Alan Moore Commentary: 2011

Thursday, December 29, 2011

Alan Moore Commentary 1-1-2012

Christmas was here last week and it wasn’t any different this time. People spent heavily on bargains trying to manage their credit card deficits, which doesn’t say much for profit margins in the retail sector. Here is one story about that.

A wife shopping at the mall on Christmas Eve suddenly noticed her husband was not around and she became upset because he had the credit card. Agitated, she called him on her cell phone and asked ominously: “where are you?” The husband in a calm voice said, "Honey, remember the jewelry store we went into 5 years ago where you fell in love with that diamond necklace that we could not afford and I told you that I would get it for you one day?" His wife, with tears in her eyes, said, "Yes honey, I remember that jewelry store." He said, "Well, I'm in the bar next to it."

In the Economist magazine on December 3^rd was an article called “President Newt”, insinuating that it could happen, given the failure of Obama to turn the economy and deficits around like he promised. Until he got to Iowa, Newt grew in the polls like an E. coli colony on hamburger at room temperature; but in the past, he has always shot-off at the mouth one too many times with a grandiose intellectual idea, like firing all the janitors in the public school system to reduce spending. It will probably happen again, as his PHD gets in the way of his common sense when he gets aroused----he reverts back to his history of temper tantrums and wild accusations. No matter who wins the Republican nomination, Obama will win the debates and the election as long as the economy is still standing at 2%+ growth next November.

Who wins the election really depends on whether we go back into a recession or not and on the unemployment rate: if it is under 8% Obama will win; over 9% and he will lose; in between 8 and 9, it is up for grabs; and the Republicans lost their grip when Obama won the 2-month, payroll-tax-extension bill. Soon, in two months, they will get a chance to get it back, but I wouldn’t count on it. The Republicans are getting played: if they keep approving 2-month extensions, they will appear weak and disorganized going into the election. If they block the payroll tax cut, they will lose the election, because the 160-million, affected voters will not appreciate the tax increase. Obama would love to keep the payroll issue in the headlines every two months going into November, because he is on the winning side of the argument, politically, if not financially. The Republicans have boxed themselves into a no-win situation trying to nix the Democrat’s proposed tax on millionaires to pay for a permanent payroll tax cut. Do you really think the average voter cares about what happens to millionaires?

At the beginning of 2011, the smartest on Wall Street did their forecasts; Goldman Sachs predicted the S&P Index would be 1450 by year end and it will come in around 1250, actually about the same as 12/31/2010. Predictably, no quant really knows much about the future because the models are based on current data melded with historical averages by assumptions, like steady corporate earnings and interest rates. Actual events occurring in the future usually cause the models to miss by a wide margin; albeit, math can only tell us how far the market has strayed from the mean, not what it will do in the future. So having some idea of the market-shaking events that could occur next year is more important than figuring the DOW is at 13 times earnings today and the historical average is 15, then making the call that it will probably rise next year and gravitate to the mean. The flip side of a “probable rise” is the risk that it won’t. Therefore, I will give you my thinking on the negative and positive events that could ruin the Wall Street predictions next year, whatever they may be.

Negatives in order of importance:

1. A banking crisis in Europe created by a Greek default or collapse of the Union.

2. Recessions in Europe and China which cause a recession or slowdown in the US economy

3. Congress continues to fiddle while the deficits burn up our credibility.

4. Military action against Iran which would destabilize the oil market (or Saudi Arabia has trouble).

5. A trade war with China or perhaps North Korea does something stupid.

Positives:

1. Consumers are continuing to spend and support the economy.

2. France and Germany have at least agreed that they cannot afford to have the Euro fail.

3. Employment is improving, although very slowly.

4. The stock market has proven resilient through the deficit crisis in August and the Europe thing.

5. The banks have improved their capital ratios and could withstand a European bank crash; or at least the Fed would come to their rescue with more quantitative easing.

I have listed 5 good things and 5 bad, which is as fair-and-balanced as you are going to get from me. I saw it that way at the beginning of 2011 and stayed out of the market because I can’t afford a “balanced risk”. Due to my risk tolerance, I need to have the odds in my favor to invest, and the only thing going my way is foreclosed real estate; so I’m currently buying residential property in Orlando and renting it out. Therefore, I had no return on my portfolio for 2011 (being in cash), but neither did the S&P Index to speak of------------in lieu of paltry alpha, I am not going to change my investment plans in 2012, unless the list of negatives gets smaller and the positives remain positive. In my limited experience, successful investing is primarily a qualitative decision, not a quantitative one. Hence, the macro-economic climate it the first thing to consider before you even get to figuring out which stocks to buy. Complicating the process is the development of the global economy: not only must you determine the potential GDP growth in the United States, but also in Europe and Asia due to the impact they have on our markets. Stock picking is the easy part because it can be done by the numbers gleaned from financial statements; at least an accounting firm passes on them before they are reported. Government reporting comes out of a black hole and is less reliable; you have to ignore a lot of it and just develop a feel for the economy. I feel like it is not getting better, nor is it getting worse----------- albeit, staying the same is as good as it gets in 2012. The Dow has been in a range of 10,500 to 12,600 for more than a year and I don’t expect that to change: a year-end rally has taken it near the top, but I don’t see a breakout coming any time soon. We were at the top the same time last year and what we got were large swings as Europe waffled, politicians bickered and recession fears waned and waxed. So what’s new now?

For the past four years, the Federal Reserve Bank has distorted the markets using manufactured low-interest rates: therefore, bonds are in a bubble, commodities have been inflated along with stock multiples; all done to save us from more debt liquidation and the resulting bankruptcies. To put that existentially, capitalism without bankruptcy is like religion without hell. You can’t have one without the other.

Successful investing requires the discipline to take only the quality setups and the patience to wait for them. The long-only investor must protect precious capital via a 100% cash position until an obvious opportunity comes along, and there is no specific time period for which the cash position should be held. Cash may be boring and unproductive, but it is safe; and about every ten years an economic storm appears. America had one in 2008 and now there is another brewing in Europe and we are connected by a river of loans, credit default swaps and Fed bailouts. The time to invest is in the eye of the hurricane, because by that time most of the damage has been done---- the eye hasn’t passed over Europe yet, but it will; not to mention what is happening in China, which will take another six months to see eye to eye.

Finally, here is a video I found on Marketwatch that goes for about 10 minutes on retirement and risk taking. It is different from the mainstream advice that a person should invest in stocks for the long-term for retirement. I have always thought that you should invest according to the risk you can afford to take and skip the idea that stocks will make you rich if you hold them over the long term---maybe they will and maybe they won’t----the “maybe” is what risk is. Therefore, I think your portfolio should be looked at as insurance against running out of money to live the rest of your life in relative comfort; only amounts over the necessary amount (the corpus) can safely be used to speculate in the market. A significant portion of the corpus should only be put at risk if the odds are heavily in your favor, like if the DOW fell to 8 to 10 times earnings as it did in 2009.

http://www.marketwatch.com/video/asset/dont-risk-your-retirement-in-the-stock-market-2011-12-28/0096CECA-69B2-4CD8-B402-F51586E397A4?siteid=bigcharts&dist=bigcharts

Wednesday, November 30, 2011

Alan Moore Commentary 12-1-2011

What follows is my pontification of the daily emails I send out, which results in a much shorter monthly commentary. If you want on the email list, email me:

alanm@slavic.net. Ditto if you want off. I realize that some of my comments are hard to take.

The markets will go way up today, because our Federal Reserve Bank and the European Central Bank agreed to loan to each other, commonly called a swap arrangement, which will facilitate the ECB in buying PIIG bonds in the market place. Recently, private investors have been fleeing the European bond market. This just means the United States tax payer, along with Germany, will be on the hook for Greece, Spain and Italy’s deficit funding next year.

Italy needs to raise 340 billion Euros next year in the bond market, and the European Stability Fund only has 250B Euros left in it, with austerity strings attached. Spain will need E40 billion by summer and Greece will need about half that. Will the European Central Bank supply the cash to do this? Will the IMF? Will investors buy the PIIG bonds with guarantees attached? Here is the joke of the day: A Spaniard, an Italian and a Greek go into a bar. They drink until dawn. Who pays the tab? The German.

But it’s no joke to us: remember that thirty percent of the earnings from American companies listed on the S&P stock exchange come from Europe. If the Euro goes down, we won’t be selling them as much stuff. It is that simple. For example, General Motors sells more cars in China and Europe than it does in America; and Congress is planning to sanction China and impose a 15% duty on Chinese imports? Who do you think will win that trade war? Who is going to finance our deficit next year if we piss off the Chinese? Isn’t it obvious that France is headed for a downgrade? If Congress tries to thwart the automatic 3% cuts in 2013, we will also get another rate cut.

The hope in Europe that technocrats are now in charge of Italy, Greece and Spain is based on the expectation that their problem is a financial one; it is not. It is entirely political: the same goes for the United States. The financial solution is clear: reduce spending and balance the budget and pay the price, which is a severe recession; and there will be no “job creation” with either tax or spending cuts. Two bank tellers and a dogcatcher in a room for two hours could easily fix the deficit, but the voters are the real power and they believe the politicians are on the side of the banks; that the austerity they will bear will solely benefit big business and corrupt government bureaucracies, with their inflated pensions and pay, and their insider stock trades. The real problem is that the politicians have lied for years and now must confess the truth. In Italy’s case, it is not competitive and has spent too much because the bill has been financed by the bond market--- and from now on it won’t be. There can be orderly change, or there can be revolution, but it won’t alter the economic outcome. Politically, the leaders need to convince the people to go along with the strife required to balance a budget; that this will ultimately benefit them, not the banks, nor the unions, nor special interest groups. Sidestepping the issue, Congress will ride their indecision into the election next year, each party blaming the other for the mess; so we have a Kim Kardashian government—good for nothing but the butt of a joke. Like Kim, the butt keeps growing.

If the Republicans agreed to a tax rate hike next year, with the promise of spending cuts over the next ten years by the Democrats, for sure taxes will go up and Congress would find a way of revoking the spending cuts, leaving us with just higher taxes. The same thing happened to Ronald Reagan in 1982, 1983 and 1986; he raised taxes, but the promised cuts never came from Congress; he was duped. A deficit deal mandating that a tax hike would be in effect in the following year, of a real spending cut that happened in the current year, would work. Whether it is dollar for dollar, or one dollar in tax increase for every three dollars in spending cuts is not the critical issue; the timing is. As Reagan used to say about his disarmament treaty with the Russians: “Trust but verify”. I would trust Congress to make the cuts in the future, but I would verify that they actually happened before giving them more money to spend. No Republican or Democrat has proposed this, but it would be a credible deal the markets would like; it could even balance the budget eventually.

Instead of a deal we could trust we got a hung “Super-committee”, which turned out to be a contradiction of terms, like Kardashian-class. As stupid programs dealing with the shadow recession continue to emanate out of Congress, I have come to the conclusion that we should appoint a financial dictator for one year to assume absolute authority for fixing our economy and deficits: Paul Volcker comes to mind. There is precedent for this in Roman history, so Italy should try it first, by disbanding their corrupt Parliament and making the politicians tour guides to put them in touch with the rest of the people. In the old days, in times of war, the Roman Senate would appoint a dictator to take control of the government and national defense---- Endless squabbling over what to do is ineffective in a crisis, and democracy is breaking down everywhere leading to paralysis. All we get is empty promises, like a Kardashian wedding: Perry is so filled with conviction about reducing government spending that he can’t remember the departments he is going to cut. Newt Gingrich’s plan is to “Get America back to being America”; whatever that means----- Martini-eyed Newt would even fire all the janitors in public schools just to prove his ingenuity and resolve in cutting spending. Ron Paul wants to get rid of all government agencies and make the laws, state by state---although we had it that way before the civil war. He also wants to make friends with Iran not war: if that isn’t as un-republican as it gets. On the other front, the Democrats are rallying around Obama and Pelosi who never got a tax-dollar they didn’t want to leverage 100 to 1 into a subsidy or another government program, and they desperately need to raise taxes because they are only up to 80 to 1, and there is a lot of pork to go. Whether it is Republican or Democrat pork, I think the most overused pork-getting phrase today is “job creation”………. and neither party has a clue how to do that. Even those immortal words coaches utter when their players take the field----“Let’s play ball”------will never mean the same after Penn State; not to mention the advice Joe Paterno once gave to his star quarterback when he got 4 Fs and D: “Son, it sounds like you are spending too much time on one subject.” We deserve better leaders. We deserve better voters. We deserve a balanced budget; that is my American dream, but I don’t want to spend too much time on one subject.

Finally, I want to explain why the European Union is destined to fail. Imagine that America joined the European Union and gave up the dollar for the Euro. That would widden the Union but how would we finance our deficits? For the sake of trade with Europe, we would forsake the ability to print money. Our deficit is 9% of GDP which is the same as Greece, and Germany with a 4% deficit would never let us keep spending like a super power; but shouldn’t a super power be able to have super-high debt? Nein, the EU (Germany) would say and issue us an austerity budget mandate. Politically and economically, there is no way we could go from a 9% deficit to a 3% deficit in one year or two, neither can Greece, Italy, France and Spain---- so they all will say “ja” to austerity and take the money and hide their real deficits with creative accounting, at least until the market finds out. No matter what happens, world sovereign debt will continue to pile up for the next five years. At least we can print money and balance rising inflation with recession. Would you rather have 5% inflation and 1% growth or zero inflation and a 5% contraction, because those will be out choices when our national debt hits 140% of GDP in five years; the numbers could get worse if the debt grows faster. Every member of the EU is facing those choices now, as the Union continues to collapse. Politics control budgets, budgets don’t control politics: that is the fundamental problem with the European Union---it is only a financial agreement on paper and the voters will tear it up when they feel the cost, which is higher unemployment.

Monday, October 31, 2011

Alan Moore Commentary 11-1-2011

AS you have noticed, almost daily I send comments out to those on my email list and the monthly commentary is also posted on the Blog, alanmoorecommentary.blogspot.com. If you do not want to be bothered with the emails, email me to take you off the list. alanm@slavic.net

The first important economic thing is that we did not go into a recession in the third quarter like I thought; GDP grew at 2.5% which indicates a continuation of a sideways economy. Second, Europe has a plan, which has temporarily relieved the threat of a bank panic there and here. But, these two headlines need a further look.

First, I see the five largest banks in the United States hold gross derivatives in excess of fifty Trillion dollars each (that is Trillion, not billion); altogether $335T(WSJ 10-3-11). They usually report only their net derivative holdings------ for example, last summer JP Morgan said it was exposed by $35 billion in net derivatives invested in European, African and Middle East paper. That could mean they are long $200B in Greek, Irish and Spanish sovereign bonds, and have sold much of that paper short at Deutsche Bank to hedge the long position. The problem with that strategy is that maybe Deutsche Bank can’t pay-off if a meltdown occurs in Europe: that is the “counter party risk” these derivative trading banks are taking with their capital and consumer deposits; leveraging 20 to 1 on a net basis, but maybe 500 to 1 using their gross exposure to those products. After all, Deutsche Bank is the biggest bank in Europe and it only has 3% in tangible equity capital leveraged against a gross amount of derivatives that it owns (equity capital is much different than the widely bantered Tier 1 capital). Having more confidence in equity capital, I don’t think the big five’s “net exposure” strategy will contain the damage done by a sovereign default………… PIIG debt may be the least of Deutsche’s problems compared to its counter party exposure to our banks. As the satirist Tom Lehrer once said: “I’m so pessimistic I don’t even buy green bananas.”

Alas, the latest EU bailout plan is still non-funded. It is primarily an insurance program underwritten by France and Germany: to get the picture, imagine two guys treading water in the middle of the ocean with no boat in sight. The better swimmer manages to take off his belt and tosses one end to the other because he is sinking----------- A noble gesture, but how long can it work? Nevertheless, the EU has put together a fast deal to save the banks and PIIG bonds that must ultimately be guaranteed by Germany to have credence-------- which will require more Euros than the German people will stand for if insurance claims arise. They look upon the Greeks as drunks and lazy, dancing fools like Zorba; they view the Italians as incompetent cowards---- an opinion originating from the Second World War. I can remember the old German joke about Italian army tanks: “they attack in only one gear, reverse”. In a conflict, no one wants Italy as an ally and eventually the Germans will “raise Cain” and say nein, nein, nein, when one-too-many bailouts are put to a vote in the Bundestag; then Merkel will let go of the belt and the rest will buckle under. But, that may not happen until late in 2012. Until then, no cash will be thrown into the deal: it just rearranges the paper trail leading back to distressed borrowers, who will become more distressed as they try and implement austerity.

In the mean time, this is my take on how it goes: the EU agreed last week that holders of Greek debt should take a 50% haircut to align with market reality (nothing was said on how to handle Irish, Portuguese, Spanish and Italian bonds); this will force the banks to sell equity to raise capital to compensate for the write-downs, or else ask for a EURO-Fund bailout which will come in the form of a book entry, not cash. Joe Ackermann, the head of Deutsche Bank, has already widdled-down his PIIG bond holdings from 12 billion Euros this summer, to 4 billion, and he can afford to take the hit on his small 1 billion Euro Greek holdings. Although, he will never go along with buying more PIIG bonds in the market to provide a deficit bridge to solvency that may never occur ------the EU obligation to continue buying PIIG bonds to fund future deficits is the reason the plan will fail---the private sector will balk. It doesn’t make any sense to an old-school banker like Ackermann to give away the bank for political expediency; the Italian tank joke is not amusing to him and neither is “Zorba The Greek”. Ackermann will continue to shuck PIIG debt, as attempts to achieve austerity budgets cause riots and violence in the streets. The European crisis is not over and the can is in the air: Merkel kicked it, but Ackermann will determine where it hits ground………… and Merkel will ask, “say it isn’t so Joe?”

Rick Perry and others have been calling the social security system a Ponzi scheme lately, but it really isn’t. When the SS act was passed in 1935 it was never setup to be funded by income from investments: it was a current cash flow program redirecting a payroll tax on the working class to the disabled and retired. That is still the deal except that the benefits have been increased to the extent there won’t be enough workers to completely fund them anymore in five years or so, and because there are 30% more >65-year-olds today, than in the 1930s. In 2010, Social Security collected $781B in FICA taxes and paid out $721B, so it is still cash flow positive. In 1920, Charles Ponzi promised clients a 50% profit within 45 days, supposedly investing in discounted postal coupons in other countries and redeeming them at face value in the United States as a form of arbitrage. It was all a lie. However, the only lie today is that Social Security can continue as is without cutting benefits and raising payroll taxes; and Congress can’t tell the truth and get re-elected. With his gift for gab, Ponzi could have easily been elected a Senator and lied with impunity, in campaign ads and speeches. Often stammering, Rick Perry is no Charles Ponzi------ he doesn’t have the gift, but he does have good posture and the temerity to follow the teachings of the great Russian mathematician Nicolai Lobachevsky with the advent of his new, flat tax proposal. When asked to tell the secret of his success in mathematics Lobachevsky said: “plagiarize and be sure to call it research”; He once gave a lecture on infinity that was said to have gone on forever: So goes Perry’s infinite tirade on Social Security.

    Something new is happening in the housing market: listed inventory has fallen 20% nationwide because homes priced over the median are being taken off the market because they aren’t selling, and banks stopped foreclosing last spring due to the robo-signing lawsuits; therefore, there aren’t as many low-priced houses on the market now------- the ones that are really selling. Buyers aren’t blinking though; they are not buying the higher priced homes------------- and listings are off 48% in Miami for example. However, given the huge shadow inventory, once the banks get their paperwork in order, buyers sense that an avalanche of foreclosures will be coming on the market again. For that reason, I think the buyers hugging the sideline will win the standoff and home prices won’t go up in the next two years for sure; maybe not in a decade. Other things holding back the housing market are the credit requirements necessary to qualify for a loan and the low appraisals: the banks went from no-doc loans five years ago to over-doc loans now. I have never seen it so tough to get a mortgage----------a 4% interest rate or 7%; what’s the difference if you can’t qualify? Of course the National Association of Realtors (NAR) will banter the 20% fall in listings as another turn in the real estate market, but the only turn will be a fall in commissions as realtors run out of inventory that sells. Ironically, we need more foreclosures to stimulate new jobs, created by new owners fixing up dilapidated properties and applying for mortgages. Not only has the robo-signed-paperwork hindered the process, but the government’s loan modification program has turned into a Mexican standoff between the banks and homeowners. In financial circles, the Mexican Standoff is typically used to connote a situation where one side (the homeowner) wants something, like a concession of some sort, and is offering nothing of value to the other side, so the other side sees no value in agreeing to any changes (in the mortgage) and refuses to negotiate in good faith. These are hard times for underwater homeowners and banks and the only way out of the pickle is to liquidate their common problem---------just get rid of the house.
   Hard times are best faced head on, then moving as fast as you can past them. Investors take note: the rental market will only get stronger. With that in mind: I have another contract on a short-sale in Orlando, waiting for the bank to sign off on it which usually takes 3 months. I intend to steadily buy properties over the next year, following the housing market down to a bottom; I’m betting that someday the NAR may be right. In my opinion, investing in the stock market at its current price level seems riskier than rental property. If the economy recovers, they both will do well; if not, rental returns are currently double dividend yields and I like the cushion.
    Just in case you don’t remember, I only recently became bullish on residential real estate; this is what I wrote in my 7-1-2007 commentary, and it all came true:
“”As the housing market continues to deteriorate, loan write-offs will cause lenders to tighten credit, which will further depress prices, although this is a slow process. There will be no big selling month like we had with the stock market crash in 1987, there will be no sudden up-turn in the market sparked by a surge in new home sales or building permits; it will be a steady slide back to home prices that reflect the long-term, average ratio of income to mortgage debt. For example, the median home in south Florida is $340,000 and the median family income is $57,000. Assuming 10% down, 1980s, credit policy dictated that a bank not lend that family more than 3 times annual income, meaning the median family should be able to borrow $171,000 and buy a $190,000 house,” (my prediction of where the median is headed).

As of October, the median home price in Palm Beach County is $180,300. In hindsight, I was too optimistic back in 2007.

Friday, September 30, 2011

Alan Moore Commentary 10-1-2011

The Financial Accounting Standards Board waived the mark to market requirement for banks about a year ago, and now they allow "mark to make believe"; so a house that is valued at $350k today is recorded on the bank's books at the $625k paid in 2005. That is another reason the banking system can’t afford more write-offs due to a Greek default. Those potential hits to capital are why banks aren’t aggressively making loans and choose to hold on to their excess reserves instead. However, the stock market rose last week because Congress finally agreed on something and the EU appears to have a Greek funding deal approved by the German Parliament. But, a Trojan horse lurks: The Germans will have to vote again in December on upping the bailout fund because Greece can’t cut it; the deficit that is. The Greeks are continuing to strike against austerity as their GDP has fallen to a negative 5% YTD; the lesson here is that you can’t buy growth with austerity, and Euripides couldn’t have said it any better (he was a Republican by the way). The whole world is cutting back, which spells global recession not recovery.

As you can surmise, contagion, confluence and volatility are three phenomenon that crosslink different asset classes making them all susceptible to black swans landing anywhere in the world; they also debunk the old “buy and hold” and “asset allocation” investment strategies. The tsunami in Japan shaved a half point off of our GDP because of the parts shortage in the auto and electronic industries; The “Arab Spring” created an oil premium that continues to hurt consumer spending everywhere. With Europe heading down and China slowing, there is nowhere for the American economy to go but down----- it is only a question of who goes down the most. You cannot cut taxes and cut spending at the same time and decrease the deficit; that is fourth grade arithmetic---one minus cancels out the other minus leaving no gain (despite what Republicans say). Neither can raising taxes to cover feckless stimulus spending reduce the deficit, as Democrats propose. Government budget projections are not based on real math; they are schemes to achieve political objectives in the so-called class war. However, a fight between the top 2% of incomes and the other 98% is a mauling, not a war---- if most of the 98% just vote for their self interests.

Here are some classy facts for political war-mongers: the top 1%-of- incomes-class owns $16 trillion of this country’s $57 Trillion in total net assets. The bottom half own only 2.5% of the assets, or $1.7 trillion dollars. If we took half of everything the bottom-half owns it would only pay ½ of this year’s budget deficit. If we took half of the top 1%-people’s assets, it would cut the national debt in half and restore our AAA rating. So you can see, in Nancy Pelosi’s eyes, the only viable solution to paying down the national debt is to confiscate ½ the property of the rich-------- given there is no way to cut $1.3 trillion (amount of the deficit) out of government spending anytime soon without causing a GDP decline tantamount to a depression. A depression would mean more socialism not less, as Congress would launch stimulus after stimulus via the Democrats, and very few jobs would come out of it; The Republicans would be voted out of office for twiddling their thumbs and not helping, waiting for tax-cuts and free-market forces to fix the problem. One thing about the rich: when the going gets tough, they don’t get going into new business ventures; they close their wallets and wait it out; no new jobs will be created by them during a crunch. Hence, our problems will remain unfixed until the deleveraging is complete: no matter which class stays on top. I just know that “we the people” cannot continue to run such large deficits and expect to be continually bailed out by foreigners buying our debt.

Unfixed, we are headed for more stagnation caused by high unemployment which is now structurally embedded in the American economy. Capitalism has its weakness: Capitalism cannot resurrect demand if most of the discretionary income flows to the top 2%, because the top won’t invest in business and create jobs without seeing an increase in sales first, which can only come from the pockets and credit cards of the other 98%. To boot, when corporations do invest in this country, it is in machinery and technology that reduces the need for labor, because our labor costs too much versus Asian labor. It is a catch-22 situation and free-market economic theory breaks down in a global economy. The only way out of the mess is a dramatic fall in asset prices to the point demand is initiated from solvent investors with capital to spare; this is the exact phenomenon Bernanke is fighting with quantitative easing and low interest rates. At this juncture, his efforts are a finger in the dike.

Long-term, besides controlling the deficits, there is only one economic fix: education. Currently in the world, American students rank 31^st in Math and 17^th in science(Economist magazine); China is ranked first. In the long-run we are dead in the world market if we don’t raise our education standards. In the global economy, Jobs are created by science, technology, patents and low-cost, non-union manufacturing------- the top 2%-people always chose to invest in those things, no matter what the tax rates are. The problem is, new technologies are slipping from our grasp as we dumb down education to make sure “no child is left behind” and that every teacher has tenure. Most math and science teachers in our high schools ranked in the bottom-half GPAs in their college graduating classes, because the top half got chosen by industry which pays more. By default, the poorest students in math and science go into teaching even though the pay is low. China does the opposite, the top college graduates get paid as well to teach, as working in industry. Their test scores say it all. On the other hand, the best teachers in American schools tend to be in English and History, because top college graduates in those subjects can’t get a job in business. Another startling thing, it has been proven in studies that class size has very little to do with student test scores (China and Singapore average 40 students per class), neither does teacher-pay as doled out by our school systems: the bad teachers get the same pay raises as the good ones, due to control by the teacher’s union---- and the union wants to do away with standardized tests; guess why! I think if we awarded pay based on merit and were allowed to fire the bad teachers, student test scores would sky-rocket. Unions in all facets of our lives are destroying the American economy; and if unions are the foundation of the middle class like they claim, then the middle needs some new blood: a highly educated and technically trained workforce.

Here is an interesting statistic unrelated to the anything relevant: A recent study found that the average American walks about 900 miles a year. Another study found that Americans drink, on average, 22 gallons of alcohol a year. That means that, on average, Americans get about 41 miles to the gallon. Literally, America could walk its way out of the energy problem.

Operation Twist:

Of the $1.3 trillion of Treasury bonds held by the Federal Reserve Bank, only $150 billion of them mature in over 20 years, the bulk averages 4.5 years in duration. The Fed has announced Operation Twist to designate their strategy to rollover the short-term bonds into long-term bonds, in order to hold down mortgage rates as higher inflation threatens to push them higher. Even though this new policy is part of an overall easing by the Fed, it is always more desirable to lock in interest payments for 20 or 30 years versus being vulnerable to short term increases; but Operation Twist will have negligible effect on the economy and it is a waste of Fed credibility.

Two embedded myths in the Republican and Democrat’s messages that are repeated over and over are: the Repub’s chant, “regulations and taxation are killing small business and job creation”, and Dem’s, “big-business and fat-cats are making huge profits on the backs of workers” (unions, per se). My take is that both sound bites are dead wrong. First, I own part of a small business with 50 employees and there is no new regulation that I can think of that has set us back---- I can also remember the 49% top tax rate under Ronald Reagan. Unequivocally, competition is always a threat, but Obama-care only affects a business that pays less than 65% of health premiums for employees; most pay at least 75%; so that is not a significant problem(under 50-employee companies are exempt anyway). The Frank-Dodd bill has nothing to do with small business, it has to do with regulating banks, and I prefer them to be better capitalized and not engage in leveraged, robo-signing, no-doc loans and credit swaps. In my thinking, there is no new regulation in the last 30 years that has cost small business a lot of money to comply with----it is a Republican myth; and, it isn’t a factor in creating jobs---getting new customers is the only thing that counts in that regard.

On the other hand, the average net profit margin of the large corporations listed on the stock exchange is only 6%----even EXXON doesn’t do much better. I guess the Democrats could extract that 6% through taxation and then mandate wage increases to sop of all the profits, but then who would want to own a large business in America? Wouldn’t that just push big business and jobs out of the country, to other places with lower corporate tax rates, Mexico, Brazil and China (all have lower corporate tax rates than the USA, even France beats us)? Hasn’t that happened already? Isn’t there a trillion dollars locked in foreign subsidiaries that won’t come home because of the 35% corporate tax rate in America and the double tax on dividends? Corporations aren’t making huge profits on the backs of labor: labor unions are riding on the backs of business----- pushing them to foreign ground, where new factories are opened (Boeing can’t even open a plant in South Carolina without being sued by the union). The big-business, bad-guy-thing is a Democrat’s myth and there is another side to the consumer led 70%-of-GDP thing: it is the other 30% of spending that causes the economy to swing up and down. The 70-percenters include the bottom half of incomes and the unemployed; the other 30% of total spending is comprised of items like: plant, equipment, housing and investment. Both segments need stimulus at the same time to be effective because they are interdependent.

As an investor, there are only two kinds of losses possible: the loss of your capital that is already committed to investment, or the loss of opportunity to invest the capital in the future. I say, if you can protect the capital, there will always be another opportunity-------- you can afford to miss a bargain or two, but if the capital is lost, your future is over; at least financially speaking---- and greed often overshadows this reality. I think it is always more important to put risk ahead of profit when determining whether to invest or not; and today, the risk is all macro. That is a simple message that requires a healthy amount of skepticism to work.

One investment theme you could have been sucked into is solar energy. Obama heavily subsidized the development of “green energy” in the stimulus package of 2009, not to mention the huge ethanol tax credits for corn farmers and refiners put into effect by George Bush. Both programs are a bust; Evergreen Inc., the largest solar producer, went bankrupt in July, and now this: NEW YORK (MarketWatch) – “Solyndra, the solar panel maker that has filed for bankruptcy despite a $535 million federal loan guarantee, is the target of a search warrant from the Federal Bureau of Investigation, according to a report on Thursday. Earlier this week, Solyndra shut its doors and filed for Chapter 11 protection from creditors under the U.S. Bankruptcy Code, throwing 1,000 people out of work.”

The Chinese are selling solar panels for ½ the price of American manufacturers. We can’t take the heat from the “rising sun” only shielded by Obama’s green stimulus; it will take American know-how and patents. By the way, where have all our engineers gone? I predict every solar panel producer in America will go bankrupt or quit, even as solar energy becomes a more cost effective alternative. Until it does, the only thing green about “green” is carbon envy.

Wednesday, August 31, 2011

Alan Moore Commentary 9-1-2011 alanmoorecommentary.blogspot.com

Comment 9-19; If you want to see where the risk lies in a European debt default, look at who is holding it. See the graph on this website for illumination: http://www.exabyzness.com/todays-news/research

Comment 9-15-2011; Greece got some help from the EU today, but it won't be enough in my opinion; Greece is like Lehman Brothers was to us in 2008, if Greece goes down, a lot of PIIGS and banks will go with them.
I believe Greece will default, so I am staying out of the stock market for time being.

Comment 9-14-11; This was announced today and should seem like deja vu if you have been reading my commentaries. The economy is sinking into recession, Europe will see a Greek debt default by December, housing is continuing to fall, real wages are dropping and the consumer is steadily cutting back. In other words, things are bleak with no end in sight and the media is getting the picture that a turn for the worse happened in August; see my commentary below.
WASHINGTON (MarketWatch 9-14) — "So it’s official: In August there was no jobs growth, no sales growth and no price growth"
My subsequent comment: 9-1; Manufacturing is turning down as the economy continues to soften: this was announced at 10:20AM

ISM manufacturing index at lowest since July 2009 by Steve Goldstein

WASHINGTON (MarketWatch) -- Manufacturing activity grew in August, but at the slowest rate since July 2009, according to the closely followed Institute for Supply Management's index of purchasing managers. The index slipped 0.3 points to 50.6%, as new orders and production fell. Economists polled by MarketWatch expected a reading of 48.8% for August. Activity has expanded, or been above 50%, for 25 straight months.

The debt ceiling deal was the straw that broke consumer confidence throwing us into a recession starting in August, despite the brisk consumers spending in July and the rally in the DOW the last few days; the data coming out next week will show a drop in Aug-spending, a very disappointing jobs report coming this Friday (Sept 2^nd) and the October statistics, may confirm my recession impression. The most recession-telling sign was the flight to cash in early August; the increase in M2 money supply was huge, a vertical spike on the charts caused by investor uncertainty. The spike would have been ok if it was the result of loan growth; it wasn’t. The same thing happened the week Lehman Brothers went under in 2008 and also leading up to the recession of 2001. In addition, we have some bad GDP “confluence”……………… Germany announced on 8-16-11 that growth ground to a halt in the second quarter; the poor performance by Germany, combined with zero growth registered by France and the weak showing for the 17-nation euro zone, probably means all Europe is in a recession also. In short, the whole world seems to be sinking, except China and India, who have an inflation problem and they are raising interest rates, which will result in slowdowns there. In other words, there are too many negatives to invest at the moment and I am staying positively in cash; albeit, I bought two more short-sale properties last month. There is a positive to being negative on stocks----- you can’t lose much. As my uncle Walter always said: “show me a pessimist and I will show you someone who knows the facts.”

Facts aside, is there any doubt that the super committee will be just as gridlocked in November as Congress was in August? Not agreeing on a deal by January, means the automatic, 3%, across-the-board cuts will be invoked and start in 2013; this will become known as the anti-stimulus. However, the next leg of the crisis that continues to hit the stock market will come from more bad news out of Europe; with Germany’s GDP going down, it is less likely the Germans will pick up the debt loads of Spain, Greece, Portugal and Italy? The D-Mark is coming back when the Euro block breaks apart.

Getting ahead of the curve, it will be an average recession for the USA, lasting several quarters and then a modest rebound should appear, helped by QE-3, the beginning of which was disguised last month by the Fed’s commitment to keep interest rates low for the next two years, but if it quacks, it’s a duck. Indeed, the Fed has all but abolished interest rates in the short-term, to combat the new normal: consumer demand is dead, saving money is in and debt is bad. This condition is what it is, and we are in a protracted period of subpar GDP growth -------------any recovery will just be a firm patch in a bog. Government policy (or the lack of it) is causing people to buy safety in money market funds and bleed out of the stock market as corporations have become the place where capital goes to die on balance sheets. Stock buybacks, dividends and bonuses are not investments in job creation; and, there are no plans to invest in capital equipment going forward. To give you a little déjà vu, Applied Materials Corporation, which supplies the whole chip industry, announced that sales would be down in the 3^th quarter 15 to 30%, (WSJ, 8-25-11, p. B3). This means chip sales are way down, which means Americans aren’t buying as many appliances, computers and anything else requiring a chip----which covers everything in a BestBuy store.

Even with the recent decline, the market is not cheap; the dividend yield on the S&P is 2.4% which is higher than the 10-yr Treasury bond, meaning the opportunity cost of being in a stock Index fund is actually lower than a double-A bond, and you would think this phenomenon would stimulate investment in the stock market. It hasn’t recently, but it did last time during QE-2. The Fed will immediately turn to a full-blown QE-3 if the DOW drops another 1,000 points; but insanity is doing the same thing over and over expecting a different result.

The European Central Bank launched another round of quantitative easing in August and reversed their interest rate policy; rates are now headed down everywhere but China and India. If you think my economic comments have been too pessimistic over the last several months, I apologize for not being more emphatic: The economy sucks, the stock market sucks and cash is the only salvation until some bargains appear. How’s that for emphatic? Being short owning the VXX fund was good for my portfolio, especially when the market crashed 500 points on August 4^th, and I sold the next day (too soon, as I missed the other 520 points down). Missing the 520-boat, my current 95% cash position is neutral and neutral is good in a crash. I assume you think that a six-week, 20%% decline in the S&P constitutes a crash, or optimistically you could call it a correction or a soft patch; albeit, the stock market prefers raising the debt ceiling to having negative GDP growth: It prefers a weaker dollar to falling exports caused by a stronger dollar. Over the next several months, investors will be faced with more of the same: stagflation, stock volatility, no job growth and more mortgage liquidation through foreclosures. This was announced concerning home sales in Florida:

Marketwatch August18: “The statewide median sales price for existing homes last month fell 1% to $136,500. Analysts with the National Association of Realtors (NAR) note that sales of foreclosures and other distressed properties continue to downwardly distort the median price because they generally sell at a discount relative to traditional homes.””

I would add, the NAR is obviously biased and always attempts to spin bad news into good. The median is never a distortion; it is in the middle; it is the norm. There are 470,000 foreclosures currently in Florida courts and 46% of all mortgages in Florida are underwater. Home prices are headed down more. So goes housing, so goes the economy…... So goes jobs, so goes housing…... So goes consumer spending, so goes jobs------ this is the catch-22--------- There is no government stimulus program or tax cut scenario that will change the circle of economic reality------------- So the economy is a no-go, until people can manage their debt levels again, and that will take time………. several more years I expect. The .8% increase in consumer spending in July was a “firm patch”, and we are over it, back into the bog.

So far so good, if you are with me in cash, but now comes the hard part: buying into a falling market. As my Uncle Walter used to say; “if you going to try to catch a falling knife, at least wear some leather gloves.” In that regard, I think it is better to play it safe, staying away from growth stocks, anything financial, and concentrating on high dividends and sectors that will live through an economic downturn: utilities, telecoms and drugs ----I have limit orders in to buy many stocks if we have a flash crash; and I never forget Exxon when I go to plunge: it is a leather glove. Exxon and Chevron together control America’s primary energy resources and the distribution system---Exxon owns 35,000 gas stations alone. They can make money under any conditions. The only investment decision to make concerning these two, is the entry point----when oil is way down is the best time to buy; and a recession will certainly tank the demand for oil. The wildcard is always Saudi Arabia. Will the Arab Spring bloom in the house that Saud built? Remember, the king is 86 years old and the next in line is 80 also; and then there is the son of Abdullah who wants to skip the old guys and jump into kingship now. Saudi land could blow up and oil would go through the roof. Exxon and Chevron would do ok though.

Going forward, ignore the coming-to-the-rescue noise from Congress and the Fed, “we the people” really comes down to individuals working harder and saving more in order to achieve prosperity; true anywhere in the world. On a national level, those character traits can only be found in China today. The Chinese work their asses off and save 20% of what they make and America has too many people out of work sitting around on 99 weeks of unemployment checks waiting for the job they had to come back----- not interested in the lower-paid ones that exists. Our economy is what it is; but what really separates the Chinese from us is will power. The only Americans that remember what collective will power really is are members of “The Greatest Generation”; the people that went through the Depression and fought in World War II. There aren’t many of them left, certainly not in Congress.

The easiest budget cut to make is to end the two wars and bring the troops home; there is nothing in Afghanistan and Iraq worth Americans dying for. War should be fought the cyber way, with virus attacks on computer infrastructures, which would cause an economic depression in the nation vulnerable to having its power and communication grid systems disabled. Our software engineers could defeat Iran faster than bombs and drones. After all, Iran would look pretty silly mobilizing their troops over a hardware problem, or to go after a handful of geeks they couldn’t identify. But, our military always fights the last war the old way, which is vastly more expensive than just “looking for a few good hackers”.

Monday, August 1, 2011

My subsequent comments during the month on current events.
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WASHINGTON 8-24-11(MarketWatch) — “Orders for U.S. durable goods jumped 4.0% in July, mainly because of higher demand for autos and commercial aircraft, the government reported Wednesday. Yet orders for most other durable goods fell, reflecting continued softness in broad swaths of the U.S. economy.”

My comment: At first blush 4% looks good, at second glance it looks like the US economy is headed for a recession, considering the lack of hiring, decline in consumer sentiment and continued fall in housing prices. The positive durable goods number was due to a 43% increase in airplane orders at Boeing and an increase in car production, which was a rebound caused by the under production in June and July due to the Japanese parts shortage. Orders for core capital goods fell 1.5% and reflects the core of the problem; companies aren’t investing in new plants and equipment, preferring to hold cash on their balance sheets in order to weather the next downturn. Uncertainty is a killer of economic progress and we have lots of it.

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MarketWatch -10:06AM, 8/23/2011 "Richmond Fed gauge at worst level since June 2009. The Richmond Fed said Tuesday that its manufacturing index slumped to -10 in August from -1 in July, as shipments and new orders declined sharply. The Richmond Fed gauge wasn't as bad as the -30.7 reading of a similar Philadelphia Fed indicator but was still the worst reading since June 2009"

My comment: The bright spot of the economy has been manufacturing and manufacturing is collapsing. The Kansas City Fed reports on their region on Thrusday the 24th; if that is as bad as Philadelphia and Richmond, it is a country-wide collapse, which is what you would expect in a recession; even if the Fed doesn't expect one yet.

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8-19-2011; Existing home sales declined 3.5% in July and the median home price fell another 1% in one month. There is a backlog of 260,000 foreclosures in the Florida courts alone and real estate is still going down with no recovery in sight. In addition, average credit card debt per household dropped from $7700 last July to $4400 this July, meaning consumers are paying down debt quickly and not spending as much. All this tells me there is another recession coming, or already here.
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Thrusday 8-18: 11AM; Me: The market was already down several hundred points this morning due to bad news out of Europe on the debt bailout talks between France and Germany; then this hit indicating that manufacturing, the bastion of recovery, was caving in----------and the Dow went down another 200 points in ten minutes. Do you buy the dip? Or will it slip into a crash? Eventually, I think there will be one dip to many.

"WASHINGTON (MarketWatch 8-18-2011) — Factory activity in the Philadelphia region weakened sharply in August to the lowest level seen in more than two years, the Federal Reserve Bank of Philadelphia said Thursday, adding to fears that the economy has ground to a halt. The Philly Fed’s business outlook survey fell to negative 30.7 in August from 3.2 in July. This is the lowest reading since March 2009. Readings below zero indicate contraction in the region’s factories."

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8-11-11 The trade gap widened in July to $53B. The trade deficit is a subtraction from GDP and means the second quarter’s GDP will be revised downward, probably to less than 1% from 1.4%. In other words, we were close to a recession even before August hit. In my opinion, August is the start of a double dip. I say that before August is even done.

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The stock market rose this morning when the retail sales report came out for July.

WASHINGTON (MarketWatch, 8-12-11) — “Consumers spent more money in July on a wide variety of goods, marking the biggest one-month increase in retail sales since the spring. Retail sales rose a seasonally adjusted 0.5% last month, the largest increase since April, the Commerce Department said Friday. Sales for June and May, meanwhile, were revised higher. For June, sales rose by 0.3% instead of 0.1% as originally reported, and sales for May were flat instead of down 0.1%. Over the past three months, retail sales have climbed 8.2% compared to the same period one year ago. “

My comments: Looking past the headline, I see that the biggest increase in sales took place at gas stations, where outlays jumped 1.6% due to the rise in gasoline prices, not the volume of gallons sold. Yet spending on gas is not a plus for consumers since it leaves them less money to splurge on other goods and services. Also on the downside, sales fell at department stores, bars and restaurants, leisure and hobby stores, and building-materials suppliers----- and the mother of all stock market volatility hit in August; so August was not an inspiration to consumers to keep spending. August retail sales, when announced in September, will be a downer, reversing the decent news in July. The future is always more important than the past. As a consumer, ask yourself: do I feel better about the economy today than I did in July? The answer should be clear as a bell.

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Like I just said this morning, don’t think retail sales in July means much: this came out a few minutes ago

NEW YORK (MarketWatch 8-12-11) —“ U.S. stocks dialed back on Friday gains after a gauge of consumer confidence illustrated a sharp fall in sentiment early this month, curbing enthusiasm that came with an encouraging report on the nation’s retail sales. The University of Michigan/Thomson Reuters index of consumer sentiment dropped to 54.9 in August — the lowest in 31 years.”

Market watch 8-11-10

The Treasury Department sold $16 billion in 30-year bonds on Thursday at a yield of 3.75%, well above the level traders expected it to price at but also the lowest level since October.

Bidders offered to buy 2.08 times the amount of debt sold, the lowest so-called bid-to-cover ratio since at least 2009 and compared to an average of 2.51 times at the last four auctions of new long bonds. See Treasury’s page with auction results.

Indirect bidders, a group of investors which includes foreign central banks, bought just 12.2% of the sale, the lowest ever according to CRT Capital Group and versus an average of 40.1%. Direct bidders, including domestic money managers, purchased another 19.5%, compared to 11.5% on average.

My comments: The recent rally in bonds caused by the European debt scare and the debt ceiling crisis is unraveling because the Fed’s low-interest policy for the next 2 years threatens to weaken the dollar causing central banks to want to diversify out of American Treasury bonds. China and Germany are backing away from recycling their surplus trade accounts into dollars, as can be seen in the huge drop in participation in this auction

Alan Moore Commentary 8-1-2011

Deep down, we want to see a crash, caused by Washington’s failure to get a deal. There is an adrenalin rush of curiosity about the effect of a default and the surreal collapse of the government------- Not this time though, there appears to be another can-kicking budget bill to be voted on tonight; but the markets are ignoring the huge risk of a double dip recession as the economy is rolling over. The Fed has got to be thinking QE-3 as soon as the spending cuts hit. The effect of fiscal austerity will be slower GDP growth, and it is already anemic.

The real solvency hurdle is that Congressmen and Senators are not reasonable people, they are politicians indoctrinated in party slogans, tantamount to believing in religious dogma. They have staunch faith in the party line and skip the thinking process entirely, never actually reading a bill they vote on that gets written by a bunch of old guys on a committee. Their only agenda is placing their party in power. In short, America is the victim of its own political system and ignorance----- establishing a budget for the next ten years is fraud; a new president will certainly present a new budget when he is elected and is not legally bound by any previous budget deal. There is only one thing for sure: the national debt will always go up; even with the proposed 10-yr budget compromise, the national dept will grow $7T over the next decade. The Democrats will continue to expand entitlements and spend; the Republicans will continue to spend on wars and tax loop holes.

George W. Bush, in 2007, did a budget that projected a deficit in 2011 of only $54B---it will actually be $1.65 trillion dollars this year, five hundred billion of that deficit is due to a huge drop in taxes collected amounting to only 15% of GDP. In Reagan’s last year in office, tax revenues were 18.3% of GDP, because tax rates were higher then and the economy was growing 6%------- obviously, taxes did not have much to do with creating jobs then and don’t now.

For the current deals to work out, Republican and Democrat budget projections, along with the recent Greek bailout, are dependent on restoration of good growth and higher tax revenues hereafter; albeit, I am only here after a decent return and I don’t see one. Currently, I see macro-risk behind every stock and don’t believe there is a potential for profit with slack demand across the entire economy, except maybe in utilities. They use leverage, but utilities have stable, high dividends offering a better return than bonds or other DOW stocks; albeit, after you buy, the price of a stock only matters when you sell it. Despite which investment black box you use, a dividend will set you free to earn a real, cash-in-hand return every quarter. Take note: of the historical return of 9% on the S&P Index over the last 75 years, 50% of that return has come from dividends. Ergo, when you invest, it is nice to have half your return in the bag before you start down your holding period. All said, I currently own only one utility (RWE) because of that sectors sensitivity to rising interest rates and to a general market decline. I just think I can get a better price on many utilities later on, but that doesn’t mean I am not missing the boat now. My wife says that I have waited so long for the boat to come in that the pier has collapsed; and, I have to admit, you really can’t go far wrong buying utilities with a 5% dividend, provided you have no intention of flipping them for a capital gain anytime soon. One sector I am committing to is real estate: I think now is the time to buy. Prices may go down more, so I am not leveraging; but the yields from the rents are too high to ignore, not to mention that the rental market is looking good with the vacancy factor falling to 7.5% nationwide. In any case, housing prices never have a flash crash like the stock market does, and it feels better to lose money slowly rather than all in one hour. This was announced on July 20^th: WASHINGTON (MarketWatch) — “Sales of existing homes slipped in June to a seven-month low, and a real estate trade group attributed the surprise downturn to a weak economy and a spike in cancellations. The National Association of Realtors reported sales of single-family existing homes fell 0.8%, the third consecutive monthly drop, to a seasonally adjusted annual rate of 4.77 million from 4.81 million in May.”

Private sector jobs are created by an increase in grass-roots demand, and neither Republicans nor Democrats have an ideology that can accomplish that feat. Consumers can create jobs by managing their balance sheets better and saving enough spending-power to buy the next round of hot gadgets or to capitalize on a new idea and become a business owner. Looking past the political blame game, people grow the economy and currently they aren’t feeling too powerful.

In 2009, Bernanke flooded the banks with liquidity, which was right out of the Milton Friedman monetary playbook; and Obama used Keynesian fiscal spending to the max in order to take up the slack in consumer demand. Acting together, those policies kept us out of a depression, but they haven’t worked to grow the economy and jobs. Both monetary and Keynesian theories have met their Waterloo in the collapsing housing market and neither have an answer for getting us out of the stagnation; therefore, the economy continues to be at the mercy of home prices. That is the problem old theories can’t solve, and there is no solution short of prices hitting reality at the selling point. In that regard, the Case/Shiller Housing Index will tell us when we are there---Shiller announced on 7/27 that housing prices dropped another 4.5% in May, over May of 2010. Until housing turns, hope trumps math, and the stock market continues to hold up pretty well: maybe you can appreciate the brevity of that statement, because stocks aren’t cheap. The dividend yield on the S&P is just 2% and according to another long-term measure — “Tobin’s q,” which compares share prices with the replacement cost of company assets — shares are now about 60% above average valuations. Furthermore, we have an aging population of Baby Boomers who are heavily in the market, and they will be selling as they near retirement. Overall, there is $4 trillion in 401k plans, meaning the “wealth effect” of the stock market matters to more people than ever before. Another way of looking at it: fifty percent of consumers making over 60k per year are invested in mutual funds, and those folks are the ones that have discretionary income to spend. If stocks head south again, we will surely go into another recession. That is why staying above 11,000 on the Dow is so crucial; below that level for a spell will be a psychological trigger point for feeling not OK if you are an investor----or quite OK if you have cash to invest. However, there are 20 times more people invested in the stock market than are in cash, although money market funds holding European paper (all of them are) don’t look that solid either.

By the way, “OK” happens to be one of most spoken and typed words on the planet, because it has morphed into to so many different languages; even the Chinese use it profusely. You may like to know where the term came from: OK was born to Boston editors in 1839 who thought it was funny to misspell the editing mark, “all correct,” as “oll korrect”, and that rendition became abbreviated with “OK”. So now you know why so many people say everything is OK in error; it was meant to be that way.

Not OK will be corporate earnings going forward. Most analysts predict $95 earnings for the S&P index this year, which is a 13 price-earnings multiple, and 16% EPS growth over last year. Until now, margins have been improving since 2008 due to downsizing and outsourcing, but that trend is waning. When a company like Motorola decides to move production of the Droid to China, they get to skip the cost of capital and interest on the debt to buy the equipment needed to produce in America. EBITDA-earnings is the cash flow measure people have been using to determine the value of stocks (Earnings before interest, taxes, depreciation, and amortization). Depreciation is the cost of equipment and the Chinese have been investing in plants to produce our stuff. What if depreciation and investment interest costs are added to corporation income statements? What do you think that will do to earnings growth in the future? If we produce more here, costs go up and profits go down. If we don’t, supply lines get stretched and the unemployed stay structurally unemployed for a long time. This seems like a “Hobson’s choice” and another reason why the economy is going nowhere, not to mention the sustained debt liquidation going on (In the 1920s, Henry Ford was said to have sold the famous Hobson's choice of "you can have any color... so long as it is black"---he kept his production costs down that way). Paul Volcker, the most astute economist I know, had this to say about the situation:

“LONDON (MarketWatch 7-14-11) -- Former Federal Reserve Chairman Paul Volcker said Thursday that the combined impact of a business crisis with a financial crisis means the economy faces a "considerable period of time of sluggish activity." Speaking at an Official Monetary and Financial Institutions Forum event in London, Volcker said the economy "has been through a crisis of excessive debt creation right around the world and all the evidence reflects the fact that the excesses in leverage are still with us and the de-leveraging process takes a long time." Volcker said the same trend could be seen in the sluggish growth that has plagued Japan for years. "We're in that box and it's very hard to get out of," he said.”

In the debt game, who’s on first base? Dividing total sovereign debt by tax revenues per country yields a profligacy ratio: Greece with a ratio of 7 is currently ranked number one, the USA with 6 is in second place; Ireland at 5.8 is third and Italy is 4^th with a 4.1 ratio The United States is too big to fail, so our “6” is mostly symbolic, given that we can print dollars to pay off the debt with inflation. The others are hamstrung by the EURO, which is controlled by Germany, so they must eventually leave the EU to keep their deficits going.

Over the next five years, the whole world will continue to deleverage, led by sovereign fiscal austerity and a consumer trend to save more and get out of debt. The housing market may continue to fall another 10 to 15%, but rental property will be good, particularly in medical and food-market real estate, not to mention apartments. As far as the stock market is concerned, stay away from banks, bonds and everything else except dividend paying utilities, drugs and telecoms. I would move into those sectors if the market takes a dive. However, I think the current “soft patch” will turn into a prolonged soft stretch, due to political wars and waning consumer demand. I predict that the Fed will launch another quantitative easing next winter, and the markets may rally again; but the economy is stuck in the mud for the next five years, in my humble opinion. In that scenario, I have an investment plan that will work. It requires patience, focusing on risk containment and yield fishing; not on an unrelenting faith in the American capitalistic system. The system is broken and a fix is not coming from Congress, the Fed or the business sector. People simply have too much debt to increase their spending, not to mention federal and state governments.

Compounding the national debt problem, private debt is 260% of GDP, and only in 1929 and 2000 has that ratio ever been higher. The biggest portion of that debt is mortgages and a quarter of those are under water. Another drop in housing will make the deleveraging even worse. Sorry, but that is my story of woe, and my portfolio is allocated where my mouth is: 87% in money market funds, 4% utilities, 4% short, and recently--- 5% in foreclosed real estate: that portion is climbing with multiple offers pending to buy more. The REIT funds are overvalued, so you must bid for individual properties one at time to find bargains, but there is no hurry: the early bird gets the worm, but the second mouse gets the cheese.
Alan Moore

My subsequent comments during the month on current events.

I am posting almost daily now, giving my take on the news causing the huge market swings. I tack them on day by day. Here is the latest.

Tuesday: 11AM; The market was already down several hundred points this morning due to bad news out of Europe on the debt bailout talks between France and Germany; then this hit indicating that manufacturing, the bastion of recovery, was caving in----------and the Dow went down another 200 points in ten minutes. Do you buy the dip? Or will it slip into a crash? Eventually, I think there will be one dip to many.