I have been delinquent in really looking at some of the technicals, mostly because the economic data has just been so bad that I really never thought we would get to this level. Honestly, with the economy still shedding, depending on which numbers you want to look at I prefer the real numbers, but, 263K jobs a month and credit contracting at a record pace and a whole host of other nasty things I could rattle off who would have thought we would be sitting at Dow 10,000?
I think it is safe to assume no one thought we would be at this point, even just a few months ago very, very, few people thought we could see the market at this level. However, now we are right back at the levels where we were right before Hell was unleashed last year and the S&P 500 is about to hit major resistance right in this range and the Dow will have reached its 50% Fibonacci retracement at 10,300, or so. Therefore, we are right at the peak of where the technical equity rebound can take us on its own and the weak dollar is horrible for the US for anything longer than a short-term basis.
I would have to say that after the weak dollar rally and the retracement has hit its peak we will need real substance to sustain this rally and it is simply not there. Without government stimulus and government transfers we have horrible GDP growth. Intel, as I have repeatedly said, was a story about Asia and a weak dollar, not about a US recovery. This is confirmed by Dell saying the US PC demand is still weak, but the pundit dismissed Dell and refused to look under Dell’s press release, so you are left in the dark unless you are doing your own homework.
Clearly multinational firms are going to do well, but how well are they really going to do? Johnson and Johnson missed on the top line and they are a well diversified consumer defensive company. It is my belief that we will see more weak top line revenue growth, except from firms doing business in Asia or have international sales, thanks to Helicopter Ben. I firmly believe that Banks are still bad bets because of the lack of mark-to-market accounting rules. I know, JP Morgan had markup’s today, please, when you can mark securities to fantasy land of course you’re going to have markup’s. What surprised me is they only took $400M in markup’s and not $4B.
With real estate still in the tank, which is reflected in every piece of data shown by the government and even industry shill’s, there is no way banks are making money on their real estate holdings. With commercial real estate defaults up 7 fold YoY to $22B, from $7B last year (the really “bad” year), how in the world are things better? Not to mention junk bond defaults which are projected to hit 14% in the near-term. I simply do not buy a V shaped recovery or even a robust recovery for that matter and this is most evident in the employment numbers, which is a leading indicator for credit recessions.
Retail sales are a joke considering some 8,400 stores were closed over the past 12 months, many of which were the worst performing stores I might add. So, if you dump your losers and keep your winners do you think your sales comps will go up? Hmm, I am pretty sure they will. Of course, was this advertised on any of the media outlets this morning? Nope. Do you really think another 530-550K initial claims report tomorrow is going to be bullish? Either do I, but I am sure this cost cutting method will be embraced by CNBC as gross margins will improve.
As much as I want this to be over, believe me I do since I suffer as much as the next guy, there is no way that it is. Declining income, declining credit, increasing defaults, rising unemployment, declining spending and then throw in shrinking corporate revenue that pretty much proves there is not much of a recovery. I admit the data is getting better, but nowhere near where the talking heads claim we are at for a recovery. Sometimes I sound like a broken record, but a rising stock market is not a reflection of a healthy economy. The other major misconception that needs to be never, ever, mentioned again is how great the market is at forecasting the economy, it is not and never has been, it’s a myth. Otherwise, in 2007 the Dow would have been at 7,000, not 14,000 and there are about 100 other examples.
The internet is riddled with rumors of the imminent collapse of the US dollar with time frames ranging from hours to months away. Now, there are legitimate concerns over the value of our currency and clearly the only thing that has buoyed its value is the entire globe has printed money on a colossal scale. However, we have certainly done more than most when it comes to printing currency with our super bailouts and mammoth stimulus projects.
The question is when will the dollar collapse? There is no real answer to this question and that is the beauty of free market capitalism. The one thing I can say is this, on the short-term I am probably more bullish than I am bearish on the US dollar simply because everyone and their grandmother is short the USD and if/when US equities head south people will run to the dollar for safety. Proof of this was last year when the markets crashed and we saw the DXY climb to the high 80’s. However, I don’t think we will see that type of rally again if we see the markets tank this time around because the fundamentals are far worse than they were last year and the dollar is far more diluted.
On a longer term basis I am very bearish on the dollar and I believe when we see the Chinese Yuan or RMB float or if we see the IMF SDR issued in greater quantities we could see the US dollar lose its reserve currency status. Those who think that this cannot happen need to learn their history as it happened to the British and many other nations in the past and the US is no different. Given our debt load and the current administration’s willingness to spend money like it’s going out of style, on top of our staggering existing liabilities, we are in serious trouble. Not only has that, but the rebalancing of central banks as of right now proved that they are not comfortable holding vast quantities of US dollars.
The question that remains is whether there will be an orderly or disorderly exit out of the dollar. This is a tough question for anyone to answer and there are a ton of variables to calculate in. For example, we have 2 wars that could escalate and possibly a third with, pick your axis of evil country, we could have another trillion dollar stimulus package, heath care reform could get passed and it could end up adding a trillion a year to the deficit, programmed trading could cause a precipitous drop in the currency and the list goes on. At this point in time I would say it is 51 to 49% in favor of a disorderly drop in the currency versus an orderly drop in the currency. Mainly because Ben thinks he can actually control the devaluation process, which no government in history has ever been able to do.
There is no doubt that this is a scary topic and that we should al be concerned about this issue on a longer term basis. Do I think we need to worry about this happening this month or year? No. However, this could happen within a 12 month period of time very easily, but again, I think it is unlikely. We know that the name of the game is supposed to be a slow devaluation of the currency, but, as I just said, no country has ever been able to actually control the devaluation process and with computerized trading this is more dangerous than ever. A few things need to happen before we see a total failure of the currency and as of right now these events are not happening.
For example, I often talk about the treasury bubble of the late 1970’s when the US suffered from inflation and dollar devaluation. There was a buying spree and a bubble in long-term treasuries and when Volker became the Fed Chairman he was charged with stomping out inflation. He did not know there was a bubble and let the market raise rates for him, which was odd, but it worked. Unfortunately, it basically almost put out of business most of the primary government bond dealers and led to credit controls. What it did was save the currency and stopped inflation cold, along with economic growth.
Many people familiar with that story seem to think we are close to that scenario today, effectively failed treasury auctions, which is not true. We have a long way to go and many more steps to go before that happens, but those steps could come fast and furious. Unlike the late 1970’s the dollar is falling a lot faster now than it did then, but the buying in the treasury market is a lot more fierce now and on the shorter end of the yield curve, unlike then when we saw it on the longer end of the curve. So, we will see what happens, but things move so fast in today’s market anything is possible and this boom bust economy cyclical period is getting shorter and much more severe. The signs are coming for a currency crisis, but not in the immediate future.
This debate has been going on for some time now with many very bright minds taking one side or the other. However, I think the answer is pretty obvious at the moment. There is clearly no demand in the system, regardless of the rosy picture CNBC paints, because we are still knee deep in tough economic times which means we have deflation right now.
On the other hand, deflation is probably not permanent because of the massive printing the Fed is doing. If you are in the camp that the US is in a recovery then what the Fed continues to do is the equivalent of adding a nuclear bomb to a fire, so clearly we are not even close to being out of the woods yet. I do admit things are better, but you would have to be a fool to say that the banking system is healed because nothing let me repeat that, nothing has changed.
The toxic assets are still there, defaults on all loans are sky high, foreclosures, the so-called catalyst of the problem, are through the roof and unemployment is still increasing. The banking system has not done one thing to reform itself and has done even less to change its ways, I mean come on they got a bonus last year and they are getting record bonuses this year. So, nothing has changed and that is the only reason that none of the trillions of dollars have not hit the peoples pocket yet, but they will eventually.
Even if those dollars do not reach the peoples pocket, it doesn’t even matter because we have printed so many of them and issued so much debt that we diluted the value of the dollar. While that means nothing at the moment, because we consume most of what we produce, the weak currency will eventually impact us in a horribly vicious way. Basically, a dollar devaluation means that you don’t even get the benefit of wage inflation which goes along with typical inflation. You simply wake up one day and your currency is not worth anything, just ask the Russians what it is like.
So, essentially, we have deflation now, but the Fed will screw it up and our government will never control spending, as illustrated by the soon to be voted on debt ceiling increase, which means we the people pay for it at the end of the day through inflation or a devalued currency. Since the Fed has shown it has no interest in defending our currency we might as well get used to the idea of a cheap dollar. At first a cheap dollar will be perceived as a good thing, as illustrated through higher equity prices, but longer term it means higher prices for commodities like food and energy.
Before too long commodity producing countries will demand a new settlement currency if the dollar remains too cheap for too long. What that currency is, I do not know. How long will it take to replace the dollar, again, I do not know, but I can assure you it will happen. However, we are not doomed to this future if the Fed decides to defend the dollar through higher interest rates or our government decides to stop wasting money.
If we take action now then we can remain the reserve currency of the world and fend off inflation or a devalued currency. If we do nothing, the likely course of action, we will head for the above mentioned future. Do not shoot the messenger it is just the way things are and if you think things will work out differently then tell me how. I would just like to remind you that Greenspan, Bernanke and every other expert missed the warning signs of the crisis to begin with and odds are very high that they will miss any real recovery.
In short, all the great minds will likely be right and we will suffer through both phases of deflation and inflation, although I prefer deflation any day. The only way to preserve your wealth through inflation will be through real assets like gold, silver, platinum and palladium. I prefer silver and palladium on valuation and as a recovery play, especially if you think we are already in a recovery, as they have industrial uses. I am not the only one who thinks that we are in trouble with our currency and our debt load, Julian Robertson seems to think, rightly so, that if the Chinese or Japanese stop buying our debt we are facing Armageddon, video below.
This seems to be a continuing theme for whoever is driving the markets to the moon, sell the dollar and buy equities. If you were watching today you would have noticed that oil, gold and stocks were trading down to relatively flat. Right about 12:00 the dollar started to decline which drove stocks and commodities higher.
This is a continuing trend within the markets and the primary reason why we have had such a dramatic rally. However, the reduction in buying power is not worth the trade off, in my opinion. If you are watching the news channels they attribute the markets turn on higher oil prices and virtually ignore the dollars plight, even though it is a weak dollar that moves oil. Why are they ignoring a declining dollar, I do not know, but they are.
There is really no reason for the market to be positive today as unemployment numbers were not very good, but, I guess, no revision in 2Q09 GDP was somewhat good news. Either way, we are seeing continuations of a very tired bull market were the likes of AIG, Citi, Fannie and Freddie are the market leaders. While the talking heads applaud this move I am reducing my equity position to 7%, down from 25%, most of which is international holdings.
Frankly, we are setting ourselves up for a most painful selloff which I am choosing to not participate in. I do not know when it is coming, but it will come and I am sure it will be brutal. The likes of Mark Haines seem to think that my view is very bullish for stocks, maybe it is, but I consider my view to be balanced with the data on hand. The data I see is horrible, frankly, and when AIG and Citi, both of which heavily owned by the government, are the market leaders then we have a serious speculation bubble building.
Examine the chart below, the data at hand and make your own call. I am sticking with the call I made 3 weeks ago, which we are barely 2% higher than now, of a market top. Of all the people I have spoken to, no one understands why we have not sold off yet and, perhaps, we will not. Until earnings catch up with valuations or valuations trade down to earnings I am very bearish on equities.
The markets and economists are thrilled with the reappointment of Ben, but is this just another case of irrational exuberance? I think so. His policies are too similar to Greenspan and he made some very horrible mistakes which will eventually cost us. However, I will concede he did do some things right and because of this I think you can make a case of or against Ben being our Fed Chariman. However, the one thing that bothered me about Obama’s speech today was his consistent reference to an independent Fed, more on that later.
What Ben did wrong
Starting in 2003 Ben had been a strong supporter of cheap money and endorsed Greenspan’s policies, which earned Ben the nickname Helicopter Ben. There is no way anyone, who takes a rational look at the policies of the Federal Reserve in the early 2000’s, can say no one could have foreseen the problems we have today. Time and again lose money policy has created bubbles, this is no surprise, and this last bubble was the bubble of all bubbles which the Fed is completely responsible for.
The Fed has also become more of a market appeaser than the organization that is supposed to manage our money supply. What I mean is that the Fed adjusts interest rates based on what the market wants, versus what it should actually do. The economy and the markets are totally different and have to be managed differently. Going back to the 1990’s the Fed has been increasing liquidity and doing everything it could to increase credit to everyone, whether they deserved it or not. The Fed cannot create credit, but it can make money so cheap that banks can afford credit losses and that is exactly what happened until cheap credit made its way to mortgages.
A perfect example of how the Fed is more accommodating to the markets than the real economy is when the Fed started raising interest rates in the 2003 area companies like Ford came out crying. The Ford CEO said interest rates need to be lower so they can sell more cars at zero interest rates. What happened, rates leveled out for a time when they should have been much higher. In fact, one can argue that the Fed raises and lowers rates at the wrong time frequently. There are countless other examples, but clearly the Fed is more interested in keeping securitized loans going instead of the old fashioned types of loans that actually stay on the books of banks.
In 2007 Ben said that sub-prime is contained and that there is no problem with the mortgage market, Cramer said the same thing in July of 2007, just practicing full disclosure. However, in August of 2007 the Fed knew there was a problem and started putting hundreds of billions into the overnight market. Either he lied to us or he just felt as though adding liquidity at that level was just a good thing. Regardless, August of 07 Ben should have been adding special liquidity features then, but he waited. In fact, he continued to lie to the American public about the real problems we faced. They knew then the problems that we had, I knew then, but Ben either ignored them or thought he knew better. Perhaps it was a political move to show how good the Federal Reserve is for the economy when they fixed the very problem they caused.
Now we have a $2 trillion dollar Fed balance sheet, expected to grow to $4 trillion, and the Fed is now playing all sorts of games. For example, they moved many of the troubled securities from private banks to, essentially, the government’s balance sheet. We also see some more strange events, like a nice ‘other contract’ section to their balance sheet which, presumably, is some sort of derivative product they have taken on. The question is, if these are derivatives what happens to our country if they blow up?
Finally, we have the monetization of debt that the Fed had started with its quantitative easing program. Monetization of debt is the worst thing a country can do and is a signal that they do not believe others will buy their debt so they buy it themselves. This will eventually create inflation, but in the meantime it destroys the country’s currency, look at the DXY for an example of this. The Fed has also started playing games here as well with having primary dealers sell them new issue treasuries from the last few auctions we had. This artificially boosts demand and keeps the market happy, but, again, is terrible for the currency and a sign that other countries are considering cutting us off.
A case for Ben
He came in and created several innovative programs to fix the mess that they caused. There is no doubt that TALF and other programs have helped improve the economy. I cannot take that away from Ben, but would we have even needed to be saved if the Fed had acted responsibly over the last 20 years? I think you know the answer to that question. However, the Fed did step up with these innovative programs and zero interest rates, but this is likely to create more problems in the future.
Frankly, other than the innovative programs he started there really is no case for him to have a job. There is one exception to that statement, with Ben we know what we are getting and he might be able to know when to stop the programs he started. If we got a Larry Summers, thank God we didn’t, we would have no idea what his policies would be. The unknown is a major problem which is why, in my opinion, Obama is keeping Ben. Since Obama is already moving drastically away from traditional policies if he threw another unknown into the mix he could have a major issue if things blew up. Ben was a safe option for Obama. The reappointment comes on the heels that the Obama administration still has no clue how bad things were, or are, in the economy and that they cannot do math correctly with the projected deficit error that they made earlier in the year.
What I think
I think Ben should have been fired and the Fed needs to be rolled into the treasury department, it is really that simple. Keep all of the governors the Fed has, but if they are a government organization then they would actually be held accountable for their actions. That, of course, would never happen, but I like to think that it could. The Fed has outlived its usefulness and has caused all of the booms and busts we have ever had, why do you think we had the Great Depression in the 1930’s and not in 1907?
Frankly, we will never really know what the Federal Reserve is up to because they do not show anyone their books. The ‘other contract’ column for example, what is it and what risk does the Fed hold on its balance sheet? We don’t know because they do not and will not open their books. When asked who received TARP funds the Fed refused to divulge who got what because it would ‘jeopardize the firs reputation’ or some nonsense like that, that is about to change as the Fed lost the FOIA lawsuit Bloomberg filed.
The point is we know very little about this very privately owned organization that controls our money. Rolling up the Fed under the Treasury Department makes perfect sense because we will know everything that is being done and banks will have the lender of last resort. This is the 21st century and we are still under the 20th century monetary policies which is absurd.
As a nation we can no longer continue creating credit bubbles and have a monetary policy that has caused the dollar to lose 95% of its value since 1971. I am not saying a gold standard or anything like that, but how about a monetary policy that does not cost us any interest to print any money. The problems with the Fed will continue and, perhaps, get worse if Obama gets his way and grants this private organization more control over the financial system. Why would you give a failed organization more power? I guess this is what we get when we elect lawyers to represent us.
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