Words from the (investment) wise for the week that was (January 12 – 18, 2009)

Sunday, January 18th, 2009

Investor sentiment around the globe was negatively impacted during 2009’s second full week of trading as a barrage of bleak economic and corporate news offered more confirmation of a deepening recession, bringing risk aversion to center stage.

The US dollar and government bonds (excluding emerging markets and countries on the periphery of the Eurozone) gained, but global equities and commodities were on the defensive as nervous investors tried to gauge the likely damage of the economic malaise.

Global bourses concluded a whipsaw week with hefty losses, but stemmed some of the downside as a relief rally came to the rescue towards the end of the week. The MSCI World Index and the MSCI Emerging Markets Index declined by 6.2% and 5.8% respectively.

The US indices all dropped over the week as shown by the major index movements: Dow Jones Industrial Index -3.7% (YTD -5.6%), S&P 500 Index -4.5% (YTD -5.9%), Nasdaq Composite Index -2.7% (YTD -3.0%) and Russell 2000 Index -3.1% (YTD -6.6%). As a matter of interest, the year-to-date returns at the same point last year (i.e. after 11 trading days) were -6.0% for the Dow and -6.5% for the S&P 500.

Adding a spark of hope on Thursday, the US Senate voted to release the second and final $350 billion tranche of the TARP funds, whereas the House Democrats unveiled a much-awaited $825 billion stimulus package aimed at halting the economic rot. Meanwhile, in a speech at the London School of Economics, Fed Chairman Ben Bernanke said Barack Obama’s economic package could provide a “significant boost” to the US economy.

Source: Daryl Cagle

But back to the stock market. The bar chart below shows the US sector performance for the past week, and specifically how defensive sectors such as consumer staples, healthcare and utilities outperformed other sectors on a relative basis.

The financial sector plummeted by 16.3% as several US banking shares fell to multi-year lows amid growing concerns that they will battle to cope with increasing credit losses as the global recession intensifies.

Source: StockCharts.com

The nascent earnings season saw a glut of fourth-quarter losses. These included larger-than-expected losses from Bank of America (BAC) and Citigroup (C), resulting in their respective share prices plunging by 44.7% and 48.2% over the week.

Citi announced plans to break up the bank into two businesses, following the decision to sell a controlling interest in the valuable Smith Barney brokerage to Morgan Stanley (MS). On the other hand, Bank of America will receive an additional $20 billion of TARP funds to bed down its troublesome acquisition of Merrill Lynch, as well as a guarantee on $118 billion of potential losses on distressed assets. Elsewhere, the Irish government nationalized Anglo Irish Bank, and HSBC was rumored to be seeking fresh capital of $30 billion.

As far as the US housing situation is concerned, I am keeping a close eye on the mortgage situation. According to Freddie Mac’s Primary Mortgage Market Survey, the national average rates for a US 30-year fixed mortgage last week declined to 4.96% from 5.33% two weeks ago and 6.46% in October last year. However, the rate is still 378 basis points higher than the three-month dollar LIBOR rate. This spread averaged 97 basis points during the 12 months preceding the crisis, indicating that lower rates are not being passed on to consumers.

Despite the interbank lending rates having declined from their peaks, banks have significantly curtailed the amount of money they are actually lending. The US Depository Institutions Aggregate Excess Reserves continue their ascent at levels far in excess of the amount that banks need to keep on deposit to meet their reserve requirements (see chart below). This measure indicates that the balance sheets of banks remain under pressure, especially in view of the fact that the value of some assets is not known. A peak in the Excess Reserves graph should coincide with a turning point in the recovery of banks. (Also see my post “Credit Market Watch“.)

Source: Fullermoney

Next, a quick textual analysis of my week’s reading. No surprises here with keywords such as “economy”, “market”, “bank”, “China”, financial” and “prices” featuring prominently.

On the issue of corporate bonds, I received a number of questions after referring to the iBoxx Investment Grade Corporate Bond Fund (LQD) and High Yield Corporate Bond Fund (HYG) in last week’s “Words from the Wise” review. In the short term, a further correction of both investment-grade and high-yield corporate bonds looks likely, but the sector is worth watching for opportunities arising at lower levels. Also, the high-yield instruments – under intense pressure because of an avalanche of defaults predicted by the ultra-wide spreads – could see spreads contracting markedly if the defaults are not as bad as priced in.

Turning to the outlook for the stock market, Bennet Sedacca (Atlantic Advisors Asset Management) issued a short-term buy signal on Thursday: “We are once again increasing exposure to equities from 0% to a near fully invested posture. I fully recognize the bad news that is out in the marketplace, but given Treasuries at 0-2.25% and Mortgage Backed Securities at 3-4%, high quality large cap growth stocks (self-financing companies purchased via IVW – the S&P large cap growth ETF) look attractive to me.

“We also like healthcare via PPH (pharma holders ETF), USO (oil ETF), XLV (broader healthcare ETF), but have a negative bias towards bonds and have taken substantial profits in recent days in the Mortgage Backed Securities space, where government intervention has led to artificially high bids. We also added a smallish position in XLF (financials). We believe quality is king and that ‘a’ low , but not THE low has been reached in stocks.”

Key resistance and support levels for the major US indices are shown in the table below. The immediate upside target is the 50-day moving average, followed by the November 4 highs about 16% to 18% from current levels (not shown on table). On the downside, the December 1 and all-important November 20 lows must hold in order to prevent considerable technical damage.

An analysis of the number of stocks trading above their 50-day moving averages makes for interesting reading. “With the S&P 500 back into oversold territory and even approaching its November lows, it’s actually surprising to see this breadth measure at 40%,” said Bespoke. “At the prior lows, the number got down to zero! The fact that the overall declines have been limited to a smaller area of the market is a positive for those hoping that the lows will hold.”

“As January goes, so goes the year”, is one of the most frequently quoted seasonal trends of the stock market. With the S&P 500 down by 5.9% after two weeks of the month, January is not off to a promising start. According to Jeffrey Hirsch (Stock Trader’s Almanac), every down January since 1950 has been followed by a new or continuing bear market or a flat year. Further research is provided by Jay Kaeppel of Optionetics.
The last word goes to Charles Kirk (The Kirk Report): “With the market closed Monday to observe Martin Luther King Jr., we are set to have another four-day work week and, in my experience, they tend to be some of the toughest. Not only will we have Obama’s inauguration, but lots of earnings reports to sort through.

“While the market managed to end the week above S&P 850, we still have a lot of work to do to confirm that we can manage at least a decent counter-trend rally during earnings season. We are still oversold, but we need to see the buyers return in force and with confidence. Both have been missing so far in 2009.”

For more discussion about the direction of stock markets, also see my post “Video-o-rama: Gloomy news batters investor sentiment“.

Economy
“Global business confidence remains very negative, but has improved a bit since hitting bottom at the very end of 2008. It is still too early to conclude that sentiment is improving in any measurable way,” said the latest Survey of Business Confidence of the World conducted by Moody’s Economy.com. “Businesses are nearly equally pessimistic across the globe and across all industries. Hiring intentions have turned particularly negative in recent weeks. Pricing power has collapsed, suggesting that deflation is a significant threat.”

As far as the US is concerned, the Fed’s January Beige Book indicated continued and broad-based weakening throughout the nation. The latest round of economic data also confirmed that the recession was intensifying.

- Industrial production declined by 2% in December, with output falling in all three major categories – utilities, mining and manufacturing – for the first time since October. For the fourth quarter as a whole, industrial production fell at an annual rate of 11.5%, more than twice as fast as at any time during the 2001 recession. All indications are that manufacturers will further reduce production in order to bring inventories in line with free-falling final sales.

- Retail sales in December were significantly worse than expected, plunging by 2.7% – the sixth consecutive month of falling sales.

- The US trade deficit narrowed substantially to $40.4 billion (consensus $51.5 billion) in November, marking the fourth straight month of declining gross exports and gross imports.

News on the US inflation front was relatively good with both the PPI and CPI continuing to retreat in December, falling by 1.9% and 0.7% respectively. Core prices barely managed to stay in positive territory, with core CPI rising by 0.1% for 2008 – the lowest increase since 1954.

Jamie Dimon, chief executive of JPMorgan Chase, predicted in an interview with the Financial Times that the US financial and economic crisis would worsen this year as hard-hit consumers default on credit cards and other loans. “The worst of the economic situation is not yet behind us. It looks as if it will continue to deteriorate for most of 2009,” said Mr Dimon.

Source: Daryl Cagle

Elsewhere in the world, evidence mounted that the recession was widespread and deepening.

- In a sign that the decline in economic activity in Japan was worsening, core machinery orders by Japanese businesses slumped by 16.2% in November – the sharpest monthly contraction since records began in 1987.

- Germany’s coalition parties agreed on a second economic stimulus package totaling €50 billion (including €36 billion in infrastructure investment and tax cuts), to be put into place in an effort to pull the economy out of its worst recession since the end of the Second World War, according to CEP News. The package also includes a €100 billion “Germany fund” that would guarantee the debt raised by cash-starved businesses.

- The European Central Bank on Thursday cut its main policy interest rate by 50 basis points to 2% – the lowest level ever. The total reduction since mid-October amounts to 225 basis points and highlights the Eurozone slipping deeper into recession and inflation dropping sharply.

- Eurozone manufacturing continued to fell for the seventh straight month in November, amounting to a decline of 7.7% in year-ago terms.

Source: Moody’s Economy.com

The International Monetary Fund’s managing director, Dominique Strauss-Kahn, “chided European leaders for failing to grasp the depth of the coming slump in their region, creating the risk of social upheaval,” said Bloomberg.

RGE Monitor reported that China had revised its 2007 GDP growth up to 13% from the 11.9% it previously reported. “With Chinese exports, industrial production and other economic indicators slowing sharply, there is speculation that Chinese officials might smooth growth statistics. Uncertainty about Chinese economic statistics has led many analysts to use proxies for economic output which are more difficult to doctor. These proxies include electricity demand, construction, etc. However, there is a consensus that Chinese economic statistics have improved,” said Nouriel Roubini’s research team.

Week’s economic reports
Click here for the week’s economy in pictures, courtesy of Jake of EconomPic Data.

Date	Time (ET)	Statistic	For	Actual	Briefing Forecast	Market Expects	Prior
Jan 13	8:30 AM	Trade Balance	Nov	-$40.4B	-$51.0B	-$51.0B	-$56.7B
Jan 13	2:00 PM	Treasury Budget	Dec	-$83.6B	NA	-$83.0B	-$48.3B
Jan 14	8:30 AM	Export Prices ex-ag.	Dec	-1.9%	NA	NA	-2.9%
Jan 14	8:30 AM	Import Prices ex-oil	Dec	-1.1%	NA	NA	-1.8%
Jan 14	8:30 AM	Retail Sales	Dec	-2.7%	-1.0%	-1.2%	-2.1%
Jan 14	8:30 AM	Retail Sales ex-auto	Dec	-3.1%	-1.2%	-1.4%	-2.5%
Jan 14	10:00 AM	Business Inventories	Nov	-0.7%	-0.5%	-0.5%	-0.6%
Jan 14	10:30 AM	Crude Inventories	01/09	1144K	NA	NA	6682K
Jan 14	10:35 AM	Crude Inventories	01/09	-	NA	NA	NA
Jan 14	2:00 PM	Fed Beige Book	-	-	-	-	-
Jan 15	8:30 AM	Core PPI	Dec	0.2%	0.1%	0.1%	0.1%
Jan 15	8:30 AM	PPI	Dec	-1.9%	-1.7%	-2.0%	-2.2%
Jan 15	8:30 AM	Initial Claims	01/10	524K	NA	503K	470K
Jan 15	8:30 AM	Empire Manufacturing Index	Jan	-22.20	-	-25.00	-27.88
Jan 15	10:00 AM	Philadelphia Fed	Jan	-24.3	-35.0	-35.0	-36.1
Jan 16	8:30 AM	Core CPI	Dec	0.0%	0.0%	0.1%	0.0%
Jan 16	8:30 AM	CPI	Dec	-0.7%	-1.0%	-0.9%	-1.7%
Jan 16	9:15 AM	Capacity Utilization	Dec	73.6%	74.6%	74.5%	75.2%
Jan 16	9:15 AM	Industrial Production	Dec	-2.0%	-1.0%	-1.0%	-1.3%
Jan 16	9:55 AM	University of Michigan Sentiment -Preliminary	Jan	61.9	61.0	59.0	60.1

Source: Yahoo Finance, January 16, 2009.

In addition to the Bank of Japan’s interest rate announcement (Thursday, January 22), the US economic highlights for the week, courtesy of Northern Trust, include the following:

1. Housing starts (January 22): Permit extensions for new homes fell 15.8% in November, inclusive of a 11.9% drop in permits issued for single-family homes. The weakness in permits is indicative of fewer housing starts in December (595,000 versus 625,000 in November). Consensus: 615,000.

2. Other reports: NAHB Survey (January 21).

Click the links below for the following reports:

- Wachovia’s Weekly US Economic & Financial Commentary (January 16, 2009)

- Wachovia’s Global Chartbook (January 2009)

Markets
The performance chart obtained from the Wall Street Journal Online shows how different global markets performed during the past week.

Source: Wall Street Journal Online, January 16, 2009.

Chinese philosopher Lau-Tzu said: “Those who have knowledge, don’t predict. Those who predict, don’t have knowledge.” Wise words indeed, but hopefully thorough research and a dose of common sense will cast some light on the lie of the investment land.

On Tuesday a new President will be inaugurated in the US, but the old concerns about financial markets will unfortunately still be around. In the meantime, have a great long weekend in the US!

That’s the way it looks from Cape Town.

Source: Daryl Cagle

Clusterstock: Roubini – you’re all fools for buying into a sucker’s rally
“Yesterday Nouriel Roubini weighed in on the recent rally and said anyone that thought the worst was behind us is ‘delusional’ and as a matter of fact the worst is yet to come, citing the gruesome macro data that’s been released as of late, and the fact that that trend won’t reverse until at least the fourth quarter of 2009.

“RGE: For a few weeks since late November equity markets ignored the onslaught of much worse than expected macro news (and all the news were really worse than awful) and had a nice 25% bear market sucker’s rally. But the drumbeat of terrible – and worse-than-expected – macro news and earnings news and financial news has finally taken a toll on the delusional market belief that the worst was over for financial markets and for equity markets and that the US and global economy would recover in the second half of 2009. So equity prices have already reversed more than half of their most recent bear market rally as the lousy macro news have finally shocked in the last week the wishful thinkers.

“Indeed, the retail sales figures published today confirmed a shopped-out, saving-less and debt-burdened US consumer is now faltering as job losses, income losses, fall in home wealth, fall in equity wealth, high and rising debt and debt servicing ratios and a severe credit crunch take a severe toll on the ability of consumers to spend. And reduction in spending and deleveraging of the US consumer will take years to rebuild the savings rate of a household sector now hit by a severe shock to its net worth (as equity and home values fall while debts have been rising) and shocked in its ability to generate income as job losses mount and the unemployment rate surges.

“Our research at RGE Monitor suggests that the US and global recession will continue at least all the way until Q4 of 2009 (a nasty 24 months U-shaped recession) and that the recovery in 2010-11 will be very weak with growth in the 1% range that is well below a potential of 2.75%. And we cannot rule out that a more severe L-shaped stag-deflation (as in Japan in the 1990s) will take hold.”

Click here for CNBC video.

Source: Jay Yarow, Clusterstock, January 15, 2009.

CNBC: Pimco’s El Erian on the markets
“Discussing the global economic situation, with Mohamed El-Erian, Pimco co-CEO and Michael Spence, Philip H. Knight economics professor/Nobel Laureate.

Source: CNBC, January 15, 2009.

Barron’s: Roundtable – hang on tight
“Our go-to group of investment experts sees tough times for the economy – but good fortune for stockpickers.”

Click here for full article.

Source: Barron’s (via Fullermoney), January 13, 2009.

Grace Cheng (Daily Markets): Exclusive interview with Jim Rogers
Do you think the period of forced liquidation has ended or does it still have a ways to go?

Rogers: I’m sure it has not ended. It certainly has not ended for many asset classes and it probably has not ended for most. It may be over for a few things but it still has a long way to go.

As you’ve said many times, the US government is printing a lot of money right now, when do you think inflation will come around and bite us?

Rogers: Well there is inflation now in many things. There’s temporary deflation in raw material prices and in some property. But throughout history, whenever you’ve had gigantic printing of money and spending of borrowed money, it has always led to higher prices. Unless something is dramatic, it’s going to happen again. When I don’t know. It’s already happening in some things. I don’t know if you’ve bought any sugar recently or some other things, prices are up and that will continue and it will get worse.

You’ve been bullish on commodities for a long time, recently you said you’re buying the Rogers Metal Index. Do you think that the Obama stimulus plan will create more demand for commodities?

Rogers: Well of course, anything that causes a revival of economic activity causes a revival of demand for everything including commodities. I mean if you’re gonna build bridges you’ve got to build them out of something you cannot build virtual bridges you have to build real bridges, etc.

You’ve said that over the long term, the US dollar is doomed. What are your thoughts on the British Pound?

Rogers: More doomed. It will disappear sooner. If it weren’t for the North Sea, the British Pound would have already disappeared. It’s more doomed. The UK has been exporting oil for 26 years; within the decade, the UK will be a net importer of oil again, and they have nothing else to sell to the world once the oil dries up.

Do you think China will scale back on buying US bonds? And if that happens, how will it affect the US economy and the US dollar?

Rogers: Well if I were China, I would scale back. If I were everybody, I would scale back. The US bonds yield virtually nothing, the dollar is a flawed currency, inflation is coming, higher interest rates are coming. I would think everybody would be scaling back including China. We’re going to have higher interest rates down the road because somebody’s gonna scale back. If not China, Japan or Korea, or who knows, somebody.

Source: Grace Cheng, Daily Markets, January 15, 2009 (hat tip: Investorazzi).

Bloomberg: Bernanke urges “strong measures” to stabilize banks
“Federal Reserve Chairman Ben Bernanke speaks about the possible need for more capital injections and guarantees to further stabilize and strengthen the financial system. Bernanke, speaking at the London School of Economics, warns that a fiscal stimulus won’t be enough to spur an economic recovery and that the government may need to buy or guarantee banks’ tainted assets to revive growth. Bernanke also discusses the Fed’s balance sheet, inflation expectations and US unemployment.”

Click here for Financial Times article.

Source: Bloomberg, January 13, 2009.

Asha Bangalore (Northern Trust): Bernanke explains Fed’s options
“In the context of financial market stability, Bernanke calls on history to stress that a ‘modern economy cannot grow if its financial system is not operating effectively’. Bernanke noted that in order to support and mend the fragile financial system ‘more capital injections and guarantees may become necessary to ensure stability and normalization of credit markets’.

“He suggested that purchases of troubled assets, a provision of asset guarantees, and/or purchase of assets from financial institutions in exchange for cash and equity in bad banks are other avenues through which fiscal policy could support the financial system. Also, reducing preventable foreclosures would be useful in reducing mortgage losses and promoting financial stability.

“In sum, the conclusion we draw here is that additional fiscal policy stimulus is necessary to ensure the working of the financial system and revival of economic activity.”

Source: Asha Bangalore, Northern Trust – Daily Global Commentary, January 13, 2009.

Financial Times: Democrats unveil $825 billion stimulus package
“Democratic lawmakers on Thursday unveiled a much-awaited $825 billion stimulus package to halt America’s vertiginous economic slide which Nancy Pelosi, the speaker of the House, said was only the ‘first step’ in a process that could take weeks to pass into law.

“The bill, which Barack Obama, the incoming president, wants enacted before mid-February when Congress goes into a short recess, comes in at $50 billion higher than the initial ceiling set by his transition team. But economists said they expected it to climb towards the important psychological threshold of $1,000 billion by the time it becomes law.

“The package was divided between $275 billion in tax cuts, mostly going towards a $1,000 tax credit for middle-class families and $500 for individuals, and $550 billion in public spending, which includes money for ‘shovel-ready’ infrastructure projects, aid to state governments and investments in information technology upgrades for healthcare and a drive to make federal buildings energy-efficient.

“Thursday’s bill coincided with Mr Obama’s announcement that he would hold a ‘fiscal responsibility’ summit next month that would address entitlement reform – an issue that has long been avoided by leaders from both sides of the aisle. ‘We’ve kicked this can down the road and now we are at the end of the road,’ he told an editorial board meeting of the Washington Post. ‘We need to send a signal that we are serious.’

“He said he did not know how long it would take for the proposed fiscal stimulus to take effect. ‘We are in uncharted waters here. I don’t have a crystal ball,’ he said.”

Source: Edward Luce, Financial Times, January 15, 2009.

Economix (The New York Times): Stimulus pie chart

Source: Catherine Rampell, The New York Times – Economix, January 15, 2009.

The New York Times: Senate releases second portion of bailout fund
“President-elect Barack Obama’s economic agenda advanced rapidly in Congress on Thursday as the Senate voted to release the second half of the financial industry bailout fund and House Democrats unveiled an $825 billion fiscal recovery plan aimed at putting millions of unemployed Americans back to work.

“The Senate action, by a vote of 52 to 42, spares Mr. Obama a messy legislative fight just as he takes office and gives him a $350 billion war chest to further stabilize the financial sector. The vote came amid renewed distress in the banking industry, including further deterioration of Citigroup and a pitch for more government aid by the Bank of America.

“Mr. Obama had personally lobbied reluctant senators to release the money. His top economic adviser, Lawrence H. Summers, made three visits to the Capitol and sent two letters to reassure lawmakers that the program would be better managed.

“In a statement, the president-elect applauded the outcome.

“‘I know this wasn’t an easy vote because of the frustration so many of us share about how the first half of this plan was implemented,’ Mr. Obama said. ‘Now my pledge is to change the way this plan is implemented and keep faith with the American taxpayer.’”

Source: David M. Herszenhorn, Financial Times, January, 2009.

Bloomberg: Seattle FHLB short of capital on mortgage ebt
“The Federal Home Loan Bank of Seattle said it will suspend dividends and ‘excess’ stock repurchases, becoming the second of the government-chartered lending cooperatives to say its capital may be running low.

“The likely capital shortfall as of December 31 was caused by ‘unrealized market value losses’ on residential mortgage bonds without government backing, the bank said in a US Securities and Exchange Commission filing today. Washington Mutual and Merrill Lynch had been the biggest stakeholders and borrowers in the Seattle Federal Home Loan Bank, or FHLB.

“Seattle joins the San Francisco FHLB in taking steps to guard its reserves after the US housing market collapse sent mortgage-backed bonds tumbling. The declines may leave as many as eight of the 12 FHLBs below capital requirements, Moody’s Investors Service has said, eroding a below-market rate source of about $1 trillion in financing for Citigroup, JPMorgan Chase and other companies that participate in the cooperatives.”

Source: Jody Shenn, Bloomberg, January 13, 2009.

BCA Research: It’s called credit easing, not quantitative easing
“Fed Chairman Bernanke argued in a key speech recently that the Fed’s current policy will not lead to an inflation problem.

“Bernanke explained how the Fed’s current policy, which he dubbed ‘Credit Easing’, differs from ‘Quantitative Easing’ (QE), as pursued by the Bank of Japan (BoJ) earlier this decade. Under QE, the BoJ set targets for excess bank reserves in the hope that the banks would increase lending. In contrast, the Fed is targeting an improvement in the functioning of the credit markets, an increase in the flow of credit, and lower private sector borrowing costs. There is no target for the size of the Fed’s balance sheet or the monetary base; both will fluctuate with the liquidity needs of borrowers who are using the Fed’s facilities.

“To the extent that banks keep excess liquidity on deposit at the Fed, Bernanke argued that there is little inflation risk in the near term. In terms of the exit strategy from the current policy, the Chairman explained that excess reserves and the monetary base will naturally decline when credit market conditions improve and recourse to the Fed’s liquidity facilities wanes.

“The Fed also plans to eventually sell the private sector assets it is purchasing, which will also soak up excess liquidity.

“Bottom line: The Fed’s ‘Credit Easing’ policy will not necessarily be inflationary, as long as the excess reserves are re-absorbed in a timely manner once the economy resumes growing.”

Source: BCA Research, January 14, 2009.

Paul Kedrosky (Infectious Greed): Dramatic changes in credit quality
“A fairly remarkable sea-change in Fitch Ratings’ view of rated companies/countries/sectors over the last two years. The stresses in Europe, in particular, caught my eye.”

Source: Paul Kedrosky, Infectious Greed, January 16, 2009.

BBC News: US banking giants in tie-up deal
“Struggling US banking giant Citigroup and its rival Morgan Stanley have agreed a deal which sees the tie-up of their brokerage operations. Morgan Stanley is paying Citigroup $2.7 billion for a 51% stake in the joint venture while Citigroup will have a 49% stake.

“Observers say the deal showed how much Citigroup wanted to slim down its operations and build up cash reserves. It received the largest government bail-out of any US bank last year.

“Citigroup’s retail brokerage, Smith Barney, was formerly a key part of its wealth management business.

“The new unit – to be called Morgan Stanley Smith Barney – will have more than 20,000 advisors, $1.7 trillion in client assets, and serve 6.8 million households around the world, the firms said.

“The Financial Times reports Citigroup will separate its higher risk US consumer finance and securities businesses from its global commercial banking operations.

“Analysts suggest that the government will end up buying some struggling parts of the business with the next tranche of its financial rescue programme. ‘I think within 12 months, Citigroup no longer exists. The new CEO of this company is the government,’ said William Smith of Smith Asset Management.”

Source: BBC News, January 13, 2009.

Barry Ritholtz (The Big Picture): The 45 billion dollar club
“The United States of Wall Street just added another major holding to its portfolio of financial garbage: Bank of America.

“Like Citi, B of A has now received MORE IN BAILOUT MONEY than its actually worth (BAC = $53B; C = $21B). How this can ever be a profitable investment, as some mathematically challenged Congress-critters have suggested, is all but impossible to imagine.

“Blaming ‘previously undisclosed losses from its Merrill Lynch’, B of A threatened to kill their purchase of Mother Merrill. Treasury made an emergency capital injection of $20 billion, on top of the $15B and $10B already received by B of A and MER respectively. The taxpayers will also backstop $118 billion of assets, setting up what is likely to be a jumbo money losing trade.

“What should have happened in both instances was an orderly liquidation, selling off the pieces to competent managers who understand risk, and can manage smaller portions of the firm. Instead, the same idiots who helped destroy all of companies involved are still running the show.

“The amazingly bad Bank of America plan mirrors an even worse bad deal made by the Feds with Citigroup in November. There, the taxpayers explicitly insured the bank against losses on 90% of $306 billion of toxic assets – Citigroup’s real-estate loans and securities.

“Like Citi, the B of A monies are a terrible deal for the taxpayer – not a lot of bang for the buck, and leaving the same people who created the mess in charge.

“Organ transplant medicine understands certain truths: You do not give a healthy liver to a raging alcoholic, as they will only destroy the organ via their disease/bad judgment/lifestyle.

“Why do we give billions of taxpayer dollars to incompetent managers who failed to protect their assets, who destroyed shareholder value? These people have demonstrated a marked INABILITY to run these firms. Why reward them with 10s of billions of dollars?

“Its nothing short of madness …”

Source: Barry Ritholtz, The Big Picture, January 16, 2009.

CNBC: Bair – banks in crisis
“Discussing big problems for big banks including Citi and Bank of America, with Sheila Bair, FDIC chairman.”

Source: CNBC, January 16, 2009.

Bloomberg: Shilling says banks may need “a lot more” government help
“Gary Shilling, president of A. Gary Shilling & Co., talks with Bloomberg’s Betty Liu about the potential for additional government aid for US banks. Shilling also discusses the future of Citigroup Inc. and Bank of America Corp., the state of the US economy, and the outlook for stocks.”

Source: Bloomberg, January 16, 2009.

CEP News: Trichet – central bankers see global economic recovery in 2010
“Central bankers expect the global economy to recover in 2010 according to European Central Bank President Jean-Claude Trichet speaking as head of the Bank for International Settlements on Monday morning.

“While the central banker declined to comment on the European Central Bank’s monetary policy ahead of the rate decision this Thursday, Trichet said that the global economic slowdown was due to a lack of confidence and pledged that the group would ‘do whatever is appropriate to reinforce [it].’

“He also said that attending members had not discussed exchange rates at the meeting, but agreed that emerging market growth continues to play an important role for the global economy.

“Earlier on Monday, in an interview with Bloomberg, IMF Managing Director Dominique Strauss-Kahn said that Europe is ‘behind the curve’ regarding stimulus packages, and that governments are underestimating how such measures are needed to help economies recover.”

Source: CEP News, January 12, 2009.

Financial Times: Larry Fink on what could derail recovery
“Larry Fink chief executive and chairman of BlackRock, talks to Henny Sender, FT’s international financial correspondent, about monetary policy, securities and risk management. He also discusses corporate governance, oversight and stabilizing troubled assets.”

Source: Financial Times, January 8, 2009.

Financial Times: JPMorgan chief says 2009 will be bleak
“The US financial and economic crisis will worsen this year as hard-hit consumers default on credit cards and other loans, Jamie Dimon, chief executive of JPMorgan Chase, has predicted in an interview with the Financial Times.

“Mr Dimon, whose bank will report fourth-quarter results on Thursday, gave his bleak assessment as shares on both sides of the Atlantic tumbled on rising fears that banks would need more capital and a larger-than-expected fall in US retail sales.

“‘The worst of the economic situation is not yet behind us. It looks as if it will continue to deteriorate for most of 2009,’ said Mr Dimon. ‘In terms of our sector, we expect consumer loans and credit cards to continue to get worse.’

“Mr Dimon told the FT that JPMorgan was prepared for an expected deterioration in consumer-oriented businesses but added that if things were to get worse than expected it would have to cut costs again.

“Mr Dimon said the bursting of the credit bubble would force the banking industry to refocus on its traditional businesses of advising on deals and lending to companies and individuals.

“‘When we look back at industry excesses in areas such as highly leveraged lending and securitisation, it is clear that some of these markets will never come back,’ he said. ‘In the next few years, the industry will go back to basics: serving individual and corporate customers as best as we can.’”

Source: Francesco Guerrera, Financial Times, January 14, 2009.

Charlie Rose: A conversation with Lee Scott, CEO of Wal-Mart

Source: Charlie Rose, January 14, 2009.

CNBC: Nobel debate on the economy
“Weighing in on the economy with Edmund Phelps, 2006 Nobel Prize winner from Columbia University, and Michael Spence, 2001 Nobel Laureate from Stanford University.”

Source: CNBC, January 15, 2009.

Times Online: Leading economist fears decade of weakness in US
“One of the world’s leading economists has given warning that the United States is facing a decade of financial misery, with the number of unemployed Americans set to continue to rise for years.

“Robert Shiller, Professor of Economics at Yale University, who predicted the end of the internet bubble seven years ago, said: ‘We could have many years of a very weak economy. Big recessions are followed by years of weakness and typically unemployment keeps rising.

“‘To say that this will last years is not a dramatic statement. What is happening now is much worse than 1990. We could be facing a decade of real weakness. This is no ordinary recession. There are signs that people see this as a different story. People are talking about a depression, something that we haven’t seen previously.’

“Some economists, such as Kenneth Rogoff, the former chief economist at the International Monetary Fund and now a Professor of Economics at Harvard University, believe that America will be lucky if unemployment peaks at 9% of the workforce and that there is a high chance that it will reach at least 10%.

“Professor Shiller, who said that he has talked to the incoming Obama Administration about possible solutions to the housing crisis in the US, took a swipe at the Federal Reserve.

“He said: ‘This recession is by no means mechanical. People have lost a sense of confidence, a sense of trust in institutions and in each other. It is very hard for a central bank to address that by just cutting interest rates.’”

Source: Suzy Jagger, Times Online, January 12, 2009.

PRNewswire: Foreclosure activity increases 81% in 2008
“RealtyTrac today [Wednesday] released its 2008 US Foreclosure Market Report, which shows a total of 3,157,806 foreclosure filings – default notices, auction sale notices and bank repossessions – were reported on 2,330,483 US properties during the year, an 81% increase in total properties from 2007 and a 225% increase in total properties from 2006. The report also shows that 1.84% of all US housing units (one in 54) received at least one foreclosure filing during the year, up from 1.03% in 2007.

“Foreclosure filings were reported on 303,410 US properties in December, up 17% from the previous month and up nearly 41% from December 2007. Despite the spike in December, foreclosure activity for the fourth quarter was down nearly 4% from the previous quarter but still up nearly 40% from the fourth quarter of 2007.

“‘State legislation that slowed down the onset of new foreclosure activity clearly had an effect on fourth quarter numbers overall, but that effect appears to have worn off by December,’ said James J. Saccacio, chief executive officer of RealtyTrac. ‘The big jump in December foreclosure activity was somewhat surprising given the moratoria enacted by both Freddie Mac and Fannie Mae, along with programs from some of the major lenders and loan servicers aimed at delaying foreclosure actions against distressed homeowners.

“‘Clearly the foreclosure prevention programs implemented to-date have not had any real success in slowing down this foreclosure tsunami. And the recent California law, much like its predecessors in Massachusetts and Maryland, appears to have done little more than delay the inevitable foreclosure proceedings for thousands of homeowners.’”

Source: PRNewswire, January 14, 2009.

Richard Russell (Dow Theory Letters): Campbell – housing to trough in 2012
“I read a great deal about real estate, and I follow real estate trends closely. By far the best real estate guidance that I’ve come across is Robert Campbell’s ‘The Campbell Real Estate Letter’. Nothing I’ve read compares with Campbell’s great record.

“Robert uses an unusual and unique combination of fundamental and historical material along with his own specialty of technical analysis in real estate timing. Bob Campbell called the exact top of the real estate cycle in his report of August, 2005.

“What does Bob Campbell say now? He notes that historically, housing prices fall by an average of 35% after a financial crisis. He further states that he believes housing across the land will fall by another 8% from here to the final low of the housing cycle. And when will the low come? Campbell states that using five years as the average length of a housing downturn, ‘we can expect the US housing market to trough in the year 2012. Robert expects housing to fall to the prices that existed back in 2001.

“Writes Campbell, ‘And as I’ve stated in previous letters, this is where the problem arose: borrowers took on far more mortgage debt than they could ever pay back, and that’s why the real estate prices are crashing, and we are witnessing the destruction of the biggest credit bubble in history. And in the absence of dramatic increases in household incomes that are needed to service this massive amount of mortgage debt – all the bailouts in the world are unlikely to stop housing prices from eventually reverting back to the 2001 pre-bubble years – or close to it.’”

Source: Richard Russell, Dow Theory Letters, January 15, 2009.

Bespoke: Expected change in home prices
“The CME housing futures that track the S&P/Case-Shiller median home price indices of 10 major cities offer a clue into how much more investors think home prices have to fall.

“In the chart below, we highlight the percentage difference between the October ‘08 actual Case-Shiller numbers (the most recent set of numbers) and the current price of the November ‘09 futures contracts. The composite 10-city November ‘09 contract is currently trading 12% below its October ‘08 level. San Francisco is expected to fall the most in 2009 at -18%, followed by Los Angeles (-16.6%), and Las Vegas (-13%). The rest of the cities are expected to fall less than the composite, with Boston home prices expected to fall the least at -6%. Miami, Denver, DC, and San Diego are all expected to see home prices fall by less than 10% from 10/08 to 11/09.”

Source: Bespoke, January 12, 2009.

MarketWatch: 30-year mortgage under 5%
“The benchmark 30-year mortgage fell below 5% for the first time ever in Freddie Mac’s weekly rate survey as economic weakness continued to push interest rates lower, the mortgage agency said Thursday.

“The national average rate on the 30-year loan fell to 4.96% in the week ending January 15, down from 5.01% a week ago. That is the lowest on record. Freddie Mac began its rate survey in 1971. A year ago the loan averaged 5.69%.

“The 15-year fixed-rate mortgage, a popular refinancing choice, edged up to 4.65% from 4.62% a week ago. Last year at this time the loan averaged 5.21%. Refinancing activity has been strong as mortgage rates have plumbed historic lows.

“The two fixed-rate loans required the payment of an average 0.7 point to achieve the interest rate. A point is one percent of the loan amount, charged as prepaid interest.”

Source: Steve Kerch & Amy Hoak, MarketWatch, January 15, 2009.

Asha Bangalore (Northern Trust): Dreadful retail sales in December
“Retail sales in December were abysmal on every front. Total retail sales during December plunged 2.7% from 2.1% in November. Nearly all sub-components posted significant declines in sales.

“Retail sales have dropped at an annual rate of 24.6% in the fourth quarter versus a 5.1% drop in the previous quarter, a large part of it is due to the drop in gasoline prices. The weakness in retail sales supports expectations of a weak headline GDP number for the fourth quarter and also arithmetically consumer spending and GDP of the first quarter of 2009 are at a disadvantage.”

Source: Asha Bangalore, Northern Trust – Daily Global Commentary, January 14, 2009.

Asha Bangalore (Northern Trust): Lower prices and weak non-oil imports translate to smaller trade gap
“The trade balance of the US economy narrowed to $40.4 billion in November from $56.7 billion in October. A 12.0% drop in nominal imports of goods and services partly due to lower imported oil prices was the main reason for the reduction in the trade gap. Weak economic conditions in the US have resulted in lower imports, while a similar status abroad has led to a 5.8% drop in nominal exports of goods and services.”

Source: Asha Bangalore, Northern Trust – Daily Global Commentary, January 13, 2009.

Asha Bangalore (Northern Trust): Energy and food prices bring down headline wholesale price index
“The Producer Price Index (PPI) of Finished Goods fell 1.9% in December after a 2.2% drop in the prior month, reflecting lower prices for energy (-9.3%) and food (-1.5%). In 2008, the PPI fell 0.9% versus a 6.2% jump in 2007. The 20.3% drop of the energy price index was the main reason for a sharp reversal of the wholesale price index in 2008. The food price index climbed 3.7% in 2008 versus a 7.6% gain in 2007.”

Source: Asha Bangalore, Northern Trust – Daily Global Commentary, January 15, 2009.

Asha Bangalore (Northern Trust): Inflation – issue of little importance, for now
“The Consumer Price Index (CPI) dropped 0.7% in December, the third consecutive monthly decline and the fourth drop in the last five months. During the twelve months ended December the CPI moved up only 0.1% (CPI rose 4.1% in all of 2007), which is the smallest gain on record in the post-war period with the exception of a 0.7% drop in the twelve months ended December 1954. The reversal of the energy price index (-21.3% versus +17.4% in 2007) is largely responsible for the significant deceleration of the CPI. The food price index fell 0.1% in December and advanced only at an annual rate of 1.4% during the three months ended December versus a 4.0% annualized increase in the prior three-month period.

“… going forward, given the projections of weak economic conditions, inflation could move below levels that are consistent with price stability for a short period. At the same time, we should bear in mind that the large fiscal and monetary stimulus in place, and more in the pipeline, inflation could once again be problematic but much farther down the road.”

Source: Asha Bangalore, Northern Trust – Daily Global Commentary, January 16, 2009.

Jim Sinclair (MineSet): The unavoidable face of hyperinflation
“It is horrifying what the Fed and Treasury injected in percentage terms. A true measure of comparison can be seen in the three months of 2008 when the Fed accomplished more than in the seven years from 1929 to 1937.

“This is beyond all reason, having its own new and terrible consequences well in excess of the consequences of the 1929 and 1932 breaks.

“Markets have been run now for years by algorithms, manipulators and seeded interests that are like summer thunderstorms. They are loud and scary, but quite short term and in the end quite meaningless and non-productive.

“The dollar cannot and will not remain strong, nor can a planetary Weimar experience now be avoided.”

Click here or on the image below for a larger chart.

Source: Jim Sinclair, MineSet, January 14, 2009.

Bloomberg: Hedge fund assets fell record 36% in 2008
“Hedge fund assets fell a record 36% to $1.84 trillion in 2008 as tumbling global markets prompted investor withdrawals and fund liquidations, according to industry researcher HedgeFund.net.

“Hedge funds lost $512 billion through withdrawals and fund closures, while performance losses totaled $535 billion, the New York-based unit of Channel Capital Group said in an e-mailed statement. The decline is the biggest since Hedgefund.net began tracking the data in 2003.

“Funds suffered losses and client withdrawals last year, with some selling assets at fire-sale prices as the global credit crisis forced banks to withdraw loans to the industry. While defections and closures reached a record in December, a benchmark of performance rose for the month after declining in previous months, Hedgefund.net said.

“‘Investor asset flows lag performance, and the sharp rise of outflows in the fourth quarter are the result of yearlong aggregate losses,’ Hedgefund.net said in the statement. ‘Positive performance in December may be an indication that the biggest wave of investor outflows has passed.’”

Source: Tomoko Yamazaki, Bloomberg, January 15, 2009.

Bespoke: S&P sector returns year to date
“Below we highlight S&P 500 sector performance year to date through about noon today. As shown, just three sectors are underperforming the market so far this year, and the Financial sector is weighing heavily on the overall index’s declines. Energy, Health Care, Technology, Materials, and Utilities have actually held up pretty well.”

Source: Bespoke, January 16, 2009.

CNBC: Doll’s outlook for 2009
“A look ahead of the possible double-digit equities growth in 2009, with Bob Doll, BlackRock vice chairman/global CIO.”

Source: CNBC, January 12, 2009.

CNBC: Hendry – bonds still best bet
“Government bonds are still the safest bet for investors in these uncertain times, and the euro will face an uphill battle as weak economies will need more flexibility, Hugh Hendry from Eclectica told CNBC.”

Source: CNBC, January 12, 2009.

BCA Research: US employment will cap Treasury back-up
“The US December employment report was grim and included further downward revisions to prior months. Our forecast for the next six months is equally bearish, which implies that Treasury yields will be capped for a long time.

“The contraction in payrolls were roughly in line with expectations, with a broad-based decline in all industries. Our Model forecasts significant weakness in the first half of the year, with no bottom in sight. Labor and income insecurity will continue to keep consumers from spending, and the already deflationary retailing environment will continue to worsen.

“Historically, Treasury yields sustainably rebound only once the annual growth in payrolls turns up significantly. Thus, any back-up in government bond yields over the next few months will prove short lived. Deflation and a contracting economy will be the primary drivers of trends in the Treasury market, underscoring that fears of higher yields driven by mushrooming budget deficits are premature.”

Source: BCA Research, January 12, 2009.

Ambrose Evans-Pritchard (Telegraph): The bond bubble is an accident waiting to happen
“The bond vigilantes slumber. As the greatest sovereign bond bubble of all time rolls into 2009, investors are clinging to an implausible assumption that China and Japan will provide enough capital to keep the happy game going for ever.

“They are betting too that debt deflation will overwhelm the effects of near-zero interest rates across the G10 and nullify a £2,000 billion fiscal blast in the US, China, Japan, Britain, and Europe.

“Above all, they are betting that the Federal Reserve chief Ben Bernanke will fail to print enough banknotes to inflate the US money supply, despite his avowed intent to do so.

“Yields on 10-year US Treasuries have fallen to 2.4% – a level that was unseen even in the Great Depression. This is ‘return-free risk’, said bond guru Jim Grant.

“It is much the same story across the world. Yields are 1.3% in Japan, 3.02% in Germany, 3.13% in Britain, 3.26% in Chile, 3.47% in France, and 5.56% in Brazil.

“‘Get out of Treasuries. They are very, very expensive,’ said Mohamed El-Erian, the investment chief at the Pimco, the world’s top bond fund, in a Barron’s article last week.

“It is lazy to think that China, Japan, the petro-powers and the surplus states of emerging Asia will continue to amass foreign reserves, recycling their treasure into the US and European bond markets.

“These countries are themselves bleeding as exports collapse. Most face capital flight. The whole process that fed the bond boom from 2003 to 2008 is now going into reverse. Woe betide any investor who misjudges the consequences of this strategic shift.”

Click here for the full article.

Source: Ambrose Evans-Pritchard, Telegraph, January 12, 2009.

David Fuller (Fullermoney): Government bond bubble will burst
“Objectively, there is no doubt that government debt yields in the UK, USA and a number of other countries have moved well outside their historic, normal price ranges and values. This indicates a bubble, which some have described as a ‘return-free risk’.

“We need no reminding today that dire economic circumstances have contributed to these ultra-low yields. Indeed, governments have encouraged the move, with rate cuts and talk of quantitative easing, as part of their reflationary efforts. We also know that governments need to issue considerably more debt to finance their programmes, and they want to do this as cheaply as possible.

“My conclusion is that those who are lending to governments at record or at least near-record low yields, are walking into a trap. The government bond bubble has yet to burst, judging from the charts, but it will burst. With bubbles, it seldom pays to delay one’s exit until the downtrend is evident to all.”

Source: David Fuller, Fullermoney, January 14, 2009.

CNBC: Credit – still a good bet if yield curve steepens?
“Investment-grade credit looks very attractive to Richard Urwin, MD & head of asset allocation & economics research team at BlackRock. But what happens if the yield curve steepens by year-end? He gives his take CNBC’s Amanda Drury & Martin Soong.”

Source: CNBC, January 16, 2009.

Eoin Treacy (Fullermoney): 10-year Treasuries show negative real yield
“It is interesting that this is the first time since 1980 that the US 10yr has shown a negative real yield. The fact is that it has not had anything close to the size of the move, relative to CPI, as seen in 1974 or 1980 is also worthy of notice. Of course back then, high inflation expectations were much more of a factor in the movement of the spread, but that is certainly not the case today.”

Source: Eoin Treacy, Fullermoney, January 13, 2009.

Financial Times: Bond issuance by emerging nations surges
“Emerging market sovereign bond issuance has surged this week as governments take advantage of the dramatic drop in yields because of the sharply improving sentiment since the start of the year.

“The Philippines, Turkey, Brazil and Colombia have all issued debt in the past few days, raising a total of $4.5 billion. This compares with just one deal worth $2 billion from Mexico issued in the entire fourth quarter of 2008.

“Nigel Rendell, senior emerging markets strategist at RBC Capital Markets, said: ‘Sentiment has improved a great deal since January 1 in the emerging market space, so these countries see this as a window of opportunity to issue debt.’

“Since January 1, emerging market bond yields have fallen about 40 basis points compared with US Treasuries, the international benchmark for debt, close to eight-week lows, according to JP Morgan’s Embi+ Index. Emerging market bonds are now trading about 650 basis points above US Treasuries. Emerging market governments are also rushing to issue debt as they fear they could be ‘crowded out’ of the primary bond markets because of the record volumes of sovereign debt due from the industrialised nations.

“These emerging market countries need the cash, like their industrialized counterparts, to stimulate their economies.”

Source: David Oakley, Roel Landingin and John Aglionby, Financial Times, January 9, 2009.

Bespoke: US dollar testing resistance
“The US Dollar index has made a nice comeback after its free-fall from late November to mid December. The dollar is up 6.76% from its low on December 17, but as shown in the chart below, it is bumping up against key resistance at its 50-day moving average. If the dollar is able to break above its 50-day, a resumption of its multi-month uptrend will be solidified. If it fails to break through, however, the current level will be one peak of a newly formed downtrend.”

Source: Bespoke, January 14, 2009.

Edmund Conway (Telegraph): Shipping rates hit zero as trade sinks
“Freight rates for containers shipped from Asia to Europe have fallen to zero for the first time since records began, underscoring the dramatic collapse in trade since the world economy buckled in October.

“‘They have already hit zero,’ said Charles de Trenck, a broker at Transport Trackers in Hong Kong. ‘We have seen trade activity fall off a cliff. Asia-Europe is an unmitigated disaster.’

“Shipping journal Lloyd’s List said brokers in Singapore are now waiving fees for containers travelling from South China, charging only for the minimal ‘bunker’ costs. Container fees from North Asia have dropped $200, taking them below operating cost.

“Industry sources said they have never seen rates fall so low. ‘This is a whole new ball game,’ said one trader.

“The Baltic Dry Index (BDI) which measures freight rates for bulk commodities such as iron ore and grains crashed several months ago, falling 96%. The BDI – though a useful early-warning index – is highly volatile and exaggerates apparent ups and downs in trade. However, the latest phase of the shipping crisis is different. It has spread to core trade of finished industrial goods, the lifeblood of the world economy.”

Source: Ambrose Evans-Pritchard, Telegraph, January 12, 2009.

Bloomberg: Frontline says ships storing the most oil in 20 years
“Frontline Ltd, the world’s biggest owner of supertankers, said about 80 million barrels of crude oil are being stored in tankers, the most in 20 years, as traders seek to take advantage of higher prices later in the year.

“Traders are seeking to profit from a market situation called contango where futures prices are higher than the cost of immediate supplies. A purchaser could buy oil now, keep it for months at sea and fetch better prices by selling oil futures that are higher than the spot price.

“‘In this current financial situation I guess it’s one of the more safe bets to do,’ Jens Martin Jensen, Singapore-based interim chief executive officer of the company’s management unit, said by phone today. Thirty to 35 very large crude carriers, each designed to haul 2 million barrels of crude, are storing oil, with the rest on ships half the size called suezmaxes, he said.

“The contango pricing structure has been caused by excess near-term oil supply as demand slows and speculation that output cuts by the Organization of Petroleum Exporting Countries will reduce the glut later this year.”

Source: Alaric Nightingale, Bloomberg, January 14 2009.

Victoria Marklew (Northern Trust): Eurozone – interest rates, inflation, the economy – all fall down
“As widely expected, the European Central Bank (ECB) lopped another 50 bps off its refi rate this morning [Thursday], taking it to 2.0%. Rates have now come down by 225 bps in four successive steps, including a 75 bps cut in December, as the Eurozone economy hits the skids and inflation drops sharply.

“In his subsequent press conference, President Trichet acknowledged that economic data and surveys over the past month point to ‘a further weakening of economic activity around the turn of the year’ and warned that Eurozone demand is likely to be ‘dampened for a protracted period’ with growth risks to the downside. He also acknowledged that the slowing economy has reduced inflation risks, and that the rate of inflation is likely to ‘fall significantly’ in mid-year, in part because of base effects.”

Source: Victoria Marklew, Northern Trust – Daily Global Commentary, January 15, 2009.

Financial Times: German GDP contracts sharply
“Germany’s economy could have contracted by as much as 2% in the final quarter of 2008, the country’s statistical office warned on Wednesday, deepening a recession that looks likely to be the worst since the second world war.

“The sharp contraction in Europe’s largest economy would sound alarm bells across Europe because of Germany’s role as Europe’s economic powerhouse.

“German exports had benefited from strong global growth in recent years ‘but now that process has gone dramatically into reverse’, said Andreas Rees at Unicredit in Munich.

“The latest data came just hours after Berlin unveiled a two-year $66 billion package of growth-boosting measures. Michael Glos, economics minister, argued on Wednesday that the plan would have a ‘noticeable effect’ by later this year.

“Gross domestic product increased by 1 per cent in 2008 as a whole, after a 2.6% rise in the previous year, the federal statistics office reported. But in the final three months of the year, preliminary estimates suggested that GDP fell between about 1.5% and 2%, it said.”

Source: Ralph Atkins, Financial Times, January 14, 2009.

CEP News: Germany’s coalition parties agree on €50 billion stimulus package
“Germany’s coalition parties have agreed on a second economic stimulus package totalling approximately €50 billion, to be put into place over the course of the next two years in an effort to pull the economy out of its worst recession since the end of the Second World War.

“The package of measures will include approximately €36 billion in infrastructure investment and tax cuts. The announcement was made following six hours of talks between the Christian Democratic Union, the Christian Social Union and the Social Democratic Party in Berlin late on Monday.

“The second stimulus package follows a €31 billion plan already in existence.”

Source: CEP News, January 13, 2008.

Financial Times: Spain hit by public finance warning
“The growing dangers for Europe’s sharply slowing economies were highlighted yesterday as Spain became the third eurozone country to be warned over its deteriorating public finances in the space of three days.

“Standard & Poor’s, the rating agency, said Spain’s top-notch triple A credit ratings could be downgraded because of pressure on its public finances after it entered what is likely to be a deep recession in the fourth quarter. On Friday, Greece and Ireland were also warned by the agency that their ratings could be downgraded as economic conditions worsen. The warning is likely to help drive up borrowing costs for those countries.

“The euro weakened against the dollar and the yen after the announcement, which underlined the challenges facing European countries seeking to stimulate their battered economies and pay for bank bail-outs. Analysts say other European countries could face warnings in the coming days or weeks as governments take on record debt levels, which could jeopardise the sustainability of their public finances.”

Source: David Oakley and Victor Mallet, Financial Times, January 12, 2009.

Financial Times: China sees “success” in offsetting crisis
“Wen Jiabao declared China’s efforts to offset the effect of the global economic slowdown an ‘initial success’ on Sunday as the economy performed ‘better than expected’ last month.

“The premier’s hints that the country’s economy might not be locked in a downward spiral will be seen as good news in the rest of the world, where Chinese growth is viewed as a potential palliative for the global recession.

“Speaking during a three-day visit to industrial regions in eastern China, Mr Wen said sales at some companies had begun to rebound, stockpiles were falling and electricity consumption was rising.

“‘We have achieved initial success from the policies we adopted to counter the financial crisis,’ the premier said, according to China National Radio.

“Beijing announced an economic stimulus package of Rmb4,000 billion ($585 billion) in November, heavily weighted towards construction and heavy industry. It was not expected to improve economic growth until the middle of this year but some industries, such as steel, have already shown more confidence since the stimulus package was announced. Scores of Chinese steelmakers have resumed production in the hope that it will lead to a sustained recovery in steel prices.

“Mr Wen vowed that the central government would take other measures, including large investments, to combat the crisis before the legislature’s annual meeting in early March, according to a speech published separately.”

Source: Patti Waldmeir, Financial Times, January 11, 2009.

US Global Investors: Rebound in Chinese bank lending
“A significant rebound in money supply growth and bank lending in China during December suggests that the government’s stimulating policies may have achieved some success. However, challenges for the economy are likely to be sustained in the foreseeable future.”

Source: US Global Investors – Weekly Investor Alert, January 16, 2009.

Bloomberg: China passes Germany to become third-biggest economy
“China’s economy overtook Germany’s in 2007 to become the world’s third largest, underscoring the nation’s increasing economic and political clout.

“Gross domestic product expanded 13% from a year earlier, more than a previous estimate of 11.9%, to 25.731 trillion yuan ($3.38 trillion), the statistics bureau said on its website today. That topped Germany’s 2.424 trillion euros ($3.32 trillion), using average exchange rates for 2007.

“China’s economy is 70 times bigger than when leader Deng Xiaoping ditched hard-line Communist policies in favor of free-market reforms in 1978. After overtaking the UK and France in 2005, China became the third nation to complete a spacewalk, hosted the Olympic Games and surpassed Japan as the biggest buyer of US Treasuries.

“The figure was released as China faces the weakest economic expansion since 1990 after exports collapsed because of the global recession.”

Source: Nipa Piboontanasawat and Kevin Hamlin, Bloomberg, January 14 2009.

Financial Times: Jim O’Neill on the Bric economies
“Jim O’Neill, Chief Economist at Goldman Sachs, tells David Oakley about the reasons to be positive on China, finding value in Bric economies, and the problems facing Russia.”

Source: Financial Times, January 9, 2009.

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Words from the (investment) wise for the week that was (Dec 15 – 21, 2008)

Sunday, December 21st, 2008

“Americans have always been able to handle austerity and even adversity. Prosperity [greed!] is what is doing us in,” said James Reston, former New York Times journalist and Pulitzer Prize winner.

Another chapter in dealing with the current credit and economic adversity was written on Tuesday when the US Federal Reserve announced a no-holds-barred set of measures in a determined attempt to fix the broken credit machine, revive economic activity and stem the deflationary tide.

The Federal Open Market Committee’s (FOMC) policy statement noted: “The Fed will employ all available tools to promote the resumption of sustainable economic growth … In particular, the Committee anticipates that weak economic conditions are likely to warrant exceptionally low levels of the Fed funds rate for some time.”

Although the FOMC slashed the Fed funds rate to a target range of 0 to 0.25% – the lowest the central bank’s key rate has been on record – the Fed was actually simply aligning its target rate with the effective rate, thereby pushing the US into an era of Zirp – a zero-interest-rate policy like that used by Japan for six years in its own fight against deflation.

The Fed’s communiqué also said: “The focus of the Committee’s policy going forward will be to support the functioning of financial markets and stimulate the economy through open market operations and other measures that sustain the size of the Federal Reserve’s balance sheet at a high level.” The statement discussed specific actions that would move the Fed further towards a quantitative easing approach to monetary policy.

Source: Daryl Cagle

President-elect Barack Obama told reporters the fact that the Fed had no more room to cut rates underscored the case for a big fiscal stimulus. “We are running out of the traditional ammunition that’s used in a recession, which is to lower interest rates,” he said according to the Financial Times. Word circulated that Obama may ask Congress next year to approve a stimulus plan of about $850-billion.

Investors’ concerns about the outlook for the global economy deepened on the back of the Fed’s announcement, as seen from government bond yields plunging to record lows and a sharp sell-off in oil prices (despite the announcement of the largest supply cut in Opec’s history). Furthermore, the dollar also tumbled on worries about the US’s public debt expansion and the potential inflationary implications of the “printing press”, although a relief rally did take place on Friday. (Also see my post “Greenback slumped on the canvas”.)

As far as stock markets are concerned, investors have again been shrugging off bad news – a pattern seen since the poor manufacturing and payrolls data of more than two weeks ago. “The newspapers may be giving us a parade of bad news, but the stock market is beginning to march to a different drummer,” said venerable newsletter writer Richard Russell (Dow Theory Letters). This is evidenced from the MSCI World Index (+2.4%), S&P 500 Index (+0.9%) and the MSCI Emerging Markets Index (+5.5%) all improving for a second week running.

The scamster Bernard Madoff’s Ponzi scheme also vied for a place in the history books, causing more billions to evaporate to money heaven – yet another example of how greed clouded the minds of people during the halcyon days. (Click here to track the fallout from the fraud.)

Bill King (The King Report), never one to mince his words, commented as follows: “Madoff allegedly engaged in a scheme that is similar to what the US government has been perpetrating for years – giving people benefits now and promising future benefits, even though the benefits are mathematically impossible to pay, by using new cash flows from taxpayers.”

On the bailout front, the White House gave Detroit their Christmas wish, announcing that General Motors (GM) and Chrysler will receive $13.4 billion in emergency government loans in exchange for substantially restructuring their businesses, according to Bloomberg. “Another $4 billion will be available to GM in February provided Congress releases the second half of the $700 billion TARP fund originally set up to bail out financial institutions.”

Some cheer has also been seen in the credit markets, with the TED spread (i.e. three-month dollar LIBOR less three-month Treasury Bills) declining by 43 basis points to 1.48% – the lowest level since the Lehman bankruptcy in September. Although this measure is moving in the right direction, credit spreads need to narrow further to indicate that confidence is returning and liquidity is starting to move freely again.

The cost of buying credit insurance for US and European companies also eased as shown by the narrower spreads for both the CDX (North America, investment grade) Index (down from 263 to 213) and the Markit iTraxx Europe Index (down from 214 to 191). High-yield credit indices also improved.

There is also some encouragement from the weekly average rates for US 30-year fixed mortgages having declined to 4.94% from 6.30% at the beginning of November, according to Zillow.com.

Next, a tag cloud from the dozens of articles I have read during the past week. This is a way of visualizing word frequencies at a glance. The key words include the usual suspects such as “bank”, “economy”, “Fed”, “market”, “prices” and “rate”.

Regarding the outlook for the stock market, the Wall Street Journal’s MarketBeat blog reported legendary money manager Jeremy Grantham as predicting that beaten-down equities will rally until spring, at which time the bear market will resume.

“While he said that equities in the last couple of months had reached a level of cheapness than had not been seen in years, he still expects more pain to come. Those who can invest with a seven-year time horizon should do well, saying that ‘we’ve popped all of the bigger bubbles’, but he expects ‘we’ll overrun on the downside’.

“He says that the market will likely continue to rally into the spring, and it ‘will be big enough to convince about three-quarters of the players that [the bear market] is all over’. However, he doesn’t believe it is over – expecting a ‘good rally and a different kind of decline, on the sheer grinding of bad news’. He expects something similar to 1974, where the market takes a step forward and a couple steps back, and is fed ‘a diet of ugly earnings’.”

From across the pond, David Fuller (Fullermoney) added: “… markets had fallen sufficiently so that one could nibble on weakness, taking a long-term view. My guess is that China has not only bottomed but is also leading the way back up. However the case is not proven, and will not be until we see base formations for China and most other markets, plus breaks above the 200-day moving averages, which have also turned up. At that point, the next bull market should be well under way.”

The S&P 500 could fall to as low as 600 in 2009 and “alternative assets” like commodities and currencies will provide no shelter for investors, said Gary Shilling in an interview on Tech Ticker (hat tip: Clusterstock). “Having been appropriately bearish heading into this year, Shilling sees ‘few good places to hide’ in 2009. His ‘S&P 600’ prediction, a 33% drop from current levels, is based on a view that S&P earnings will be $40 per share next year (versus the consensus of $83) and the index will trade at a P/E multiple of 15. (Here’s the math: $40 EPS x 15 P/E = 600.)”

Jeffrey Hirsch (Stock Trader’s Almanac) draws our attention to the so-called Santa Claus Rally. This is the trading period from the day after Christmas to the close of the second trading day of the New Year. During this period stocks historically tended to advance, but when recording a loss, it was frequently a sign of trouble ahead.

In my opinion, stock markets are still caught between the actions of central banks pulling out all stops to stabilize the financial and economic situation on the one hand, and a worsening economic and corporate picture on the other. The major US indices seem locked in a short-term trading range, having fallen back below their 50-day moving averages.

The CBOE Volatility Index (VIX) has declined from more than 80 in October and November to 44.9 on Friday. It is not uncommon for short-term volatility to be at extreme levels at bottom turning points, and for stocks to improve as the “storm” grows quieter. It nevertheless remains too early to tell whether a secular stock market low has been recorded on November 20 and, failing further technical and fundamental evidence, I remain distrustful of rallies. In short, we are in a wait-and-see mode. (Also see my post “Stock markets: is this it?”.)

Economy
“Global business confidence continues to slide, falling to another new record low last week. Sentiment is equally negative in North America, South America and Europe, and while Asian business confidence is not quite as dark, it is weakening rapidly,” said the latest Survey of Business Confidence of the World conducted by Moody’s Economy.com. The Survey results indicate that the entire global economy is mired in recession.

Economic reports released in the US during the past week confirmed a world of “depression economics” (to coin Nobel Prize winner Paul Krugman’s phrase). According to Briefing.com, industrial production declined by 0.6% in November, housing starts plummeted by 18.9% (marking the largest decline since March 1984), building permits hit a record low, and weekly initial jobless claims held near a 26-year high. Furthermore, the seasonally unadjusted CPI fell 1.9% in November, the largest drop since the 1930s.

Elsewhere in the world, data releases compounded anxiety about a severe global recession, as seen from the following:

- Germany’s Ifo Business Climate Index fell to a record low in December. The outcome reflects the ongoing stresses in the financial markets and weaker global and domestic economic activity, which have weighed on business sentiment. The downward trend in the Ifo suggests that economic activity in Germany will be very weak in the fourth quarter and prospects going forward remain bleak.

- BBC News reports that France will enter recession in the first quarter of 2009, according to Insee, the country’s national statistics agency. France is the Eurozone’s second biggest economy, and would be the latest major world economy to enter recession.

- The Bank of England’s Monetary Policy Committee voted unanimously in favour of the decision to cut the main repo rate by 100 basis points to 2% at the December monetary policy meeting. However, the minutes revealed that the central bank had considered an even more aggressive interest rate cut, heightening expectations that the UK could follow the US in adopting a quantitative easing policy.

- Confidence among Japanese businesses capitulated during the fourth quarter, with the Tankan Survey Index for large manufacturers recording its biggest decline in more than three decades. Business sentiment in Japan is now at its lowest level in more than six years.

- The Bank of Japan followed the lead of the Fed and moved to a near-zero interest rate environment at its December monetary policy meeting. The central bank cut its overnight call rate target by 20 basis points to 0.10%.

- China’s industrial production growth rose only 5.5% year-on-year in November, the slowest gain since 1999 and steeply slower than the 17% growth reported in March, said RGE. Electricity production fell 9.6% – more than in October, which had marked the first fall in a decade.

Source: Financial Times, December 16, 2008.

Summarizing the economic situation, Nouriel Roubini, professor at New York University and chairman of RGE, said in an article in Forbes: “The outlook for the US and the global economy is now very bleak and getting worse as the global economy experiences its worst recession in decades. In the US, recession started last December and will last at least 24 months until next December – the longest and deepest US recession since World War II, with the cumulative fall in gross domestic product possibly exceeding 5%.”

Week’s economic reports
Click here for the week’s economy in pictures, courtesy of Jake of EconomPic Data.

Source: Yahoo Finance, December 19, 2008.

Next week’s US economic highlights, courtesy of Northern Trust, include the following:

1. Real GDP (December 23): The final estimate of third-quarter Real GDP is expected to be left at -0.5%. Consensus: -0.5%.

2. Existing Sales (December 23): Consensus: 4.90 million versus 4.89 million in October.

3. New Home Sales (December 23): Consensus: 420,000 versus 433,000 in October.

4. Durable Goods Orders (December 24): Consensus: -3.0% versus -6.2% in October.

5. Personal Income and Spending (December 24): Consensus: Personal income +0.0% versus +0.3% in October; Consumer spending: -0.7% versus -1.0% in October.

Click here for a summary of Wachovia’s weekly economic and financial commentary.

Markets
The performance chart obtained from the Wall Street Journal Online shows how different global markets performed during the past week.

Source: Wall Street Journal Online, December 19, 2008.

This week I am giving the customary review of the various asset class movements a skip as family time calls, especially as we have just moved into a new house (located in the scenic Stellenbosch winelands region – about 35 minutes from Cape Town).

On a different note, Madoff’s jeer at the investing public, keeps reminding me of the old adage: “If something sounds too good to be true, that must be because it is too good to be true.” Let’s hope that the news items and words from the investment wise below will assist in bringing cheer to our portfolios during 2009.

Thank you for your friendship and support in making Investment Postcards such a fulfilling experience. Here’s wishing you a great festive season full of fun, laughter and joy. May you have a wonderful 2009.

Source: Daryl Cagle

Krishna Guha (Financial Times): Fed slashes rates to near
“The Federal Reserve moved deeper into uncharted waters on Tuesday, heralding further unconventional measures to support the economy as it slashed interest rates from 1% to virtually zero.

“In a historic statement, the US central bank said it would target a record low interest rate, expressed as a range of between zero and 0.25%. It said it expected to keep rates at ultra-low levels ‘for some time’ and vowed to use ‘all available tools to promote the resumption of sustainable growth and to preserve price stability’.

“The Fed said it ‘stands ready’ to step up its planned purchases of securities issued by Fannie Mae and Freddie Mac, the mortgage giants now under government control. It also said it was ‘evaluating the potential benefits of purchasing longer-term Treasury securities’.

“The aggression of the statement caught the markets by surprise. Mohamed El-Erian, chief executive at Pimco, the bond fund manager, said it was ‘an incredibly strong public declaration that the Fed will throw everything it has in attempting to stabilize the financial and economic situation’.

“The US central bank laid out a strategy that aims to drive down actual borrowing costs for households and companies. It seeks to do so by supporting demand for such loans, reducing the risk spreads on them. At the same time, it wants to keep government bond yields low.

“This means expanded credit and outright asset purchase programs, likely to be funded, at least for now, by expanding reserves and therefore the money supply. Jan Hatzius, chief US economist at Goldman Sachs, called this ‘quantitative easing’. But a senior Fed official said its policy was different from the quantitative easing pursued in post-bubble Japan. The Fed policy is driven by its credit operations whereas Japan targeted bank reserves.

“The Fed said the outlook for economic activity had ‘weakened further’ and acknowledged that ‘inflationary pressures have diminished appreciably’.

“The decision to set a range for interest rates reflects an admission that the US central bank cannot tightly control the actual rate that prevails in the market in current conditions.

“Barack Obama, president-elect, told reporters that the fact that the Fed had no more room to cut rates underscored the case for a big fiscal stimulus. ‘We are running out of the traditional ammunition that’s used in a recession, which is to lower interest rates,’ he said.”

Source: Krishna Guha, Financial Times, December 17, 2008.

BCA Research: US monetary policy – unconventional easing underway
“The FOMC clearly crossed over the line into quantitative-easing territory by cutting the Fed funds target rate virtually to zero, promising to hold it low for a long period, and committing to large purchases of mortgage-related assets and possibly long-term Treasurys.

“In the statement that followed, the FOMC shifted emphasis away from the target rate as the Fed’s primary means of implementing monetary easing in favor of aggressively expanding its balance sheet to drive private sector borrowing rates lower.

“Early clues to its latest thinking were provided late last month upon the launch of its agency and MBS purchase programs and Term Asset-Backed Liquidity Facility (TALF). At that time, it promised to increase the size, the scope and the term of its liquidity facilities as necessary to get credit markets moving again. These comments were echoed in the FOMC statement, which confirms the Fed is prepared to do whatever it takes to restore order to the financial system and head off a potentially damaging bout of deflation.

“The Fed will drive agency and agency-backed MBS yields lower, and will keep Treasurys well bid. If investment-grade corporate bond yields do not fall in the coming months, the Fed could add new facilities to support this market as well.”

Source: BCA Research, December 17, 2008.

Nouriel Roubini (Forbes): Helicopter Ben goes ZIRP!
“The Fed decision to cut the Fed Funds range to 0% to 0.25% has formalized the fact that, over the last month, the Fed had already moved to a zero-interest-rate policy, or ZIRP, and started a policy of quantitative easing (QE) as its balance sheet has surged over the last few months from $800 billion to over $2 trillion.

“The Fed is now undertaking even more unorthodox policy actions. These actions are occurring while the US and the global economy are at risk of a protracted bout of ‘stag-deflation’ (stagnation and deflation).

“While it is now fashionable to talk about such deflationary risks (and the latest US Consumer Price Index figures confirm that we are entering into deflation), some of us were worrying about the coming deflation well before the mainstream – concerned with short-run and unsustainable increases in commodity prices – discovered the deflationary risks in the global economy.

“It was clear to those who saw, early on, the risks of a severe US and global recession, that deflationary rather than inflationary pressures would emerge alongside a slack in goods, labor and commodity markets. Welcome to the world of stag-deflation or, as Paul Krugman would put it, the world of ‘depression economics’.

So what is the outlook for 2009? And what is the likely policy response to the risks of a global stag-deflation?

“The outlook for the US and the global economy is now very bleak and getting worse as the global economy experiences its worst recession in decades. In the US, recession started last December and will last at least 24 months until next December – the longest and deepest US recession since World War II, with the cumulative fall in gross domestic product possibly exceeding 5%.”

Click here for the full article.

Source: Nouriel Roubini, Forbes, December 18, 2008.

John Authers (Financial Times): The Fed’s morning after
“Markets expect the Bank of Japan to cut interest rats to zero; the Fed’s decision has drastically undercut the dollar, oil prices continue to fall despite low rates, a week dollar and a cut in output.”

Click here for the article.

Source: John Authers, Financial Times, December 17, 2008.

Paul Kedrosky (Infectious Greed): ZIRP-ishness around the world
“A quick-and-dirty chart of ZIRP-ishness – the degree to which countries’ nominal interest rates are approaching zero – around the world. Note: The whiter the country the more ZIRP-ish it is, while the more orange you are the further that country’s rate is from zero. Finally, gray means no rate data currently in the dataset.

“It is interesting how, for the most part, ZIRP neatly breaks down into the BRIC/emerging markets versus the rest of the world.”

Source: Paul Kedrosky, Infectious Greed, December 18, 2008.

Bloomberg: Obama may seek a stimulus plan exceeding $850 billion
“Barack Obama may ask Congress next year to approve a stimulus plan of around $850 billion, an amount that has grown as the US economy sinks deeper into recession, an adviser to the president-elect said.

“Obama’s transition team believes the amount, about 6% of the US’s $14 trillion economy, is needed to reverse rising unemployment, said the adviser, who spoke on condition of anonymity. The sum would exceed initial estimates by House Speaker Nancy Pelosi and Senate Majority Leader Harry Reid, as well as surpassing what some economists and the International Monetary Fund say is required.

“The latest proposal is circulating in Congress as Obama’s advisers work with lawmakers to craft a package aimed at improving roads, bridges and other parts of the US’s crumbling infrastructure. The plan probably will also include state aid for unemployment and health-care programs and incentives such as tax credits to promote renewable energy production, lawmakers have said.

“The president-elect wants to create as many as 2.5 million jobs over the next two years. As unemployment has increased, estimates of what is needed to pull the nation out of the slump have continued to grow, with some economists calling for a $1 trillion spending program.

“They include Kenneth Rogoff, a Harvard University professor who was an adviser to Republican presidential candidate John McCain, and Joseph Stiglitz, a Nobel Prize winner who served in President Bill Clinton’s White House.

“UBS AG economists calculate a global stimulus of 1.5% of gross domestic product has so far been lined up for next year. The IMF has called for packages of at least 2% of GDP to stem the economic crisis that’s sweeping the globe.”

Source: Lorraine Woellert, Bloomberg, December 18, 2008.

Bloomberg: $1 trillion stimulus
“Stimulus competition grows as companies vie for funds; Caterpillar wants a piece of the highway projects; GE is pushing to build an electric ‘smart grid’; Daimler AG hopes to build new buses for mass transit systems; Obama promises huge infrastructure investment.”

Source: Bloomberg (via YouTube), December 18, 2009.

Bloomberg: GM and Chrysler will get $13.4 billion in loans
“General Motors and Chrysler will get $13.4 billion in emergency government loans in exchange for substantially restructuring their businesses, President George W. Bush announced.

“Another $4 billion will be available to GM in February provided Congress releases the second half of the $700 billion Troubled Asset Relief Program fund originally set up to bail out financial institutions. The automakers have until March 31 to meet the conditions of the loans, including demonstrating they have a plan to become profitable, or be forced to repay.

“Winning the assistance is a reprieve for GM, the biggest US automaker, and No. 3 Chrysler after they said they would run out of operating funds as soon as this month. Bush is stepping in after Senate Republicans’ refusal last week to take up a House- approved rescue raised the prospect that the companies would fail, costing millions of jobs.

“‘These are not ordinary circumstances,’ Bush said at the White House today. ‘In the midst of a financial crisis and a recession, allowing the US auto industry to collapse is not a responsible course of action.’

“The cost of letting automakers fail would lead to a 1% reduction in the growth of the US economy and mean about 1.1 million workers would lose their jobs, including those in the auto supply business and among dealers, the White House said in a fact sheet.

“President-elect Barack Obama endorsed the plan, calling it a ‘necessary step’ to avoid a major blow to the economy.

“‘The auto companies must not squander this chance to reform bad management practices and begin the long-term restructuring that is absolutely required to save this critical industry,’ Obama said in a statement.

“The United Auto Workers are ‘disappointed’ that Bush added ‘unfair conditions singling out workers’, the union’s president, Ronald Gettelfinger, said in a statement. ‘We will work with the Obama administration and the new Congress to ensure that these unfair conditions are removed,’ Gettelfinger said.

“The package is intended for GM and Chrysler initially. Ford Motor Co., the second-biggest US automaker, has said it can continue operating without aid for now.”

Source: Roger Runningen and John Hughes, Bloomberg, December 19, 2008.

Bloomberg: Fed becoming lender of last resort – interview with Merrill Lynch chief economist David Rosenberg

Source: Bloomberg (via YouTube), December 17, 2008.

CNN Money: Economy rescue – adding up the dollars
“The government is engaged in an unprecedented – and expensive – effort to rescue the economy. Here are all the elements of the bailouts.”

Click on the thumbnail for a large table.

Source: CNN Money, December 15, 2008.

FT Alphaville: Welcome to debt central
“US total debt to GDP is beginning to worry a number of market commentators – even those previously convinced it wasn’t a problem. Most recently, Dennis Gartman of the Gartman Letter, has turned jittery on the issue:

“‘We have never been given to wailing and gnashing our teeth over the US’ growing debt, for during our nearly six decades of life and three and one half decades of trading in markets, we’ve seen the nation’s debt grow even as the quality of life and wealth of the country grew faster. But now, even we are becoming concerned; now even we see potential disaster looming; now even we are depressed … Now even we are considering that double hemlock!’

“As can be seen in the chart below, the figure has certainly ballooned somewhat substantially of late.

“But Americans shouldn’t feel too lonely. There’s at least one other G7 country that can rival the States in the debt to GDP rankings. Have you guess which one it is? Some clues: Land of the Great British Krona, home to Team GB … Yes – it’s the grand old United K. Just take a look at this chart from the Spectator.

“And that’s not even total debt, just external.”

Source: Izabella Kaminska, FT Alphaville, December 12, 2008.

CEP News: Leading nations’ GDP poised to decline in 2009
“US, Japan and euro zone GDPs are expected to decline in 2009, according to the Institute of International Finance (IIF) global economic forecast.

“The IIF forecast is calling for the US economy to decline by 1.3% after rising 1.2% this year, while the euro area economies are projected to decline by 0.9% in 2008 and 1.5% in 2009. Japan’s economy is expected to fall by 1.2% after a flat performance this year.

“IIF Managing Director Charles Dallara said, ‘we now face extraordinary challenges. The extent of the declines in the major economies in the current quarter and in the next quarter or two may be substantial, with the US and the euro area likely to see falls in real GDP in the fourth quarter of this year of respectively 5% and 3%.’

“The IIF is also predicting the downturn in the major economies to impact the leading emerging-market economies. They project the growth in emerging markets to average 5.9% in 2008 and 3.1% in 2009. Weak growth is anticipated to hit central, eastern and southern Europe with growth of just 0.3% for 2009, while the IIF is forecasting growth in South America to come in at 1% next year.

“Overall, global economies are poised to grow 2.0% in 2008 and fall 0.4% in 2009.”

Source: Steve Stecyk, CEP News, December 18, 2008.

The Times: IMF fears unrest without action on economy
“Violent unrest may be sparked around the world by a prolonged global slump unless governments act with greater urgency to jump-start stalled economies, the head of the International Monetary Fund said on Monday.

“Dominique Strauss-Kahn sounded a stark warning over the consequences of what he argued was weak and uncertain government reaction to the economic crisis. He used a hard-hitting speech in Madrid to single out eurozone nations over what he attacked as an inadequate response.

“The broadside from the IMF’s managing director came as fears over a protracted global recession, and political fallout, mounted after China said that its factories’ output registered the weakest growth in almost a decade last month.”

Source: Gary Duncan, The Times, December 16, 2008.

George Magnus (Financial Times): Five ways to start the world economic recovery
“After the Minsky Moment – where euphoria tips into crisis, named after Hyman Minsky – the capitulation of economic activity has been rapid and severe. The outlook is as dark as the doomsayers assert. The only thing that stands between today’s dire economic prospects and a lost decade similar to Japan’s in the 1990s is the competence and authority of macroeconomic policy. We have a long way to go, but for five reasons, even doomsayers can start to feel the force, so to speak.

“First, governments have already acted decisively to preserve the integrity of the formal banking system, while the so-called shadow banking system is collapsing. Over $8,000 billion of programmes to stem the collapse in credit and housing have been announced but it is too soon to declare victory. To strengthen banks in the recession and sustain lending, European banks will need a further $100 billion to $150 billion of capital, while US banks, including regional banks, should quickly be allocated most of the unspent Tarp money of $350 billion.

“Second, governments must continue to facilitate the enormous task of sustaining credit flows and restructuring debt. Bankruptcies are inevitable but additional direct lending programmes, asset purchases and government guarantees are needed to keep liquidity flowing to good corporate and residential borrowers, especially while bank balance sheets are constrained by the need to soak up bad assets that were previously held off-balance sheet. Equity-for-debt swaps will be required for companies with excessive debt.”

Click here for the full article.

Source: George Magnus, Financial Times, December 18, 2008.

CNBC: Feldstein – digging out of the recession
“An outlook on the economy, with Martin Feldstein, former Council of Economic Advisors chairman/National Bureau of Economic Research president emeritus.”

Source: CNBC, December 18, 2008.

Duke University: CFO Survey – historic recession to last another year
“Chief financial officers in the United States and around the world are more pessimistic than at any time in the history of the Duke University/CFO Magazine Global Business Outlook Survey. The majority of chief financial officers in the US and Europe say their firms will slash spending and employment in 2009, and their firms will post losses. The recession will last another year, according to nearly two-thirds of CFOs.

“These are some of the findings of the year-end 2008 quarterly survey, which asked 1,275 CFOs from a broad range of global public and private companies about their expectations for the economy.

CFO Optimism Index: Key Measures

“Weak consumer demand is the top corporate concern. CFOs also continue to worry about credit markets, which are devastating lower-rated firms. Companies rated B or lower face interest rates that are 225 basis points higher than their cost of borrowing before the crisis began.

“The CFO optimism index has proven accurate in predicting future GDP growth, employment and capital spending. This quarter’s extreme pessimism foretells a poor economy in 2009. Thirty-nine percent say the economy will not begin to recover until 2010.”

Source: Duke University, December 10, 2008.

Casey’s Charts: Foreign buyers help drive rates to zero
“Foreign purchases of US Treasury Bills hit a record $147 billion in October, helping drive yields to near zero percent on short-term government debt. Traditionally, foreigners have invested primarily in long-term bonds. This surprising shift into T-Bills reveals that nervous foreigners are transferring their mounds of dollars into more liquid assets. They must think there’s no alternative – why else would they accept a zero return?”

Source: Casey’s Charts, December 17, 2008

The New York Times: Chart of the day – deflation

Source: The New York Times, December 17, 2008 (hat tip: Barry Ritholtz).

Asha Bangalore (Northern Trust): CPI plunges
“The Consumer Price Index (CPI) fell 1.7% in November following a 1.0% drop in October. On a year-to-year basis, the CPI has fallen 1.1% versus a 4.1% increase in all of 2007 and a cycle high of 5.6% year-to-year increase in July 2008. In November 2008, the seasonally unadjusted CPI, which goes back to 1921, fell 1.9%, the largest drop since the 1930s.”

Source: Asha Bangalore, Northern Trust – Daily Global Commentary, December 16, 2008.

Asha Bangalore (Northern Trust): Money supply growth trims decline of LEI
“The Index of Leading Economic Indicators (LEI) dropped 0.4% in November, after a revised 0.9% decline in the prior month. The index has fallen in ten out of the last fourteen months. The October-November average of the LEI as a proxy for the fourth quarter is down 3.6% from a year ago, a magnitude that is comparable with declines seen in the 1980’s recession.”

Source: Asha Bangalore, Northern Trust – Daily Global Commentary, December 18, 2008.

Asha Bangalore (Northern Trust): Construction of new homes at new low
“Home builders remain reluctant to break new ground. Housing starts fell 18.9% in November to an annual rate of 625,000, the lowest on record since record keeping for this series began in 1959.”

Source: Asha Bangalore, Northern Trust – Daily Global Commentary, December 16, 2008.

Washington Post: New poll shows 63% are already hurt by downturn
“The deepening recession has eroded the financial standing and optimism of a broad swath of Americans, nearly two-thirds of whom say that they have been hurt by the downturn and that the country has slipped into long-term economic decline.

“A new Washington Post-ABC News poll also found that a rapidly increasing share of Americans – 66%, up from just over half a year ago – are worried about maintaining their standard of living. Nearly two in 10 said they or someone living in their household had lost a job in the past few months, and more than a quarter said they had their pay or hours reduced. And 15% said that at some point in the past year they fell behind on their rent or mortgage.

“The poll captures the widening fallout from the faltering economy that policymakers are struggling to contain.

“The poll found that nearly two-thirds of Americans support new federal spending to stimulate the economy, and majorities of both Democrats and Republicans back the idea. Concern about deficit spending, however, mutes enthusiasm for the stimulus plan. When respondents were asked whether they would back the plan if it increased the deficit, support dropped to 47%. Overall, nearly nine in 10 said they are worried about the size of the federal budget deficit, including nearly half who are ‘very concerned’.”

Source: Michael Fletcher & Jon Cohen, Washington Post, December 17, 2008.

Bloomberg: Retailers may be weeded out during “Darwinian” competition
The US retail industry will undergo a weeding-out process next year as companies run out of cash as soon as January and competition forces store closings, according to private-equity buyers and restructuring experts.

“‘The United States is massively over-stored in all categories,’ Gregory Segall, a managing partner at buyout firm Versa Capital Management, said today during a panel discussion held at Bloomberg LP’s New York offices. ‘You could probably see 50,000 retail outlets close and it wouldn’t impact the availability and selection and choice of what you buy.’

“Only retailers with healthy balance sheets will survive the recession, said Matthew Katz, a managing director at consulting firm AlixPartners.‘This is a very Darwinian time,’ Katz said.

“Plunging home prices, rising unemployment and tightening credit have led consumers to rein in spending, resulting in what may be the worst holiday season in at least four decades. Macy’s, Kohl’s Corp. and other retailers have marked down items 50% to lure customers, eroding margins at a time when store owners hope to make a third or more of their annual profit.”

Source: Allison Schwartz, Bloomberg, December 17, 2008.

Clusterstock: Bernie Madoff’s victims: the slideshow
“The Bernie Madoff Ponzi scheme is a mess. Bernie himself says $50 billion has vanished. The tales of woe seem to fall into four categories: Superrich Individuals, Little Guys, Funds + Banks, and Charities + Universities + Hospitals. We’ve selected some of each, along with some scenes of the crime.

Click here to view the slideshow

Click here for a more comprehensive text list of Madoff’s victims.

Source: Clusterstock, December 14, 2008.

Bespoke: If you ever see a chart like this, run away fast
“We’ve all heard how Bernie Madoff’s returns sounded too smooth and consistent to be true. In picture form, however, the returns are even more eyebrow raising. The chart below shows the cumulative returns of $1 invested in the hedge fund Fairfield Sentry Limited, which was a fund run by Fairfield Greenwich Group that essentially directed all of its assets to the stewardship of Bernie Madoff. As shown, $1 invested in Madoff back in 1990 was supposed to be worth $6.75 today. NPB Bank, out of Zurich, even offered a version of this fund with three times the leverage. Talk about too good to be true.”

Source: Bespoke, December 16, 2008.

BCA Research: Still a bond-friendly world
“While most of the upside in government bonds has likely already been made, we maintain our long duration call.

“Aggressive monetary easing by each of the major central banks has helped fuel the rally at the long-end of the curve. While the recent drop in yields leaves most government bond markets well into overvalued territory, we are in no rush to take profits on our long duration call. Government bond prices may not have much more upside but value is not a timing tool and the growth and inflation backdrop is likely to keep yields suppressed for an extended period.

“However, we do advise clients to shift their long bond allocations to high quality nongovernment spread product, as we expect a significant narrowing in early 2009. We will await evidence that the global economy is beginning to stabilize, which will most likely take until the second half of 2009, before shifting further down in quality. The time-frame would move up if the Fed signaled that it would begin buying corporates in the interim. While legislation prevents the central bank from directly buying these issues, the Fed could purchase corporate bonds off balance sheet by setting up an SIV.”

Source: BCA Research, December 15, 2008.

Bespoke: 30-year fixed mortgage rates down to 5.28%
“Thirty-year fixed mortgage rates have declined significantly in recent weeks, down from 6% on November 20 to 5.28% as of yesterday [Wednesday]. The Fed is definitely happy to see rates fall, and they’ve still got further to go to get to the 10-year record low of 4.88% seen in 2003.”

Source: Bespoke, December 18, 2008.

CNN Money: Stock picks from the experts
“The crash has driven prices so low that even extreme value investors see some safe buys. The stakes are high whenever you invest, but they’re extra high when you’re managing your money amid a historic financial mess and record volatility.

“For advice equal to the task – in a setting chosen to inspire thoughts of security – we invited five champion fund managers to sit down inside a massive underground vault that’s now part of a restaurant a block from Wall Street: Bob Rodriguez of First Pacific Advisors, who manages the FPA Capital and New Income funds; Susan Byrne, who heads Westwood Holdings Group; Leslie Christian, president and chief investment officer of Portfolio 21 Investments; Tom Forester, manager of the Forester Value fund; and Jeremy Grantham, chairman of asset manager GMO.

“Fortune’s Geoff Colvin led the discussion. Edited excerpts follow; stock prices are as of December 1.

“Let’s get right down to business. Bob, you’ve held a lot of cash in recent years because stocks looked too expensive. Are stocks finally cheap?

“BOB RODRIGUEZ: My value screen went to a new record low in June of 2007, and only 33 companies out of 10,000 qualified. In January of this year we went north of 200 for the first time since the summer of 2002. We went to 250 in the Bear Stearns crisis. And the week of October 16, we hit 447 – the most qualifiers in more than 20 years.

“So stocks are cheap by historical standards. However, we’re being very cautious because what we’re experiencing now is a major shift, the culmination of failed policies in the regulatory system and the private sector that have been building up for 30 years.

“Susan, are stocks cheap?

“SUSAN BYRNE: The markets are providing real returns for the risk that you take all along the spectrum, from equities to debt. So, yes, I think that prices reflect the fact that people are quite rightly very afraid of the risk in the stock market.

“Jeremy, you’ve written that stocks will get cheaper.

“JEREMY GRANTHAM: If you look back at 1982 and 1974, the market was much cheaper than it is today. In ‘74 it was about 40% cheaper, and in ‘82 it was about 60% cheaper. Look at the bad times we had in ‘74 and ‘82, and I think several of us would conclude that this time is likely to be as bad – possibly worse. Bubbles like this always overcorrect.

“How bad will you feel if you put in your cash reserves and the market continues to go down? You’re going to feel awful. And how will you feel if you don’t buy in the cheapest market for 20 years and it runs away and leaves you? Horrible. You have to step your way through so that the regret, which is going to be huge anyway, is about neutral.”

Click here for the full article.

Source: Geoff Colvin, CNN Money, December 15, 2008.

David Stevenson (MoneyWeek): Stock markets might not bottom out until 2014
“Tobin’s Q ratio … This is a ratio developed by Nobel Prize-winning economist James Tobin to compare the market value of companies to the cost of their constituent parts, i.e. their real net asset value.

“When the gauge is more than 1.0, it indicates that the market is overvaluing company assets, while a reading of less than 1.0 suggests shares are undervalued because it’s cheaper to buy quoted companies than build them up.

“The Q ratio on US equities has now dropped to 0.7 from a 1999 peak of 2.9. That could indicate shares are now cheap.

“But think again. The ratio needs to fall to 0.3 to signal the final stage of a major bear market like this one, says Russell Napier at CLSA. How does he know? Because that’s what it did at the end of the four largest US stock price declines in 1921, 1932, 1949 and 1982. That translates into the US S&P 500 index plunging another 55% by 2014. Ouch.

“But between now and then, there’s certainly a good chance of a bear market rally – maybe up to two years long, so those strategists may be right about 2009 – as Obama and the US Fed manage to delay the start of deflation with New Deal II. But those efforts will eventually blow up as ballooning government debt devalues the dollar and prompts a massive share sell-off – on both sides of the Atlantic.

“‘Bear markets always end when they begin ‘pricing in’ deflation, as the value of assets falls and the value of debt stays up, so equity gets crushed’, say Napier. ‘The results are always horrific, and equities will become incredibly cheap.’

“Albert Edwards at SocGen has christened this period the Ice Age. Another bull market will start in time. But as Edward’s description suggests, it’s still a long way away.”

Source: David Stevenson, MoneyWeek, December 11, 2008.

Jeffrey Saut (Raymond James): A rally of some import is in the works
“The call for this week: The two questions du jour are: 1) when will the credit crunch end? and 2) how long will the economy remain weak as it attempts to correct the housing situation?

“Speaking to the first question, participants need to monitor the credit spreads, which so far have not improved.

“As for question two, delinquencies and bank repossessions appear to finally be stabilizing. If the stock market is a discounting mechanism, the 50% decline in the S&P 500 may have already discounted everything.

“Moreover, my sense is that just like participants were conditioned to believe that any decline would not gather much traction back in 1999 and 2000, they are now being conditioned to believe that any rally will not sustain. With stocks’ aggregate value currently below the year’s GDP, we continue to think a rally of some import is in the works”.

Source: Jeffrey Saut, Raymond James, December 15, 2008.

Bespoke: Strategists’ 2009 S&P 500 price targets
“Bloomberg recently surveyed market strategists for their 2009 S&P 500 price targets, and collectively, they’re looking for a gain of 21.8% from the index’s current price level.

“As shown below, UBS is the most bullish of the group with a year-end 2009 price target of 1,300 (a 47.2% gain). UBS was the most bullish last year as well with a 2008 price target of 1,700. Goldman and Strategas are the second most bullish this year with price targets of 1,100. Credit Suisse has a target of 1,050 (for mid-year ‘09), Citi and HSBC are at 1,000, and Merrill Lynch is at 975. Merrill is the least bullish strategist of those surveyed, but they’re still looking for a gain of 10.4% from current levels.

“For those looking for direction from these strategists, their 2008 projections should be noted. All were looking for gains this year, and their targets at the start of the year are far above where the S&P 500 is currently trading.”

Source: Bespoke, December 16, 2008.

King Report: US Dollar Index is collapsing
“What does this mean and what are the implications?

“Bernanke can continue to expand the Fed’s balance sheet until a critical mass of investors loose confidence in either Ben or the Fed’s balance sheet. And the confidence is reflected in the dollar.

“After Ben monetized an enormous amount and assortment of assets after the Bear Stearns, GSE, Lehman, AIG and Big Nine ‘problems’ the dollar rallied sharply. This showed confidence in Ben and the Fed.

“But now the dollar is in collapse. This is a clear sign of something other than confidence in Ben/the Fed. The dollar collapse implies that Ben and the Fed are now ‘on the clock’ and investors will react negatively to further Fed balance sheet hyper expansion.

“Here’s the really big problem with Ben’s gambit. It is the same thing that FDR attempted – devalue the dollar to avert deflation and depression. However, devaluation exports deflation and depression to other countries and they will retaliate, which they did to FDR. This is another reason for The Great Depression.

“So key questions are: How long will it take for China, Japan, Germany or others to retaliate against Ben’s scheme to export deflation and depression to them? And what will be the retribution?”

Source: Bill King, The King Report, December 18, 2008.

Bespoke: Biggest six-day decline for the dollar ever
“The US Dollar index fell another 2.2% today [Tuesday] for its biggest 6-day decline ever. As shown in the table below, the current 6-day decline of 8.07% tops the prior record decline of -7.48% set back in September of 1985. If it’s not one asset falling these days, there’s sure to be another.”

Source: Bespoke, December 17, 2008.

James Turk (GoldMoney): Whatever it takes
“The Federal Reserve today made clear its intention to continue flooding the system with newly created dollars. It says in effect that it will do whatever it takes. Its Federal Open Market Committee (FOMC) lowered the federal funds interest rate target to a range of 0%-to-0.25%, which is an historic low, but it didn’t stop there. The FOMC also announced that it would “employ all available tools” in an attempt to jumpstart the moribund economy. That means it will monetize assets of all sorts. It will turn debt into more US dollar currency.

“The consequences of the Fed’s actions will debase the dollar, perhaps irreparably so. The dollar’s bear market rally that began in July ended last month.

“Since last month’s peak in the Dollar Index, gold has climbed 6.3%, while silver did even better. It has climbed 12.6%. These precious metals are clearly the place to be, given the path of monetary debasement being taken by the Fed.”

Source: James Turk, GoldMoney, December 16, 2008.

David Fuller (Fullermoney): Positioning for an upside move in gold
“I think all gold bulls are currently onto something. These are scary times. Gold feels comfortable in this environment. It is still appreciating against most currencies, including sterling, and also stock markets.

“Against this background, gold could spike higher once again – watch out if / when it maintains a break above that last high just over $900. I am not saying a huge move will occur, because I do not know. However I want to be positioned for an upside move in precious metals at this time. The price charts are increasingly showing us that gold and gold shares are performing once again.”

Source: David Fuller, Fullermoney, December 15, 2008.

I-Net Bridge: Platinum now cheaper than gold
“It is now cheaper to buy platinum than it is to buy gold. On Friday (November 12) the price of gold surpassed the price of platinum for the first time in 12 years.

“Both precious metals eased despite the dollar weakness, bringing a two-day rally to an end as sentiment in global markets after plans to bail out the US automotive industry collapsed.

“The $14 billion bailout for the US automotive industry, besides being a lifeline for faltering vehicle manufacturers, would have boosted platinum demand.

“Platinum, which is mainly used as a component in catalytic converters, is particularly vulnerable to a downturn in the automotive sector since the sector makes up 50% of total demand.

“Failure to provide US carmakers with the financial lifeline they so desperately need has triggered concern over additional job cuts and a possible industry collapse.

“The BullionDesk’s James Moore said gold’s movement over the past few days was ‘very encouraging’, But he said it ‘does raise a few questions about its sustainability short-term, which we suspect won’t be answered until early next year.’

“‘Overall though we would look for gold to continue trading sideways to higher as the Fed’s printing presses further erode the value of the greenback,’ Moore said.

“Turning to platinum, Moore said while the news from the US auto makers may generate some bearish sentiment, the ongoing downgrading of production forecasts should see the metal remain near equilibrium. He expected platinum to remain in the broad $780 to $880 range for the time being.”

Source: I-Net Bridge, December 12, 2008.

Bloomberg: Goldman expects crude to fall to $30 early next year
“Goldman Sachs cut its forecast for oil prices in the first quarter by half to $30 a barrel as the global economic slowdown curbs consumption.

“Crude demand will fall by 1.7 million barrels a day in 2009, analysts Jeffrey Currie and Allison Nathan said in a note. Goldman previously expected West Texas Intermediate, the US benchmark oil, to average $62 in the first quarter.

“The worldwide economic decline has reduced consumer spending and weakened demand for fuel. Demand growth in China and other non-member states of the Paris-based Organization for Economic Cooperation and Development is ‘on the cusp of a sharp deceleration’, the analysts said.

“Crude has fallen for five straight months since trading at a record $147.27 a barrel, as countries including the US, Japan and Germany have entered recessions. Goldman Sachs forecast in July that oil would recover to $149 by the end of this year because consumer demand was ‘restrained, but not destroyed’.”

Source: Rachel Graham, Bloomberg, December 12, 2008.

Bespoke: What a difference seven months makes
“We all remember back in May when Goldman Sachs issued a report predicting that oil’s ‘super spike’ would likely send the commodity to $200 ‘over the next 6-24 months’.

“Seven months later, Goldman is now advising clients that ‘oil prices will fall to $30 a barrel in the next three months’. If the call for $30 oil is as accurate as the call for $200 oil, investors may want to fill up their gas tanks and lock in their heating oil prices asap.”

Source: Bespoke, December 15, 2008.

Financial Times: Record oil cut fails to lift prices
“The depth of the world’s economic downturn was highlighted on Wednesday when the Opec oil cartel appeared powerless in its quest to drive up prices even after agreeing a record cut in its production.

“Opec, which controls about 40% of the world’s oil supplies, announced a further 2.2 million barrel a day cut on top of the 2 million b/d it has already pledged since September. It said it would cut 4.2 million b/d from its September output of 29.045 million b/d, bringing its production ceiling to 24.845 million b/d in January.

“Russia said its companies would be forced to cut another 320,000 b/d early next year only if low oil prices persisted.

“The oil market, however, took a dim view of Opec’s action. Nauman Barakat, of Macquarie in New York, said: ‘A cut of 2.2 million b/d is a pretty decent cut but it will take a while for the market to see the Opec cut actually filtering into the market.’

“Even Washington questioned whether Opec members would comply fully with the announced cuts. ‘It’s not clear that Opec’s actions will be effective, given the shift in global demand and the ability of Opec members to meet the cartel’s targets,’ said Tony Fratto, the White House spokesman.

“‘Regardless, Opec has an obligation to keep the market well supplied and to consider the health of the global economy, so efforts to limit the benefits of lower energy prices are short-sighted,’ he said.

“But Chakib Khelil, Opec president, said Opec had a long-established record in meeting the challenges it faced.”

Source: Carola Hoyos, Financial Times, December 17, 2008.

Bespoke: Baltic Dry Index rally?
“The Baltic Dry Index has been getting some attention recently after rallying more than 15% from its lows. One headline we came across even said that shipping companies were benefiting from the ‘revival’ of the Baltic Index. Revival? While the Baltic Index is indeed up from its lows, it is still down 93.5% from its highs in May, and as the chart below illustrates, the recent gain is barely even visible to the naked eye. Global shipping rates will bottom at some point, and may have already done so, but to call the action of the last two weeks a revival seems a bit premature.”

Source: Bespoke, December 15, 2008.

Financial Times: Shipping charter rates soar
“One of the world’s key shipping markets has begun to recover from a slump, with a revival in Chinese demand for iron ore and coal pushing some average charter prices up almost threefold in the past week.

“The revival in prices, after a disastrous six months for the industry in which charter rates fell nearly 99% for the largest vessels, could encourage ship owners to bring mothballed vessels back into service.

“One participant said yesterday that some owners were able to charge enough to cover the costs of operating Capesize ships, the largest dry bulk carriers. Average rates for these ships, which move coal and iron ore, have nearly tripled over the past week.

“The return of mothballed ships to the market could lead to a repeat of the over-supply which, combined with disappearing demand for coal, iron ore and wheat, depressed prices this year.”

Source: Robert Wright, Financial Times, December 14, 2008.

IFO Business Survey: Business climate in Germany continues to decline
“The Ifo Business Climate for industry and trade in Germany has clearly fallen in December, continuing its decline of more than one year. The dominant feature of the December decline is the worsening of the firms’ current business situation. With regard to the six-month business outlook, the scepticism of the survey participants remains nearly unchanged. A similarly low level of the business climate index was last reached during the second oil crisis at the end of 1982.

“The downturn is affecting above all the manufacturers of export and capital goods and less, up until now, retailing and construction.”

Source: IFO Business Survey, December 18, 2008.

BBC News: France set for 2009 recession
“France will enter recession in 2009, according to Insee, the country’s national statistics agency.

“The agency says the French economy has shrunk by 0.8% in the last three months of 2008 and will contract by another 0.4% in the first quarter of 2009.

“France is eurozone’s second biggest economy, and would be the latest major world economy to enter recession.

“Figures have already shown that Germany and Japan have endured two quarters of negative economic growth, while economists in the US have declared that its economy has been in recession since earlier in 2008.

“France only narrowly avoided negative economic growth between July and September, posting growth of 0.1%.”

Source: BBC News, December 18, 2008.

Victoria Marklew (Northern Trust): Increasingly grim outlook for UK
“The economic news out of the UK is ever more grim. Today was the turn of employment. Claimant count unemployment surged by 75,700 last month, taking the number of unemployed by this measure past the psychologically-important one million mark for the first time since 2001. The broader ILO-basis jobless rate rose from 5.8% in the three months to September, to 6.0% in August-October. As unemployment is usually a lagging indicator, the fact that jobs are being shed at this fast a pace this early in the economic downturn points to a harsh year ahead for employment.”

Source: Victoria Marklew, Northern Trust – Daily Global Commentary, December 17, 2008.

Bloomberg: Japan’s Tankan confidence plunges most in 34 Years
“Sentiment among Japan’s largest manufacturers fell the most in 34 years, signaling companies are likely to cancel spending plans and cut more jobs, pushing the economy further into recession.

“An index that measures confidence among large makers of cars and electronics dropped to minus 24 from minus 3, the Bank of Japan’s quarterly Tankan survey showed today. A negative number means pessimists outnumber optimists.

“The yen’s surge to a 13-year high last week has compounded woes for Japanese manufacturers who are already reeling from a collapse in export markets. Job cuts by companies including Sony and Toyota have brought the recession home to households and increased the risk of a prolonged slump.

“‘The overseas situation is worsening so quickly and so dramatically; it’s really getting dangerous,’ said Tomoko Fujii, head of economics and strategy at Bank of America in Tokyo. ‘The next few months are going to be a very severe period.’”

Source: Jason Clenfield, Bloomberg, December 14, 2008.

Asha Bangalore (Northern Trust): Japan – that sinking feeling

Source: Asha Bangalore, Northern Trust – Daily Global Commentary, December 15, 2008.

Reuters: Ecuador defaults – fighting “monster” creditors
“President Rafael Correa declared a default on Ecuador’s foreign sovereign bonds on Friday, vowing to fight ‘monster’ debt-holders in court in one of the most aggressive moves against investors in the region for years.

“Ecuador’s dollar-denominated debt prices plunged on news of its second default in a decade and the first in Latin America since Argentina in 2002, although the decision was not expected to lead to similar moves around the region.

“Correa, a US-trained economist and ally of Venezuela’s anti-US President Hugo Chavez, refused to make a $31 million interest payment due on Monday on 2012 global bonds, saying the debt was contracted illegally by a previous administration.

“‘I gave the order not to pay the interest and to go into default,’ Correa said. ‘We know very well who we are up against – real monsters.’

“‘If we have to face international litigation due to this, we will,’ he added at a news conference in the OPEC nation’s largest city of Guayaquil.

“The default is unlikely to have a knock-on effect in other Latin American countries’ debt policies even if some, such as Venezuela, have pledged to investigate any irregularities in their own debt …

“Correa, who had often threatened to default, will offer bond-holders a tough restructuring deal. Last month, Ricardo Patino, a top debt adviser to Correa, said investors should expect a reduction of more than 60% in the nominal value of the global paper in any negotiations.

“Ecuador’s global bonds – the 2012s, 2015s and 2030s – total $3.8 billion of its roughly $10 billion debt.”

Source: Maria Eugenia Tello, Reuters, December 12, 2008.

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Words from the (investment) wise for the week that was (November 17 – 23, 2008)

Sunday, November 23rd, 2008

A new bout of fear gripped financial markets during the past week, causing the slide in global stocks, commodities and emerging-market assets to deepen. As investors’ angst escalated, positions in risky assets were liquidated in exchange for perceived safe havens such as the US dollar, government bonds and gold bullion.

“We have seen fundamental selling, technical selling, forced selling (deleveraging), short selling, capitulation selling and selling due to ennui,” commented David Fuller (Fullermoney).

Fueling the sell-off were mounting concerns that the economic recession could not only be more intense than previously feared, but also fall into a corrosive deflationary phase. Additionally, sentiment was undermined by renewed questions about the effectiveness of the US government’s bailout plans.

A clear sign of distress and fear was the US three-month Treasury Bill rate falling to zero on Thursday, before nudging up to (a still minuscule) 0.10% by the close of the week. “The financial situation at the moment is so bad that women are now marrying for love,” quipped an e-mail doing the rounds.

After the S&P 500 Index breached the grim milestone of the October 2002 lows and fell to levels last seen in 1997 – thereby threatening to wipe out the entire 2002 to 2007 bull market – Wall Street regained some confidence late on Friday. The trigger for a strong turnaround arrived just in time for the 15:00 witching hour and came in the form of Timothy Geithner’s (pronounced GYTE-ner) nomination as new Treasury Secretary, resulting in the S&P 500 recovering from an intraday loss of more than 1% to a gain for the day of 6.3%.

On the bailout front, the Detroit automakers sought $25 billion from the Treasury to avert bankruptcy. However, Congress withheld financial aid for the time being, giving the companies until December 2 to submit a “viable” recovery plan.

“Don’t be misled, though – the something that is rotten in the auto industry has nothing to do with the credit crunch, and everything to do with years of mismanagement, shoddy products and bad choices,” said Bloomberg columnist Mark Gilbert. “Consider the credit-rating histories of GM and Ford. For both companies, the rot started all the way back in August 2001, when Standard & Poor’s put the A grades they enjoyed for a decade on review for downgrade. In October of that year they each suffered a two-level cut to BBB+ that left them just three moves away from junk status.”

I received the following note from an American friend a few days ago: “…even the children in my son’s second grade class are depressed about the auto industry. I had to answer my son’s questions about bankruptcy since the kids are talking about it …” This comment says it all!

Elsewhere, Citigroup’s (C) share price plunged by 60.4% over the week to a 16-year low as the company wrestled the financial crisis and planned to slash 50,000 jobs. According to The Wall Street Journal, “Citigroup officials have been talking in recent days to Treasury Department and Federal Reserve officials, and those discussions are expected to continue throughout the weekend …”

A pointed comment regarding the principle of bailouts came from Jim Rogers, as quoted by the Financial Times: “What they’re doing is taking the assets away from the competent people, giving them to the incompetent people and saying to the incompetent: ‘Okay, now you can compete with the competent people, with their money.’ I mean this is terrible economics. This is outrageous economics.”

Next, a tag cloud of the text of the plethora of articles I have read since a week ago. This is a way of visualizing word frequencies at a glance. Keywords such as “banks”, “economy”, “market” and “prices” occur often, but words such as “gold” and “deflation” have also started creeping into the tag picture.

The following update on the stock market outlook arrived on Friday from Bennet Sedacca (Atlantic Advisors): “We have been barely invested, mostly void, in equities, since May. We went ½ long today near the lows for a rally that could last longer than some think. Mostly large cap, high-quality, excellent balance sheet companies with a little tech and financials thrown in. We must remember, buy when you can, not when you have to.”

Oversold conditions are bound to result in rallies from time to time (and possibly around Thanksgiving), but these should not be trusted at face value. For a more lasting market turnaround to happen, I would like to see evidence of base formations on the charts, a 90% up-day, and relative outperformance by the financial sector.

I am also closely monitoring the surges in the US dollar and Japanese yen – low-yielding currencies previously used for funding risky investments – as a break of the uptrends in these two currencies will be a good indicator of the forced deleveraging selling starting to subside. Once this situation has played itself out, we should see a return to lower volatility levels and a return of confidence. (Also read my recent posts “Economic woes torpedo stock markets” and “Panic-crash sentiment causes extreme volatility“.)

Before highlighting some thought-provoking news items and quotes from market commentators, let’s briefly review the financial markets’ movements on the basis of economic statistics and a performance round-up.

Economic reports
The Ifo World Economic Climate has worsened further in the fourth quarter of 2008 with the indicator falling to its lowest level in more than 20 years, according to the Ifo World Economic Survey. Not only the major economic regions of North America, Western Europe and Asia are affected, but also Central and Eastern Europe, Russia, Latin America and Australia. On the whole, the survey data point to a global recession.

Economic reports released in the US during the past week confirmed an increasingly dire situation.

- The US moved closer to deflation territory as the CPI decreased by 1.0% from September to October (the largest monthly decline since the 1930s), leaving the CPI 3.7% higher compared with a year ago and significantly down from September’s 4.9% rate. The continuing decline in US economic activity is pushing down inflationary pressure.

- Because of weak demand, producer prices for finished goods gave up ground for the third month in a row, falling by 2.8% in October largely as a result of much less expensive energy products.

- On par with expectations, residential construction slowed again in October, with a 4.5% month-on-month decline in total housing starts. At 791,000 annualized units, starts have hit another record low as exceptionally weak demand was constraining homebuilding.

- The NAHB housing market index fell further in November, setting a record low.

- Slumping demand is hitting US industry hard, although production bounced back in October from hurricane-related declines in September. Total industrial production increased by 1.3% after having fallen a downwardly revised 3.7% in September, but the indicator fell around two-thirds of a percent in September and October when excluding once-off effects.

- Initial claims for unemployment insurance benefits increased by 27,000 to 542,000 for the week ended November 15, putting claims at their highest point since the early 1990s. This is a serious warning signal about the health of the labor market.

- The Conference Board Index of Leading Economic Indicators declined by 0.9% in October, led by a sharp plunge in stock prices and decreases in residential building permits and consumer expectations. The LEI in the last three months has shown an acceleration in the rate of decline, adding to evidence that the US has entered a recession that will likely be much deeper than either of the previous two.

It comes as no surprise that the minutes of the Federal Open Market Committee’s meeting of October 28 to 29 indicate that members were extremely concerned about the near-term prospects for the economy, given the stresses in financial markets. With the problems in credit markets persisting, the FOMC’s forecast called for falling growth through the first half of 2009, with next year’s real GDP growth projection lowered to -0.2% to 1.1% (previously 2.0% to 2.8%).

Banks continue to hoard all the liquidity the Fed is injecting directly instead of lending it out. This raises the question: Is the Fed “pushing on a string”? Asha Bangalore (Northern Trust) commented as follows: “The lowering of the Fed funds rate, the Fed’s innovative programs to provide liquidity to financial institutions and more lenient rules for borrowing through the discount window appear to have exhausted the gamut of possibilities routed through monetary policy changes to influence aggregate demand.

“The provisions of the Emergency Economic Stabilization Act of 2008 allow for recapitalization of banks. The FDIC is working on obtaining an approval for the anti-foreclosure plan to address the housing market issues that are central to the current crisis. … the probability of a hefty fiscal stimulus package … is growing every day.”

Economic reports in other parts of the world were equally dismal.

Japan entered into its first recession in seven years as the financial crisis curbed demand for its exports. GDP growth contracted by 0.1% during the third quarter, or at an annualized rate of -0.4%, following a second quarter contraction of a massive 0.9%.

Source: Financial Times, November 17, 2008.

China also warned that the unemployment outlook was “grim” as a result of the financial crisis forcing the closure of more export-oriented factories.

In Europe, a further slowdown in economic activity caused the Swiss National Bank to announce a surprise 100 basis-point cut in its three-month target range to 0.5%-1.5% – the third emergency reduction in two months.

Week’s economic reports
Click here for the week’s economy in pictures, courtesy of Jake of EconomPic Data.

Date	Time (ET)	Statistic	For	Actual	Briefing Forecast	Market Expects	Prior
Nov 17	8:30 AM	NY Empire State Index	Nov	-25.4	-26.0	-26.0	-24.6
Nov 17	9:15 AM	Capacity Utilization	Oct	76.4%	76.5%	76.5%	76.4%
Nov 17	9:15 AM	Industrial Production	Oct	1.3%	0.1%	0.2%	-2.8%
Nov 18	8:30 AM	Core PPI	Oct	0.4%	0.0%	0.1%	0.4%
Nov 18	8:30 AM	PPI	Oct	-2.8%	-2.0%	-1.8%	-0.4%
Nov 18	9:00 AM	Net Foreign Purchases	Sep	$66.2B	NA	$17.5B	$21.0B
Nov 19	8:30 AM	Building Permits	Oct	708K	760K	772K	805K
Nov 19	8:30 AM	Core CPI	Oct	-0.1%	0.1%	0.1%	0.1%
Nov 19	8:30 AM	CPI	Oct	-1.0%	-0.7%	-0.8%	0.0%
Nov 19	8:30 AM	Housing Starts	Oct	791K	780K	780K	828K
Nov 19	2:00 PM	FOMC Minutes	Oct 29	-	-	-	-
Nov 20	8:30 AM	Initial Claims	11/15	542K	505K	503K	515K
Nov 20	10:00 AM	Leading Indicators	Oct	-0.8%	-0.7%	-0.6%	0.1%
Nov 20	10:00 AM	Philadelphia Fed	Nov	-39.3	-30.0	-35.0	-37.5

Source: Yahoo Finance, November 21, 2008.

Next week’s US economic highlights, courtesy of Northern Trust, include the following:

1. Existing Home Sales (November 24): Sales of existing homes are predicted to have declined in October after a small gain in September. Sales of existing homes advanced by 7.8% from a year ago in September, after posting declines since late 2005. Consensus: 5.00 million versus 5.18 million in September.

2. Real GDP (November 25): Incoming economic reports suggest a small downward revision of real GDP in the third quarter to a 0.5% drop from the advance estimate of a 0.3% decline. Consensus: -0.5%

3. New Home Sales (November 26): Sales of new homes are expected to have fallen in October after a 2.3% increase in September. Sales of new homes have dropped by 32.1% from a year ago in September. Consensus: 450,000 versus 464,000 in September.

4. Durable Goods Orders (November 26): Durable goods orders (-2.0%) are predicted to have dropped in October reflecting declines in bookings of defense and aircraft, which posted large gains in September. Consensus: -2.6% versus +0.9% in September.

5. Personal Income and Spending (November 26): The earnings and payroll numbers for October indicate a steady reading for personal income in October. Auto sales fell sharply in October and non-auto retail sales were noticeably weak, pointing to a likely drop in consumer spending (-0.6%). Consensus: Personal income +0.1%, consumer spending -0.9%

6. Other reports: Case-Shiller Price Index, OFHEO Price Index, Consumer Confidence (November 25).

Click here for a summary of Wachovia’s weekly economic and financial commentary.

Markets
The performance chart obtained from the Wall Street Journal Online shows how different global markets performed during the past week.

Source: Wall Street Journal Online, November 14, 2008.

Equities
Global stock markets suffered badly during the past week on mounting worries about the severity of the economic slowdown. The week’s movements – MSCI World Index -9.6% and MSCI Emerging Markets Index -11.8% – tell the story of a rough ride for bourses all over the world and marked a third straight week of losses. And the scoreboard would have been even worse if not for a dramatic late-session recovery in the US on the news that Timothy Geithner would be named Treasury Secretary.

Not a single developed market closed the week unscathed. Similarly, large losses also abounded among emerging markets, with the sole exception being the Shanghai Stock Exchange Composite Index that recorded only a relatively small 0.9% decline. The Index plunged by 72.0% since its high of October 16, 2007 until hitting a low on November 4, but has subsequently bounced by 15.4% to flirt with its 50-day moving average and roundophobia 2000 level. Will the upside leadership for global stock markets come from China on this occasion?

The chart below shows the performances of the four BRIC countries during the past week.

Click here or on the thumbnail below for a (very red) market map, obtained from Finviz, providing a quick overview of last week’s performances of global stock markets (as reflected by the movements of ADR stocks).

The US stock markets all declined sharply over the week as shown by the major index movements: Dow Jones Industrial Index -5.3 (YTD -39.3%), S&P 500 Index -8.4% (YTD -45.5%). Nasdaq Composite Index -8.7% (YTD �‘47.8%) and Russell 2000 Index -10.9% (YTD -46.9%).

The S&P 500 closed below its October 2002 low of 777 on Thursday, but Friday’s rally (+6.3%) to 800 put it back above this key support level. The Dow remained above its 2002 low of 7,286 on Thursday and closed 760 points above this level after Friday’s surge.

Click here or on the thumbnail below for a market map, also from Finviz.com, showing the performances of the various segments of the S&P 500 over the week.

As far as industry groups are concerned, gold (+19%) was the top performer for the week, led by Newmont Mining (NEM) on the back of a sharp rise in the price of gold bullion.

On the other side of the performance spectrum, the industrial real estate investment trust (REIT) group (-40%) was the worst performer. The diversified financial services group (-38%) was the second worst performer, with each of the group’s large banks – Citigroup (C), JPMorgan Chase (JPM) and Bank of America (BAC) – dropping sharply. Investor concerns about future credit losses, valuations of “toxic” securities on the banks’ books, job layoffs and capital adequacy issues were the drivers for the declines.

David Fuller (Fullermoney) commented as follows on the outlook for stock markets: “… we have yet to see evidence of bottoming out on many major stock market charts. While this is worrying, to put it mildly, and sentiment is diabolical, investors should recall an extremely important behavioural conditioning process. The crowd has always turned progressively more bearish with each additional decline towards the eventual low for every bear market. This is inevitable as more people sell, and unfortunately, few are more bearish than a battered holdout who finally capitulates.

“If global stock markets are not close to a major buying opportunity, then I suggest we should all head to sea and become Somali pirates.”

Fixed-interest instruments
Government bond yields across the world plunged last week as spooked investors rushed out of equities into sovereign debt.

The ten-year US Treasury Note yield declined by a massive 57 basis points to 3.18%, the UK ten-year Gilt yield dropped by 20 basis points to 3.87% and the German ten-year Bund yield fell by 30 basis points to 3.38%. However, emerging-market bonds, in general, lost ground as further deleveraging took its toll on risky assets.

The yield on ten-year Treasuries touched a 5½-year low (3.01%) on Thursday before rebounding by the close of the week, whereas the yield on 30-year bonds dropped to its lowest level (3.53%) since the start of regular issuance in 1977 before snapping back by 14 basis points.

US mortgage rates also declined, with the 30-year fixed rate dropping by 9 basis points to 6.09% and the 5-year ARM also by 9 basis points to 5.89%.

A number of indicators show that the credit crisis is still severe. For example, credit default swaps that measure default risk for investment grade debt are trading at their highest levels of the bear market. This is seen from Bespoke’s index that measures default risk for 125 companies with investment grade debt ratings.

Currencies
The week’s feature among currencies was safe-haven flows into the US dollar and Japanese yen as investors liquidated risky assets previously funded with these low-yielding currencies.

The Swiss franc came under pressure as the Swiss National Bank slashed interest rates a full percentage point to 1% as an emergency step to soften the economic slowdown.

The chart below illustrates the accent of the US dollar and Japanese yen since September 15. (The US dollar is measured against a trade-weighted basket of currencies, whereas all the other currencies are measured against the US dollar.)

Emerging-market currencies had another bad week as a result of increasing risk aversion. Examples of losses against the greenback include the Brazilian real (�‘10.4%), the Turkish lira (-4.5%), the South Korean won (-6.7%) and the South African rand (-4.4%).

RGE Monitor raised the question whether Bulgaria and the Baltic states will be forced to reset their fixed exchange rate pegs to the euro as a result of their large external imbalances and the global financial crisis. “Because of their fixed exchange rates, these economies cannot conduct independent monetary policy so the burden of macro-economic adjustment falls on fiscal policy.”

Commodities
The Reuters/Jeffries CRB Index (-6.5%) witnessed a further decline amid fears of a protracted global economic recession and expectations that demand will drop.

Gold bullion (+6.6%) bucked the trend and surged as the yellow metal found support among nervous investors as a safe store of value. A report that China might embark on a gold-buying program provided an additional boost.

On the other hand, West Texas Intermediate crude declined by a further 13.3% to $49.9 – a level not seen since May 2005. OPEC meets on November 29 to consider additional production cuts.

The graph below shows the movements of various commodities over the past week – a continuation of the intense bear market that has been in force since the beginning of July.

Lau-Tzu said: “Those who have knowledge, don’t predict. Those who predict, don’t have knowledge.” Wise words indeed, but hopefully the news items and words from the investment wise below will cast some light on the lie of the investment land. And may the markets bring you additional reason to celebrate a joyous Thanksgiving.

That’s the way it looks from Cape Town.

Source: Pat Oliphant, Slate

Barry Ritholtz (The Big Picture): Record-breaking data everywhere!
“One of the interesting aspects of this unprecedented housing collapse, credit crisis, economic recession and market crash has been all the new records we keep seeing:

- Over the past year, the S&P 500 Index lost ~$1 trillion more than the entire 2000-2002 bear market, according to Standard & Poor’s. From the October 2007 highs of 1,565, to yesterday’s close of 806.58, the S&P 500 market capitalization lost $6.69 trillion. That’s almost $1 trillion more than entire 2000-03 bear market losses of $5.76 trillion. (Marketwatch)

- The S&P 500 hasn’t been this far below its 200-day moving average on a percentage basis since the Great Depression. (Doug Kass)

- CPI: US consumer prices in October registered their largest single-month decline since before World War II. It is the largest monthly drop in the 61-year history of the data;

- PPI, down 2.8% for the month, was also a record-breaking drop.

- The dividend yield on the S&P 500 is now greater than the yield on the 10-year Treasury. That hasn’t happened since 1958. (Barron’s)

- First-time claims for US unemployment insurance rose to the highest level since September 2001. The total number of people on unemployment benefit rolls jumped to the highest level since 1983.

- Housing starts fell to 791,000, off 38% from a year ago. That’s the slowest pace of starts since data began being compiled in 1959. Starts are now down 65% from the early 2006 peak – this has become the very worst housing downturn on record.

- Permits for new houses, at a 708,000 pace, were off 40% from a year ago, also the lowest total since it has been tracked starting in 1960. Put this into context of population – in 1960, the total US population stood at 180 million – 60% of today’s 300 million.

- The 30-year return for BBB-rated corporate bonds is now greater than the 30-year return for stocks. So it has not paid to take equity risk for 30 years! (The Street.com)

- The TIPS Spread ( Treasury Inflation Protected Securities versus the 10-year Treasury) is at a record low 54 basis points (1997).

- The Russell 3,000 now has 1,228 stocks a share price under $10. That’s 42% of the index. At the market’s 2002 lows, there were significantly less stocks trading below $10/share – just 884. (Bespoke)”

Source: Barry Ritholtz, The Big Picture, November 20, 2008.

The Wall Street Journal: Obama likely to pick Fed’s Geithner for Treasury
“President-elect Barack Obama is expected to nominate as Treasury Secretary Timothy Geithner, the president of the Federal Reserve Bank of New York and a figure who has been deeply involved in tackling the financial crisis.

“Mr. Geithner, 47 years old, would be one of the youngest-ever US Treasury secretaries. His nomination would come as Wall Street is being challenged by the financial crisis and a Washington power vacuum, and as the world’s debt markets show fresh signs of falling into deeper problems.

“Mr. Obama is expected to introduce his entire economic team on Monday, according to people familiar with the matter. The president-elect has been under pressure to speed up his transition as stock markets this past week fell to lows not seen since the late 1990s.

“Mr. Geithner served as a Treasury attaché in Japan in the 1990s and later at the International Monetary Fund. He was a protégé of former Treasury Secretaries Lawrence Summers and Robert Rubin. Mr. Summers, who was also a potential candidate, instead is expected to take a position within the White House as an economic adviser.

“Mr. Geithner has spent most of his career managing government responses to financial crises, from the 1990s bailouts of Mexico, Indonesia and Korea, to the debt-market meltdown that has brought Wall Street to its knees this year.

“Mr. Geithner (pronounced GYTE-ner) pushed for earlier intervention in the financial markets to stem the financial crisis, and looks likely to continue that activist approach in his new job. Among his first priorities could be a large fiscal-stimulus package.

“Unlike previous picks for Treasury secretary, who hailed from Wall Street, industry or the Senate, Mr. Geithner has been a technocrat most of his career.”

Source: Jonathan Weisman, Deborah Solomon and Jon Hilsenrath, The Wall Street Journal, November 22, 2008.

The Wall Street Journal: Paulson – we’re not experimenting with bailout
“Treasury Secretary Henry Paulson defended the Bush Administration’s $700 billion bailout plan, telling WSJ’s Alan Murray he doesn’t think he’s doing FDR-like experimentation with liquid assets.”

Source: The Wall Street Journal, November 17, 2008.

CNBC: Bernanke testimony
Federal Reserve chairman Ben Bernanke testifies before the House Financial Services Committee.

Source: CNBC, November 18, 2008.

Financial Times: US economy chiefs say policies bear fruit
“The cost of insuring top quality US companies against default hit a record high on Tuesday even as Hank Paulson and Ben Bernanke told Congress that their radical policy actions to ease the credit crisis were starting to bear fruit.

“‘We have turned the corner in terms of stabilising the system and preventing collapse,’ said Mr Paulson, Treasury secretary. He called for patience, saying: ‘There is a lot of work that still needs to be done in terms of recovery of the financial system.’

“Mr Bernanke said there were ‘some signs that credit markets, while still quite strained, are improving’.

“However, the Federal Reserve chairman noted that ‘overall credit conditions are still far from normal, with risk spreads remaining very elevated’.

“On Tuesday, the CDX index that measures the cost of insuring investment grade companies against default closed at a record high on mounting concern about the global economy, and there were fresh signs of dislocation in the swaps market.

“Meanwhile, indices that measure the value of securities backed by residential and commercial property loans – which have plunged since Mr Paulson abandoned his plan to buy toxic assets last week – continued to plumb new depths.”

Source: Michael Mackenzie and Krishna Guha, Financial Times, November 18, 2008.

The Wall Street: Paulson, Summers, Rubin debate crisis
“Current Treasury Secretary Henry Paulson and predecessors Lawrence Summers and Robert Rubin locked horns over the best way to get the US economy back on track.”

Source: The Wall Street Journal, November 17, 2008.

Bespoke: Paulson trying to rewrite his own history
“Treasury Secretary Henry Paulson spoke at the Reagan Library this afternoon, and judging by the speech, it appears as though Mr. Paulson is embarking on a PR campaign to rewrite the history of his handling of the credit crisis. One line that stood out was when he said: ‘By pro-actively addressing the problems we saw coming …’

“Judging by excerpts of prior comments the Treasury Secretary made during 2007, if Mr. Paulson saw the problems coming, he wasn’t telling anybody.

“Marketwatch 3/13/07: Paulson also said the fallout in subprime mortgages is ‘going to be painful to some lenders, but it is largely contained.’

“Reuters 4/20/07: ‘I don’t see (subprime mortgage market troubles) imposing a serious problem. I think it’s going to be largely contained.’

“Bloomberg 5/22/07: Paulson, also speaking to CNBC, said the housing slump was ‘largely contained‘ and that market’s correction was mostly ‘behind us.’

“Bloomberg 6/20/07: Subprime fallout ‘will not affect the economy overall.’

“Forbes 7/27/07: Appearing on CNBC with other members of the Bush administration’s economic team, he again said mortgage industry problems would be ‘largely contained.’

“Boston.com 8/1/07: Paulson added that he did not see anything that caused him to reconsider his view that the economic damage from the housing correction was ‘largely contained.’

“Another classic line from today was, ‘As I assess our current situation, I believe we have taken the necessary steps to prevent a financial collapse.’ Mr. Paulson, what is it going to take for you to consider this a financial collapse?

“Given that the extent of the credit crisis was underestimated by almost everyone, you can give Paulson somewhat of a pass for missing it. But to try and rewrite history through speeches even while the credit crisis is still playing out is inexcusable.”

Source: Bespoke, November 20, 2008.

Financial Times: Congress reaches an impasse on car bailout
“The US Congress is unable to approve a new emergency loan to the country’s troubled car sector, Democratic leaders said on Thursday.

“Industry chiefs’ pleas for aid appeared to backfire after two days of hearings on Capitol Hill. News of the impasse over one of the hardest-hit sectors of the US economy came as President George W. Bush agreed to extend unemployment benefits after US weekly jobless claims hit a 16-year high.

“Harry Reid, Senate majority leader, and Nancy Pelosi, speaker of the House of Representatives, said there were not enough votes to pass a $25 billion loan for Detroit that Democrats had advocated. They said car companies had to be more specific about restructuring.

“The pair gave the big three carmakers – General Motors, Ford and Chrysler – until December 2 to submit a ‘viable’ recovery plan, with the prospect of convening hearings immediately afterwards and possible congressional votes a week after that.

“The announcement came in spite of last-minute efforts by six Democratic and Republican senators from car-producing states to reach a deal on a bridging loan.”

Source: Daniel Dombey, Andrew Ward and Bernard Simon, Financial Times, November 20, 2008.

ABC News: Auto bailout – would be better to burn the money
“Congress is debating cutting the Big Three Autos a check … something to tide them over through these tough times. General Motors is bleeding money … some 2 billion dollars a day. Bail them out or let them go bankrupt? That’s the billion dollar question. And its billions of your money.

“One side says give them money – they’re too big to fail, too many jobs will be lost, the American economy will be hit hard, they need time to get fuel efficient cars to the market.

“The flip side – let them fail, they brought this on themselves, pouring 25 billion into these failed models is a waste, bankruptcy protections will let them out of their incredibly expensive labor contracts.

“… David Yermack from NYU Stern Business School chimed in: ‘The implications of this story for Washington policy makers are obvious. Investing in the major auto companies today would be throwing good money after bad. Many are suggesting that $25 billion of public money be immediately injected into the auto business in order to buy time for an even larger bailout to be organized. We would do better to set this money on fire rather than using it to keep these dying firms on life support, setting them up for even more money-losing investments in the future.’”

Source: ABC News, November 17, 2008.

Paul Kedrosky (Infectious Greed): The auto bankruptcy teeter-totter
“GM, for its part, isn’t taking this lying down. It has posted a video on YouTube explaining – okay, propagandizing – the implications of letting it die. Watch it to see how the straight-to-consumer “Save us!” game is played.”

Source: Paul Kedrosky, Infectious Greed, November 15, 2008.

CNBC: Financial crisis tab already in the trillions
“Given the speed at which the federal government is throwing money at the financial crisis, the average taxpayer, never mind member of Congress, might not be faulted for losing track.

“CNBC, however, has been paying very close attention and keeping a running tally of actual spending as well as the commitments involved.

“Try $4.28 trillion dollars. Not only is it a astronomical amount of money, it’s a complicated cocktail of budgeted dollars, actual spending, guarantees, loans, swaps and other market mechanisms by the Federal Reserve, the Treasury and other offices of government taken over roughly the last year, based on government data and new releases. Strictly speaking, not every cent is directed as a result of what’s called the financial crisis, but it arguably related to it.”

Source: CNBC, November 17, 2008.

Reuters: Financials need at least $1 trillion – analyst
“The US financial system still needs at least $1 trillion to $1.2 trillion of tangible common equity to restore confidence and improve liquidity in the credit markets, Friedman Billings Ramsey analyst Paul Miller said.

“Eight financial companies – Citigroup, Morgan Stanley, Goldman Sachs Group, Wells Fargo, JPMorgan Chase, AIG, Bank of America Corp and GE Financial – are in greatest need of capital, he said.

“‘Debt or TARP capital is not true capital. Long-term debt financing is not the solution. Only injections of true tangible common equity will solve the current crisis,’ he said.

“Currently, the US financial system has $37 trillion of debt outstanding, he noted.

“Combined, these eight companies have roughly $12.2 trillion of assets and only $406 billion of tangible common capital, or just 3.4%, the analyst said.

“Miller said these institutions need somewhere between $1 trillion and $1.2 trillion of capital to put their balance sheets back on solid ground and begin to extend credit again, given their dependence on short-term funding and the illiquid nature of their asset bases.”

Source: Reuters, November 20, 2008.

Mr Mortgage: The great mortgage modification pump
“Reworking loans to make ‘payments affordable’ without permanently reducing principal balances is the worst possible thing that can be done because it ensures the housing and foreclosure crisis will be with us for a long time. If these programs are widely accepted, housing is a dead asset class indefinitely …

“This style of modification does not sit well with owners of mortgage securities either, which make up the bulk of distressed mortgages. This is because deferred interest, 40-year terms and interest only teaser periods, greatly reduces the cash flows and lengthens the duration of the security.”

Click here for the full article.

Source: Mr Mortgage, November 19, 2008.

Credit Suisse: More fiscal action needed to ease crisis
“The US, Europe and Japan are in significant recession, says Giles Keating, Head of Global Research at Credit Suisse. He explains how the financial crisis is evolving and why capital injections are needed.”

Source: Credit Suisse, November 12, 2008.

The Wall Street Journal: Discussing the Great Depression
“Dorothy Womble and William Hague survived the Great Depression. They share their stories of living during that time as children.”

Source: The Wall Street Journal, November 14, 2008.

Reuters: Fed’s Hoening – Fed has done “as much as it can”
“Kansas City Federal Reserve President Thomas Hoenig said on Monday the US central bank has done what it can to buffer the economy through a downturn, and a painful process of readjustment is likely ahead.

“‘The Fed has done about as much as it can do,’ he said in an interview on PBS’s Nightly Business Report. Interest rates are already extremely low, he noted, according to a transcript of the program.

“‘We might put it out there, but banks are not able to, given their own capital constraints, able to lend as aggressively,’ he added.

“Hoenig said he was surprised at how quickly economic activity has slowed, but that a sharp reversal of consumption was clearly a key development.

“‘The consumer factor was a major part of the strong slowdown and the actual entering into the recession,’ he said.

“‘Part of it is working through the deleveraging,’ he said. ‘I don’t know of any painless way to rebalance your economy, you have to go through this adjustment, and we will get through it, but it’s not going to be without consequence,’ he added.”

Source: Mark Felsenthal, Reuters, November 17, 2008.

Bloomberg: NABE’s Varvares says US recession to extend into 2009
“Chris Varvares, president of Macroeconomic Advisers LLC and president of the National Association for Business Economics, talks with Bloomberg about the results of NABE’s survey of business economists.”

Click here for the article.

Source: Timothy R. Homan, Bloomberg, November 17, 2008.

Bloomberg: Nouriel Roubini – “I fear the worst is yet to come”

Source: Bloomberg, November 20, 2008.

Clusterstock: Roubini – How are we screwed? Let us count the ways
“Nouriel Roubini weighs in with another treatise of doom, this time focused on consumer spending. He lists 20 reasons consumer spending is headed to hell in a handbasket, taking the economy down with it. We’re short on Prozac, so we’ll summarize only a handful here, and we’ll let Nouriel take it away:

“Today’s news about October retail sales (-2.8% relative to the previous month and now down in real terms for five months in a row) confirm what this forum has been arguing for a while, i.e. that the US has entered its most severe consumer-led recession in decades. At this rate of free fall in consumption real GDP growth could be a whopping 5% negative or even worse in Q4 of 2008. And this is not a temporary phenomenon as almost all of the fundamentals driving consumption are heading south on a persistent and structural basis …”

Click here for the article.

Source: Henry Blodget, Clusterstock, November 15, 2008.

Asha Bangalore (Northern Trust): What is the Fed’s next move?
“The minutes of the October 28 to 29 FOMC meeting were published this afternoon [Wednesday]. The main thrust of these minutes is that economic growth is the topmost concern. The minutes noted that ‘members also saw the substantial downside risks to growth as supporting a relatively large policy move at this meeting, though even after today’s 50 basis point action, the Committee judged that downside risks to growth would remain. Members anticipated that economic data over the upcoming intermeeting period would show significant weakness in economic activity, and some suggested that additional policy easing could well be appropriate at future meetings.’

“The target rate was lowered to 1.0% on October 29, with the effective rate trading between 22 bps and 37 bps since then. Is there a benefit to lowering the Federal funds rate? A lower Federal funds rate, as suggested in the minutes of the October 28-29 meeting, would only accomplish validating the already low effective Federal funds rate. It is possible the Fed could cut the Federal funds rate and abandon attempting to manage the effective rate such that it trades close to the target rate. It appears that the Fed may be considering the possibility of a zero federal funds eventually, if economic conditions warrant it.”

Source: Asha Bangalore, Northern Trust – Daily Global Commentary, November 19, 2008.

Bloomberg: Fed to cut rates to zero on deflation risk, JPMorgan predicts
“The US Federal Reserve will probably cut interest rates to zero percent over the next two months to staunch deflation, according to JPMorgan Chase.

“The Fed will lower borrowing costs by 50 basis points at each of the next two policy meetings on December 16 and January 28, JPMorgan economist Michael Feroli wrote in a note to investors yesterday. The central bank will hold rates at zero for the rest of 2009 to prevent prices from spiraling down as companies cut jobs and banks reduce lending, stifling spending, Feroli said.

“The Fed may not be the only central bank to begin offering free money to jolt life into their recessionary economies and keep prices rising as the 15-month credit crisis deepens. The Bank of Japan cut its benchmark rate to 0.3% last month, and the European Central Bank has signaled it’s ready to lower rates further after two reductions in the past six weeks.

“‘Taking the target rate to zero percent would not be costless for the Fed,’ Feroli said. Public confidence may drop ‘if there is a perception that the Fed has run out of ammo’.”

Source: Jason Clenfield, Bloomberg, November 20, 2008.

Asha Bangalore (Northern Trust): Leading index points to further weakening of economy
“The Conference Board’s Index of Leading Economic Indicators (LEI) dropped 0.8% in October after a revised 0.1% increase in September. The LEI has dropped in four of the last six months. On a year-to-year basis, the LEI has dropped 3.5%, the largest monthly decline for the current cycle.

“The LEI has sent a reliable warning of weakening economic conditions for all recessions since 1960, with the exception of the 1967 dip (the economy was weak in this period but it was not a recession).”

Source: Asha Bangalore, Northern Trust – Daily Global Commentary, November 20, 2008.

Asha Bangalore (Northern Trust): Industrial production is significantly weak
“The headline industrial production index rose 1.3% in October, after a 3.7% drop in September. The September estimate now shows a larger drop than the original estimate of a 2.8% decline due to revised estimates of the impact of Hurricanes Gustav and Ike on the chemical industry. According to the Fed, excluding the special factors of hurricanes and Boeing strike, industrial production dropped 2/3 percent in both September and October.”

Source: Asha Bangalore, Northern Trust – Daily Global Commentary, November 17, 2008.

Asha Bangalore (Northern Trust): Decline in housing starts stress persistence of housing turmoil
“Total housing starts dropped 4.5% to an annual rate of 791,000 in October, reflecting a decline in starts of both multi-family and single-family units. These numbers along with the record low of the Housing Market Index of the National Association of Home Builders in November imply that the bottom of housing starts is not here yet.”

Source: Asha Bangalore, Northern Trust – Daily Global Commentary, November 19, 2008.

Asha Bangalore (Northern Trust): Housing market update – grim news bolsters Sheila Bair’s plan to stem the crisis
“The grim housing market news continues to support opinions that the mortgage problem is the key to a resolution of the current financial market crisis. The crux of the issue is that falling home prices, foreclosures, and rising inventories need to be replaced by more stable conditions for the economy to turnaround. The National Association of Home Builders reported in the November survey that the Housing Market Index fell to 9.0 from 14.0 in October to establish a new record.”

Source: Asha Bangalore, Northern Trust – Daily Global Commentary, November 18, 2008.

Asha Bangalore (Northern Trust): Consumer Price Index plunges
“Today the BLS reported that the Consumer Price Index (CPI) fell by 1.0% both seasonally adjusted as well as unadjusted. On an unadjusted basis, this was the largest monthly decline in the CPI since January 1938.”

Source: Asha Bangalore, Northern Trust – Daily Global Commentary, November 19, 2008.

BCA Research: Heading for deflation?
“A deflation scare will grip the developed world over the next 12 to 24 months.

“Our research on past real estate bear markets and subsequent banking sector stress (throughout Europe, the US and Japan) highlights that these episodes always lead to a recession, followed by a multi-year period of sub-par growth (i.e. negative output gap). In turn, excess supply helps dramatically drive down core CPI inflation in the years that follow. Granted, it could be argued that the previous episodes occurred during a period of strong structural disinflationary trends, thereby amplifying the magnitude and duration of the decline in price pressures.

“Nonetheless, core CPI inflation is likely to drop sharply throughout the G7 over the next 12 to 24 months, to lows at least comparable to the 2003 deflation scare. In turn, it is likely that the US prints very low positive or even mildly negative headline CPI numbers, given the drag resulting from the recent plunge in food and energy prices.

“Headline inflation is less likely to turn negative in Europe given the rigidity of the price structure but a deflation scare similar to the US earlier this decade is likely. The implication is that policymakers will continue to ease aggressively and then stay on hold for an extended period, benefiting our long duration call. “While the longer-term consequences of such actions may be inflationary, government bond yields will adjust lower in the near term.”

Source: BCA Research, November 17, 2008.

Bloomberg: Bond-market yields signal deflation worldwide
“Bonds worldwide are showing that investors are betting that slumping economic growth will lead to deflation in every major economy. Britain’s five-year breakeven rate went negative Tuesday for the first time since Bloomberg records began in 1996.”

Source: Bloomberg, November 19, 2008.

Financial Times: In a weird world, yields on Tips point to deflation
“Would you believe that we shall actually have significant deflation in the US next year? And the year after that? And flat consumer prices for the year following? That’s happened only once in a developed country since the 1930s – when Japan recorded a negative 1.6% consumer price index for 2002.

“Yet, if you believe the yields on US Treasury inflation protected bonds, or Tips, we shall have a 2.2% fall in prices in 2009, a 2.5% decline in 2010 and only flat prices in 2011. If that turns out to be true, the real interest rate burden on even the highest-rated borrowers will be extremely hard to bear.”

Source: John Dizard, Financial Times, November 18, 2008.

John Davies (WestLB): Buy German bunds
“The 10-year German Bund yield could fall to a record-equalling 3 per cent in the months to come in response to worries about the eurozone economy, believes John Davies, bond analyst at WestLB.

“‘Given the contracting economy and mounting threat of deflation, we now expect the European Central Bank to cut rates to 1.5% by the summer [from 3.25% now], which is lower than the market expects,’ he says.

“Mr Davies notes that the rapid steepening of the spread between two-year and 10-year German yields, which started in September, has slowed as the market moves to price in rates of 2% by the spring.

“But he says: ‘Given our forecast of a more aggressive ECB rate cut cycle, we fully expect the curve-steepening trend to remain safely intact.’

“While the steepening will primarily be driven by moves at the short end of the curve, long-end yields will fall as recession fears overshadow a jump in new issuance, Mr Davies says.

“‘We expect the 10-year yield to fall from 3.6% to 3.25% within the next three-to-six months, and even test the 3% record low set in September 2005. It is only the rise in supply next year that stops us projecting a sub-3% yield.’”

Source: John Davies, WestLB (via Financial Times), November 18, 2008.

Bloomberg: China passes Japan as biggest US Treasuries holder
“China surpassed Japan in September to become the biggest foreign holder of US Treasuries, as foreign investors sought the relative safety of government debt as stocks plunged 9.1% that month.

“Total net purchases of long-term equities, notes and bonds increased a net $66.2 billion in September from $21 billion the previous month, the Treasury said today in Washington. Including short-term securities such as stock swaps, foreigners bought a net $143.4 billion, compared with net buying of $21.4 billion the month before.

“China led all foreign official investors in September by posting a net increase in US Treasuries for the sixth month in the past seven, bringing its total ownership close to $600 billion. Japan was a net seller of Treasuries for the fourth month in the past six.

“‘The details of the report paint a much more positive picture of cross-border investments than expected,’ said Michael Woolfolk, a senior currency strategist at Bank of New York Mellon Corp. ‘China, along with others, is showing more demand than anticipated for US assets.’”

Source: John Brinsley and Rebecca Christie, Bloomberg, November 18, 2008.

Bespoke: High yield spreads – no slowdown in sight
“If you’re looking for signs of stabilization in the credit markets, the high yield market is not a good place to start. Based on data from Merrill Lynch, high yield bonds are yielding nearly 1,800 basis points more than comparable Treasuries. In the last month alone, spreads have risen by more than 200 basis points, and since bottoming in the Summer of 2007 at 241 basis points, they are up 645%. To put this in perspective, with the 10-year US Treasury now yielding 3.4%, a high-yield borrower would need to pay roughly 21.4% per year to take out a ten-year loan. With terms like these, who needs loan sharks?”

Source: Bespoke, November 19, 2008.

Bespoke: Financial weapons of mass destruction aimed at Omaha
“Warren Buffett is credited with coining the phrase ‘financial weapons of mass destruction’ with respect to derivatives. However, after some big unrealized losses on index options that Berkshire has written in the last couple of years, it now appears as though the derivative market is taking aim at Omaha. Over the last eight days, the cost to insure debt of Berkshire Hathaway has risen to 475 basis points per year. To put this into perspective, Morgan Stanley’s credit default swaps are currently trading at 456 basis points, and that is the highest of the big global banks and brokers. Berkshire Hathaway has long been considered one of the safest of the safest financial companies, but if Black October 2008 has taught us anything, it’s that nothing is safe.”

Source: Bespoke, November 20, 2008.

Bespoke: S&P 500 200-day moving average spread at -32%
“Multiple market pundits have recently mentioned that the S&P 500 is trading the furthest below its 200-day moving average since the Great Depression. Below we have plotted the 200-day spread indicator going back to 1927. The index is currently trading 32% below its 200-day moving average, which is indeed the most negative spread since 1937. While the spread can remain negative for quite some time, the reaction to the upside has been extreme once the market turns. In the 1930s, and even following the big declines in the 70s, 80s, and early 2000s, the spread turned violently positive in the months following the ultimate low in the 200-day spread. Unfortunately, nobody knows when that low will be.”

Source: Bespoke, November 17, 2008.

Barron’s: Reversal of fortunes between stocks and bonds
“… the dividend yield on the Standard & Poor’s 500 stock index touched 3.57% at 1:13 PM Eastern time [on Tuesday], exceeding the 3.54% yield on the benchmark Treasury 10-year note, according to Bloomberg News. That’s something that hadn’t happened since 1958.

“I was aware that there was a time when equities provided more income than bonds, but that belonged to a long-gone era. That was a time I knew of only from old movies, yellowed newspaper clippings and stacks of old Life magazines. It was when gentlemen wore suits and fedoras, not just to work but even to the ballpark; when the Dodgers played in Brooklyn; a bygone era already a half century ago.

“To contemporary market observers, it’s more than nostalgia. For the S&P 500 to yield more than Treasuries suggests the market is very cheap by historical standards, says Jack Ablin, portfolio strategist for Harris Private Bank. ‘Dividend yield, like price-to-sales, is one of those persistent metrics. We can all quibble about earnings, but dividends, particularly those of the entire S&P 500, are remarkably consistent,’ he adds.

“‘You can fake earnings through account hanky-panky, but you cannot fake dividends,’ agrees Barry Ritholtz, chief executive of Fusion IQ. So after a 47% drop, stocks look relatively cheap for the first time in a long time, he adds.

“Scott Minerd, chief investment officer for Guggenheim Partners, calls the drop in Treasury yields below the S&P 500 dividend yield a ‘straw in the wind’ that the stock market may be bottoming. Still, he thinks the market is signaling that dividend cuts are in the offing, but this recessionary trend also will push Treasury yields still lower.”

Click here for the full article.

Source: Barron’s, November 19, 2008.

John Authers (Financial Times): US stocks fall on deflation fears

Click here for the article.

Source: John Authers, Financial Times, November 19, 2008.

Frank Holmes (US Global Investors): An emotionally impaired market
“Global equities are now trading on their lowest valuations since the early 1980s. History says we should expect stock prices to turn up before earnings do. A recovery in earnings, when it happens, has previously been a robust second leg for more significant price appreciation. The second leg will take place when the earnings recession ends and profits begin to recover. Investment research based on historical patterns by Citigroup suggests the second leg is about 12 months away. With this in mind, we’re nibbling on stocks we believe are undervalued based on fundamental screens and have been hit the hardest as candidates for price appreciation.

“Weak earnings and expectations of more bad news to come have weighed heavily on stock prices. The global equity market trades on 10 times trailing earnings and over 15 times expected trough earnings. The 40-year average global price-to-earnings ratio is 17 times. Citigroup’s research demonstrates that the global equity market is extremely undervalued, but valuations could continue to fall through year end.

“We believe the market and economy are now being emotionally impaired due to the cascading negative news by unbalanced media. Today [Friday] is the first day this week without negative grandstanding politicians on TV and the market was up. Stocks are so oversold and markets, as we have commented in the past, are due for a substantial rally. We believe the market is looking for certainty that President-elect Obama and his team are not going to raise taxes in this economic environment. If the new administration reverses course and denounces tax hikes for two years and proposes a budget to rebuild our infrastructure, then this week could have been the bottom for the market.”

Click here for article by Robert Buckland, Citigroup’s Chief Global Equity Strategist.

Source: Frank Holmes, US Global Investors – Weekly Investor Alert, November 21, 2008.

Bespoke: Trailing 12-month P/E ratios are low
“The S&P 500 Financial, Consumer Discretionary, and Telecom sectors currently have negative P/E ratios, which makes the overall index’s P/E high at 18.41. Sectors whose P/Es aren’t negative have very low trailing P/Es versus historical readings. The Energy sector currently has the lowest P/E at 6.55. The second lowest is Materials at 9.14, followed closely by Industrials at 9.44. And the Technology sector, which usually has a relatively high P/E, currently has a P/E of just 12.49.”

Source: Bespoke, November 17, 2008.

Bloomberg: Mobius says he’s buying China, India, South Africa
“Mark Mobius said he’s ‘aggressively’ buying consumer stocks, including cell-phone companies, retailers, banks and furniture makers, as faster economic growth in China, India, South Africa and Turkey offsets sagging demand from developed nations.

“‘We see a consumer boom in all of those countries,’ Mobius, who oversaw more than $24 billion in emerging-market stocks on September 30 as executive chairman at Templeton Asset Management, said in a Bloomberg Television interview from Johannesburg. ‘Per-capita income is growing at a very rapid pace in these countries.’

“China announced a $586 billion stimulus plan on November 9 after its gross domestic product grew 9% in the third quarter, the slowest pace in five years. India’s central bank estimates growth will slow to 7.5% this year and next, from an annual average of 8.9% in the past four years. Emerging markets will expand at an average of 5% in 2009, compared with 1% in developed countries, Mobius forecast on October 21.

“The global economic downturn may not be as long or severe as expected because of the coordinated fiscal and monetary stimulus put forth by policy makers worldwide, the 72-year-old investor said today.

“The slowdown ‘will be rather short-lived and, of course, the markets will anticipate this’, Singapore-based Mobius said. ‘There will be some deceleration, but these are still fast- growing countries.’”

Source: Fabio Alves and Monica Bertran, Bloomberg, November 17, 2008.

David Powell (Bank of America): Is the dollar’s recent rally coming to an end?
“David Powell, currency strategist at Bank of America, believes the dollar has lost several important sources of support.

“The global shortage of dollar liquidity – one of the primary reasons for the US currency’s strength as the financial crisis escalated in September – has been sharply reduced by the extraordinary measures introduced by central banks to ease money market stress, he says.

“Furthermore, the repatriation of the dollar, which prevented its retracement as tensions in the wholesale funding markets were reduced, may no longer provide the currency with much support moving forward. Private sector flow data indicate the repatriation of foreign investments to the US is slowing sharply, Mr Powell says.

“‘A third factor behind the resilience of the dollar seems to have been the steady return offered by longer-dated US Treasuries, when compared with the sharp drop in German Bund yields. However, the fall in the euro against the dollar appears excessive even when compared to drop in the 10-year Bund-Treasury yield spread.

“‘In addition, a dollar retracement is likely to gain momentum from the pattern of seasonal weakness normally seen in December. As such, we affirm our year-end euro/dollar forecast of $1.38 and outlook for a return to $1.44 by the first quarter of 2009 before the pair resumes a more gradual sell-off.’”

Source: David Powell, Bank of America (via Financial Times), November 19, 2008.

Financial Times: Jim Rogers – the dollar is a flawed currency
The following is an excerpt from an online interview with Jim Rogers.

“FT: It’s a year since we last interviewed you. You were aggressively bearish about the dollar, but you thought there would probably be a rebound and you would take that as an opportunity to further get out of the dollar. Have you made a further exit from the dollar?

“JR: Not yet, no. And the reason I haven’t is because we’re in a period of forced liquidation of everything. We’ve only had eight or nine periods like this in the past 150 years, where everybody has to reverse their positions on everything. There is a gigantic short position in the dollar and they’re all having to cover as they reverse their positions, so this rout is going to go on much further than I would have expected, to my delight, because then I’ll get to sell at higher prices. I don’t know whether I’ll get out this month or this year even, maybe next year, but I do plan to get out of the rest of my US dollars, because this is an artificial rally caused purely by short covering.

“FT: How will you tell when that deleveraging is finally over?

“JR: I’m sure I won’t get it right, but I do hope that when there’s a lot of euphoria about the dollar and everybody’s saying, well, see, there’s no problem with the dollar … I hope I’m smart enough to recognise it and finally get out of the dollar, because it is a flawed and maybe, even, doomed currency.

“FT: Do you see the sell-offs we’ve seen in commodities as a drastic correction?

“JR: Well, we’re in a period of forced liquidation of all assets … we’re getting the business cycle effect on demand right now, certainly, but unless the world’s in perpetual economic decline, commodities are the only thing going to come out of this okay.

“FT: Does this mean you’re actually buying back into commodities at the moment, or is this an area you’re standing clear of?

“JR: No, no. In October when I started covering my shorts in the US stock market, I started buying Chinese shares, Taiwan shares, I started buying commodities again. No, no, I’ve added to those positions.

“FT: What’s your strategy towards emerging market stocks?

“JR: My hope is that I’m smart enough and brave enough at some point along the line to buy some of them back. But I’m not even thinking about it right now … The world’s financial situation is in a mess, and there are a lot of people who have to liquidate. I mean, we must have had 30,000 MBAs flying around the world looking for emerging markets. All of that money has got to come home.

“FT: How do you think the world should go about redesigning the regulatory system, and are you worried that we’re going to end up with a swing towards over-regulation?

“JR: Well, we probably will, The problem is that people like Alan Greenspan would never let the market work … For 15 years, under Greenspan, and now Bernanke, they would not let the market work. Had they let Long-Term Capital Management fail back in 1998, we wouldn’t have these problems now, I assure you. Lehman Brothers would have been smashed. Goldman Sachs, Bear Stearns, would have been smashed. We wouldn’t have these problems now. That only happened because every time they turned around they propped these guys up, gave them more money, and that’s why we have the problem … But now, of course, they’re going to blame it on other people and cause more regulations.

“FT: You’re arguing we need to allow some more big institutions to fail?

“JR: One failed. Why didn’t they let Fannie Mae and Freddie Mac? I mean, I was short Fannie Mae, and they should have let it fail, go to zero. AIG, they should have let it fail, they should have let all of these guys fail, and we would clean out the system … What they’re doing is they’re taking the assets away from the competent people, giving them to the incompetent people and saying to the incompetent: ‘Okay, now you can compete with the competent people, with their money.’ I mean this is terrible economics. This is outrageous economics.”

Source: Jim Rogers, Financial Times, November 17, 2008.

Bloomberg: China should buy gold for reserves, Association says
“China, the second-biggest overseas holder of US Treasuries, should increase its bullion holding to diversify its reserves because the dollar may decline, the country’s gold association said.

“‘China should have at least several thousand tons of gold in its reserves, five to six times the officially announced 600 tons,’ Hou Huimin, vice chairman of the China Gold Association said from Beijing. The group represents producers, traders and retailers.

“The US budget deficit climbed to a record in October, and some investors are betting the dollar may weaken as the Treasury would need to sell more debt to finance its $700 billion financial-rescue package. Gold has tumbled 29% from its March record.

“‘There’s no doubt that gold would be attractive, as US debt is likely to swell,’ said Kenichiro Ikezawa, who oversees about $3 billion as a fund manager at Daiwa SB Investments in Tokyo. ‘In the long term, both the dollar and Treasuries will probably weaken. It’s possible that China will buy more gold, though the country is likely to do so gradually.’”

Source: Xiao Yu and Ron Harui, Bloomberg, November 14, 2008.

Reuters: Iran switches reserves to gold
“Iran has converted financial reserves into gold to avoid future problems, an adviser to President Mahmoud Ahmadinejad said in comments published on Saturday, after the price of oil fell more than 60% from a peak in July.

“Iran, the world’s fourth-largest oil producer, is under UN and US sanctions over its disputed nuclear programme and is now also facing declining revenue from its oil exports after crude prices tumbled.

“‘With the plans of the presidency … the country’s money reserves were changed into gold so that we wouldn’t be faced with many problems in the future,’ presidential adviser Mojtaba Samareh-Hashemi was quoted as saying by business daily Poul.

“Iranian officials in July denied reports that Iranian banks were moving funds from Europe, with one report suggesting as much as $75 billion had been withdrawn and converted into gold or placed in Asian banks, because of a threat of tightening sanctions.”

Source: Zahra Hosseinian, Reuters, November 15, 2008.

The New York Post: Global run on gold coins
“There’s a worldwide run on gold coins. Even as the price of the precious metal itself comes under pressure along with commodities like oil and copper, people around the world are demanding so many of the valuable coins that government mints are having difficulty filling orders.

“A spokesperson for the US Mint tells me that gold coins in this country, for the past month, ‘are being allocated because of an increased demand’.

“And the price that the government charges coin dealers has recently been increased by as much as 10% for a 10-ounce coin.

“And even when gold coins are available, dealers report that customers are paying a bigger premium than they would have just a few months ago.

“In one sense, the attraction for gold coins isn’t surprising. Since ancient times, gold has been considered the safest investment to hold in times of uncertainty.

“With fears of future inflation rising and concern about the value of paper currency and government-debt increasing with each new recovery plan announced in Washington and in foreign capitals, the desire to hold gold grows.

“That part makes perfect sense. But there’s another more puzzling aspect to the recent gold rush. Even as the demand for gold coins such as the Canadian Maple Leaf or the Krugerrand of South Africa has grown, the market price of the precious metal itself is off its highs.

“Bill Murphy, chairman of the Gold Anti-Trust Action Committee, says the price of spot gold is even more perplexing given the demand for coins and the fact that central banks in Europe have stopped selling gold into the open market.

“‘Gold should be moving up,’ Murphy says. ‘How could there be such a dichotomy between the historic high premium for coins all over the world and the low Comex price?’

“His answer? ‘Today the public is buying gold like crazy, but the US government and the banks that hold bullion are intentionally keeping the price down.’”

Source: John Crudele, New York Post, November 18, 2008.

James Pressler (Northern Trust): Japan enters first recession in 7 years
“Today’s indicators out of Japan confirmed what we had expected – that Japan is in recession, though the consensus believed there were enough one-offs to growth to keep the headline figure on the positive side of zero. Real GDP contracted by 0.1% from the previous quarter after a sharper fall of 0.9% in Q2 (originally -0.7%), with Q3 consumption rising by 0.3% after a fall of 0.6%. True, there were factors that perked up private consumption, but they were not enough to overcome a weak net exports figure that will only get worse in the coming quarters.”

Source: James Pressler, Northern Trust – Daily Global Commentary, November 17, 2008.

YouTube: Bloomberg Voices – Japan enters recession

Source: YouTube, November 17, 2008.

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Interview: Nick Barisheff, Bullion Management Group Inc.

Tuesday, June 17th, 2008

Exclusive Interview
Nick Barisheff,
President and CEO,
Bullion Management Group Inc.

 

This week we interview Mr. Nick Barisheff, President & CEO, Bullion Management Group, and discuss with him the importance of gold bullion. Mr. Barisheff founded Bullion Management Group Inc. in 1997, and is the portfolio manager of BMG BullionFund, Canada’s only open-ended fund investing purely in gold, silver, and platinum bullion.

For a PDF version, click here:[PDF] Interview with Nick Barisheff, BMG Inc.  Here is the interview: 

GreenLightAdvisor.com: What’s the most important thing people need to understand about gold?
 
Nick Barisheff: Many people think gold is a commodity like copper, zinc or pork bellies, but it has 3,000 years of history as money. It was money that no government created by edict.  It was just adopted for usage by itself, and it was and still is the best form of money.  Currently, we have a 37-year global experiment in paper money.  All prior paper money experiments ended in hyperinflation, with the currencies becoming worthless.  All previous hyperinflations were contained within a single country, but this time, because of the reserve status of the US dollar, it is likely to be global in nature.

Right now, the price of gold is rising while most currencies are losing purchasing power as well as their value against gold.  Gold comes back into its monetary role when there’s a loss of confidence in the financial system or in paper money, and that’s when people are attracted to it.
Before 1971, the monetary system was governed by the Bretton Woods Agreement. Under that agreement, the US dollar was backed by gold, and other currencies were pegged to the dollar.  Other countries could trade their US dollars for gold.  Essentially, US gold indirectly backed all other currencies. Then things changed.  As the US was getting into the Vietnam War and into President Johnson’s policy of guns and butter, US gold reserves started declining.  Countries holding dollars were presenting their US dollars and asking for gold in return, and that led to US gold reserves dropping from a peak of 22,000 tonnes to 8,800 tonnes. On August 15, 1971, President Nixon “closed the gold window” and stopped the exchange of US dollars for gold.  Closing the gold window was a euphemism, but basically the US declared bankruptcy. When you can’t meet your obligations when they are due, that’s what it is. So from that point in time, we’ve had 37 years where the entire world has been on a global fiat currency monetary system.

Since 1971, when the dollar was freed from the constraints imposed on a currency backed by gold, the US has experienced increasing federal government and current account deficits.  The US is now borrowing $800 billion annually to fund its consumption of foreign-made goods and commodities, and the federal government is running a deficit of almost $350 billion.  At some point, foreigners will become unwilling to continue funding US expenditures, forcing the Federal Reserve to expand the money supply at a faster pace.  This will result in rising inflation, rising interest rates and a continuous decline in the US dollar.
 
GLA: We’ve had the fastest money supply growth in almost 40 years that’s resulting in increased inflation. Why would an investor want to go into T-bills, given that interest rates don’t even cover half of the stated inflation rate, which we know isn’t even the real inflation rate?
 
NB: For the first time in history, we have an unlimited ability, by all central banks, to print,  however much money we want, so to speak.  Apart from the US M3 money supply growing at about 20%, we also have India and China growing theirs at about the same rate. China is at 18%, India is at 20%, and Russia is at 45%. As China or India sell goods to the US, they take in US dollars and they print yuan or rupees against those US dollars.  Japan’s a little different; there, individuals and corporations can take their US dollars and buy US assets themselves. In China you have to turn your US dollars in to the central bank.

In today’s inflationary environment, many who invest in fixed income investment do not appreciate that instead of being “safe” investments, they are in fact guaranteed losses of purchasing power when you take inflation and taxation into account.  We have done some analysis into a systematic withdrawal from our Fund for those investors requiring income.  Based on the fact that precious metals have a long track record of staying ahead of inflation, an investor would be far better off in precious metals in terms of maintaining principal after inflation and having more after-tax cash flow to spend.
 
GLA: What did you think of John Embry’s (Sprott Asset Management) recent article about the manipulation of the price of gold? His assertion was that the central banks are deliberately keeping gold below $1,000 per ounce.
 
NB: John and Eric Sprott have recently written an extensive report called Not Free, Not Fair.  The report brings forth a great deal of evidence that the precious metals markets may be manipulated.  While it may seem like there’s a conspiracy to suppress the gold price, I think it’s simpler than that.  It’s a well know fact that it is the job of central banks to manage their country’s currency, that’s part of their mandate.  Central banks understand that gold is a currency, but one that they can’t expand as easily as paper money.  I don’t think there is any lack of understanding on the part of central bankers that gold is an alternative currency.
 
GLA: Isn’t gold considered to be just a commodity with no real monetary role anymore?
 
NB:  I’d like to refer to an article by Tony Fell , and it’s particularly interesting, given that he was chairman of RBC Capital Markets at the time of writing. He talks about how gold has three attributes: it’s a commodity, a store of value and a currency. He says so many people now think of gold only as a commodity or jewellery, or as an archaic relic, that there’s a feeling of “who needs it anymore?”  People don’t think of it as money.
 
However, the daily sales volume gives a conclusive indicator that gold is much more than an industrial commodity. The physical turnover of gold by members of the UK’s London Bullion Marketing Association is about *$25 billion per day. We’re talking about net turnover between the LBMA members. The volume is estimated at 7-10 times that amount. 
 
It’s pretty clear that these are currency transactions. That’s why gold, silver and platinum trade on the currency desks of all the banks and brokerages, not the commodity desks.
What people need to know is that gold is a currency [like dollars or euros or yen]. Gold is not trading at these volumes as a commodity or as some archaic relic.
 
GLA: What are your thoughts on technical analysis, given that gold is a currency?
 
NB: Technical analysis works if you’re looking at widely distributed stocks like the S&P 500, for example, where there are many, many transactions that accurately reflect public sentiment. The price of gold, however, can be impacted by one country, or one very wealthy individual who wakes up one morning and decides to buy, and then you can throw the charts away. Or when a government decides to sell or a government intervenes. I’ve looked at technical analysis for gold in the past and tried to back-test with various techniques and found that they don’t work more often than they do.  In the most recent case, there is no justification for the drop in gold price; it should have been rising because nothing has fundamentally changed. In fact, the fundamentals got worse and the gold price should have rallied.  None of the problems went away; nothing was solved; the conditions are as bad as or worse than they were previously. So the drop in gold’s price has been a false decline.
 
GLA: So, it’s the value of paper currency that changes, not the value of gold [so to speak]?
 
NB:  One of the attributes of gold as money is that you can’t simply create it at will, like paper money. It’s no one else’s promise of performance and it’s not someone else’s liability. It’s not going to zero, no matter what.  And, whether we’re moving the measuring stick of inflation or deflation really doesn’t matter, because the way gold should be measured is in terms of purchasing power.  It doesn’t matter if gold is priced at $1,000 in paper money per ounce or $2 in paper money per ounce, it will retain its purchasing power in either circumstance.
 
The first important step in the big picture of understanding gold is that it is a store of wealth with a 3,000 year history, and it’s money. Over the long term, it retains its purchasing power. That’s why they say that an ounce of gold will always buy a man’s suit.
 
Apart from that, the US dollar is down 85% in purchasing power since 1971. In 1971 you could buy a car with 100 ounces of gold; a car was about $3,500 and gold was $35 an ounce.  With 1,000 ounces, or about $35,000, you could buy a house. Today, you could buy several cars or a luxury car with 100 ounces, and a mansion with 1,000 ounces.  You could also buy more units of the Dow Jones Industrial Average with your ounce today than you could in 1971. So that ounce has preserved its purchasing power while currencies have lost over 80% of their value.
 
GLA: Apparently, in the last 40 or 50 years, there’s only been three years that there was net selling by gold investors, three years out of almost half a century. Is this true?
 
NB: People who hold bullion tend to hold it for a long time, as the core of their entire wealth.  It’s not sold once you understand its basic characteristics, because you have to have a reason to sell it, you have to use it to buy something better.  I tend to look at investment performance as to whether I end up with more gold ounces or less gold ounces rather than percentage returns; you get a different conclusion then. For example, if you had invested 44 ounces in the Dow in 2000, you would now get back only 14 ounces.
 
This current cycle is not a conventional bull market in precious metals; I think we’re in the midst of a change in the global monetary system. This is not going to be like a typical commodity cycle where we go up for four years and down for four years; I think we’re witnessing a transition into another monetary system, whatever form that may take. At the end of this period the US dollar will no longer be the world’s reserve currency.
 
GLA: What happens if the US dollar ceases to be the standard?
 
NB: What happened when the British pound ceased to be the standard?  It just ceased to be the standard.  Its decline in value is still ongoing.  It’s happened to every empire throughout history: the British, the Roman, the Greek, the Spanish, the Persian, and the Chinese. Every single empire ended up debasing their currency in order to maintain the empire.
 
GLA:  Is gold likely to increase further going forward or has it topped and investors have missed out?
 
Currently, we have a lot of noise in terms of the credit contraction, real estate bubble, record high debt at all levels, dangerous derivatives vulnerabilities and unsustainable US current account and trade deficits.  These could still blow up into bigger problems at any time. However let’s hope they get resolved or at the very least postponed somehow.
 
But there are two factors that are not changeable in all of this.
 
First: The US has to print money on an accelerating basis. Has to – because of the underfunded Social Security and Medicare obligations – which at present are about $60 trillion. If you took all of the net earnings of US individuals and companies it would not be enough to pay that off. You can’t tax people enough and politically you cannot tell everybody, “Sorry, we can’t give you your Social Security – we don’t have the money. And no Medicare either.” So they have to keep printing money.
 
Second: The issue of Peak Oil – it used to be a debate as to when the production of oil would peak. Now it looks like that has already happened, in March 2006.  As a result we have a situation where oil production is declining while demand is increasing, particularly from India and China.  This will result in ever-increasing oil prices, and also increasing prices for almost every product and service.
 
As these two forces – increased money printing and peak oil – interact, the result is a declining dollar alongside constantly increasing oil prices.  This leads to even greater oil price increases in an effort to offset the dollar decline.  These two highly inflationary factors are working in tandem, and they can’t be changed.
 
Therefore, as oil rises and the dollar declines, commodities – and particularly precious metals – will continue to rise.
 
GLA: What’s the relationship between oil and gold?
 
NB: There’s not necessarily a great deal of correlation between the two in the short term. However, in the longer term, the correlation has been in the order of about 16 barrels of oil for every ounce of gold.
 
GLA: Has that been consistent long term and what is the outlook for precious metals?
 
NB: With only short-term fluctuations, this ratio has held up over the long term. At this point the price of gold is undervalued compared to the price of oil. Gold should be closer to $1,500 an ounce if you use this measure.
 
On top of this kind of inflationary issue eroding financial confidence, we’re at peak production in gold. When the price of gold was low, miners employed high-grading to get the most easily attainable gold out of the ground. As the price rises, miners resort to lower-grade mining, which has become worthwhile – but in some cases you have to sift through tonnes of ore for each ounce.
Platinum, for instance; it takes six months to get an ounce of platinum out of roughly 10,000 tonnes of ore. Right now, almost all the platinum produced originates in South Africa, and the mines are miles underground, and electricity intensive. Power shortages in South Africa are interfering with production and slowing things down. All these forces are coming together, slowing production and driving up prices.
With silver, most of the aboveground reserves have been depleted – most of the silver that is produced is consumed each and every year. Silver also has two demand drivers – monetary and industrial. The number of industrial applications are growing every year while the monetary demand has also been growing in the past few years. It is important to remember that “silver” means “money” in several languages.
 
GLA: Why is gold so important as an element of diversification for investors?
 
NB: Take a look at the cycle from 1968 to 1982 – during that time it took stocks the whole 14 years to break even.  If you factor inflation into it, it actually took until 1995. So stocks didn’t look so good in the past cycle, and they are not looking very good now. The DJIA is well below its inflation-adjusted highs. Its performance is much worse when measured in gold ounces. The DJIA has declined from a high of 44 ounces of gold in 2000 to about 14 today, but if you look at a chart the Dow appears to be at new highs.  It’s like taking the Zimbabwe stock market and saying, “Look how well Zimbabwean stocks have done; the market was up 8,000%.”  But what if we adjust for the 100,000% inflation in that country? Not so good, is it?
 
BMG BullionFund is internally diversified.  We buy physical gold, platinum, and silver in equal amounts. While some people like to focus on gold, they would miss out on the fact that silver and platinum have both outperformed gold since the beginning of this cycle in 2002.
 
GLA: What do you do about inflation?
 
NB: First, it is important to look at real inflation. What is real inflation? The real number is around 9%, not 3%. The calculations the government uses for the Consumer Price Index (CPI) are really meaningless as a true inflation indicator. The real definition of inflation is an increase in the money supply that leads to an increase in prices. Prices do not increase on their own unless you have a shortage; when you increase the money supply, what you’re really doing is debasing the currency, and as the purchasing power of the currency declines prices appear to be rising. So with the US money supply (M3) growing at 20%, Canada’s growing at 9%, and most other countries’ growing at around 15%, that’s going to result in rising prices and real inflation.
 
If you take real inflation into account, Wainwright Economics suggests that the appropriate bullion allocation for a bond investor’s portfolio is 18%, and for the equity investor’s portfolio 40%, and that’s just to break even with inflation. Although this may sound incredible, think of the 1970s. How much bullion was required just to break even in an equity portfolio?  Bullion went up 2,300%, while equities were flat on a nominal basis. Inflation was 15%.
 
So without even getting wrapped up in a discussion about the complex subject of money, those two points are fairly straightforward. Ibbotson Associates confirmed that precious metals are the most negatively correlated asset class to the traditional financial assets, so it gives the biggest bang for the buck for the least amount of allocation. In the process you also achieve a more balanced, diversified portfolio. Advisors would do well to have an allocation to precious metals to protect their clients from under-diversification.
 
GLA: Do you think this pullback in gold is an opportunity to add to positions at this time?
 
NB: Yes as long as there hasn’t been a major change in the fundamentals that drive the price. When these pullbacks occur, you always get some technical interpretations, whether it’s conventional technical analysis or Elliot Wave, coming out with the idea that the bull market in precious metals is over and that it’s now going down forever and so on.
 
When these things happen, you have to ask if anything changed fundamentally to justify that decline.  If nothing changed fundamentally, the only conclusion you can draw is that something’s wrong in the technical interpretations.  In all likelihood the technical interpretation is wrong because there’s been an intervention by monetary authorities. Technical analysis only works when the markets are working freely.
 
GLA: Well, whatever it is they’re trying to do to knock the price down, once again, he who wins in the end is he who has the most ounces and the most shares. It’s got to have been a good year for you with gold prices up 10%, silver up close to 19% and platinum prices over 30%.
 
NB: Yes, it has. We have grown assets year-over-year by 80% this year alone, so it’s been a substantial increase, and performance-wise, we’re about 20% year-to-date.
 
GLA: Thank you very much for sharing your knowledge with us.
 
*All amounts expressed in US dollars, unless otherwise noted.
For a PDF version, click here: [PDF] Interview with Nick Barisheff, BMG Inc. 
  

 

 

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Hard numbers: The economy is worse than you know

Wednesday, April 30th, 2008

April 30, 2008 – Kevin Phillips, author of Bad Money: Reckless Finance, Failed Politics and the Global Crisis of American Capitalism, published a recent article in Harper’s Magazine, about the way in which economic statistics have been massaged over many years by many White House administrations, one after the other, in order the mask the true nature of the US economy over the years. Here are some excerpts from this excellent article:

Ever since the 1960s, Washington has gulled its citizens and creditors by debasing official statistics, the vital instruments with which the vigor and muscle of the American economy are measured. The effect has been to create a false sense of economic achievement and rectitude, allowing us to maintain artificially low interest rates, massive government borrowing, and a dangerous reliance on mortgage and financial debt even as real economic growth has been slower than claimed.

The story starts after the inauguration of John F. Kennedy in 1961, when high jobless numbers marred the image of Camelot-on-the-Potomac and the new administration appointed a committee to weigh changes. The result, implemented a few years later, was that out-of-work Americans who had stopped looking for jobs — even if this was because none could be found — were labeled “discouraged workers” and excluded from the ranks of the unemployed, where many, if not most, of them had been previously classified. By the 1969 fiscal year, Lyndon Johnson orchestrated a “unified budget” that combined Social Security with the rest of the federal outlays. This innovation allowed the surplus receipts in the former to mask the emerging deficit in the latter.

Richard Nixon, besides continuing the unified budget, developed his own taste for statistical improvement. He asked his second Federal Reserve chairman, Arthur Burns, to develop what became an ultimately famous division between “core” inflation and headline inflation. If the Consumer Price Index was calculated by tracking a bundle of prices, so-called core inflation would simply exclude, because of “volatility,” categories that happened to be troublesome: at that time, food and energy. 

Core inflation could be spotlighted when the headline number was embarrassing, as it was in 1973 and 1974. (The economic commentator Barry Ritholtz has joked that core inflation is better called “inflation ex-inflation” — i.e., inflation after the inflation has been excluded.)

In 1983, under the Reagan administration, inflation was further finagled when the Bureau of Labor Statistics (BLS) decided that housing, too, was overstating the Consumer Price Index; the BLS substituted an entirely different “Owner Equivalent Rent” measurement, based on what a homeowner might get for renting his or her house. This methodology, controversial at the time but still in place today, simply sidestepped what was happening in the real world of homeowner costs.

In addition to Phillips’ assertions here, The US Government stopped publishing money supply statistics, specifically M3, so that we would no longer be able to track the amount printed money that gets added to the country’s money supply every year since. Hmmm…?

Read this complete article here: Hard Numbers: The Economy is Worse Than You Know, Harpers Magazine, courtesy of TampaBay.com, April 25, 2008.

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