Andy Sutton's Extemporania

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Tags: economy

Another Hit and Run

by TwoCentsEditor

Published on: 02/13/2009

Categories: Current Events

Comments: 12 Comments

In eerily similar fashion to last fall’s financial system bailout, the American people are once again having another piece of legislation jammed down their throats without their elected representatives even having a chance to review it. This by a new administration; one that promised that such things were of the past. However, when it comes to pork, all politicians are the same and this new stimulus bill has now grown to well over 1000 pages in the hours before the final vote.

The bigger question is how could an elected representative in good conscience vote for something they haven’t even had a chance to look at? At the very least, this is despicable behavior. This bill of goods has been sold under the premise that if something isn’t done within days that the economy will collapse. This is utter nonsense and fear-mongering – nothing more. An economy doesn’t collapse over a period of days. It has taken us well over 2 years from the beginning of the blowup just to get to where we are now. Certainly a few weeks could be taken here to at least give due diligence before committing the equivalent of fiscal suicide.

Unfortunately, by the time we actually learn about the content of this ever-changing bill, and its ultimate impact on us as citizens, the time for action will be long gone.

A response to Senator Arlen Specter

by TwoCentsEditor

Published on: 02/10/2009

Categories: Current Events, Economics

Comments: 1 Comment

Like many Pennsylvanians, I have been less than thrilled by the representation of Senator Arlen Specter. This dissatisfaction reached a Zenith today as Sen. Specter was one of the 61 Senators that voted for the pork-filled economic ‘stimulus’ package. I’d like to take Senator Specter’s op-ed piece from the Washington Post and provide some in-line reactions (bolded)

“I am supporting the economic stimulus package for one simple reason: The country cannot afford not to take action.

Agreed 100%, Senator. Unfortunately, taking an opportunity to create lasting, sensible solutions is much different than going in with a half-baked, half-compromised plan and hoping it will keep things glued together a few months. I might remind you of the $168 Billion cure-all stimulus from early 2008. At the time the Congress was convinced that action would fix everything. Now the same Congress is convinced that nearly a trillion will be enough. Not to mention nearly another $10 Trillion in pledges, guarantees, and bailouts that have been thrown at this collapse between Stimulus I and Stimulus II. At the very least, the Congress should be willing to admit that it has no idea of the ultimate final cost of this problem. I will guarantee you this much though – it is a lot more than $10 Trillion.

The unemployment figures announced Friday, the latest earnings reports and the continuing crisis in banking make it clear that failure to act will leave the United States facing a far deeper crisis in three or six months. By then the cost of action will be much greater — or it may be too late.

This will be the case no matter if this bill becomes law or not. That is because this bill is not addressing the real problem. It doesn’t address the fact that our economy is based on debt, and needs that debt to grow. Without continued debt accumulation, we have no economic growth. Simple as that. That is why it will be necessary for Congress to continue bailing out failed firms and passing stimulus packages. This package will stimulate consumption for a time, but that is it. It will not, nor does it have any prospects for stimulating the economy. If you want this measure to be effective, dedicate 100% of it to rebuilding our lost manufacturing base. Create products here. I know this violates the tenets of globalism and free trade, but it is the only solution. Unless you want to be writing the same arguments for stimulus III in 6 months or so.

Wave after wave of bad economic news has created its own psychology of fear and lowered expectations. As in the old Movietone News, the eyes and ears of the world are upon the United States. Failure to act would be devastating not just for Wall Street and Main Street but for much of the rest of the world, which is looking to our country for leadership in this crisis.

Our country has been the ‘leader’ in the world economy because both our people and our government have expressed a willingness to borrow money to consume. We have done so even to the point of our own detriment, and now decades of borrowing constitute a boat anchor on future growth. Yesterday evening, the President stated that the government was the only institution remaining with the resources to combat this problem. What resources? The government has no resources; other than the ability to borrow (at the expense of the People), create money from nothing (at the expense of the People), and pledge future economic growth to paper over current problems (at the expense of the People). The government doesn’t have $780let alone $780 Billion.

The legislation known as the “moderates” bill, hammered out over two days by Sens. Susan Collins, Ben Nelson, Joe Lieberman and myself, preserves the job-creating and tax relief goals of President Obama’s stimulus plan while cutting less-essential provisions — many of them worthy in themselves — that are better left to the regular appropriations process.

Our $780 billion bill would save or create up to 4 million jobs, helping to offset the loss of 3.6 million jobs since December 2007. The bill cuts some $110 billion from the $890 billion Senate version, which would actually be $940 billion if floor amendments for tax credits on home and car purchases and money for the National Institutes of Health are retained.

Nowhere has anyone actually demonstrated where these 4 million jobs would be created other than the desire to hire nearly 600,000 more government workers. It is very likely that the business community is aware that this will not work and will therefore seek to conduct whatever business the stimulus allows without actually expanding staff to the extent expected. This is not a ‘business as usual’ environment. If the private sector really had faith in this package, it wouldn’t continue to cut jobs as it has been. It would hang on and wait, understanding that retention is far more cost-effective in the short run than going through the hiring cycle. The private sector’s actions alone are a vote of no confidence with regard to government stimulus.

House Speaker Nancy Pelosi says the proposed cuts “do violence to what we are trying to do for the future,” especially on education. Her objections are a warning to conservatives that more cuts would be unlikely to win House approval. They are also an admission of the high price that moderates have been able to extract for their support of stimulus legislation.

If a stimulus bill doesn’t pass, there won’t be any money for Title I education programs. The moderates’ bill provides marginally less money for Title I than the House and Senate bills. But while it’s less than supporters want, this proverbial half a loaf beats no loaf by a mile.

Title I existed long before the stimulus. Education is one of the few areas that have actually seen growth over the past year in terms of employment ex-stimulus! How will Title I spending stimulate the economy?

In health funding, both the House and Senate bills contain billions of dollars for wellness and prevention programs, including for smoking cessation, prenatal screening and counseling, education, and immunization. The moderates’ bill, regrettably but necessarily, cancels this funding on the grounds that such programs are better left to the regular appropriations process.

Same point as above – how is any of this going to stimulate the economy? This is one of the portions of the bill which has been totally dedicated to the political pandering necessary to get the votes needed for passage. While on the surface, all of these initiatives sound warm and fuzzy, they will not stimulate anything other than perhaps the national debt.

“In politics,” John Kennedy used to say, “nobody gets everything, nobody gets nothing and everybody gets something.” My colleagues and I have tried to balance the concerns of both left and right with the need to act quickly for the sake of our country. The moderates’ compromise, which faces a cloture vote today, is the only bill with a reasonable chance of passage in the Senate.”

As Thomas Jefferson so eloquently put it, “A government big enough to give you anything you want is also strong enough to take everything you have”. This bill seems to be little more than a government stimulus package. It will do very little for the economy or the real root causes of the problem: debt and a broken monetary system.

And the numbers keep growing

by TwoCentsEditor

Published on: 02/09/2009

Categories: Current Events, Economics

Comments: No Comments

What started out about this time last year as a $168 Billion attempt to revive us from a recession that at the time didn’t even exist (according to Washington and the media) has grown into a mammoth rescue which to date commits US taxpayers and future generations to nearly 58 times that original amount.

This amount is enough to pay off nearly 90% of US mortgages according to Bloomberg. Has anyone ever thought that it might not be a bad idea to do exactly that? Since we’re going to spend this money on consumption anyway, it makes sense to maybe relieve the average American of a little financial strife.

Let’s extend that for a second to all the bad debt floating around the financial system. Debt that the government is frantically trying to figure out what do with. Did it ever occur to anyone to ask why some of those debts are bad? Sure, a good portion of it is due to derivatives and other bets, but at the very least some of it is consumer debts that cannot be paid because of job losses, irresponsibility, variable rates, etc. Helping the consumer would help the system by making at least some of these debts manageable.

It becomes important to understand the differences between consumption and an economy. Anyone can consume. Demand is virtually unlimited. Given someone a boatload of money and they’ll probably end up buying much more than a boat. Even under the best of conditions this would be foolish because it incentivizes laziness. However, in our current model, it does virtually nothing since a good majority of our products are manufactured overseas anyway. So borrowing and spending a trillion dollars might cause a bit of temporary consumption, but do little to sustain an economy.

If we’re going to do a bailout anyway, again, why not start with consumers and rebuilding our productive capacity.

Twelve Zeros Worth of Protectionism

by TwoCentsEditor

Published on: 02/06/2009

Categories: Economics, My Two Cents

Comments: No Comments

Protectionism has clearly become a dirty word. Unfortunately, those in the position of dispensing awareness and perspective obviously have no idea what true protectionism is. If it were explained properly, I would venture to imagine that most here in America would be in favor of it. After all, it applies directly to us and our standard of living.

In the 1990s globalization was presented to the nations of the world. Terms like competitive and comparative advantage became part of business lore. Americans, already punch drunk from a 25-year assault on the purchasing power of their currency, were sold on the promise of inexpensive imported goods. These goods would be made elsewhere and moved on barges powered by oil that would be cheap forever. While the former was certainly true, the costs of such shortsighted thinking were largely ignored by those in Washington. We are now witnessing the effects of those costs firsthand.

“We cannot afford a trade war”

This week, Senator John McCain proposed an amendment to the pork-laden ‘stimulus’ package that would have effectively wiped out the ‘Buy American’ clause in the package. Essentially this clause stated that any government or public building projects had to use steel that was produced in the United States. Having already lived through the obliteration of this iconic industry once, the ‘Buy American’ clause was very encouraging. However, it appears that in this regard, it will be business as usual, maybe not because we want to, but now because we have to.

To put it simply, America can no longer live on its own production. This is no surprise and has been the case for quite some time. However, we are in a position now where a little leverage might come in handy. Our economy is bleeding jobs and we need to be able to maintain and promote American manufacturing. And contrary to the tenets of globalization, there is absolutely nothing wrong with producing our own goods and services and we should be doing exactly that.

While the argument will be made that our trade partners cannot afford not to trade with us, it is much more likely that they can remain solvent far in excess of our ability to sustain ourselves. This is particularly true in the case of energy, the ultimate staple good. Despite the claims of many that we have enough oil right here in the US to last us umpteen years, even if that were true, you don’t just flip a switch and have oil flowing. History should have taught us that much. It takes years in many cases to raise these products, build a transport and distribution network and get them into the economy. Again, we have no leverage.

And in reality, why do these countries need to trade with us anyway? Much of what they get in return is nothing more than IOU’s on fancy paper.

The chart below illustrates our trade gap in terms of actual goods – goods we either aren’t able to or currently do not produce ourselves.

US Trade Statistics (Goods only – in Billions of Dollars)

Year*	Exports	Imports	Balance
2007	1,148,481	1,967,853	(819,373)
2006	1,023,109	1,861,380	(838,270)
2005	894,631	1,681,780	(787,149)
2004	807,516	1,477,094	(669,578)

*2008 Final Data Available on 2/11/2009

In typical lukewarm fashion, the US Senate shot down McCain’s amendment in it’s version of what is likely to become a $3 trillion pork-barrel spending package in the coming weeks. For those who are counting, that is $3,000,000,000,000. However, what was most telling is that the balance of the Senate has no respect for American jobs or industry either. This was evidenced by the addition of a proviso that no existing trade agreements be violated by the bill.

This is what happens when you’re behind the eight ball. You have no leverage and little flexibility. In the case of trade, it is doubtful that we can even talk tough let alone back it up with substantial action.

‘Free Trade’ agreements and the Lowest Common Denominator

Another spin off of free trade agreements such as NAFTA is that in addition to driving our jobs overseas, they created a lowest common denominator situation where wages in developed nations came under downward pressure. The causal relationship is simple to illustrate. If a company can make something in Taiwan for example where GDP per capita is about 1/3 that of the US (Economist World in Figures 2007), then import the goods back into the US, the consumer will benefit from the cheaper good. Unfortunately, for every benefit, there is an equal and opposite detriment, and in this case, the jobs in the US which used to produce that good no longer exist. This is what has happened over the past 25 years or so. We chose instead to focus on a service economy where we basically shuffled papers and intangible goods amongst ourselves and called it an economy. All the while, we racked up massive external debts to buy the real goods we needed to survive.

I will allow that obviously this transformation has not been total. There are still some thriving industries in the US, but rather, I am referring to the net effect of the past 2 and one half decades. Much of the wage gap has been filled with various types of consumer credit whether it is credit cards or, more recently mortgage equity withdrawals. Obviously, as we have seen in dramatic fashion, these levels of debt accumulation proved to be as unsustainable as the dynamics that necessitated the accumulation in the first place.

The Solution?

While we have been showered with announcements that our trade deficit is improving, it must be noted that this is almost entirely due to the liquidation of 2008 (which crashed commodity prices) and the US-led global recession. Were growth to return to normal levels, we would immediately observe the trade deficit returning to its prior trajectory. By way of extension, the same situation exists in the case of the US Dollar. Fundamentally, nothing has changed. Media outlets and pundits alike are reading false signals created by the distortions of a debt-laden, fiat monetary system. It is something along the lines of going to an 80s movie where 3D glasses were necessary to make sense of anything. Only the guy at the door forgot to give them a pair.

For quite some time now this commentary has been a soapbox for the idea that we need to rekindle our productive economy. Never has that been truer than right now. We tried the globalization experiment, and in my opinion, it has been a dismal failure. Sure we got some cheap goods, but as a country, we’ve become dependent on others for our very sustenance. This is not an enviable position for anyone to be in, especially not for a country that wants to call itself an economic superpower.

That said the upcoming stimulus package could be used help return America to her pre-1980s position of industrial superiority. During the late 1800s and early 1900s, we ran large trade deficits and put them to work building an industrial base that was second to none. We have a chance to use the debt that will be incurred regardless for something productive. Simply handing people checks so they can go buy television sets (thereby sending the money to Asia) is not going to help anything. Rewarding zombie banks for past financial transgressions will not help anything. Taking the ‘stimulus’ and building industrial capacity, creating real jobs, and producing high quality products, however, would be a nice start.

Get a copy of Sutton & Associates’ free report – “The 7 Mistakes Investors Make…and how to avoid them” by clicking here

Disclosures: None

Income in a Zero-Rate World

by TwoCentsEditor

Published on: 01/30/2009

Categories: Economics, Financial Markets, My Two Cents

Comments: 1 Comment

One look at the yields on US Treasuries tells a good part of the story. Listening to Fed Chief Ben Bernanke gives us the rest: it is going to be very hard making any kind of money in many traditional fixed income instruments using the conventional method of clipping bond coupons. Certificates of Deposit won’t be much better moving forward. It would seem as though we are destined for either zero or near zero short-term interest rates for at least the next year.

At the same time, equity markets have been atrocious. That goes without saying. And it hasn’t just been the US markets either. International indexes have been decimated. Commodities, save Gold, have been hammered as well. There are always FOREX markets, trading options, and futures, but they are risky and often outside the comfort zone of the average investor. So the big question right now is how does one aspire to make any money in the markets given the current realities? Fortunately, there are a couple of strategies that are relatively easy to implement for the average investor. We’ll outline two of them here.

The hedged dividend Portfolio Model

The first is to create a situation where the investor is able to secure a higher rate of dividend income than that of traditional fixed income investments while significantly decreasing the risk to the portfolio. In order to do this, a portfolio of dividend paying assets is selected, and an appropriate hedge is identified to protect the investment. This allows the investor to get a comparatively high dividend yield while providing a higher degree of capital preservation than would otherwise be possible.

The problem with hedges is that markets don’t always go down, nor do they always go up. Obviously, when markets are moving higher a hedge will be a boat anchor on any portfolio. Conversely, the absence of a hedge in a falling market will also be a boat anchor. The challenge is identifying the bigger moves and acting accordingly.

Back in December, we took at a look at some model portfolios that were based on the investment themes focused on by the financial media during 2008. Of the three, let’s focus in on the energy portfolio, simply because it paid the best dividends of the three mentioned in that article:

Security	Symbol	5/19/2008 Price	11/20/2008 Price
Penn West Energy Trust	PWE	$33.83	$12.42
PenGrowth Energy Trust	PGH	$20.84	$7.84
Baytex Energy Trust	BTE	$29.20	$12.09
Harvest Energy Trust	HTE	$25.52	$9.20
Schlumberger	SLB	$106.63	$40.02
Permian Basin Royalty Trust	PBT	$24.74	$16.27
Kinder Morgan	KMP	$60.22	$45.37
Buckeye Partners	BPT	$49.11	$27.77
Ultrashort Oil&Gas ETF	DUG	$26.69	$49.57

This model contains 4 Canadian Royalty Trusts, an oil service company, two Master Limited Partnerships (MLP’s), and an express Trust. The model is heavy on the side of Canadian Royalty Trusts because they have been a popular vehicle for individuals to invest in oil and natural gas.

This model portfolio paid $19.98/share in dividends during the course of the period studied.
The assumption for the portfolio is that an equal number of shares were purchased for each issue listed. Let’s say for example that we purchased a round lot (100 shares) of each and a 16% hedge (250 shares) of DUG.

The initial cost of our portfolio on 5/19/08 (recent market high) would have been $41,681.50 plus any applicable commissions. The November 11/20/08 value (recent market low) was $29,490.50 for a loss of $12,191.00 or 29.25%. The dividends paid during that time would have totaled $1,998.00, a yield of 4.79% for just 6 months. Considering the S&P500 lost 47.25% during the same period, the hedged strategy performed much better and produced dividends at an annual rate of 9.58% as well.

Obviously, if the price of oil and natural gas had continued to rise, this would not have been an appropriate move since we would likely have gotten capital appreciation in additional to the dividends but the hedge would have lost significant value. The obvious risk to this type of an approach is that the incorrect hedge is used or a major market signal is missed. The whipsaw of the energy markets underscores the need to be up on the wheel in terms of keeping up with this type of a strategy. While it can certainly pay off, like anything else, it requires constant vigilance. The benefits are obviously the dividends and the knowledge that even if you don’t nail every move; you are still getting paid handsomely to wait until market conditions become favorable. And in the case of energy, you have the conviction of the belief that you are investing in a wasting asset that is becoming more and more difficult to get to market.

Income through covered calls

A second method that investors can use to make money on investments they hold is by writing covered calls. It isn’t as complicated as it sounds. In the interests of brevity, I will present a short primer of how an option works, focusing on calls for the purposes of this article.

A call gives the holder the right to purchase 100 shares of a stock at a given price, or ‘strike price’ for a period of time. For this option, the purchaser pays a premium. Let’s use an example to illustrate. Joe buys a call for Company XYZ at a strike price of $30 that expires in 3 months. The current share price is $28. Joe is speculating that the price of the stock will go up within the next 3 months. If indeed that happens, he can either sell his option to someone else (if it appreciates in value) or, if the price of the shares goes above $30, he can exercise his option, purchase the shares at $30 then sell them on the market for a profit. However, if the share price doesn’t move or goes down, Joe’s option will expire worthless.

Now let’s flip the roles and look at it from the standpoint of the investor who holds the shares. Let’s say that Joe buys 500 shares of XYZ stock at $28/share. What he can do is sell 5 calls (each call is an option on 100 shares) at a strike price of say $35. For selling these options, he’ll receive the premium, which will vary on a number of items such as the volume of options at that date and strike price, the time involved, and other factors.

Joe’s calls are ‘covered’ because he already owns the shares. If the option is exercised, he’ll just surrender his own shares as opposed to having to go out in the market and purchase them (naked call).

In the ‘worst’ case, the stock price rises to the point where the option holder will exercise and Joe will have to sell his $500 shares at $35/share. However, he not only received the premium from selling the options, but he also made $7/share. So his profit is $3,500 plus whatever he made selling the options. If the stock stays under $35, the option will expire unexercised and Joe can sell 5 more covered calls and bring in more premium. For stocks that are stuck in a range, this is a great strategy. Applying this strategy to a dividend-paying portfolio is a great way to enhance income, especially in a down market such as what we are dealing with right now. By combining this tactic with the hedged portfolio presented in the previous example, a fairly stable basket of dividend producing assets with extra income from the covered calls can be created.

Some things to consider

• It is a good idea to sell calls at a strike price that is significantly above what was paid for the shares. The example above is a reasonable one. If the strike price is too close to the current market price, you stand a better chance of getting blown out of your position. You’ll likely bring in more in premium for those options, but the likelihood of losing your position must be weighed. This is especially true if the intent is to collect dividends and supplement the dividend income with covered calls.

• Tax implications must also be considered. Generally for IRA type accounts this is not an issue as all taxes are deferred anyway. However, in the case of an individual taxable account, Joe’s $2,500 gain would be taxed as a capital gain. The amount of time Joe held his shares would determine whether he’d pay the short or long term rate.

• Writing uncovered or naked calls is not generally advisable and is typically more risky because the writer of the naked call has to have the money available to purchase the shares to sell should the option be exercised. For an investor who is looking to augment dividend income, writing naked calls is probably not a great idea.

If there is one silver lining to the current zero-rate environment, it is that consumer prices have not gone ballistic at the same time. The reduction in energy costs have helped consumers immensely and slightly lessened the need for inflation fighting 10-15% returns (see table below).

Observed Inflation Rate	Tax Bracket	Return required to break even
5%	28%	6.94%
7%	28%	7.92%
10%	28%	13.89%

However, by seeking out these types of returns anyway, investors can begin to either recoup some of what they lost in 2008 or prepare for a future that is at best unclear. Based on recent money supply figures, the assumption that we will once again be entering a period of high inflation is a pretty good one.

Perhaps the most important take home message from this article is that when you buy a stock you become an equity owner in that firm. And it is my belief that equity owners should share in the profits of the firm rather than resting their success solely on the hope that someone will come along at some point in the future and give them more for their shares than they paid.

It must be noted that these strategies are not suitable for every investor. The model portfolio in this article is used for informative and illustrative purposes only and should not be taken as an investment recommendation or offer to buy or sell any security. Always consult a qualified financial professional before making any investment decisions.

Disclosures: Long PWE, HTE

" A Contrarian's Viewpoint Of Technical Analysis In Today's world"

by admin

Published on: 01/28/2009

Categories: Uncategorized

Tags: bonds, commodities, Economics, economy, energy, finance, gold, investing, money, oil, penny stocks, silver, stock market, stocks, Technical Analysis

Comments: No Comments

When I broke into the stock market in 1961 if you wanted to learn technical analysis you were immediately pointed to Edwards & Magee’s book,” Technical Analysis Of Stock Trends” which was the bible of the industry from its first edition in 1948 until its last edition in the 1970s. Of course technical analysis really got its formal start with the publication of the famous “Dow Theory” in a series of articles written by Charles Dow in the Wall Street Journal between 1900 and 1902.

However, until the 1970s technical analysis was frowned on by the street as being somewhat akin to astrology. Then for reasons that I don’t pretend to understand it suddenly became respectable. This respectability has come at a high cost. As a contrarian I regard today’s popularity of technical analysis as a curse and not a blessing. The founders of technical analysis regarded it as a tool for an elite minority in a world in which fundamental anlaysis reined supreme. They regarded themselves as savvy predators who would hide in the weeds and knock off the big game fundamentaltists as they came thundering by with their high powered technical rifles.

As many Wall Street professionals are only too well aware of, the more popular a market indicator becomes the more useless it becomes as a profit making indicator as every Tom, Dick and Harry jumps on the hitherto sucessful indicator and beats it to death. To put it simply what everybody knows isn’t worth knowing. It is what everybody doesn’t know that is of decisive importance.

Regretably, the current overpopularity of technical analysis is not its only problem from the contrarian viewpoint. Other very ugly problems exist. The worst of these problems is today’s overwhelming domination of moving average charts. This domination is recent. The final edition of Edwards & Magee’s book contained a remarkable 324 charts of which only 49 charts were moving average charts. These were stuck on at the end of the book as a sop to the growing power of the moving averages crowd. The earlier works contained far fewer moving avearge charts. Technical analysis was regarded by the old masters as an art that had to be mastered. In those days before the triumph of moving averages swept everything before it a technician was an expert in “pattern recognition analysis.” He was someone who had a hard earned ability to analyze bullish or bearish chart patterns. Among the more common types of patterns that technicians had to be able to master were head and shoulders, tops and bottoms, W patterns,triangles,rectangles,wedges, fans and gaps.

The trouble with moving averages is that they are way too popular and even worse way too easy to analyze. Let’s be honest! How much talent does it take to analyze a moving average? Not much. And everyone who looks at a moving average sees the same thing. The stock is either above the moving average or below the moving average. The triumph of technical analysis and moving averages has resulted in the worst of all worlds. A world in which everyone sees the same thing and what is truly ugly acts on it. If you are technician who uses moving averages what is your edge?

The edge that the founders of technical analysis once had is now gone. Even worse there is reason to believe that technicians are now the prey of choice for a new group of predators who are hiding in the weeds and who’s favorite big game animal is the technicians who are now kind enough to show the world their poker hand. Or is it just my imagination that stocks are no longer breaking through their moving averages with the power and authority that they used to? Those long decisive runs which are the bread and butter of technical analysis seem to occur less and less. Could the reason be unseen predators? How difficult is it today for savvy predators with enough capital behind them to lie in wait until the final minutes of trading and then “paint the tape” with their concentrated action creating a false breakthrough. Knowing full well that many technicians will fall into the trap like plump pigeons. After the trap is sprung of course the stock reverts back to its old mean.

What is to be done? I have two answers and you are not going to like either of them. As a contrarian I am obsessed with seeking out and finding valid metrics that are either ignored or unknown by the public. If you see what everyone else sees you have no edge. At all costs you must find an edge. You must find metrics or indicators that are valid and don’t appear on everyone’s radar scope. My first suggestion is to use Point & Figure charts. I know what you are going to tell me. Point & Figure charts went out with the horse and buggy. They are way too simple. Why they don’t even have Bollinger Bands or MACD. No serious technician would consider using something that pathetically simple in today’s modern world. Exactly! That’s the whole point. I would like to remind the reader that technicians were using Point & Figure charts with success for generations until moving averages swept away all the alternatives. To the best of my knowledge the most recognized proponet of Point & Figure charts today is Jim Dines of the highly regarded Dines Letter. The dean of investment letters Richard Russell also uses Point & Figure charts on a fairly regular basis. If you thought my first suggestion was horrifying. You are going to love my last suggestion. As I am writing these words I have a comical image of a hardcore technician blasting out of his chair in outrage and doing a triple summersault and bouncing on his head three times.

My last suggestion is that when a stock drops below its 200 day moving average it should be regarded as a bullish rather than a bearish event. There I said it. Before going nuts I challenge the reader to pick at random a dozen 5 year, 200 day moving average charts and too see them for the very first time. Ask yourself a revolutionary question. Why isn’t it better to buy a stock when its selling below its 200 day moving average rather than above its 200 day moving average. Study the charts and see them for the very first time. I told you I was a contrarian. We are always told that we should buy low and sell high. Now is your chance. Wen we buy above the 200 day moving average we are buying high in the hopes of selling to an even greater fool. Think about it!

Fred Carach is the author of the book “Forty Years A Speculator.” To view his blog, Click Here

A Bailout Letter from "We the People"

by TwoCentsEditor

Published on: 01/28/2009

Categories: Current Events, Economics

Tags: bailout, Barney Frank, Biden, business, commodities, democrat, Economics, economy, finance, financial crisis, financial system, Geithner, obama, politics, republican, stocks, washington

Comments: 2 Comments

Dear Elected Representatives,

In the coming days you will be faced with a decision. Once again, fear will be instilled in you, this time by a different group of faces. You will be told that if you do not act that our economy will collapse with all blame solely laid at your feet. You might even be told that martial law will result if you don’t pass the next stimulus and bailout bill.

This time you don’t have the distraction of a coming election. Nor do you need to worry about pandering. The American political memory is pitifully short, and there are almost two years before the next elections. So you can act in confidence and principality without having to worry about keeping your job. Such a sad state of affairs we have in America.

Let’s take a look at the last failure of government intervention. On October 3rd, you authorized over $800 billion in taxpayer dollars (which had to be borrowed) to save the financial system. It has been an abysmal failure. You’ve succeeded in doing little more than creating a giant financial parasite. A parasite that will require more and more resources going forward while producing nothing but a drain on the efforts of future generations.

Even worse, since October 3rd, the unaccountable Federal Reserve has created tens of trillions more behind closed doors, pinning the bill on the forehead of your constituents with nary a whimper of protest from the Congress. This reality is not indicative of the Republic our Constitution demands, nor is it acceptable as a means of government.

The net effect of the bill that will be put before you will be to increase the burden of government on the American people. When will you learn that the markets do a better job of allocating resources than government? When will you learn to stop rewarding irresponsible behavior? I credit you with having the intellect to figure out that when you subsidize bad behavior that you guarantee more of the same. Bank of America needed to fail. Citigroup needed to fail, AIG needed to fail. And the list goes on. Now they sit like an albatross upon the productive output of our already fragile economy. How do you expect our economy to recover when you continue to pile dead weight on top of it? Despite the fancy verbiage that you’re likely to include in your terribly scripted reply to this letter, that is exactly what you’re doing.

It is time for the bailouts to stop and for responsibility and accountability to begin. It starts with you. You are paid a handsome salary and lavish benefits package (far better than anything your constituents receive) to represent them. Slamming them with debt obligations while telling them you’re fighting for them is a bald-faced lie. I would like to know by way of a personal reply that you’re going to stand with the American people in this crisis – not with big banks, Wall Street, the unaccountable Federal Reserve, and the status quo.

Respectfully,

“We the People”

We encourage the general public to use any or parts of this text as they consider contacting their representatives about this latest egregioous breach of responsibilty to the American people.

Three Bears and a missing Goldilocks

by TwoCentsEditor

Published on: 01/23/2009

Categories: Current Events, Economics, My Two Cents

Tags: business, commodities, economy, finance, government, great depression, media, money, news, politics, press, recession, stocks, Wall Street

Comments: 1 Comment

2006 and 2007 were framed by financial pundits as a time when we could truly have the Goldilocks economy. Growth wouldn’t be too fast or too slow, but just right. The Fed had both hands on the wheel and was goosing things just enough to keep the ship headed in the right direction. Of course all the while the same pundits chose to ignore raging inflation at the consumer level as energy and food prices headed for the stratosphere. The fall of energy prices has been spectacular, however, the drop in food prices has been virtually nonexistent. As in the story of Goldilocks, there were some bears who weren’t too happy about Goldilocks and her plans for their porridge.

2008 was the year of the bear in many regards, but as we take a deeper look at the situation, it becomes very clear that there are several other angry bears out there that have yet to completely show themselves. The credit crisis, as many in financial circles affectionately call it, has been improperly blamed for the current economic malaise. In order to understand this concept, it is imperative that one be able to separate the financial economy from the real economy. The real (or producing) economy is the part that actually creates goods and services which are allocated by the markets, often with the use of credit from financial intermediaries. Those intermediaries make responsible loans based on a number of factors and intend to collect payments for the duration of the loan. Despite what we’ve been led to believe about securitization, a good deal of non-securitized lending was going on as well. This is the real economy. The financial economy is behemoth firms on Wall Street, which by and large produce almost nothing (except headaches recently).

This was not always the case. An economy does need financial intermediaries. Essentially what these intermediaries are supposed to accomplish is to bring savers and borrowers together in an efficient manner and take advantage of scale economies. For example, it is easier for a company to go to a bank for a million dollar loan rather than put ads in newspapers and solicit the loan a thousand dollars at a time. Likewise is it easier for someone who wants to save $1000 to head to their local bank than it is for them to seek out a borrower directly. In this both these cases, the financial agent or intermediary provides a valuable service by adding efficiency to the process. For this service, the agent is paid a fee. That fee comes from the difference between the interest paid and the interest collected (the spread). Unfortunately, what has happened is the financial intermediaries have been engaging in other activities such as underwriting, trading for their own accounts (Wiki Glass-Steagall) as in the case of broker dealers, and providing investment advisory services, often times recommending stocks which they themselves own or have provided underwriting services for. Lastly, and perhaps most dangerously, the use of leverage and super leverage became commonplace. The largest financial intermediaries dabbled too much in the conflict of interest and risk business rather than tending to their role in the system.

The Baby Bear has been the understanding that all of this would go well until the sea changed and the market moved against these intermediaries. This sea change, triggered by a strikingly small number of defaults on subprime mortgages and the avalanche of credit derivatives that followed has left a swath of destruction that has rendered our most venerable firms insolvent. What was Wall Street is now a giant zombie, requiring constant, ever-increasing, and ever-accelerating mountains of money just to keep it functioning. This is borne out in the news headlines as AIG, Citigroup, and Bank of America in particular have required steady infusions of cash. Not to mention the GSE’s Fannie Mae and Freddie Mac. The above scenario is a pure example of the downside of leverage. If someone takes $100 and borrows $900 to make a $1000 investment and that investment loses 11%, the capital is gone. What is left is an underwater investment and no way to make good AND remain solvent. In many cases we witnessed leverage rates of 20, 40, and even 100 to 1. In these cases, miniscule market moves led to instant insolvency hence the ability of a small number of bad loans to trigger the crisis. (See chart below for an idea of how credit in the financial system has been growing over the past half century.)

Total Credit Owed - Financial Sector

(Total Credit marked debt owed by the financial sector – an indirect indicator of leverage)

However, were the defaults on those subprime mortgages caused by the credit crisis? Absolutely not. They were caused by the Mother Bear: overleveraged consumers. The ridiculous notion put forth by the media and financial pundits that real estate prices could accelerate forever was prima facie evidence of a bubble. What these pundits failed to recognize is that in any debt structure, there is an absolute point where it is simply not possible to take on more debt because expectations for even the servicing of that debt are simply unreasonable. To put it simply, what were the prospects for the now famous California strawberry picker to make continually increasing payments on a $750,000 condo? Silm and none and Slim’s bags were packed before the ink was dry on the loan.

Unfortunately, it was not just housing; it was everything. A recession was avoided in 2001 by dropping interest rates to nothing, printing money, and blowing bubbles. We bought too many cars, too many computers, too much consumer electronics, too many swimming pools, too many granite countertops, and in general, too much of everything. Not until it was too late did we realize that we were saving nothing, spending well in excess of our means, and now the bill is coming due. Buying less was an obvious move on the part of consumers, and is in full swing. This pullback in spending is now rippling through both the manufacturing and service economies of the US and other OECD countries. This morning, the UK officially entered a recession although I’d venture to guess that, like us, they’ve been there for quite some time. China’s output is falling as we (and others) consume fewer of their goods.

The Father Bear is time. Consider for a moment the trillions of dollars that have been thrown at just the banking system. These trillions have not fostered one iota of growth. They have barely unlocked the credit markets with regard to banks. The LIBOR Rate chart has more gaps on it than someone in dire need of an orthodontist, and the banking system requires unknown further trillions just to maintain a semblance of financial order.

1 Month LIBOR

(1-Month London Interbank Offer Rate (LIBOR) on a weekly basis)

All of this, and nothing has been done about the economy. And I’ve got news for the pundits – this will not go away by printing more money. This will not go away by lowering rates, which are already at zero in the US. This will not go away by handing out gift cards to consumers to force them to buy stuff (Suggested in 1/8’s MTC article as a possible ‘solution’ and mainstreamed by MarketWatch on 1/22). Creating more government jobs is not the answer. What has been lost in the analysis of the Great Depression is that despite FDR’s New Deal programs, the US remained in a depression for another 7 years at a minimum. The country was pulled out of that depression by the onset and eventual entrance of America into World War II, NOT by government spending programs alone. This does not bode well geopolitically.

The take home message is don’t expect this to end quickly. It will not. The Depression of 2008 and beyond is here, no matter what we choose to call it. Every week over one half million freshly unemployed individuals are filing for unemployment insurance. Sure that insurance helps them to stay in houses and buy necessities. That’s about it though. I would not count on these people running up credit card debt to over-consume. So every week, one half million discretionary spenders are heading to the sidelines. This is a crisis of consumption, brought on by decades of overconsumption, facilitated first by sending a second wage earner to the workforce, and later by the introduction and rampant growth of consumer credit. These excesses were not created overnight, nor will they be purged overnight.

01/22/2009 Initial Claims

(New Unemployment Claims – weekly in gray, 4-week mean in brown)

Total Consumer Credit Outstanding

(Total Consumer Credit in 2000 Dollars with y/y %change in red)

What is also going to become very obvious in the next 9-12 months is that inflation is a monetary, not an economic event. We have been riddled with talk from the financial press that prices cannot rise while the economy is weak so we should forget about inflation. They will be proven wrong. A growing economy actually causes prices to fall by creating efficiencies through scale and scope economies. Prices are much more a function of money supply than economic velocity or activity. Watch what happens to prices if the government starts handing out money or gift cards. Do you think flatscreen TV’s will sell for 50% off if those TV’s are flying off the shelves because you’ve got 300 million Americans armed with a Victory Card? I think not. Prices are a function of the supply of money and credit. The bad news here is that you can have inflation during a depression. Care for a recent example? Just go back to the 70’s stagflation. What we’ve got now is just a more extreme version of an already established event.

What do to? Believe it or not, there are sectors, industries and firms that will do exceedingly well in this type of an environment. They’re out there and we’ve been pointing them out to our subscribers and clients. Perhaps most importantly though, at a micro level, each person can clean up their own finances and temper their expectations of the future to whatever extent is possible. And if you happen to see Goldilocks, tell her to drop Ben a line; he’s been looking for her for quite some time and is rather worried.

DISCLOSURES: Long MERKX, DOG

Old School Rules for a new era

by TwoCentsEditor

Published on: 01/20/2009

Categories: Current Events, Economics

Tags: beat the street, business, commodities, democrat, Economics, economy, finance, money, obama, politics, president, republican, stocks, the centsible investor

Comments: 2 Comments

I genuinely feel sorry for Barack Obama. As a political independent, it really didn’t matter to me who won back in November. I tend to view things from a more pragmatic stance, particularly when it comes to the immutable laws of economics. When observed in the context of history, political affiliations don’t seem to matter too much. Since we totally abandoned our monetary discipline in 1971, deficit spending, debt accumulation, and devaluation of the currency have transcended everything – political affiliations included. So as we begin a new era, I want to remind everyone of some old axioms – which still rule the day:

1) You don’t clean up spilled milk by spilling even more.

2) Actions have reactions and sometimes the reactions are not what you thought they’d be.

3) A nation cannot borrow and spend its way to prosperity.

4) Neither can a nation print its way to prosperity.

5) Government is the least efficient vehicle for implementing anything, but is unrivaled when it comes to destroying it.

Perhaps most importantly, 37 years of monetary imprudence is not undone in a month, six months, a year, or even a Presidential term. It doesn’t matter who you are, how good you are, or what party you belong to. Even if the mistakes stopped today, it would probably take the better part of a generation to recover from the debt and lack of productive output which currently encumbers us.

I will say that President Obama could have done both his credibility and the American taxpayer a huge favor by taking a pass on the lavish inauguration festivities. There is work to be done; the time for partying was in November. Now is the time to lead, roll up our sleeves and get to work. I will say that I am quite sure I’d be making the same comments had John McCain been sworn in today. Whether or not stocks are in a bear market is open for debate. However, the bear market in leadership in America shows no signs of ending.

Themes for 2009

by TwoCentsEditor

Published on: 01/08/2009

Categories: My Two Cents

Tags: business, commodities, dollar, economy, finance, investing, money, stock markets, stocks

Comments: No Comments

2009 has certainly started off with a bang. While the financial markets have been rather quiet, underlying economic fundamentals continue to deteriorate. Unfortunately, the rubber-stamped response to this deterioration has been nothing short of more of the same. More debt, more deficit spending, and more subterfuge to insist that it just isn’t so. The monetary stops have been pulled as the Federal government has gone public with its intentions. The biggest problem with this is that what we’re hearing now is what was going on six months ago. The idea of persistent trillion dollar deficits has been firmly planted with absolutely no mention of an exit strategy or how the Congress is planning on paying back these exorbitant amounts of borrowing. What is going on right now is downright frightening to non-Keynesians as we are desperately looking at these initiatives for something – anything that will cause real capital formation or foster genuine economic growth. Unfortunately, the ultimate plan appears to be something along the lines of taking a pebble and putting a rock on top of it, followed by a cement block, followed by a boulder. And the American taxpayer is the pebble; about to be crushed by ten generations worth of debt accumulated before we even reach the next decade.

In a classic journalistic transgression, the Congressional Budget Office stole most of the thunder of our first theme for 2009 – a blowout in the Federal deficit as the government, almost out of options, pulls out all the stops and piles it on taking the national debt curve parabolic. Here are some of the related issues as we see them for 2009:

States circle the wagons for bailouts

California, New York, and as many as 29 other states are already in fiscal extremis as revenues plunge due to unemployment and decreasing tax receipts. States are faced with difficult choices in 2009. They can raise taxes, cut services, beg for a bailout, or in all likelihood all of the above. And in a typical ironic twist of fate, the market for municipal bonds is drying up just when the states are going to need the money most. To make matters worse, yields on municipal bonds blew out to nearly 2.2 times the yields on corresponding Treasury issues. This is more than twice the .96 historic level normally observed. Obviously, the message here is that the perception of security is gone. We pointed out this likely eventuality when MBIA and AMBAC came under duress and saw their credit ratings cut back in June. Not only are the bonds questionable, but their insurance is as well. The bottom line here is that if bond issues can be sold, investors will command much higher yields resulting in greater debt servicing costs. Initial forecasts for 2009 indicate that there will be a 6% decrease in new bond issues sold, taking the total down to around $364 Billion.

The Goverbank buys Municipal Bonds

Goverbank – n – The combination of the debt-issuing Federal Reserve and the debt-assigning US Treasury.

Because of the realities above, and a worsening cash crunch at the state and local level, the Goverbank will begin buying bond issues in 2009. Obviously, this is a common sense conclusion given the actions already observed as the Goverbank has inserted itself as the buyer of last resort in numerous other markets already. However, it serves to drive home one of the important themes moving forward: there will be no market or bailout too large for the monetary authorities to undertake. $700 Billion was only the beginning. The buying of Muni bond issues will also lessen the funds required to service the debt by creating artificially low rates. This will prevent the need for even further taxpayer-funded municipal bailouts – but only on the surface. Think of the classic shell game; either way you’re paying for it.

Private sector businesses and industries beg for bailouts

Already the steel and newspaper industries have stated their intention to vie for government bailout money. The TARP (already overspent) is going to have to be stretched much further. While some in the media will point the semantical issue that the second half of the money hasn’t yet been released, it would be foolish to conclude that this will not happen. Sure, there may be some pandering and political posturing, but in the end the second $350 Billion will be released and distributed. In reality, the number is much higher than that already. It is very likely that we will see retail chains, more financial intermediaries, and scads of other businesses that rely on discretionary consumer spending in front of Congress as well in 2009. It is no accident that consumer staples companies did the best in 2008. The rest will soon be on Capitol Hill with hat in hand. The die has been cast – any industry that experiences malaise will want TARP money. A rather humorous story emerged last night, as apparently Larry Flynt is now demanding a bailout for the ‘entertainment’ industry. Incredible, but should come as no surprise. Expect more of this in 2009.

Creative financing will re-emerge to induce more borrowing

In an economy that is almost totally reliant on debt and spending, a cessation or curtailing of either of these activities will cause immediate problems. At this point, with negative savings rates having persisted since at least 2005, it is more imperative than ever that consumers continue to borrow and spend. The problem is how to induce this? The easy solution in 2001 was to put the pedal to the metal, drive interest rates down and create phony home ‘equity’ that could be easily tapped for almost any purpose. It should be noted that when home equity loans were first introduced the money had to be used for some type of noble purpose such as education or improving the property. No more. The big question now is how will consumers be cajoled into borrowing even more money? Look to the same folks who created adjustable rate and reverse amortization mortgages for the answer. Creative financing will be back in 2009. And I don’t just mean 0% interest loans. Any machination that allows payment to be put off until a later date will do. 12, 24, and 36 months interest-free. No payments for 12 months. Partial payments for 12 months. No down payment and we’ll make the first 3 monthly installments for you. We’ve already seen these before, but they’ll become commonplace in 2009. Look for new ones as well with longer payments terms, which ironically means you’ll end up paying even more for the items. However, the focus will be on the ‘low monthly payments’. Stimulus checks may not be checks at all, but may rather have a requirement for consumption attached. All indications are that the framers of the last stimulus package were unhappy because not enough of the money was spent. Apparently some people actually paid bills and/or saved the money. Maybe Wal-Mart and Home Depot Gift Cards will be the delivery method for the next economic stimulus. I’m only half joking about this.

2009 – The Bottom Line

In the end, the answer will be the same as it has always been – money printing. We have known this for a long time and the proof continues to come in each day in our news headlines. The government believes that only it can save us from certain financial destruction. And it will do so by employing the same policies that got us into this mess to begin with. Amazing. History has borne out this reality ever since the invention of fractional reserve banking and the printing press. The quantity of Dollars in your bank account may be guaranteed. There will be enough Dollars created to permit all the states, private firms, Bernie Madoff, and perhaps even Santa Claus to avoid insolvency. Bankruptcy, however, has been replaced by receivership. Firms will no longer go bankrupt; they will be absorbed in a giant asset consolidation. Bear Stearns, AIG, Fannie, Freddie, WaMu, Citigroup, and Lehman are all examples of this new financial hierarchy. There will be plenty of Dollars. The problem Main Street will face in 2009 and beyond is twofold.

Monitoring and maintaining the VALUE of the currency will be the challenge. When and if the spigots are opened and these new Dollars cascade into the real economy, the value of existing Dollars will be destroyed in a very short period of time. Consequently, prices will skyrocket. Secondly, as has been pointed out before in previous articles, recognizing the transition will be key. It may happen slowly or it may happen quickly. Much of the effort of the Treasury so far has been aimed at controlling the flow of the fresh money to avoid touching off a hyperinflationary spiral. These developments will require constant analysis as 2009 unfolds.

Ultimately, the quantity of a fiat currency is easily manipulated. However, it is the value that is much harder to maintain. Preserving value will be your challenge in 2009 – and ours along with you.

Disclosures: Long MCD, XLP

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