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Posted: 17 Sep 2011 03:40 PM PDT
Posted: 17 Sep 2011 03:00 PM PDT
Frederick Sheehan is the co-author of Greenspan's Bubbles: The Age of Ignorance at the Federal Reserve.
His new book, Panderer for Power: The True Story of How Alan Greenspan Enriched Wall Street and Left a Legacy of Recession, was published by McGraw-Hill in November 2009. He was Director of Asset Allocation Services at John Hancock Financial Services in Boston. In this capacity, he set investment policy and asset allocation for institutional pension plans.
The prices of gold and silver shares are derived from the price of their reference metals. The referral method has gone astray, akin to a renegade ETF.
Osiris Investment Partners L.P. in Boston, under the authorship of Principal and Managing Member Paul Stuka, wrote to clients on August 18, 2011. The XAU Gold Index was down 6% for the year-to-date, and the GDXJ Gold Stocks Index of smaller gold miners had fallen 10%. On that same mid-August date, gold – the real stuff that hardly anyone owns but of which everyone within the media’s range is expected to express an opinion – had risen 26% in 2011.
The gap between gold and the diggers will close – when is hard to say. In which direction we will discover. The view here is that the stewardship of paper currencies, the medium in which gold, silver, and oil (crude, canola, and palm) are priced, has never been in worse hands. This is saying less than might be thought since it was not until 1971 that official money went untethered from impartial restraint (usually, gold). Alas, the world is slow to grasp central banks are peopled by political hacks (as Senator Harry Reid called then-Federal Reserve Chairman Alan Greenspan in 2005, but equally true of today’s empty suit) so now is the time to make money.
Money is to be made by holding anti-dollars. Federal Reserve Chairman Ben S. Bernanke continues to decompose before our eyes, stating on September 8, 2011, that the United States is blessed with lower inflation than other countries and “Low inflation means that the buying power of the dollar, in terms of domestic goods and services, remains stable over time.” It does not take a trial lawyer to see the inconsequentiality, inconsistency, or mendacity in that labored claim. Ben may be fishing turtles from the local creek, painting his barbarous equations on their backs, and selling them at the local five-and-dime (which would still be overvaluing his scholarship by at least a nickel), but shoppers at local farmer’s markets are paying the price for purchasing with dollars.
Osiris Investment Partners went on to write: “[S]ince the early 1980s, when the XAU Index was first constructed, until the fall of 2008, this ratio remained in a range of .16 to .38, even during the depths of the gold bear market. [That is the ratio of the XAU Gold Stock Index divided by the price of an ounce of gold in U.S. dollars. - FJS] During the financial crisis of 2008, this ratio dropped briefly to .09. Since that time, it has traded up to .16, but it has never exceeded the former floor. As I write today the ratio is .114. In other words, the gold shares are currently the cheapest that they have ever been, excluding a one-month period in the fall of 2008. On a fundamental basis, gold stocks have historically traded at 10 times or more annual cash flow. We are presently seeing many companies priced at one to three times potential forward cash flow, if they can execute their plan. Clearly, not all of them will realize the potential. However, many will.”
Of the cash flow, Erste Group, (Erste Bank, Vienna: “In Gold We Trust;” July, 2011; Ronald-Peter Stoferle), estimates the “aggregate free cash flow of the 16 companies in the Gold Bugs Index will amount to [$8.5 billion] this year and will increase to [$14 billion] by 2013.” Erste Group continues: “The companies in the Gold Bugs Index currently command an estimated 2011 [price-to-earnings ratio of] 14x, which is expected to fall to 12x in 2012. This is extremely low in terms of its own history (average PE 2000-2010: 33x) and in relation to many other sectors.” (The Gold Bugs Index consists of 16 mining companies that do not hedge their gold production. This is not necessarily true of the miners in the XAU Index.)
Potential investor seek the potential catalyst. What might that be?
First, the correlation among sectors in the S&P 500 has never been greater. ETFs and high-frequency trading rule the waves. Machines trade stocks in bulk, with little distinction among industries and companies. Such periods of over-zealous gimmickry and of intimidated investors are often good times to buy stocks that will later assert their superior characteristics.
Second, gold- and silver-mining shares are underowned in relation to one-stop-shopping ETFs. The miners know this. Shareholders have enlightened management: they need to pay out dividends to distinguish themselves as real companies. Recently, Newmont Mining stated it will increase its dividend by twenty cents per share for every $100 rise in the price of gold. Gold Resource Corporation has set a target of paying out one-third of its cash flow in dividends to shareholders.
Third, the argument of whether the world is inflating or deflating is tangential to the price of gold. Better expressing the “price of gold”: how many units of paper currency (such as the dollar) does it cost to buy an ounce of gold? (We are returning, now, to the reference metal). Gold has performed better in deflations than inflations, but the cause and effect that this relationship addresses (“gold is an inflation hedge”) may be misleading. Monetary, military, and political chaos have more often corresponded with deflationary than inflationary times. The real story is that gold is money but only speaks up when the credibility of states and their currencies deteriorate.
Fourth, the proportion of people who own gold and silver is small. (Particularly so in the United States, but that is not the point, here.) This is the greatest flaw of the “gold in a bubble” chorus. There has been no panic into gold, or, more likely for the Average Joe, into gold shares. At some point, the sight of Bernanke may be worth a quick $500-an-ounce trading profit. It should be, already.
Posted: 17 Sep 2011 09:41 AM PDT
I am not a fan of the mortgage mods and abatements or principle write-downs, but this is an interesting viewpoint:
Sept. 14 (Bloomberg) — Philip Angelides, chairman of the Financial Crisis Inquiry Commission, talks about the outlook for solving the housing crisis in the U.S. He also discusses mortgage modifications for underwater homeowners and credit availability for home buyers. Angelides speaks with Lisa Murphy on Bloomberg Television’s “Fast Forward.”
Posted: 17 Sep 2011 09:00 AM PDT
Herewith a potpourri of unrelated items I’ve found on my never-ending voyage through the internet. Grab a cup of coffee and pull up a chair.
Seen This Movie Before
First up, an excerpt from a speech given by Teddy Roosevelt in December 1906. I was taken by the opening line and the third paragraph. Indeed, his opening line could probably have been used countless times since he spoke it, most recently six or seven years ago:
But the third paragraph was really the jaw-dropper for me:
I’m always fascinated by how little we seem to learn and how likely we are to simply ignore history’s lessons. I wish I had more time to study our country’s history via the infinite documents and archives that have made their way on to the internet. So much to learn, so little time.
Maybe We’re Not So Lazy After All
I took Senator Jon Kyl to task here (March 2010) for an offensive comments about lazy Americans who would prefer to remain on unemployment benefits than be gainfully employed (“In fact, if anything, continuing to pay people unemployment compensation is a disincentive for them to seek new work.”). It’s worth re-running the chart I used at the time:
We now see, in a newly issued report, via the Wall St. Journal that:
Industrial Production and Private Sector Jobs
The change in year-over-year Industrial Production (INDPRO) and Private Sector Jobs (USPRIV) have a correlation of 0.83 over the past 50 years. Industrial Production seems to have put in a peak and, if my eyes don’t deceive me, I see payrolls just starting to rollover:
Buy-Side: Not Much Better Than Sell-Side
I posted here back in early August about Street-wide year-end S&P500 forecasts. I will say that I’ve breathed a sigh of relief as it’s become clear over the last six weeks that those forecasts were too optimistic and have been chopped across the board. I then posted here about one month ago when the first batch of 2012 S&P earnings estimates were published (Median: $104). I suspect it’s only a matter of time before those start getting pared, if they haven’t already.
I decided to take a look through the Barron’s archives to see what the seers were saying year-end 2010, and found the following graphic. What really jumped out at was the extent to which the consensus was looking for the 10-year in the range (generally) of 3.50 – 4.00% at YE 2011. Of course, it is only September, but I’d say that call’s as shaky as S&P1400. I also noted that the buy-side doesn’t look much better than the oft-maligned sell-side.
Fed Flow of Funds
The Fed released its Z.1 Flow of Funds report which, although always a bit stale, is a treasure trove of data. I never tire of finding ways to look at the data presented in the report.
Here, from Table B.100, are Household Real Estate (Line 4) and Corporate Equities (Line 24) as a percent of Total Household Assets (Line 1)
Here are Treasury Securities as a still-insignificant part of the American household’s financial assets (not total assets, just financial assets):
In terms of dollar holdings, Treasuries are now $835 billion on the household balance sheet versus financial assets of $49 trillion and total assets of $72.3 trillion. Liabilities stand at $13.9 trillion. Household real estate stands at $16.2 trillion, down some $6.6 trillion from the 2006Q4 high of $22.8 trillion.
Here’s Owners’ Equity as a Percentage of Household Real Estate:
On the chart above, we have made no progress since since the fourth quarter of 2008, when we sat at 40.1 (we’re now at 38.6 for two quarters running). This decline in homeowners’ equity speaks to the credit expansions that allowed Americans to live beyond their means while incomes — as we saw when the Census released its report last week — have been stagnating.
Last but not least, here’s Liabilities as a Pct of Disposable Income:
Though we’re below the upward sloping trendline on this file, the average over the period shown is 102%, which is a further shedding of about $2.25 trillion in liabilities (or similar gain in income, which we plainly know is simply not happening).
Are We Beyond Civil Discourse?
I’m still trying to figure out exactly what’s going on here. While Perry’s presiding over 234 state-run executions during his terms as governor may speak to our adherence to the rule of law (much as I may wish we had no such law), should we really be applauding the fact that our government puts people to death? Similarly, should the uninsured — specifically those who can afford but choose not to buy insurance — be left to die should something happen to them? And how far have we drifted from our moral moorings that we have a president (Obama, not Bush) who unilaterally orders the extra-judicial execution of American citizens? These developments are all deeply troubling, and speak to a society that has lost its way. It’s almost as though we can no longer distinguish between “reality TV” and reality.
I found myself in complete agreement with Phil Angelides in this interview with Bloomberg’s Lisa Murphy.
Catch up with me on Twitter: @TBPInvictus
Posted: 17 Sep 2011 05:35 AM PDT
They $2 billion hit of UBS is being called the work of a “Rogue” Trader. This is a false and misleading statement. Why? Because there are no rogue traders — just as there are no predatory borrowers — there are only rogue banks.
Here’s a news flash: If you issue credit, your working assumption MUST BE that there will be people who are not qualified who will try to borrow money. Your job each day is to separate qualified borrowers with the capacity to service that debt from the unqualified borrowers who do not have that ability.
Similarly, if your are in the business of using leveraged capital to speculate, then you MUST KNOW there are some people who are not competent to do so. Some of your employees (traders) will take losses, and in some cases enormous (but manageable) losses before moving on to other professions. A small few, however, may try to hide their inabilities. YOUR JOB is to separate the qualified from the unqualified, and to watch over the full lot. Thus, you establish trading limitations, leverage constraints, risk parameters. Traders have to stay within their money lines, maximum draw downs, loss limits, etc.
Thus, Firms that highly leverage their capital in order to put it into the hands of a few 1,000s employee speculators have a crucial job: They must ensure that capital is being precisely and properly managed. They must also make sure that risk levels are tolerable, that proper controls are in place, that their IT systems and internal technology can track what is happening, in as near to real time as possible.
This is not easy. It is a complex, difficult set of processes that requires constant vigilance. It must be reflected in the corporate culture from the top down. And, it becomes more and more complex as the size of the organization grows. The assumption MUST BE that EVERY employee is a potential rogue trader. (I was a rogue trader, but that’s a story for another day).
Anyone who runs a shop that has a proprietary trading desk is obligated to do everything in their power to prevent a single employee from bringing down the company. Indeed, everyone who earns their bonus by risking firm capital is a potential disaster. A rogue trader with massive losses is a sign of complete and utter failure BY THE BANK’S MANAGEMENT. It means that the supervisory functions have failed. That the ability to track what is occurring is not happening, certainly not in real time. In the case of the UBS London trader, he hid the losing trades for 3 years (so much for real time supervisory tracking).
That represents an utter failure of management.
Hence, the arrest of a so-called rogue trader is actually a red flag that the firm is not up to the task of discharging its internal oversight obligations. It is not being run properly — indeed, the discovery of the fraud is in fact a company admission of a poorly managed, failing organization. Senior management must be held equally as responsible as the trader. They may not have committed the same legal fraud (in hiding the trades), but they certainly should be sacked for their gross dereliction of duty.
Understand what this means within the broader context of our financial sector’s not so innocent foibles: Any firm that hires Robo-signers is just as bad as a firm that has rogue traders. Both actions are an indictment, an admission of failure and of managerial incompetence. Each represents a crucial failure of risk management, of legal compliance, of the ability to do their jobs safely AND within the law.
Why is this of interest to public policy makers? UBS’s failure to identify and prevent their rogue, just as Citigroup’s and Bank of America’s foreclosure frauds, are all part of a broader gallery of errors, omissions, foibles and illegalities.
In an era of bailouts on the backs of the taxpayer, it points to a simple reality: Firms must decide whether they are going to sacrifice profits in pursuit of safety, or sacrifice safety in pursuit of profits. Whatever they decide, however, it is not the responsibility or obligation of taxpayers to backstop these choices.
Consider the choices made by management: The collapse of firms such as AIG, Bear Stearns and Lehman Brothers were caused by the same sort of poor judgement as UBS’s $2 billion in losses. Only the rogues gallery there were the senior-most managers of the firms. Ace Greenberg exhorting his staff to focus on reusing paperclips, while the Mortgage Syndication division lost $100s of billions means that Ace had gone rogue; Dick Fuld surrounding himself with Yes Men while the firm’s leverage and risk exposure went through the roof also marked him as a rogue. Tom Savage, President, AIG's Financial Products, calling derivative underwriting “Free Money? Yet another C-level rogue in a corner office.
These are the Rogues who belong in jail — the executives, managers and boards that recklessly pursued profits REGARDLESS OF RISKS. Their failures point out who the true threats to society are.
Paul Volcker, arguably the greatest Central Banker in history, has persuasively argued that proprietary trading should not be part of the insured depository banking sector. I utterly agree with Fed Governor Thomas Hoenig, who has described the banking sector as “more akin to public utilities” than independent entities. Want to be independent to pursue proprietary trading? Let’s drop their FDIC insurance and see how far their reputations carry them.
The next crisis — the one AFTER the present one in Europe — is where I expect to see the ultimate damage wreaked by rogue bankers.
The prior bailouts have created a moral hazard, where leveraged speculators and rogue bankers know that the state will bail them out. This is unacceptable. There is no reason that taxpayers should be responsible for ANY rogues, be they traders or bankers.
Excerpts from current press after the jump.
Martin Wolf, Of course it's right to ringfence rogue universals (FT.com)
Matt Taibbi: The $2 Billion UBS Incident: 'Rogue Trader' My Ass (Rolling Stone)
UBS bankers face zero bonuses (The Financial Times)
UBS's Adoboli Admitted to Trades (WSJ)
Posted: 17 Sep 2011 05:00 AM PDT
In our galaxy, but far, far away: A planet orbiting two stars at once.
If that sounds familiar, than you are a “Star Wars” fan: Tatooine, Luke Skywalker’s desert homeworld in the first Star Wars movie (episode IV).
Posted: 17 Sep 2011 04:00 AM PDT
The Dismal Optimist started out as a simple letter sent out to clients and friends. Without any advertising, its circulation has reached the point where it has outgrown its simple Hotmail format. My daughter CC, who is a designer and art school graduate, has be complaining to me for months that it needed a more professional look. She has redesigned the format and this is the new look.
The Coming Age of Defaults
"Some people actually believe government can create jobs by taxing and borrowing from people with jobs and then giving that money to people without jobs. They call this demand stimulus. To make matters worse, other people think these demand-stimulus ideas warrant a serious response." -Arthur Laffer, Wall Street Journal, Sept 12, 2011
“It’s a good idea to save your money. One day it might be worth something again!” -Alfred E Newman
The Euro – Free At Last?
As I began to write this, the media was reporting that Greece was on the verge of default. I started to write "let's do it!" Default of one sort or another may be the only way out not just for Greece but for a vast majority of borrowers in the Western world. In my opinion, a Greek default need not bring the end of the euro.
Unfortunately, it now looks like Greece will get bailed again and the country's default will be put off. All of the top European leadership apparently believes the survival of the euro depends on Greece not defaulting. German Chancellor Angela Merkel, along with French President Nicolas Sarkozy, is doggedly trying to avoid a Greek default. I applaud Merkel's steadfast backing of the euro concept and European unity. But deep in her East German heart, she doesn't trust markets or her own electorate for that matter. It's too bad.
As I look forward, what I see is the coming end of the populist/socialist welfare state. It's not going to be pretty but depending on the medicine taken, brighter days could lie ahead. The euro crisis is about much more than the euro. Massive unpayable debts and obligations have been accrued by all Western countries and their citizens. Default is the only way out. Investors have to be sure that they are not the ones defaulted on.
The populist/socialist state will need drastic alteration. The bond markets will force this. Intellectually Europe (and to a lesser extent America) is of the left. Barring a massive fiscal conservative sweep in the US 2012 elections, alteration of the populist/socialist welfare state won't be initiated by politicians. Witness the continued political theater on this subject in the United States. Universal suffrage- based European electorates, along with those of the US and Japan, have voted themselves a cornucopia of welfare benefits. Let the rich pay, we are entitled. The coming demographic tsunami of old people supported by fewer and fewer of their adult children makes this an untenable situation. The days of cornucopia are over.
Dismal vs. Optimist
People have complained that this essay is all "Dismal" and no "Optimist." Let me set that straight. The long run outlook for humanity (including investors) is bright. While the debt crisis looms and markets are going haywire, globalization and technology will march on as indeed they did even in the dark days of the Depression and WWII. Asia in particular will become a locus of technological progress as millions of Asian scientists and entrepreneurs join the global economy. Smart young Americans and Europeans may migrate to Asia if the US and Asia make the wrong decisions on the debt crisis. In any case American tech firms will become more and more Asian in terms of their own employees and facilities locations.
I have long been a fan of Ray Kurzweil who has written about the law of accelerating returns. Essentially Kurzweil sees technology as accelerating and taking over human evolution. (Kurzweil sees homo sapiens as eventually being replaced by Artificial Intelligence successors. Some people are put off by this. But you don't have to buy that to accept Kurzweil's insights on accelerating human progress) The global internet and computer technology links the millions of new minds and entrepreneurs and accelerates progress and technology.
America is renowned for its innovation and technology. If the right decisions are taken as a response to the coming debt crisis, that will continue. Emerging Asia is a growth technology center. Longer run, these are the areas that will reward investors.
What Europe Should Do
Since the beginning of the Greek crisis I have been arguing that Greece, like the American states in the 1840s, should be allowed to default and that the euro would come out of such an event stronger. I have argued that the euro represented a tremendous value-added in both economic and political terms and that the force of history was behind it. Turning the clock back would be a catastrophe.
Unfortunately the Europeans so far have managed to do all the wrong things. Once viewed as the Bundesbank reincarnated, the European Central Bank (ECB) has shed that image and has been buying the bonds of the so-called GIIPS countries (Greece, Italy,Ireland,Portugal and Spain—slightly more polite than PIIGS). Now Europe is in the throes of putting together a second bailout for Greece. The new European bailout fund, the European Financial Stability Facility (EFSF), if it is going to bail out countries, is a giant step in wrong direction. Germany, the strong economic man of Europe, will be turned into an ATM machine. Needless to say, the German electorate is less than overjoyed at this and the German electorate is rebelling.
In the twentieth century, catastrophe was something the Europeans seemed to seek out. In 1909 Norman Angell wrote a book called The Great Illusion in which he argued that war among the European powers was outdated and unthinkable because its cost would be so high. He was dead right. Unfortunately in 1914 Europe went on to have its war anyway and then for good measure went on to have an even worse one twenty years later. It made a special effort to massacre its Jewish population, which was in the vanguard of science and finance. In 1914 Europe (including the UK) ruled the world. By mid-century Europe was a morally and financially bankrupt force. Who is to say the Europeans will not choose catastrophe again?
I know that Milton Friedman and Martin Feldstein, recognized gods in the economic profession and both heroes of mine, predicted trouble for the euro. They assumed a European currency in the absence of European political union would eventually founder. So far they are looking pretty prescient. Nevertheless, perhaps with more hubris than brains, I would argue that the euro can get by the current crisis without taking the step towards further political unification.
Here's how Europe can do this:
1. Embrace the rule that each member state must be responsible for its own fiscal affairs. No sovereign bailouts. Bailouts are just throwing good money after bad. Let the Greeks and all the others default. Let the markets impose the discipline, not the Germans. The weaker member states will simply have to live within their means. They have been living beyond their means since the euro began. They should not be able to rely on a German ATM machine. Somehow the Europeans have lost sight of the concept of responsibility. In this case, it should be the obligation of each member state to conduct its fiscal policy responsibly. The world and Europe needs the euro. The market has finally learned there is a difference between Greek and German debt, even if they are both denominated in euros.
2. Each country should recapitalize its own banks if these banks cannot raise capital on their own. The IMF and the EFSF should step in and help the weaker countries who cannot afford to fully recapitalize their own banks. The banking system cannot be allowed to collapse. The operative word for Europe should be "T A R P". Thanks to Basel II which treated each member country's sovereign debt as a risk free asset, the banks of Europe are stuffed to the gills with European sovereign paper. Basel II provided a perverse set of incentives for the bankers to toss risk analysis to the wind. Along the same lines, stress tests that didn't haircut sovereign debt are an intellectual fraud and a joke. There is a substantial likelihood that a significant number of European banks are insolvent on a genuine market to market basis. IMF chief Christine Lagarde hit the nail right on the head when she ruffled feathers and called for capital injections into the European banks.
3. No country should be encouraged to leave the euro. But the Greeks and others should be allowed to make that decision on their own. I think they will choose to stay in the euro. For any departing country, this would entail the forced conversion of euros into some kind of devalued new national currency. True this would be a type of default. I just argued default is necessary. But I don't think any European government has the political will to default on its own citizens in such a manner. The Greeks would burn down Athens. And Greece would still owe its sovereign euro denominated debt, upon which it will default anyway. A Greek departure would engender a bank run of unthinkable proportions in neighboring GIIPS countries. (As it is, I don't understand with all this talk of weaker countries exiting the euro why any Italian or Spaniard or Greek with a brain would leave his or her euro deposits in one of their national banks.) Greece exiting the euro for a bank depositor means a giant capital loss when his or her deposits are forcibly converted into the new debased currency. Staying in the euro means that Greece and the other weaker countries will have to adjust their wages and prices to more competitive levels. I think this is an easier task than a monetary scorched earth policy that leaving the euro will require. The idea of an independent Greek central bank replacing the ECB is not believable. It will turn into a money printing machine and the new drachma will be avoided by all. Greece is not Argentina. In 2002, Argentina got away with breaking its dollar link and devaluing its citizens' bank accounts. But Argentina is located at the end of the earth. Its citizens had nowhere to go. And Argentina as a major agricultural country got lucky. China was there to buy its exports. Greece is in Europe. No agriculture. They can't sell China the Acropolis.
4. Problems with the euro payment system have to be addressed. This problem is described in detail in a recent paper entitled "Europe on the Brink" from the Peterson Institute. According to this report, obligations of over three hundred billion have been incurred by the GIIPS central banks to the German central bank. According to the Peterson report, the ECB has effectively guaranteed these obligations. But this form of backdoor financing for the GIIPS should be ended.
5. The ECB should provide liquidity to the European banking system which will be needed during the turbulent months ahead as Greece and possibly other countries need to restructure their debts. The just announced support for the ECB by other central banks is a positive step towards maintaining a functioning banking system. The ECB will be needed until the sovereign debts are restructured and the banks are recapitalized. Bank liquidity not solvency should be the ECB's problem.
6. Bloated governments have to be cut and growth oriented supply side policies implemented including tax simplifications and reductions, privatizations and the elimination of regulations. The austerity plan imposed on Greece with its tax increases is already killing growth. Warren Buffet excepted, no sane citizen is going to be happy to pay more taxes to finance a bloated welfare state. Regardless of whether Greece stays in the euro or not, if the Greek government doesn't implement growth policies the best and the brightest of Greece will emigrate. Greece as a country will be finished.
Investment Survival in a World of Near Term Chaos and Long Term Technological Progress
Investing in the current environment is extremely difficult. Short rates are near zero and returns on cash inflation-adjusted are negative. Extreme volatility has become the new normal. The Fed and other central banks have recklessly thrown caution to the wind with their various quantitative easing programs. And the prospect of global defaults lies ahead. The US and Europe are verging on a new recession. Asia faces inflation and at least a slowdown. There's no place to hide.
I continue to see recommendations that investors buy emerging market and American tech stocks. The former are located in countries without excessive levels of sovereign debt and with relatively high GDP growth rates. The latter have loads of cash, in some cases pay significant dividends, have come down price and, as I have argued, technology is accelerating. The trouble is that near term—and that means the next year or so at least—nobody can promise that a drop in stocks similar to 2008 cannot happen. Long term investors may be able to ignore a let's say thirty percent decline in their holdings near term so long as they make some multiple on their money say five years out. But most investors don't have that kind of staying power. The decline of the populist/socialist state will not be pretty and accompanying defaults may pull markets down all over the world.
I have written extensively on the imperfections of the current dollar based fiat money international monetary system. I view gold as one way to hedge against that system's eventual downfall. Asian central banks and retail buyers both have discovered gold. Living part time Hong Kong as I do, I detect huge enthusiasm for buying gold among Mainland visitors who come to Hong Kong. Gold recently has run up in a rocket-like manner. No doubt it needs to consolidate near term. Various people have come up with ways of valuing gold including comparing gold with inflation or calculating how much gold would be needed if some version of the gold standard were to be reinstated. I don't have a formula for calculating the value of gold and I don't have some kind of target price. Clearly there isn't enough gold at current prices to support an entire global monetary system and a revived gold standard. Looking at gold that way leads to the conclusion it is substantially undervalued. Gold in my opinion is an alternative currency. So long as the current dollar based fiat money system remains in place, gold remains an important hedge. But what the gold price will do near term is anybody's guess.
The historian Daniel J Boorstin once said "The greatest obstacle to discovery is not ignorance – it is the illusion of knowledge." Lots of investment advice is coming from all sides from people suffering from the illusion of knowledge. We are in a difficult period without historical precedent. The illusion of knowledge could be fatal.
-Peter T. Treadway
Dr. Peter T Treadway is principal of Historical Analytics LLC. Historical Analytics is a consulting/investment management firm dedicated to global portfolio management. Its investment approach is based on Dr. Treadway's combined top-down and bottom-up Wall Street experience as economist, strategist and securities analyst.
Dr. Treadway also serves as Chief Economist, CTRISKS Rating, LTD, Hong Kong.
Posted: 16 Sep 2011 05:30 PM PDT
Prior to law school, Hale Stewart was a bond broker with Vining Sparks, where his clients were comprised of mutual funds, insurance companies and money managers. He returned to law school in 2001, graduating from the South Texas School of Law in 2003. After law school, he opened his law practice focusing on transactional work. He continued his education at the Thomas Jefferson School of Law in 2007 where he obtained an LLM in domestic and international taxation, graduating Magna Cum Laude. He has three certifications from the American Academy of Financial Management: Chartered Trust and Estate Planner, Chartered Wealth Manager and Chartered Asset Manager. Mr. Stewart is also a member of the AAFM’s Board of Standards. He is the author of the book U.S. Captive Insurance Law and is currently working on his Ph.D..
There is currently a debate regarding the appropriate policy response to the current economic situation. The arguments can be broken down along two lines — supply side and Keynesian. While supply side economics may be appropriate in some situations, they are completely inappropriate for the current problems we face.
In general, supply side economics can be described thusly:
In thinking about the preceding, consider this simple chart of supply and demand:
What supply side policies are attempting to do is increase the supply of goods and services. The underlying idea is that an increase in supply will satisfy more consumers wants thereby lowering prices for the economy as a whole and increasing overall growth.
Let’s consider some of the general policies advocated.
Perhaps the most important policy advocated by supply side advocates is a reduction in overall taxes. Now, let’s think about what this would do by looking at the standard corporate income statement:
Notice the general orientation of the deductions (which apply both to individuals and companies). First, the income statement lists a host of expenses to arrive at “net income before taxes” after which taxes are deducted. So, the central idea of a cut in marginal tax rates is this will lead to an increase in income for the business and individual. As to what is done with this increased income, little to no incentive is given. Perhaps it will be spent in the economy, reinvested in the business or distributed to investors. However, the central idea behind a reduction in tax rates is to increase the bottom line income thereby spurring the creation of business start-ups or increasing investment in ongoing businesses. It’s exceedingly important to remember that national income is the flip side to GDP — and is considered by some economists to be a better measure of national growth.
However, as the following data indicates, the above results are not needed in the current economy.
First, corporations have more than enough money on their respective balance sheets right now, as evidenced by the following chart:
Above is a chart from the St. Louis Reserve’s FRED data system of total checkable deposits and currency assets on the balance sheet of non-farm, non-financial corporate business. As the chart demonstrates, corporations have move than enough cash — in fact, they have the highest amount of cash in the last 50 years.
Also consider that people are in fact saving again:
The above chart shows the savings rate has increased over the last 5 years. As such, individuals need to start spending the money to get some velocity going (more on that below).
Secondly, tax rates are near their lowest in 50 years:
Put another way — the country is not over-taxed.
Third, remember that the central idea of supply side tax cuts is to increase income. It does nothing to increase spending. As a result, there would be no increase in monetary velocity as a result of the policy — meaning nothing would happen to the pace of transactions in the economy. As the charts below indicate, this is a central problem with the current economic malaise — things simply aren’t moving in the economy:
As the three charts above indicate, the pace of transactions in the economy is very slow and dropping. The reason is people and businesses are hoarding cash — meaning that once they make a profit, they are banking that profit and not spending it. While there is nothing inherently wrong with savings, the economy also needs transactions which the above data indicates are occurring at a snails pace. In short, we need policies that encourage people to spend their money — not hoard it. And cutting taxes is not the answer to that problem.
And finally, consider this fact: taxes are already incredibly low and companies have ample cash. Yet they are not creating jobs in any meaningful way. As such, it’s difficult to conclude that the current rate of low taxation needs to be lowered in any way to create jobs.
As for the regulation argument, consider this:
Also consider this post from Mark Thoma. Additionally, consider that lack of regulation — in other words massive deregulation — was a primary cause of the recent financial crisis. Finally, the incredibly low monetary velocity numbers indicate there is a dearth of transactions in the economy — meaning people and businesses are not spending money. In short, the excessive regulation argument fails to provide an adequate answer for our current problems.
As the above data indicate, supply side policies are not needed in the current environment. Businesses have ample cash on their balance sheets and yet are still not hiring people. Neither businesses nor individuals are overtaxed; in fact, taxes as a percent of GDP are near their lowest in over 60 years. And finally, there is no evidence that regulation is in fact the job killer many tout it to be.
There may be a time when supply side economics will be an appropriate policy response. But now is not such a time.
Posted: 16 Sep 2011 01:15 PM PDT
What are things made of? What is the sun? Why is there night and day, winter and summer? Why do bad things happen? Are we alone? Throughout history people all over the world have invented stories to answer profound questions such as these. Have you heard the tale of how the sun hatched out of an emu’s egg? Or what about the great catfish that carries the world on its back? Has anyone ever told you that earthquakes are caused by a sneezing giant? These fantastical myths are fun – but what is the real answer to such questions? “The Magic of Reality”, with its explanations of space, time, evolution and more, will inspire and amaze readers of all ages – young adults, adults, children, octogenarians. Teaming up with the renowned illustrator Dave McKean, Richard Dawkins answers all these questions and many more. In stunning words and pictures this book presents the real story of the world around us, taking us on an enthralling journey through scientific reality, and showing that it has an awe-inspiring beauty and thrilling magic which far exceed those of the ancient myths. We encounter rainbows, our genetic ancestors, tsunamis, shooting stars, plants, animals, and an intriguing cast of characters in this extraordinary scientific voyage of discovery.
Richard Dawkins and Dave McKean have created a dazzling celebration of our planet that will entertain and inform for years to come. Buy The Magic of Reality: How We Know What’s Really True by Richard Dawkins on Waterstones.com (http://bit.ly/pkXDvV) or in your local Waterstone’s store: http://bit.ly/85YOJ9
Posted: 16 Sep 2011 01:00 PM PDT
Succinct summation of week’s events:
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