Financial Review

Spring Break

Sinclair Noe — April 6, 2017

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DOW + 14 = 20,662
SPX + 4 = 2357
NAS + 14 = 5878
RUT + 12 = 1364
10 Y – .02 = 2.34%
OIL + .55 = 51.70
GOLD – 3.80 = 1252.60

Yesterday saw a big reversal – from triple digit gains on the Dow to a loss at the close. Today’s trading followed that pattern, but not the magnitude.

President Trump flew to Florida to hold his first meeting with Chinese President Xi Jinping, facing pressure from a crisis with North Korea, and working to make good on promises for trade concessions. The US and China account for one-third of the global economy.

The two countries not only drive the world economy but also rely critically on one another, a fact that should moderate the decisions of these two strong-willed leaders. Overall, the U.S. rang up a $347 billion trade deficit with China last year, with California responsible for roughly a third of that amount.

About 30 states imported at least $1 billion more in Chinese goods than they exported, per data from the International Trade Administration, an arm of the U.S. Department of Commerce. Tough actions could end up harming many American consumers and businesses. Bloomberg Intelligence Chief Economist Michael McDonough writes: Shoppers at Wal-Mart and Target would see an immediate surge in imported goods costs. U.S. corporations selling into or producing in China would see lower profits. The promised benefits — a return of U.S. manufacturing jobs — appear uncertain.

High labor costs, automation and sticky supply chains all make it difficult for firms to relocate back to the U.S. This suggests the Trump administration might be content with symbolic wins, rather than major sanctions.

The Pentagon and the White House are in detailed discussions on military options to respond to a poison gas attack in Syria that killed scores of civilians, and which Washington has blamed on the Syrian government. Trump said today that “something should happen” with Assad after the attack, but stopped short of saying he should leave office.

Secretary of State Rex Tillerson said however, there was no role for Assad in Syria in the future. Any US action against Syria’s government would open a new front in Syria’s fighting, with consequences that are difficult to foresee. Entering such a confrontation might complicate the fight against ISIS and potentially draw in Russia. Possibilities for military action reportedly include striking the Syrian air force or specific military targets.

Senate Republicans voted to strip Democrats of the power to filibuster President Trump’s nominee to the Supreme Court, invoking the so-called nuclear option. Senators voted 52-48 along party lines to change the Senate’s precedent, lowering the threshold for advancing Neil Gorsuch from 60 votes to a simple majority.

They then immediately voted 55-45 to advance the nominee to a final confirmation vote, which is expected to happen Friday afternoon. Senators on both sides lamented the escalation of partisan tactics over Gorsuch’s nomination and warned it would erode the fabric of the institution, which has traditionally protected the rights of the minority party.

House Intelligence Committee Chairman Devin Nunes temporarily recused himself today from all matters related to the committee’s ongoing probe into Russia’s interference in the presidential election, as House investigators look into ethics allegations against him.

Nunes said in a statement that he decided to recuse himself after complaints were filed with the Office of Congressional Ethics about his leadership. Nunes called the charges “entirely false and politically motivated,” but said his recusal would be in effect while the House Ethics Committee considers the matter.

The House Ethics Committee released a statement saying it had “determined to investigate” allegations that “Nunes may have made unauthorized disclosures of classified information, in violation of House Rules, law, regulations, or other standards of conduct.”

White House economic adviser Gary Cohn said he supports bringing back the Glass-Steagall Act, a Depression-era law that would revamp Wall Street banks by splitting their consumer-lending businesses from their investment arms. The National Economic Council director, also a former Goldman Sachs president, expressed support to lawmakers for a banking system where firms would focus primarily on trading and underwriting securities or issuing loans.

Big banks have strongly opposed such a move that would fundamentally overhaul their business. Reinstating the law, which was repealed in 1999, has not attracted significant attention in Congress, but advocates in the White House and both parties now argue it would provide critical safeguards to prevent another financial crisis.

Minneapolis Federal Reserve President Neel Kashkari criticized JPMorgan Chase CEO Jamie Dimon over what he contends are unrealistic views on core U.S. banking regulations. Dimon’s assertions in a letter to shareholders this week that government-imposed capital requirement for big banks are holding back lending and that relaxing them could spur economic growth “are demonstrably false,” Kashkari said in a blog entry posted to the Minneapolis Fed’s website.

In his letter, Dimon lamented that JPMorgan is constrained in lending because of capital demands. In response, Kashkari noted that the bank has bought back $26 billion of its own stock in the last five years, using money that he says could have been loaned to customers.

One thing Kashkari and Dimon did agree on: “reducing regulatory complexity.” But Kashkari is continuing to argue that higher capital can replace other regulations while Dimon said that there is already “excess capital in the system.”

A federal judge in Detroit said he plans to name former FBI director Robert Mueller to oversee nearly $1 billion in Takata Corp restitution funds as part of a Justice Department settlement. In January, Takata agreed to plead guilty to criminal wrongdoing and to pay $1 billion to resolve a federal investigation into its air bag inflators linked to at least 16 deaths worldwide.

As part of the settlement, Takata agreed to establish two independently administered restitution funds: one for $850 million to compensate automakers for recalls, and a $125 million fund for individuals physically injured by Takata’s airbags who have not already reached a settlement.

Even with the US economy boasting impressive job growth and domestic equity markets near record highs, a fragmented recovery has left many states struggling to close budget deficits nearly a decade after the 2008 financial crisis.

The broad recovery has benefited large, economically diverse states like California and Texas, ratings agencies say, while states heavily dependent on oil revenues, like North Dakota and Alaska, and those like Illinois that are grappling with large unfunded pension obligations, have seen budget deficits bloom.

That has left those struggling states with painful decisions over spending cuts and tax increases, and ill prepared to deal with another economic downturn or cuts to federal money tied to the Medicaid program.

S&P Global has downgraded 11 states compared to just two upgrades since January 2016. It has 11 states on negative outlook, which means the ratings agency believes more than 20 percent of states are in danger of a credit downgrade.

Per a recent report by the Center on Budget and Policy Priorities, half of the states face budget shortfalls despite overall economic growth and lack the revenue needed to maintain services at existing levels in 2018. No state has defaulted on its public debt since the 1930s. Despite many near misses more recently, the possibility of any state going under financially is remote at best.

Wall Street’s bet against empty malls is getting too crowded, per Citigroup analysts, who instead recommend wagering against individual retailers as the “next big short.” The strategy differs from the one pursued by a growing number of hedge funds, which have wagered against mall properties through CMBX derivatives indexes that tracks commercial mortgage-backed securities.

The prevailing theory is that failing brick-and-mortar retailers will mean higher vacancies and bankruptcies for mall operators, with losses inflicted on CMBS holders. But the trade has become so crowded in recent weeks that betting the index will drop even further is a longshot.

Retailers have been struggling for years as consumers defect to online merchants such as Amazon and shift spending to experiences such as dining and travel instead of merchandise. Mall operators are under pressure from anchor stores such as J.C. Penney and Macy’s, which have announced plans to shutter stores, and Sears Holdings has raised doubts about its survival.

Yesterday we told you Payless ShoeSource was filing for bankruptcy protection and closing nearly 400 stores. The list of store closures was released today, and 7 stores in Arizona will be shut down.

Taser International  will change its name and ticker – the new name is Axon. A-X-O-N and it is launching a program to equip every US police officer with a body camera, including supporting hardware, software, data storage and training, all free for one year.

Axon’s aim is to provide police departments in the United States with the technology so that officers — frontline officers in particular — can effectively try it, learn how to use it and offer insight on how best to implement it. While Taser will remain one of the company’s trademark products, the company attributed its name and ticker change to changing times and a shift in the focus of their business. The new ticker symbol is AAXN

The number of Americans who applied for unemployment benefits near the end of February fell by 19,000 to 223,000, setting a fresh post-recession low and illustrating the strength of the labor market. We’ll find out more tomorrow with the release of the March Jobs Report.

Economists’ estimates are calling for still-solid gains of 175,000 in the public and private sectors, but that would be down from an average pace of about 237,000 the first two months of the year. The recent strength in the labor market could make it tougher for employers to find skilled workers.

Financial Review

Quiet, Almost Too Quiet

Sinclair Noe — March 9, 2017

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DOW + 2 = 20,858
SPX + 1 = 2364
NAS + 1 = 5838
RUT – 5 = 1360
10 Y + .05 = 2.60%
OIL – .53 = 49.75
GOLD – 7.20 = 1201.80

Stocks dipped in afternoon trade but held on for minor gains, next to nothing really. Another quiet day. The S&P 500 and the Dow Industrials have not suffered a 1% decline in 102 trading sessions, dating back to October 11.

The longest stretch of trading days without a 1% decline since Dec. 18, 1995 for the S&P 500 and the longest since Sept. 20, 1993, for the Dow. It’s quiet, almost too quiet.

Another drop in oil prices weighed on energy shares while financial shares pared some of their early gains. When asked during a briefing whether President Donald Trump still backs his campaign pledge to restore the Glass-Steagall Act, White House spokesman Sean Spicer said that he did.

The law, which separated commercial and investment banking, was repealed in 1999 and, if reinstated, would mainly apply to larger banks, which have been market leaders in the past few months. Much of the gain for financials has been built on the idea of deregulation.

The European Central Bank left interest rates unchanged. The Governing Council left the main refinancing rate at 0%, while the rate on deposits parked overnight at the bank remains at minus 0.4%. The rate on the bank’s marginal lending facility remains at 0.25%.

In a statement, the bank repeated that it expects rates to remain “at present or lower levels for an extended period and well past the horizon” of its bond-buying program, which is scheduled to run through at least December. The ECB also repeated that it stands ready to extend the size or the duration of the bond-buying program if the outlook deteriorates.

The Labor Department reports imports rose 0.2 percent in February, above the expected gain of 0.1 percent, after climbing 0.4 percent a month earlier. Export prices, meanwhile, rose 0.3 percent.

Outplacement consultancy Challenger, Gray & Christmas reported employers announced plans in February to cut 36,957 jobs, a 19 percent decline from January. Per Challenger, employers said they would hire 166,266 workers in the first two months of 2017, the highest January-February on record.

The retail sector once again planned the most cuts as companies closed brick-and-mortar locations and steered business online. Retailers said they would cut 11,889 jobs in February. The energy sector saw a massive year-over-year drop in job cuts, announcing only 5,930 compared with 45,154 in February 2016.

The number of Americans who applied for unemployment benefits jumped by 20,000 to 243,000 in early March, but layoffs remained near a 45-year low. The four-week average of initial claims, meanwhile, rose by 2,250 to 236,500. Continuing jobless claims dropped by 6,000 to 2.06 million. Tomorrow, the government is expected to report a gain of about 210,000 new jobs in February.

Meanwhile, the Arizona Department of Labor published the state jobs report for January and it shows the Arizona unemployment rate unchanged at 5%, however the state lost 53,600 jobs in January. The biggest job losses per sector were in Trade, Transportation, and Utilities (-18,000 jobs); Professional and Business Services (-16,400 jobs); and Government (-13,700 jobs). Arizona Non-farm employment grew by 2.0% (53,700 jobs) over the year in January.

If you are looking for entertaining analysis of the markets, it’s tough to beat Bill Gross’ monthly investment letter. Gross, who runs the Janus Global Unconstrained Bond Fund, characterized the run-up as the “Trump bull market and the current ‘animal spirits’ that encourage risk.”

Details on Trump’s plans remain scarce, however, and equity gains have moderated on growing concerns that stock valuations may be high. The S&P 500 is trading at about 18 times forward earnings estimates against the long-term average of about 15 times.

Gross said the global economy has created more credit relative to GDP than that at the beginning of 2008’s great credit recession. Gross said: “In the U.S., credit of $65 trillion is roughly 350 percent of annual GDP and the ratio is rising,” adding, “our highly levered financial system is like a truckload of nitro glycerin on a bumpy road.

One mistake can set off a credit implosion where holders of stocks, high yield bonds, and yes, subprime mortgages all rush to the bank to claim its one and only dollar in the vault.” It happened in 2008, Gross said, noting central banks could drastically lower yields and buy trillions of dollars via Quantitative Easing (QE) to prevent a run on the system. “Today, central bank flexibility is not what it was back then.”

You may recall that back in January, Bill Gross said that if the yield on the 10-year Treasury note crossed 2.60%, that would be the critical level both to the bond market and to stock prices. “If 2.6 percent is broken on the upside … a secular bear bond market has begun,” Gross said.

“Watch the 2.6 percent level. Much more important than Dow 20,000. Much more important than $60-a-barrel oil. Much more important than dollar/euro parity at 1.00. It is the key to interest rate levels and perhaps stock prices in 2017.”

Gross said the 10-year yield has been in a downward trend line since 1987. If that channel is broken, look out. Today, the 10-year note closed at 2.60%.

House Democrats on the Energy and Commerce Committee staged a marathon fight to slow down the GOP’s Obamacare replacement, but ultimately failed to stop the bill. After a 27-hour delay, the Energy and Commerce committee approved the American Health Care Act in a party line vote. The bill will next be considered by the House Budget committee. The Congressional Budget Office is expected to score the bill next week.

As part of a plan to reshape its business, Royal Dutch Shell is selling its oil sands interests in Canada in a two-part deal worth $7.25 billion. It will offload stakes and reduce its share in the Athabasca Oil Sands Project for $8.5 billion in shares and cash, while jointly purchasing Marathon Oil Canada Corporation with Canadian Natural Resources for $1.25 billion.

Oil drops below $50. West Texas Intermediate crude oil plunged more than 5% on Wednesday after Department of Energy data showed US inventories swelled to a record-high 528 million barrels. That selling has continued day, with WTI dropping below $50 a barrel, its lowest since the end of November.

PPG’s bid to buy Dutch paints and chemicals rival Akzo Nobel was rejected. A deal would have created a global behemoth in specialty chemicals that would have made ingredients for products including skin creams, car paint and iPhone coatings. Akzo said the unsolicited $22.1 billion cash and stock offer undervalues the company and isn’t in the best interests of shareholders.

The French waste and water company Suez Environnement said it has partnered with a Canadian pension fund manager to acquire General Electric’s water treatment technology business in an all-cash deal that valued the business at about $3.4 billion.

GE put its Water and Process Technologies unit on the sales block in October after it agreed to merge its oil and gas division with a fellow services provider, Baker Hughes. The GE business provides water treatment and process services to industrial clients and reported revenue of $2.1 billion last year, with about half of that in North America.

Sears reported a narrower loss in the fiscal fourth quarter than the period a year earlier, but revenues continued to fall, as they continue to close stores and sales continue to decline at its remaining stores. The company’s long-term debt obligations nearly doubled from the prior year, despite the chain’s efforts to raise cash by selling off assets.

Sears took a $381 million charge during the quarter to write down the value of its trade name. Sears completed the sale of its Craftsman brand to Stanley Black & Decker for an initial upfront cash payment of $525 million with additional payments over time.

The Great Recession and the housing bubble left many homeowners underwater, with negative equity in their homes, they were stuck – under house arrest; they couldn’t sell, they couldn’t move, and many homeowners could not keep up important maintenance, much less upgrades. That’s good news for home flippers.

In 2016, the median age of a flipped home was 37 years, per a report out from Attom Data. That’s the oldest in the nearly two decades, and about double the median age of homes flipped before the downturn. The median size of flipped homes was the smallest on record in 2016, at 1422 square feet.

There were 3.1% more flips in 2016 than 2015, and 0.5% more flippers. And flippers could sell their properties for a median of $189,900 in 2016, offering a median gross profit of $62,624, or 49.2%, the highest on record. So, it looks like flippers still have legs.

Gallup-Healthways has released its  Community Well-Being Index . Researchers analyzed 350,000 interviews to rank 189 communities by physical, emotional, financial, community and social health; basically, a look at the happiest and healthiest cities in America. They found that living near the beach doesn’t guarantee your happiness — but it certainly doesn’t hurt.

Communities in the Southeastern US and industrial Midwest were generally ranked lower in well-being, partly due to health problems including higher smoking and obesity rates. Topping the list: Naples, Florida. Phoenix ranked 47 out of 189.

Are We Witnessing The End Days Of Supply Side Economics?

Buried beneath the rubble of Greece's insolvency and the chronic fiasco that is devouring the weakest members of the European Union, a larger question that ultimately will be spoken aloud and debated is this: are we at the end of Thatcherism, Reaganomics, and supply-side economics?

Since 1980, commercial markets have been operating more and more under a laissez-faire governmental thesis to unleash the maximum potential of capital in the marketplace. The co-pilots of relaxed rules and supervision and a secular expansion of debt have guided us into the abyss twice in the last five years. Supply-side economics' principles of wealth redistribution, mainly upward to capitalists, and the temporary or illusionary rise in personal net worth for the average man, may have run its course.

At the beginning of the Thatcherism and Reaganomics era, unshackled commerce benefited from, and some will argue it was the cause of, a secular drop in interest rates, a secular fall in inflation, and the early days of the greatest secular bull stock market ever recorded. Two generations of accumulated middle-class wealth in the richest economy and best educated mass society on the planet was its accelerant.

Any economic theory converted into policy must be able to translate itself from intellectual discussion to practical application with acceptable results. And, the results must prove acceptable and visible to most parties involved with the outcomes for this new zeitgeist to continue with broad societal support.

Embracing a new economic theory, after it gains a foothold in the public consciousness, only occurs when a sustained undesired economic result from the previously employed thesis metastasize into a full crisis for the political class.

The working class - junior partners in the economy were given an invitation to join the gentry class and their senior partners in the early1980's if they would abandon the vulgar thoughts and filthy habits of Marx and Engels, while whistling The International.

Through discounted stock commissions, mutual funds, annuity products, limited partnerships, Keogh plans, 401K and IRA accounts, and other investment opportunities of the noblesse oblige, these new pledges of wealth, privilege and profligate lifestyles seeing their household net worth rise only reinforced in their minds the powers of supply-side economics.

Going forward, supply-side economics was accompanied by continuing deregulation, federal tax cuts and federal deficit spending, a new mantra of "maximizing shareholders' value", creative accounting, and open global borders with reduced or eliminated import tariffs, and technological and financial products innovation.

Below is a summary of the stock market's performance over those years, taken from Wikipedia:

1967-1982: Bear market. Traders deal with a stagnant economy in an inflationary monetary environment. The Dow enters two long downturns in 1970 and 1974; during the latter, it falls nearly 45% to the bottom of a 20-year range.

1982-2000: Bull market. The Dow experiences its most spectacular rise in history. From a meager 777 on August 12, 1982, the index grows more than 1,500% to close at 11,722.98 by January 14, 2000, without any major reversals except for a brief but severe downturn in 1987, which includes the largest daily percentage loss in Dow history.

2000-present: Bear market. The index meanders and then plunges to a closing low of 7,286.27 on October 9, 2002. A cyclical bull peak at 14,198, reached exactly five years later, does not surpass the inflation-adjusted 2000 high. A renewed bear is recognized in summer 2008 and multiple volatility records are set that autumn. Another acute phase in early 2009 brings the index to new 12½ year lows south of 6,469, for a total loss of 54% in less than 18 months. In the following three years, the Dow remains volatile, but manages a near-doubling to 45-month intraday highs just under 12,925 on February 9, 2012.

We now recognize there are too much outstanding private, corporate, and government debt obligations to ever be serviced, or repaid. Vast quantities of underlining assets belonging to this debt are mispriced, dubious in quality, or is virtually non-existent. Over one trillion dollars in compelled recreational debt is tied up in student loans by Generation Y - the Millennials.

The current time value of money is grotesquely warped, in the hope of extending the charade of affluence which us crumbling, and is having a deleterious effect on real savings and unbridled speculation. The notional value of outstanding derivative contracts is incomprehensible when compared to total global wealth. Algorithm trading has perverted daily market activity.

Unlike 2008, when markets froze up or collapsed due to price discovery, un-coerced supply and demand curve changes, and unsound, opaquely-structured investments, laced with greed and fear, what we are witnessing today is basic multiple organ failure of a financial system that is beyond repair and is slowly shutting down.

There are no long term solutions to our existing problems that our current political and economic systems are willing to accept and employ. Therefore, supply-side economics has reached an impasse. For some, the future existence of supply-side economics is an uncomfortable question; equally uncomfortable questions are what will replace it and how soon?

As investors, not speculators, until the world determines its own future, preservation of capital must become an individual's top priority. Casual investing in these roiling times is reckless and tempting fate.

There are only two fundamental choices anyone can make when investing: exchanging principal for fractional ownership, thereby, risking total loss of principal for fractional unlimited appreciation, or, lend principal for a specific period of time, a specific interest rate adjusted for risk, and an expectation of timely payments and the return of principal.

Every investment in the world is a derivative of one of these two fundamental investment tenets.

Today, short-term interest rates are near zero; long-term rates are below 3%. Monetary policies around the world are set for generating inflation to lift asset prices and to jumpstart floundering economies. Entities, globally, that have not already reduced their outstanding debt, are either overleveraged or in the process of deleveraging.

Compulsive-shopping baby boomers are saving more and spending less as retirement and the aging process claims thousands of boomers daily, around the world. Political unrest, inspired by deteriorating economic conditions is only exacerbating a bleak looking future for career and employment opportunities seekers. On every continent, youth unemployment is on the upswing as automation renders their workforce participation less and less necessary.

These headwinds are enormously complex and forceful. Some are irreversible. Until that next new transformative thing appears, 20th century supply-side economics' diminishing returns will be harshly judged in this more challenging 21st century environment.

Ultimately, it will adapt, or, like economic systems that preceded it and became obsolete after failing to adjust, it too shall disappear in the rearview mirror of time.

JP Morgan’s $2 Billion Misfortune

J.P. Morgan Chase (JPM) on Thursday, after the market close, announced a $2 billion hedging loss against a $100 billion derivative portfolio, by the company’s Chief Investment Office (CIO). On Friday the market punished J.P. Morgan by dropping the price of the stock 9%, closing slightly above $36 dollar a share.

Jamie Dimon, chief executive, J.P. Morgan Chase, said on the Thursday conference call that the bank's hedging strategy was "flawed, complex, poorly reviewed, poorly executed and poorly monitored," He called the mistake "egregious, self-inflicted," and stated: "We will admit it, we will fix it and move on".

I saw this movie trailer once before in 2007. The 2008 financial crash was a full-length horror film.

I pray that this isn't the beginning of another financial crisis but this is exactly how it started in January 2007 with mortgage companies and small banks losing money and closing followed by the first big Wall Street failure, Bear Stearns, in March of 2008. Is it possible that the bankruptcy of MF Global last October 31, 2011, the seventh largest bankruptcy in U.S. history, is this financial crisis cycle’s Bear Stearns – if a full blown crisis does occur?

A $2 billion dollar trading loss will not put J.P. Morgan out of business. They generate that much revenue in a month. Unfortunately, other financial institutions may not have the capital and expertise to weather another financial crisis. JP Morgan put this strategy on and most likely other firms. Time will tell who they are and if they will survive. However, if this is the first inning of another crisis, before it's over, the industry’s grim reaper may come knocking on J.P. Morgan's door. This possibility is real and is frightening.

The western financial world is struggling with debt and political prices are being extracted at the voting booth for this economic and regulatory mismanagement. Look at the French and Greek elections. The citizens in both counties rejected draconian austerity measures demanded by German Chancellor Angela Merkel on behalf of the western banking system in exchange for additional European Central Bank (ECB) and International Monetary Fund (IMF) assistance. Voters in Germany’s northernmost state ousted a governing center-right government made up of the same parties as Chancellor Angela Merkel's federal coalition, too.

French President Nicolas Sarkozy was ousted by voters and replaced with France's president-elect, François Hollande. Mr. Hollande campaigned on raising taxes on the rich and protecting workers’ and citizens benefits.

Greek voters elected neo-fascists in parliament for the first time while the hard left finished in second place. The Syriza Party, a coalition of radical left and green groups took 16.6% of the vote. The far-right party known as the Golden Dawn elected 10 members. This was feared but unexpected.

Back to JP Morgan, the 2700 plus page Frank-Dodd Wall Street Reform and Consumer Protection Act, passed in 2010, was designed to reform deregulation of the financial industry, preventing reckless, overleveraged, and proprietary trading by banks.

It is a flawed piece of legislation that was passed and signed into law before it was completely written. The Volcker Rule, named after former Federal Reserve board Chairman Paul Volcker, is but one item out of many in the Act still being debated by congress and the banking industry and their lobbyists.

Congress is scheduling hearings on the opaque losses and industry regulators are also looking into the trading activity of the CIO.

Jamie Dimon also stated losses could grow beyond $2 billion.

Should the Feds Create Inflation? This Time It Is Different

Through the bombs bursting in the Korean Peninsula’s air, minutes of the FOMC meeting were released Wednesday. The division over Quantitative Easing II (QE II) wasn't as intense as the 58 year old NoKo/SoKo conflict. However, I have reservations with this logic in 2010 of affirmative voting Fed members’ confidence behind QE II theory of inflating asset prices will put a halt to deflation. 

That QE II will create a wealth effect and stimulate consumer spending, the easy stuff like the dubious weekly Jobless Claims dropped to 407,000 from a previous week upward revision to 441,000, from 439,000 is showing a positive trend. 

Also, The Reuter's/University of Michigan's Consumer sentiment index rose for November to 71.6 and third quarter GDP growth was revised up to a 2.5% annual growth from an estimate of 2.4%. The hard stuff, physical things like durable goods and housing (found below) tell a different story. Durables orders in October fell 3.3 percent, a figure below the median market forecast decline of 0.1%.  

Unfortunately, the Fed’s beautifully elegant thesis isn’t growing inside a sealed petri dish with exact ingredients from the 1930’s or 1970’s. Therefore, past performances do not guarantee future results.  

For those of us old enough to remember the 1970’s it was a far different world. During that period, current dollars had greater purchasing power than holding them until tomorrow, so it was logical for consumers to spend money immediately. However, the basic financial infrastructure for consumers was the opposite of what it is today. 

Take credit cards; this was a relatively new consumer product. Interest rates were fixed, unlike today. Shoppers would hand their credit card to a merchant and the merchant would pick up the phone and call an authorization center for approval. Then, the card would be placed in a manual charge card machine to make an impression on carbon paper for the shopper to sign after approval was granted. 

Holding and servicing fixed debt during “normal” inflationary times is easier to do if incomes are rising, mirroring the change in inflation. Virtually every credit card issued today has a variable rate. Wages have been stagnant in the US for ten years and Ireland just announced an austerity plan which includes cutting minimum wage which could become a harbinger of things to come in America. 

If we experience prolong inflation, the interest rate on consumer debt will be adjusted upward to cover issuers rising costs, accordingly. This will cancel any presumed benefits for creating inflation. 

Mortgages were different then, too. Adjustable rate mortgages did not exist. When you purchased a 30-year fixed mortgage, you could plan for your next 360 mortgage payments. This became problematic during the real estate bubble of 2003-2007. Teaser rates tied to Prime, LIBOR, the 11^th district, T-bills, COSI, etc, that allowed borrowers to qualify disappeared after 12, 24, or 36 months. Real mortgage payments undermined the false real estate prosperity of the day.

In the 1970’s mortgages were also assumable in many instances. The fixed mortgage came with your home. Think what our current housing market would look like if residential real estate came with mortgages. Would housing markets have experienced 30%, 40%, 50% in value or more, with assumable loans attached? Is a house easier or harder to sell with an assumable mortgage? 

Maybe this is an opportunity for the Department of Treasury to self-refinance mortgages directly with borrowers. New Home Sales reported the average price fell 8.0 percent to $248,200 while sales of new homes which fell 8.1 percent to a much lower-than-expected annual unit rate of 283,000. The median price of a new home plunged 13.9 percent in October to $194,900, a seven year low. 

Existing home sales were even worse. Sales fell 2.2 percent in October to a 4.43 million annual unit rate. The year over year change is a staggering 25.9%. Supply on the market has returned to 10.5 months. The median price fell an additional six tenths to $170,500. The average price moved two tenths higher to $218,700. 

Consumers were protected in other ways. In 1980, Congress passed the Depository Institutions Deregulation and Monetary Control Act exempting federally chartered savings banks, installment plan sellers and chartered loan companies from state usury limits. This effectively overrode all state and local usury laws. Heretofore, banks were limited by law as to what interest rate they could charge customers. 

Then, there was collective wage bargaining. The apex of organized labor existed in this time frame. For employees, price inflation was met with multi-year wage contracts, negotiated wage increases, and Cost Of Living Adjustments (COLA). Employers could better plan their labor costs and workers would not fall too far behind, too quickly. In retrospect, these automatic triggers helped exacerbated moderate inflation as it fulfilled structural price increases. 

Manufacturing as well as capital was neither nimble nor mobile in the pre-digital age. Employers were more inclined to sit down with workers and arrive at a schedule of wages and benefits both sides could live with. Relative labor peace in the US resulted from this tack verses a more confrontational civil disobedient approach on the European continent. 

The America I just described no longer exists. Instead of a fairly closed economic system capturing Ben Bernanke’s domestic asset price inflation action, the global economy will absorb our inflation, spilling into overheating emerging economies. This will cause resentment toward our predatory monetary policy. 

At home, stubbornly high unemployment continues as more hiring of temporary and contract workers identify firms that are practicing company before country, and a deteriorating financial system that is biting disproportionately into financially vulnerable consumers’ thinning disposable income. 

Municipalities are moving closer to default, just like Europe, under the weight of this radical redistribution upward of capital since the repeal of Glass-Steagall Act. The probability of a double-dip recession followed by uncapped interest rates and a widening chasm between Tiffany & Co. and Target customers, and rising corporate profits grows. 

The Ben Bernank offers other lesser reasons why QE II is necessary, such as a goal of optimal employment, without any major tax or infrastructure jobs initiatives coordinated with other quarters of government. I think their reasoning and aiming needs more work. 

Should We Reinstate Glass-Steagall?

The one unmentionable topic that has become the non-barking canine is reinstating the Glass-Steagall Act after we repeal the Gramm-Leach-Bliley Act. Since no one else will say it aloud, I will. Let us re-erect supposedly harsh regulatory lines separating activities between commercial banks and investment banks. Once more, commercial banks may only underwrite government-issued bonds (which should keep them busy for years), thus avoiding the temptation of deposits. The remainder of underwriting securities goes to investment banks.

Before everyone reaches for his or her keyboard, telling me why repealing the Gramm-Leach-Bliley Act, which negated Glass-Steagall, is impractical and is a business-growing impediment, in the 21st century, that is precisely the dash of regulatory perspective we seriously need now.

Financial institutions will forever devote a significant portion of their energy and their cash to figure out ways around regulatory restrictions. It is not the job of domestic authorities to placate the whims and desires of global institutions playing international markets, using docile laws, for fun and profits.The values of international capitalism do not run congruent with the values of domestic capitalism. In addition, domestic capitalism has a lousy track record against international capitalism.

The Obama Administration has giving broad powers to the Federal Reserve to oversee banking, and amorphous money institutions, including increased capital ratios. New ratios, however, are below some international standards.Another byproduct of the reshuffling of regulatory priorities will mix for the first time the oversight of commerce and banking. Nevertheless, the absence of strict divisions between banking business lines is unchanged.

Under the Glass-Steagall Act, when enacted in 1933, regulators protected bank depositors from stock market speculation and other investment banking activities. Over time, we also generated enough wealth to end the Great Depression, create the largest middle-class any nation has experienced in history. We were able profitably expanded the aviation, automobile, and pharmaceutical industries.

Nor did American capitalism neglect the opportunities to make money in entertainment, travel, aerospace, electronics, or telecommunications. The existence of Glass-Steagall did not block private industry from entering, and making individuals rich, from the computer and personal computer areas.Trade and manufacturing benefited greatly through the years with G-S on the books.

Last but not least, the financial industry. As Charlie Sheen’s character, Bud Fox demanded an answer to his question from Michael Douglas’s Oscar-winning portrayal of Gordon Gekko in Oliver Stone’s 1987 Wall Street, “How much is enough?" People in the financial services industry made more money than most other Americans did throughout their careers. Wall Street did ok under Glass-Steagall. What good does it do to kill the golden goose as it increase production of delivering the golden eggs?

We will not go backwards even if it is in our best interest. We culturally frown upon looking backwards. Sometimes it is a virtue while other times it is risky.

Do we like managing risk or do we attempt to manage the risk we like?