(ignore the bit with the President at the end, it's obviously a joke and out of context)
Monday, September 29, 2008
videos: Peter Schiff and Ron Paul
voltron says: for your viewing pleasure.
(ignore the bit with the President at the end, it's obviously a joke and out of context)
(ignore the bit with the President at the end, it's obviously a joke and out of context)
Sunday, September 28, 2008
NYT: Citigroup and Wells Fargo Said to Be Bidding for Wachovia
Voltron says: It seems to be another shotgun marriage.
http://www.nytimes.com/2008/09/29/business/29bank.html
http://www.nytimes.com/2008/09/29/business/29bank.html
No change
Voltron says: Everything is unfolding according to my forecast. The government is nationalizing the banking system. The Democrats are demanding dilutive senior equity in "some" of the bailed out companies that would wipe out the shareholders (by "some" they mean all except Goldman Sachs). Many bond investors are upset about the FDIC's rough handling of WaMu, saying that they were unfairly wiped out. This has been termed "reverse moral hazard" because the government is capriciously wiping out good investments. Shareholders of AIG feel the same way . . . in fact the New York Times claims that the bailout of AIG was actually a bailout of Goldman Sachs.
The government is doubling down. One blogger claimed that the $700 billion dollar bailout will actually be used to recapitalize the Federal Reserve Bank which has already swapped 3/4 of it's $900 billion balance sheet for junk mortgages. The proponents of the plan claim that "it won't cost the taxpayer anything". Continued refusal to accept any economic pain leaves them no alternative than doubling down.
Peter Schiff said on his radio show that the government's ill conceived, hasty and unlimited guarantee of $3 trillion in money market accounts may have the largest unintended consequences of all. If all money markets a guaranteed by the government, then people will funnel money to the banks offering the most interest, regardless of the safety of the investments. More moral hazard.
Finally, I think the euphoric upward movements in the stock market are either manipulation or simply "buy the rumor, sell the news" When people figure out that this bailout is merely a band-aid on a arterial wound, look out below.
The government is doubling down. One blogger claimed that the $700 billion dollar bailout will actually be used to recapitalize the Federal Reserve Bank which has already swapped 3/4 of it's $900 billion balance sheet for junk mortgages. The proponents of the plan claim that "it won't cost the taxpayer anything". Continued refusal to accept any economic pain leaves them no alternative than doubling down.
Peter Schiff said on his radio show that the government's ill conceived, hasty and unlimited guarantee of $3 trillion in money market accounts may have the largest unintended consequences of all. If all money markets a guaranteed by the government, then people will funnel money to the banks offering the most interest, regardless of the safety of the investments. More moral hazard.
Finally, I think the euphoric upward movements in the stock market are either manipulation or simply "buy the rumor, sell the news" When people figure out that this bailout is merely a band-aid on a arterial wound, look out below.
Thursday, September 25, 2008
China may pull the plug
Voltron says: Here's how the global economy worked for the last 20 years. China sends us poison baby formula and lead toys. We send China dollars. China uses the dollars to buy fraudulent mortgages and treasurys. For some reason, this might not be sustainable.
From bloomberg:
Japan, China and other holders of U.S. government debt must quickly reach an agreement to prevent panic sales leading to a global financial collapse, said Yu Yongding....
``We are in the same boat, we must cooperate,'' Yu said in an interview in Beijing on Sept. 23. ``If there's no selling in a panicked way, then China willingly can continue to provide our financial support by continuing to hold U.S. assets.''
An agreement is needed so that no nation rushes to sell, ``causing a collapse,'' Yu said. Japan is the biggest owner of U.S. Treasury bills, holding $593 billion, and China is second with $519 billion. Asian countries together hold half of the $2.67 trillion total held by foreign nations....
``Whether some kind of agreement between them to continue to hold Treasury bills is viable, I'm not sure,'' said James McCormack, head of sovereign ratings at Fitch Ratings Ltd in Hong Kong. ``It would be unusual. If it became apparent that sovereigns in Asia were selling Treasuries the market would take that quite badly, it's something to be avoided.''...
China's huge holdings of U.S. debt means it must bear a large proportion of the ``burden of sorting things out'' in the U.S., Yu said. China is not in a hurry to dump its U.S. holdings and communication between the two nations every ``couple of days'' is keeping Chinese leaders informed and helping to avoid a potential panic, he added.
``China is very worried about the safety of its assets,'' he said. ``If you want China to keep calm, you must ensure China that its assets are safe.''
Yu said China is helping the U.S. ``in a very big way'' and added that it should get something in return. The U.S. should avoid labeling it an unfair trader and a currency manipulator and not politicize other issues, he said.
``It is not fair that we are doing this in good faith and are prepared to bear serious consequences and you are still labeling China this and that, accusing China of this and that,'' he said. ``China knows what to do. We don't need your intervention.''
The U.S. financial crisis had taught China a lesson and that was: ``Why are we piling up these IOUs if they may default?'' China's economic expansion strategy, which emphasizes export growth that has led to trade surpluses and the accumulation of $1.81 trillion in foreign-exchange reserves, is the main problem, said Yu.
``Our export-growth strategy has run its natural course,'' he said. ``We should change course.''
From bloomberg:
Japan, China and other holders of U.S. government debt must quickly reach an agreement to prevent panic sales leading to a global financial collapse, said Yu Yongding....
``We are in the same boat, we must cooperate,'' Yu said in an interview in Beijing on Sept. 23. ``If there's no selling in a panicked way, then China willingly can continue to provide our financial support by continuing to hold U.S. assets.''
An agreement is needed so that no nation rushes to sell, ``causing a collapse,'' Yu said. Japan is the biggest owner of U.S. Treasury bills, holding $593 billion, and China is second with $519 billion. Asian countries together hold half of the $2.67 trillion total held by foreign nations....
``Whether some kind of agreement between them to continue to hold Treasury bills is viable, I'm not sure,'' said James McCormack, head of sovereign ratings at Fitch Ratings Ltd in Hong Kong. ``It would be unusual. If it became apparent that sovereigns in Asia were selling Treasuries the market would take that quite badly, it's something to be avoided.''...
China's huge holdings of U.S. debt means it must bear a large proportion of the ``burden of sorting things out'' in the U.S., Yu said. China is not in a hurry to dump its U.S. holdings and communication between the two nations every ``couple of days'' is keeping Chinese leaders informed and helping to avoid a potential panic, he added.
``China is very worried about the safety of its assets,'' he said. ``If you want China to keep calm, you must ensure China that its assets are safe.''
Yu said China is helping the U.S. ``in a very big way'' and added that it should get something in return. The U.S. should avoid labeling it an unfair trader and a currency manipulator and not politicize other issues, he said.
``It is not fair that we are doing this in good faith and are prepared to bear serious consequences and you are still labeling China this and that, accusing China of this and that,'' he said. ``China knows what to do. We don't need your intervention.''
The U.S. financial crisis had taught China a lesson and that was: ``Why are we piling up these IOUs if they may default?'' China's economic expansion strategy, which emphasizes export growth that has led to trade surpluses and the accumulation of $1.81 trillion in foreign-exchange reserves, is the main problem, said Yu.
``Our export-growth strategy has run its natural course,'' he said. ``We should change course.''
Wednesday, September 24, 2008
How the short ban is affecting short ETFs
Excerpt from the Wall Street Journal:
The short-sale ban has been particularly troublesome for some ETFs that let investors bet against financials. Rydex Investments and ProShare Advisors said Friday said they would temporarily halt the creation of new shares for several of these ETFs. Trading in the three ETFs -- Rydex Inverse 2x S&P Select Sector Financial, Short Financials ProShares and UltraShort Financials ProShares -- was halted for part of the day Friday.
The companies decided to suspend creation of new ETF shares amid concerns about their ability to get the swap agreements and other instruments that allow them to provide short exposure to financials. Typically firms issuing such swaps would hedge their exposure by shorting financial stocks.
When an ETF isn't creating new shares, it may trade at a premium to the value of its underlying holdings, since there is no new supply of shares to meet any increased demand. On Friday, for example, UltraShort Financials ProShares traded at a hefty premium to the value of its underlying holdings.
Amid the shifting short-selling rules, the ETFs will also likely have to pay more for the complex instruments that allow them to bet against financials, says John Gabriel, ETF analyst at Morningstar. Those higher trading costs could weigh down the returns of the funds.
"We expect pricing on these derivatives contracts will probably increase in the near future," says Steve Sachs, director of trading at Rydex. But "I wouldn't expect it to have a significant impact on the fund," he says.
Tuesday, September 23, 2008
Jim Cramer says sell
Voltron says: Joe Sixpack listens to Jim Cramer. On moday, he said to sell 20% of your portfolio and buy gold! I don't agree with everything he says, but the herd follows his advice, so he can influence the market in the short term and propagate bubbles in the market.
http://www.cnbc.com//id/26840500
http://www.cnbc.com//id/26840500
SEC changes short selling rules
Voltron says: the SEC proves that they are incompetent morons by changing the rules they just changed. The rules basically have no teeth now, so disregard everything I previously said about the short selling ban.
The SEC's latest change of direction on short selling caught some market participants off guard and prompted criticism that the agency has miscalculated the impact of its rulemaking.
The SEC, in a release issued at 12:26 a.m. EST Monday, reversed a position it had taken Friday when it said that market makers couldn't short financial stocks after Friday. The new rules as of Monday: Those engaged in bona fide market making and hedging activity, including in derivative contracts, could continue to short.
"The purpose of this accommodation is to permit market makers to continue to provide liquidity to the markets," the SEC explained in the revised order. To try to prevent short sellers from using market makers to take big positions, the SEC said market makers couldn't short for a customer if it would give them a net short position in the security.
Also Friday, the SEC issued a temporary ban on short sales in nearly 800 financial stocks, including those who make markets in the securities. In a short sale, investors borrow shares and sell them, hoping the stock will fall and they can buy it back at a lower price.
The agency said Friday that hedge-fund and money mangers needed to disclose short positions the first Monday following the trade.
Monday's rules: Hedge funds still must disclose their positions to the SEC, but the SEC won't make the trades public until two weeks later. The SEC also announced Monday that it had delegated to the stock exchanges the decision about which company makes the no-shorting list.
The SEC's Friday no-short-selling list left off some companies with large financing arms, such as General Electric Co. and Credit Suisse Group, while other companies not embroiled in the financial crisis, including some health-care insurers, were included.
The Monday change prompted NYSE Euronext to send blast emails to its listed companies asking them to identify themselves as fitting criteria laid out by the SEC. Companies that were U.S. or foreign banks, brokers, money managers or parent companies of such financial institutions would qualify. Companies could also opt out from the temporary ban.
The NYSE added 71 companies by Monday evening, including GE, General Motors Corp., Credit Suisse, GLG Partners, Canadian Imperial Bank of Commerce, American Express, Legg Mason and Moody's Corp. That list could grow. The Nasdaq OmX Group added 66 companies Monday.
The government response to the market upheaval has in many ways been unprecedented, and the SEC has been under pressure to do something from Wall Street chiefs, who were pleading for relief from short sellers they blame for driving stocks lower.
Erik Sirri, director of the SEC's trading and market division, said when the agency crafted the order Thursday night, they knew there would be amendments to the rule, but didn't want to craft them until after they spoke with market participants over the weekend.
Mr. Sirri said that while the SEC was aware of the implications the temporary short-sale ban would have, "the rule reflected a compromise balancing the limits of our authority, the need to avoid triggering a close-out event in OTC derivatives, and the demand for legitimate hedging by market makers."
But the agency's inconsistent response has opened it up to attacks -- including by Republican presidential candidate Sen. John McCain, who said last week that SEC Chairman Christopher Cox should be fired.
"It looks like we have a bunch of amateurs that don't know what they're doing," said James Angel, an associate professor of finance at Georgetown University. "To come out and say let's ban short selling shows the desperation of the regulators, and it shows the fact that they really haven't been thinking things through."
Monday's hastily revised rules prompted more critiques.
"Obviously, the amendments today are an attempt to remediate a failure to consider carefully what was going to happen," said Lawrence Harris, a former chief economist at the SEC from 2002 to 2004. "With the SEC basically granting its regulatory authority to the exchanges, they're basically asking the exchanges to write its own regulation. That's an extraordinarily irresponsible delegation of responsibility," he said.
The SEC "just decided from a risk point of view that we needed a time-out," said Charles Jones, a finance professor at Columbia Business School. "There are a lot of us out there who are wondering what the SEC is thinking, whether they've gone off the rails here."
Sunday, September 21, 2008
Behind the scenes
Voltron says: this explains why everybody is freaking out even though the market was flat
excerpt:
The market was 500 trades away from Armageddon on Thursday, traders inside two large custodial banks tell The Post.
Had the Treasury and Fed not quickly stepped into the fray that morning with a quick $105 billion injection of liquidity, the Dow could have collapsed to the 8,300-level - a 22 percent decline! - while the clang of the opening bell was still echoing around the cavernous exchange floor.
It could get much worse
Exerpt from http://www.baltimoresun.com/news/opinion/oped/bal-op.economy21sep21,0,1400702.story By Rolfe Winkler – The Baltimore Sun
If the
That could never happen here, argue some. The $10 trillion national debt is "only" 70 percent of GDP, leaving the government plenty of borrowing capacity. But that ignores $60 trillion of projected liabilities for Medicare and Social Security, according to economist John Williams.
What's true of companies is true of countries: The more they borrow, the more they operate at the mercy of creditors. The more they borrow, the more violent their inevitable failure.
Under no scenario can Uncle Sam raise the trillions it needs to meet all these obligations. No tax rate is high enough, no discretionary spending cuts draconian enough. And there is no creditor of last resort for the U.S. Treasury. If default implies an Argentina-like scenario, that would leave us with only two options. The first is to print money; Mr. Williams says this would lead to "hyperinflation on the order of 1920s
Why the market will crash next week
Voltron says: There is opposition building to the bailout proposal because it is a blatant power grab. It’s in line with my prediction of the government nationalizing the banks. Since – despite gyrations – the market ended basically flat last week, I expect the government to engineer a major crash next week before the legislation comes up for a vote to “force” congress’ hand.
http://www.bloomberg.com/apps/news?pid=20601087&sid=ae6b6P1L8E_E
Changing the rules
Voltron says: The problem with changing the rules of the game is that next time, no one will want to play. In order to delay disaster for a few weeks (at best) the government is ensuring that the market will never recover.
http://www.nytimes.com/2008/09/20/business/worldbusiness/20markets.html
Saturday, September 20, 2008
SRS
Voltron says: of note in the proposed bailout:
(1) Mortgage-Related Assets.—The term mortgage-related assets means residential or commercial mortgages and any securities, obligations, or other instruments that are based on or related to such mortgages, that in each case was originated or issued on or before September 17, 2008.Why are commercial mortgages included? They aren't even in trouble yet. Especially if you look at the price of SRS. What does the government know about commercial mortgages that the market doesn't know or has not admitted yet? If this bailout is passed SRS may get crushed. If it fails it will go through the roof, especially if they ban shorting all stocks. SRS is at the mercy of congress now.
Mother of all bailouts
voltron says: here's an analysis of the proposed bailout: http://market-ticker.denninger.net/archives/587-The-Mother-Of-All-Frauds.html
It allows the Treasury to purchase mortgages, but at what price? The problem is that there is no bid for this toxic waste in the market. It is rumored that the treasury will conduct a reverse auction. I've also heard it will be a dutch auction, but that makes no sense because no two mortgage securities are the same, just as no two houses are the same. If the government pays to much, the taxpayer gets screwed. If the government doesn't pay a premium, the banks are still insolvent anyway. This confirms my forecast that government will attempt to nationalize the banking system.
It also does nothing to solve the "root problem" of house prices falling. I say that in quotes because the real root problem is that instead of borrowing to produce, we borrowed to consume (houses), so of course we can't pay it back!
The real cost of this could be more that 700 Billion, it's essentially a blank check on top of the blank check that the Treasury got to bail out Fannie and Freddie. There is no practical taxpayer protection. This confirms my forecast that the government will continue to double down, at least until the election.
Foreign companies are excluded. Is this a way to "get back" at hedge funds?
Well the government is firing all guns at once so congress will be under pressure to add bailouts for auto makers, airlines, "main street" and homeowners.
It's expected to be voted on next week. You don't get to vote.
New Disclaimer
Voltron says: All bets are off . . . it's every man for himself.
1. The government is changing the rules of the game as they go along. Moral Hazard concerns are out the window.
2. The government is preparing to throw $700,000,000,000 into the market to bail out their cronies and screw you.
3. There are Armageddon scenarios so dire, that no matter what your portfolio has, you will never recover any of the value. These scenarios now have non-zero probabilities.
I'm going to continue blogging, but keep in mind that it's no longer a free market. It's politics now. I know what the government should do, but that has nothing to so with what they will do.
Good Luck.
Paulson Goes All In
By Peter Schiff – Europacific Captial
Just three days ago, after looking at the prospect of bailing a string of distressed financial institution in the country, the government seemingly drew a line in the sand, and refused to bail out Lehman Brothers. The authorities clearly saw Lehman’s demise as a trial balloon to see how the markets would react if the government stayed on the sidelines. That trial balloon quickly turned into the Hindenburg. Immediately reversing course, the Government has decided to go “all in” and bail out every institution with financial exposure to
Moving beyond the guided munitions of selective bailouts, the Government is now trying the financial equivalent of carpet bombing (for AIG, Merrill Lynch, and especially Lehman Brothers, this gives new meaning to being a day late and a dollar short). To continue with the military analogies, Paulson’s bazooka turned out to be a nuclear tipped ballistic missile.
By committing trillions of tax payer dollars (not the “hundreds of billions” that Paulson predicts), the plan will save commercial and investment banks from certain bankruptcy. In his statement today, Paulson made clear that Congress must pass new legislation to allow the Government to acquire even those loans too poorly collateralized to currently qualify for GSE or FHA absorption. The losses baked into these mortgage products, which Wall Street has been reluctant to even estimate, will now be borne wholly by taxpayers.
In his press conference, Paulson assured us that this plan was designed to safeguard our savings. But in typical government fashion, the plan will have the reverse effect as savings will be wiped out through inflation. He also claims that the plan will safeguard home equity by keeping real estate prices high. Since when did high home prices become a strategic national priority? If the plan succeeds, the gains for home sellers will simply be matched by losses for homebuyers, who end up paying inflated prices, and taxpayers, who get stuck with the losses when those buyers default.
Paulson’s distress and confusion was clearly evident when he fielded questions from reporters. The first asked Paulson to describe his fears regarding the probable economic consequences of government inaction. Paulson provided no answer and promptly exited stage right.
When the
While it is dizzying to predict how this plan will be implemented, it is fairly simple to foresee the macroeconomic consequences. The U.S. dollar will be shattered beyond repair. The government simply has no means to make good on the trillions of new liabilities. Interestingly, while both Paulson and President Bush acknowledge that the plan will put “significant amounts of taxpayer dollars on the line,” they did not mention any tax increases. Given the politics, no such move is forthcoming. The printing press is their only solution.
The government has also decided to insure all money market funds, adding trillions more in unfunded liabilities to the Federal balance sheet in the blink of an eye. Of course, since bad real estate loans are not the only toxic assets on the balance sheets of financial institution, we will also need to absorb other classes of asset-backed securities, such as those backed by credit card debt and auto loans. So while the move ensures that depositors will not lose money, is does insure that the money itself will lose value. Is the trade-off really worth it?
Further, since I assume the plan will apply to all mortgage debt,
Although gold initially sold off as the apparent need for a financial safe haven ebbed, look for a spectacular rally to commence as its traditional role as an inflation hedge returns with a vengeance.
Short sale ban - answers
Voltron says:
Existing short positions are grandfathered.
Right now, you may not short to hedge options. As a result options have started becoming more expensive (spreads widening). The option market may seize up next week. The SEC may grant an exemption for option market makers (link) but it certainly opens the door to abuse of the rule.
The Short financials ETF (SKF) was halted shortly after it opened for trading on Friday. Trading resumed, but no new shares will be created. I expect it to go up because now it is the only way to short financials and supply is limited. (link)
Credit Default Swaps (the white elephant in the room) are still completely unregulated. The SEC has no plans to address them.
Thursday, September 18, 2008
SEC bans short selling of financials
In a 2am press release, the SEC has banned short selling on almost 800 financial stocks.
How does it affect existing short positions? How does this affect options? Can people hedge options? Can market makers still short? How does it affect the short ETFs? How does it affect credit default swaps? I'm sure the SEC has carefully considered all of this.
For your guide, you can create a short position using options. So if option trading is not curtailed, this does nothing.
this is the mother of all desperation moves and is going to massively distort the market.
The government is doing everything it can to
- prevent price discovery
- prevent transparency
- prevent you from protecting yourself
Fed losing control
Wednesday, September 17, 2008
Comrade Bernanke Does it Again
By Peter Schiff - EuroPacific Capital
By nationalizing nearly 80% of AIG for $85 billion, the Fed is doing a lot more than simply flushing taxpayer money down the toilet. The greater wrong is allowing the agency that has the power to print money to take control of a private enterprise, especially without the approval of the company’s shareholders. The move represents the largest lurch toward socialism that this country has ever seen, and signals the end of the vibrancy of America’s once vaunted free market economy. Since there is no limit to the amount of money the Fed can create, there is no limit to the number of assets they can acquire.
The “line in the sand” that the Government seemed to draw by refusing to bail out Lehman Brothers was erased in just two days by the very next wave of financial panic.
While Fannie and Freddie were arguably quasi-government agencies that deserved special protection, no such status exists with AIG. Where does the Fed get the authority to use the money it prints to take over private companies? Congress never gave such authority and, even if it had, it would be unconstitutional, as Congress itself has no such authority to delegate. What about the shareholders? Why didn’t they get to vote on this acquisition? Whatever happened to private property rights?
Where does this stop? What other troubled companies will the Fed nationalize, and how much will it cost? Why stop at troubled companies? If the Fed can buy into a sick company, why not a healthy one? Now that we have allowed the Fed to take over any asset it wants, private property rights are meaningless. When oil prices get really high, why bother with a windfall profits tax when the Fed can simply nationalize Exxon-Mobil with a few cranks on its printing press. Who needs Bolsheviks when you have the Fed?
AIG is not a bank; it is not even an investment bank. The “lender of last resort” power was supposed to apply only to banks, to prevent runs. It was not meant to apply to any company that had been declared “too big to fail”.
I suppose the Fed is trying to get around some of the more obvious illegalities by having the new AIG shares issued on behalf of the Treasury. What happened to the concept of an independent Fed? Here you have the Fed seizing a private company and ceding control to the U.S. Treasury. Rather then acting independently, the Fed and the Government are merely partners in crime.
On the economic side, the Fed expects us to believe this is a smart investment. Does anyone really think that officials at the Fed and Treasury are suddenly private equity experts? These are the guys who missed both the tech and housing bubbles, and who assured us that subprime problems were contained. I would not trust them to run a lemonade stand, let alone one of the largest insurance companies in the world.
The idea that this bailout was necessary given that the alternative would be worse should by now be fully discredited. All of today’s financial problems are the direct consequence of Fed policy that was designed to weaken the recession that followed the bursting of the tech bubble and the shock of September 11th. Of course, the tech bubble itself resulted from the Fed’s actions to sooth the pain following the collapse of LTCM, the Russian debt default, the Asian crisis, and Y2K.
I suppose the precedent for all of these actions was established back in 1979 when the government guaranteed Chrysler’s debt. It sure would have been a lot better and a whole lot cheaper if we had simply let Chrysler fail. The road to financial hell, or in this case socialism, is certainly paved with “good” intentions. Today's historic surge in the price of gold shows that at least a few investors are refusing to march in the parade.
By nationalizing nearly 80% of AIG for $85 billion, the Fed is doing a lot more than simply flushing taxpayer money down the toilet. The greater wrong is allowing the agency that has the power to print money to take control of a private enterprise, especially without the approval of the company’s shareholders. The move represents the largest lurch toward socialism that this country has ever seen, and signals the end of the vibrancy of America’s once vaunted free market economy. Since there is no limit to the amount of money the Fed can create, there is no limit to the number of assets they can acquire.
The “line in the sand” that the Government seemed to draw by refusing to bail out Lehman Brothers was erased in just two days by the very next wave of financial panic.
While Fannie and Freddie were arguably quasi-government agencies that deserved special protection, no such status exists with AIG. Where does the Fed get the authority to use the money it prints to take over private companies? Congress never gave such authority and, even if it had, it would be unconstitutional, as Congress itself has no such authority to delegate. What about the shareholders? Why didn’t they get to vote on this acquisition? Whatever happened to private property rights?
Where does this stop? What other troubled companies will the Fed nationalize, and how much will it cost? Why stop at troubled companies? If the Fed can buy into a sick company, why not a healthy one? Now that we have allowed the Fed to take over any asset it wants, private property rights are meaningless. When oil prices get really high, why bother with a windfall profits tax when the Fed can simply nationalize Exxon-Mobil with a few cranks on its printing press. Who needs Bolsheviks when you have the Fed?
AIG is not a bank; it is not even an investment bank. The “lender of last resort” power was supposed to apply only to banks, to prevent runs. It was not meant to apply to any company that had been declared “too big to fail”.
I suppose the Fed is trying to get around some of the more obvious illegalities by having the new AIG shares issued on behalf of the Treasury. What happened to the concept of an independent Fed? Here you have the Fed seizing a private company and ceding control to the U.S. Treasury. Rather then acting independently, the Fed and the Government are merely partners in crime.
On the economic side, the Fed expects us to believe this is a smart investment. Does anyone really think that officials at the Fed and Treasury are suddenly private equity experts? These are the guys who missed both the tech and housing bubbles, and who assured us that subprime problems were contained. I would not trust them to run a lemonade stand, let alone one of the largest insurance companies in the world.
The idea that this bailout was necessary given that the alternative would be worse should by now be fully discredited. All of today’s financial problems are the direct consequence of Fed policy that was designed to weaken the recession that followed the bursting of the tech bubble and the shock of September 11th. Of course, the tech bubble itself resulted from the Fed’s actions to sooth the pain following the collapse of LTCM, the Russian debt default, the Asian crisis, and Y2K.
I suppose the precedent for all of these actions was established back in 1979 when the government guaranteed Chrysler’s debt. It sure would have been a lot better and a whole lot cheaper if we had simply let Chrysler fail. The road to financial hell, or in this case socialism, is certainly paved with “good” intentions. Today's historic surge in the price of gold shows that at least a few investors are refusing to march in the parade.
Gold posts biggest one day gain - ever!
Voltron says: Gooooooooooooooooooooold!
http://www.breitbart.com/article.php?id=D938L2E83&show_article=1
Gold ETF: GLD
Double Gold ETF: DGP
Gold Certificates: EuroPacific Capital
http://www.breitbart.com/article.php?id=D938L2E83&show_article=1
Gold ETF: GLD
Double Gold ETF: DGP
Gold Certificates: EuroPacific Capital
Congress has no idea what to do
Voltron says: do nothing, you’re just making it worse
http://www.bloomberg.com/apps/news?pid=20601087&sid=aDXSrZc6VWYw&refer=home
Tuesday, September 16, 2008
FED: the writing is on the wall
Voltron says: want to see what the FED will do?
http://www.federalreserve.gov/BOARDDOCS/SPEECHES/2002/20021121/default.htm
http://www.federalreserve.gov/BOARDDOCS/SPEECHES/2002/20021121/default.htm
Deus ex machina
Voltron says: The "Deus ex machina" of the '87 crash was portfolio insurance . . . basically "put" options. Most people think Credit Default Swaps will be the cause of the next crash. That may be, but then the crash after that will be caused by short ETFs such as SDS and SRS which make money when the market goes down. Unlike options, ETFs don't expire. Unlike a short position, you have limited downside risk. It's a less scary way to make money in a declining market. Right now the average investor is sitting like a deer in headlights - crippled by fear and lulled into complacency by Cramer on CNBC. Someday they'll look at what trades do well in a crash and they will start piling into short ETFs. That can create a bubble in reverse and cause the market to basically consume itself.
Monday, September 15, 2008
Grey Monday
Voltron says:
After Sunday's Fed hosted poker game, Bank of America bought Merrill Lynch and Lehman Brothers went bankrupt. Dow opened down around 300 points then bounced off of 11,100 a few times until plunging over 500 points for the day - the largest one day decline in six years.
Washington Mutual, the nations largest thrift, bonds are cut to junk (link) Possibility exists for a run of the bank. FDIC cannot cover all the deposits without raiding the US Treasury.
AIG, the nations largest insurance company, also had it's ratings cut and has received permission from New York State to raid $20 billion of it's own reserves. (link)
Meredith Whitney from Oppenheimer pulls out her crystal ball on CNBC (video) (summary)
Merrill Lynch downgraded several New York real estate investment trusts (link) Good news for SRS, but this is just the beginning.
The Federal Reserve is losing control of short term interest rates (link) an omen that preceded the crash of 1987. (link)
Financial entities are blowing up faster than I had expected and the situation is clearly beyond anyone's control but market prices still do not indicate capitulation. translation: we're not at the bottom yet.
After Sunday's Fed hosted poker game, Bank of America bought Merrill Lynch and Lehman Brothers went bankrupt. Dow opened down around 300 points then bounced off of 11,100 a few times until plunging over 500 points for the day - the largest one day decline in six years.
Washington Mutual, the nations largest thrift, bonds are cut to junk (link) Possibility exists for a run of the bank. FDIC cannot cover all the deposits without raiding the US Treasury.
AIG, the nations largest insurance company, also had it's ratings cut and has received permission from New York State to raid $20 billion of it's own reserves. (link)
Meredith Whitney from Oppenheimer pulls out her crystal ball on CNBC (video) (summary)
Merrill Lynch downgraded several New York real estate investment trusts (link) Good news for SRS, but this is just the beginning.
The Federal Reserve is losing control of short term interest rates (link) an omen that preceded the crash of 1987. (link)
Financial entities are blowing up faster than I had expected and the situation is clearly beyond anyone's control but market prices still do not indicate capitulation. translation: we're not at the bottom yet.
Sunday, September 14, 2008
Asia trading
Voltron says: It's looking ugly in Asia . . . Dow futures down 250 and the dollar down 2% versus the yen. Treasuries are rallying even though that's the last place you'd want to put your money. Gold is up 2.25%. It's quite possible gold will go down in the short term and the dollar will rise as people unwind their positions and raise cash. Don't bite off on the head fake. The big question that no one in the media is asking is WHAT DID LEHMAN HAVE ON THEIR BOOKS. Liquidation of these positions may be what moves the market in the short run. I have no idea what is on their books. I guess we'll find out on Monday.
WSJ: Bank of America may buy Merrill Lynch
Voltron says: I'm glad I did not short Merrill Lynch. Bank of America may buy Merrill for $29 per share, almost double Friday's close of $17.
from the Wall Street Journal:
from the Wall Street Journal:
Imagine you are John Thain, CEO of Merrill Lynch. Unlike [Lehman CEO] Dick Fuld, who has held tight, in July you sold collateralized debt obligations with a face value of $31 billion at 22 cents on the dollar. But you still are capital constrained.
And now you are asked by Treasury Secretary Hank Paulson, the man who didn’t make you CEO of Goldman Sachs, to put up billions of dollars to save Lehman? So that Barclays or Bank of America can pick up Lehman on the cheap to compete with you? It is humiliating enough that you may soon need one of those banks to bail you out. Indeed, the Wall Street Journal reports that BofA and Merrill are in merger talks.
Saturday, September 13, 2008
$4 trillion
Voltron says: Now that our prudent government bureaucrats have taken control of prodigal sons, Fannie Mae and Freddie Mac they will surely end their profligate ways and quickly return to prudent lending standards. WRONG! Four senators have asked that they put a moratorium on foreclosures for 90 days. Hmmmmm, what’s happening within 90 days . . . hmmmmm . . . why would they want to prevent price discovery and market transparency during that time? Awww shucks, I can’t figure it out. They are also authorized to expand Fannie and Freddie’s loan portfolio until 2010. Also, the FDIC is refinancing IndyMac’s subprime loans at rates as low as 3 percent for terms as long as 40 years! They are also halting foreclosures until all the workouts can be done. OK, let’s engage in a thought experiment: Suppose the government refinances all mortgages at 3 percent for 30 years. If the mortgages are still “upside down” (i.e, the house is worth less than the mortgage), the borrower should still default. If the government offered mortgages at 3 percent for 30 years to NEW home buyers as well, then the house prices would rise so that the existing mortgages would not be upside down. OK, how much would that cost? Well, the 30 year t-bill rate is 4.5% so if the government refinanced the $10 trillion in outstanding mortgages at a cost of (4.5% minus 3%) it would cost about $4 trillion. Good thing Congress gave the Treasury secretary a blank check!
Friday, September 12, 2008
Last Gasp of a Doomed Currency
By Peter Schiff – Europacific Capital
Voltron says: this is why DKA, DBN and DBU are down. Take advantage of this “head fake” and buy more.
In the latest example of financial market madness, the recent government “bailout” of Freddie Mac and Fannie Mae has perversely resulted in a sharp rise in the value of the U.S. dollar. If the markets were functioning rationally, the transference of staggering new liabilities to the U.S. Treasury would have been immediately seen as catastrophic for the dollar. Instead the markets have ignored the obviously negative long-term implications and have remained fixated on the more immediate effects. However, rather than solving the problems, the government’s actions merely confirm my worst fears, and increase the chances for a hyper-inflationary outcome.
By transforming $5.5 trillion of suspect mortgage-backed securities into seemingly bullet-proof Treasury bonds, the move has sparked a relief rally in the dollar as foreign investors no longer have to worry about defaults or markdowns. In fact, to holders of Fannie and Freddie debt, it no longer matters what happens to the housing market. Home prices can drop another 50%, every single homeowner can default on their mortgage, and bond holders will not lose one dime. This has emboldened foreign investors, and temporarily increased demand for both dollars and Freddie and Fannie debt.
Had the government done the right thing and not guaranteed Freddie and Fannie debt, I believe we would now be experiencing an outright financial crisis. The dollar would be falling sharply along with real estate prices, gold would be soaring and the recession would be deepening. However, by nationalizing Freddie and Fannie, the government has merely delayed the crisis. The borrowed time will cost us dearly, as the day of reckoning will now likely involve much steeper losses for our currency.
The Freddie and Fannie takeover does nothing to address the underlying problems that forced the companies into bankruptcy in the first place. All of the bad mortgage debt still exists. In fact, based on this bailout, there will be trillions more in bad mortgages insured over the next few years. The only thing that has changed is how the losses will be distributed. Instead of falling solely on bond holders, who had chosen to invest in mortgage debt, they will now be dispersed among
Over the next year or two, my prediction is that several trillion dollars of existing mortgages, not currently insured by Freddie or Fannie, will be transferred to the pile. Going forward the vast majority of new mortgages made to Americans will be bought by Fannie or Freddie. Therefore in a few short years the $5.5 trillion of initially transferred liabilities could grow to more than $10 trillion of new obligations for the U.S. Treasury.
The defenders of the bailout claim that Fannie and Freddie debt does not represent true obligations because they are fully collateralized by homes. But anyone with a casual interest in the current real estate market knows that homes are now only worth a fraction of outstanding mortgage debt. And that fraction gets smaller every day. My guess is that $10 trillion of federally insured mortgages could result in $2 trillion of losses, which amounts to more than $25,000 per American family.
Also, there is no reason to believe that the bailout merry-go-round will end with Fannie and Freddie. Faltering investment bank Lehman Bros. is now positioned to receive the kind of Federal backstop that smoothed the purchase of Bear Stearns back in March. Bailouts of automotive and airline companies can’t be long in coming. Once the market perceives a Federal magic wand, it becomes politically impossible to stop waving it.
In addition to adding new sources of debt in the form of mortgage backed securities, the government is also piling on debt the old fashioned way…through budget deficits. Recent projections put the 2008 deficit at $410 billion, not counting the
When the dust settles, the Federal government will be left with staggering liabilities that will be impossible to repay with legitimate means (taxation or borrowing). To make good, they must rely on the printing press to create money out of thin air. The rapid expansion in money supply will push the dollar down mercilessly.
Right now every asset on the planet is being sold except the U.S. dollar. To me this rally looks like the last gasp of a dying currency. Just like a toy rocket ship, once the dollar runs out of fuel it will crash back down to Earth.
Tuesday, September 9, 2008
Moral Hazard
Rescue Risks Setting Stage For New Woes
By MARK GONGLOFF, Wall Street Journal
The government's rescue of Fannie Mae and Freddie Mac may have averted a financial meltdown, but it could create other unintended problems.
In the short term, auto makers and other troubled industries might use the move to argue that they, too, deserve a taxpayer lifeline. Some foreign governments will use Uncle Sam's generous backstop as justification for market controls that may not be quite so constructive. And the move might further fan the election-year populism that already has free-market advocates gnashing their teeth.
The potential longer-term consequences may be more troubling. For one thing, unlike equity holders, debt holders in financial companies once again have been protected, as they were with Bear Stearns and others. That may lead these lenders to examine those companies less carefully, putting more burden on regulators to sniff out problems, warns Gerard Caprio, economics professor at
What's more, lawmakers and regulators will eventually have to figure out how to shrink Fannie and Freddie, redistribute their portfolios and refine oversight of the
In such regulatory soups new opportunities and risks are born. The Resolution Trust Corporation that ended the savings-and-loan crisis in the late 1980s led to a booming mortgage-securitization market that dumped buckets of cash on Wall Street. It also planted the seeds of the mess the government this weekend stepped in to solve.
Paulson's Quick Draw
By Peter Schiff – President, EuroPacific Capital
Treasury Secretary Henry Paulson, the man who said that subprime was contained and that the Bazooka in his pocket would never be used, now assures us that the bailout of Fannie Mae and Freddie Mac will be costless to taxpayers. Despite the near euphoria that the plan has sparked on Wall Street, the move will go down in history as the biggest policy blunder of all time, and will be credited as a pivotal point in the financial collapse of the American economy. The ultimate cost to Unites States citizens will be in the range of hundreds of billions of dollars, perhaps more.
The original idea that gave birth to Freddie and Fannie, which is to make housing more affordable to average Americans, should now be seen as farcical. Their new goal is to keep housing prices high. Absent Freddie and Fannie, housing prices would fall sharply and the mortgage market would stabilize. Americans would once again be able to buy affordable houses with mortgages they could actually repay –just like their grandparents did. Instead they will keep overpaying for houses, burdening themselves with excessive payments in the process, and ultimately sticking taxpayers with the bills when they default.
In contrast to Paulson’s continuous misreading of the market, I have consistently predicted the failure of Freddie and Fannie. I did so in my book Crash Proof, and in numerous speeches, commentaries and television appearances. I also was quick to point out that Paulson’s Bazooka would not remain holstered for long.
There is absolutely no substance to Paulson’s insistence that based on the government’s first claim on the future profits of Fannie and Freddie, the plan offers protection for taxpayers. There will be no future profits, just more heavy losses. Americans will now have unlimited ability to continue to overpay for houses and commit to mortgages they can’t afford. In fact, the plan insures that eventual public sector losses will vastly exceed those that would have befallen the private sector in a free-market resolution.
Paulson claims that his goal is to stabilize the mortgage market. But the best way to do so would be to allow housing prices to fall to a market clearing level. As long as home prices remain artificially high, the risks of mortgage lending will keep credit tight, and the high costs of mortgage payments will keep potential buyers on the side-lines. With private lenders justly cautious, the government intends to hold open the lending spigots, without the pesky concerns over losses or financial risk. The hope is that the new lending will prevent home prices from falling further. It won’t work. The government “solution” will simply delay the fall of artificially high home valuations and temporarily preserve the illusion of prosperity. (Until the election/inauguration –Voltron)
In order to preserve current home prices, the government will be forced to maintain the lax lending standards that got us into this mess in the first place. Since all the losses will now be borne by taxpayers, those lax standards will be much more problematic. The moral hazard that existed prior to this bailout has become that much more hazardous. Every mortgage now insured by Fannie and Freddie is the equivalent of a U.S. Treasury bond. This allows anyone to borrow on the full faith and credit of the
Of course the biggest collateral damage caused by Paulson’s bazooka is the large hole ripped through the already tattered U.S. Constitution. If the government can do this, does anyone believe there is anything it can not do? In effect the Federal government now has absolute power to corrupt absolutely.
For a more in depth analysis of our financial problems and the inherent dangers they pose for the U.S. economy and U.S. dollar denominated investments, read my new book “Crash Proof: How to Profit from the Coming Economic Collapse.”
Out of Lehman
Voltron says: Lehman finally cracked $12 today. Then $11, then $10, then $9 and is now trading with an 8 handle. I’ve covered my short position.
Monday, September 8, 2008
Treasuries down
From the July 17th issue of “The Economist
“Nationalization . . . would bring the whole of Fannie’s and Freddie’s debt onto the federal government’s balance sheet. In terms of book-keeping this would almost double the public debt, but that is rather misleading. It would hardly be like issuing $5.2 trillion of new Treasury bonds, because Fannie’s and Freddie’s debt is backed by real assets. Nevertheless, the fear [is] that the taxpayer may have to absorb the GSEs’ debt . . . . That suggests yet another irony; the debt of the GSEs has been trading as if it were guaranteed by the American government, but the debt of the government was not trading as if Uncle Sam had guaranteed that of the GSEs.”
Voltron says: This irony (or paradox) has been resolved: the GSE debt was priced correctly and government debt was priced incorrectly. The government’s intent in bailing out the GSEs was to raise the value of GSE debt (decrease borrowing costs) but since that proves that government debt was mispriced; it is government debt prices that will adjust. In fact, this has started happening already. The Treasury’s actions will do nothing to fix the housing bust. It will just make the budget deficit worse. It will collapse the dollar and cause inflation. It will drive banks holding GSE equity into the arms of the woefully undercapitalized FDIC. If fannie and Freddie couldn’t make money with all of their “implicit guarantees” and tax advantages and everything else . . . how are regular banks supposedly profitable? Of course there’s optimism in the market that the Fed and Treasury Dept are taking decisive action, but the fact that they are doing it now is evidence that the problem is much much worse than they were previously willing to admit. The government is bent on doubling down again and again until the election/inauguration.
More background and analysis here.
Sunday, September 7, 2008
What next?
Voltron says: The collapse and bailout of Fannie and Freddie is possibly bigger than then Enron and every other accounting scandal combined. So what does this mean to my forecast? Well, we now have a very large, important and irrational player in the game – the government. There is a fascinating power struggle between Washington and Wall Street. Politicians get big donations from Wall Street (including Fannie and Freddie to the tune of $186 million), but politicians are resentful of Wall Street’s conspicuous wealth and the power it can buy. Now Wall Street has finally overleveraged and painted themselves into a corner. They are calling in all of their favors, but they are so beaten up this time that Washington can pull the rug from under them. Bill Gross, PIMCO’s top bond fund manager has bet heavily on a Fannie/Freddie bailout (link) and on Friday he said that if he doesn’t get one, he’ll take his ball and go home (link). The government can do anything from nothing, to a complete - throw moral hazard to the wind - socialize the losses bailout of everyone at taxpayer expense, to total nationalization of the banking system. I’m not sure which way they are going to go, but in any case it’s not good for the US dollar.
Keep an eye on Lehman
Voltron says: Lehman is trying to split into a “good bank” and a “bad bank” (link). If that sounds a bit fishy, that’s because it is. It’s fraudulent conveyance and it’s illegal. Of course, that won’t stop Lehman from doing it because after all their CEO is on the board of the Federal Reserve Bank of New York
Also the rats have been jumping ship (link, link) which makes selling off parts of the firm less likely.
Also the rats have been jumping ship (link, link) which makes selling off parts of the firm less likely.
Fannie and Freddie bailout official
Voltron says: According to the New York Times (article linked from my previous post) Fannie and Freddie were Phoney and Fraudy. What the government hired forensic auditors and bankers have uncovered so far is that they were keeping tax losses on their books as “assets” even though there was no reasonable expectation of taxable income to use them to offset in the near future and while most banks start writing off a mortgage if it’s 90 days late, F&F WAITED TWO YEARS! And they need to refinance $223 billion is short term debt in the next few weeks.
Here’s what we know: http://www.forbes.com/2008/09/07/fannie-freddie-bailout-biz-cx_lm_0907mortgage.html
Commercial Banks hold preferred stocks in F&F because the FDIC considers it as good as cash and there are tax advantages. It is unclear if the deferred dividend payments on the preferred stocks will send commercial banks into the arms of the undercapitalized FDIC (link). It is also unclear if it will trigger an apocalyptic chain reaction of credit default swaps (link) like what nearly brought down the financial system when Bear Stearns went under.
Here’s some indignation courtesy of the colorful Mr. Mortgage: http://mrmortgage.ml-implode.com/2008/09/07/fanniefreddie-massive-fraud-breakdown/
Saturday, September 6, 2008
Fannie and Freddie Bailout
Voltron says: There is some kind of bailout of Fannie Mae and Freddie Mac that will be announced on Sunday. Rumors abound. At question is to what extent the stock holders, the preferred stock holders and bond holders will take a loss. Fannie and Freddie financed $5 trillion in mortgages. That's half of the mortgages in the U.S. and comparable in size to the national debt. F&F are not government agencies, but the people treated them as if they were. As a result they were able to borrow money very cheaply, and people were willing to lend to them because they got paid a little bit more than if they loaned money to the government. As private profit seeking companies accountable only to the shareholders, they acted rationally; they made as many stupidly risky loans as they could as quickly as they could to make as much money as possible in the shortest amount of time. They were also embroiled in accounting scandals and their accounting is still a mess and nobody knows what lurks in their $5 trillion portfolios of exotic financial instruments. When I say nobody I mean NOBODY, including themselves. They eventually became "too big to fail." Much of that debt is owned by foreign governments which whom we have a trade deficit, such as China and Japan. They (wrongly) view the debt as U.S. government debt and it would be a diplomatic disaster if F&F defaulted. Many banks own the preferred stock because the dividends has special tax treatment (thanks again, government). There are also trillions of dollars in credit default swaps - i.e., insurance on F&F debt that will trigger a massive cascade of bankruptcies if F&F ever defaults. So here we are. I'll post the details and my analysis when they are announced. In the meantime, enjoy Treasury Secretary Paulson getting schooled by Sen Jim Bunning (R-Kentucky) when he asked congress for a blank check to defend F&F.
He got what he asked for.
He got what he asked for.
Friday, September 5, 2008
Down the Rabbit Hole
Voltron says: Genius is the ability to hold two contradictory thoughts in your mind at the same time.
By Peter Schiff - EuroPacific Captial
In recent months, investors have been unjustly chastised for their lack of consistency. In truth, they have an unblemished record of drawing the wrong conclusions. Last week’s 2nd quarter GDP report provides the freshest evidence of market cluelessness.
In its report, the Commerce Department stunned economy watchers by showing a 3.3% annualized increase in 2nd Quarter GDP. The robust growth apparently wrong-footed those expecting further recessionary signals, lent further strength to the current dollar rally, and encouraged previously cautious investors to take another look at U.S. stocks. The strong number also bolstered claims by the Bush administration and the McCain campaign that a recession is primarily a psychological phenomenon. These conclusions would be at least quasi-logical if they were not based on a complete misreading of the report.
Without raising an eyebrow on Wall Street or in the press, the GDP deflator, used in the report to downwardly adjust GDP to account for inflation, was shown at just 1.2% annualized.... the lowest deflator in ten years. In other words, to arrive at a 3.3% growth rate, the government assumed that inflation is running at a ten-year low! In contrast, the latest reading on consumer prices (CPI) in the second quarter shows year-on-year inflation running at a 5.6% rate, a seventeen-year high! In fact, for the second quarter, the same time period measured by the GDP deflator, prices actually rose at an even faster pace of 8.0% annualized. How can it be that inflation is simultaneously running at a seventeen-year high and a ten-year low? Welcome to the Alice in Wonderland world of government statistics.
You would think that this statistical bombshell would raise the hackles of the press. Think again. Not only did the hawk-eyed media completely miss the story last week, they have totally ignored our subsequent attempts to show them the light (with the exception of the N.Y. Post’s John Crudele – who has long suspected a ruse). Although none of the reporters we spoke with could explain why inflation could run at a 10 year low and a 17 year high at the same time, they did not deem the anomaly sufficiently noteworthy. Having been ignored by reporters, I then tried the opinion pages. Unfortunately the piece that we prepared on the subject was rejected this week by all the leading national newspapers.
Reporter Michael Mandel did note the head scratcher on a Businessweek blog posting last Friday. As a partial explanation he pointed out the CPI measures the prices of what we buy, and the GDP deflator measures the prices of what we make. Although this certainly sheds some light, it offers no real explanation. Excluding imports and exports, both measures are determined by the same forces, and should move in relative harmony. If anything, the costs of what we make should be outpacing the costs of what we buy. Producer prices are now rising faster than consumer prices (the latest annual reading of the Producer Price Index ‘PPI’ being 13.2% annualized from the 2nd quarter), which helps explain why corporate profits have fallen drastically. In addition, from July 2007 through July 2008 (the latest data available) import and export prices have risen 21.6% and 10.2% respectively. In other words, no matter what numbers you use, the 1.2% GDP deflator simply doesn’t add up.
I have often argued that government statics are dubious, particularly those related to inflation. But here is an example where they are not even consistent! If we simply use second quarter CPI to adjust nominal second quarter GDP for inflation, the number would have registered a 3.5% annualized decline.
Such horrific GDP numbers are much more consistent with the anecdotal recession evidence that Wall Street and Washington want us to ignore (confirmed by today’s weak jobs report which included the unemployment rate spiking to 6.1%, a five-year high). However, with Orwellian propaganda, our government fabricates GDP growth out of thin air without the smoke and mirrors traditionally required for such an elaborate illusion. All that is required is to put out ludicrous statistics and hope no one notices. Given that this strategy appears to be working, expect future government numbers to get even more outrageous. After all, if they can get away with this, they can likely get away with anything.
Investors relying on this data and reacting to the global economic slowdown by buying dollars and other U.S. based assets while selling gold, commodities, and foreign assets, are jumping out of the frying pan right into the fire. My guess is that it will not be much longer before they feel the heat.
By Peter Schiff - EuroPacific Captial
In recent months, investors have been unjustly chastised for their lack of consistency. In truth, they have an unblemished record of drawing the wrong conclusions. Last week’s 2nd quarter GDP report provides the freshest evidence of market cluelessness.
In its report, the Commerce Department stunned economy watchers by showing a 3.3% annualized increase in 2nd Quarter GDP. The robust growth apparently wrong-footed those expecting further recessionary signals, lent further strength to the current dollar rally, and encouraged previously cautious investors to take another look at U.S. stocks. The strong number also bolstered claims by the Bush administration and the McCain campaign that a recession is primarily a psychological phenomenon. These conclusions would be at least quasi-logical if they were not based on a complete misreading of the report.
Without raising an eyebrow on Wall Street or in the press, the GDP deflator, used in the report to downwardly adjust GDP to account for inflation, was shown at just 1.2% annualized.... the lowest deflator in ten years. In other words, to arrive at a 3.3% growth rate, the government assumed that inflation is running at a ten-year low! In contrast, the latest reading on consumer prices (CPI) in the second quarter shows year-on-year inflation running at a 5.6% rate, a seventeen-year high! In fact, for the second quarter, the same time period measured by the GDP deflator, prices actually rose at an even faster pace of 8.0% annualized. How can it be that inflation is simultaneously running at a seventeen-year high and a ten-year low? Welcome to the Alice in Wonderland world of government statistics.
You would think that this statistical bombshell would raise the hackles of the press. Think again. Not only did the hawk-eyed media completely miss the story last week, they have totally ignored our subsequent attempts to show them the light (with the exception of the N.Y. Post’s John Crudele – who has long suspected a ruse). Although none of the reporters we spoke with could explain why inflation could run at a 10 year low and a 17 year high at the same time, they did not deem the anomaly sufficiently noteworthy. Having been ignored by reporters, I then tried the opinion pages. Unfortunately the piece that we prepared on the subject was rejected this week by all the leading national newspapers.
Reporter Michael Mandel did note the head scratcher on a Businessweek blog posting last Friday. As a partial explanation he pointed out the CPI measures the prices of what we buy, and the GDP deflator measures the prices of what we make. Although this certainly sheds some light, it offers no real explanation. Excluding imports and exports, both measures are determined by the same forces, and should move in relative harmony. If anything, the costs of what we make should be outpacing the costs of what we buy. Producer prices are now rising faster than consumer prices (the latest annual reading of the Producer Price Index ‘PPI’ being 13.2% annualized from the 2nd quarter), which helps explain why corporate profits have fallen drastically. In addition, from July 2007 through July 2008 (the latest data available) import and export prices have risen 21.6% and 10.2% respectively. In other words, no matter what numbers you use, the 1.2% GDP deflator simply doesn’t add up.
I have often argued that government statics are dubious, particularly those related to inflation. But here is an example where they are not even consistent! If we simply use second quarter CPI to adjust nominal second quarter GDP for inflation, the number would have registered a 3.5% annualized decline.
Such horrific GDP numbers are much more consistent with the anecdotal recession evidence that Wall Street and Washington want us to ignore (confirmed by today’s weak jobs report which included the unemployment rate spiking to 6.1%, a five-year high). However, with Orwellian propaganda, our government fabricates GDP growth out of thin air without the smoke and mirrors traditionally required for such an elaborate illusion. All that is required is to put out ludicrous statistics and hope no one notices. Given that this strategy appears to be working, expect future government numbers to get even more outrageous. After all, if they can get away with this, they can likely get away with anything.
Investors relying on this data and reacting to the global economic slowdown by buying dollars and other U.S. based assets while selling gold, commodities, and foreign assets, are jumping out of the frying pan right into the fire. My guess is that it will not be much longer before they feel the heat.
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