Merry Christmas friends…
Since my return to the States I’ve fielded numerous questions as to what the camps were like, are the rumors of torture true, and if i was able to waterboard the detainees. While in Guantanamo I had the distinct privilege of touring the camps under the guide of the camp’s Deputy Director. My experience was quite impressive and I plan on writing up something later this week.
-lw
December 20, 2008
Hola One and All,
I love my missive audience. My experience has been that you all certainly like to speak your minds. Last week, I received a message from one of my long-time friends, Barry, who politely, yet firmly, said words to the affect of, “G-dammit Zanetti, cut with all the philosophical #@&%# in your missives and tell me what is going on in these &*^%$# markets!”
Barry is an ex-fighter pilot. Can you tell?
Thus, this week, I will acquiesce to Barry’s gentle nudge and “get into the weeds” to talk about the forces that are driving the markets in such a helter-skelter manner. High-brow themes and waxing-eloquent will be replaced by numbers, jargon, and heated debate. As officer Joe Friday used to say in the old Dragnet series, “Just the facts ma’am, just the facts.”
Signed, Your Ears-Are-Still-Ringing-But-His-Face-Is-Still-Smiling Soldier,
Greg
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“Just the facts, ma’am. Just the facts.” Joe Friday
“Fact is stranger than fiction.” Robert Ripley
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Over the past several weeks your humble missive writer has taken an Air Force view of the world and addressed our economic situation rather philosophically from around 30,000 feet. And while seeing the big-picture can provide framework from which to draw conclusions, there are times when you really need to understand the details of the terrain. So today, we will look at things from more of an Army perspective and examine what the economic situation looks like on the ground.
To begin, most Americans get their economic news from TV, radio or the internet. The media have gotten very good at providing current news to the public quickly…and relatively accurately. What the media struggles with, however, is the cumulative effect of all of those “breaking news” stories.
Lost in the day-to-day urgency of the next bailout is what our government has committed to over the past 18 months. Here is a quick snapshot (yet, not all inclusive) list of what our government has agreed to do in an effort to stem our current economic woes: (courtesy of Jim Puplava, financialsense.com)
$1.8 trillion for Commercial Paper
$900 billion for the Term Auction Facility
$600 billion for Finance Company Debt Purchases
$540 billion for Money Market Funds
$301 billion for Citigroup bailout
$250 billion for Term Security Lending for collateral
$200 billion for Credit Card and Business loan facilities
$123 billion for AIG bailout/loans
$92 billion for Discount Window borrowing
$62 billion for Commercial Paper program #2
$29 billion for Bear Sterns bailout
$118 billion for Secondary Credit Programs
$10 billion for Overnight Loans
$1.4 trillion for FDIC Loan Guarantees
$139 billion for guarantees on GE Capital
$700 billion for Troubled Asset Relief Program (TARP)
$168 billion for 2008 Stimulus Package
$50 billion for Treasury Exchange Stabilization Fund
$29 billion for Tax Breaks to Banks
$300 billion for Hope for Homeowners
That comes to nearly $8 trillion. To put this in context, the entire economy of the US is roughly $14 trillion.
In fairness, the total above is what is committed to be spent, printed, or borrowed. Not all of these funds have been employed; at least not yet. Still, even with some money in reserves, there is more “stimulus” on the horizon. The Obama Transition Team and Congress are working on additional spending programs ranging from $500 billion to $1 trillion. Beyond this, the Federal Reserve has committed $7.4 trillion to “back the economy.”
Those are the facts ma’am…and now the debate begins regarding the subsequent consequences. According to the late great American economist, Milton Friedman, there is a 99% correlation coefficient between growth in the money supply and inflation. In short…no money, no inflation. Print money, reap inflation. You see, economics isn’t that hard.
But not so fast…deflationists are arguing that money is being destroyed as fast as it is being created…maybe even faster. Oil, stock, and home process are collapsing. Shipping and retail are slowing to a crawl. Global recession (maybe even depression) is in the offing…if it isn’t already here.
From the deflationist’s perch, if there is no velocity on money, you can’t have inflation. Increasing money velocity begets inflation, not volume of money. Slow velocity, no inflation. So, you see, economics isn’t that hard. Everyone just disagrees with everyone else. That’s why economics is called the dismal science.
All of which brings us to the Believe It Or Not part of our situation where, “fact is indeed stranger than fiction”. Things that shouldn’t happen are happening.
For example, last week we actually saw interest rates go negative on Treasury bills. Meaning, if you loaned the government $100, the government promised to pay you back $99.75. Who in their right mind would make such an investment? The only reasonable explanations are:
People are so scared, they will take assured small losses vs. possible big losses or… Big-money is using margin accounts to “stay liquid” in the event of mass redemptions and a small negative return on T-bills acts like an insurance policy in the event of a “run on the bank.”
Either way, negative interest rates are exceptionally rare and certainly an argument for the deflationists.
Oil is also trading in a rather odd way. To better tell the story I will defer to John Mauldin from frontlinethoughts.com. (You may have to read the following paragraphs a time or two to “get it,” but it will help you understand why crude oil prices and prices-at-the-pump don’t always move in unison.)
The oil market is said to be in contango. The definition of contango is: “A condition in which distant delivery prices for futures exceed spot prices, often due to the costs of storing and insuring the underlying commodity. It is the opposite of backwardation.”
This morning West Texas Intermediate January oil futures prices were (courtesy of Dennis Gartman) $45.80. This rises to $52.28 by just April. A few day’s ago, Dennis reports, the spread between the first and fifth futures months had risen to $8.06, the highest ever. When oil was at $147, the spread was an average of $3.25, or about 2.5%. You can buy January 09 crude futures at a stunning 34.5% lower than January 2010.
That means if you could find a place to store that oil, you could lock in a guaranteed 34% profit, less the cost of storage. Sounds like easy money. This is just something that shouldn’t be.
What all this is telling you either:
- Storage for oil is very tight, and/or
- The world economies are so slow, oil is going into glut status.
Either way, it’s another arrow in the quiver of the deflation camp.
Hoooooowwwwwweeeevvvvveeeerrrrr, before you jump headfirst into the deflationist pool and put all of your money into cash, the gold and commodity markets are screaming another message. Commodity prices are reversing course and heading north again. That is usually an early indication of inflation clouds on the horizon.
Then there is gold; and gold is historically the canary-in-the-coal-mine for future inflation.
You see, in technical terms, gold is also trading atypically. When gold is traded, future prices are usually higher than current prices. This makes sense since the seller-in-the-future wants some guarantee of profit in consideration for the risk he is taking by locking in a future price for you today. Starting in early December we began to see the opposite.
Gold is now trading in what is called “backwardization,” meaning the current price is more than the future price. Think of it this way, it is as if a 3-month CD were paying 4% interest and a 3-year CD were paying 1% interest. That makes no sense, but such is the case with gold now…current gold is worth more than future gold. Why?
There are only two reasonable explanations:
- Inflation advocates “see what is coming” and are hoarding gold, and/or
- There is a supply crunch, and people are saying, “I will pay you extra now, because I don’t believe it will be available in the future when you say you will deliver.”
So when you put all this conflicting data together, what is Mr. Market really telling us? Which way will it go? Inflation, or deflation, or both?
I believe probably both. In the short run, it will appear that deflation is holding sway. It is a trap. Every inflationary period in history has been preceded by a whiff of deflation.
Beyond this, no one has yet been able to explain to me how falling prices destroys money. Just because home, oil, or stock prices fall doesn’t mean money was destroyed. It just means homes, oil, and stocks are cheaper to buy with all the money that has been printed.
Still, discerning fact from fiction is difficult. There are so many competing messages from so many “experts.” It’s not just doing the right thing…it is also knowing what the right thing to do is. That is why investing is so hard.
For those of us old enough to remember, it makes us nostalgic for the simplicity of Dragnet and Joe Friday. After all, wouldn’t it be nice, if when an “expert” appeared on TV an announcer said, “The story you are about to see is true. Only the names have been changed to protect the innocent.”
Much has been said concerning the so-called ‘Car Czar’ and the auto bailout. Clever blogsters started calling it the ‘Failout’ while many in the media are proclaiming the auto industry as ’simply to big to fail’ (I’m sure the Romans, Mongolians and Ottomans would love to sit and listen to that line of reasoning).
One thing is certain, the absurd amount of money (Bloomberg reports the actual amount of promissory notes is now over 7.7 trillion dollars) being printed with the express intent to debase our currency and redistribute moneys, is achieving something early American Communist groups could have only dreamed of… the nationalization of the United States’ sacred cow, the industrial sector.
While you may or may not support the auto bailout plan, what has to frighten you as a tax-paying citizen of a country, which forcibly promotes democracy to other nations, is how the democratic process is thwarted, even turned on its ear.
News out of Washington states the Whitehouse will now take strides to ‘act in the interest of the country’ and assign TARP money to the failing auto companies, since Congress hates America (the obvious and obnoxious sarcasm is my own.)
Such a brazen disregard for the one thing we say separates ‘us from them’ is atrocious. Words much stronger might have been offered up years ago, but we are a more distracted country now, and more interested in the Thursday night line-up on television or viral videos on YouTube. Sigh.
I suppose one can only pay the piper and join in. Thank goodness for Congressman Ron Paul, perhaps the last bastion of hope for freedom loving Americans.
December 10, 2008
Hola One and All,
On most military posts, officers with the rank of colonel and above often have preferred parking spots directly in front of places like the PX, the Headquarters Building, or the Officers’ Club. If you’re not careful, these little perks can go to your head.
Thank goodness there are women (usually wives) who pop our inflated egos. One day a few months ago, one of our colonels got a little too prideful for his wife’s taste. As he pulled into “his parking spot,” Martique turned to him and said in her lilting southern drawl, “Honey, I love you and am proud of you, but until you have a reserved parking spot at Wal-Mart, I am not impressed.”
All of which leads us to this week’s theme of flattery. We all love it. We all soak it up. We all get fooled by it. Leaders are especially susceptible to it. Believing in flattery can lead to very bad military decisions, awful economic policy, and horrible investment advice.
Thus, this week’s missive will draw on the wisdom of an ancient Nordic King who had some humility and knew the limits of his power. I hope you find it interesting and edifying.
Signed, Your Drives-Around-Wal-Mart-Looking-For-A-Parking-Space-Just-Like-Everyone-Else Soldier,
Greg
Around 1026 AD, Viking King Canute (originally spelled Knud) was sitting on his throne when his courtiers came to him and told him that he was, “So great, he could command the tides of the sea to go back.” This bothered the king, so he ordered some of his servants to take his throne to the seashore. At the shore’s edge, and with all of his staff around him, King Canute seated himself on the throne and ordered the tide to recede and the waves to stop crashing.
His point was made. He demonstrated that he was not all that powerful. He chided his staff for false flattery. There were forces in the universe far more powerful than he, he opined.
I like King Canute. He had humility. He knew his limits.
So what does this have to do with investing?
Just as there are immutable laws of nature that cannot be overridden by the decrees of man, there are immutable laws of economics that cannot be altered as well. No matter how hard we try, busts follow booms, pessimism follows optimism, and fear follows greed. Things cycle. Things balance.
This is why a “light-hand-on-the-tiller” is sometimes the best remedy for an era of “doing something.”
This is a hard concept for most Americans. We are people of action. Letting things run their natural course is counter-intuitive for us in difficult times. Yet, some of our best leaders knew when to not interfere.
For example, historians often criticize President Eisenhower for not doing enough. Yet, in the 1950’s, Ike presided over a growing, prosperous, and peaceful nation. He knew when to leave well enough alone. He knew that over the previous two decades the Axis powers had done a lot of “something.” DDE instinctively knew a period of governmental calm was key to healing the wounds of WW II and Korea.
As an aside, imagine how much happier the world would have been had Hitler, Mussolini, and Stalin adopted the same philosophy.
Anyway, bringing this concept forward to today, it is clear that in the previous economic era we did a lot of “something.” (And no, I am not comparing anyone to Stalin and Hitler.) Government, Wall Street, and the Federal Reserve are all to blame.
Government’s “something” was nosing its way into the housing markets via FNMA and Freddie Mac. A large reason behind the sub-prime lending crisis was the existence of Freddie and Fannie in the first place. Very few ever bothered to ask why government should be in the mortgage business.
As one would expect from a political entity, the politics of Freddie and Fannie distorted the natural, self-correcting forces of the markets. The result was greed, opacity, deception, and fraud. Thus, if today we were to choose to let things run their natural course, Freddie and Fannie would fail. Good. Why reward a failed concept?
Instead, we are doing the opposite and in greater measure. Not only are we papering over Fannie’s and Freddie’s failures, we are nationalizing the banking industry as well. If government can’t profitably run AMTRAC, the Postal Service, & FNMA, why would we expect them to run banking efficiently?
Unfortunately, government is not alone in its desire to do something. Wall Street’s “something” was the creation of exotic (and toxic) investment products that had no basis in reality. Wall Street created faux-wealth via leverage, and then marketed this so-called wealth using hedge funds. They tried to reach into the future and bring “profits” into the present…all at the expense of the next generation I might add. They succeeded for a while, but the whole concept was inherently immoral and doomed to fail.
Allowing market forces to work would ensure the management, shareholders, and bondholders of CitiGroup, AIG, Goldman, JP Morgan, et al would suffer the consequences of their actions. That is as it should be. Instead we are doing “something” called bailouts. This will effectively transfer the pain to the American taxpayer…both present and future.
This brings us to the Federal Reserve where “doing something” has proven to be exceptionally harmful.
In 2001, recession was on the horizon. It was overdue and needed. The exuberance of dot com had to be purged. The Fed Chair at the time, Alan Greenspan was determined that he could do something to stop the inevitable. He dropped interest rates to artificially low levels and pumped the system full of liquidity. In an attempt to save the stock markets, he inflated the real estate bubble.
Had he not interfered, the recession would be in our rear view mirror and we wouldn’t be dealing with the crises we are dealing with today. The system would have corrected itself. Doing something delayed and exacerbated the problem.
Today, we see the current Fed Chair, Ben Bernanke, following the same script. He, too, is determined to do something. Helicopter Ben (he is called “Helicopter Ben” because he promised to drop money from helicopters to get the economy moving) is now proposing to drop interest rates to zero! Plus, he recently announced his plan to back the economy with $7.4 trillion of printed money. This punishes the savers and the responsible members of society who will see the product of their hard work debased.
If home prices were allowed to fall, average Americans might once again be able to afford them. Beyond this, speculators who got greedy and decided “flipping houses” was the way to easy wealth, would learn their lessons and move on…chastened, but smarter.
Instead the Fed Chair is proposing that taxpayers (again, both present and future) pay the price of others’ profligacy. It’s not right; and the ones who will suffer the most are the ones who have no voice in the debate.
You see, we are committing our children to pay for these “fixes”. They are not old enough to vote or to enter into contracts, but we are obligating their future income streams to higher taxes. We are also burdening them with more debt and sentencing them to lower standards of living. All of this so our generation doesn’t have to suffer the consequences of our actions.
All of this begs the question, “Why?” Why do good, decent, well-intentioned people do such things?
I think it’s because we don’t have many King Canutes left. In many ways, those coming to ask for the bailouts are like Canute’s courtiers, “You must do something!” they say. “You have the power to save us from ourselves!” they urge. “Everyone, even the innocent, will suffer if you don’t act now!” they cry. It is all very flattering to those in power. “I can do something!” they think. “It is up to me to save my people!” they announce. “Maybe they will name the airport after me!” they daydream. In reality, they might as well be telling the tide to recede and the waves to stop crashing.
Truth be told though, there is no political downside to “doing something;” and the politicians know this. If the “something” fails (or makes matter worse), at least they can say they tried. It takes a leader of remarkable strength to refrain from compounding a problem. It also takes a leader of exceptional skill to explain why restraint is the best path.
Therefore, if you are looking for clues about the direction of the markets (and the nation for that matter) watch the nightly news through the lens of King Canute. If you see leaders who have the courage, humility, and strength to recognize the limits of their power, then the Canutes are winning. You should then be optimistic and prepared to go back to mainstream investing.
If, however you watch the nightly news and start kicking the sofa and screaming at the TV, “What are you guys doing!? Are you nuts?!” (Uhhh, not that I ever do that or anything), then you believe the Canutes are losing. Pride and hubris will still be dominating the political and economic landscape.
In that scenario, keep your powder dry. Hunker down in the low-tech tech investments that are like the tides…the ones that historically can’t be stopped. Oil, gas, food, gold, silver, coal, etc. may recede for a time. They may even coincidentally recede when the leaders hold out their hands to demonstrate their power. Still, these investments will be like the tides, they will come back and wash away at the feet of the earthly throne.
I begin this blog to hopefully spur ideas and foster some honest and thoughtful debate. The point of debate is not to ‘win’ rather to delve deeply to the root of truth. With the simple mantra of ‘let truth prevail’ lets begin…
