear market/consolidation, there is strong support (buying interest) if the price falls toward to to the prior trading range, but there is generally limited selling interest if the price moves to the all-time high.

Both gold and Treasuries continue in their long-term bull market channels. Of the two, the Treasury bull is much older and with 2-year Treasuries and below at record low yields despite positive price inflation data (see the Rasmussen/Discover survey linked to above, for example), I believe that the Treasury market is more likely closer to the end of its bull than gold.

Meanwhile, economic activity will bounce around, but such factors as foreign military action, increased government involvement in the economy, and demographics continue to act as depressants to the level of productive activity.

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