Here Comes 2011

Welcome to 2011, the year of the Long-Term Evolution (LTE), A.K.A., G4 wireless connectivity. Only Verizon Wireless is offering it as I write this, but only through USB Modems.  Smartphones will be out later this year; so it’s here but just not available now to change your life.

The promised upgrade in broadband, whether we want it or can afford it, is a perfect metaphor for the upcoming collision between economic reality and political machinations.  One of three things will happen as the 112^th Congress is sworn in; a) it will continue business as usual, b) it will change spending in Washington DC, or c) our creditors will take away our charge card. America is unprepared for all three. Choice b would be not to raise the federal debt – much easier said than done. Choice a will debase the Dollar and cause inflation before the second leg of the 2008 Depression starts (Oh, and you thought we were pass that crisis?).

In 2010, the big winner was gold and silver amongst other commodity products. Below are finviz.com charts showing 1 year, 6 months, 3 month returns of the major futures markets. Silver was up 83.5% and Gold was up 29.5%. Stock averages trailed; The Russell 2000 was up 26.3%; NASDAQ 100 was up 19%; the S&P 500 was up 12.9%, followed by the DJIA, which was up 11.2%.

The 30-year Treasury Bond was up 5.6% for the year and the 10-year Note was up 4.2%. The US Dollar was up 1.2%. However, December was unkind to the 10-Year Note, as it lost 3% and the 30-Year Bond lost 4.2%.

On Monday, the stock market blasted off into triple digit territory, closing up 93 points. Optimism was everywhere in the air, not to mentioned an extra 850 billion in tax cuts to goose prices. I believe the DJIA will cross 14,000 this year and the S&P 500 will also cross 1450. The market will be wildly overvalued at that point, as the market is currently only recklessly overvalued, with more potential headwinds in the second half of the year from a slowing Chinese economy, a double-dip recession in Europe, and housing bubble collapses in Australia and Canada.

Gold and silver was savaged this Tuesday morning; February Comex gold last traded down $44.60 at $1,378.30 an ounce. Spot gold last traded down $36.40 at $1,378.50. The London P.M. gold fix was $1,388.50 versus the previous P.M. fixing of $1,405.50.  Silver futures for March delivery fell $1.617, or 5.2 percent, to $29.508 an ounce, I expect a consolidation period could last until the spring. This will range-bound gold’s price to $1,300 to $1,500.

Cost-Push inflation is being reflected in oil and food prices. Gasoline is now over $3.00 a gallon, on its way to $4-$5 a gallon this year. This inflationary pressure will weigh on a fragile consumer’s pocketbooks, therefore, GDP growth. Higher prices, combined with city and state firings of employees (layoffs is when you have a chance of getting your old job back) suggests higher unemployment and increase the chances a double-dip recession by the end of the year.

Fed Chairman, Ben S. Bernanke, has openly expressed a desire to inflate asset prices while holding down inflation on the theory that not doing so will reopen the door to deflation.

The minutes to the December 14^th FOMC policy meeting was released today which said in part, “While the economic outlook was seen as improving, members generally felt that the change in the outlook was not sufficient to warrant any adjustments to the asset-purchase program, and some noted that more time was needed to accumulate information on the economy before considering any adjustment,”.

Only a neurosurgeon’s scalpel could be so precise. In my view, we can only wait to see which of the Fed’s missions will fail.

Conventional Wisdom is propagating that the private sector will ride to the rescue of the economy and President Obama’s reelection. Why would they? Demand is absent in the marketplace for goods in all but the luxury segment. Even the low-end retail segment is fading. Bottom-up stimulation is being withdrawn from the economy as state budgets, which spend locally, are being slashed, unmercifully.

If American business was serious in creating jobs here in America, they would be demanding trade protectionists’ measures to protect American workers. Once upon a time, business and the Chamber of Commerce did such things. Sadly, if we update the year by a decade, as the Eagle’s sang in their song Hotel California, “We haven’t had that spirit here since 1969”.

Below are my 2010 predictions with comments. Four of my predictions were right, three were too early, and four missed the mark. Without government intervention, my record would be eight out of eleven.  The take away is I was too conservative in my thinking which err on the on the side of caution for investors. Since the economy and the financial markets are disconnected like never before, and the government’s heavy hand has all but destroyed real price discovery, analyzing what is happening and predicting the consequences of those findings are becoming more and more a fool’s errand.

2010 Predictions	Result	Comments
I. The bond market will suffer its worst lost since 1994.	Wrong	Too early. The bond market began selling off in the 4th quarter. QE II artificially suppressed interest rates.
II. Gold will surpass $1,800.00 per oz.	Wrong	Too early. The direction was right, the magnitude was off. It went from $1,100 to $1,421 or 29.5%.
III. The Democratic Party will lose the House and barely retain the Senate.	Right	Bingo.
IV. The FDIC will temporarily run out of funds to shut down bad banks.	Wrong	The FDIC left open 900 bad banks otherwise they would run out of funds.
V. At least two states will default on their general obligation bond interest payments, roiling the municipal bond markets.	Wrong	Too early. The municipal train wreck will occur this year.
VI. Either, Tim Geithner, Lawrence Summers, of Ben Bernanke, will leave the administration before 2011.	Right	Lawrence Summers, bye bye.
VII. State and Federal taxes will rise in 2010.	Wrong	Silly me. I thought politicians would do the right thing instead of extending the Bush tax cuts.
VIII. Inflation will rise above 5% at least one quarter in 2010.	Wrong	Prices are rising but it is not being reflected in the CPI. Stay tuned.
IX. The yearly high for stocks will occur in the first half of the year.	Wrong	Quantitative Easing II (QE II) saved the stock market.
X. At least one western democratic government will fail and be replaced with another democratically elected government.	Right	The UK and Australia
XI. Residential real estate prices will drift lower YOY on the S&P Case-Shiller HPI	Right	Year-on-year, sales are up 0.2% for the 10-city adjusted index but are down 0.8% for the 20-city index

The Baby Boomer’s Case for Gold

This summer saw another bifurcated performance by the markets as the current paradox of wealth and economics continues. Trading continued its impersonation of Fay Dunaway’s character Evelyn Mulwray answering Jack Nicholson, an obtuse Los Angeles private detective J.J. Gittes, in the1974 movie classic, Chinatown.

As investors demanded answers about the state of things, likewise as in the movie, the market’s binary answer to the question of recovery or not oscillated between the economy is producing – corporate profits/recession, corporate profits/recession, corporate profits/recession. Both answers are true.

This topography is tricky for Wall Street to navigate. The economy must appear fragile enough to ensure that the two trillion dollars Bush tax-cut is extended while both the market and economy isn’t bad enough to scare off investors. The calculus to suppress the price of gold is even trickier; until it’s time for the price to rocket upward. Meanwhile, the disappearing middle class assumes that their needs are a factor in these equations.

On Labor Day, President Obama announced a tiny $50 Billion long-term infrastructure program to rebuild roads, railways, and runways. Jobs are expected to materialize well after Democrats are expecting historic congressional defeats in the November election chiefly because of a U-3 unemployment rate at 9.6% and rising. The rising U-6 unemployment figure is 16.7%. High unemployment, the reciprocal to high labor cost, is good for businesses bottom line.

The American working class’s raison d’être, ascension to middle class status became an inconvenient pursuit for the application of supply-side economics. These upper deck fans of Gordon Gecko’s brand of parasitic capitalism, also, among some of the highest paid global workers, misses the obvious internal conflict for gleefully embracing the religion of Maximizing Shareholders’ Value (MSV).

Investors and upwardly mobile workers in the last three decades were convinced by politicians and Mad Men particularly that they were not one and the same. Unfortunately, unlike a centrifuge that can separate like densities in a tube, a MSV’s thesis is extracted from today’s well paid workers on the road to prosperity and from their future generations’ standard of living.

Given this environment, baby boomers face a cacophony of advice, a cornucopia of information, and a cavalcade of confusing and contradictory data as they sail into retirement.

Once prudent, now quant post Second World War standards concerning finance and money, inculcated into our middle class formula of ideas and value system, ceased producing acceptable results over the last decade. Regrettably, zero became the average annual return on equities during this period. The return on residential real estate is even worse.

As current interest rates on certificates of deposit stay below 2% and long-term treasury obligations pay below 4%, nominal yields are an insult. Corporate debt such as IBM is being issued a few basis points above its treasury counterpart. Other corporations are contemplating issuing 50 and 100 year maturities as the markets salivate.

This year, the winning income strategy has been a portfolio of dividend paying stocks over bonds. The current risk/reward parameter, in both stocks and bonds, and the premium being offered for such an undertaking, is a disproportionate proposition, whether we recover or sink into a global depression.

We continue to witness Modern Portfolio Theory and the Efficient Market Hypothesis lose its practical value for investors, as we did so in 2008 and 2009.

Furthermore, political gridlock circles the globe as one government after another is challenged by private market forces – hedge funds, principally through Forex and credit spread trading. Irresolute leaders are making shortsighted and timid decisions.

Each passing day takes us farther from a 20th century of calibrated knowable unknowns into a 21st century of mounting unknowable unknowns which historically leads to ad hoc mischief and turmoil.

The appropriate characteristics of gold bullion and precious metals are an imbued antidote to today’s financial crisis and the correct mid-term solution for alternative investments. Yet, gold is constantly ridiculed as a “gold bug” vehicle in the main stream media.

Every financial crisis produces real gold bugs. Eventually, the inflationary 1970’s created more gold bugs faster than Ben Bernanke can print dollars. In time, this will happen again. However, the price level for gold is unremarkable, given the sheer size of the aggregate global money supply of tens of trillions of dollars, even more in outstanding debt, and ubiquitous domestic and global political uncertainty.

Any serious talk about a new global reserve currency, partially containing gold, replacing the US dollar, would implicate a gold price in the five figures range. The ownership of gold today as a core portfolio holding is not only to hedge against inflation, a rise in prices, deflation from credit contraction, but also, hyperinflation, and a collapse in a nation’s currency, to preserve accumulated wealth.

You ask why trust gold now when most financial professionals are opposed to acquiring bullion at current prices? Before reviewing some macroeconomics metrics demonstrating the logic for this decision, ask yourself: why were financial planners parroting in 2001, 2002, 2003, 2004, and 2005, that over time all stocks rise in value; did stocks obey their wishes?

Why did stock brokers and investment advisers insist that you never want to be out of the market, as recently as the second quarter of 2008, but by 2009, it was “too late” to get out? In their mind, a “blue chip” bear market would not occur. Few investment professionals could even offer sound portfolio hedging strategies with options, as protection against the unthinkable.

Were you warned by advisers that the AAA ratings from credit rating agencies were being purchased by investment product packagers - euphemistically called credit enhancements - like two-for-one call drinks at happy hour?

Did you discuss the risk from opaque and unsecured packaged investments, be they, the gargantuan publicly traded ones or the bespoke private placements, during the roaring 2000’s by your registered investment advisory firm which had a fiduciary responsibility to work on your behalf?

If you were really fortunate in making money during the 1982-2000 secular bull stock market and your net worth rose in excess of seven figures, then you probably retained a hedge fund for the fee of 2/20 to lose a portion of your principal over the last three years.

Did your mutual fund or variable annuity company recommend dollar cost averaging? What is your net worth now? How often were precious or rare earths metals suggested as an alternative investment as these unloved stepchildren posted profits year after year? Are advisers suggesting bullion and rare earths metals now; at what percentage of your portfolio?

The credit crisis and market meltdown of 2008 has been officially named the Great Recession: to show investors that the event itself was manageable and that the extent of probable damages to the economy and the markets were quantifiable. Both of these conclusions were premature, then, and untrue now.

The carnage inflicted by the swift collapse of the 2003-2008 Structured Investment Vehicle (SIV) gold rush was unlike any market/economic contraction witnessed by contemporary investors. The last financial upheaval of this magnitude experienced by investors was the 1930’s Great Depression. Each event was unique. Mark Twain quipped once “History doesn’t repeat itself - at best it sometimes rhymes”.

The comparative “rhyming” components between 1929 and 2008 crashes includes the shift in wealth distribution to the top 1%, reckless amounts of leverage, and a underwriting frenzy of securities for fees over an organic economic benefit.

In 1928, the top 1% share of total pre-tax income was 23.9%. In 2007, the percentage was 23.5%. Prior to the 1929 crash, stocks could be margined up to 90%. In 2007, homes could be mortgaged up to 125%, with stated income, alone.

After the First World War, country bonds were issued by Europe, South America, and Asia, sold to everyone by Wall Street, and experienced massive defaults which exacerbated the 1930’s global depression.

In the roaring 2000’s, orgasmic inducing fees overrode prudence, as sublime to ridiculous derivatives were packaged and sold around the world by Wall Street, causing countries such as Iceland, Ireland, and Greece to become nearly insolvent. Yet, in 2009, Wall Street paid out $149 billion in bonuses, roughly 1% of our $13 trillion dollar annual GDP.

Worldwide demand for gold is rising. From gold bar dispensing machines at the Frankfort, Germany airport and the Abu Dhabi Emirates Palace Hotel, to Exchange Traded Funds (ETFs) such as GLD and SGOL.

The US Mint 2009 Ultra High Relief Double Eagle Gold Coin has sold out. Rust was discovered forming on the Bank of Russia’s 2009 "St. George the Conqueror" .999 fine coins. The supply/demand curve for gold is moving outward. New highs for the price of gold have been made recently in all major currencies.

The interest on debt and the debt itself, without raising taxes is unsustainable. This “new normal” will wreck the US economy and the government’s questionable AAA credit rating.

Not China, not Russia, not North Korea, not Iran, not terrorists...According to Admiral Mike Mullen, the Chairman of the Joint Chiefs of Staff, the "single biggest threat" to American national security is the US national debt, which is either $8.85 trillion (public debt), $13.4 trillion (total national debt), $20 trillion (total debt including GSE debt), or $124 trillion (total debt including unfunded obligations), depending on one's definition of the word "debt."
Washington Post: August 27

The amount of debt that the US has outstanding is troubling but our debt structure is even worse. In FY 2010, the US Treasury issued $2 trillion in treasury obligations. One and one-half trillion dollars was in rollover debt and $500 billion in fresh issuance. These numbers can only rise in the short term. We are a hopelessly credit driven, not cash oriented, transactional society.

Our credit structured economy, of which, 70% of GDP, is consumer driven. Income utilization for the bottom 95% is primary for debt servicing. Government policies favors continuously buying goods and services by consumers while optimistically believing such activity occurring increases wealth and while reduce debt.

This spiraling upward is the conveyor bell for individual upward mobility. Absent GDP growth, expansion quickly turns to contraction, then, disinflation, and deflation. Except for a few speculators, ultimately, a loss in personal net worth ensues.

Likewise, when the amount of debt becomes too great to service from current cash flows, the economy and asset prices will collapse to sustainable levels. That process can take years. Meanwhile, except for a few speculators, ultimately, a loss in personal net worth ensues. Rising interest rates someday will destroy this current economic model.

The critical mistake made in measuring the totality of legitimate outstanding debt leading up to the 2008 meltdown was underestimating the degree of dishonesty employed by accounting gimmicks, reckless amounts of leverage, lax regulatory supervision, and offshore transactions to hide levels of risk.

Another mistake make in addressing the problem, once uncovered, was paying off legally dubious derivative claims with the moral and ethical weight of Las Vegas betting slips, suspending mark-to-market accounting, or smuggling over two trillion dollars in worthless toxic debt onto the books of the Federal Reserve Board, thus, guaranteeing nasty consequences in the future.

In essence, saving individual companies instead of the financial system itself is delaying final closure to the financial crisis.

The looting of our economy was the gravest of matters and was performed with full knowledge and consent. These mortal sins were the exclamation mark on this recent period of greed and avarice.

A global economy so sophisticated, and so interconnected, and has the wherewithal to produce such wreckage compels us to abandon or greatly curtail our unfettered mercantilism policies. Otherwise, the next seismic event will be greater.

The unintended consequences of callous policies pursued by special business interest and executed by rented elect officials shall radically change who we are as a country over the next decade. We can recover from this tremendous hole we find ourselves in but it requires great leadership and political will. Until then, a greater financial divide will broaden and deepen between the haves and have not’s.

Rationing of goods and services will flourish. Political stability will deteriorate, as unemployment trends higher, tensions will build, and the first 21st century generation will be lost to economic depression cloaked inside an arithmetic mean. That is the price we shall pay.

Baby Boomers’ choices must mirror where we are going, not where we have been. Paper assets in 2000 and real estate in 2006 crossed over from being an ally to an enemy to wealth accumulation for the average investor, and will continue to do so, for years to come.

In anticipation of this global redistribution of wealth, and as global US market share declines to the benefit of emerging markets, the supply/demand curve for precious metals and rare earths will fundamentally raise the floor on the price of gold. The US dollar’s purchasing power will also decline over time.

Baby boomers planning on living for the next 20 years must really consider gold as a core long-term holding in one’s portfolio, and not just a short-term trade or a token position, to maintain your family’s net worth, purchasing power, and liquid asset needs.

10 Reasons to Believe That We're in a Depression

As the economy drifts listlessly going into this holiday season, thoughts of sugar-plumbed call options and zombie companies (Fannie Mae (FNM), Freddie Mac (FRE), and Citibank (C)) are dancing in the heads of day traders, fund managers and CNBC.

Hooray, hooray, everything is OK! Well, not quite. While Wall Street is feasting on the greatest secular bear market bounce in history, Main Street is experiencing persistent and formidable economic famine, the likes of which, have not been seen the Great Depression – which recorded the second greatest secular bear market bounce in history.

10. Look at the macroeconomic data.

Tuesday’s retail sales number, up 1.37 %; excluding autos, were up .2%. The year-over-year number was -1.74%! The world ended September 15, 2008, with the demise of Lehman. Financially, October 2008 was the dark side of the moon, yet, October 2009 still lags? The GPD is in a funk.

9. Look at the market’s technical data

On CNBC’s Fast Money last week, a dazed and beaten Louise Yamada pointed out there are “green shoots” of stock distribution appearing in the market; rising volume on falling days and falling volume on rally days. Additionally, the market’s chart pattern still roughly traces 1932-1941 period. We are near the 1938 bounce during the Great Depression. Money was and can be made in a depression.

8. Look at the market’s fundamentals

On November 6, the Wall Street Journal reported that, with 88% of companies reporting earnings, year-over-year was down 15%. However, earnings estimates by analysts were beaten by 80% of the reporting stocks. Sales are down but layoffs and cost cutting are allowing the market to believe in this Immaculate Conception rally. At some point, currency exchange manipulation by international corporations and lower wages, or fewer workers employed, invariably leads to the destination of painful contraction and negative growth.

7. Consumers

Consumers are toast and retailers are beginning to blink for the holidays. The housing index is rolling over; flat in November at 17, revised downward in October from 18 and September recorded its high of 19 since falling down into single digits. Wednesday morning, housing starts showed a drop of 10.6%, on a seasonally adjusted annual rate, to 529,000 units. In 2006, housing starts were closer to 2,000,000 units. Unemployment is 10.2% ( for U-3; for U-6, the unemployment figure is 17.5%), the housing ATM machine is gone, wages are weak (except on Wall Street) and the market rally has helped institutions more than retail. Credit card lines of credit are truncating, loans are for those who don’t need them and many consumers are too gun-shy to use credit if they could.

6. Municipal Governments

John Maudlin latest piece did a brilliant job dissecting the bleak future of state income shortfalls. A jobless recovery with missing sales taxes will create at minimum 10 more California fiscal basket cases in 2010. The first round of stimulus money actually bailed out states – that’s why new job creation was so muted. Municipal defaults will emerge next year to terrorize investors.

5. Federal Government

Washington doesn’t have the stomach to break up banks that are too big to fail and to seriously reregulate the financial industry. The reverse merger of Washington DC by Wall Street in 2008 makes this so. Much of the financial products that the feds have guaranteed, to the tune of $24 trillion, are so complex that they are only understood by their creators - the borrowers. This ensures that we can sweep our current problems under the rug today to inflict more pain tomorrow. Even if we do not bring back mark-to-market anytime soon, at some point the battered dollar will force interest rates to rise and drive the economy down. Also, certain people in high places need to be replaced. Sadly, they will keep their jobs.

4. The global economy

Countries are diversifying away from the dollar and into gold and other hard assets. So should we (SGOL, SIVR, GDX, GDXJ, IAU, and GLD). They recognize that our fiscal and monetary policies are out of whack and no one in the US, either businessmen or politicians, is putting country before profits or reelection. This is the mindset that formed the greatest generation. South America, circa 1980s, here we come. Also, many countries are recovering faster than the US because their actions in the crisis aimed at repairing their economies, not individual companies.

3. Baby Boomers and retirement

Baby boomers who’ve lost jobs in this period realize their chances of finding one last job before retirement, at their last income level, are extremely low. The “severance package” class of unemployed, and the employed but leery worker, will not return to their previous spending habits. Years ago, they were told to save long-term in the stock market through index funds and to dollar-cost average, to buy more real estate than you could afford because both stocks and real estate rise over time, to fund their retirement accounts and buy company stock, to trust municipal bonds, and they would be alright. Unfortunately, as they near retirement, too few baby boomers are alright.

2. Income and wages

Either global competition, or inevitable draconian changes in fiscal policy to address our growing federal debt, or both, will reduce US wages for many years to come. To increase productivity, wages have been flat for the past 10 years. It was masked by the irrational stock and real estate markets. Without America discovering the “next new thing” our previous standard of living will accelerate downward. State and federal governments will desperately tax income sooner rather than later. These factors enhance the chances of the next leg of our depression.

1. The 21st Century

Every champion, eventually, must retire from the ring. The US is no different. And that is the primary reason most professionals have gotten some portion of the last three years wrong. Any data set from the 20th century is obsolete without significant adjustments. Linear extrapolation of historical patterns of growth, revenue, and consumption, without correctly modifying credit, demand and demographics, plus the impact of technology, domestic tariffs and regulations, and Realpolitik, is like placing a compass inside a magnetic field. Good luck.

No one can take away the fact that America owned the 20th century. However, in the 21st century, cheap land, cheap labor and a younger demographic profile, suggests that in 20 years, the reins of power will be in the adolescent hands of a rapidly growing Asia. So, we invest in their currency (CYB, ICN, and BZF), finance their growth (DRF), and sell them the raw materials (DBN) that they will need to build tomorrow.

For now, besides military weaponry, our number one export is entertainment (DIS).