Robert Bagwell

Federal dependents soar - Our nation has never seen fewer people paying taxes.

2012-02-08T16:46:00.000-08:00

On January 26, the S&P 500 fell 0.57% – its biggest down day this year. The S&P's last 1% decline was on December 28 (28 trading days ago). The money-management and research firm Bespoke Investment Group calculated the 28-day streak is the longest without a 1% decline in more than a year.

The market's "fear gauge," the Volatility Index (VIX), has been in a steady decline since October, when it was above 45. It sits around 17 today.

The market has priced in the European crisis and zero-percent interest rates. It's complacent. Despite how much the market thinks it knows, it can always be shocked by a low-probability event, or a "black swan," as fund manager and author Nassim Taleb calls it. You never know what will cause volatility… But you can know something will cause it.

Our editor in chief, Brian Hunt, said of this lull: "I'm not saying a huge market hammering is around the corner… probably just a correction. But it sure feels eerie out here. Back in October, I felt like I was in the middle of a battle. But now the battlefield is like a ballroom."

As the market was digesting the financial crisis of 2007 and 2008, the VIX was bouncing between 17 and 25 (a low reading, considering the severity of the issues). Mortgage companies were failing. Bear Stearns received its first bailout… The bad news was "priced in," or so everyone thought…

Then in September 2008, Lehman Brothers collapsed. It was a black swan. From August 18 to October 20, 2008, the VIX more than quadrupled from 18 to 80.

Be ready for a return of high volatility. Buy puts on some weak market sectors, taking precautions against the event that will cause the volatility. The best opportunities come once the high volatility is here… and option premiums explode.

Put options act like insurance for stocks. When people buy put options, they get the right to sell their stock at a set price (the so-called "strike" price). People who sell put options get paid to accept the potential obligation to buy at that price. Of course, if the stock doesn't trade for less than the strike price by the time the puts expire… the seller keeps the upfront payment without ever having to buy the stock.

When volatility rises, the upfront cash that option sellers receive (called the premium) rises… sometimes a lot. Double-digit gains in a few weeks are not uncommon.

Low volatility and extremely low interest rates are pushing people into riskier assets… Fed Chairman Ben Bernanke admitted in congressional testimony last Thursday that the low rates are "an issue for many people."

The low rates push people into longer-duration bonds for higher yields. Taking on longer-duration debt increases their risk because it locks up their money for a longer time. Low rates also push people into bonds with higher default risks – high-yield (aka "junk") bonds.

Bernanke justified the lower rates saying, "[O]ur savers collectively have to hold all the assets in the economy and a strong economy produces much better returns in general." But pushing savers into longer-term and riskier assets isn't a formula for helping the economy. It's a formula for a wipeout… Last week saw the highest issuance of high-yield bonds since May 2011… 23 high-yield deals hit the market, totaling $18.75 billion, the largest amount in history. The old record was $16.5 billion from the weekend ending May 14, 2011.

An update to Steve Sjuggerud's bullish housing thesis… The National Association of Home Builders (NAHB) added 29 cities to its list of housing markets showing improvement. Cities on the list have shown at least six consecutive months of improvement in housing permits, employment, and housing prices. Some new additions include Detroit, Portland, Miami, and Memphis. Right now, 98 cities (in 36 states) make the list. And the list has been growing for six straight months…

"While many of the markets on the February [list] are far from fully recovered, the index points out where employment, home prices and housing production are no longer retreating and have held above their lowest recession troughs for six months or more," said NAHB Chief Economist David Crowe. "This is a sign that a large cross section of the country is starting to turn the corner as local economic conditions stabilize.".....

Americans' dependence on federal government assistance increased 23% in two years under Obama (the biggest two-year increase since Jimmy Carter was in office)… 67 million Americans now rely on some federal aid, according to a new study by conservative think tank Heritage Foundation.

Heritage's annual Index of Dependence on Government tracks money spent on housing, health care, welfare, education, and other federal programs that were "traditionally provided to needy people by local organizations and families."

The report shows spending on "dependence programs" accounts for more than 70% of the federal budget. In 1990, that number was only 48.5%. Meanwhile, fewer Americans pay income taxes… 49.5% didn't pay any income taxes in 2009 (the most recent data). In the 1960s, that number was only 12%. Our nation has never seen fewer people paying taxes.

Critical Facts

2012-02-04T18:18:00.000-08:00

Today I review of what I think are the most critical facts in our country's looming currency crisis. I apologize to my friends for presenting/preaching what might seem to be continually negative thoughts on our crisis today. As my father told me, "Hope for the best, but always prepare for the worst." A smart man, my father. It is important to be positive about how you work with and relate to the world today, but don't hide your head in the sand. Most people still don't understand the risks we face as a nation because of our feckless leaders and their reckless ignorance of basic economics.

What follows are facts. Nothing in this essay will be conjecture or opinion. I will make no forecast – at least not in this essay. So please, stop the political name-calling… and grow up. The problems we face are ours. All of ours. It doesn't matter how we got here. It only matters that we begin to deal with these issues – soon. If we don't begin to solve these core financial problems, they will certainly destroy our country.

Today, our national federal debt far exceeds $15 trillion. This alone is not a serious problem. The interest we pay on these debts is small – thanks to the trust of our creditors, who, for the moment, continue to believe America is a safe bet.

So… what's the problem? The main problem is the amount of debt we owe continues to increase at a faster and faster pace. This is exceptionally dangerous for two simple reasons. First, there's simple math. When numbers compound, the result is geometric expansion. And that's happening right now with our national debt because we continue to borrow money to pay the interest. And we have done so for about 40 years. Think about it this way: How big would your debts be today if you'd been using credit cards to pay your mortgage for the last several decades?

Even worse, our debts are compounding at an accelerating pace because we lack the political ability to limit the federal government's spending. Please understand… I'm not pointing the finger at any politician or either political party. I'm simply pointing out a fact: This year's $3.6 trillion federal budget is 20% larger than the entire 2008 budget. And while our government has grown at a record pace, our economy hasn't. It has hardly grown at all. Thus, this will be the fourth year in a row we set a record for deficit spending. Never before in peacetime has our government borrowed this much money. And now, it's borrowing record amounts every year.

This combination of borrowing record amounts of money (during peacetime) and continuing to borrow the money we need to pay the interest is setting the stage for a massive increase in total federal debt levels. Why is this happening? Don't our leaders realize they can't continue on this path?

Well… the problem isn't so simple to fix. What we face isn't a $15 trillion problem. It's actually much, much bigger…

The $15.3 trillion we owe today is really only a minor down payment on promises the federal government made to its most important creditors – the American people. Not yet included in our debt totals are the $15 trillion shortfall in Social Security (thanks to the Democrats), the $20 trillion unfunded prescription drug benefit (thanks to the Republicans), or the $115 trillion unfunded Medicare liability (thanks to the Democrats and Republicans).

Most people ignore these looming liabilities because they obviously will never be paid. In fact, the federal government's total obligations today – including all future obligations – is more than $1 million per taxpayer. And that's if you assume all 112 million taxpayers really count. (They don't. Only about 50 million people in the U.S. pay any substantial amount of federal income taxes.)

But here's the funny part… While everyone seems ready to ignore these obligations, we've already begun to pay them. Our spending on Medicare and Social Security already greatly exceeds the $800 billion in payroll taxes we're collecting to pay these benefits. (Total spending on Social Security and Medicare last year was more than $1.5 trillion.) And that means our actual debts will continue to compound faster and faster every year, assuming nothing is done to curtail these benefits.

I want to make sure you understand this fact: It doesn't matter how much (or how little) Congress chooses to cut its discretionary budget. The promises we've already made to Americans in the form of Social Security and Medicare guarantee that our debts will continue to compound faster and faster, every year. How do I know?

Once again… let's return to basic math. Right now, we're spending (at the federal level) $2.4 trillion per year on transfer payments and interest on our national debt. That doesn't include any of the other functions of the government – nothing else. Meanwhile, we are only collecting $2.3 trillion a year in income, payroll, and corporate taxes.

Let me make sure you understand this: Even if we cut every other government program – including the entire military budget – the federal revenue collected still wouldn't be enough to merely cover the costs of our direct transfer payments. Not even close. And every year, these payments will automatically grow.

Here's another way to look at the same basic numbers, but on a macro scale. Right now, total government spending in the U.S. equals $7 trillion per year. (That's federal, state, and local.) Total interest paid in the U.S. economy on all debts, public and private, equals $3.7 trillion. The size of our total economy is only $15 trillion. Thus, we are currently spending $10 trillion (out of $15 trillion) on our government and debt. This is unprecedented in all of American history. This financial structure is unsustainable – and extremely unstable, given our debt levels.

There's the bigger problem (yes, it gets worse). The political solution to our soaring deficits will most likely be higher taxes. Yes, technically that's a prediction… And I promised no predictions in this piece. But let's face it. You will never see the federal government make dramatic, meaningful cuts to its promised benefits – not when half the country pays no federal taxes and more than 40 million people are on food stamps. So it's not really a prediction – it's a political reality. Will higher taxes save us?

No. You cannot squeeze blood from a stone. The federal debt isn't the largest obligation we suffer under. Americans hold nearly $1 trillion in credit card debt. We hold nearly $1 trillion in student loans. Total personal debt in America is larger ($15.9 trillion) than all of the federal debt. In total – adding up all of our debts, public and private – Americans owe close to $700,000 per family. It is not possible to finance our federal government's spending via taxes because the American people are broke. Total debt levels in America are the highest – by far – of any developed nation.

Tax the rich, you say. Well, of course. But marginal rates in many places are already greater than 50%. Tax rates this high don't work… They actually reduce tax revenues as people move their economic activities elsewhere to avoid taxes… or even simply forgo working.

Don't forget, the very wealthy can simply leave. James Cameron – director of blockbuster movies Titanic and Avatar – recently did just that, buying a 2,500-acre farm in Canada. John Malone, chairman of Liberty Media, likewise told the Wall Street Journal that he bought a farm on the Canadian border specifically so that he could leave the country whenever he wanted. "We own 18 miles on the border, so we can cross. Anytime we want to, we can get away."

Think I'm exaggerating the risks of real capital flight from the U.S.? Well… let's look at the facts. According to the latest IRS report, the number of Americans renouncing their U.S. citizenship has increased ninefold since 2008.

How then will the government's spending be financed? Well, I promised no predictions. Not today. But I will remind you that since 2008, the Federal Reserve has expanded the monetary base from roughly $800 billion to nearly $3 trillion. That, again, is a fact. Feel free to draw your own conclusions about what the Federal Reserve is likely to do in the future if the U.S. Treasury is faced with a financial need that can't be met.

I'm reminded of Warren Buffett's comments about stock option accounting. He famously wrote in a 2002 New York Times editorial: "When a company gives something of value to its employees in return for their services, it is clearly a compensation expense. And if expenses don't belong in the earnings statement, where in the world do they belong?"

Would you buy Facebook in the IPO?

2012-02-03T08:35:00.000-08:00

"Yeah, I'd buy it and hold it for three to five years. Social media is huge!"

Overheard on a train were a couple of Wall Street's typical empty suits having what I'm sure they considered an intelligent conversation on the markets… Not all Wall Streeters are this vapid… far from it. But these guys were the kind of self-impressed, know-nothings that are all too common on the Street.

I don't like most initial public offerings (IPOs)… especially ones that have been hyped as much as Facebook's. The social networking giant filed for a $5 billion IPO yesterday. It didn't list an offering price, but estimates say the company could be valued between $75 billion and $100 billion. At that valuation, founder Mark Zuckerberg would pocket around $28 billion.

According to the filing, Facebook generated $3.71 billion in revenue in 2011, up 88% year over year. And net income was $1 billion, up 65% from the year before. Would you join the frenzy to buy a company at nearly 30 times revenue and 100 times earnings?

Facebook is a great business. It's got 47% operating margins and 18% net margins. It's got a fortress balance sheet with no debt and almost $4 billion in cash and securities. And it's got more than 870 million regular users who, I suspect, buy something once in a while based on ads they see there.

Facebook could be the next Google, whose market cap has nearly sextupled since its 2004 debut. But the odds are against it. Last year, several social media companies started trading. Those include online gaming company Zynga, business networking website LinkedIn, and daily-deal website Groupon. Those companies, with the exception of Zynga, soared the first day of trading (meaning you would have had to buy at the higher prices… few retail investors are actually filled at the low prices). Peak-to-trough, those companies all stumbled… Zynga fell 20%, LinkedIn was down 46%, and Groupon fell 42%.

But they're not down today. They're up, up, up… Zynga – which gets more than 90% of its revenues through the online social games it sells through Facebook – is up 16% this morning and trading for more than 160 times earnings. Other social networking sites are also popping today. LinkedIn is up 7% and trading for 1,000 times earnings. Groupon is up 10%. Groupon has no net profit (hence, no earnings multiple), but it trades at more than 10 times sales.

If this isn't a bubble, there's no such thing. And you know what happens to bubbles… Remember all those dot-com stocks from the late '90s… like Boo.com? The online fashion store spent $188 million in six months and went bankrupt in 2000, along with many other Internet miracles. Didn't we learn anything from that?

If we learned anything, we've forgotten it. That's humanity for you. Individually, many people can be quite intelligent… But put them in a crowd and their wits vanish… The thundering herd never learns.

There are certainly safer places to put your money than the social networking bubble…

Facebook is a good business. Maybe someday, perhaps in 10-12 years, it'll become a value stock, so the financially literate will find it attractive… like Microsoft. During the tech bubble, Microsoft traded for close to 70 times earnings. The market cap exceeded $600 billion. Regardless of how great the business was (and still is)… the price was silly.

But unlike Boo.com, Groupon, and LinkedIn, Microsoft is a wonderful, cash-gushing business. It's got $51 billion in cash and securities, more than four times its $11.9 billion debt burden. It generated almost $27 billion in free cash flow over the last four quarters. Sales and earnings per share have grown double digits for the last decade, despite constant naysaying about missing out on key technology trends like mobile computing, social networking, and web browsing/search engines. Windows 7 was the biggest, fastest-selling operating system in history… but got far less press than Facebook is getting now. Microsoft initiated a cash dividend in 2003, and it is up eightfold since, rising 25% last year.

And yet, Mr. Market just doesn't believe the colossal value of Microsoft. The share price is up, but the stock still trades around eight times free cash flow…a much better place for your money than social networking bubble stocks. But if you want to be a real contrarian, there's only one place to go right now…

Mr. Market hates natural gas stocks like he hates few other stocks right now. Falling prices are a good thing. They make life better. They are the essence of wealth creation. Most folks don't tell you this about natural resources investing, but over time, commodity prices tend to fall in real terms. There are no permanent shortages, and we're not running out of anything. The rule throughout recorded history has been toward ever-greater abundance… toward lower prices, not higher ones. Wealth creation might be defined simply as making stuff cheaper.

That's what the shale gas revolution is doing. Rockefeller and Carnegie got rich by making basic materials cheaper and more abundant. Rockefeller ramped up production and dropped the cost of oil and kerosene, widely used for household lighting at the time. Carnegie did the same in the steel business. They made the price of the stuff they were making fall… and it made them the richest men in history. Is anyone paying attention to this example?

Think about it… Do you really think high commodity prices are good for anybody? It's not even that great for the commodity producers because they tend to make huge capital allocation mistakes when the money comes pouring in. Inflation is always a risk, but the ingenuity of man has always tended to outrun it. If that weren't true, we wouldn't enjoy such a high standard of living today.

The Human Resources Administration (HRA) of New York City added more than 100 workers last July. And it plans to hire another 100 people to serve the growing number of New Yorkers applying for food stamps and rent assistance. According to city records, nearly 1.8 million New Yorkers are currently on food stamps – a 65% increase from four years ago. And those 1.8 million are crowding HRA offices. Despite recently seeing $200 million in state funding cut from its budget, the HRA is hiring. But it's not enough… Or so says the advocacy group Federation of Protestant Welfare Agencies. The group is complaining because long lines are keeping applicants from receiving welfare.

Next thing you know, welfare recipients won't be able to spend "their" money at strip clubs… Oh wait, that was actually up for discussion in Congress. On Wednesday, the House voted 395-27 to pass a bill requiring states to block welfare debit cards from being used at casinos, strip clubs, and liquor stores. The measure was approved by the House last December, but dropped from the final law. It was reintroduced, sponsored by Louisiana Republican Rep. Charles Boustany, as a stand-alone vote.

Any sane person would see the issue with allowing welfare recipients to withdraw taxpayer money from strip club and casino ATMs. Alas, many in Congress do not – despite the fact that California welfare recipients withdrew $1.8 billion from casino ATMs in 2010 (according to the Los Angeles Times).

The opponents' defense… "In many neighborhoods, the closest ATM is located in a nearby liquor store," Democratic Rep. Gwen Moore said when the bill was debated last December. Moore said the bill would "humiliate and marginalize" poor people.

The U.S. increased the debt ceiling on Friday (with 52 votes from the Senate), allowing us to borrow another $1.2 trillion to goose the economy. According to the financial blog Zero Hedge, two days later, the dry powder is down to $1.1 trillion… We added $120 billion to the national debt in two days.

Real Estate

2012-02-01T19:46:00.000-08:00

The Case-Shiller index of 10 major metropolitan areas and the 20-city index both lost 1.3% in November from the previous month. And Phoenix was the only one of the 20 cities to show a gain in November from October. Atlanta, Las Vegas, Seattle, and Tampa all hit new lows on the index.

Year over year, the 10- and 20-city indexes dropped 3.6% and 3.7%, respectively. Atlanta was the worst one-year performer, with an 11.8% drop in prices.

A Wall Street Journal article on the drop in home prices quoted economists with the Nomura Economic Research firm commenting on the numbers…

Tighter lending standards and widespread expectations of further declines in home values have been depressing home sales on a larger scale… In addition, a growing share of distressed assets in home sales that are typically sold at a 20% discount are putting downward pressure on house prices.
The two cities that did gain year over year? Detroit (where at one time you could buy a skyscraper for less than $4 million) and our nation's capital, Washington D.C.

The data above are from last November, the most recent data available. Right now, houses in America are the best value they've been in many generations. But the decline is not over. Economic bubbles ALWAYS return to where the started or lower. We have an additional decline of 25% in housing prices before this bubble is popped. We're going back to 1994 home prices, like it or not.

Our Dear Leader

2012-01-26T17:25:00.000-08:00

Everything is going to be just fine. The Federal Reserve is going to keep interest rates low forever. And Our Dear Leader Komrade Obama is going to subsidize more solar-panel companies.

So really, what are you worried about? It's practically your patriotic duty to buy stocks after yesterday's Fed meeting. Previously, the Fed said it expected to keep interest rates super-low until mid-2013. On Tuesday, it said… "How about we shoot for late-2014 before we start thinking about raising interest rates?"

Of course, the market rose on the news. At yesterday's peak, the S&P 500 was up 1% and closed up 0.8%.

The S&P 500 went up this morning, then backed off. It's almost like Mr. Market doesn't trust the Fed to follow through. Or worse, maybe Mr. Market does trust the Fed and knows its money-printing endeavors won't amount to a hill of real beans.

Did you see Our Dear Leader's address on Tuesday night? I tried to watch the whole thing. But, while I had enjoyed my dinner, I didn't want to taste it again. So I turned the TV off. I read the whole speech this morning. It was possibly the most jingoistic State of the Union address in at least a dozen years – Obama used the word "America" 87 times. (George W. Bush's record was 72 mentions.)

Obama started out like any good fascist, praising the military and telling us all we should be more like them. The police where I live are way ahead of Komrade Obama. They're taking target practice in my town's poor neighborhoods. (More on this below.)

You can read Obama's speech, so I won't detail the entire sordid paean to big government and the superiority of speech-making politicos. But if you want to know what Obama should have said, check in with John Stossel… one of the few reporters in America who consistently illuminates government interference in our lives.

As Stossel points out, one of the worst things Obama did Tuesday night was promise us "a blueprint for an economy." But there is no such thing as a blueprint for an economy. Blueprints destroy economies. Even Alan Greenspan knows that much…

Nobody tried harder to execute a flawed blueprint for the U.S. economy than Greenspan, who served as chairman of the Federal Reserve from 1987-2006… Yet Greenspan, like Stossel, made his own condemnation yesterday of the futility of government interference in the economy.

In an editorial published by the Financial Times, Greenspan said, "Meddle with the market at your peril." He decried crony capitalism as corruption, noting how poorly bankers managed their assets during the housing bubble. Greenspan conveniently never mentions his own culpability in creating the bubble.

He did point out the huge difference between East and West Germany, though. Anybody who sees what happened to those two economies while the Berlin Wall was up and believes there's anything better than a market economy for creating widespread prosperity is simply not paying attention. East Germany's planned economy fell apart and created widespread corruption and poverty. West Germany did just fine, thank you very much. I'm appalled there are adults in the world who don't understand the profound implications of this example.

So what are we supposed to do with our money now that we're guaranteed more Fed money-printing and more "economic blueprints" from Our Dear Leader? Nothing too different… I think you should keep focusing your equity purchases on the best businesses and be exceedingly careful about buying anything else. You should be certain to keep plenty of cash handy… not for investments, but for financial emergencies. And you definitely need to continue buying and holding plenty of physical gold and silver.

The Fed's announcement that low interest rates are likely to prevail longer than previously expected is simply its way of saying it intends to juice the system with money and see to it that plenty of cheap credit remains available… And that never works out well.

The juice is already starting to flow… Yesterday, the day after the Fed meeting… I went to make a deposit at the bank, and the teller offered me a credit card with 0% on balance transfers – for 18 months. That's never happened before… six or 12 months, yes… But not 18 months.

I shook my head and left the bank. Maybe I should have taken my deposit up to the coin shop to buy some Krugerrands. I visit the shop every month. Maybe I'll step that up to every two weeks…

Billionaire resource investor Eric Sprott gave some good reasons to expect gold to rise, including heavy buying by the Chinese and its use as currency in Iranian oil sales. He also says there's about seven times the physical amount of silver supply as gold… and that investors are buying silver at 50 times the amount of gold. If you like to speculate on gold and silver prices, Sprott thinks you're going to see some "serious fireworks" pretty soon.

The Fed will keep rates at zero through 2014. Treasurys are down. Gold is up, and gold stocks are ripping.

Debt will remain high and commodities will soar this year…

As I look around at the world economy today, I see two dominant trends in place. First, the major Western economies are being impoverished by their debts and struggling to avoid a collapse via a desperate attempt to print their way out of perdition. Second, I see the rise of the world's largest future economy that's in the midst of a massive effort to buy gold and control its global market.

These two trends will become much more apparent to world markets this year. So after urging extreme caution since February 2010, I am now ready to take several aggressive steps to capitalize on what I believe will be a "frothy" year in the markets – particularly in commodities.

This year will be dominated by surges in economic activity around the world, on the heels of massive monetary stimulus. I'm extremely bearish back with a long-inflation bias that I had February 2010. It's time to get long commodity-related stocks – gold, silver, and oil. It's also time to start preparing for what's likely to be a massive increase in inflation.

In the past month, the police have needlessly shot and killed two young men. The cops seem to be basically taking target practice in the city's poorest neighborhoods.

One victim was surrounded by Federal marshals, while driving a car in a grocery store parking lot. He was wanted for leaving a drug rehab program. The other was on the porch of his own home, threatening to kill himself with a kitchen knife. The cops tried to taze him. But when it didn't work, they shot and killed him. His mother called the police because he threatened to kill himself. They needed help. But they called the wrong people – our militarized police force. All the witnesses in these shootings are flabbergasted. They don't understand why the cops went to deadly force since they were never in any real danger.

The Fed's message today

2012-01-25T17:02:00.000-08:00

A comment on the Federal Reserve's announcement today… And why low interest rates for another three years, though good for the markets, and elections, is bad for the economy.

The Federal Reserve today said interest rates will stay low until at least late 2014. And it expects unemployment will remain high and inflation will remain "subdued." At last appearance, our central bank said it would keep rates near zero percent until the middle of 2013.

"The Committee expects to maintain a highly accommodative stance for monetary policy," read today's statement from the Fed's Federal Open Market Committee. "Economic conditions – including low rates of resource utilization and a subdued outlook for inflation over the medium run – are likely to warrant exceptionally low levels for the federal funds rate at least through late 2014."

In reaction to the news that the world's debt will simply be refinanced at lower rates and extended, the world is rushing to government debt. The yield on 10-year Treasurys fell 13 basis points (0.01%) to 1.94%.

And Germany, Europe's safe-haven economy, is selling debt at record lows… Germany sold 2.458 billion euro ($3.2 billion) at an average yield of 2.62% – the lowest yield since the inception of the euro. That's down from 2.82% at the previous auction on October 12.

At least gold rallied, as it should in the face of such news. The precious metal jumped more than 2% to $1,699 an ounce.

When people are really scared, they buy cash, not gold. People sell gold for cash all the time. When I go to the coin store to buy Krugs, there's always a line of people with their arms full of gold jewelry and coins. They're all selling.

It's like Reverend Jim Jones and the People's Temple of Jonestown, Guyana – the original "drink the Kool-Aid" moment. Everything is wonderful… you're in an exotic land, learning from your charismatic leader about the paradise you and your family will soon inhabit.

Then one day, you wake up, and he's convinced you to force your kids to drink cyanide. And you've allowed him to brainwash you into drinking it, too. Before the day is over, everyone is dead. Any sane, rational person could have seen the whole affair would lead to no good, but few would have guessed it would have killed everyone involved.

It's the same way with paper money. Everything is wonderful… You're in the richest country on Earth, enjoying the highest standard of living (even if you're described as "poor"). Your charismatic leader tells you taking more from rich people and putting 45 million people on foodstamps will make the country stronger. You believe him because it's the easy, lazy thing to do. Or maybe you don't, but after all, what can you do?

Then one day, you wake up, and the government is $15 trillion in debt, with tens of trillions of dollars more in present value of future liabilities. You're scared, so you do what they tell you. You drink the Kool-Aid and buy Treasurys. That's the fatal mistake… It won't be long now… Say adios to all you've worked for. It's on its way to money heaven.

The bull market........

2012-01-24T13:31:00.000-08:00

It's a bull market… The stock market is up 20% from the lows of early October. Many believe when the market rises 20%, it's officially a bull market.

Lots of folks think this is meaningful. I'm not really sure how they come by that insight, but there it is. To me, the more expensive any asset gets, the less attractive it becomes. If stocks are a good deal with the S&P 500 just below 1,100 (like they were back in early October), given the same approximate level of earnings, a price above 1,300 is less attractive. I can barely fathom why anyone is more bullish now than he was a month or two ago.

But that's not how most so-called "investors" think. Most people wait to see which way the herd moves… then they move that way, too. The American Association of Individual Investors Sentiment Survey is like a satellite photograph of the herd as it moves across the financial landscape. Through last Wednesday, the survey shows that more than 47% of investors questioned are bullish. Less than 24% are bearish. Over the long term, investors average 39% bullish and 30% bearish. So right now, sentiment is at extreme levels.

It's not just the small fry who is bullish. Author and Wall Street legend Barton Biggs – who founded the money-management firm Traxis Partners ($1.4 billion in assets under management) – says he's "terrified" that having 65% of his money long stocks isn't enough if the market keeps rising. Biggs was 80% long in November, so he's not as long now. And yes, he also claims to be terrified he's overexposed if Europe blows up. If I were his client, I wouldn't be filled with confidence at hearing how terrified he is that the market will go up or down.

But maybe Traxis' clients won't do so badly. I doubt they'll do as badly as Greek government bondholders are going to do…

Right now, Greece is negotiating with its major bondholders to accept some fraction of the money they're owed to retire those debts. The idea is for the government and bondholders to come to an agreement, rather than for Greece to default and force the issue. That's what everybody would love to see. That would be like saying, "It's bad, but we worked it out. So it's not the end of the world."

Charles Dallara, the managing director of the Institute of International Finance – an association of more than 350 global financial institutions – is negotiating on behalf of the bondholders. Dallara says the biggest loss the bondholders are prepared to accept is in the neighborhood of 65%-70%. We don't know what the government wants them to take. But it can't be much if they're volunteering to give up 70% of their investment.

Greece has its work cut out for it. To get a 130 billion-euro rescue package, it has to make a deal with Greek bondholders AND make substantial spending cuts. Greece cut its budget by 2 billion euro in 2011 and has to cut another 7 billion this year. It needs more and bigger cuts in wages, pensions, and health care spending. Progress has been tiny… Yannis Stournaras, of Athens-based financial research think tank IOVE, says "nothing substantive" has been done since Greece ran to the European Union and the International Monetary Fund 18 months ago.

Greece will default. The only thing we don't know yet is precisely what form the default will take. I figure the market knows this. On the day it becomes obvious enough to be reported in the press as an historical event, the market will have already digested it and moved on.

Think of it this way. If bondholders will voluntarily accept a 70% loss and there's still a big chance that won't be big enough… hasn't the Greek government already admitted the bonds are worthless? If that deal was sufficient, it would've been snapped right up, if for no other reason than to restore the market's confidence and get Greece much closer to that 130 billion euro of bailout money. But the 70%-loss scenario wasn't snatched up. I have to conclude Greece is headed for default, one way or another.

New drilling technologies have led to a boom in U.S. natural gas supplies…the flood of resources is transforming the domestic energy and manufacturing sectors. This trend is at the heart of an "American Industrial Renaissance."

In short, the new technologies have allowed industry to extract gas from shale rock formations. And the U.S. has huge gas deposits in shales. The Marcellus shale alone is half the size of Spain. And it sits between two other large shale formations, the Utica shale and the Upper Devonian shale play – neither of which have been explored much.

As a result of these huge new supplies, the price of natural gas is coming down. To profit in this environment, natural gas producers are cutting their costs.

In addition to vast new natural gas deposits, massive new oil resources are also being exploited all over the North American continent. Thanks to the oil-rich Bakken shale within its borders, North Dakota is on pace to produce about as much oil as Ecuador, a member of the OPEC oil cartel. The Eagle Ford shale in south Texas is shaping to become the largest oil find in U.S. history. We already produce so much oil in the U.S. that we've started exporting the stuff. It's only a matter of time before big new supplies reduce the price of oil and gasoline.

But Congress knows nothing of the marketplace. It deals in politics only, not economic fact. So six Democrats from the House of Representatives have proposed a new "Reasonable Profits Board," which would apply a windfall-profits tax as high as 100% on oil and gasoline profits. Naturally, the proposal contains no indication of what would constitute a "reasonable" profit. This issue has been in the air for most of my life. I was born in 1961 and vividly remember sitting in lines at the gas station in the morning on my way to school, when gasoline was rationed.

You HAVE to be a politician to be this stupid. Selling gasoline is one of the crappiest, lowest-margin businesses around. If you don't attach a convenience store to it, it's generally not worth doing.

And refining oil isn't much better… I just looked up a couple of refining stocks. Tesoro made losses three times in 10 years and reported net margins of less than 2% three times. Valero really knocked the cover off the ball with only two losing years out of 10 and three years of sub-2% net margins. And when they're firing on all cylinders, net margins rose to more than 5% once at Valero (in 2006) and more than 4% once at Tesoro (also 2006). I never recommend refiners for the same reason I don't recommend airlines. They're just not profitable on a consistent basis.

But Congress says they're making too much money. If the legislators wanted to guarantee a reasonable profit from selling oil and gasoline, they wouldn't tax it. They'd subsidize it. Instead, they're running around trying to get votes by putting refineries and gasoline stations out of business, claiming they make too much money.

What about people who lend out your bank deposits (10 times over) and forbid Wal-Mart from entering their business because the retailer's model would only benefit customers, not cronies? Are they making too much money?

What about people who get protection and money from the government to keep the national price of sugar double the global price? Are they making too much money?

What about people who get money from the government to grow corn so they can do the most expensive possible thing with it – turn it into ethanol? Are they making too much money?

None of those people are making too much money because Komrade Obama and his ilk love them. But people who sell gasoline… one of the skinniest margins on Earth… a product without which life as we know it comes to a grinding halt… they're making too much money.

The politicians are only doing what any rational person expects of them. They're trying to make good sound bites for the voting masses, as if the political process had all the depth and meaning of a Disney movie trailer. "Coming soon: Hope, Change, and Reasonable Profits!"

Italy Lying, UnCredit, and Steve Rattner

2012-01-09T16:33:00.000-08:00

Italian Prime Minister Mario Monti is assuring the public that Italian banks are "solid," according to today's Wall Street Journal.

In my years of following global markets – and the subsequent political comments surrounding them – I've come to a conclusion… Any time a government official makes a declarative statement – such as the one above – during panicked times, you can assume the opposite is true.

We know for a fact Italian banks aren't solid. Italian banks, particularly the country's largest bank, UniCredit, are teetering on collapse. On January 4, UniCredit announced a rights offering to raise capital...

UniCredit launched a $9.7 billion rights offering (an offer made to existing shareholders, who are entitled to buy a set number of new shares at a set price over a specified time frame). This is a huge offering – over half of UniCredit's market capitalization. But here's the thing… The offering was priced at 1.943 euros, a 43% discount to Tuesday's close. If you account for the value of the option to buy more shares in the offering, the offer is nearly 70% less than the shares' quoted price. Still, shareholders only took up 24% of the offering.

So Italy's largest bank can't obtain credit. And it can only sell 24% of the shares it's offering (to existing shareholders, nonetheless) at a near-70% discount. What do you think these shares are actually worth?

UniCredit shares are down 44% in the last four trading sessions (they fell more than 10% today to 2.29 euro before being suspended).

As I said above, the new shares are being offered at 1.943 euro (a 43% discount to the pre-offer share price). Analysts expected the rights to trade at 1.36 euros, but they were suspended Monday, having fallen more than 54% to 0.62 euro. Despite UniCredit's embarrassing performance, CEO Federico Ghizzoni said the bank would be stronger after the capital raise. I wonder how existing shareholders will feel after their shares are diluted by 50% at prices 80%-90% below market…

In a related fib, Monti also said Italy could eliminate its deficit by 2013 without additional budget-cutting. How will he accomplish such a feat, you may ask? Monti says he will "modernize" the country's labor force to create more employment. And the government will work on "many fronts" to increase competition by opening up closed professions, Monti said.

According to sovereign yields, the market doesn't believe Monti can magically create jobs. In fact, it's paying for the privilege of exiting Italy… For the first time ever, Germany issued debt today with a negative yield. Germany's 4 billion-euro auction of six-month bills carried a yield of -0.0122%.

German debt has traded at negative yields in the secondary market for weeks. Six-month debt hit a low of 0.3% after Christmas. Meanwhile, Italian 10-year yields are still greater than 7%, the level at which Greece, Ireland, and Portugal were bailed out.

Compensation on Wall Street is set to be the lowest since 2008, when the financial crisis hit. According to people familiar with the situation, compensation for most of Goldman Sachs' approximately 400 partners will fall at least in half from 2010 (though that still amounts to more than $3 million per person). And pay for Goldman's fixed-income trading division could see compensation fall by 60%, with some people receiving no bonus at all.

Morgan Stanley is expected to cut bonuses for some investment bankers and traders by 30%-40%.

These compensation cuts are after banks made plans to slash more than 200,000 jobs over the next few years.

Steve Rattner – the New York financier turned OBAMA! "car czar." This man was personally implicated in bribing New York state pension officials (but hasn't been indicted yet). He made close to $500 million via his private-equity fund (Quadrangle), while his investors underperformed municipal bonds. This guy lives in a $15 million home on Martha's Vineyard and in the same Fifth Avenue apartment building as George Soros. This is a guy who flies his own plane… whose wife is the leading fundraiser for the Democratic Party. This is Arthur Sulzberger Jr. and Michael Bloomberg's best friend. And Barry Diller's. This guy spent his entire life in the rarified world of Ivy League colleges, investment banks, and New York City's most elite social circles.

And yet… even with all of these advantages, he ended up accused of bribing New York State pension officials to get them to invest with his private-equity firm. (By the way… I have to hand it to OBAMA! on appointing Rattner as the "car czar." OBAMA! knew about the corruption charges, and he appointed Rattner to restructure General Motors anyway. After all, who better to steal from bondholders than a crook?)

Rattner ended up settling his SEC case for $6.2 million, a pittance for the billionaire. He was also banned from "associating with any investment advisor or broker dealer" for two years. And as his appearance with Frank Beckmann makes clear… he doesn't want to talk about it.

The total debt in the U.S. is now $15.23 trillion, above the U.S. GDP of $15.17 trillion through September. To reiterate, our nation now owes more money than the value of all goods and services the economy produces in nearly one year. And the gap is only getting bigger.

UniCredit

2012-01-05T15:41:00.000-08:00

Shares of Italy's largest bank, UniCredit, halted trading yesterday following the rights offering. Shares were trading again today… And it's a bloodbath. As I write, shares are down around 17% (following yesterday's 15% fall). UniCredit is now at its lowest point since the bank was formed through mergers in 1998.

The market is intent on reducing the market value of UniCredit shares to match the new shares the bank offered, 3.41 euro (a 69% discount to the pre-offer price).

UniCredit's woes dragged the entire European banking sector down (and the euro, which broke $1.28)… The European banking stock index fell 1.6%. Italian banks were among the biggest losers. Spanish bank Banco Santander, the only bank that needs to raise more capital than UniCredit, fell 4.6%. Deutsche Bank, the German giant, fell 4%.

Federico Ghizzoni, UniCredit's CEO, told Italian newspaper II Sole 24 Ore he's "optimistic" the market will take up almost all of the rights offer (currently, only 24% of shareholders accepted). With such optimism, not sure why UniCredit would enlist as many as 27 banks to handle its offering. (The number of banks involved lowers the risk to any individual bank that the offer might not be taken up.) For comparison, the Federal Reserve uses only 21 primary dealers for its bond sales.

Days before the rights offer, U.S. asset management giant BlackRock cut its UniCredit stake from 4% to 1.7%. And Ghizzoni admitted other large U.S. investors have dumped. "But we still have important U.S. and Anglo-Saxon funds among our shareholders… And many have shown an interest in investing," he said.

You may have noticed a pattern throughout the financial crisis… Whenever a CEO speaks publicly to refute negative news, it's usually a lie. And Ghizzoni's track record of public statements is poor… A few months ago, he said UniCredit would only need around 4 billion euros of capital (half the amount ordered by the ECB).

While Ghizzoni is assuring markets, Italian Prime Minister Mario Monti unexpectedly boarded a plane today to Brussels, the home of the European Union. His office gave no details on whom he plans to meet or what he plans to discuss.

In August I said (in this blog) that if UniCredit fails, Italy would fail. We'd guess Monti has come to a similar realization. Now, he's going on hand and knees to beg for capital.

Difficulties that Hungary, the non-headline-grabbing European nation is facing:

In June 2010, the Hungarian forint lost about 5% against the value of the euro and about 7% against the Swiss franc. About 45% of Hungary's foreign debt is denominated in foreign currencies, so the forint's collapse impairs the Hungarian government's ability to service its debts. It costs the Hungarians significantly more forint to pay the same debts they were paying just weeks earlier.

A weak economy is undermining a weak currency, which further weakens the economy. In a rare moment of clarity and honesty, Peter Szijjarto, the Hungarian president's spokesman, told reporters, "I don't think it's an exaggeration at all to talk about a default…"

Last week, Hungary held an auction for three-year bonds. The government rejected all bids… There was no market for Hungarian government bonds. Today, Hungary tried again. The government held a one-year bill auction, which sold just $140 million… And the yield is 9.96%, over 200 basis points (a basis point is one one-hundredth of a percent) above the yield for the same maturity debt sold on December 22.

Hungarian credit default swap spreads reached a record 750 basis points today. Credit default swaps are insurance contracts that pay out in case of default. So right now, it costs a huge 7.5% more to insure Hungarian government debt than German debt, the benchmark for low risk in Europe.

And who do you think is the largest lender in Hungary? UniCredit…

Why the NDAA? Why would our leaders need this law?

2011-12-28T17:46:00.000-08:00

Just for those who don't know, the "NDAA" law is effectively eliminating personal liberties altogether isolating power within the executive branch by overriding most of our constitutional protections, including:

1. United States Constitution’s Article 1, Section 9, Clause 2 which enshrines the privilege to petition for habeas corpus;

2. United States Constitution’s Article 3, Section 3 which provides those charged with treason heightened due process protections;

3. United States Constitution’s Fourth Amendment right to be free from unreasonable seizure;

4. United States Constitution’s Fifth Amendment prohibition of deprivations of liberty without due process;

5. United States Constitution’s Sixth Amendment right to a speedy and public trial, to knowledge of the charges, to the assistance of counsel and to confront witnesses;

6. Universal Declaration of Human Rights, which the United States has signed, and which holds that “no one shall be subjected to arbitrary arrest, detention or exile” (Article 9); those who are arrested are entitled to a fair and public hearing by an impartial tribunal (Article 10), and all those charged with a penal offence are presumed innocent, and have the right to a public trial and all of the guarantees necessary for a defense (Article 11); and

7. International Covenant on Civil and Political Rights, which the United States has ratified, and which provides in article 9 (1): “Everyone has the right to liberty and security of person. No one shall be subjected to arbitrary arrest or detention. No one shall be deprived of his liberty except on such grounds and in accordance with such procedure as are established by law.”

The Government is no longer obliged to remain within its confines. What could possibly be going on within the White House, the Pentagon, and with our state of foreign affairs that could prompt such a law as NDAA? How could such a law pass so quickly and quietly in an environment of pure paralysis between the parties today? What do they know that we don't?

Some thoughts as to why -

Homeland Security is extremely fearful of civil unrest. With over 300 million guns in the hands of US Citizens a serious depression today would be much different than our grandfather's great depression of the '30s. Many experts predict the DOW to hit 3500 in 2012, 2013. (post election most likely) The "occupy" protests underway today could look like a tea party compared to the riots that Homeland Security feels might be coming. (No strange pun intended)

With regard to foreign affairs, many indicators point to war. An economic downturn would only increase the chances of war. (Our country is built to use warfare to get out of economic problems.) For the first time, a world war just might just be something that we cannot win, and some feel that if we are heading into war then we had better get started while we can still print money. Because of this potential for serious civil unrest and war, the Government is consolidating power in order to protect itself. (Not us.)

Why War?

Extremely fragile world economy. Italy and the PIIGS cannot be saved. China is completely overbuilt and their economic bubbles are bursting.

Oil from the Persian Gulf is still vital to the US economy yet US leaving Iraq, and decreasing presence in the Persian Gulf. Iran threats to block oil flows, this is serious.
China's power is now being projected in the Gulf as this oil is becoming more and more vital to China's economy. Anxiety levels are set to rise further as Beijing continues to deepen it's military footprint in the Asia Pacific region, where the US has until recently been the undisputed arbiter of security since World War Two. China isn't trying to incite, but it has no option but to seek to shore up its oil supply lines from the middle east in the straight of Malacca, the sea channel between Indonesia and Malaysia through which almost all of Asia's imported oil passes, and now possibly right through Pakistan (pipeline). The potential for conflict with the US over Taiwan means that Beijing cannot rely on American ships to police the straight for it. China needs to set down its own naval support network in the region, and it is going about this task with speed and determination. China has built over 25 new types of drones this year that we know of and they have tripled their manufacturing rate on military submarines.

China has started to implement a strategy to strengthen diplomatic and military ties with countries dotted like a "string of pearls" along the route that its oil tankers take on their journey from the middle east. One pearl is Gwadar, a Paki naval base that Beijing has created. China is all over Bangladesh (Chittagong) which is another strategic port. Myanmar gets hefty Chinese military assistance every year.

None of this means that a conflict is imminent, but it does represent a significant heightening of tensions and mutual suspicions. The Japan / China relationship is also not reconciled by any means and the NATO bombing of the Chinese embassy in Belgrade is still smoldering with many Chinese. All this acrimony, ill will, and strategic competition will one day rupture China's trading relationship with the West. Contrary to some US opinion China does not feel dependent on US consumption in the long term.

Bin Ladin knew exactly what he was doing in waiting to die in Pakistan. China is now building a pipeline right through Pakistan from the Gulf. Pakistan is aligning with China now and the US is being pushed out. The CIA is blind right due in the Middle East due to serious spy network disruptions recently.

48% Obama Disapproval (Could this law could be his nuclear option, if he can't win by election?)

Obama is positioning to become the most powerful 2 term President that has ever existed. Perhaps he and his administration feel that our government, our two party system, is broken. No more waffling back and forth on objectives after each party changing election....If we descend into a depression in his second term, he'll maintain that he must have even more power for war. Do you think he will sign this bill into law? No question in my mind.

Ron Paul

2011-12-23T15:37:00.000-08:00

"How outrageous, what a fraud… he is really a mean and nasty guy…"

The words of Arthur Levitt – the former chairman of the Securities and Exchange Commission (SEC) – used to describe Ron Paul yesterday on Bloomberg's radio show.

According to Levitt, Americans should not take Paul seriously, because, among other things, he walked out of an interview on CNN this week. That "indicates a level of instability… a kind of semi-madness." Levitt is also warning that if he's elected, even worse things will happen: "buying into an odd-ball like this, you're getting hateful, dangerous stuff." Given a chance to temper his words, Levitt tells the hosts: "I use those words specifically."

Strangely, on the same day Levitt was attacking Paul on the radio, the Wall Street Journal was attacking him in print. Dorothy Rabinowitz wrote a wonderfully slanted and scathing attack against Paul: "He is the best-known of our homegrown propagandists for our chief enemies in the world. One who has made himself a leading spokesman for, and recycler of, the long and familiar litany of charges that point to the United States as a leading agent of evil and injustice, the militarist victimizer of millions who want only to live in peace."

What, you might wonder, has these critics so exercised? Ron Paul says that the Bush administration used 9/11 as an "excuse" to invade Iraq, a war he opposed and voted against. Paul has explained, repeatedly, that he doesn't think the U.S. should be the world's police department. He believes putting our troops in harm's way all around the world causes us a lot more trouble than it is worth.

These ideas have a long and noble history in America, dating back to George Washington, who warned his successors not to become entangled in foreign alliances. Most Americans share Paul's view on this issue, according to opinion polls. But to the two Jewish commentators (Levitt and Rabinowitz), Paul's view – that we shouldn't guarantee Israel's defense (or any other country's) – is "madness." Do these detractors have the integrity to explain why their view is so slanted? Of course not. In fact, having any principles at all seems offensive to Arthur Levitt, who says of the Tea Party: "It's a piece of insanity for them to hold to their so-called principles."

I find Levitt's opposition to both Paul's and the Tea Party's dedication to principle fascinating, because Levitt built his career by being determinately unprincipled. To the public, of course, he is something of a folk hero. He pushed a new rule through the SEC in the late 1990s – Regulation FD, the so-called "Fair Disclosure Rule." The rule made it against SEC regulations for companies to selectively release information. That is, if you called up a public company and asked a question, they wouldn't be allowed to answer it, unless they were speaking to "all" investors at the same time. The SEC claimed this would "level the playing field" between big investors and small investors. (If you believe that, then there's a nice bridge in Brooklyn I'd like to sell you…)

It's a funny thing about propaganda… the bigger the lie or the more absurd the claim… the more willing people are to believe it. What Regulation FD really accomplished was a total lockdown on the amount of information public companies would give investors. The rule allows public companies to disclose next to nothing, which gives large investors (who, by the way, still have access to plenty of inside information via social networks and business arrangements) an even bigger and more complete advantage over the public.

Meanwhile, the public continues to buy public companies with the false belief that the markets are fair and honest and that the SEC protects them. Ha, ha, ha… on Wall Street, the SEC is known as the Scoundrels Encouragement Committee.

If you don't think Arthur Levitt is one of the biggest scumbags in Wall Street history, simply ask yourself why, during his tenure at the SEC, did he personally urge the FASB (the financial accounting standards board) not to implement rules that would have required public companies to expense stock options? This was the single most important issue before the SEC during Levitt's tenure. Not only did he not move the SEC to act on the issue, he applied a tremendous amount of political pressure on the FASB so that it couldn't act to protect investors. This set the stage for the horrendous stock options abuses we saw in the late 1990s and 2000s.

Stock options accounting was a black and white, non-partisan issue. As Warren Buffett said, "If options aren't compensation, what are they? And if compensation isn't on the books, where should we put it?" And yet… Levitt did everything he could to protect his wealthy backers on Wall Street, which is why, after his public career, you found him sitting in Wall Street's highest paid positions: "advisor" to Goldman Sachs… "advisor" to AIG (before it collapsed)… and board member at Bloomberg. He's nothing more than a highly paid errand boy. His attack on Ron Paul was just another errand.

There's one other big Levitt issue no one has ever looked into… As chairman of the AMEX during the 1970s, and as a major Jewish New York financier, Levitt certainly was very familiar with Bernie Madoff, who was chairman of the Nasdaq. They were in all of the same social and business circles. Madoff is alleged to have begun his Ponzi scheme during Levitt's tenure as Chairman of the SEC. I'd bet a lot of money that if you looked hard enough, you'd find that Levitt acted to protect Bernie during the SEC's investigation of his firm in the late 1990s. But nobody ever has. And nobody ever will – unless Ron Paul gets elected, of course.

None of this might matter to you. You might not like Paul, either. Or you might not care, either way, who wins the Republican nomination for president. The truth is, I don't much care, either… So why bother writing about someone attacking Ron Paul?

I'm pointing this out to you because it's so easy to see that politics in our country is a charade. There's no freedom of the press. There's no real election. The whole thing is staged to appear like democracy and freedom. The reality is, our elections are about as free as Putin's. The big money-backers of the Republican Party and the Democratic Party control everything. They own the media. They own the bureaucrats. And they own all the candidates – except for Paul. These people don't care whether it's a Republican or a Democrat who wins… because they own both political parties.

I could tell six months ago that the next presidential election would feature Mitt Romney against Barack Obama. Or, as I like to say, it'll be the white Obama versus the black Obama – the only difference is the color of their skin. In terms of their policies, who you vote for won't make any difference. And that's the only "choice" you'll get.

Ron Paul? Don't make me laugh. He will never be elected. If he wins in Iowa, you will see a level of vitriol unseen in the last 50 years in American politics. He will be called a racist. Someone will allege he sold drugs and killed people. All kinds of madness will erupt. After all, we're talking about a man who refused to accept Social Security and his Congressional Pension because he knows they're both unfunded Ponzi schemes. You can't have a man like that in the White House. It's all part of the Corruption of America.

The Euro Credit Crunch

2011-12-22T16:38:00.000-08:00

Hey, I've got a great idea. Let's fix the enormous damage done by the last housing bubble… by creating a new housing bubble!

Mortgage rates have hit new all-time lows. U.S. 30-year mortgage rates averaged 3.91% last week, according to Bloomberg. Housing starts were up the last two months, along with existing home sales. The National Association of Realtors (NAR) says the inventory of unsold properties sank to its lowest level in six years (2005 was the peak of the last bubble). The NAR also reported November sales of previously owned homes at a 10-month high.

If this keeps up, interest rates will sink to less than 3% and housing sales will soar over the next couple years. Everybody who didn't buy a house he couldn't afford the first time can get one this time.

If you want to get a good, solid feel for how bankers think, read the American Banker, a daily newspaper for the banking industry. Today's edition contains an article called "Five Ways to Improve the Banking System in 2012." None of them say, "Get the government out of the banking business," or "Abolish the Fed," or "Stop running the deposit insurance scam." Bankers know where their bread is buttered, and it's not by customers.

At the top of American Banker's list is a call for more regulations. It says the first thing to do is "define 'shadow banking' and start regulating it." Good start. Get the competition out of the way. That's what bankers do. They push more regulation to keep new competition to a minimum. There's a reason they won't let Wal-Mart into banking… It ain't to protect you.

Also on the list is "Confirm President Obama's nominees for key regulatory posts." Bankers don't merely want to stay in bed with the government. They want to have its children.

Another item on the list is to "focus on the impact of a protracted period of low interest rates." Low rates make it harder to earn a big spread. That's what banks do. They borrow short, lend long, and pocket the difference. When rates are low, they pay less, but they earn a lot less, too. Gee, it's almost like the Fed isn't taking care of its progeny. What gives?

Banking is such a fun topic. I feel like a kid whose mom allowed him to play in the mud after a rainstorm. What a great big, fun, wonderful mess!

For example, there's Royal Bank of Scotland and Blackstone Group. They're cooking up a neat little scam, which appears to be perfectly legal. RBS is selling Blackstone 25% of a portfolio of loans, described by RBS as "sub-performing." Blackstone is paying a 30% discount to face value. But RBS won't have to write down the remaining loan values by 30% because Blackstone is only buying 25% of them. So RBS is retaining majority ownership. Since ownership didn't change hands, the transaction isn't required to result in a writedown of the loans' value. How convenient. It's as though someone sat down with the rulebook and said, "How can we use this to hide the truth?"

Lloyd's pulled a similar trick by selling loans for discounts of up to 40%… but without having to write down any loan values, due to previous writedowns.

In other words, the rules are allowing these two banks to get away with lying about the value of their assets.

An even bigger scam is the European Central Bank's (ECB) offer of nearly half a trillion euros' worth of three-year loans to more than 500 stressed European banks. The banks will use the money to buy sovereign debt issues, in an effort to prop up the market. Financial Times reports one Spanish bank official described this use of the funds as "normal and natural."

In an era of one financial scam after another, central bank money-printing to buy sovereign debt is perhaps the ultimate scam. They're printing money to support the value of government paper. It's perverse.

I've been telling folks to buy Wal-Mart stock since October 2006. A year after that, I started telling them to buy World Dominators, the big, safe – and these days super-cheap – businesses that dominate their industries. Wal-Mart, Intel, Microsoft, Coca-Cola… you get the picture.

One of the great things about World Dominating businesses is that, when times are tough, they're able to steal market share from their competitors. Wal-Mart is doing exactly that… Bank of America Securities analyst Robert Ohmes recently pointed this out in a research note. Ohmes itemized seven ways Wal-Mart is beating the competition. One of them is its holiday marketing campaign, which is twice the size of last year's.

Overall, Wal-Mart is getting back to the basics that made it the world's No. 1 retailer. It's re-emphasizing its everyday low-price strategy, as opposed to the limited-time promotional pricing used by others. It's also lowering gasoline prices and once again offering the broadest possible assortment of goods on the shelf. Low prices and a huge assortment of goods were two of founder Sam Walton's original visions for the company.

By offering lower prices, Wal-Mart has revolutionized more than one industry. It put 32 grocery chains out of business by offering lower prices and larger variety. It lowered drug prices with its $4-prescription program. It's also trying to keep the banking industry from gouging those who can't afford it, by offering cheap money orders and other financial services.

Most folks probably don't know that Wal-Mart is at the heart of a revolution in the world of retirement savings and investment, reducing Wall Street's (expensive) role, and helping to diminish the role played by Social Security, 401(k)s, pensions, and other retirement programs.

HSBC analyst Garry Evans says the U.S. won't escape a European credit crunch. There's about $1.8 trillion of European bank lending in the U.S., about 12%-13% of U.S. GDP. Evans is the only Wall Street strategist to predict the S&P 500 will fall in 2012. He doesn't rule out the possibility of the European Union falling apart.

Evans says U.S. investors aren't pessimistic enough and will be more likely to sell assets in 2012. Evans cited the American Association of Individual Investors sentiment survey, where 40% of investors surveyed expect the market to be higher in six months.

The euro fell slightly against the dollar after the ECB announced its nearly 500 trillion three-year euro loan program to more than 500 European banks.

Corruption of America

2011-12-20T17:12:00.000-08:00

Some dangerous ideas that could disrupt the everyday lives of millions of people. They could cause fist fights at the family Christmas dinner. They could swing an election. And they are a huge threat to the most entrenched, parasitic institutions in the world.

A huge number of people… backed by colossal political power… want these ideas muffled. But… a small class of people support these ideas…

Which side do you fall on?

Well, if you have worked hard all of your life, perhaps built a business that has helped you take care of your family, you might come down on my side.

If you believe it's not your job to tell everyone around you what to do, you might come down on my side…

If you believe that it's not your job to financially support your neighbor, you might come down on my side…

If you think paying 50% of your annual income to various federal, state, and local government entities is onerous taxation (after all, the Almighty gets by on just 10% a year), you might come down on my side…

If you believe one of the greatest joys a human being can have is learning how to take care of himself, and engage in productive achievement, rather than depend on strangers for his wellbeing, you might come down on my side.

On the other hand…

If you're a public employee who makes more than $100,000 per year doing the same job private-sector employees are paid $75,000 to perform, you'll probably hate my ideas…

If you're among the congressmen who made millions of dollars over the past decade trading stocks based on insider information, you'll probably hate my ideas…

If you're a career professor, lobbyist, and politician who has never held a job in the private sector or managed a business… whose greatest joy is accumulating political power… you'll probably hate my ideas…

If you're one of the hedge-fund managers who made millions of dollars trading on the illegal "tip" provided to you by former Treasury Secretary (and former Goldman Sachs CEO) Henry "Hank" Paulson, during the 2008 credit crisis, you'll probably hate my ideas…

The sooner people realize what side the founders of our country would be on… which side helped America become the greatest country in the world… the sooner we can make changes for the better and save the country from an enormous financial crisis.

The problem doesn't stop in America… You're aware of the escalating European debt crisis. You're also aware that the Federal Reserve and the European Central Bank (ECB) will eventually work together on a gigantic bailout (in the trillions of dollars).

But consider these stats from Bloomberg… The ECB's balance sheet holds $3.2 trillion in assets, compared to $2.9 trillion for the Federal Reserve. And the ECB is leveraged 30 times, the same as investment bank Lehman Brothers before the subprime crisis.

Despite this huge amount of leverage, European yields are falling today… Spain sold 3.7 billion euros in three-month bonds today for 1.735%, down from 5.11% in November. It also sold 1.9 billion euros of six-month paper at 2.435%, down from 5.227% last month.

Ten-year Italian notes are yielding 6.57%, having fallen from the 7% threshold that sank Portugal, Ireland, and Greece.

This spike in bond prices (lower yields) will be short-lived… Soon, the market will wake up to the ever-increasing leverage on the balance sheet of the ECB, which the world is expecting to save its overleveraged nations.

Along with Europe, I've been following the slowdown in China. A key Chinese manufacturing index fell to 49 in November, down from 50.4 the previous month (a reading below 50 means contraction). And Chinese home prices fell for a third month in November. Construction is 70% of China's gross domestic product (GDP), so real estate is the most important sector to monitor.

Also, earlier this month, noted China bear Jim Chanos updated CNBC on the Chinese real estate bubble…

"[China] has a real estate bubble on their hands," Chanos told CNBC. And recently, a developer missed a $200 million-$300 million payment to another developer – the first hiccup. "You're gonna see more of these surprises," Chanos said.

Bloomberg reported on another indicator of China slowing down – its consumption of the world's best wines…

Asian buyers have become unwilling to pay ever-higher auction records for First Growths such as Lafite, and they also balked at Bordeaux's ambitiously priced 2010 "en primeur" campaign. The benchmark Liv-ex 100 Fine Wine Index is down 11.4 percent this year.

"It feels a lot more than that," Simon Staples, the Hong Kong-based head of sales and marketing at London wine broker Berry Bros & Rudd said in an interview. "Prices for some First Growths such as Lafite '08 have dropped off by more than 40 percent and haven't reached the bottom yet. Our clients are looking instead at Bordeaux Second Growths and the top 10 names in Burgundy."

Last October, a case of 1982 Lafite-Rothschild sold at auction in Hong Kong for a record $132,700. This year, a case of the same wine sold for $36,100.

A similar, albeit more "common," analogy in his latest issue to prove the loss of wealth and purchasing power in the U.S.

Auto sales peaked in 1985 (11 million) and have been declining at a fairly steady rate since 1999. In 2009, Americans bought just 5.4 million passenger cars. As a result, the median age of a registered vehicle in the U.S. is almost 10 years.

Data shows that real per-capita wealth peaked in the late 1960s. Guess when we find the absolutely lowest median age of the U.S. fleet? In 1969. At the end of the 1960s, the median age of all the cars on the road in the U.S. was only 5.1 years. Even as recently as 1990, the median age was only 6.5 years.

Rich people buy new cars. Poor people do not.

Euro Stimulus

2011-12-14T18:01:00.000-08:00

Last week, we noted the many failed attempts to bolster the European market and the subsequent "yo-yoing" of European stocks. If you simply sold on any good news out of Europe, you've made great returns over the past month.

But the time for half-baked euro bailouts has passed. Increasing the European bailout fund by a few hundred billion euros didn't work. Boosting International Monetary Fund capital by a few hundred billion dollars didn't work. Giving European banks access to dollars via a dollar swap line didn't work. The life span of these bailout attempts is abysmal.

Eventually, the Federal Reserve will bring out the elephant gun – its ability to print unlimited amounts of money and buy any asset it chooses. At yesterday's meeting, the Fed noted an "apparent slowing in global growth," adding "strains in global financial markets continue to pose significant downside risk to the economic outlook." We'll get an update when the Fed reconvenes on January 25. But for now, the European situation is still deteriorating…

The euro hit an 11-month low today, falling to less than $1.30. And 10-year Italian bonds reached a euro-era high of 7.09%. (Seven percent was the point at which Ireland, Greece, and Portugal failed.) If the next European stimulus effort doesn't involve trillions of dollars, it too will only be a "blip" on the stock chart.

Euro stocks -

2011-12-13T16:28:00.000-08:00

Cymax, an online vendor of furniture and home décor: "Euro-style BLOWOUT SALE!" They're selling all kinds of European-style furniture for up to 79% off.

Have European styles lost their appeal to American buyers? All my life, labeling something "European" was how you told everyone you paid more than they did, and therefore must have more money (or at least a higher credit card balance).

Certainly, European stocks have lost their appeal…

French stocks are about 26% below their 52-week highs, German stocks are down 24%. The Dow Jones Portugal Index is down about 39%, and Italian stocks are down about 36%. Spanish stocks are off about 32%.

Even at current discounted prices, it's hard to get interested in European stocks. Even before the current crisis, Europe always seemed so sclerotic and sickly, due to pervasive horrible attitudes about work and money and enormous bureaucratic waste. For example, a country like France that makes it illegal to work too many hours a week might not be a great place to buy equity in a publicly traded business.

Europe is like a spoiled rich kid. He could grow up and make something of himself, but he's got no incentive to change as long as his trust fund holds out. He won't change until he hits rock bottom. Well… now his trust fund is drying up, and he's in debt up to his eyeballs.

The rich kid's genius plan at the moment for getting his life back on track is to print his own money. That's to be expected. He's lived his whole life as though money had magically appeared and was his to spend freely. Now that the money is gone, instead of facing reality, he's looking for new magic! Trouble is, there are adults in the room, and they don't believe in magic…

German chancellor Angela Merkel thinks there ought to be some limits put on magic money-making. According to Bloomberg, the euro is hitting 11-month lows against the U.S. dollar, after Merkel rejected a proposal to raise limits on the amount of money available for bailouts. She says 500 billion euro ($654 billion) is enough.

It's strange, isn't it? Governments trash their economies by borrowing and printing, and when it all falls apart, everyone turns to them… not to chastise and censure them… but to beg for more and more of the same borrowing and printing.

video-game giant Activison Blizzard – the result of a merger between gaming companies Vivendi Games and Activision is a buy; Technology is making video games into active, online communities where people spend hours of leisure time. These communities are growing. And they are powerful, allowing publishers to increase prices and fees. That's a trend I believe will continue at the same time technology allows richer experiences and lower connectivity costs.

Technology will also allow these publishers to adopt higher-margin distribution models, where players are able to pay the publisher directly, buying the game through subscription, instead of through a retail outlet. These trends are why I'm extremely bullish on the long-term future of the video game business.

Consider this: In the five days following the company's last major game franchise release, it sold $650 million worth of the title. That's not total sales for the year – that's just five days of sales.

Activision Blizzard was trading at 52-week highs last month. It's pulled back with the market. But the latest installment of its star franchise, Call of Duty: Modern Warfare 3 (MW3), hit $1 billion in sales in 16 days – outpacing blockbuster films like Avatar and Harry Potter. MW3 also outsold the company's two previous Call of Duty games, Black Ops and Modern Warfare 2, which boasted $400 million in first-day sales and $775 million in the first five days, respectively.

Some analysts worry MW3's huge opening will translate into lower future sales. But Bobby Kotick, CEO of Activision Blizzard, told the Financial Times that sales of Black Ops (the previous installment) remain stronger than he expected due to online gaming… as Porter predicted. "Those prior releases are continuing to sell at rates higher than what we've seen previously," Kotick said. "Even though MW3 is selling faster, the thing driving the success of those games is the social experience and online play." Even at these 52 week highs, I'm very bullish on this company and this industry.

On November 21, the market realized Europe could fail. Markets plunged. And oddly, so did gold (falling almost 3%). One would expect gold to rise as central bank money-printing becomes more certain. Why gold fell: Europe is in the midst of a financial crisis. It needs money. The continent is struggling to raise funds in credit markets. But it has lots of gold. And it's selling.

While we all know the dollar is worthless paper, it's still the international medium of exchange. And when you need liquidity, you will trade absolutely anything (yes, even gold) for paper.

And that's exactly what Europe is doing. According to the Financial Times, gold dealers said banks (primarily based in France and Italy) have been lending gold for dollars over the past week. In fact, there's such a rush to trade gold for dollars that the one-month leasing rate fell to a low of -0.57% last Tuesday (meaning banks are paying more than half a percent, annualized, to trade their gold for paper).

You wouldn't expect European banks to lend gold considering the swap arrangements made by the world's major central banks. In short, European banks can trade approved collateral for U.S. dollars through a Federal Reserve/European Central Bank agreement.

The fact that despite the swap agreement, banks are trading their gold for more dollars implies: 1) They don't have enough collateral to obtain the credit they need through the central bank, and 2) To get credit in the free market, gold is one of the few things they can offer.

In addition to unloading their gold, European banks are also selling their best, most-profitable businesses to raise capital, which will hinder long-term profitability… The same thing happened during the U.S. financial crisis. For example, Bank of America sold its profitable international credit card business to raise cash.

When a crisis hits, regulators make banks increase reserves (the money held on the books to protect from losses). So banks try to sell their crap loans first (in Europe's case, Italian debt). But the market price for that debt is abysmal. So they turn to their best, most-profitable businesses… the only assets competitors will pay a fair price for.

Bloomberg reports Spain's Banco Santander sold its Colombian unit last week to Chile's Corpbanca for $1.16 billion. Deutsche Bank is considering selling the majority of its asset-management division. These divestitures leave the ailing banks with nothing but garbage on their balance sheets and less earning power. Take a look at this five-year chart of Bank of America. Shares plunged in the midst of the crisis, rebounded, then fell back near their 2009 lows (two years after we're "out of the crisis").

Throw them all out

2011-12-08T18:21:00.000-08:00

If you're long commodities like beef, sugar, or wheat, take note…

Minnesota-based Cargill says it's laying off 1.5% of its workforce – up to 2,000 employees – over the next six months. Cargill is a huge company, with $119 billion in sales and 138,000 employees in 63 countries. It's one of the world's largest producers and marketers of food, agricultural, financial, and industrial commodities.

It's also a privately held company, still in the hands of the founding families, the MacMillans and Cargills. I've been to their headquarters and I've worked with their management on more than one occasion during my career. Cargill doesn't have a stock price to worry about, unlike its publicly traded competitors – London-listed Glencore and Hong Kong-listed Noble Group. So it can afford to be more honest about the condition of its industry…

In September, Paul Conway – Cargill's deputy chief executive – said, "We are going through a long, slow, anemic, tough recovery." A Cargill press release about the job cuts said, "These actions are in response to the continued weak global economy and are part of an overall effort to reduce expenses and simplify work processes."

Trouble in paradise… Consumer technology giant Apple lost a trademark case in China.

It seems Shenzhen, China-based Proview Technology registered trademarks for the name IPAD before Apple's iPad was created. Proview tried unsuccessfully to market its own tablet computer in 2000. According to a Financial Times article, Proview trademarked the IPAD name in the European Union, China, Mexico, South Korea, Singapore, Indonesia, Thailand, and Vietnam between 2000 and 2004.

Apple tried to sue Proview over the rights to its IPAD trademark in China… and lost.

JPMorgan Chase (JPM) knows which side its bread is buttered on. JPMorgan Chase is an enormous, "too big to fail" bank. Measured by assets, it's larger than any other U.S. bank, with $2.29 trillion in assets, as of September 30. Heavy-handed financial industry regulations and accommodating central banks around the world give it an enormous competitive advantage over smaller institutions. It can easily shoulder any new regulatory burden. It's got money coming out of its ears… much of it borrowed at juicy, low rates, thanks to its pals over at the Fed.

JPM has about $354 billion in debt. Most of it – about $279 billion – is long-term debt. Interest expense last quarter was $3.343 billion. Multiply that by four, and we get total annual interest expense of around $13.4 billion. That's less than 4%… on more than $354 billion of debt. I bet your business pays more than that… probably a lot more!

JPM is a giant funny-money scheme, one you and I will wind up bailing out if it fails.

Maybe you already knew all this about JPMorgan Chase… But did you know the megabank is increasing its lending in troubled European countries? JPM has increased its European lending and trading exposure from around $14 billion on June 30 to $15.9 billion as of November 17.

JPM CEO Jamie Dimon says his company has a "battleship balance sheet." What it really has is a Federal Reserve printing press.

And let's not forget the European Central Bank (ECB) printing press. It's helping Dimon and JPM, too…

The European Central Bank cut interest rates for a second straight month, down a quarter percentage point to 1% – matching a record low. European stocks jumped on the news.

But if recent history is any indicator, stocks will give up their gains tomorrow. The European market has been great for swing traders. With every bit of good news, eager market participants – all expecting drastic measures to save Europe – bid up stocks. Then a group releases a bearish report, and stocks sell off. It's like clockwork…

Over the weekend of November 26, a rumor leaked in Italian newspaper La Stampa that the International Monetary Fund (IMF) raised a 600 billion-euro bailout fund to save Italy. Markets spiked.

The following Monday, Moody's and the Organization for Economic Co-operation and Development (OECD) released bearish reports on Europe. Markets fell.

Two days later, on November 30, world central banks colluded to provide emergency U.S. dollar loans to Europe. Markets gapped higher.

The next day, markets realized it wouldn't work… Banks will just hold the cash, not lend. Markets fell.

World central banks will print trillions of dollars to save Europe from collapsing. And until the ECB and Fed start monetizing assets on a huge scale, we'll continue to see this kind of back-and-forth action.

In the meantime, you need to own gold. While bullion is the best asset to protect yourself from currency devaluation, it's also good to bolster your portfolio with a select group of high-quality precious-metals stocks…

Buried beneath the European headlines… the U.S. House Financial Services Committee canceled a vote today on legislation banning insider trading in Congress.

Some of you may not know this, but insider trading among our politicians is perfectly legal. For example, during the heat of the credit crisis in 2008, there were plenty of closed-door meetings between Congress, Fed Reserve Chairman Ben Bernanke, and Treasury Secretary Hank Paulson.

Congressman Spencer Bachus, chairman of the financial services committee, who was at most of these meetings, was buying put options (making bearish bets) on the market.

New Hampshire senator Judd Gregg pushed $70 million of taxpayers' money toward redeveloping a defunct Air Force base. What taxpayers probably didn't know is that he and his brother have a commercial interest in this air base.

Nancy Pelosi, former Speaker of the House, received 5,000 shares of Visa stock before it became public at $44 a share in 2008. Two days later, it was trading at $64. Pelosi received this stock, despite legislation making its way through the House that would have been damaging to credit card processors like Visa. Surprisingly, this legislation never became law.

These are just some of the examples of our politicians receiving free gifts and taking advantage of insider information that would put most of us behind bars if we acted upon it.

Peter Schweizer, world famous author and research fellow at Stanford University, sheds some light on this brand of corruption in his recent book: Throw Them All Out: How our Politicians and Their Friends Get Rich Off Insider Stock Tips, Land Deals, and Cronyism That Would Send the Rest of Us to Prison.

Schweizer was recently on 60 Minutes talking about dozens of examples of how our politicians have made millions of dollars though insider trading. I was happy to hear about Blago's sentence but he'll do no more than 18 months in some Country Club prison.

Investor Confidence -

2011-12-02T18:45:00.000-08:00

The chart below shows you the price-to-book ratio of the S&P 500 over the last decade. For those of you who are new to finance… that's probably just a bunch of gibberish. Here's the decode …

The S&P 500 is a list of stocks published by the credit-ratings agency Standard & Poor's (S&P). It is essentially the 500 largest and most successful companies in the United States. This list of stocks is also commonly used as a shorthand way to reference the entire stock market. It's comprised of stocks from every sector of the marketplace and is thus representative of stocks as a whole.

The book-value ratio is even easier to understand. Book value is one simple measure of a company's net assets. It's not a perfect measure, not by a long shot. But used across a huge index of stocks, it's fine for making comparisons across time. The book-value ratio simply refers to the ratio of dividing a stock's total stock market value (the total value of all of its shares) by its book value.

This measure gives you a rough idea of whether stocks are expensive (overpriced relative to their assets) or cheap (and thus attractive for investors). The lower the book-value ratio, the better the value. As you can see on the chart below, the average book value of the S&P 500 has gone from nearly five to around two.

In the above chart, you can see that stocks were extremely expensive back in 2000. And they've been getting cheaper and cheaper ever since. You could make the same kind of chart using an earnings-per-share ratio or even a cash-flow ratio. The charts would all look basically the same. Most investors didn't realize back in the late 1990s and early 2000s that U.S. stocks were trading at multiples of net assets and earnings that the world had never seen before. That is, relative to the underlying assets and the annual earnings, stocks were more expensive than they'd ever been before… ever. So why is that important now?

Most investors have lost money in stocks over the last decade because they've been holding stocks that on average have been getting cheaper and cheaper relative to the underlying intrinsic value of the businesses they represent. Take Wal-Mart, as one example…

In 2000, shares of Wal-Mart peaked at $70 per share, when it was trading for more than 50 times earnings. Since that time, the share price has basically gone nowhere. (Today, the shares trade for a little less than $60.) Meanwhile, the value of the underlying business has soared. Last year alone, Wal-Mart produced $23 billion in cash earnings, bought back $14 billion in stock, and paid out more than $4 billion in cash dividends. If Wal-Mart still traded at a 50x multiple, the company would be worth nearly $1 trillion today, instead of "only" $200 billion.

What should matter to investors – how much the company is capable of earning and distributing in dividends – rarely does. That's why you have a great opportunity today to buy super-high-quality stocks, like Wal-Mart. People, by and large, are not going to do well in stocks until the market's average multiple begins increasing again.

That is, until investors become willing to pay a higher price for stocks, the returns on a portfolio of stocks is likely to be marginal and probably not worth the risk. Think about high-yield bonds instead. Unless you're able and willing to speculate and hedge (more on this in a moment), don't even own stocks at all.

Instead, simply hold 50% of your investing portfolio in gold and 50% in short-term Treasurys. The chart below compares the total return of the S&P 500 to the hypothetical return of a portfolio made up of 50% gold and 50% short-term Treasury bills (as represented here by the SHY ETF – a mutual fund that owns one- to three-year-duration Treasury bills). The black line (the underperforming line) is the S&P 500 – our proxy for stocks in general.

The blue line is our recommended 50/50 gold and Treasury bill hypothetical portfolio. Which would you rather have owned? The answer, of course, is simple. The gold and Treasury bill portfolio has a much higher total return (25%) and much less volatility…

Investors have been unwilling to pay up for stocks for one good and simple reason: They don't trust the current monetary system, which has suffered crisis after crisis. Investors have no way to know what's going to happen next in the world economy because the monetary system itself is so fragile right now. As a result, they're extremely reluctant to pay up for future earnings.

The stock market's average multiple – how much people are willing to pay for stocks – is a measure of investor confidence. Confidence keeps falling because the fundamentals keep getting worse. More European countries are at risk of default. America continues to run enormous, $1 trillion-plus annual deficits. Central banks around the world have begun to flee the U.S. dollar standard, turning to gold instead. There's a profound lack of confidence in America's current political leadership (on both sides of the aisle) to do anything meaningful to improve business conditions. Most investors seem to be waiting for the next shoe to drop. They are smart to worry.

The situation leaves most investors in a terrible position. They can't earn a good return in stocks because of the volatility and the gradual, but continuing, decline in the market's average multiple. The result is, even when earnings go up, stock prices don't. Most bond yields are too low to live on. And most stock dividends are, too. If you're not earning capital gains and you're not making good income from coupons and dividends… what can you do?

The unfortunate reality is that in a crisis (and yes, we're in one), the best you should realistically hope to do is protect what you have. Gold/Treasury bills. This is the best way to stay "liquid," so that you'll keep your purchasing power and have ready cash to invest when this crisis reaches its final, massive, liquidating panic.

No, I don't know when that will happen… But I know it will happen.

Ron Paul - "More fiat money is not the cure."

2011-12-01T16:39:00.000-08:00

Gosh, weren't we all smart yesterday? Couldn't you just feel the IQs soaring all around the world? All the numbers in our accounts were green when we logged in. Everything went up. What a beautiful day! We're geniuses!

The S&P 500 was up 4.3%. The Dow Jones Industrials were up more than any day since March 2009. Wonderful as it all was, for the life of me, I can't imagine the mindset of those buying in a frenzy yesterday.

I'm inclined to agree with Ron Paul, the Texas congressman who's running for president. "Fiat money caused this European crisis and the financial crisis before it," Paul said in a statement posted on his website. "More fiat money is not the cure."

I'm not sure how anyone could come to any other conclusion… which makes yesterday's rally a head-scratcher. When governments start printing, shouldn't we all sell?

Government interventions never fail to fail. But the pervasive belief in their efficacy is no mystery. It's simply human nature. The French economist Frederic Bastiat said government is the great fiction by which everyone attempts to live at the expense of everyone else. Most folks are happy to take their share of newly printed dollars.

So when central banks print money, at the obvious behest of governments, to bail out big businesses and foreign governments… the markets go euphoric, with every Ameritrade accountholder buying like there's no tomorrow, hoping to cash out soon with a big win. We'll find out sooner or later that all the big Wall Street banks were buying like crazy yesterday, too. That's to be expected. They owe their existence to fiat currency. They're like fiat currency priests, paying homage to Pope Bernanke, spreading the unintelligible Latin word to the benighted masses, who might lose the faith if they heard it in their own tongue.

Or maybe I credit the masses too much. Maybe they're faithful followers, levered to the hilt, just like the big banks. Maybe they don't merely love low interest rates and quantitative easing. Maybe an easy-money policy is their only chance of feeling rich.

That's a sad commentary, isn't it? That so many people are praying for more money to be printed, so they can have a free ride? It's like praying to go broke so you can get a relative to bail you out. Or perhaps it's more like having gone broke and badgering your relatives until they cough up a bailout for you… which you proceed to spend on iPads and iPhones.

Moody's wakes up to Europe

2011-11-28T18:43:00.000-08:00

Over the weekend, rumors abounded of a 600 billion-euro International Monetary Fund (IMF) bailout for Italy. Italian newspaper La Stampa reported the "news"… which the IMF quickly denied. "There are no discussions with the Italian authorities on a program for IMF financing," an IMF spokesperson said.

La Stampa claimed the IMF could loan Italy the money at 4%-5%, giving the country 18 months to solve its problems (current yields are greater than 7%, the level that triggered bailouts for other European Union countries).

However, subsequent reports from both Moody's and the Organization for Economic Co-operation and Development (OECD) reversed the brief, bullish sentiment surrounding Europe…

The major credit-rating agencies are lagging indicators. These companies, though their job descriptions would indicate otherwise, are perpetually "the last to know." Regardless, the market still heeds their advice.

"The continued rapid escalation of the euro area sovereign and banking credit crisis is threatening the credit standing of all European sovereigns," Moody's said. "While the euro area as a whole possesses tremendous economic and financial strength, institutional weaknesses continue to hinder the resolution of the crisis… The euro area is approaching a junction, leading either to closer integration or greater fragmentation."

The report concludes, "The probability of multiple defaults by euro area countries is no longer negligible. A series of defaults would also increase the likelihood of one or more members not simply defaulting, but also leaving the euro area."

Meanwhile, the OECD report called Europe "the key risk to the world economy." To summarize, this report called for central banks to print more money.

So far, one major European bank, Dexia, has failed. Our bet is UniCredit, Italy's largest bank, is next. European banks are being shut out of the credit markets. And they will have no way – barring government intervention – to refinance the bad debt on their balance sheets.

Much of the funding for Europe's banks comes from U.S. money-market funds and the interbank market. Only about 54% of their capital comes from their customers. A large amount of their capital – 33% – comes from sources that would transmit the crisis to America. The wholesale credit market in Europe comes from U.S. money-market funds. Europe's interbank market touches major U.S. money center banks. How will American creditors respond to the crisis?

By the end of 2012, Europe's banks will have to refinance more than $8 trillion in wholesale funding, mostly from U.S.-based money market funds. What if the crisis in Greece spills over into European banks? Will these lenders be willing to lend into a crisis, where there's so little equity remaining in the books and so little political confidence in the European Central Bank?

My bet is no.

European banks have sold $413 billion in bonds this year. That's only two-thirds of the $654 billion in bonds that will mature this year, leaving banks with a $241 billion funding gap… This is the first time European banks haven't been able to roll over maturing debt in at least five years. Next year, $720 billion of bonds will mature.

If the market won't fund these banks, who will? We all know the answer is the European Central Bank (ECB), the Federal Reserve, and the world's other major central banks. They will provide a flood of cash larger than we've ever seen – even larger than the subprime crisis. Somebody should explain this to Italy…

To spur demand for its ailing bonds, the Italian Banking Association (IBA) launched its "buy a bond" program today. The purpose of the program – known as BTP Day – is to "give Italian citizens a clear sign of commitment to the country," according to an IBA spokesperson.

Calls for citizens to give their governments money as a show of patriotism makes me sick. It's no secret that governments steal. But when they try to coax their constituents into giving them money – especially in return for debt instruments they know to be garbage – it's a whole new level of sleaze.

In case the Italian government alone can't convince the people to buy bonds, it's enlisted the help of the Italian national soccer team. "Some of us are selected to play for Italy, but all of us support our country and above all, we believe in its strengths," said former national soccer player Damiano Tommasi, now head of the Italian footballers' association. "That's why we are joining BTP Day on Monday."

Italy is auctioning 8 billion euros of bonds tomorrow. We'll see how the initiative performs.

Mohamed El-Erian, co-CEO of bond powerhouse PIMCO, wrote a good piece on Europe for CNBC. He discussed the ailing European nation's recently inverted yield curves, when short-term debt is yielding more than long-term debt…

Curve inversions are often seen as indicative of a potential tipping point – when market perceptions of a liquidity problem risk turning into self-fulfilling solvency concerns. As such, there is nothing good associated with last week's curve inversion in Italy, the third largest bond market in the world.

With the two-year interest rate on Italian bonds surging towards 8%, the yield differential with the 10-year ended the week at an inverted 60 basis points. Judging from what has happened in other European economies (namely, Greece, Ireland and Portugal), a prolonged inversion would materially increase the risk of Italy losing market access and having to seek a bailout.

El-Erian also noted deterioration in Europe's core countries. The yield on German 10-year bonds jumped 30 basis points (bps) to 2.26%. And the French five-year credit default swap – insurance against default – widened 28 bps to 250 bps… a 74 bps increase this month alone.

As these problems worsen, even core European nations won't be able to borrow. Money will leave the entire region. This is a trend not even the Italian soccer team can reverse.

To repeat once more, own gold and silver bullion (not exchange-traded funds). Gold and silver are both up today in anticipation of new bailout measures.

You may also want to consider buying discounted corporate bonds.

"Junk bonds," another name for discounted corporate bonds, are on pace to outperform U.S. equities for the fifth year in a row… Since October 2007, junk bonds have returned 34%. Meanwhile, the S&P 500 dropped 19%. That's an incredible outperformance.

As global economies continue to melt down, more money will leave equities for bonds. After all, most people who buy bonds will stop buying stocks altogether.

The number of central banks easing credit is the most since the third quarter of 2009, when 15 cut interest rates. Today, the U.S., U.K., ECB, and eight other nations have "quantitatively eased" in the past three months. JPMorgan forecasts six more countries, including Mexico and Sweden, will cut rates by the end of March 2012.

Buffett today - "The survival of the European Union is in doubt now."

2011-11-21T20:05:00.000-08:00

Today, the market also realized the possibility that Europe, as we know it, could collapse. The Dow dropped more than 200 points. The yield on 10-year Treasurys dropped nearly 3% to 1.96%. And gold, an asset you would expect to rise today (all of Europe's problems are signaling a massive capital injection), fell nearly 3% to $1,674 an ounce.

The reason for gold's fall? Europe is in the midst of a financial crisis. It needs money. The continent is struggling to raise funds in credit markets. But it has lots of gold. And it's selling.

We often ridicule sovereign wealth funds, the huge investment funds controlled by governments. They're among the worst investors in the world. We've documented their follies for years. For example, a Chinese sovereign wealth fund paid $3 billion for 9.7% of Blackstone Group in the initial public offering. That stake is worth around $600 million today. In 2008, state-owned Dubai World paid $5.1 billion for nearly 10% of MGM Mirage. The stock was trading at $84 a share. Today, MGM trades below $10.

At least those two investments are still worth something… The Libyan sovereign wealth fund is about to make an investment that is surely worth nothing. According to UniCredit Chairman Dieter Rampl, Libya is interested in the bank's 7.5 billion-euro capital raise… "UniCredit is working to take the necessary steps to allow the Libyan shareholders to take part in the capital hike," Rampl said at a conference today.

UniCredit also raised money from Libya in 2008 after suffering losses from mortgages. (Shares were around 5 euro… They're 73 cents today.) Between the Libyan Investment Authority and the Libyan Central Bank, the country owns 7.2% of the bank. We don't know what's dumber… That Libya wants to invest more money in UniCredit, or that the bank's chairman is bragging that Libya wants to invest.

Warren Buffett also made bearish comments on Europe today… "The system as presently designed has revealed a major flaw. And that flaw won't be corrected just by words," Buffett said on CNBC. "Europe will either have to come closer together or there will have to be some other rearrangement because this system is not working." He said the survival of the European Union (EU) is "in doubt now."

Buffett understands how disastrous a European collapse would be for his business (and the entire world). He has direct exposure to the European credit markets through his $3 billion stake in reinsurance company Munich Re. He's also sold puts against European equity indexes. It's in his best interest for the world governments to fire up the printing presses.

But Buffett wasn't the most bearish commentator today. Credit Suisse issued a report on the state of the EU…

We seem to have entered the last days of the euro as we currently know it. That doesn't make a break-up very likely, but it does mean some extraordinary things will almost certainly need to happen – probably by mid-January – to prevent the progressive closure of all the euro zone sovereign bond markets, potentially accompanied by escalating runs on even the strongest banks.

The increasingly bearish European comments from major banks and investors are simply a call to the European Central Bank to monetize. We'll see that happen soon.

When the governments do decide to bail out Europe, we will see one of the largest government interventions in history (trillions and trillions of dollars).

UniCredit nears collapse...a warning here

2011-11-19T12:07:00.000-08:00

The risks from the crisis that's been brewing in Europe for more than two years are HUGE.

Most of Europe's major banks are insolvent. But only in the last week have they lost most of their access to additional funding. Their key source of funding has been U.S. money-market funds. But these funds are bailing out of Europe as quickly as they can. The result is a run on Europe's banks. This crisis is now past the point where the authorities can hope to control the situation. We are now days (not weeks or months) away from the first major bank failures.

Italy's UniCredit, one of Europe's largest banks, will be the first catastrophic bank failure there.
Here's the problem with UniCredit. It holds more than 1.2 trillion euro in assets. But it only has 74 billion euros in equity. That includes nearly 24 billion euros in things like goodwill and tax losses – intangible equity that can't be traded or sold… things that are only really equity in the minds of accountants.

When you do the math, you discover that UniCredit is leveraged 24 to 1. That's risky enough. But when you understand what it owns – piles of European sovereign debt that's all going to have to be marked down substantially – you can see the fundamental problem. At 24 to 1, an average loss severity of only 4.1% wipes out the bank.

I'd estimate a fair evaluation of UniCredit's books will show an average loss severity of at least 10%, which implies actual losses of more than 100 billion euros. These are Fannie Mae- and Freddie Mac-sized losses. And Italy, which is already the world's third-largest sovereign borrower, doesn't have the money to bail out the bank.

Now, here's the really bad news… Out of all the major European banks, UniCredit has the highest amount of bonds coming due next year (2012) – 51 billion euros. Currently, its bonds are trading on the market at prices equivalent to four notches below investment-grade and eight notches below its official Moody's A2 rating. This is a very serious problem. The bank cannot operate without an investment grade credit rating. Nor can it possibly refinance the 51 billion euros. Compounding matters, the bank took a 14.3 billion euro loss in the most recent quarter that Bloomberg called "surprising." Surprising to whom?

UniCredit has clearly reached the point where private investors will no longer provide financing. Its bonds are now trading at prices that indicate an eight-notch reduction in credit rating – prices at which the bank cannot hope to operate profitably. To raise desperately needed capital, it has organized a huge equity offering. The problem is, if investors won't buy the bank's bonds, why would they buy its equity, especially when so much of it is probably completely inflated in value?

The problems at UniCredit have already spilled over into the entire European interbank funding market. An unnamed bank executive in Europe told Reuters this week that "the market for unsecured funding with maturities that go beyond two years is literally dead." Given that Europe's banks can't presently fund themselves without government support… you should view the exit of the U.S. money-market funds as a run on Europe's banks. This crisis is very much underway.

Even with these facts in the market, most people – U.S. investors in particular – don't seem to understand this coming crisis will be much, much worse than the Lehman Brothers failure. We're not talking about the failure of a single bank – though it seems more and more likely that a single bank (UniCredit) will be first – we're talking about the failure of an entire system, the largest system of credit and banking on Earth.

These problems and Europe's inability to deal with these losses will have a huge impact on the world's economy and the U.S. financial system. Europe's banking system holds 55 billion euros in assets. That's the same size as the total debt (public, private, corporate) in the entire U.S. economy. Europe's banking system is four times larger than the U.S. banking system. And it is stuffed to the brim with sovereign debts that will never be repaid. This isn't a crisis… It's a catastrophe.

The main way these problems will spread to the U.S. is through money-market funds. As of September, 37% of the $1.5 trillion in U.S. money-market funds was invested in European bank bonds and CDs. Even though that's down from 51.5% in May, it still leaves more than $500 billion of U.S. assets in Europe's banks. The Federal Reserve cannot allow U.S. money-market funds to lose $500 billion. It cannot allow Europe's entire economy to collapse. Whatever the other risks – inflation, a panic out of euros and dollars – anything will be tolerated except a complete collapse.

I can't say when these problems will come to a head. But I do know how – painfully. Thus, all I can advise you to do is to be incredibly cautious. Wait for the volatility that's coming. I am 100% certain you will have vastly better opportunities to buy great assets and great businesses in the next several weeks or months.

My other core recommendation is for you to own plenty of gold (and silver) bullion. Total central bank gold purchases in the third quarter more than doubled over the same period last year. This is the world fleeing to gold. This is the death of the U.S. dollar as the world's reserve currency. It's happening right now. And that means it will get more and more expensive for you to move out of the dollar. Don't wait.

I have warned that large-scale civil unrest would happen – not just in Europe, but in America, too. We've seen massive public protests in nearly every major U.S. city – and it will continue to get worse.

And about a year ago, I began to warn the public that the world would flee to gold and the dollar would lose its privilege. Since that time, central bank buying of gold has soared… And America's major creditors have issued warning after warning about the debasement of our currency. Our debts cannot be financed legitimately and the Fed would attempt to paper over our obligations. Since that time, we've seen the second round of quantitative easing (QE2) and now operation "twist."

These problems will destroy our currency and threaten our way of life. It won't be me or my family standing in the back of a huge line at the coin shop, after gold has tripled and there's no way to buy anything you need without it. Don't let your family end up in that position, either.

New 52-week highs (as of 11/17/2011): None.

Contagion Spreading

2011-11-16T06:04:00.000-08:00

The marketplace is saying that this is not just an Italian problem, this is now becoming a European problem," Larry Fink, CEO of BlackRock, said on CNBC yesterday. "Liquidity is vanishing."

We all know the Europe situation – too much debt, soaring yields, and fragmented leadership. But it's worth noting the opinion of the CEO and chairman of the world's largest asset manager, with $3.3 trillion under management.

Fink noted the divergence of triple-A-rated European countries from the benchmark German bund. The spread between the bund and debt from Norway and the Netherlands moved 20 basis points (bps) in one day – the biggest moves in history. Fink also said you need to watch France, the European Union's other supposed iron-clad credit. In the midst of the subprime crisis, France was trading 10-20 basis points off Germany. Today, the spread jumped 23 basis points to 187.9 bps, an all-time record.

Italian 10-year debt hit 7.07% yesterday, then dropped below 7%. Spanish 10-year yields increased 19 bps to 6.22%. The euro dropped below $1.35 – an important benchmark.

While everyone is focusing on Italy today, Fink warns the markets should focus on other countries… the next shoes to drop. With these soaring spreads, we won't have to wait long…

Executives of publicly traded companies are notoriously bad capital allocators. They overpay for companies. They make purchases using stock when it's undervalued. They pay cash when the stock is dear. And they repurchase shares at the worst times.

It's no surprise that today, U.S. companies are buying back shares at the highest rate in four years. A Bloomberg report attributed the purchases to companies "taking advantage of record-high cash levels and low interest rates to purchase equities at valuations 15% cheaper than when the credit crisis began." Companies have authorized more than $453 billion in repurchases this year, putting 2011 on track to be the third-highest annual total behind 2006 and 2007. Do you remember what happened after 2007?

"If the corporate community really agreed on the idea [that] we're heading to a recession, they wouldn't be buying back their stock," James Paulsen, chief investment strategist at Wells Capital Management, which oversees about $333 billion, told Bloomberg. "That says something about their expectations. That's a testament from CEOs, corporate managements saying they are way undervalued and they have a positive outlook on the future."
You're either contrarian or a victim. We know which camp Paulsen falls into.

Gold is real money

2011-11-09T18:59:00.000-08:00

The market wants Italian Premier Silvio Berlusconi out… When the European Union (EU) pressured Berlusconi to present a turnaround plan for Italy, he balked. "No one in the EU can nominate themselves as special administrators and speak in the name of elected governments and the European people," Berlusconi said. "No one is in the position of giving lessons to his partners."

After more pressure, Berlusconi recently pledged to resign after the Italian parliament passes financial reforms. However, the market is wary of what will happen before then. (The process can take up to two weeks.)

Italian bond rates soared to a new high of 7.4%, up 0.82% from the previous day. (Greece and Portugal were bailed out after borrowing rates reached 7%.) Commenting on the world's third-largest sovereign borrower, Barclays said, "Italy is now mathematically beyond the point of no return."

Shares of Italian bank UniCredit, a bellwether for European banks, are down 8% today to $0.74.

Europe's troubles are making a "slam dunk" bet of shorting the euro (depreciating paper money) versus gold (real money) a big winner. The euro is getting crushed today, while gold is rising in value.

The chart below displays the price action in this trade. It displays gold in terms of the euro. Gold is close to breaking out to a new all-time high versus the euro. It should be a matter of weeks or months before it reaches this new high.

As gold soars to new highs against the euro (and eventually the dollar), it's important to keep one major thing in mind…

Governments hate gold. They will soon take steps to make it more of a hassle to acquire, transport, and store. They might even, as some suggest, try to tie the idea of gold to terrorism.

The idea might be farfetched, but a desperate, bankrupt government is like a dangerous, bankrupt man. Its capacity for surprising stupidity should not be underestimated.

Why do governments hate gold, you ask? It's simple.

Gold is the "anti-paper currency." Unlike paper currency, gold has real "inherent" value and cannot be created on a political whim. In contrast, paper money has no real value… beyond the faith society puts in it. People must have faith that the money will remain relatively stable in value over time. They must TRUST the money.

Governments around the world exploit that trust to commit a huge fraud against their people. The fraud is that a government can spend incredible amounts of money, take on unlimited entitlement obligations, and support a bloated military empire without bankrupting itself and impoverishing its citizens.

Governments hate a soaring gold price because it alerts the world that their massive spending and borrowing plans are out of control. A rising gold price unmasks how all their campaign promises, bailouts, handouts, loans, wars, and entitlement programs constitute a huge fraud.

That's why the current set of political leaders – from the socialists in Europe to liberal East Coast Democrats to red state Republicans – will do everything in their power to keep citizens believing in paper money.

And since gold is "real money" – with real, intrinsic value – that has been used for thousands of years, it represents a tremendous threat to political elites like Barack Obama, John Boehner, and Nancy Pelosi.

Italy cost of borrowing at 7%

2011-11-09T07:16:00.000-08:00

We're all reading about Italy's cost of borrowing today at 7.00% yikes. Germany's cost of borrowing 1.73%, the US 2.1%. Bailout time for Italy. But much more money at stake with Italy than with Greece, Ireland, Spain...Europe's in trouble. The problems stem from trillions of dollars in European sovereign bonds plaguing the banks' balance sheets. When the euro was formed in January 1999, regulators wanted to develop the sovereign debt markets and promote tighter economic integration across Europe. To encourage banks to buy sovereign debt, they adjusted the reserve requirements for holding these bonds… Banks didn't have to set aside any capital to protect against potential losses in sovereign debt. In other words, the banks could lever up.

From January 1, 1999 – when the euro was launched – until the peak of the 2000s credit bubble, total European sovereign debt on the balance sheets of Europe's banks rose from around 2 trillion euros to more than 3.3 trillion euros – an increase of over 50% in about seven years. Europe's banks also heavily invested in other highly rated securities – like the triple-A-rated mortgage securities from American investment banks that contained highly dubious collateral, like subprime mortgages.

Again, European banking rules allow much higher amounts of leverage to be used when investing in these supposedly "safe" triple-A-rated assets. The combination of regulations favoring sovereign debt and triple-A-rated assets was a disaster. Regulators completely ignored the huge increase in leverage that resulted from the risk-based capital rules.

According to a recent study by Credit Suisse, 16 top European banks hold a total of about $532 billion of questionable U.S. commercial real estate loans and subprime mortgages… That total exceeds the combined value of the Greek, Irish, Italian, Portuguese, and Spanish debt held by the same banks at the end of last year. And unlike the U.S. banks, which have reduced these assets by about 80%, European banks have only halved their holdings.

How big a problem is this for the banks? To find an answer, look at Deutsche Bank, Germany's largest bank. Deutsche holds 2.9 billion euros of U.S. residential mortgage assets. And it has 20.2 billion euros of commercial mortgages and whole loans. That's approximately 150% of Deutsche's tangible equity. Remember, this does not include its European sovereign debt holdings.

But Deutsche Bank says it won't be an issue, as it plans to hold these assets to maturity. We've heard that one before…

We know global central banks will work together to paper over Europe's problems. But what about liquidating real assets, perhaps some gold, to help fund the bailout?

"German gold reserves must remain untouchable," Germany's Economy Minister Philipp Roesler said today. Roesler – the head of the Free Democrats, a partner of Chancellor Angela Merkel's coalition – squashed calls from France, the U.K., and the U.S. for Germany to use gold reserves as collateral for the bailout. He also negated calls from the G20 – the gathering of finance ministers from 20 of the world's leading economies – for Germany to post its gold as collateral.

"Germany's gold and foreign exchange reserves, administered by the Bundesbank, were not at any point up for discussion at the G20 summit in Cannes," he said.

One of the world's economic powers is willing to print euros to save its continent, completely debasing its currency, but unwilling to sacrifice an ounce of gold. The irony is not lost on me.

2011-10-24T18:46:00.000-07:00

It's no surprise to my friends that I'm bearish on the U.S. Treasury and the debt instruments it issues. The U.S. is broke. We have a $1.3 trillion budget deficit. The current 2.2% yield on 10-year Treasurys is unsustainable. The government's irresponsible money printing will eventually lead to higher yields.

The good news is, after a 30-year bull market in bonds (lower interest rates every year), most people don't believe higher rates are possible. Incredibly, despite the actions of our Federal Reserve, many investors still actually believe deflation is a real possibility.

Due to my beliefs that interest rates will rise and the government is broke, I recommend avoiding U.S. Treasurys… in any form. Fourteen years ago, the Treasury issued Treasury Inflation Protected Securities (a security whose principal increases and decreases with inflation). But these are a farce. The government controls the official inflation numbers, and therefore controls the price of your "TIPS." On the topic, I pose the following question…

Would you loan money to a friend at a floating interest rate and give him full power to set that interest rate? Your answer, I hope, is no. The government hopes otherwise… For the first time since it offered TIPS, the Treasury is considering offering a new security – floating-rate notes. Officials are scheduled to meet with the 22 primary dealers – including banks like Goldman Sachs and JPMorgan – to discuss the new issue on October 28. In theory, a floating-rate Treasury is wonderful. It would offer the safety of a Treasury bond and protection against inflation. But this is only in theory… Just like with TIPS, the government sets short-term interest rates. Our bet… these new issues won't pace the real inflation.

One month into his presidency, Obama created the Home Affordable Refinance Program (HARP), which lets borrowers with less than 20% equity in their homes refinance if Fannie and Freddie back their loans. It was a failure. So far, only 894,000 borrowers have used it. But now, Obama's bringing it back with some important changes…

Soon, everyone will be able to refinance and pull more cash out of his home. The main "enhancement" to HARP removes the current 125% loan-to-value ceiling for fixed-rate mortgages backed by Fannie and Freddie.

It failed once, and I bet it will fail again. HARP doesn't address the issue that nearly half of all borrowers are underwater. While their payments will be lower, they still owe more than the house is worth. And they won't pay.

The Euro Crisis and our depression -

2011-10-23T21:12:00.000-07:00

European leaders are meeting this week to deal with growing debt problems rattling investors worldwide. Here is a NY Times visual guide to the crisis:

NYTimes Euro Debt

Here at home our US standard of living is falling at a faster pace today than at any time since the Great Depression. Specifically, the real median income is down 9.8% since the fall of 2008. Additionally, Americans have lost roughly $5.5 trillion in asset value, or about 8.6% of their wealth.

When you talk about a depression, what you're really talking about is a collapse in the standard of living. That's what's happening today, right now, in our country. But people continue to go about their lives as though nothing is happening. Certainly, our politicians don't want to draw attention to the problem. Instead, they are behind the campaign to "paper over" these losses with schemes like "quantitative easing."

These schemes do nothing to make our economy more productive. They're designed instead to make prices rise so people (hopefully) won't notice how poor they're becoming.

The government's efforts to paper over our bad debts won't work. And they won't work for two primary reasons…

First, soaring levels of high-powered money (like the Federal Reserve's asset base) will eventually cause prices to rise. That means the savings of millions of Americans – and the value of their wages – will fall in real terms. That's exactly what's happening. That's why our standard of living is falling so precipitously.

Second, the impact of this inflation and the uncertainty about its impact on the economy will cause entrepreneurs and corporations to delay or cancel major capital investments. That's the primary reason we have yet to see any rebound in employment.

The best way to see what's really happening in our economy and to our standard of living is to look at the value of the stock market through a sound-money lens. You can pick whatever sound money you like. Of course, most people won't ever do this… It would never even occur to them that the dollar is not sound and that it's distorting the value of everything in our economy.

Here's the real situation in America:

That's what the S&P 500 looks like when you price stocks in ounces of gold instead of in U.S. dollars. You'll see we are now below the lows we saw in 2009. Unfortunately, few people understand this… They've never thought about it this way before. And as a result, they're simply not doing enough to protect themselves.

They don't know this is what's really happening, because Washington keeps papering over these problems with more borrowing and more printing. But you can't solve a debt crisis by going deeper into debt. You can't reverse inflation by printing more money.

Fiat paper money is a crime.

It allows politicians to rob creditors to bail out debtors. It's a tool that's used to take value away from savers and give it to reckless borrowers. It's how both political power and economic power remain vested in Washington D.C.

Now… the politicians and their backers on Wall Street will swear up and down that their policies and the actions of the central bank (which has more than doubled its assets via nearly $3 trillion of asset purchases) aren't causing the inflation. It's as if, in their minds, printing trillions of dollars in new money has no impact on our economy.

It's simply a lie.

But that's not the worst part. The worst part is all that new money will end up in the hands of the people who caused this crisis in the first place.

As an example below, you'll find a chart of Genworth Financial. It's a mortgage-insurance/life-insurance company. It was spun out of GE Capital during the midst of the 2000s financial boom.

Without the bailout of the financial system, via $700 billion in TARP money and more than $2 trillion in quantitative easing, there's no doubt that Genworth would have gone bust because of losses in its mortgage-insurance unit. But that's not what happened. Instead, Genworth Financial became the No. 1-performing stock in the U.S. from the spring of 2009 until the spring of 2010.

It held on to those gains as long as the Central Bank continued its quantitative easing policies. And when QE finally ended in the summer of 2011… guess what happened to Genworth? I bet you can guess without even looking at the chart.

Paper money took the biggest loser, the company that had made the worst bets with the most leverage… and turned it into the biggest winner… at least, temporarily. For this, we all paid a massive, invisible tax: the largest decrease in real wages since the Great Depression.

This isn't how America should work. The rich and the powerful in New York and Washington D.C. shouldn't have the right to impoverish the rest of us simply to bail out their backers and their cronies.

Sooner or later, our creditors and the American people will wake up to what's happening to our money. And they will be furious. What's scariest to me is to see how this anger is manifesting itself in the Occupy Wall Street movement. These folks are blaming capitalism for these kinds of problems. But this has nothing to do with capitalism. Paper money was Marx's idea. But try explaining that to any of those folks…

What's happening to our country is a crime. The ramifications of these kinds of manipulations will be decades of mistrust and social unrest. Unfortunately, this is a long way from being over. The price inflation that will inevitably result from the Fed's actions of 2009, 2010, and 2011 are only now beginning to manifest. The worst is yet to come. And it's going to be a lot worse.

Policy makers lacking conviction and courage

2011-10-13T18:26:00.000-07:00

In the aftermath of the Lehman crisis, policymakers broadly did the right thing. The result was not a rapid return to prosperity in the West, but after such a big "balance-sheet" recession that was never going to happen. Now, more often than not, policy-makers seem to be getting it wrong. Their mistakes vary, but two sorts stand out. One is an overwhelming emphasis on short-term fiscal austerity over growth. Fixing that means different things in different places: Germany could loosen fiscal policy, while in Britain the reins should merely be tightened more slowly. But the collective obsession with short-term austerity across the rich world is hurting.

The second failure is one of honesty. Too many rich-world politicians have failed to tell voters the scale of the problem. In Germany, where the jobless rate is lower than in 2008, people tend to think the crisis is about lazy Greeks and Italians. Mrs Merkel needs to explain clearly that it also includes Germany's own banks - and a Germany that faces a choice between a costly solution and a ruinous one. Here in America the Republicans are guilty of outrageous obstructionism and misleading simplification, while Mr. Obama has favoured class warfare over fiscal leadership. At a time of ENORMOUS problems, the politicians seem Lilliputian. That's the real reason to be afraid.

Comments from Doug Casey on world debt crisis -

2011-09-29T06:24:00.000-07:00

"The cure for [U.S. debt crisis] won't prevent the train wreck – it's way too late for that. I'd just like to save the next generation from having to work as maids and houseboys for the Chinese. It's necessary to let the market correct the politicians' mistakes and liquidate decades of malinvestment and other distortions in the economy. Interest rates should go back up to 12-14%, or whatever level the market finds will reward prudent savers and punish borrowers. As we've discussed, I would privatize the military, but I know that'll never happen. So I'd cut military spending 90%, close all foreign bases, stop covert operations, and end all foreign aid.

Regulatory agencies like the SEC, FDA, HUD, USDA, DOE, OHSA, FAA, EPA, etc. should be abolished and salt sowed in the ground where their ashes stain the land. The Fed should be abolished and gold freed to function as money again – that one will happen, one way or another.

The national debt should be overtly defaulted on for numerous reasons, including punishing those who lent money to an unethical government, but more importantly because it's unethical to mortgage future generations and turn them into indentured servants."

The full interview here - Doug Casey

PIIGS update and GE

2011-09-13T16:14:00.000-07:00

The markets now believe Greece has a 98% chance of default. (Add 200 basis points, and you'll have what I think is the real number.) Borrowing costs – which the "PIIGS" (Portugal, Italy, Ireland, Greece, and Spain) already can't afford – are rising. And the euro is tumbling. This is bad news for any company holding loads of European sovereigns.

The European banks which I recommended shorting, are getting crushed. But you may not realize the problem also hits much closer to home. One of America's most iconic companies could collapse…

General Electric owes its creditors $600 billion. That huge amount of debt is offset by $468 billion of investments and cash. However, much of those investments are credit-card receivables and Eastern European mortgages. The business, which no longer focuses on manufacturing, is dependent on credit markets.

Again, GE would have collapsed if it didn't get a government bailout. (The U.S. government guaranteed all of GE's debts through 2012 for free.) It can't afford its debt at current, manipulated interest rates… much less at the rates the company would pay without a government guarantee…

Right now, if GE put 100% of its cash from operations into debt repayment every year and its earnings stayed at 2010 levels, it would take 16 years to pay off its debts. It would take at least a decade to pay down its debts to a more manageable level. No question, if GE were being managed prudently, that's what it would do.

GE holds about $40 billion in tangible equity. I believe its European mortgage losses are likely to be at least this large over the next five years, which means, at some point soon, GE could be going to the market for new equity. If that happens, the company's share price will probably fall in half.

Why run the company this way? Because the managers know GE is too big to fail. They're not running the company as though they actually own it. They're simply running it to maximize their own compensation. If it fails, it fails. The stockholders will get wiped out and the government will bail out the creditors. In the meantime, GE's managers are trying to get rich. They want to keep the company as leveraged as possible. They don't want to repay debts. They want to maximize the company's ability to borrow.

General Electric closed at a 52-week low of $15.01 yesterday.

One day after Italy's borrowing costs soared (Italian 10-year debt yields hit 5.571%), the nation auctioned off as much as $10 billion in bonds. Italy is raising money in the midst of a European panic. It's desperate… The country has 14.5 billion euros of debt due September 15. The only problem… Who would lend Italy money for 10 years at less than 6%? According to the Financial Times, which released the report one day before the auction, "unidentified Italian officials" say the Chinese will buy debt.

Meanwhile, Italian economic minister Giulio Tremonti – in a moment of honesty uncharacteristic of any politician – said the Chinese are hesitant to buy Italian debt because the European Central Bank isn't buying. Who would you believe?

Deleveraging Bank of America

2011-08-31T16:40:00.000-07:00

Last April, Goldman Sachs settled with the SEC for $500 million over the synthetic collateralized debt obligation (CDO), Abacus. The mortgage lawsuits would get worse and they did, and they will.

The SEC alleged Goldman sold investors a CDO without disclosing that hedge fund Paulson & Co. helped design the CDO and was shorting it! Buyers of the Abacus CDO (ACA Financial and German bank IKB) lost nearly $1 billion as mortgages plummeted. A synthetic CDO, by definition, must have someone on the long and short side. It is simply a bet on the direction of a pool of underlying mortgages. The buyers (huge financial institutions) should have known an investor was taking the other side of the bet!

The Goldman lawsuit was just the beginning. Once the investigations moved on to CDOs containing real mortgages, we'd see real damage…

Now, it seems clear in suing Goldman about this issue – a case involving a synthetic CDO that the regulator will probably lose – is simply raising a red herring. Left unexamined is the much larger issue: the extraordinary amount of fraud in mortgage underwriting between 2004 and 2007.

The real fireworks will come in the investigations over CDOs containing bona fide mortgages. These vehicles were completely riddled with fraud and insider dealing. Then, almost half of them were sold to Fannie and Freddie, now owned by Uncle Sam.

When you defraud the sovereign, watch out. The fines are going to get a lot bigger… Morgan Stanley might not survive. Interestingly, the amount of fraud in the mortgage security industry means it's unlikely the insurance on these bonds will remain in force. And that means the $30 billion or so of implied losses that mortgage insurer MBIA faces may never be paid out. That's a big number for a stock with a current market value of only $1.35 billion and assets of $25 billion.

In June, Bank of America announced it would pay $8.5 billion to settle claims from investors who lost money on mortgage-backed securities they bought before the crash. A group of investors (including giants like BlackRock, PIMCO, and MetLife) alleged mortgages they purchased from Countrywide (which Bank of America bought in 2008 for $4 billion) were filled with loans that didn't meet the stated quality standards. The investors also alleged Countrywide didn't keep accurate records of the loans.

Yesterday was the last day to file objections to the Bank of America settlement. And there's a long list of objectors. Goldman Sachs said the settlement lacks enough information to prove all "similarly situated" investors were treated equally. The Federal Housing Finance Agency, which regulates Fannie Mae and Freddie Mac, are also objecting to the settlement… as are dozens of other mortgage investors.

Why the objections? Well the objectors also took huge writedowns on mortgages they purchased from Countrywide. And they want a higher recovery.

This week, U.S. Bancorp, a trustee for a $1.75 billion Countrywide mortgage pool, separately sued Bank of America to make it buy back the mortgages. AIG, the insurer, is also suing Bank of America for $10 billion in a separate case involving mortgage-backed securities.

Bank of America has huge potential liabilities with these outstanding lawsuits. And the bank doesn't make any money… It lost $3.2 billion over the past three years. It's had negative net income for the past two years. That's why it's scrambling to raise capital. The bank took $5 billion from Warren Buffett. It sold half its stake in China Construction Bank for around $8 billion.

Today, news arose that Bank of America will sell its correspondent mortgage business (through which it purchases loans from smaller lenders, sells them, then continues servicing them). Bank of America decided to exit the business about six weeks ago. The business employs more than 1,000 people. And it was responsible for 47% of Bank of America's mortgage originations in the first quarter of 2011. It's a huge retreat.

On a side note, Reuters estimates the writedowns and legal costs associated with Bank of America's purchase of Countrywide brings the actual purchase price to $30 billion. (It paid $4 billion for Countrywide in 2008.)

Though Bank of America CEO Brian Moynihan continually said the bank doesn't need additional funds, his actions speak differently.

Switzerland for the Wealthy

2011-08-29T16:15:00.000-07:00

Switzerland is known as a tax haven for the wealthy. But within Switzerland, the canton of Zug is the pinnacle of economic freedom. Zug has the highest concentration of U.S.-dollar millionaires in Switzerland – nearly 10% of all households, according to Boston Consulting Group.

The highest personal income tax anyone in Zug pays is 22.9%. Companies pay around 15.4%, compared to 35% in the U.S. (the second-highest in the world behind Japan). However, if you meet with tax officials in Zug and tell them you're choosing between Zug and another canton for your business, they'll likely cut you an even better deal on taxes.

How have rock-bottom individual and corporate tax rates worked for Zug? The number of companies with operations in Zug increased from 19,000 to 30,000 over the past decade. Companies with headquarters and/or large operations in Zug include global construction giant Foster Wheeler, commodities trading firm Glencore, Burger King, SABMiller, and many others.

The number of jobs in Zug increased 20% in six years. Unemployment in the tiny canton is 1.9% (compared to 9.4% in the EU and 9.1% in the U.S.). Residential vacancy is 0.3%. According to the Wall Street Journal, "Luxury shops abound, government coffers are flush, and there are so many jobs that employers sometimes have a hard time finding people to fill them."

That's quite different than the U.S. and Europe, where high taxes and government intervention stifle entrepreneurship. (Also note the difference between the robust economy of low-tax Texas versus the sickly economy of high-tax California.) I wonder when they'll learn their lesson, not holding my breath.

High taxes and conniving governments go hand in hand with money-printing.
Printing money to bail out borrowers around the world will not solve the problems of overleveraged governments or debt-ridden economies. It simply shifts the risks from private balance sheets to the U.S. government's. The U.S. dollar has assumed all of these risks. Our currency has become a ticking time bomb.
You can watch the dollar die, one day at a time, by keeping your eye on the growing spread between the value of long-term U.S. bonds and the price of gold. Over the last year – even as the U.S. economy apparently improved – the spread widened by about 35%…
And these bailouts come with another ancillary problem: They make it much harder for entrepreneurs around the world to invest across borders. You can't price assets into the future when every government in the world is printing money. When entrepreneurs can't estimate the future value of different currencies, they stop investing.
To prove this point, consider the long-term rates businesses pay to borrow money. GE's current cost of capital is an unsustainable 5.77%. The company has more than $200 billion of debt coming due through 2012. And the government is guaranteeing GE's debt until 2012.

When the government guarantee expires, how much do you think GE will have to pay to borrow money or roll over its debts? How much would you charge GE to lend it money for 10 years if you couldn't trade out of the debt? These are very important questions. Their answers just got a lot more painful.

Switzerland, on the other hand, has a flush government and a stable currency (the Swiss franc is outside the euro system). Take a look how the franc has performed since late 2007 as the U.S. mortgage crisis began…

Now on to the euro… what interest rate General Electric would pay if it issued debt without a government guarantee. This week, Italy will issue debt without a European Central Bank (ECB) backstop. (The ECB has bought Italian debt for the past three weeks.) Italy will sell 3.75 billion euros of 10-year bonds and 4.25 billion euros of bonds maturing in 2014 and 2018.

Italian 10-year bonds currently yield 5.09%… Yields reached a euro-era record of 6.4% on August 5 and fell to 5.02% in the five trading days after the ECB began buying. We'd bet Italy's free market borrowing rate will be much more than today's. Would you lend money for 10 years at 5% to a nation whose debt amounts to 120% of GDP?

To date, the ECB's efforts to push down yields have been unsuccessful. When the central bank began buying bonds on May 10, 2010 – buying around 16.5 billion euros of government bonds to bolster Greece – the yield on Greece's 10-year debt fell more than 4.5 percentage points to 7.77%. Ten weeks later, with the ECB still spending 176 million euros, Greek bond yields hit 10.43%. Today… Greek 10-year debt yields 18.18%.

Italy will default. However, I’m more troubled by the recent weakness in Germany – the European Union's financial lynchpin. Last Friday, the German blue-chip index (DAX) fell 4.6%, hitting a 21-month low. For better or worse, large institutional investors don't want to hold equities… and they're fleeing into the perceived safety of bunds (German bonds), gold, and cash. Liquidity and safety, rather than returns, are their biggest concern right now.

The ECB has monetized 120.3 billion euros of government debt (another reason for German weakness). And how did ECB President Jean-Claude Trichet defend his actions? By announcing to the world that the ECB "is not the Fed." Yes, the head of the European Central Bank's only defense to his actions is that his area's balance sheet is not as big as the U.S… Certainly confidence-instilling.

With the global crisis still raging – and central bankers poised to do the only thing they know how to do (print money) – I again urge to own gold and silver. The high prices aren't stopping the Chinese…

August is traditionally a slow month for gold sales at jewelers. But Reuters reports many shops in Shanghai have seen huge sales over the past few weeks… "The surge in prices has sparked another gold-buying craze. The 50-gram and 100-gram gold bars were selling like hot cakes," said Ms. Liu, a store manager at Shanghai's major jeweler Lao Feng Xiang. Liu said sales this month are up 30% from last year.

"Many Chinese investors and consumers see price corrections as buying opportunities. The view that gold is an enduring store of value is firmly rooted in Chinese cultural traditions," said Hou Xingqiang, a gold analyst at Jinrui Futures. "Gold's rally over the past two years and the debt worries in the West have only strengthened Chinese investors' belief that they need to own the metal as an investment asset."
The International Monetary Fund today announced it was cutting U.S. growth forecasts to 2% in 2012 from previous expectations of 2.7%.

Gold

2011-08-26T17:23:00.000-07:00

When the mainstream media begins to discuss gold as an alternative to paper money, it's a sign we're either in the midst of a massive devaluation or at a top in gold prices – or both. It's certainly a worrisome sign to see so much discussion on Fox News and CNBC about gold. Even worse, the pinheads on TV know nothing about gold, so they repeat the lies they've been told by their producers. They have no idea how stupid they sound because they've never thought about gold or studied it. I'm sure you've heard this nonsense too…

"Gold is just another fiat currency"… "The gold standard didn't work because it limits economic growth to the availability of additional gold"… "We could never return to the gold standard because our economy is too big and there's not enough gold."

The common man should greatly prefer gold-backed money.

Bankers hate gold, the government hates gold, the mainstream media hates gold…but you should treasure gold as your most important weapon for economic freedom.

Let's begin as Buffett's longtime partner Charlie Munger typically suggests, by "inverting" the question. Rather than starting with gold, let's start with the opposite of the gold standard – paper, fiat currencies. Let's look at how our economy and our fellow citizens have fared during the paper standard of the last 40 years. Since I spend much time looking at this kind of data, allow me to give you a preview…

The U.S. paper dollar standard has worked about as well as can be expected, which is to say, it has permitted debts to soar, the dollar's purchasing power to be gutted, and real wages to decline. It has left our economy with debts that can only be financed via even more inflation.

Below, you'll find a chart of the CRB index going back to the 1950s. The CRB index is a mix of basic commodities – things like base metals, oil, and food. It's not a perfect gauge of all consumer prices, but at least it's consistent over time, unlike government indexes, which are constantly "massaged" and adjusted.

Gold's price isn't really a measure of the metal's intrinsic value (which is almost perfectly stable). It's actually a reflection of the dollar's fundamentals. The same thing is true about the CRB index. It's not really a measure of supply and demand for commodities – it's actually a measure of the purchasing power of our currency. If you simply imagine this chart upside down, you'll get the real picture: The value of the dollar is falling. So look at the chart and then take a guess when the U.S. left the gold standard.

As you can see, prices soared (aka the value of the dollar collapsed) in 1971 when we left the gold standard. But wait a minute, you say, it looks like commodity prices fell between 1981 and 2004. Why did that happen?

Commodity prices did fall during the Volker and Greenspan periods (1981-2006) because both Fed chairmen targeted money supply, creating a de-facto gold standard. (Volcker did so openly and publicly. Greenspan did so while only uttering totally indecipherable explanations.) As you know, this monetary discipline was tossed out the window when Bernanke took over the Fed. Since then, the monetary base has nearly tripled. As a result, commodity prices are soaring again.

Some people knew a massive inflation was inevitable because of the enormous amount of credit created in the banking system from 1990-2006 – roughly $45 trillion. There's no way to finance these debts with sound money, let alone repay them. But we'll get to this part of the discussion in a minute. Let's just deal with the inflationary reality of paper money for now.

How anyone can look at that chart and not see inflation is beyond me… But as you know, several well-known economists continue to insist that there is no inflation. When I hear that kind of baloney, it makes me want to grab those guys by the backs of their necks and push their faces into this chart. If that's not inflation, what would you call it?!

Inflation has been so prevalent for so long, most people don't even know it's not part of a normal economic system. Data on consumer prices from 1596-1971 in Britain prove conclusively that during gold-standard periods, commodity prices remain level – even over hundreds of years, during periods of massive economic growth and soaring populations.

So as should be intuitively clear to even a sixth-grader… printing more money leads to higher prices, a monetary phenomenon we call inflation. Printing money does not create real wealth or help promote economic growth. In fact, I believe printing money tends to retard production because it interferes with prices, forcing entrepreneurs to engage in speculation (hedging) to protect margins.

We can test this hypothesis because we have an almost real-time case study – the second round of quantitative easing (QE2). QE2 began a year ago when Bernanke pledged to begin buying long-dated Treasury bonds in an effort to stimulate the economy. The funds for these purchases were created out of thin air – printed up, so to speak.

What was accomplished by these measures, which added roughly $600 billion to the U.S. monetary base? The stated purpose was to drive interests lower and stimulate the economy. But interest rates actually rose as the bond market began to fear inflation. Yields on U.S. 10-year bonds went from 2.5% to more than 3%. So the government bond market actually saw a decline.

And whether you owned government bonds or not, almost everyone was made poorer by the resulting inflation. Producer prices rose by nearly 6% during QE2. Oil prices, in particular, soared… moving up to more than $100 per barrel.

On the plus side… the stock market rose slightly in nominal terms. Whether or not those gains will last is another question. Even assuming the gains are permanent, all those gains would have been more than offset by the fall of the U.S. dollar over the last year (down 15%). Consider the folly of debasing the value of all U.S. assets by 15% to finance a minor increase in stock prices. That's insane.

QE2 did accomplish one thing… It led to a massive amount of new junk-bond issuance as the Fed's buying of government debt crowded out private capital, forcing it into riskier bonds. This allowed total business-sector debt to continue expanding, along with total government debt. Ever-bigger debts means more and more political pressure for inflation, something we'll discuss below.

The great advantage of paper money is supposed to be its flexibility. You can, in theory, print more of it when you need it to facilitate economic growth or forestall a crisis. But it doesn't really work. Printing money doesn't create wealth or stimulate the economy. It simply provides incentives for going into debt as people realize the money they borrow today won't be worth as much in the future.

The most important test of paper money is whether it facilitates real, per-capita economic growth. And on that score, the evidence is overwhelmingly negative. Measured in ounces of gold, per-family income in the United States has declined since 1971, retreating back to 1950s levels, despite the advent of two-income families.

Measured in another way (using the government's own consumer price index as the inflation adjustment), real per-family income is essentially unchanged since 1971, again despite the fact that far more households have two wage earners today. Household earnings, in real terms, have fallen 30%-50% since the gold standard was abandoned.

Paper money works great for the rich, who can hedge their exposure to the currency and whose access to fixed-rate credit allows huge asset purchases. But it is horrible for the middle class, whose wages do not keep pace with declines in purchasing power caused by inflation. If you want to know why there's so much discrepancy in incomes and per-capita wealth in the U.S., look no further than paper money.

So that's the gold standard inverted. We can prove that paper-money systems don't work. They lead to high levels of debt, gross income inequality, and horrific economic volatility, due to both high debt levels and inflation. But what about the gold standard? How does it work?

Nathan Lewis (whose book Gold: The Once and Future Money is required reading) recently outlined the gold standard's economic performance to Forbes…

In 1790, the population of the United States was 3.9 million, and there were 13 states with an economy based on subsistence farming. In 1970, the population was 203 million, with 50 states and the most advanced, wealthiest industrial economy the world has ever seen.

During that entire period, the U.S. was on some type of gold standard (with the notable exception of the greenback era during and immediately after the Civil War). So it's hard to take people seriously when they complain that a gold standard would hamper economic growth in America. The exact opposite is true. The gold standard helped America become the wealthiest nation in the world. Ever since we abandoned it, our debts have soared and our incomes have fallen.

How does a gold standard work? Let's go back to the greenback era after the Civil War to see how America returned to gold. Following the Civil War, it took 14 years of economic growth and steady reductions in the number of greenbacks in circulation to return the U.S. dollar to parity with gold, at the same price as before the war. By 1879, the U.S. government stood ready to exchange greenbacks for gold.

That didn't mean the U.S. government had enough gold to exchange every greenback, it simply had enough gold in reserves and had access to enough gold to make the promise. The actual gold reserve fluctuated between 10% and 40%. What mattered was the government's legal commitment to exchange its currency for gold and its financial ability to do so. This limited the government's ability to increase the money supply. And it limited the banking system's ability to create credit.

What happened next? The 1880s saw the greatest increase in per-capita GDP in American history. Unemployment fell to 2.5%, despite high immigration. Real wages rose 23% between 1879 and 1889. The country boomed, led by heavy capital investment. The amount of rail track laid, for example, grew from 2,665 miles in 1878 to 11,568 miles in 1882. The value of building permits increased by 150% between 1878 and 1883.

And here's the most fascinating part of the story… prices steadily fell from the end of the Civil War until the early 1890s, when they finally stabilized. You'd be hard-pressed to find a working economist today on Wall Street who could explain why the greatest decades of economic growth in American history could have been achieved during a period of deflation.

Mainstream economists all believe prices ought to only fall during economic depressions because they've become so blinded by paper money. But I can explain what happened in the 1880s easily: With real money in place, investors were willing to make long-term investments.

The result was an economy led by capital investments – not consumption. It was an economy fueled by real savings – not foreign loans. There was no need for a central bank to set interest rate policies or to "safeguard" us from inflation because the gold standard insured parity and fairness between borrowers and lenders. This all led to big increases in productivity and production – and wealth for the entire economy, not just the rich.

The secret -

Any reasonable study of paper-money systems versus gold-backed monetary systems demonstrates the superiority of gold immediately. So… why does almost every modern government choose paper? The answer is because paper money allows the wealthy and powerful vested interests in our economy to manipulate interest rates, prices, the money supply, and credit to their exclusive advantage.

Think about this for a second. Imagine how much productivity in our economy has increased since 1971. There's been a complete revolution in technology that has caused massive increases to productivity. You can see it all around you. I'd estimate productivity has increased by 4%-6% per year since 1971.

Where did all that wealth go? It didn't end up boosting the value of our currency, as you'd normally expect. Prices never fell. Instead, all those productivity gains were consumed by the issuance of more and more money – by inflation. Therefore, average wages, in real terms, have declined. And all these productivity gains – all that wealth – was consumed by the financial sector, the government, debtors… all the people who benefit from inflation.

As a result, we've been left with a heavily indebted economy that's still led by consumption. Our system rewards debtors and punishes savers. It makes long-term capital investment nearly impossible because of economic volatility and financial risks caused by inflation. Worst of all, our system requires everyone become a speculator because there's no other way to safeguard savings.

You see, what the gold standard really does is ensure a level playing field for all economic actors – borrowers, lenders, and even governments. That's why bankers (who are always highly leveraged), media barons (who constantly borrow to buy more properties), and governments (which can never balance their budgets) all abhor gold. To maintain their power, they all need paper money. The system we have now and those who profit from it would not survive a transition back to the gold standard.

Here's just one example of how this all works out in practice, not just in theory. Take a look at Rupert Murdoch's balance sheet. News Corp. is totally a product of the paper-money system. Murdoch always has access to credit, thanks to his government connections. He can always borrow heavily to buy his media properties – and he always does. News Corp. currently has a debt-to-equity ratio of 53. (That's not a typo. You can check the number yourself here on the New Corp. website.)

Murdoch recently borrowed $60 billion to buy the Wall Street Journal. Under a gold standard, there's no way Rupert could finance these debts. New Corp. would go bankrupt if the dollar was sound.

So do you think the Wall Street Journal is going to come out publicly for gold? What about the U.S. government? Do you think it wants to give up the power it has today – the ability to legally print money to pay its debts? No way. It'll never happen – not willingly. And how do you bet Rupert's and the government's debts will be paid back? In sound money? Or through inflation? What do you think that inflation will do to the value of your wages?

Do you see how the game works now?

One more point… you'll frequently hear that we don't have enough gold to support a gold standard and other such nonsense. Those comments are ignorant. The U.S. is the world's largest holder of gold. We have plenty of domestic gold mines – Nevada is one of the richest gold-mining areas in the world. A return to gold is possible.

The timetable for doing so and the impact it would have on the world economy would depend on what price level was set for gold. Setting a target date in the future – say 10 years from now – would allow the market to reach the appropriate price level in an orderly fashion. There wouldn't need to be any real economic adjustment – except for folks who are currently heavily in debt. Sound money would make it much more difficult to refinance risky loans.

I'm sure there would have to be a significant restructuring of our existing debts. And that would mean the end of our debt-led financial system. But after those debts were restructured, the gold standard would lead to massive economic growth and ensure the benefits of that growth are spread equally across the economy.

The next time you hear someone in the media talking about the gold standard as though it's some kind of insane idea… listen carefully. You'll hear nothing but lies and propaganda. There's no legitimate reason to oppose the gold standard. It's the safest and most efficient way to run a monetary system, as has been proven time and time again. Paper, on the other hand, always fails.

Info-graphics to quickly understand an event.

2011-08-26T14:34:00.000-07:00

I'm fascinated with info-graphics. Visualization tools are finally catching up with real time information resources. Info-graphics allow for a fast understanding of real time information related to a trend or event.

From Hurricane Tracking and identification of Evacuation Zones to save lives, to analysis of twitter traffic in predicting Violence, these visuals are powerful.

I can imagine a very successful data visualization start-up that offers migration services from traditional business reporting to visual reporting. Financial services firms are all over these tools. What do you think?

Buffet's BofA

2011-08-26T06:15:00.000-07:00

By now, you've probably heard legendary investor Warren Buffett invested $5 billion in Bank of America (BOA). The bank's CEO Brian Moynihan said BOA doesn't need any capital, though he happily sells Buffett $5 billion of preferred shares paying 6%. This is expensive money for BOA. Where is it going to find 6% investments in this environment?

Moynihan didn't just sell Buffett a $5 billion piece of the company. He gave him 7% of the company for free, too. With about 10.13 billion shares outstanding, BOA also gave Buffett warrants to purchase 700 million shares, struck at $7.14 each. The warrants can be exercised in whole or in part within 10 years of the deal closing.

The stock market is in love with BOA's "totally unnecessary" Hail Mary pass from Warren Buffett. The news of the deal sent BOA shares soaring today as much as 26% above yesterday's close. (Though that cooled to a 9% gain later on.)

For the average investor (who doesn't have easy access to warrants, like the ones the bank is giving Buffett), buying the common stock of a company like BOA seems ridiculous. I doubt Warren Buffett can tell you what's really in BOA's $2.26 trillion pile of assets. And I'm certain nobody inside or outside the company could tell you what those assets are worth, even if they could reasonably identify them.

I bet Bank of America's top executives aren't exactly sure what's down there, either. Nobody in this world can fathom BOA's intrinsic value. It's just a giant pile of financial risk of uncertain magnitude. Even if you want to believe Buffett can tell what it's worth… the overwhelming majority of BOA's shareholders have no idea what they own.

That's true of all the big financials, including Citigroup, JPMorgan, and Wells Fargo. You can tell me about their great franchises and superior management all you want. It's pure B.S. An investment in any one of them is simply a bet that they're just too big to fail… that people like Ben Bernanke, U.S. Representative Barney Frank, and Treasury Secretary Tim Geithner are so in love with them, they'll game the whole system to keep them afloat.

Wal-Mart tried to get a license to start a bank… But the power brokers in Washington wouldn't allow it. Too much real competition would ruin everything for the big banks. Would you deal with these jerks if you didn't have to?

QE3 coming, but not this week.

2011-08-22T16:56:00.000-07:00

The market wants another round of quantitative easing. Can't think of another reason the Dow and S&P 500 rallied today…

Anticipation of a third money-printing program is no surprise, given the recent 18% decline in the S&P 500 since April 29 and the current market conditions – record-low interest rates, volatile market swings, and soaring gold and silver prices.

And Federal Reserve Chairman Ben Bernanke knows how to goose a market…

This Friday, Bernanke will address the world from the annual Fed Symposium in Jackson Hole, Wyoming. Since last year's Jackson Hole gathering, when Bernanke announced a $600 billion bond-purchase program, the S&P 500 rallied 28% through February 18, 2011. Gold – the scorecard of fiat money's deterioration – is up 53% since last year's meeting. It's flirting with $1,900 an ounce today.

Another round of quantitative easing is inevitable, but it's not coming this week. The Fed has already dropped interest rates to zero percent and printed trillions of dollars… Options are limited. The next stimulus Bernanke announces will likely be his last, and he must save it for the right time… a more desperate time than today.

If the market continues rallying this week and Bernanke doesn't announce more money-printing at the Symposium, watch out. We could see another market crash.

To profit from the European crisis, short Deutsche Bank and Royal Bank of Scotland!

As Europe continues deteriorating, so will these two bellwether banks. Silver has rallied from $39.86 as I predicted, to $43.60 today. But the gold-to-silver ratio is still over 43. As silver continues to be viewed as a monetary asset, that ratio will approach its historical average of 16. Silver has a long way to run…

There are plenty of ways to own silver. You can buy bullion, ETFs, or silver stocks. The different forms have different advantages. For example, silver stocks are more liquid than bullion… But if a monetary crisis hits, you'll be able to exchange your bullion for goods and services.

Be Prepared -

2011-08-21T14:26:00.000-07:00

I love the Boy Scout Motto. There probably isn't a more opportune time than right now, today to take this motto to heart. The U.S. Treasury has to be refinanced. The only way to accomplish this that has any chance of being approved by the democracies in question is via the printing press!

That's why we'll see inflation. That's why I continue to advocate buying gold and silver. That's why I'm bearish on stocks (especially bank stocks, especially Euro bank stocks). And that's why I think it's prudent to take steps to safeguard property and family – especially if you live in a big city. The population won't be ignorant of what's happening. The message will be clear: Governments and bankers have the right to steal from the whole world via inflation. That will probably inspire the crowds to do the same.

What should you do? Be prepared.

Step one: Make sure you have at least a year's worth of living expenses set aside in gold and/or silver. Haven't bought any yet? Sorry about that. Insurance gets mighty expensive once you can see the hurricane coming. Buy it anyway.

Step two: Make sure you and your family are relatively safe from the threat of violence. Take heed of what happened in London. It will happen here, too.

Step three: Hedge your portfolio by shorting stocks or buying puts on Euro banks.

Step four: Get liquid. Deleverage! (If that isn't a word yet it will be. Most large companies are doing it, most extremely high net worth individuals are doing it. You should too.) If there's a real bank crisis, you'll want to have plenty of cash on hand. Even though the U.S. dollar is likely to be devalued by 30%-50%, you might still need cash for a few days if the ATM network or the credit card network is turned off, which it might be.

Step five: Try buying into a farm co-op or other independent supply of fresh food. I know, this sounds a little crazy. Likewise, I suggest you stockpile critical medications. It's better to be safe. And prices for critical drugs would soar if there were any disruption to global supplies.

Perhaps the crises of U.S. sovereign debt and Europe's rotten banks will have a better outcome but I don't see how we get out of this mess without huge inflation.

Yes, we could do the right thing, which would be to repudiate our debts as un-affordable and restructure our obligations. But no democracy takes this path – it's far too honest. No politician is going to willingly take the blame.

Nor do I think these problems can be kicked down the road much longer. Confidence in the system is falling apart. Venezuela, for example, exited the modern financial system last week. It sold all of its Treasurys and recalled its gold from vaults in London. Yes... it's only Venezuela. But other nations will follow. Central banks all around the world are buying gold, not dollars. That's a trend that's going to escalate. Quickly. It's only a matter of time before a large Treasury auction completely fails, as our creditors simply become unwilling to lend. And when that happens, then huge inflation will be our only way out.

Inflation

2011-08-12T16:14:00.000-07:00

If you used the CPI of the 1970s, it would show a 9% annual rate of inflation right now.

But just ask yourself (or your wife): Are you paying more for groceries, gas, travel, babysitters, etc. than you were 10 years ago? The answer is yes. And guess what… prices are still going up.

So how would I explain the massive collapse in stock, bond, real estate, and commodity prices over the last two years if I don't think deflation is possible?

It's simple. The history of paper money is filled with bubbles and crashes. Paper money eliminates the need for sound banking reserves, which allows credit to grow on an almost unlimited basis – up until the minute people begin to doubt asset values. And then they crash. But crashing asset prices doesn't imply that the value of the currency is increasing. In fact, crashing asset prices imply a fundamental weakness in the system of money itself.

Right now, people doubt real estate prices, stock prices, and commodity prices. Sooner or later, they will also begin to doubt the value of the paper bills that delivered them into debt and deprivation. When that happens, we will have a crisis.

Some recommend holding Treasury bills to safeguard your wealth. But those are the very instruments that will be destroyed as people finally abandon paper money. If you follow my advice, you'll be holding gold/silver when this final crisis comes. You may notice gold hasn't suffered at all during the crashes of the last two years… and as governments (and their paper money systems) go bankrupt all around the world my bet is gold continues to soar.

The collapse of the Euro -

2011-08-11T17:57:00.000-07:00

If you want a sure sign Europe is bound to collapse, here's one…

Investment firm Bespoke Investment Group says this morning it's hearing talk of a European-wide ban on short selling of financial stocks… maybe even all stocks. We tried that in the U.S. when the market was falling. Remember how it saved the country?

Of course, the short ban didn't do anything good. During the U.S. Securities and Exchange Commission's (SEC) ban on shorting financial stocks from September 2008 to March 2009, financials fell 70%. The ban had no effect whatsoever, beyond a one-day 11% rally in financials.

What happened on Tuesday after the Fed issued its two-year low interest rate call? The market rallied, of course. What happened the day after? The market continued plummeting. The government is no match for reality.

If the U.S.'s 2008 experiment with short bans is any guide, a good time to short European bank stocks would be the day a short selling ban on European financial stocks is announced. It'll be a classic "buy the rumor, sell the news" opportunity.

Today, on a mere rumor of a short-selling ban, European bank stocks are rising. RBS is up 8%. Societe Generale is up 6%. Deutsche Bank is up 4.5%. Unicredit is up 2.4%. I imagine an actual ban would send them even higher… at first… Then, reality would get involved and short sellers would make money.

Blaming short sellers is the typical political move of people intent on sloughing off onto others the responsibility for the mess they created. And that's the world in which we live, isn't it? If you watch too much TV, our world seems totally devoid of adults. Nobody takes responsibility for his actions anymore. Everybody blames everyone but himself.

The blame game is at work on the streets of London, too… The rioters in London are saying rich people caused the violence. The rioters aren't to blame for their vandalism and theft. Rich people pushed them into it.

Who'd have thought European regulatory authorities and London rioters would be birds of a feather? Our glorious Komrade Obama is one of them, too…

Looking for someone to blame for the U.S.'s woes, El Presidente recently chose (who else?) the rich. He said we need to tax corporate jets and other luxury goods immediately to rectify the injustice.

Obama is economically and historically illiterate. He forgets what happened the last time we tried to tax the rich by taxing their jets and jewelry.

In 1990, we passed a 10% tax on yachts, luxury airplanes, jewelry, furs, and expensive cars. It was touted as a fair, easy way to soak the rich without harming the working man.

Within eight months, the largest U.S. yacht company, Viking Yachts, closed one of its two plants and laid off more than 1,100 of its 1,400-member workforce. Within 12 months, one-third of all yacht builders in the U.S. ceased production. The industry lost 7,600 jobs in the first year. Before the tax was finally repealed, 25,000 workers lost their jobs. The U.S. went from exporting yachts to importing them. Viking Yachts shrank to just 68 employees. Congress estimated the tax would generate $5 million in revenue the first year. Reality didn't read the estimate… The Treasury lost $24 million in tax revenue because all the yacht makers either closed up or left the U.S. Congress repealed the tax in 1993.

If you think that was an isolated example, you'll learn otherwise when our glorious Komrade starts raising taxes. When FDR raised taxes in the Great Depression, the Depression deepened, and more people found themselves out of work.

The lesson is clear. Eat the rich only if you're certain it's your last meal.

When you're financially scared out of your wits, what do you do? Most folks hoard cash. That's exactly what corporate America is doing…

In the third quarter of 2008, nonfinancial companies in the S&P 500 were holding a little more than $700 billion in cash. Today, they've got $1.12 trillion, 59% more cash than just three years ago.

If you want them to spend their cash and invest in their businesses, you've got to give them a reason to believe their investments won't be eaten up by taxes and regulatory burdens. Or maybe you'll have to let them know their investments will be returned in a currency that's worth something.

Embattled media giant News Corp. is boldly deploying some cash. News Corp. announced a 27% dividend hike. It also said it would buy back stock on its previously announced $5 billion share repurchase plan. For today at least, the moves are working… News Corp.'s stock rose 16%.

If you were holding lots of big, blue-chip, dividend-growing stocks recently, you did much better than the overall market. The S&P 500 fell about 17% from late July through Monday. During that time, stocks like Coca-Cola (-6.6%), Altria Group (-6.9%), and Pepsi (-4.2%) fell much less than the overall market.

We've covered both Altria Group and Coca-Cola in The 12% Letter. If you want access to The 12% Letter's list of stocks that pay growing dividends and outperformed the crash, click here.

It seems the only way to make a decent profit during this summer's crash was to hold plenty of gold. Since July 1, gold is up about 9%.

I hold plenty of gold. But when I went to the coin shop a couple days ago, gold was soaring… Silver was down. So I bought silver.

Everyone in line ahead of me held something in his arms, which I assume he wanted to sell. It looked like everyone was selling gold. That's what the common man is doing. He's selling gold.

As usually happens after a big run in any commodity, the margin requirements for gold futures were raised today, causing gold to sell off.

I bought silver. Silver soars when things get really bad.

Market Downgrades

2011-08-08T17:14:00.000-07:00

"In Omaha, the U.S. is still triple-A. In fact, if there were a quadruple-A rating, I'd give the U.S. that." – Warren Buffett

The downgrade wasn't a surprise but Warren Buffett doesn't see any issues with our nation's financial situation. Buffett also said he doesn't pay attention to credit ratings agencies' opinions. (Ironic, considering Buffett's Berkshire Hathaway is Moody's largest shareholder.)

The U.S. cannot technically default, because it can print money… But as even Buffett acknowledges, money-printing will lead to inflation. And inflating your way out of debt is the same as default. It hurts anyone holding U.S. dollars (both sovereigns and individuals with savings). And it's more harmful in the long run. Buffett... "Think about it. The U.S., to my knowledge owes no money in currency other than the U.S. dollar, which it can print at will...Now if you're talking about inflation, that's a different question."

After S&P downgraded the U.S., the White House and the Treasury refuted the claims, calling the downgrade a "$2 trillion math error." The government claims S&P made an accounting error... "They've shown a stunning lack of knowledge about basic U.S. fiscal budget math," Treasury Secretary Tim Geithner said in an interview with CNBC. "And I think they drew exactly the wrong conclusion from this budget agreement."

Geithner also chided S&P for "really terrible judgment" when downgrading the U.S.

S&P is 100% correct…That the government is blaming the downgrade on an accounting issue is a joke. The U.S. is staring $100 trillion in unfunded liabilities in the face, and it's bickering about this downgrade. That's part of the reason S&P downgraded the U.S. in the first place... The government isn't serious... And S&P has little faith in the government's ability to handle an issue of this magnitude.

This from an April 2011 interview Geithner did with Peter Barnes from Fox News. (Thanks to Zero Hedge)

Peter Barnes: "Is there a risk that the United States could lose its AAA credit rating? Yes or no?"

Tim Geithner: "No risk of that."

Barnes: "No risk?" Geithner: "No risk."

Despite the downgrade, Treasurys are still viewed as the safest asset in the world. Today prices rose and yields fell on the 10-year bond.

The S&P downgrade is really a warning for the government to get its finances in order. The real chaos will come when the market "downgrades" Treasurys... When sovereign buyers suddenly don't bid at a Treasury auction and demand higher interest rates. That time will come. Our lives will change when this happens.

That kind of "market downgrade" is already happening in Europe. Investors are demanding higher and higher interest rates to buy debt from the PIIGS (Portugal, Ireland, Italy, Greece, and Spain). And like the US, the European Central Bank (ECB) will print tons of money to solve the crisis...

The ECB must, eventually, paper over these bad debts with an enormous bond-buying program that would dwarf the quantitative easing we've seen so far in the U.S. and the U.S. Federal Reserve will ultimately backstop the program to ensure it doesn't destroy the euro. How long will anyone, anywhere, accept the paper currencies of obviously bankrupt governments and their puppet banks?

Today, the European Central Bank (ECB) started buying Italian and Spanish bonds. The yield on 10-year Italian debt fell 82 basis points to 5.277%. Spanish yields fell 89 basis points to 5.16% – the biggest one-day drops since the start of the euro. Royal Bank of Scotland predicted the Italian and Spanish bond buying program would eventually reach $1.2 trillion. IT WILL BE MUCH LARGER. And a great portion of that money will come from the U.S. (Over the weekend, Geithner called for Europe to increase its easing.)

In typical government fashion, instead of addressing the core issues behind the European crisis, Europe is once again blaming the short sellers. Starting tomorrow, Greece will ban short selling for two months. In Italy, the financial regulator halted trading of Fiat and Pirelli after big losses. (These aren't financial stocks... They make cars and tires.)

In addition to Treasurys, gold is also soaring today. Gold is up over $53 an ounce to $1,717. Goldman Sachs raised its 12-month gold target to $1,830. JP Morgan is calling for the precious metal to hit $2,500 an ounce by year-end, up from $1,800 an ounce before the downgrade.

And for the first time this year, gold has outperformed stocks since the market bottom in March 2009.

Gold is soaring – and stealing all the headlines. But silver is still under $40 an ounce. Compared to where it was trading for most of the last three years, silver is cheap next to gold. This will not last for long...

The crisis arrived today -

2011-07-30T21:17:00.000-07:00

Yes, it's for real. We've been wondering when the markets would wake up to the reality of the sovereign debt crisis. Today is the day…

The action in the fixed-income markets this morning verged on collapse. Yields on the world's benchmark sovereign debt – the U.S. 10-year Treasury bond – plummeted. Investors panicked and moved into the market, which is the world's most liquid market. Meanwhile, just about everything else in fixed income got killed. Mortgage REITs were briefly "no bid," for example. Annaly – the blue-chip mortgage REIT – was down more than 15% at the open.

It was as if the world's fixed-income investors finally woke up and realized the world's economy has serious problems... which our politicians seem unable to address, let alone repair.

What would a U.S. sovereign downgrade would mean to the world's markets? This is a critically important topic and one that most people know nothing about…

The credit-ratings agency Standard & Poor's says there's a 50% chance it will downgrade America's credit rating from triple-A within the next 90 days. That's the same credit rating ol' Timmy Geithner said the U.S. would "never" lose just a few months ago. Most people believe these downgrades and the resulting problems are being caused by the debt ceiling issue. They're not.

The downgrades, as S&P explains, are due to the funding needs of the U.S. government, combined with the growing size of our annual deficits relative to the growth of our economy, which remains moribund. 61% of all the marketable Treasury debt held by the public will mature within four years. Thus, over the next four years, the U.S. Treasury must either repay or refinance more than $1 trillion in existing debt each year – not to mention additional deficit spending of at least $1.5 trillion. For us to avoid a default, the U.S. Treasury may have to borrow or refinance as much as $10 trillion in the next four years. That would double the amount of U.S. Treasury bonds currently trading in the world's markets. Looking just at these numbers and considering America's total debt load (public and private debts total nearly 400% of GDP), there's no question our sovereign debt rating should be cut… I'm not sure the U.S. is even an investment-grade credit.

That analysis includes a huge "but"… because thanks to the dollar's standing as the world's reserve currency, it is actually impossible for the U.S. to default unless it chooses to do so, through debt ceiling limits, etc. The real question isn't the sovereign rating. (And yes, I believe we will be downgraded whether or not the debt limit is increased.) The real question is, how long will our creditors and our trading partners continue to allow the dollar to dominate the world's banking system and commodity markets?

The answer is, not for long. Not if the U.S. government continues to print money to pay for its own profligate spending. But how else will it finance a doubling of outstanding Treasury bonds in the next decade?

Over the next few months we will see a repeat of the crisis of 2008 – but on a much bigger scale. This time, the credit problems coming to the surface aren't in the banks and the brokers. They're in the sovereigns – both in the U.S. and Europe. The only palatable political solution to this problem is to print more money – colossal amounts of it. For now, investors remain willing to pile into U.S. Treasurys. But this crisis will only get worse until that trend reverses. The only way the U.S. government can avoid an actual default is to destroy the dollar. So that's what's going to happen. A downgrade is only the first step. But here's what that first step will mean...

All around the world, the U.S. 10-year Treasury bond establishes the "risk-free" rate. That is, in just about any kind of fixed-income vehicle, market rates of interest are established by the current price and yield of the 10-year U.S. Treasury bond. Yes, matching duration bonds are normally used. If you're pricing a five-year mortgage, you'll use the five-year U.S. Treasury. But the fact is, the market is pricing the five-year Treasury bond by using the 10-year Treasury bond as the reference. The entire financial system uses the U.S. Treasury bond market as its foundation.

That's why whenever trouble arises and panic spreads, everyone buys Treasurys. If these bonds are no longer rated triple-A, the pricing of all other forms of financial instruments will suffer. Credit, in general, should become harder to get and more expensive because the entire system just got riskier. Think about it this way, if the safest part of the world's financial system is no longer safe, how much riskier did a bond that's three rungs down the ladder just become? We don't know, precisely. We only know "more risky" is the only logical answer.

We saw what this means for leveraged financial holding companies this morning when mortgage REITs got killed. Bloomberg's index of 32 mortgage REITs fell about 8.5% at the open because their cost of funding rose as investors abandoned the "repo" market and bought U.S. Treasurys. Investors are demanding higher prices to finance these mortgage books because many of the mortgages these companies hold are insured against principal loss by the U.S. Treasury. If those guarantees aren't triple-A anymore, funding those investments is going to cost more.

When you apply the same kind of thinking across the financial system, you begin to get an idea of why the world's economy is probably heading for trouble. The cost of financing is going up – for corporations, home-buyers, and governments. Sooner or later, this will spark renewed efforts at the Federal Reserve to monetize our debts. But when it turns on the presses this time, we expect our creditors and trading partners to revolt. Gold and silver will soar. Financial stocks will plummet.

The outcome will be the loss of the U.S. dollar's status as the world's reserve currency. (That clearly hasn't happened yet – investors are still flocking to the Treasury market in this crisis.)

The stage for this crisis was set during the financial crisis of 2008. And I don't believe it will be over until these debts are either written off or monetized away by the Fed through inflation. Until that happens, we'll be dealing with a world of far greater financial uncertainty. Your primary goal as an investor right now should be to simply retain your purchasing power. How can you do that?

The basic ways to defend yourself from the government's efforts to monetize our debt are pretty simple: Hold 10%-20% of your assets in the form of gold and/or silver. That's your best protection against the government. Holding your liquid (cash) savings in better currencies – like the Swiss franc, the Canadian dollar, etc. – is a good idea, too. (Everbank can help you do this, by the way.)

Investing in hard commodities is also a good bet. But you have to buy these stocks during periods when the market becomes temporarily convinced the Fed won't print any more money. We might reach a good point for these purchases in three or four months, as the U.S. economy will continue to slow, stoking fears of deflation.

Detail on the Pendants

2011-07-22T10:48:00.000-07:00

Making this silver pendant for my wife was a humbling experience as you can see. Clearly it takes more than youtube to learn how to make things. I wanted to make something from Silver for the 25th. The photos below show both attempt #1 and attempt #2.

I have an old tiny kiln that has no pyrometer(temperature guage) so it works well but one has to guess about the final temperature. Attempt #1 is on the left. I used a higher strength silver clay (90% silver) which has some alloys that allow for better carving in the green state(dried but pre-firing). The downside it that it requires a longer period of firing. (2 hours at 1600) I used pyrometric cones to find the final temperature but it got too hot and the pendant melted a bit. The heart at the center polished up well but it's not the original shadowbox form that I intended. I made a prototype in clay then dried it and used an epoxy to make an impression. Then I got some alloy silver clay that is moldable and made the pendant. (see mold impression below) I had to make a high temperature steel box out of this thin steel. It looks like aluminum foil. Then the pendant has to be fired in the box buried in carbon pellets which eliminates sparring and oxidization of the piece.

Attempt #2 is on the right (above and below). A pic at the bottom describes how attempt #2 was completed.
I used an old pendant and I used a heart and adhesive, then took an impression. I used pure silver clay which fires to 100% silver when complete. I oxidized the perimeter around the heart with some sulphur dioxide then polished the heart and the back with a this pneumatic dremel tool. Attempt #2 on require firing at 1200 for 10 minutes but as you can see on the back the first firing wasn't long enough. The inside didn't melt and the binders are still there. A second firing fixed this without melting it this time.

Jennie likes the first one on the left better I think. She wears it anyway. :) I like the one on the right but it does look kind of like a dog tag. Amateurish for sure but fun.

A Haiku thought for today.

2011-06-23T21:17:00.000-07:00

Millisieverts and Snow:

Beneath the quivering town

I have seen the water.

Ai Weiwei released today

2011-06-22T13:49:00.000-07:00

This is great news. Many don't know that Ai Weiwei is son of Ai Qing, one of the most beloved poets in China. His father was a rebel too and spent time in prison and in exile. Like father like son. Here's a poem that Ai Qing wrote in 1940 -

Harness Shop
By Ai Qing

A harness shop is open on the street
Selling the wisdom of humankind.

"Shopkeeper,
I want a whip."

"You can pick and choose:
This is for beating donkeys
This for beating horses
This with a short handle and long lash
For beating camels."

What a great variety
How colourful they look -
All are beautiful.

"Over there are bridles, yokes
That is a bit - for clamping a horse's teeth
Those are horseshoes - for protecting the hooves."

There are also reins
Reins made of hemp
Reins made of palm fibre
Reins dyed in colours.

"Those are stirrups - for mounting the horse
Those are copper bells - for camels crossing the desert
Those are bags - for pack donkeys, poor donkeys."

There are also saddles
Saddles made of ox hide
Saddles painted with red lacquer
Saddles inlaid with brass and bronze.

"These are coloured fringes
These are whisks of horsehair
These are red tassels of rhinoceros hair
And here are pieces of embroidered saddle cloth -
All these
Make the animals look lovely...."

What a great variety
How colourful they look -
All are beautiful.

This is more hypocritical than conjuring
Craftier than religion
Crueller than massacres
Bolder than laws
A harness shop is open on the street
Selling the wisdom of humankind.

1940

A picture and a Poem

2011-03-21T17:19:00.001-07:00

Try your hand at writing a poem, or just read a few, or pass along to friends in Japan.

www.picpoem.com

Zhao Ziyang - A founding father.

2009-10-26T17:41:00.000-07:00

Premier Zhao Ziyang, the chief architect of economic and ultimately political reform within China, the man who brought liberal change to China, and who at the height of the Tienanmen Square protests in 1989 tried to stop the massacre and was dethroned for his efforts, will, like our founding fathers here in the USA, never be forgotten by China.

Zhao Ziyang's political career ended with the Tienanmen incident but through his vision, China's reform continued. Despite spending a career in the Communist Party, Zhao ultimately acknowledges that China's system is far from a democratic ideal and concludes that a parliamentary democracy is the best course for a modern state and should be China's goal. The following excerpt from Premier Zhao's final chapter in a diary that he recorded during his term of house arrest in his final years reads somewhat like something written within our own Federalist papers.

"The Way Forward - After I stepped down in 1989 and with the changes that occurred both at home and abroad, I started to develop a new understanding of China's political reform.

Once I believed that people were the masters of their own affairs not in the parliamentary democracies of the developed nations in the West but only in the Soviet and socialist nations' systems with a people's congress, making the latter system more advanced and a better-realized form of democracy.

This, in fact, is not the case. The democratic systems of our socialist nations are all just superficial; they are not systems in which the people are in charge, but rather are ruled by a few or even a single person.

Of the various political systems that existed in the world during the twentieth century, absolute monarchies and the fascist dictatorships of Germany and Italy have been eliminated. There have been military dictatorships, but they have existed briefly or are losing support. Even though they often appeared in underdeveloped nations - for example, military rule in South American nations - they have all steadily turned out to be brief episodes in these nations' gradual march toward parliamentary politics. For several decades, during the twentieth century, the so called "new democratic system", the proletarian dictatorship, competed with the Western parliamentary system. But in the vast majority of these nations, it has since receded from the historical stage.

In fact, it is the Western parliamentary democratic system that has demonstrated the most vitality. This system is currently the best one available. It is able to manifest the spirit of democracy and meet the demands of a modern society, and it is a relatively mature system.

Of course, this system is not perfect; it has many problems. Yet relatively speaking, this system is best suited to a modern civilization, more adaptable to shifts in public opinions and most capable of realizing democracy. Moreover, it is more stable. The vitality of this system has grown increasingly clear. Almost all developed nations have adopted a parliamentary democracy. Of course, it is possible that in the future a more advanced political system than parliamentary democracy will emerge. But that is a matter for the future. At present, there is no other."

Our founding fathers, if alive today, might just agree.

Zhao Ziyang died On January 17th, 2005, still under house arrest.