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Where the Wild Things Are

John Mauldin — Sat, 21 Nov 2009 05:49:00 GMT

Where the Wild Things Are
It Is Not Just Japan
The Euro-Yen Cross and the Dollar Carry Trade
New York, London, and Switzerland

From ghoulies and ghosties
And long-leggedy beasties
And things that go bump in the night,
Good Lord, deliver us!

--Old Scottish Prayer

Where the Wild Things Are is a beloved children's book and now a beautiful movie. But in the investment world there are really scary wild things lurking about in the hidden recesses of the economic landscape. Today we look at one of the unintended consequences of the Federal Reserve's low interest rate policy.

For quite some time, I have been arguing that we are faced with no good choices, not just in the US but in the entire "developed" world. I see a low-growth, Muddle Through world over the next years (with a double-dip recession just to liven things up). However, that does not mean that we will lack for volatility. Things could get volatile rather quickly. Let's quickly set the background.

It Is Not Just Japan

Let's look at today's interest rate picture. Yesterday, we had the bizarre occurrence of banks actually paying the government to hold their cash. Three-month treasuries yield a miniscule 0.01% in interest. If you opt to buy a one-year bill you get all of 0.26%. You can see the entire spectrum below.

Look at the graph of the yield curve below. It is as steep as we have seen it in a long time. But that is almost the point. Banks are essentially getting free money. If you are a banker and can't make money in this environment, you need to quit and find meaningful employment.

And that is part of the rationale that the Fed espouses with its low interest rate regime. Not only does it allow banks to repair their balance sheets, it also encourages investors to put money into riskier assets in order to get some return on their investments. Over $260 billion has gone into bond funds this year, and just $2.6 billion into stock funds. However, you have to balance that with the fact that some $400 billion has left money market funds paying less than 0.2%. So there is some movement to capture yield.

But is it just banks that are getting cheap money? And is encouraging investors to find riskier assets a sound policy? Maybe not.

The Euro-Yen Cross and the Dollar Carry Trade

I wrote a great deal in the past few years about the strong correlation of the euro-yen cross to stock markets all over the world in general. (The euro-yen cross is the exchange rate of the euro and the Japanese yen.) This was a proxy for the Japanese carry trade. The stock markets of the world rose and fell in synchronization with the yen versus the euro.

A currency carry trade is a strategy in which an investor sells a certain currency with a relatively low interest rate and uses the funds to purchase a different currency yielding a higher interest rate. A trader using this strategy attempts to capture the difference between the rates, which can often be substantial, depending on the amount of leverage used.

The Japanese drove their rates down to essentially zero in the 1990s. By early 2007, it was estimated that the yen carry trade was over $1 trillion. But when the world credit crisis hit, the world wanted dollars. They paid back the yen and bought dollars, driving the yen higher and killing the yen carry trade. Who wants to borrow in a currency that continues to rise, even if the costs are low? And often, large leverage was used, so small movements in the currency could destroy outsized amounts of capital.

But now, there are some who are beginning to ask whether there is a dollar carry trade. In the last nine months, the correlation between the dollar and the stock market has gone to about 90%. If the dollar rises, the stock markets and other risk assets tend to fall, and vice-versa. It would appear that investors and funds are borrowing cheap dollars on a short-term basis and investing in all sorts of risk assets. Not only have stock markets risen, but so have high-yield bonds, commodities, and so on.

We have seen the steepest rise in US stock markets coming out of a recession since the end of the last world war. The market is "discounting" a 5% GDP next year and a profit rebound beyond anything in past experience. Depending on the quarter, operating earnings are expected to rise by anywhere from 30-40%. P/E ratios are back at 23, well above the 17 we saw in the summer of 2007 (I am using 4^th quarter 2009 estimates so as to not have to take into account the disastrous 4^th quarter of last year.)

Worrying about a dollar carry trade is not just a preoccupation of my friends Nouriel Roubini or David Rosenberg or Frank Veneroso. Look as this story from Bloomberg:

"China's Liu Says U.S. Rates Cause Dollar Speculation

"Nov. 15 (Bloomberg) -- The decline of the dollar and decisions in the U.S. not to raise interest rates have caused "huge" speculation in foreign exchange trading and seriously affected global asset prices, said Liu Mingkang, chairman of the China Banking Regulatory Commission."

"The continuous depreciation in the dollar, and the U.S. government's indication, that in order to resume growth and maintain public confidence, it basically won't raise interest rates for the coming 12 to 18 months, has led to massive dollar arbitrage speculation," he told reporters in Beijing today at the International Finance Forum.

"Liu said this has 'seriously affected global asset prices, fuelled speculation in stock and property markets, and created new, real and insurmountable risks to the recovery of the global economy, especially emerging-market economies.'

"His view echoes that of Donald Tsang, the chief executive of Hong Kong, who said the Federal Reserve's policy of keeping interest rates near zero is fueling a wave of speculative capital that may cause the next global crisis."

"'I'm scared and leaders should look out,' Tsang said in Singapore Nov. 13. 'America is doing exactly what Japan did last time,' he said, adding that Japan's zero interest rate policy contributed to the 1997 Asian financial crisis and U.S. mortgage meltdown."

It is not just China. Brazil has moved to impose a tax (or tariff) on investment money coming into the country on a shorter-term basis, as they are worried about both a bubble in their markets and in their currency. Russia is openly considering similar policies.

I have been doing a lot of speaking in the last month. In almost every speech, I warn of the significant imbalance in the dollar. I walk to the very end of the stage to help illustrate that the world now has on a massive ABD trade. By that I mean Anything But Dollars. Everyone is now on the same side of the boat. They have borrowed dollars to buy other risk assets, assuming that the dollar, like the yen in the glory days of the yen carry trade, will continue to fall. Dollar bears are everywhere.

Explanations abound for why the dollar is a trash currency. It is Fed policy, or the Obama administration's willingness to run massive deficits, or the trade deficit or our health-care policy or (pick any number of issues). But I wonder.

Global trade collapsed last year and well into this year. Global trade was essentially done in dollars. If global trade is down 20% or more, then there is less need for companies in various countries to hold dollars and more need for local currency because of the crisis. Thus, after a rush to safety in the credit crisis, there is a rational selling of dollars by business.

Look at the above chart. Notice that the dollar is roughly where it was 20 years ago. And notice the recent jump during the credit crisis. We are not even back to where we were before the crisis.

What happens if world trade picks back up, as it appears to be doing? Admittedly, it is not a robust recovery as yet, but it is rising. That means more need for dollars. And dollars which are being borrowed (and probably leveraged!) on the assumption the dollar will continue to fall.

And I agree that, over time, the case for the dollar is not as good as I would like. But in the meantime, we could have one very vicious dollar rally, which would take equity markets down worldwide, along with other risk assets. Why? Because it would be a major short squeeze.

Barron's just did a survey. It revealed that the bullish sentiment on stocks is quite high and almost everyone hates US treasuries (graph courtesy of David Rosenberg of Gluskin, Sheff)

Whenever sentiment gets too strong in one way or the other, it is usually setting up the markets for a rally in the despised asset. Mr. Market like to do whatever he can to cause the most pain to the largest number of people.

I am not predicting a near-term crash or imminent precipitous bear, although in this environment anything can happen. I am merely noting that there is an imbalance in the system. The longer this imbalance goes on, the more likely it is that it will end in tears. And the irony is that a recovering world economy could be the catalyst.

The Wild Things? They may be hiding in a portfolio near you. Just food for thought. Stay nimble.

New York, London, and Switzerland

I am going to hit the send button on what may be the shortest e-letter I have ever done. The travel is catching up with me and I need some rest.

I am looking forward to Thanksgiving next week. It may be my favorite holiday. Family, friends, food, and football. My usual pattern is to get up very early Thursday and start the prime slow-cooking, and then turn to the side dishes. It will be no different this year. My brother will bring the smoked turkeys, which he has down to an art form. And then there are the over-the-top wines I was so graciously given this past birthday by so many friends. I will bring a few of those bottles out.

The next weekend I am in New York for Festivus with the crowd from Minyanville, and then I am home for over a month before I go to London and Switzerland in late January. Then not much is currently scheduled until April, although it always does seem to change. After the recent hectic schedule (15 cities and even more speeches in just a little over three weeks), I look forward to some home time.

I wish those of you in the US the best of Thanksgivings, and the rest of you a great week. And thanks for all the very kind words of late about Tiffani. She seems to be doing better. She is due in a month, so she is still moving slowly, but you can sense the excitement in her and Ryan. I find it all very pleasant.

Your "there's no place like home" analyst,

John Mauldin

The Stock Playbook 11/20/09

Dave Dispennette — Fri, 20 Nov 2009 23:16:00 GMT

In today's video I'm going to fill you in on...

Netlist (NLST), and Charles & Colvard (CTHR)
LFT and CHBT
HEAT and a VPRT short

Click play on the video below to watch it now...

(Please visit the site to view this media)

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Dave Dispennette
The Stock Playbook
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When Medicaid Will Pay for Long-Term Care

Bob Carlson — Fri, 20 Nov 2009 16:18:00 GMT

Many people still expect that government programs, such as Medicare and Medicaid, will pay for their long-term care needs. Unfortunately, these programs provide limited assistance for long-term care needs.

Medicare, the program for those 65 and older, has restricted coverage for stays at long-term care facilities. The coverage generally is only for brief periods of rehabilitation after surgery or injuries. Medicare pays only about 15% of national nursing home expenses. It does not pay much of the cost for those in assisted living facilities or receiving home health care.

Medicaid offers extended long-term care coverage and pays about 45% of total nursing home expenses. But to receive the coverage you must meet the Medicaid asset limits. This generally means you must be impoverished by Medicaid standards. There are strategies people use to qualify for Medicaid, but they became less practical after changes in the law about 10 years ago and even less practical after a 2005 law. Now, it is difficult to qualify for Medicaid without impoverishing yourself long before any coverage is needed.

Medicaid is a joint federal-state program. There are umbrella federal rules, but the states are allowed to add to them by making eligibility more restrictive. You have to know not only the federal rules but any modifications your state makes. In this post, I review the federal rules and some state variations.

Understanding Asset Ownership Limits

First, you generally can’t own assets worth more than $2,000 ($3,000 if you are married). But there are exempt assets you can own that do not count against the limit. The states have some flexibility in setting the details of the definitions of exempt assets.

You are allowed to own household goods and personal effects up to $2,000, one car, term life insurance with a face value of up to $2,000, and a burial plot.

You also are allowed to own a home, up to a point. When a spouse is occupying a house, an unlimited amount of home equity is allowed. If there is no spouse, home equity is limited to $500,000 ($750,000 in some states).

There is no limit on the value of the automobile you can own. Some advisors recommend reducing your non-exempt assets by using cash to purchase an expensive car.

When you limit your asset ownership to these levels, you probably will qualify for Medicaid. But that is not the end of the story. After a Medicaid enrollee dies, the state is allowed to recover from the estate the money Medicaid paid for care. Normally the state limits its cost recovery to the sale proceeds of the enrollee's home. The recovery cannot come from the home, however, if the surviving spouse still is living there. The spouse also can sell the home a year after the enrolled spouse qualified for Medicaid and not owe any money to Medicaid.

Even if the state eventually recovers its costs from the sale of the house, using Medicaid might not be a bad deal financially. The state reimburses nursing homes at a rate far less than private patients pay. That means the eventual reimbursement your estate makes to Medicaid would be lower than the cost of paying the nursing home cost out of your pocket at non-Medicaid rates. For example, the estate might pay Medicaid $90 per day instead of the $200 or more per day you would have paid as a private patient.

Using Trusts

For years, the standard Medicaid qualification strategy was to give assets to family members so the applicant owned no more than was allowed by Medicaid. The assets still were in the family and were preserved for heirs instead of being spent on nursing home care.

This strategy is more difficult now, because of the "look-back" rule. All assets that were given away in the 60-month period before someone applied for Medicaid are considered part of the applicant's assets when reviewing the application. Before the 2005 law, the look-back period was 36 months for outright gifts and 60 months for gifts in trusts. Now, all gifts face the 60-month look-back period.

This makes planning difficult, because you must make yourself impoverished at least five years before entering the nursing home. Any assets transferred during the look-back period result in a waiting period before becoming Medicaid eligible.

Suppose Max Profits transferred $300,000 to his son, Hi, within the look-back period. Suppose the average monthly cost of a nursing home in Max's area is $10,000. The $300,000 is divided by $10,000 to arrive at 30. After Max both enters the nursing home and meets Medicaid eligibility requirements, it will be another 30 months before Max can enroll in Medicaid.

But in some states each month of expenses paid by the applicant or a family member reduces the waiting period by one month. So if Hi begins paying for the nursing home as soon as Max enters it, Max will be eligible for Medicaid after 15 months.

Annuities used to be a way to allow one spouse to become eligible for Medicaid while ensuring income for the other. But the rules now are very limited and have some uncertainty. Buying annuities to game the Medicaid system is a complicated, risky strategy.

In some states, owning a long-term care policy can make it easier to qualify for Medicaid. The Partnership for Long-Term Care program, which is a trial program in some states, allows an applicant to spend down fewer assets if a qualified long-term care policy is in place. For example, if the policy pays $100,000 in LTC benefits, the individual can qualify for Medicaid with $100,000 more assets than other applicants.

Strategies That Work

The best strategy these days is to use Medicaid as a back-up for extended long-term care needs. For the initial care, buy a long-term care policy that covers long-term care for up to five years. Or use a combination of personal assets and a long-term care policy to get you through five years.

When you know you will begin long-term care, you can give your children any assets that exceed the cost of five years of care. After five years in long-term care, you can apply to Medicaid and there will be no gifts in the 60-month look-back period. You won't own assets above the Medicaid limit and will not face a waiting period beyond the first five years.

A benefit of insurance is it covers home care and assisted living care in addition to nursing home care.

The difficulty of qualifying for Medicaid is not the only reason to consider another way to pay for any long-term care. You should ask yourself if you really want to rely on Medicaid. Its reimbursement rates for nursing home care are very low, a fraction of private pay rates. Nursing homes with a lot of Medicaid residents simply cannot afford to offer a lot of quality care at those rates.

Most quality nursing homes will not accept Medicaid patients or limit the number they will accept. These facilities require financial statements proving the applicant is able to pay for several years of care before they will admit the person.

With the difficulty of qualifying for Medicare and the lower quality of care, you might prefer to use long-term care insurance and your own assets to pay for any long-term care. An alternative is to plan to spend your own assets and buy permanent life insurance to provide an inheritance for your heirs.

Bob Carlson is editor of the monthly newsletter Retirement Watch and the web site www.RetirementWatch.com. He also is author of the books The New Rules of Retirement and Invest Like a Fox…Not Like a Hedgehog.

It's A Risk Off Friday...

Chuck Butler — Fri, 20 Nov 2009 15:22:00 GMT

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                         A Pfennig For Your Thoughts
                               November 20, 2009

In This Issue..

* It's a Risk Off day!
* Commodity Currencies get rocked...
* Audit the Fed Bill moves along...
* Just keep spending money we don't have!

And Now... Today's Pfennig!

It's A Risk Off Friday...

Good day... And a Happy Friday to one and all! A Fantastico Friday in my books, as the people at the Retina Institute told me yesterday that the fluid on my eye was drying up, and almost completely gone. I told them I had not noticed any improvement in vision, and they said, "at least it hasn't gotten worse!" And for that, I am quite thankful! So... With that news, I head into today, and believe it to be a Fantastico Friday!

Well... In my hours on hours of waiting for the next person to look at my eye yesterday, (I think it was "train the eye doctor day" on Chuck's eye) I kept checking the currencies, and noticed that as the day went on, the non-dollar currencies were stronger, led by the Big Dog, euro... But then late last night, and I mean late last night, I checked them, and those gains had been wiped out...

So, when I arrived here this morning, I had one thing on the top of my list of things to do, and that was find out what happened... Come on, I said to myself, it had to be more than the Risk On, Risk Off stuff that's been hanging over the markets like the Sword of Damocles! But, when you get right down to the nitty gritty, that's all it was... For once again, there was some data or story, or rumor, that spooked the markets into believing the global recovery isn't going to happen, and the Risk Off came into play...

Like I said the other day, this happens so much that you start to believe Mr. Myagi is directing the markets... Risk On... Risk Off... (Wax on, Wax off) HA!

So, I bet your asking... So, what was that data, story or rumor that spooked the markets... Well... The only thing I can find was the report yesterday about Housing Starts dropping that Chris told you about... Did you know that about 14% of U.S. homeowners were either delinquent on their mortgage or in some stage of foreclosure. That is the highest rate since the group started collecting the data in 1972!

But there was something else that was announced as the day went on, that I think probably spooked the markets more than anything else... And that is a key House panel approved two amendments to a sweeping financial-overhaul bill that would give federal watchdogs new authority to audit the Federal Reserve, and would establish a fund of as much as $200 billion to help dissolve large, troubled institutions. Rep. Ron Paul (R., Texas) offered the amendment seeking to subject the Fed to audits.

The House Financial Services Committee voted 41-28 to approve the amendments, wrapping up weeks of debate but postponing a final vote on the bill until after Thanksgiving.

OK... More deficit spending for sure, and I'm positive that this was "hung on this bill" to audit the Fed as the only way it would get through the gauntlet...

Why would this Bill "spook the markets?" Ahhh grasshopper... To audit the cartel, is a step toward getting a peek behind the curtain, and that's scary folks... But! It's what's needed! And so I applaud the panel's vote... (too bad they had to hang that $200 Billion deficit spending package onto this, but that's how the dolts in D.C. work...)

So... When things get spooky traders, crawl back into the dollar's corner... Love is kind of spooky with a girl like you, is what I'm reminded of!

And when traders crawl back into the dollar's corner, the currencies that have booked the best performances against the dollar, see their fortunes reversed the most... So... In this case, it's the Aussie dollar, New Zealand dollar, Norwegian krone, and Brazilian real... These three will most likely put a losing week into the books, which hasn't happened very often during this rally that began in March. I say "most likely" because, we've seen swings in these currencies that could easily wipe out these weekly losses in a NY Minute! But with the data cupboard as empty as my stomach feels right now, (not to worry, I have my daily apple ready to consume!) today... I doubt we'll see any "swings" to bring these currencies to the positive side of the ledger this week!

The Weekly Initial Jobless Claims here in the U.S. printed yesterday at 505,000, same as the week before... I heard one air-head TV commentator (if it's a commentator, it must be from Idaho! HAHAHAHA! Get it? Common Tater?) any way... I heard one say that at 505,000, it shows that employment is on the mend... Ahem... Did you do the math? That's over 2 million new jobless people per month! Dolt head!

Yes, I know it doesn't net out the jobs that were created... I'm strictly talking about jobs that are lost on a weekly basis... You can't in your Wildest Dreams, think that we're creating more than 2 million jobs a month during a depression!

So... That data wasn't good for the "recovery campers"...

I was writing some notes for my latest video on Wednesday, and noted that Japanese yen, gets the best of Risk On, Risk Off trading... For some strange reason, and yes, I'm well aware that Japan is the second largest economy in the world, Japanese yen is considered a "safe haven" when the Risk Off is in play... And when the Risk On is in play, spanking the dollar, Japanese yen doesn't sell-off!

Now... I'm not a HUGE fan of Japan, as their Gov't Deficit is tremendous in size, rivaling the doubled in size National Debt of the U.S. And I personally feel that the yen at 88 and change is bumping the ceiling... But, the markets can be irrational, right? And with yen, they are really irrational!

Hey! Did you see that there's pressure on U.S. Treasury Sec. Tim Geithner to resign? Personally, I don't know that he's done any worse than Hank Paulson... But, then, is that what we've come to accept? Bad leadership? I've said this before, and I know it really gets under some people's skin... But, besides the National Deficit, and the Trade Deficit, we have a Leadership Deficit... I'm talking about the lawmakers, The Fed Chairman, and Treasury Sec... I guess the administration should be thrown in there, for it's been that way for the last 9 years!

The European Central Bank's President, Trichet, and the Swiss National Bank's Gov., Roth, both spoke last night, and neither referred to the currencies in any way, but Trichet did add to the Risk Off mood of the markets by saying that, "it is too early, as of today, to declare the crisis is over." The People's Bank of China's Gov., Zhou, said that China was "passive on the direction of the dollar"... Hmmm... I have to wonder if he was truly speaking from the heart there, or... Just stating that to keep the dollar from falling into an abyss...

You know about the stock sell off that I've been warning you about for a couple of months now, that could very well drag the currencies and commodities along for the ride? Well... I know that you all think that I'm playing the boy who cried wolf, here... But, recent trading days have me worried a bit about this taking baby steps right now...

My trader / chartist, friend, sent me a note and told me to watch the A$, for it is very close to its 9-month trend line support of .9093 (it's currently at .9110), for should it close below that number it would signal (according to him!) a correction to 88-cents... Not a huge drop, but it's not like these charts can pin-point a level that a currency will turn-around... Or maybe they can! I'm lost when it comes to charts... I look at them and unless they are as obvious as a man with a hatchet in his head, like the U.S. dollar chart since 1971, then I could make a case for an asset that's being charted to go either way!

That's why charts are not "fundamentals"... Fundamentals are what put an asset into a trend, either weak or strong, and charts tell you what happened in that trend...

And then there was this... According to the Wall Street Journal..."Some of Goldman's largest shareholders have urged the firm to reduce the size of its bonus pool, arguing that it should pass along more of its blockbuster earnings to investors. The investors hold tens of millions of shares in the Wall Street firm, which is on track to make the biggest employee payout in its 140-year history."

Chuck again... Where have these "largest shareholders" been all these years? Why make a big deal about this now? Oh, that's right! The Gov't has made it look "dirty" to give bonuses...

Oh... And I heard that the Senate's version of the Health Care Bill will cost $849 Billion... Just keep spending money we don't have, Congress... I'm reminded of a saying by Voltaire... "Common Sense is not so Common"...

To recap... The Risk Off wax is being applied by Mr. Myagi again this morning, as the non-dollar currencies, other than yen, have given back recent gains VS the dollar. The "Audit The Fed" Bill has been pushed through the gauntlet for a vote after Thanksgiving. The Aussie dollar is near its 9-month trend level, and shareholders want "some of the action"!

Currencies today 11/20/09: American Style: A$ .9110, kiwi .7225, C$ .9360, euro 1.4850, sterling 1.6490, Swiss .9820, European Style: rand 7.5880, krone 5.68, SEK 6.97, forint 182.25, zloty 2.80, koruna 17.4340, RUB 28.95, yen 88.90, sing 1.39, HKD 7.75, INR 46.63, China 6.8278, peso 13.09, BRL 1.75, dollar index 75.64, Oil $76.91, 10-year 3.33%, Silver $18.17, and Gold... $1,137.20

That's it for today... I've been doing some "educational" presentations for the people over at DTI... I've done 2 on currencies, and 1 on Gold... Next Monday, I'll be doing one on "other ways" to diversify, using foreign stocks and bonds... You can listen to it if you want by clicking here at 1:30 CT on Monday... http://www.dtitrader.com/trading_education_MMM_Everbank_Nov23.htm

I'll be heading down the road to Columbia Missouri tomorrow, to watch my beloved Missouri Tigers on Senior Day... My little buddy Alex, had his football team banquet last night... His team went 20-5-1 in three years... That's pretty impressive! Now they move on to High School, where's it's a whole different animal! I have 4 videos to do today! YIKES! But I've got my "blue shirt" on... So, I should be good to go! Let's get working on today, and make it the best Fantastico Friday ever!

Chuck Butler
President
EverBank World Markets
1-800-926-4922
1-314-984-0892
www.everbank.com
* Early withdrawal penalties apply. Fees may reduce earnings.

Subscriber Alert-11/20/09

Steve Cook — Fri, 20 Nov 2009 14:36:00 GMT

Subscriber Alert

    The stock price of The Buckle (BKE-$28) has traded below the lower boundary of its Buy Value Range. Accordingly, it is being Removed from the Aggressive Growth Buy List. The stock price remains above its Stop Loss Price, so the Aggressive Growth Portfolio will continue to Hold BKE.

    News on Stocks in Our Portfolios

    Donaldson (Aggressive Growth Portfolio) reported third quarter operating earnings per share of $.45 versus expectations of $.34 and $.60 recorded in the comparable 2008 quarter.

    A positive write up on Nike (Dividend Growth Portfolio):
    http://seekingalpha.com/article/174520-nike-an-example-of-graham-s-goodwill-giant

More Cash in Investors’ Hands

Two Steps Forward and Three Steps Backward

John M. McClure — Fri, 20 Nov 2009 14:19:00 GMT

Our Monthly Performance Update
Dollar Reality Check
Are Valuations Justified?
The Mother of All Carry Trades
Market Summary
Portfolio Performance Analysis
Can I Do It This Year?

Timing is everything and being early with your investment decisions can be almost as painful as being late. Since most investors lost significant sums of money in 2008, they feel a deep-seated fear of getting left behind. It is called the herd instinct. This important emotion kept us alive when we hunted with knives and spears, but today it runs investors off a cliff. In dealing directly with retail clients, the herd instinct is the most prevalent emotion I see.

Over the past several months, the markets powerful advance has made me feel like I have been standing in front of a train. I had this same feeling back in May 2006, when I sold my house to move into a rental home because I felt the real estate market no longer made any sense. I feel the say way today about the stock market. The Fed and the Treasury have many tricks up their sleeves to buy short term relief. But, what long-term price will future generations have to pay?

The dollar has been bouncing off its all time low for the past couple of weeks and the market continues to rally. As you will learn from reading this letter, a weak dollar is feeding leverage and liquidity into the market. Over the past 90 days, there has been an inverse correlation between the dollar and the S&P 500 of approximately 75%. So when the dollar goes up, the market goes down, and vice versa. It feels good when asset prices go up, but when these assets are compared in dollars or gold, there has been no gain at all. As a matter of fact, there have been further declines in the United States global buying power.

In this newsletter, I have decided that a picture is worth a thousand words, so we have provided lots of charts and graphs. The picture these charts paint about our economy is not pretty, yet the market continues its advance. Hopefully, our research at least makes you pause and ask why?

"Whether you are investing in real estate in China, equities in Peru, or indexing the S&P 500, you are putting your faith in the ability of the U.S. Government to pull off a miracle. Expectations will be tough to meet, and the risk of the Administration losing a handle on the situation is a constant threat. Over the next five years, investors should focus on capital preservation and avoid getting swept up in the inevitable credit-fueled bubbles."
Boeckh Investment Letter, October 30, 2009

An Update on Our Performance

Interest-rate sensitive strategies continue to lead in 2009. Shorting the U.S. dollar and being long high-yield bonds has been the easiest trade of the century. Actively trading government bonds has also rewarded our investors handsomely. In 2008, fixed-income investments were grossly manipulated by the Fed and Treasury, and in 2009, equities seemed to make no sense. No one ever said it would be easy, but they sure didn't say it would be this hard either.

Below are recent performance returns on the four portfolios we currently offer:

	Past 12	YTD	October	Sharpe
Name	Months	2009	2009	Ratio
Income Builder (IB)	9.50%	13.06%	0.73%	1.47
The Guardian (GRD)	4.33%	9.33%	0.43%	1.73
Harmony Plus (HMY)	0.54%	7.05%	-0.12%	1.46
The Expedition (EXP)	-2.53%	3.67%	-0.60%	1.14
S&P 500 (SP500)	9.80%	17.05%	-1.86%	0.66
Important Performance Disclosure

ProfitScore provides its separately-managed accounts to individuals, advisors and institutional investors. If you would like to hire us to help you navigate this difficult bear market, below are three ways to contact us:

Complete our Private Client Group request form by clicking here: http://profitscore.com/insight.aspx and submitting your contact information. (This is the most preferred method.)
Call us directly at (800) 731-5690.
Simply send us an email to info @ profitscore.com.

Someone will contact you within 24 hours of receiving your information.

Dollar Reality Check

Much has been written about the value of the dollar since the stimulus bonanza began in 2007 and before. Pundits have worried that our cheap dollar policy ("Quantitative Easing") has had a clear impact on the dollar, and not in a positive way. As we see from the next chart, they have a point showing the dollar value erosion began in 2000, as the tech bubble began to break in a trend that continues to this day.

Figure 1 - Weekly chart of the US Dollar Index priced in gold. Chart GenesisFT.com

Stocks Priced in Gold
Economic growth that occurred during the 1990s was accompanied by a confidence in the dollar, which led to some very real gains in asset prices, stocks and commodities (that are priced in US dollars). But in real terms using the gold standard, stocks have been significantly hurt by the falling greenback, thanks to a nearly 85% drop in the value of the buck compared to gold. Next let's look at how stocks fared in gold terms.

Figure 2 shows that the Dow, priced in gold, peaked in mid-1999-almost a year before the index peaked in nominal terms and a big part of the more than 80% drop in real stock prices due to dollar weakness. Stocks have been doing well lately in the face of a weakening dollar, but this has had an overall net negative effect in real terms.

Figure 2 - Weekly chart of the Dow Jones Industrial Average priced in gold. Chart GenesisFT.com.

Stocks in a Euro and Canadian Dollar Perspective
The next two charts show the Dow priced in Euros and Canadian dollars to provide a different value perspective. As we see, the Dow peak in 2007. It was well below its 2000 peak and remains more than 50% depressed from a European investor's point of reference. This may explain why dollar denominated assets held by foreigners (as well as the interest in Treasuries) has fallen in the past few years.

Figure 3 - Weekly chart of the Dow Jones Industrial Average priced in Euros. Chart GenesisFT.com.

Figure 4 - Weekly chart of the Dow Jones Industrial Average priced in Canadian dollars. Chart GenesisFT.com.

Stocks and Commodities
Do you think gold has rallied based on hype and speculation, not real demand? To test this idea, let's examine how stocks have fared compared to commodity prices. As we see, compared to a basket of 17 commodities, the Dow Jones Industrial Average is down nearly 65% from its commodity-adjusted price peak in 1999.

Figure 5 - Weekly chart showing the Dow priced in commodities as represented by the CRB Index. Chart GenesisFT.com.

Are Valuations Justified?

Now that we have a more global perspective on how stocks have fared in the new millennium, where are stock valuations in nominal US dollar terms? If they are historically cheap, they will become more attractive to investors looking for long-term value who believe that stocks have the potential to appreciate in real terms, even if the dollar continues to weaken. This of course assumes that economic growth from here will be sustained and that the dollar does not collapse in value compared to other major currencies.

In late October, ContraryInvestor.com performed an interesting comparison between stock values (S&P500), after stocks rallied 60% between the March lows and October highs, with the 60% rallies that occurred in 1972, 1976, 1983, 1994, 2006. As the following table shows, the numbers were interesting. Based on these metrics, stocks are anything but cheap!

Here is a summary of the 10 indicators following past 60% rallies compared to this one.

Year-over-year retail sales: 9.3% average in prior 60% rallies versus -5.3% currently
Consumer Confidence Index: 95.5 average; 53.1 now
Capacity utilization: 79.9% average; 66.6% now
Year-over-year industrial production: 4.1% average; -10.7% now
Institute of Supply Management (manufacturing) : 53.9 average; 52.6 now
Payroll employment gains over period: 2.2% average; -2.0% now
Decline in continued unemployment claims from cycle peak: -26.3 average; -11.6% now
Year-over-year growth in total credit market debt: 9.3% average; 3.0% now
Year-over-year growth in household debt: 8.8% average; -0.1% now
P/E multiple (trailing 10-year earnings): 16.8x average; 20.0x now

Figure 6 - Weekly chart showing prices, average P/E (blue line) and earnings growth (GRT) for 7,995 U.S. stocks tracked by VectorVest. As the chart shows, the average P/E for the broad range of publicly trading companies entered uncharted territory in 2009 and is still well above any previous year's high. Chart VectorVest.com.

But what happens when we examine valuations for a much broader basket of US stocks, like 8000 (see Figure 6) instead of the cherry-picked, and constantly modified, S&P500 or Dow Jones Industrial Average? The results of this exercise were equally interesting.

On June 5, 2009 the average price-to-earnings ratio for the 8,011 US stocks of the VectorVest Composite Index (VVC) hit an all-time high of 155.58, thanks to rising prices, but no increase in average earnings. Earnings had fallen to their lowest level since the VVC was initiated in 1995 of $0.13/share. But then earnings for a broad range of companies began to show their first real signs of improvement since March 2007, rising from $0.13 to $0.15 per share. P/Es have continued to fall, albeit slowly, to just over 100 on October 30, 2009 as earnings rose.

The same can't be said about earnings growth (GRT). After peaking in May 2005 at 11%, earnings growth (GRT) continued to deteriorate falling to 10% in 2006. By the second week in October, earnings growth had fallen to 0% and the average EPS for the roughly 8000 companies had grown to just $0.22/share, still well below their new millennium peak of $1.04/share in January 2007.

How do these numbers compare to the last recovery? As the rally was getting underway in March and April 2003, earning growth (GRT in red) was a much healthier 8%, and earnings growth had begun improving nearly a year before hitting a low of 3%. Within two months of the bottom in stock prices and the beginning of a 56-month bull market, VVC P/Es peaked at 60.51 (May 2003). Looking even further back to the lofty prices in March 2000, we see the P/E, although high, was a much more benign-32 times and earnings growth was running at 11%.

The Mother of All Carry Trades

Since late 2006, the financial world has become all-too-familiar with the carry trade (selling a low-yield currency to buy assets in high-yield currencies). Then, the Japanese yen was the fuel of choice, thanks to basement costs of borrowing. But with the credit crisis and rapid collapse in the values of high-yield currencies, like the Icelandic krona with commensurate losses, the carry trade appeared to go the way of the dodo bird-extinct.

However, the very factors discussed above have given global investors with a penchant for risk a new carry trade target - that's right, the USD. As Figure 3 shows, one popular currency pair, the New Zealand dollar and US dollar (NZD-USD) has helped fuel the recent stock rally. It means that global investors can borrow dollars at record-low rates, sell them to buy New Zealand dollar denominated bonds and other assets, and reap the interest rate difference as profit. A further weakening dollar/strengthening NZD is a bonus. Their major risk is the possibility of a rapid USD appreciation/NZD depreciation.

As Figure 3 shows, this carry trade was somewhat popular before the credit crisis began in late 2007, but has recently surpassed its 2007 peak popularity, as investors sell USD to buy NZD. Currently, the correlation between the two is nearly 0.94 (a correlation of 1 is perfect correlation).

Figure 7 - Weekly chart of the New Zealand dollar - US dollar currency pair in the upper sub-graph, the S&P500 in the mid-subgraph and the 20-week correlation between the two (red).

As the economist known as Dr. Doom, Nouriel Roubini, pointed out in an article last week, the conditions that have driven the USD carry trade have created what he believes is the "mother of all carry trades."

Here is how he outlined the power behind the key risks that this trade presents in his Financial Times article, "Mother of All Carry Trades Faces an Inevitable Bust."

"So what is behind this massive [stock/commodity] rally? Certainly it has been helped by a wave of liquidity from near-zero interest rates and quantitative easing. But a more important factor fuelling this asset bubble is the weakness of the US dollar, driven by the mother of all carry trades. The US dollar has become the major funding currency of carry trades as the Fed has kept interest rates on hold and is expected to do so for a long time. Investors who are shorting the US dollar to buy on a highly leveraged basis higher-yielding assets and other global assets are not just borrowing at zero interest rates in dollar terms; they are borrowing at very negative interest rates - as low as negative 10 or 20 per cent annualized - as the fall in the US dollar leads to massive capital gains on short dollar positions."

These conditions, "a zero Fed funds rate, quantitative easing and massive purchase [monetizing] of long-term debt instruments is seemingly making the world safe - for now - for the mother of all carry trades and mother of all highly leveraged global assets."

If Roubini is right (and let's face it, his track record in calling the market leading up to and through this crisis so far is impressive), investors are surfing a global cash tsunami which could still be some time from reaching its zenith. However, any potential for gain is offset by the reality that the bigger this bubble gets, the more destructive its ultimate collapse will be, so caution is a requisite.

But even Dr. Doom is careful about calling the end of the financial world as we know it in his final paragraph.

"This unraveling may not occur for a while, as easy money and excessive global liquidity can push asset prices higher for a while. But the longer and bigger the carry trades and the larger the asset bubble, the bigger will be the ensuing asset bubble crash. The Fed and other policymakers seem unaware of the monster bubble they are creating. The longer they remain blind, the harder the markets will fall."

Market Summary

I will be the first to admit that one of the biggest challenges in the current credit crisis and apparent recovery has been estimating the impact of various policy decisions by the Fed and other central bankers around the globe. Few, including yours truly, appreciated just how powerful this stimulus could be in the face of massive debt. In my defense, job one is to protect principle, and debt creates serious risk, especially when it gets as big as it is today.

As history has taught us, bubbles generally build longer than expected, with the biggest gains coming nearer the end than the beginning. Enter too late or exit too early and you underperform your less risk-averse peers.

We at ProfitScore will continue to take a cautious approach to this market and trade it with great care, with both eyes on money management. We will continue to take profits out of the markets without putting serious capital at risk. This is certainly not a market for the weak of heart!

Based on current economic reality, the U.S. still has some time to go before it can follow nations like Australia and be weaned from the punch bowl. And as long as the punch bowl offers libation, there will be money to be made, as long as one doesn't imbibe to the point of losing an appreciation for what happens when the punch is gone.

Interesting Reading:

International Monetary Fund - Principles for Stimulus Exit
http://www.imf.org/external/np/g20/110709.htm

Detail IMF document - Global Economic Prospects and Principles for Policy Exit
http://www.imf.org/external/np/g20/pdf/110709.pdf

Why Some Countries Are Stopping Their Stimulus
http://www.time.com/time/business/article/0,8599,1936585,00.html

The American Economy in One Chart
http://www.safehaven.com/article-14999.htm

Mother of All Carry Trades Faces Inevitable Bust - Roubini
http://www.ft.com/cms/s/0/9a5b3216-c70b-11de-bb6f-00144feab49a.html?nclick_check=1

Portfolio Performance Analysis

Risk & Reward

Each of our portfolios is strategically allocated across one or more of the Investment Pillars of Strength discussed below. Each Pillar is managed by multiple, uncorrelated, absolute-return investment managers to produce a return stream that is consistent, negatively correlated with the major market averages in down markets and non-correlated with each of our core Pillars of Strength. Commentary found in this newsletter is for informational purposes only and does not effect how our portfolios are traded.

Managing risk is our most important consideration and it is reflected in the way our portfolios are built and managed each and every day.

Based on our internal valuation estimates, fair value on the S&P 500 is approximately 850. Our long-term dismal GDP growth calculations over the next five years, combined with the fact that equities are currently 30% overvalued, have our five year forecast on the S&P 500 as a negative return. I have had only limited success forecasting equity markets based on fundamentals because investors simply don't care. Fear and greed drive the markets and they always will. Due to volatility contraction and P/E expansion into nose bleed territory, we remain vigilant in our efforts to carefully manage risk.

Our equity trading accuracy remains above 50%, but our average losing positions during October were larger than our average winning trades, producing small negative returns for equities in October. MTD November, we are currently showing small gains for equities across the board. Interest rate sensitive allocations continue their upward march higher.

Index Advantage:

Trading accuracy has stabilized north of 50%, after our low in July. Large monthly moves seem to find us on the wrong side of trades, which causes us to fight back to pull our returns back into positive territory. November is showing small gains for the month. Managing risk in a hard-charging market can be a difficult job.

For the month, this pillar gained -1.28.

Strategic Balance:

We continue to tread water in this allocation, as our risk-adverse traders patiently wait for higher probability trades to materialize.

For the month, this pillar earned -0.67.

Dynamic Income:

Our interest rate sensitive strategies combined to once again produce positive returns for what is now the 7^th-winning month in a row. Given the over-extended positions in asset classes traded in this allocation, we are growing more cautious about changing dynamics and increasing volatility. If the economy once again falters, I fully expect the government to once again manipulate the long and short end of the yield curve, making our job managing these positions almost impossible. Until then, we plan to make hay while the sun is still shining!

For the month, this pillar earned .98.

Our portfolios are built using varying distributions to the strategic allocations discussed above. To view detailed performance and risk statistics information about our investment portfolios for the month, please click on the links below:

If You Are a Client, Don't Be Confused.
Actual management and performance fees are incurred monthly but are deducted from client accounts in the first month of every quarter (January, April, July, and October). For performance reporting purposes, we deduct fees monthly as they incur and not quarterly, as they are reflected in client statements. It all washes out in the end, but this may cause your account performance to deviate from our published performance reports on a month-to-month basis. To be conservative, we also deduct the maximum fees we charge from our performance reports and your actual overall fees paid may be less than our maximum.

Can I Do It This Year?

As I mentioned this spring, I entered a 12-month weight-loss competition with three of my friends. Once every four months, we go the Boise State University and jump in a hydrostatic tank to officially weigh in and measure fat loss. Money and pride are on the line, so my competition has been tough. My fellow fat friend, Rich Davila, beat me by a smidgen in the last weigh-in, but it appears I may take home the gold in our upcoming December weigh-in. That is, if I can make it through the toughest 60-day stretch of the year.

Every year I tell myself that I am not going to gain weight over the holidays. I have never once achieved my goal. Not one time! I can attest that surrounding yourself by great southern cooking (my wife is a wonderful cook) during the holidays is not good for your waistline. This year is going to be different - I hope.

I seem to do okay fighting back the temptations here in Idaho, but every year we travel back to Tennessee for Christmas. Not gaining weight during a Tennessee Christmas holiday vacation is practically impossible. The temptations are about the same as a teenage boy faces during a spring break in Florida.

Like war, I have a battle plan, but once the first deserts are served, my knees get weak and I gorge myself like a pig going to slaughter. If anyone has any suggestions for me to fend off the upcoming food attack, I would love to know your secrets.

Working to grow your wealth,

John M. McClure
President & CEO
ProfitScore Capital Management, Inc.

P.S. ProfitScore provides its separately-managed accounts to individuals, advisors and institutional investors. If you would like to hire us to help you navigate this difficult bear market, below are three ways to contact us:

Complete our Private Client Group request form by clicking here: http://profitscore.com/insight.aspx and submitting your contact information. (This is the most preferred method.)
Call us directly at (800) 731-5690.
Simply send us an email to info @ profitscore.com.

Someone will contact you within 24 hours of receiving your information.

Carry Trade reversals rally dollar / yen

Chuck Butler — Thu, 19 Nov 2009 15:13:25 GMT

..But First, A Word From Our Sponsor..
Gain exposure to currencies of emerging BRIC countries-and don't lose a dime on market risk

* 4 BRIC currencies: Brazilian real, Russian ruble, Indian rupee, Chinese renminbi
* High upside potential
* No market risk to deposited principal
* Low $1,500 minimum deposit

* Carry trade reversal boosts the dollar/yen...
* STL Fed Head Bullard sends mixed signals...
* Audit of Fed in jeopardy...
* Kiwi and AUD fall...

And Now... Today's Pfennig!

Carry Trade reversals rally dollar / yen

Good day... And a Thunderin Thursday to you! Yes, the rain continues today, but I hear it is supposed to stop this afternoon. Fear of risk rained on the currency investors' parade as an equity market sell-off fueled a US dollar and Japanese yen rally. At times it looks as if we will break this pattern of markets up dollar down/ markets down dollar up, but it seems investors continue to return to the US$ and Japanese yen as soon as they become worried about equity market returns.

Many of the callers into the trade desk wonder how anyone would be buying the Japanese yen and US Dollar as 'safe haven' currencies. I think a lot of this buying of yen and dollars isn't necessarily due to investors believing they are safer in US$ and Japanese yen, but is a result of the reversal of carry trades. The dollar and yen are the two major funding currencies of the carry trade. Investors borrow yen and dollars and then invest the proceeds into higher yielding assets including equities. This is what is called the carry trade, and works best when an investor can use high leverage to increase the return. Since these trades are highly leveraged, they are closely monitored and reversed at the first sign of a possible fall in the value of the higher yielding assets. So while the popular press will talk about the 'perceived safety' of the yen and US$, I believe much of the dollar and yen buying is due instead to a reversal of the carry trade. Investors aren't buying these currencies because they think the Japanese and US economy are stronger and therefore safer than others, but are simply deleveraging to take risk off the table, and are buying yen and US$ in the course of this deleveraging.

So what caused investors to worry about their investments in the equity markets? Chuck sent me this note before heading out the door last night:

I saw currencies jump around again on Wednesday... But here's something that makes me scratch my bald head, and should make you wonder too... If you're confused with this, then don't feel alone... Fed Head Bullard was speaking yesterday and at one point he said... "FED MAY NOT START TO RAISE RATES UNTIL EARLY 2012" That really got the currencies going... But later in the same speech, he said, "MEMORY OF HOUSING BUBBLE MAY PUSH FED TO START RATE HIKES MORE QUICKLY THAN AFTER PAST RECESSIONS." WHAT? He said that the Fed may not start raising rates until 2012, but then says that the Fed may push to start rate hikes more quickly than before? In my best Andy Rooney voice... Do you ever wonder, how these Fed Heads get in the door? Oh well... The second statement didn't change the currencies, but it did change stocks... And for one of the first times in some time... U.S. stocks sold off, and non-dollar currencies rallied.

As Chuck points out, the St. Louis Fed Head Bullard seemed to be speaking out of both sides of his mouth, but his second statement that the Fed may push to start rate hikes more quickly than before scared equity investors. He stated that in the debate to tighten policy, "the idea that you might be creating asset bubbles by keeping rates too low for too long will be an important argument." This is what scared the markets.

The economic data released yesterday certainly didn't help investors confidence in the global recovery as US housing starts unexpectedly dropped 11% in October compared to the month before. The pace of construction was the fewest since April's record low, and illustrates housings reliance on government support. Obama has extended both the first time homebuyer's tax credit and instituted a new (and I believe stupid) program to give existing homebuyers a tax credit to go out and buy a new one. These programs will probably give a bit of life support to the housing market in November, but many question just how long the government can continue them.

Another piece of data released showed the cost of living in the US rose more than forecast in October as the price of gas pushed CPI up .3% following a .2% rise in September. Today we will get the weekly jobs data along with the Leading Indicators for the month of October. Last month's leading indicators surprised the market with a 1% increase, but this month the expected rise is just .4%. This would be the seventh consecutive month of increased indicators begging the question: Just how LEADING are these indicators??? They have posted positive gains for seven months, but the economy sure doesn't feel like it is picking up steam. Housing and unemployment continue to be drags on the US economy and, according to Chairman Ben S. Bernanke, economic 'headwinds' will limit the recovery for an 'extended period'.

Speaking of our esteemed fed head, Bernanke's clout among US lawmakers will be tested today as the House Financial Services committee will consider how much to expand audits of the US central bank today. Panel members will be voting on a Democratic proposal to retain a ban on audits of the Fed interest-rate decisions. This would be a big blow to Ron Paul and his bill to allow audits of the Fed. Unfortunately I believe the Democratic ban on audits will pass, and Ron Paul will have to figure another way to try and hold the Fed accountable.

The worst performing of the currencies vs. the US$ over the past 24 hours is the New Zealand dollar which fell by over 2%. The kiwi dropped as the nation's main opposition party said it will no longer accept the central bank's primary policy of targeting inflation. The head of the central bank's salary is actually tied to keeping inflation rates at an acceptable level. This is one of the main reasons interest rates in New Zealand have been among the highest of industrialized nations. But in the opinion of the nation's main opposition party, these high rates have been at the cost of slower growth and a weaker exports. In my opinion, having a central bank focus on keeping inflation within a targeted range is absolutely required; and tying the main policy makers income directly to this objective is smart.

The Australian dollar also dropped for a second day on interest rate speculation. As Chuck has written, the markets have expected the Reserve Bank to raise rates again at their December meeting, but minutes of their Nov. 3 meeting caused some concern that they will not raise rates again until 2010. The minutes, released yesterday, said the pace of interest rate increases is an 'open question' as policy makers balance the risk of inflation vs. an economy which could slow as government stimulus ends. But I am still firmly in Chuck's camp, and believe the RBA will raise rates in December, and the interest rate differentials will continue to rally the AUD$ vs. the US$.

Minutes of the Bank of England's November meeting were also released yesterday, and showed the policy makers were split on whether to extend the 'quantitative easing' program or possibly cutting rates further. The pound sterling lost ground against both the euro and US$ as investors worried about the lack of direction. The minutes show there are three different camps at the BOE, one which favors expanding the program of pumping money into the system with bond purchases, another which favored no change, and a third which wants to use another interest rate increase to stimulate the economy. The lack of a clear plan by the central bank policy makers strikes fear into investors who want to see more of an agreement on the direction of policy.

While we don't trade the Russian ruble, it is part of our BRIC MarketSafe CD (for which time is running out!). Chuck pointed out to me yesterday that the Russian ruble has been the best performing currency of the BRIC, which was surprising. A story overnight said that Russia's central bank will have to accept a stronger ruble next year as rising commodity prices move the currency higher. Strong commodity markets have pushed capital into the Russian markets, pushing the ruble higher. Policy makers had indicated they will try to cap the ruble's gains, but the IMF warned recently that these efforts to fight the rubles advance will prove 'unproductive' and that 'underlying factors' justify the ruble's strength. This is good news for holders of the BRIC MarketSafe. If you haven't purchased this latest MarketSafe CD, the cut-off is approaching - you only have until December 3 and then your opportunity is lost.

OK, to recap, the dollar rallied on carry trade reversals, the 'Audit the Fed' bill is in jeopardy, AUD$ and NZD$ fell, and the BOE is split on the future of monetary policy in England.

Currencies today 11/19/09: American style: A$ .9170, kiwi .7287, C$ .9414, euro 1.4851, sterling 1.6626, Swiss .9811, European style: rand 7.5605, krone 5.658, SEK 6.93, forint 180.17, zloty 2.789, koruna 17.2147, RUB 28.90, yen 88.86, sing 1.3904, HKD 7.75, INR 46.69, China 6.8284, pesos 13.07, BRL 1.7287, dollar index 75.54, Oil $78.77, 10-year 3.35%, Silver $18.20, and Gold... $1,134.55

That's it for today... Best of luck to Chuck this morning as he heads to the eye doctor again today. It is nice to see Kristin Kuchem back from two weeks of traveling. She said both of her presentations were well received, as investors were eager to get money diversified out of the US$! Looking forward to the Blues game this evening, as several of us from the desk are hoping to watch a win! Hope everyone has a great Thursday!!!

Chris Gaffney, CFA
Vice President
EverBank World Markets
1-800-926-4922
1-314-647-3837

We (Still) Don't Know What We Don't Know

Vinny Catalano, CFA — Thu, 19 Nov 2009 02:08:00 GMT

So, here we are. More than two years into what started out as a credit crisis, one plus year after the Lehman collapse and a question that pertains to the one of the central workings of the equities market cannot be answered.

At last evening's Market Technicians Association Educational Foundation seminar, the question your trusty moderator (that's me) posed to the esteemed panel with its decades of experience was in regards to volume. Specifically, the equity markets' volume as recorded each day for every stock traded. That is, the volume that accompanies the price action that results in the market capitalization of the stock market that results in the market value of every investor's portfolio.

Many market analysts have noted the low volume that has accompanied this bull rally. Some have used this fact as a reason to be more cautious, even bearish. Others have cited that low volume bull rallies have occurred in the past and this one is no different. However, in the past, the volume recorded for equity trades completed were quite accurate and reliable, being recorded on exchanges and reported accordingly. Today, the picture is not quite so clear.

With so much trading occurring in the off the exchanges hidden recesses of dark pools and structured products, I asked my very knowledgeable panel, can any investor rely on the volume figures being generated in this current market to measure the strength of the price action of a stock? The answer received was, "We don't know". Well, if this well connected, highly informed group of individuals doesn't know, you can easily assume that just about no one knows. Do you?

The importance of understanding this issue goes beyond its impact on basic market analysis tools (such as technical analysis) and cuts to the heart of a financial system that is still shrouded in opaqueness.

Transparency remains elusive. Yet, transparency (knowing what investors need to know) is vital to the restoration of a sustained confidence in a system that can be measured. When trades occur in the dark corners of dark pools and other off-exchange structured products, clarity as to what exactly is transpiring becomes the victim and investors seeking to measure the market become the equivalent of a bystander to a drive-by financial shooting.

Investment Strategy Implications

Nothing increases the risk factor of any investment more than the dangers posed by ignorance. Yet, here we are. More than two years into what started out as a credit crisis, one plus year after the Lehman collapse and we still don't have a clear idea of what exactly is transpiring in a central part of the capital markets - equities.

For those who might be tempted to dismiss such concerns I simply point to the two key impacts of changing equity prices: the wealth effect and the cost of capital. Both directly impact the real economy, in the current case in a positive way. Were it not for rising market values, the current government policies designed to rescue the US (and global) economy would be brought into doubt. And doubt, a close cousin of uncertainty, is a bad thing for a fragile economic environment.

Price without volume is an incomplete measure of the strength (or weakness) of a market move. Yet, in the current environment, price is the only metric that can be tracked with clarity. Volume, its indicator of power, cannot.

Two years and running and we still don't know what we don't know.

To further the exploration of what we don't know tomorrow I will describe how hedge fund replication products pose a potential threat to the equity markets.

Vinny Catalano, CFA, Global Investment Strategist with Blue Marble Research publishes the "Sectors and Styles Strategy Report" newsletter, which contains the market beating Model Growth Portfolio. To learn about subscribing as well as other benefits, click here.

Silence Is Always Golden...

Chuck Butler — Wed, 18 Nov 2009 20:17:38 GMT

..But First, A Word From Our Sponsor..
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* 4 BRIC currencies: Brazilian real, Russian ruble, Indian rupee, Chinese renminbi
* High upside potential
* No market risk to deposited principal
* Low $1,500 minimum deposit

Don't miss this unique opportunity. Deadline to buy the BRIC MarketSafe CD is Dec. 3rd, 2009. Apply today or learn more at http://www.everbank.com/001CertificatesMSBRIC.aspx?referId=11808
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In This Issue..

* It's a Risk On day!
* Commodity Currencies have the "stuff"!
* Gold's one-day window slams shut!
* RBA to not wait 2 months to hike rates!

And Now... Today's Pfennig!

Silence Is Golden...

Good day... And a Wonderful Wednesday to you! We're stuck in the mud with the rain again, but according to the weather people it should end tomorrow... Geez Louise, I guess it could be snow, which would have crippled this city by now!

Well... The currencies gave back all that ground they gained the day before on Mr. Toad's Wild Ride, yesterday... But, have turned around this morning in the European session as Eurozone stocks are up, and whenever equities trade with some zip in their step, it has been good for the Big Dog, euro...

Someone asked me yesterday a question about the euro... He said, "Chuck, I know you like the euro, but couldn't the Aussie dollar be a better choice going forward?" And I answered like this... The euro is the offset currency to the dollar... But that doesn't mean it is the best performer when the dollar moves down. The Aussie dollar (A$) has outperformed the euro since 2002, and will probably continue outperform the euro... But so has the Norwegian krone, and the New Zealand dollar, and the South African rand, and the Canadian dollar... Hmmm... Does that list ring a bell?

Why, yes, Chuck, it does! For these are all "Commodity Currencies"... You've Gotta Love 'Em!

Countries that have "stuff" to sell to other countries, that either don't have the "stuff" or are too lazy to deal with it!

Hey! Did you see my bit on Bernanke that I wrote yesterday made the "5-Minute Forecast"? WOW! My friend Ian Mathias, does such a great job on the "5", and I get a HUGE kick out of him putting stuff I write in his great letter! You should see the two of us standing side by side in Vancouver, where we meet up each year... The old kids song about fat and skinny went to bed, fat rolled over and skinny was dead... HAHAHAHAHAHAHA!

OK... Chuck, quit the back slapping of yourself, and get back to the task at hand!

Yesterday, my fat fingers made an appearance in the Pfennig, as I mis-typed the price of Gold, in the currency round-up... I had just talked about how those people waiting for a pull-back of Gold's price, might still be waiting when the cows come home... And then I type the price of Gold $100 cheaper than it was selling for! What a fat fingered dolt! Oh well, not many people pointed it out to me, as always letting me know that "Chuck made a mistake"...

Speaking of Gold... Well, you had a 1-day window to buy it cheaper, for the overnight sessions has the shiny metal hitting on all 8, and soaring once again to $1,148!!!!! Don't you just hate those 1-day windows? I mean, you wanted to pull the trigger and buy, but thought, what if Gold drops more today, that would mean I could buy it cheaper tomorrow... Don't be fooled! It's like this folks... If you want to buy something, buy it! Trying to time a purchase will leave you sitting the sidelines with a baseball cap turned backward on your head and holding a clipboard!

I used to tell people that if you're standing at the bus stop waiting for the bust to take you downtown, and the bus pulls up, but it's an old bus, and the rumor is going around that a brand spankin' new bus is on the way, you decide to not get on the old bus, but wait for the new bus... Then the new bus arrives, and there's a rumor that an even newer, updated bus is on the way, and you decide to wait for that one... If you never get on the freakin' bus, you'll never get downtown!

OK... So... Remember when I questioned the current administration's claims that instead of "creating jobs" they were "saving jobs"? I pointed out that claiming that jobs were saved, would be difficult to prove... Well, guess what? Proving that the jobs saved don't exist, has been pretty easy... And the people claiming that the stimulus "saved jobs" have egg all over their collective faces...

Speaking of Jobs... One of my fave economists, Nouriel Roubini, had this to say about jobs...

"Think the worst is over? Wrong. Conditions in the U.S. labor markets are awful and worsening. While the official unemployment rate is already 10.2% and another 200,000 jobs were lost in October, when you include discouraged workers and partially employed workers the figure is a whopping 17.5%.

While losing 200,000 jobs per month is better than the 700,000 jobs lost in January, current job losses still average more than the per month rate of 150,000 during the last recession.

Also, remember: The last recession ended in November 2001, but job losses continued for more than a year and half until June of 2003; ditto for the 1990-91 recession.

So we can expect that job losses will continue until the end of 2010 at the earliest. In other words, if you are unemployed and looking for work and just waiting for the economy to turn the corner, you had better hunker down. All the economic numbers suggest this will take a while. The jobs just are not coming back."

Chuck again... And you think the recession / depression is going to end with the unemployment problem in this country? Not when the consumer is needed to generate nearly 70% of the GDP...

And all that tells me that the cartel / Fed (Fartel!) is going to believe that they need to keep rates near zero for some time to come...

So... It's Risk On today! It was Risk Off yesterday! Don't ask me why... Tell me why, you cry, and no wait! Don't go singing songs, Chuck! This is serious stuff!

Yesterday's data cupboard was a mixed bag of economic data for the U.S. PPI wasn't as strong as forecast, Industrial Production slowed in October, but Capacity Utilization bumped higher, and the TIC Flows for September were $40.7 Billion, which was more than the $34.2 Billion in August. The report showed that Japan, China and the U.K. all increased their holdings of Treasuries. September's TIC Flows were probably the best report of the day, and the best report that this series has printed in a long, long time... Does this mean that the all-clear horn is blaring, telling us not to worry any more about whether we finance our deficit or not? Well... It might be, but I'm not listening to it!

Well... The President ended his visit to China, with a call for a more flexible Chinese currency (renminbi)... And... The Chinese said... Nothing! They met the President's words with silence... I used to date a girl that would say to me when I wasn't talking... "Silence is Golden, Chuck" and I would say... "Then shut up and we'll make a million!" HA!

Now, while it would nice if the Chinese played ball with us... I understand their dilemma... The IMF still believes that China's currency is about 25-40% undervalued... China could not deal with a floating currency that went up 40% overnight!

Did you know that America's trade deficit with China widened to a 10-month high in September? Well... It did, thus raising concern that the combination of a recovering U.S. economy and a fixed renminbi exchange rate against the dollar will worsen global imbalances. But... As I've said at least 100 times before this... The Chinese will do what they believe is best for their country, and that's not floating the renminbi at this time, no matter who the U.S. sends to visit them to persuade them to do so!

Moving further south in the Pacific, we land in Australia... I thought about this next Reserve Bank of Australia (RBA) quite a bit the past couple of days... And have come to the conclusion that the Dec 1st meeting of the RBA will net another 25 BPS rate hike... The reason I think this, is the fact that there will be no meeting in January, thus leaving a 2-month gap, which in these economic times could be devastating... So... Look for another rate hike in Australia on December 1st... Which would be their 3rd consecutive meeting rate hike, and could be the harbinger to parity for the A$... Could be... I didn't say it "would be"!

I know that yesterday morning, I talked about how the RBA meeting minutes had been perceived as "dovish", and that spooked the markets into thinking that the RBA would NOT hike rates in December... But upon further review, the meeting minutes were really pretty vague, and while they didn't sound outright hawkish, they also didn't sound "dovish" either... After reading the minutes, I got the feeling that overall, the minutes support the idea of "steady rate hikes"... I don't think the RBA will stop until they reach an internal rate of 4.25% early next year...

I was giving an interview last week with a writer from Business Week... And he asked me when this dollar weakness all started... I told him that, "Over the past nine years congress and two administrations have instituted fiscal policies that have undermined the value of the U.S. dollar, and the deficit spending has gone from $350 Billion Budget Deficits to $2 Trillion (annualized) Budget Deficits in a wink of an eye... So... The dollar made brief comebacks in 2005 and in the financial meltdown of August 2008 through Feb 2009, but other than that, the dollar continues to decline, and I just don't see anything on the horizon that will stop this decline."

Well... As I look across the desk, where the light only comes from the computer screens, yes, I like it dark here while I'm writing, it keeps me focused! HA! Any way, as I look across the desk at the currency screens, I notice that every currency that supposed to lighting up green (going up) is doing so, and every currency that supposed to be lighting up red (going down, but that's what you want in a European style currency) is doing so... We've got it all going on today... One of these days, we'll quit this stupid game of street hockey, you know, Risk On, Risk Off... Or the Mr. Myagi, with the wax on, wax off, bit! But until then we have to deal with this stupid game of street hockey, or karate training!

OK... To recap... The currencies have gained back the ground they lost in yesterday's Risk Off trading sessions. Gold is back to soaring after a 1-day stall... Data yesterday in the U.S. was a mixed bag. Chuck expects the RBA to hike rates in December, and China responds to the U.S. President's request to allow greater flexibility in the renminbi, with... Silence...

Currencies today 11/18/09: American Style: A$ .9325, kiwi .7490, C$ .9550, euro 1.4960, sterling 1.6810, Swiss .99, European Style: rand 7.4290, krone 5.58, SEK 6.8275, forint 177.50, zloty 2.7370, koruna 17.0130, RUB 28.67, yen 89.10, sing 1.3830, HKD 7.75, INR 46.22, China 6.8270, pesos 12.99, BRL 1.7080, dollar index 74.97, Oil $80.03, 10-year 3.34%, Silver $18.75, and Gold... $1,148.30

That's it for today... Chris will have the conn on the Pfennig tomorrow morning, as I report to the retina institute at the Center for Advanced Medicine. God willing, I'll be back on Friday morning! My younger sister, Terri, was just diagnosed with breast cancer. I'm waiting to hear what the game plan is for her... I picked up my son Alex's electric guitar last night, and played it a little... I've played acoustic guitars for so long, that his electric guitar felt very strange.. I played a song, and little Delaney Grace, who had sat still listening to me play, cheered, and then got up and left... Cracked me up! Every day it's something with her! Time to get this out the door, folks... I hope you have a Wonderful Wednesday!

Chuck Butler
President
EverBank World Markets
1-800-926-4922
1-314-647-3837

Playing the hand that you are dealt

Steve Cook — Wed, 18 Nov 2009 14:36:00 GMT

Economics

   This Week’s Data

    October industrial production rose 0.1% versus expectations of a 0.4% increase; capacity utilization came in at 70.7, in line with estimates.

    Weekly mortgage applications dropped 4.7%.

    October housing starts fell 10.6% versus expectations of a 1.8% increase; building permits declined 4.0% versus estimates of a 1.7% rise.
    http://www.calculatedriskblog.com/2009/11/housing-starts-decline-sharply-in.html

    The October consumer price index rose 0.3% versus forecasts of a being up 0.2%; core CPI increased 0.2% versus expectations of a 0.1% rise.

   Other

    A different take on yesterday’s PPI number (chart):
    http://www.businessinsider.com/chart-of-the-day-producer-price-index-crude-goods-2009-11?utm_source=Triggermail&utm_medium=email&utm_campaign=Clusterstock%20Chart%20of%20the%20Day%2C%20Tuesday%2C%2011%2F17%2F09

    An update on the Baltic Dry Index, which is smokin’ (chart):
    http://mjperry.blogspot.com/2009/11/baltic-dry-index-roars-back-1025-gain.html

Politics

Domestic

Why universal standard (as in healthcare) are not as good as they sound (medium):
http://cafehayek.com/2009/11/universal-standards.html?utm_source=feedburner&utm_medium=email

    What was Belichick thinking (medium):
    http://www.weei.com/sports/boston/patriots/christopher-price/2009/11/16/when-it-comes-fourth-down-belichick-anything-con

International War Against Radical Islam

The Market

    Technical

    The DJIA (10437) remains within its up trend off the March lows (9953-11888). The important issue on my mind is, will the S&P (1110) hold above the 1102 level long enough to effectively re-establish its up trend (1056-1338). Yesterday it did in the face of a higher dollar; although volume was once again abysmal. Nevertheless, the sellers tied to push the S&P lower and couldn’t get it done. So score one for the bulls and assume the increased likelihood of at least one more leg up in this Market.

    As I noted, the dollar was up but so were stocks, gold and most commodities. Another off-again day. The VIX traded down and remains in a trading range.

   Fundamental

      Headlines

    The Chinese lectured Obama on US monetary/fiscal policy and indicated that they had no intention of allowing the yuan to appreciate. Not good news for the dollar which I assume means that it will continue to burn. And if the inverse dollar/stock-gold-commodities relationship holds, then stocks it seems are going to keep going up.
    http://online.barrons.com/article/SB125838307659350463.html?mod=BOL_hpp_dc (long)

I have made it clear that the whole notion of a declining dollar being good for stocks sets me on edge because of my Market experience in Nixon/Carter years. Ultimately easy money which drives the dollar down also drives inflation up; and when inflation goes up, the discount rate goes up; and when that happens, P/E multiples shrink and bond prices and stock prices go down. Having seen it up close and personal, I know that it happens. I appreciate that in the first instance massive infusions of liquidity will drive asset prices up. But sooner or later, we have to pay the piper. I thought that we had reached the ‘sooner or later’ two weeks ago. But the Market is telling us, not so. So clearly, I am just not smart enough to know when the ‘sooner or later’ occurs; and till it does, we have to play the game as it is being dealt.

    It could be that the ‘seasonal’ factor is in play; that is, historically, stocks tend to rise in the November/December period. Maybe it is because investors get all warm and fuzzy on the Holidays and their tendency is to be more positive than they might otherwise be. So right now perhaps they are just choosing to ignore or postponing having to deal with the longer term implications of the combination of disastrous monetary and fiscal policies. Maybe it has to do with the fact that most hedge funds fiscal year ends in October and the big boys have retreated to sidelines to plan how to spend their bonuses. Whatever the reason, the seasonality has been there historically and it may be working its magic now.

I also understand that if the institutional community is as underinvested as some say (another favorite reason to be bullish quoted by the experts), that there are good reasons not related to valuation for portfolio managers to buy stocks. However, that notion doesn’t make any more sense to me than stock prices going up because inflation is rising. That is why our Portfolios keep lowering their exposure to the US Market, upping their percentage invested in gold and foreign ETF’s and that is why our cash equivalents emphasize the TIPS treasuries and short term notes.

    A look at gold versus the S&P (chart):
    http://www.ritholtz.com/blog/2009/11/is-gold-really-in-a-bubble/

    Large caps outperforming (chart):
    http://traderfeed.blogspot.com/2009/11/more-large-cap-outperformance-among-us.html

Why This Real Estate Bust is Different

Gary D. Halbert — Tue, 17 Nov 2009 21:54:00 GMT

IN THIS ISSUE:

The Commercial Real Estate Bust 2.0
Why This Real Estate Bust Is Different
Who Will Refinance $3.5 Trillion in CRE?
REITs & ETFs to the Rescue?
Conclusions: Look Before You Leap

Introduction

In my September 29 E-Letter, I wrote extensively about the looming crisis in the commercial real estate sector. Things have not improved since my late September letter, and in fact have gotten even worse, despite the pick-up in the economy in the 3Q. Commercial real estate prices have continued to fall, and foreclosures continue to rise.

This week, we will revisit the commercial real estate ("CRE") bust. When I wrote about it in September, we had questions from readers as to how the CRE crisis came to be and why this current slump seems to be worse than other real estate slumps in the past. I have friends and business associates that ask the same thing.

I recently ran across a very good article in BusinessWeek that explains why this commercial real estate bust is unlike any in the past. It is written in an easy-to-understand style with lots of examples. So, for those of you with questions about the CRE bust and the implications for the financial markets, I have reprinted excerpts from the article below. I think you'll find it informative.

The core problem with the commercial real estate market is the $3.5 trillion in outstanding mortgage debt. Of that amount, an estimated $1.3-$1.5 trillion of outstanding loans will have to be refinanced in the next 3-4 years alone. In the past, banks were generally willing to extend these loans, for years in many cases, until the economy and the CRE markets recovered. But they may not be so obliging this time around.

Complicating matters in the current slump is the fact that millions of investors have become CRE lenders over the last decade in the form of Collateralized Mortgage Backed Securities ("CMBS"). Most of these investors just want out; they have no desire to extend these loans. This is another reason the current CRE slump is like no other.

So, it is a real possibility that we will have yet another credit crisis on our hands over the next few years, which supports my view that this could well be a double-dip recession, with the second downturn sparked by widespread defaults and foreclosures in commercial real estate. It's a lot to cover in one letter, so let's get going.

The Commercial Real Estate Bust 2.0

Cyclical swings in the commercial real estate market are hardly new. In the good times, developers overbuild, leaving themselves open to losses whenever the economy slows down. In the past, it was usually banks that ended up with foreclosed properties. In today's mess, in addition to the banks, there are millions of investors who bought collateralized debt securities on commercial real estate who are left holding the bag. And it's a very big bag.

The entire US commercial real estate market is valued at apprx. $6.4 trillion. Of that, apprx. $3.5 trillion of properties have outstanding mortgages. Nationwide, commercial real estate prices have already plunged 39% on average from the peak in late 2007, according to the MIT Real Estate Center. Estimates vary but it is widely believed that nearly half of all commercial real estate mortgage loans in the US - $1.3 to $1.5 trillion - will come due in the next 3-4 years alone.

MIT also reports that most commercial properties bought or refinanced in the last five years are now upside down on their loans, with current property values having fallen below the finance or purchase price. Real Capital Analytics reports that owners have lost their entire down payments on about $1.3 trillion worth of property. Deutsche Bank recently estimated that 65% or more of these loans will fail to qualify for refinancing when they come due.

The Fed's latest "Beige Book" analysis on the economy on October 21 underscores the fact that the commercial real estate market is still worsening:

Commercial real estate was reported to be one of the weakest sectors… Commercial real estate continued to weaken across the 12 Districts… Each District indicated that demand for private commercial real estate was weak, with New York, Philadelphia, Cleveland, Atlanta, Chicago, St. Louis, Kansas City, and San Francisco all characterizing activity as declining further since the last report. An inability to obtain credit was often cited as a problem for businesses that wanted to purchase or build space. High vacancy rates were noted as a key concern especially for landlords who were not offering concessions.

Each year, PricewaterhouseCoopers and the Urban Land Institute issue a detailed report entitled "Emerging Trends in Real Estate." This annual report, in its 31st year, is based on interviews with about 1,000 developers, investors, real estate service firms, banks and others.

The latest report for 2010 predicts that commercial real estate prices will continue to decline well into 2010, falling 40%-50% from the peak in 2007. According to the report, this will be the worst commercial real estate decline since the Great Depression, eclipsing the 1990s savings-and-loan crisis. It goes on to say:

"Not surprisingly, the overwhelming sentiment of interviewees remains decidedly negative, colored by impending doom and distress over prospects for an extended period of anemic demand and costly deleveraging. Hardest-hit will be retail and office properties, reflecting a weak job market and cautious consumers."

With the above as a general backdrop to the current commercial real estate dilemma, let's now turn to excerpts from the November 16 BusinessWeek article that I mentioned in the Introduction. Hopefully, this will answer questions about how we got in this mess. Following that, I will further explain how this CRE slump is like no other.

Gary D. Halbert, ProFutures, Inc. and Halbert Wealth Management, Inc.
are not affiliated with nor do they endorse, sponsor or recommend the following product or service.

QUOTE:

Why This Real Estate Bust Is Different

Unrealistic assumptions, layers of investors, sky-high prices, and possible fraud will make it hard to clean up the mess in commercial real estate

By Mara Der Hovanesian and Dean Foust

When Goldman Sachs sold complex bonds backed by the Arizona Grand Resort and other commercial properties in 2006, it suggested the returns would be strong. The 164-acre luxury Arizona Grand, set against the Sonoran Desert in Phoenix, boasted an award-winning golf course, deluxe spa, and several swank restaurants. The on-site water park was named one of the best in the country by the Travel Channel. With the resort's new owners planning to refurbish hotel rooms and common areas, Goldman told investors that the renovations would help boost cash flow.

As was so often the case during the real estate boom, the lofty projections didn't pan out. When the economy softened and business travel slumped, Arizona Grand's bookings slipped to 67%, from 80%. The resort defaulted on the $190 million underlying loan in 2009—a hit that alone could largely wipe out investors who bought the riskier pieces of the Goldman mortgage-backed securities deal.

"It's one of the largest losses we have forecasted for an individual loan," says Steve Kuritz, a senior vice-president at Realpoint, an independent credit-rating agency. The property, once valued at $246 million, is now worth just $93 million. A spokesman for Goldman says the pricing on the bonds was in line with market levels at the time and not above what investors could get on similar securities. Grossman Co. Properties, which owns Arizona Grand, didn't return calls for comment.

It would be easy to write off this blowup as just another casualty in the regular boom-and-bust cycle of the $6.4 trillion commercial real estate market. But the Goldman deal, with its unrealistic assumptions, multiple layers of investors, and stratospheric prices, helps illustrate why this downturn is more complicated than previous ones—and will turn out to be far costlier. Already, prices have plunged 41% from the peak in 2007, according to Moody's/REAL Commercial Property Price Index—worse than the 30.5% fall in the housing market from its 2006 apex. "We've never seen this extreme a correction as far back as the data go, which is the late 1960s," says Neal Elkin, president of Real Estate Analytics, the research firm that created the index. Adds billionaire investor Wilbur Ross: "Commercial real estate has gone from being highly liquid at sky-high prices to being extremely illiquid at distressed prices."

To appreciate why this bust is like no other, first consider the typical commercial real estate downturns that used to crop up every 5 or 10 years. The pattern was predictable: When prices for apartment complexes, office buildings, shopping malls, and other properties began to rise, developers sped up their projects to cash in on the bull market. Eventually, some of those developers, unable to fill all the new space, began to default on their loans, and lenders were stuck with the buildings they'd financed. The slump lasted no longer than the time it took for the property glut to be worked down.

TURNING A BLIND EYE

But overbuilding isn't the culprit in this bust. An oversupply of money is what pushed commercial real estate over the edge. [Emphasis added]

It turns out the same excesses that drove the housing market's crazy rise and fall were present in commercial real estate, too—but they have largely gone unnoticed until now. Bankers, in their haste to make more and bigger loans, blindly accepted borrowers' wildest growth assumptions and readily overlooked other shortcomings on loan applications. They did so in part because they could easily sell their dubious loans to investors in the form of commercial mortgage-backed securities [CMBS]. As the market overheated, it became a breeding ground for fraud: A flurry of new court cases reveals the disturbing extent to which commercial mortgage borrowers may have doctored loan documents. [Emphasis added]

While the housing crisis seems to be easing, the commercial storm is still gathering strength. Between now and 2012, more than $1.4 trillion worth of commercial real estate loans will come due, according to real estate investment firm ING Clarion Partners. Analysts at Deutsche Bank estimate that borrowers will have trouble rolling over as many as three-quarters of the loans they took out in 2007, the most toxic vintage. [Emphasis added.]

For the banks and investors whose money fuels the economy, this presents major problems. Their losses will likely cast a shadow over lending—and, by extension, the overall economy—for years. The market won't fully recover until 2020, says Kenneth P. Riggs Jr., CEO of Real Estate Research, and in cases where "values were over the top...maybe never."

In the short term, toxic securities are creating a new problem weighing on the market: a tangle of interconnected investors fighting over the remains of the properties they own. In the past the damage was limited to a handful of lenders who invested directly in any given project. Now there can be dozens of groups of investors, each with its own agenda. The April bankruptcy of shopping mall owner General Growth, one of the largest real-estate-related bankruptcies ever, affected hundreds of parties—an unprecedented slicing and dicing of assets. These investors won't soon forget the bust and aren't likely to dive back into the market as aggressively as they once did. [Emphasis added]

And yet the securities are only a secondary problem. The main driver of the commercial real estate bust is the underlying loans. How frothy did the market get? In one notable example, New York investment fund Sterling American Property and real estate company Hines paid $281 million in 2007 for the 42-floor office building at 333 Bush St. in San Francisco. That worked out to $518 a square foot, far higher than today's price, according to Real Capital Analytics, a research firm. Less than two years later, the building's primary tenant, law firm Heller Ehrman, filed for bankruptcy and stopped making rent payments. According to Real Capital Analytics, the building's owners did not make a recent loan payment, and the lender is expected to begin foreclosure proceedings…

What's striking is how quickly some big commercial deals have gone south. In April 2007, Charney FPG, a New York real estate partnership, paid about $180 million to buy a 22-story office building in Manhattan's Times Square district. It borrowed $202 million to pay for the purchase, renovations, and incidentals—111% financing. Because the rental income didn't cover the debt payments, Comfort's lenders, Wachovia and RBS Greenwich Capital, required the firm to set aside $10 million in reserves to keep the project afloat until it got more paying tenants. Those occupants never materialized, and by July the owners had exhausted 95% of their reserves. The building is now in jeopardy of being seized by the bankers, says Real Capital Analytics' head of research, Dan Fasulo. "Everyone knows Judgment Day is coming." Says a Charney spokesman: "The owners are in the midst of restructuring the debt." Wachovia and RBS declined to comment.

Commercial lending mirrored mortgage lending in another way: Loans were made based on an unshakable belief that the market would never go down. An analysis by research firm REIS of mortgage securities created between 2005 and 2008 found that income projections for properties exceeded their historical performances by an average of 15%. "It was all based on assumption of cash flow," says Howard S. Landsberg of New York-based consultant Weiser Realty Advisors. "If you couldn't afford to pay the bank back now, in three years you could count on another $20 a square foot" in rent. When the numbers didn't add up, some lenders got imaginative. Says a banker at a large Wall Street firm: "If the cash flow wasn't there, you had to ignore it or find ways to create it."

Some lenders may have drummed up business for themselves, enticing borrowers with more money than they needed. Consider Credit Suisse's $375 million loan to the Yellowstone Club in Big Sky, Mont., one of the starkest examples of poor underwriting in recent memory. Opened in 1999 by Timothy L. Blixseth, a welfare kid turned timber magnate, the private ski and golf club catered to the ultra-wealthy crowd. Microsoft founder Bill Gates and Tour de France champion Greg LeMond built multimillion-dollar vacation homes there.

In 2005 a Credit Suisse banker approached Blixseth about a loan, which the banker compared to "a home equity loan," according to bankruptcy court documents. Blixseth initially turned down the offer. But after several calls and a personal visit to Blixseth's home near Palm Springs, Calif., the banker persuaded Blixseth to borrow $375 million in the name of the club. According to court papers, the two decided the transaction fee by coin flip; Blixseth won, agreeing to pay 2%.

"WILD, OUT-OF-CONTROL SPENDING"

But not all of the funds were earmarked for the club. The deal allowed Blixseth to use up to $209 million of the proceeds "for his own personal benefit," according to the bankruptcy court papers. In a civil lawsuit filed by Yellowstone investors and homeowners, the plaintiffs say Blixseth used some of that money to fund a lavish lifestyle, including the purchases of a 20-seat Gulfstream corporate jet, two Rolls-Royce Phantoms, and three Land Rovers.

While Blixseth was busy spending the money, Yellowstone was struggling under the weight of its debt. Vendors often went unpaid for three months or longer, according to bankruptcy court testimony. In November 2008, Yellowstone filed for bankruptcy protection. "The only plausible explanation for Credit Suisse's action is that it was simply driven by the fees it was extracting from the loans it was selling and letting the chips fall where they may," said Ralph B. Kirscher, a federal bankruptcy judge in Helena, in a May court decision.

RED FLAGS GALORE

The banks were hardly the only freewheeling players during the credit boom. The fast-and-easy lending environment was fertile territory for alleged fraudsters. In 2007 Prudential Financial lent $13.9 million to Namir A. Faidi, a Houston developer who planned to use the money to pay off construction loans on Piazza Blanca, a Mediterranean-themed shopping complex in Galveston, Tex. Faidi dipped into the project's reserve fund to make the first loan payment but failed to make any more. After that, Prudential concluded that some of the leases he'd submitted weren't legitimate. According to a civil suit filed in federal court by Prudential, Faidi's loan papers included a signed lease from time-share giant Bluegreen, a purported tenant that would occupy 26% of the space. But when Prudential contacted Bluegreen after the default, it learned it had backed out of talks and never signed a rental agreement…

END QUOTE

Gary D. Halbert, ProFutures, Inc. and Halbert Wealth Management, Inc.
are not affiliated with nor do they endorse, sponsor or recommend the following product or service.

Who Will Refinance $3.5 Trillion in CRE?

As noted earlier, it is widely agreed that there is apprx. $3.5 trillion in outstanding commercial real estate debt. It is also widely agreed that some $1.3 to $1.5 trillion of that debt will have to be refinanced over the next 3-4 years. The question is, who will step up to the plate? The chart below illustrates who the main players are.

Looking at the left panel above, we see that banks and S&Ls hold 51% of outstanding CRE debt. Investors in Collateralized Mortgage Backed Securities (CMBS) own apprx. 21%. Together, these represent 72% of outstanding CRE debt. The slice noted as "Other 15%" is mainly made up of REITs. Much of the financing since 2002 has been in the CMBS (individual investors for the most part).

Virtually all of the players have seen the values of their CRE investments plunge since the peak in 2007. As noted earlier, CRE values are down 39%-41% on average depending on which estimate you believe, and they are still falling for the most part.

The National Association of Realtors projects that retail vacancy rates will increase from 11.7% in the 2Q of 2009 to at least 12.9% in the same period of 2010, the highest vacancy rates since 1991. Likewise, NAR projects that office building vacancy rates will rise from 15.5% to at least 18.8% by this time next year.

While the economy seemed to turn around in the 3Q, most forecasters agree that the unemployment rate will remain near 10% for all of 2010. Given that, it is likely that CRE vacancy rates will remain high. For all these reasons, Deutsche Bank predicts that over 65% of the loans coming due in the next few years will fail to qualify for refinancing.

So, we are back to the question of how does this $1.3 to $1.5 trillion in CRE get refinanced over the next several years? The answer is, much of it won't. Defaults will continue to rise. This will put banks increasingly in the sublease business, assuming that willing tenants can be found. Unfortunately, sublease rental rates typically are only 60%-80% of the original rates.

Commercial real estate loans are not just concentrated among the nation's largest banks; these loans are widely made by regional banks and even smaller banks. These banks are even more at risk because they will likely have a harder time accessing the crucial capital to offset rising defaults on commercial real estate loans. The FDIC reports that 120 small and regional banks have failed so far this year (as of Nov. 6), compared to only 24 failures in all of 2008.

Obviously, banks will not be refinancing much of the $1.3-$1.5 trillion that comes due over the next 3-4 years. Banks are still trying to reduce their exposure and deleverage. Likewise, the CMBS market has practically dried up. So who is left to refinance these maturing CRE loans?

As we might expect, there are those in the CRE industry that are calling for a government bailout – what else is new? You may recall that about this time last year, the Fed created what is called the "Troubled Asset Loan Facility" (TALF) which is scheduled to end soon. Now there are calls from the CRE industry to extend that facility.

Others are calling for changes such as:

Stop forcing banks to reclassify loans that have had minor modifications to assist borrowers (and continue the so-called "pretend and extend" practice);
Reject any new taxes on real estate such as capital-gains-tax hikes; changes to IRS Section 1031, which allows tax deferral; and
Amend the IRS Tax Reform Act of 1986 to allow modification of loans within Real Estate Mortgage Investment Conduits (REMICSs). Some 25% of US commercial real estate is financed with these securities.

It remains to be seen if the Obama administration will entertain any of these requests. If I were a real estate developer, I wouldn't count on it.

REITs & ETFs to the Rescue?

REIT is the acronym for Real Estate Investment Trust. REITs are similar to mutual funds except that their shares trade as stocks on the major exchanges. ETF is the acronym for Exchange Traded Funds, which also trade as stocks throughout the day. REITs generally only invest in real estate.

Like real estate, REITS were hammered by the recession, on average losing 70% from the peak in 2007 to the bottom in March. Since then, average REIT prices have rebounded strongly, up apprx. 80%, but are still far below the highs in 2008. Dozens of new IPOs in the form of REITs have been launched since March, reportedly raising over $20 billion in new assets, by fund managers who seek to acquire bargain basement commercial real estate properties. I'm told there have also been dozens of new ETFs that have been formed this year for the very same purpose.

Most estimates suggest that there will be around $500 billion in commercial real estate loans that will need to be refinanced in 2010 alone. So while REITs and ETFs will help, they are not the magic bullet.

Conclusions – Look Before You Leap

There is currently $3.5 trillion in outstanding commercial real estate debt, with much of it related to properties purchased at exorbitant prices during the real estate boom that ended in 2007. Many private equity players and hedge funds used heavy leverage, borrowing up to 80% of the purchase price, to acquire the properties that are now struggling to generate the cash-flow needed to service the debt and meet debt calls.

An estimated $1.3- $1.5 trillion in commercial real estate debt will need to be refinanced over the next 3-4 years, with apprx. $500 billion of that coming due in 2010. The question is, who will be there to refinance these CRE loans? Banks are trying to reduce their exposure to CRE. REITs and ETFs will take on some of these properties, but certainly not all or even most. Is there another massive government bailout on the horizon? Don't rule it out.

It is not unusual for the real estate market to worsen even after the economy comes out of recession. In the 1991 recession, it took the industry 14 months to rebound after the recession's end; in the 2001 downturn, it took 29 months for the sector to fully recover. Even if the current recession ended in the summer as many seem to believe, it could easily take a couple of years for commercial real estate to bounce back, and that assumes we are not looking at a double-dip recession which I believe is entirely possible.

Put differently, the commercial real estate dilemma is likely to get worse before it gets better. As discussed above, vacancy rates continue to rise; loan default rates continue to rise; foreclosures continue to rise; and all of this will continue to worsen as long as unemployment remains above 10%.

As discussed above, a lot of money is being raised publicly and privately with the goal of cashing in on the commercial real estate debacle. Promoters are touting "once in a lifetime" profit potential as they look to scoop up distressed properties for pennies on the dollar.

Yet the amount of money being raised is only a fraction of the size of the $1.3+ trillion in commercial real estate debt that needs refinancing over the next 3-4 years. So the CRE market could be far from a bottom. As the old saying goes, look before you leap.

Very best regards,

Gary D. Halbert

SPECIAL ARTICLES

Facing the next real estate collapse
http://www.nypost.com/p/news/opinion/opedcolumnists/facing_the_next_real_estate_collapse_5NbxrlBoP3xbtOHa9TGmTO/0

REITs and Commercial Real Estate's Victims
http://www.time.com/time/business/article/0,8599,1932749,00.html

Dismantling America - Thomas Sowell (excellent read)
http://www.realclearpolitics.com/articles/2009/11/16/pushing_health_reform_when_job_losses_are_rising__99152.html

Wrong time to be pushing massive health reform
http://www.realclearpolitics.com/articles/2009/11/16/pushing_health_reform_when_job_losses_are_rising__99152.html

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Chuck Butler — Tue, 17 Nov 2009 16:26:36 GMT

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In This Issue..

* Bernanke digs out some old words...
* Risk on, Risk off...
* Brazil to have a different meeting outcome?
* Winter Olympics are in Canada...

And Now... Today's Pfennig!

We Won't Get Fooled Again!

Good day... And a Terrific Tuesday to you! What a ride on Mr. Toad (Bernanke's) Wild Ride yesterday for the currencies! Gold? Well, at one point in the day, Gold had shot up $24 on the day! It topped out at $1,142... The shiny metal then gave some back on profit taking, but Whew! Gold holders have got to love it! Those that keep waiting for a pull-back... Well, they might be still waiting when the cows come home...

Yesterday, we had a couple of Fed Heads talking, but the Big Kahuna, stood out, and moved the markets with his statements... Here's the skinny...

Big Ben was giving a speech, and said that "The Fed will monitor closely the currencies, and that the Fed's policies will ensure that the dollar is strong." Now, when he first uttered those words, the dollar got bought and the non-dollar currencies were sold... But then, a few of us had this feeling... It was a feeling that we had heard all this before... And there... In the archives, circa June 2008... Bernanke said, "In collaboration with our colleagues at the Treasury, we continue to carefully monitor developments in foreign exchange markets." Wait! We won't get fooled again!

In June 2008, his statements spooked the markets into believing the Fed was really going to do something to bolster the dollar... But when nothing came along, the dollar REALLY got sold until the financial meltdown of August 2008... I mean... What has the Fed done in the past 1 1/2 years to "bolster the dollar"? Near zero interest rates that will remain in place for longer than they should... Quantitative easing... A Bloated balance sheet of toxic bonds...

You could see the V-8 moments on traders' faces when they realized, yesterday, that all this had been said before, and nothing came of it, so... Meet the new boss... Same as the old boss... We Won't Get Fooled Again! No No!

So, then traders reversed their buying of the dollar and sent the dollar to the woodshed... You should have seen the reversal... It was amazing... The Big Dog, euro, went from 1.4970 to 1.4860, and then turned around to rise to 1.50! ... Now, overnight, there has been some renewed selling of the non-dollar currencies, and the euro is back to 1.4910... Crazy... But not as crazy as Big Ben spouting off about "monitoring the currencies"... Yeah, right... And what are you going to do about them when they get out of line, Big Ben? Get the ruler out? I'll tell you what he'll do... Nothing... Absolutely nothing!

Memo to Big Ben... Ahem... Am I on? Ok, long time listener, first time caller... Big Ben... Just what policies are you talking about that will keep the dollar strong? In the future, you might want to list them, so that people like that Chuck Butler, doesn't rip your comments to shreds for their lack of truth, and facts...

Non-voting Fed Head, Fisher, had this to say yesterday... "Our job is to maintain the purchasing power of the dollar, while fostering the conditions that enable the economy to grow without fanning inflation." Hmmm I would say that he's got that right... But, apparently, somewhere along the way, the part about "maintaining the purchasing power of the dollar" got lost, eh? I mean, since the Fed / cartel was formed in 1913, the dollar has lost 95% of its purchasing power... YIKES! Most people that did their jobs that badly would be fired/ let go... These guys have had almost 100 years to figure this out, and have failed miserably... And hey! Before I get accused of something (I'm always accused of something, with everything I say), Fed Head Fisher was the one that described the Fed Heads' job, not me!

OK... While I'm on this subject of being accused... I have been beating on the U.S. administration for 9 years, folks... I know I've really stepped it up with the step up of deficit spending by this administration, but, I chastised the previous administration beginning with their protectionism measures in 2000, and never let up, with their deficit spending... Someone even said I never talked about Cheney and his "Deficits Don't Matter"... WHAT? I've even repeated the same joke several times about the Deficits don't Matter crowd, and that they remind me of a guy standing on the Empire State Building, he decides to jump off, and as he passes the 56th floor, he says... "So far, so good!"

Yes, so far, so good, because he hadn't hit the concrete to go splat yet... And neither had the deficits crowd... But they will, and in fact, they are getting awfully close to the concrete right now!

Well... Enough of that... I just get so ticked off sometimes... I write, and write, and people say I didn't say this or that... Don't know what else to say... So, I'll go on...

The U.S. economy got a boost yesterday when Retail Sales grew at a faster rate than forecast, growing 1.4% in October, above the 0.9% rise projected by Wall Street. The jump came on rebounding demand for cars, a sign the economy kept recovering despite climbing unemployment. Aside from automobiles in October, other sales rose just 0.2%.

But... Are these numbers suspicious? Well, when you look at the previous month's revision, you have to question these numbers as well... September Retail Sales, which were reported as -1.5%, actually fell -2.3%... I wonder what this number's revision next month has in store...

Today, the data cupboard is stocked to the brim with data prints... Producer Price Index (PPI) prints along with two of my faves, Industrial Production and Capacity Utilization... And then the Big Kahuna of the day... The TIC's data... For those of you new to class, The TIC's data stands for Treasury International Capital... Or... Easier to understand... It's the fancy, schmancy name for Net Security Purchases by Foreigners... This is how we track, how well we're doing as a county at financing our ever expanding deficit...

I made a mistake yesterday when talking about the Reserve Bank of Australia (RBA) and saying that if they didn't hike rates in December, that they would most likely come back in January at hike them... A reader pointed out to me that the RBA doesn't meet in January... OK... So, I guess I should have said that the RBA would hike at their next scheduled meeting!

Speaking of the RBA... They issued their latest meeting minutes, in which they sounded less hawkish than one would expect, since they raised rates at the same meeting... But this less hawkish tone, set off a round of Risk Aversion once again in the currency markets overnight... Risk on, Risk off, is reminding me of a Wayne and Garth street hockey game...

For, it's Risk on, one day, and Risk off the next day... So, while I find that the RBA minutes did set off this round of Risk off for the currencies, I don't see it having lasting power... Look for this all to fade, especially if we get a rogue data print in the U.S. today...

Late last week, I came across a story on the dollar that I totally forgot to talk about yesterday... So, here you go... Oh, by the way, strap yourself in for this one, and keep your arms and legs inside during the ride...

The German government's 5-person council of economic advisers issued a report that said, "After the massive global increase in U.S. dollar reserves in the past years, an "uncontrolled exit", especially in emerging economies from the U.S. dollar as a reserve currency is a possible trigger of instability in currency markets." The went on to say...

"Countries holding "high" dollar reserves should consider committing to selling their dollar holdings in a coordinated way over a longer period of time."

The folks over at the Royal Bank of Scotland (RBS) think that Bernanke's speech yesterday, basically gave the green light for a further, slow, gradual decline of the dollar... And, quite frankly, that's what traders would prefer to see too, given that they don't like getting whipsawed day in and day out by the Risk on, Risk off game... When assets go to fast one way or the other, it just causes strong corrections, and people get hurt by the movements... But a slow, gradual decline I would think would be the preference of the U.S. Gov't... That way, no one notices... It's not like a bubble that grows and everyone notices it...

Speaking of bubbles... And if you're like me, when I type, or say bubbles, I immediately think of Big Al Greenspan... Well, you'll love this Fed Head statement about bubbles... Here's Fed Head Kohn... "Asset price bubbles can be spotted when they become extreme, efforts to spot bubbles may result in seeing more than there is."

Now that statement plays well with Big Al Greenspan, who always claimed that bubbles could not be spotted before they got out of hand... Basically, what these two are saying in different ways is that the Fed could spot them, but probably wouldn't like it, and wouldn't have much at their disposal to do about it, so they just turn away...

And speaking of such... Fed Head Yellen said last night that the "U.S. stock market is not overvalued"... That's all I'll say about that!

OK... Hopefully, you are still with me here, and reading... And you will recall me going on and on about China and their FX currency swap agreements and how that was a baby step toward gaining a wider use of the renminbi... Well... Yesterday, there was a story, that I think Ty told me about, that talks about China preparing to float the renminbi, testing it in Hong Kong... The Chinese government has been moving to allow banks in Hong Kong to issue bonds, hold deposits, and settle trade with the mainland -- all in renminbi.

However, don't look for this conversion to a floating currency to happen soon... Financial analysts believe it will not happen before 2020... It may come sooner... But I wouldn't get all lathered up that it happens in the next year!

One of the best performing currencies VS the dollar this year, has been the Brazilian real, with a greater than 30% gain, so far... There's been a shakeup at the Brazilian Central Bank, and there will be a few new members, with voting power at the next meeting on December 9th... I still don't think the Brazilian real interest rate will be moved at this meeting, but with the new members, they might want to make a "statement" about how hawkish they are... And on December 10th, Brazil will print their 3rd QTR GDP, which I would think would be quite strong... You would have to think that the Central Bank will have privy to this report before they meet on the 9th... And with the new members possibly wanting to make a statement, there's a whole new outlook for the Central Bank meeting...

You know... As we draw closer to the end of the year, the closer we get to the winter Olympics which will be held in Vancouver, B.C. (and Whistler!) Going back to the early days of the World Markets Division at the old Mark Twain Bank, here in St. Louis, we tracked currencies from countries that were holding the Olympics, noticing that there was always a rise in the host country's currency... If that were to hold it would benefit the Canadian dollar / loonie... Will it hold true for the Vancouver Olympics? We'll have to wait-n-see, eh? But really... Wouldn't it be worth a flyer, a shekel or two to see if it did hold true?

And then there was this... Were you confused by the GM announcements yesterday? I was... First there was an announcement that GM would be paying back some of the bailout money to the Government... But then later it was announced that GM posted a $1.5 Billion loss... Kind of difficult to pay someone back, when you're booking losses, eh? Strange announcements for sure...

OK, to recap, which I forgot to do yesterday! UGH! The currencies were whipsawed yesterday by comments by Big Ben Bernanke, that we've heard before! The RBA issued a not-so-hawkish minutes report that spooked the markets and it's Risk off today... Brazil might have a different outlook for their next meeting in December, and the winter Olympics are ready for Vancouver, will that mean a boost for the loonie?

Currencies today 11/17/09: American style: A$ .9270, kiwi .7440, C$ .9450, euro 1.49, sterling 1.6775, Swiss .9840, European style: rand 7.4660, krone 5.62, SEK 6.8775, forint 179, zloty 2.76, koruna 17.1450, RUB 28.77, yen 89.30, sing 1.3870, HKD 7.75, INR 46.30, China 6.8266, pesos 13.01, BRL 1.7160, dollar index 75.38, Oil $78.24, 10-year 3.35%, Silver $18.16, and Gold... $1,030

That's it for today... Well, the college basketball season began last night... My beloved Missouri Tigers start tonight. The Tigers basketball team surprised quite a few people with their run last spring, hopefully they can repeat that! Our little Christine's husband is a high school basketball coach. Christine says that once the season starts, she rarely sees husband, Matt... She loves basketball season! HA! My little, adorable granddaughter, Delaney Grace, was at the house when I came home yesterday, and she ran out of the house to jump in my arms to hug me! WOW! Sure is great to have a little one around! OK... Late again today, UGH! Better get going... I hope your Tuesday is Terrific!

Chuck Butler
President
EverBank World Markets
1-800-926-4922
1-314-647-3837

Review of Northern Trust (Dividend Growth Universe)

Steve Cook — Tue, 17 Nov 2009 14:28:00 GMT

Northern Trust is a leading provider of investment management, asset and fund administration, fiduciary and banking solutions to institutions and individuals worldwide and is the largest US personal trust company. The company has earned a 12-15% return on equity while growing profits and dividends 10-11% annually for the last 10 years. Despite a difficult environment for financial institutions, NTRS expects to continue to grow as a result of:

(1)    the company’s revenues are heavily skewed to fee-based services allows it to avoid the volatility associated with interest based revenues,

(2)    the rising equity market should have a positive impact on client assets values,

(3)    NTRS has redeemed all the preferred shares sold to the US Treasury under TARP, relieving it from the preferred dividend payments,

NTRS is rated B++ by Value Line, has a debt/equity ratio of about 40% and its stock yields 1.9%.

Statistical Summary

                 Stock      Dividend         Payout      # Increases
        Yield      Growth Rate     Ratio       Since 1999

NTRS        1.9%           8%              30%             7
Ind Ave      2.2              2                 35               NA

                Debt/                    EPS Down       Net        Value Line
        Equity         ROE      Since 1999      Margin       Rating

NTRS       40%            12%           3                NA            B++
Ind Ave     56               4              NA              NA            NA

      Chart

    NTRS has been unsuccessful in holding its up trend off the March low, its November 2008 trading high and the down trend off its September 2008 high. The straight blue lines are the boundaries of an up trend dating back to 2003. The wiggly blue line is on balance volume.

http://finance.yahoo.com/q?s=NTRS
11/09

    News on Stocks in Our Portfolios

    Lowe’s (Aggressive Growth Portfolio) reported third quarter earnings per share of $.24 in line with expectations and versus $.33 recorded in the comparable 2008 quarter.

    Positive comments from Zack’s on Avon Products (Aggressive Growth Portfolio):

    Avon Products Inc. (AVP - Analyst Report) recently declared a quarterly dividend of 21 cents per share, which translates into an industry-leading yield of 2.4%. In late October, the company reported third-quarter earnings of 42 cents per share, exceeding the Zacks Consensus Estimate by 8%.

Rewarding Shareholders with Outstanding Income

The company recently declared a quarterly dividend of 21 cents per share, which translates into an industry-leading yield of 2.4%.

The dividend is payable December 1 to shareholders of record November 20.

Solid Earnings

In late October, the company reported third-quarter earnings of 42 cents per share, exceeding the Zacks Consensus Estimate by 8%. Revenue slipped 4% year-over-year but was up 7% on a local-currency basis.

Higher Forecasts and Strong Momentum

The company is seeing bullish earnings estimates on the strong quarter. The full-year Zacks Consensus Estimate of $1.70 per share is up 4 cents over the past 30 days.

For 2010, analysts polled by Zacks are projecting earnings of $2.17 per share, versus last month’s $2.11.
The share price, which is very close to a 52-week high, has seen strong momentum, outpacing the market by about 40% during the past year.

Favorable Industry Comparisons

Avon boasts a return on equity (ROE) of 87%, dwarfing the industry average of 11%. The company’s net profit margin of 6% compares to an industry average of 3%.

Buffett’s 'Desert-Island Indicator' Update

Matt Blackman — Mon, 16 Nov 2009 21:26:00 GMT

Buffett’s Desert-Island Indicator Update
Rail traffic – Resurging product demand?
Baltic Dry Index on the move…
One “mother” of a trade
Carry trade elephant in the room?
Chart updates

Want more? Daily commentaries here…

To stay tuned to the latest chart and market updates, please check our website version of this newsletter at http://tradesystemguru.com/content/blogcategory/54/88/

Last month we took a look at the indicator Warren Buffett would use if he could only pick one. This month we take a look at slightly different perspective with monthly data from the Association of American Railroads (AAR).

In their latest monthly report, the AAR reported that October overall rail traffic was down 15.3% from October 2008 and down 18.1% from October 2007. As the next chart shows, after four consecutive months of improvements, October traffic fell on a year-over-year basis from -14.2% in September although October traffic (324,836 carloads) was slightly better month-over-month versus 321,704 carloads in September.

Figure 1 – Total railcar traffic for 2006 through 2009. Source aar.org

Average weekly traffic was also down from September which is the second monthly decline. Intermodal (trailers on rail cars) traffic, which is a good measure of manufacturing/retail demand, was down 11.2% y-o-y in October but up 4% from the September weekly average. This is an important indicator showing that retailers are stocking their shelves for the upcoming holiday season. So far in 2009, seven of the eighth highest-volume intermodal weeks were in September and October – a positive sign. The highest-volume week so far this year occurred in week 40, the first week in October.

Rail traffic – Resurging product demand?

This next chart shows this trend more clearly. With a nearly perfect inverse correlation between the manufacturing inventory to sales ratio and U.S. rail traffic, it shows real demand and a drop in inventory levels. And as long as rail carloads increase, it bodes well for the current fragile economic recovery. Could this be one big reason why Buffett recently made his biggest purchase ever when he spent a reported $34 billion for Burlington Northern, the nation’s second largest railroad? It is certainly no coincidence!

This data is also in conflict with the latest consumer credit data that showed its eighth monthly decline in October. This has two possible meanings – either consumer demand is not the main reason for inventory reduction or if consumers are part of this trend, they aren’t burrowing as much to go to the mall. Given the drop in real incomes, the first possibility appears most likely but we will get more clarification with the release of early holiday shopping data.

Figure 2 – Source aar.org

BDI on the move…

Increasing transport demand is also being shown in the rise of the Baltic Dry Index that tracks shipping rates for dry goods transported by sea and since it is not traded on an exchange is less subject to speculation and manipulation. It is therefore a good indicator of real demand for goods and commodities used in manufacturing a wide variety of products around the world, as well as an economic bellwether. Although the BDI is up 520% from its lows in December 2008 but was up just 0.52% November 13 from a year earlier… so demand has been somewhat choppy. But as the dashed trendline shows, it is still up.

Figure 3 – Daily Baltic Dry Index changes showing the rise from the lows in early October to November 13, 2009. As the right-hand trendline shows, the trend has so far remained positive.

Rising transport demand is bullish for both commodities and stocks (see Figure 4 in our October MMM).

One “mother” of a trade

From its humble beginnings in 1982, the biggest stock rally in history saw impressive increases in stock prices and our ‘apparent’ standard of living (more about that later). Everyone has his or her theory about why markets did so well for eighteen years. Their reasons include everything from technology gains and the rise of the computer and later the Internet, to an increase in good old American productivity and ingenuity.

Figure 4 – Monthly chart of 30-year Treasury bond yields (TYX) and the US Dollar Index (DX). Yields hit a low just under 2% in 2009 and have since recovered to just above 4%. The dollar is now worth a little more than half of what it was in 1985 in nominal (dollar) terms. Chart Metastock.com

These were no doubt important factors but the next graph shows something of which few may be aware. Since 1982 when the 30-year Treasury bond yield peaked at 15.3%, interest rates have been slowly but steadily falling, thanks in large part the post high-interest rate policies of Paul Volker that were responsible for finally getting 1970s style inflation under control. And Chairman Greenspan was not wholly responsible for the decline – he took over the reins of the Federal Reserve in 1987 just before the October 22% stock market melt. Rates had fallen significantly before he took over and continued to fall after his exit.

But as the above chart clearly shows, lowering interest rates (quantitative easing) has been a big part of Fed policy for keeping politicians and voters happy. If this was a major goal, it has worked. But it has come at a cost.

As we see from the next chart, the years from 1970 through 1982 had their ups and downs. Inflation and stagflation ravaged our economy, followed by crushing high interest rates that were necessary to rid the excesses from poor economic policies during the Johnson through Nixon then Carter years. But by 1982, real incomes had increased dramatically.

One thing that stands out in comparing Figures 4 and 5 – falling interest rates have coincided with falling real incomes. Yes, lower rates allowed us to borrow like never before but this easy money had its price.

Figure 5 – The double whammy of falling incomes and falling average hours worked has meant that we are now making less than we did in real terms than in 1982.

So what has this to do with markets and trading portfolios? First, it is a reality of which all traders should be aware. Their real returns aren’t always commensurate with what their trading accounts say. As this next chart (Figure 6) shows us, it all comes down to what’s left after the inflationary tax and that is not declining contrary to what the official Consumer Price Index or Personal Consumption Expenditures data would have us believe.

The inflationary impact on the dollar has been very similar with the impact on stocks as Figure 7 shows.

Figure 6 – Value of the dollar priced in gold. Since peaking in early 2001, the dollar has lost 85% in real terms and there appears to be no end in sight. Chart by GenesisFt.com

Figure 7 – Since its peak in mid-1999, the Dow Jones Industrial Average priced in gold has lost a similar amount and was down 84% before stocks rebounded in March 2009. Chart by GenesisFt.com

And now that the Fed funds overnight rate is effectively zero, the Fed must resort to other methods to give consumer (voters) that ‘wealthy’ feeling. The problem is that like interest rates, the last resort of printing money has an even more negative impact on the dollar. It has also re-energized the carry trade and this time the Japanese yen is not the principle victim.

Carry trade elephant in the room?

The point of the above four charts is to demonstrate the real cost of quantitative easing. Now that interest rates have fallen to zero, the stage is set for Act IV in The Dollar Tragedy. Like the case with the yen, global investors now have the ability to borrow US dollars at next to nothing and buy assets that have a better potential to appreciate – assets like high-yield foreign bonds, commodities or anything else that is a storehouse of value.

In a recent Financial Times article entitled Mother of all carry trades faces an inevitable bust, economist Nouriel Roubini outlined his concerns for what is behind the nearly 60% stock rally (not to mention the rallies in commodities, precious metals, real estate and emerging markets) currently underway.

Figure 8 – Weekly chart of the New Zealand dollar – USD showing that although the NZD-USD broke its trendline support recently, it is showing signs of recovery. Chart by GenesisFt.com

“Certainly it has been helped by a wave of liquidity from near-zero interest rates and quantitative easing. But a more important factor fuelling this asset bubble is the weakness of the US dollar, driven by the mother of all carry trades. The US dollar has become the major funding currency of carry trades as the Fed has kept interest rates on hold and is expected to do so for a long time. Investors who are shorting the US dollar to buy on a highly leveraged basis higher-yielding assets and other global assets are not just borrowing at zero interest rates in dollar terms; they are borrowing at very negative interest rates – as low as negative 10 or 20 per cent annualized – as the fall in the US dollar leads to massive capital gains on short dollar positions.”

So where does “Dr. Doom” think will ultimately occur when this bubble ultimately breaks?

“This unraveling may not occur for a while, as easy money and excessive global liquidity can push asset prices higher for a while. But the longer and bigger the carry trades and the larger the asset bubble, the bigger will be the ensuing asset bubble crash. The Fed and other policymakers seem unaware of the monster bubble they are creating. The longer they remain blind, the harder the markets will fall.”

So these rallies could continue for weeks, months, or longer – as long as interest rates remain contained and investors around the globe are willing to accept the risk of buying US dollar-denominated assets in spite of a real decline in value.

However, if something alerts them to the real risk, like has occurred in smaller economies like Iceland and Latvia, they could quickly demand higher returns pushing interest rates significantly higher. This would rapidly take the premium out of the USD carry trade as beneficiary currencies (like the New Zealand and Australian dollars) declined amid a strengthening in the greenback and cause dollar short positions to unwind with a vengeance as traders race to cover.

As in life, there are no carry-trade free lunches! At some point the interest-rate Genie that has helped turbo charge markets and our standard of living over the last few decades, must have his due.

Traders who are short the USD and US interest rates (and that includes those who are long commodity currencies like the Australian dollar and New Zealand dollar as well as commodities and emerging markets) can protect themselves with a USD long hedge like USD calls or call LEAPs for longer-term positions.

Chart updates

Figure 9 - Chart by GenesisFt.com

On the topic of carry trades, one very important one has been the New Zealand dollar – Japanese yen. As a result it has become a good leading indicator of stock market movements as it has been used to fund stock investments. As Figure 9 shows, the trade is still on.

Next we look at the four major markets we are following and how they have moved since our last MMM. Since August, US stocks (SPX) have outperformed the other three indexes but as we saw above, much of that upside has been due to the falling dollar.

Figure 10 - Chart by GenesisFt.com

Daily Updates

If you’re interested in more timely updates and articles, you can follow me on at http://www.twitter.com/matt__blackman (double underscore between first and last name). You don’t have to join twitter, simply click on that link to see what I’m tracking.

If you already use Twitter, forget the bad media diatribe about how it’s a waste of time for those who have nothing better to do than post daily banalities. From a market perspective it’s a great way of following those who have useful things to say without having to continually check a bunch of web pages. All that work is done for you!

Eclectica November Fund Commentary

John Mauldin — Mon, 16 Nov 2009 20:55:00 GMT

Today's Outside the Box comes to us from England. My European partner Niels Jensen from time to time sends me some of the best letters he reads from the hedge fund world. He is an excellent filter for me, and this week's Outside the Box offering is no exception. Below is the November commentary from Eclectica fund manager Hugh Hendry. He challenges the current preoccupation with the falling dollar and China, and posits what would happen if that thinking is wrong? It offers some very thought-provoking ideas. You can contact them for more information at info@eclectica-am.com or visit their website: http://www.eclectica-am.com

Your wondering if we are all turning Japanese analyst,

John Mauldin, Editor
Outside the Box

Eclectica November Fund Commentary

by Hugh Hendry
Eclectica Fund Manager

"The power to become habituated to his surroundings is a marked characteristic of mankind."

John Maynard Keynes
The Economic Consequences of the Peace, 1921

This month I will attempt to answer the entrance examination for the Chinese civil service. That is to say, I will attempt to tell you everything that I know. In doing so, I will argue that this year's rally in inflationary assets, from emerging stock markets to industrial commodities to the fall in the US dollar, could be a FAKE. Let me explain why.

But first, I am indebted to Scott Sumner, professor of economics at the University of Bentley, and his essay on the economic lessons that can be drawn from timelessness in art (see http://blogsandwikis.bentley.edu/themoneyillusion/?p=2542). It is a theme that I will constantly revisit in my arguments below.

Sumner is able to take us from the Flemish forger, Van Meegeren, and his horrendous reproductions of the Dutch painter, Vermeer, to the notion that every recession seems unique and special to its protagonists. So just how did Van Meegeren fool the Nazis with paintings that today look so awful, so un-Vermeer? Jonathan Lopez, the noted art historian, argues that a FAKE succeeds owing to its power to sway the contemporary mind. Or in other words, the best forgeries tend to pay homage to the tastes and prejudices of their time. The present is so seductive.

However, forget the art world. Controlling the psyche of this generation of investor is the indelible mark of the falling dollar and the associated fear of inflation. Monetary inflation has been the distinguishing feature of the last ten years, and it is now firmly embedded in the contemporary mind. I am sure I need not remind you that gold, along with just about every other commodity, has at least quadrupled in price since 1999. You already know my explanation for why this has happened.

The spectacular rise in the Chinese trade surplus, predominantly with America, to $320bn per annum at its peak in 2007, and the mercantilist desire to prevent currency appreciation drove the Asians and the sheiks to buy Treasuries and print their own currencies. The ability of fractional reserve banking to leverage this liquidity many times over provided the monetary mo-jo to instigate ever higher commodity prices. In other words, quantitative easing, masquerading as a cheap but fixed currency regime, has succeeded where Japan's orthodox version has failed. The QE succeeded because, amongst other features, it raised the velocity of monetary circulation.

However, it was not always like this. As an example, ten years ago it was unthinkable that the dollar would prove so fragile. Recall that back then, when the euro was first launched in 1999, it promptly lost 31% of its value against the greenback. The subsequent reconstruction of modern China, though, intervened. In order to finance the emergence of a new economic superpower, an abundance of dollars was needed. Have no doubt that had we not had the dollar as a reserve currency, the rise of China would not have been as swift nor as decisive.

The Yellow Brick Road

Consider another economy needing to be rebuilt: that of the United States in 1865, the post Civil War era. The rebirth of the American economy was funded from the monetary rectitude of the gold standard, not from the generosity of a foreign and infinitely expandable paper currency. However, all of this occurred before the discovery of cyanide for heap-leaching and the opening up of the huge South African gold fields. In other words, hard money was in tight supply and the recovery was neither swift nor decisive. Indeed, 30 years later, during the presidential election campaign of 1896, Williams Jennings Bryan was still hotly contesting its merits. He railed against the persistent price deflation and argued that the economy was burdened by a "cross of gold" (see The Eclectica Fund Report, December 2005).

Perhaps I Should Stick to the Twenty-First Century?

My previous investment letter attempted to explain the subtleties of the Triffen dilemma and the dollar's pre-eminent role in regenerating modern day economies. Let me repeat once more: lots of dollars were required, and duly delivered, to build modern China. They did not have to wait on the vagaries of a gold discovery to promote and sustain their economic engine. Instead, they required the willingness of their trade partners to run trade deficits. The US delivered and, partly as a consequence, the Fed's broader trade weighted dollar index has now fallen 20% since its peak in 2002 (the narrower DXY index compiled by the Intercontinental Exchange has fallen more, but excludes the renminbi and overstates the role of the euro). In return, the world has a new $4trn trading partner: China.

Heady stuff, but not without precedent: recall the Marshall Plan, a watershed American aid program that assisted the reconstruction of the Western European economy during the 1950s and 60s. This was further augmented by America's willingness to run trade deficits, the modern day equivalent to a gold discovery, which became necessary to sustain the emergence of the new economic trading bloc. This resulted in the dollar's huge devaluation versus gold in the 1970s. However, back then, the broad trade weighted index kept rising. This time it has fallen sharply.

What an Ungrateful Lot We Are?

The dollar's role as the world's sole reserve currency has both assisted and accelerated the development of world trade. America's trading partners have come to rely upon the bounty of dollars necessary to recycle their trade surpluses and thus finance their growing prosperity. This was done even at the expense of domestic American job losses. Replace the dollar with IMF special drawing rights; I hear your retort. Sure, but have you ever bought a cup of coffee with an accounting identity? And, fundamentally that argument still suffers from the dearth of any other major economy showing any willingness to sacrifice its short term economic standing for the longer-term mutual benefit of having enriched trading partners.

Do not forget that the Chinese could replicate equivalent currency baskets to SDRs at any moment. Instead, they continue to recycle almost three quarters of their trade surplus back into dollars. This is not coercion but simple commercial pragmatism. They know full well that neither Europe nor Japan nor Britain nor Switzerland nor the rest of Asia are willing to sacrifice the implicit loss of manufacturing jobs. They understand that it is only the US that is willing to embrace the benefits of comparative advantage that arise from international trade. Have you ever asked yourself why car prices in America are so low compared with those in Europe? This is my point.

I keep hearing that a dollar devaluation would help matters. I agree; it has. Let me say it again; we have already had the devaluation. That is what the last five years were all about. Now with China rebuilt, and the trade deficit in full retreat (note the -47% contribution from net exports to China's GDP growth in the first 9 months of this year), there are less dollar bills being exported overseas to ungrateful recipients. Is it not time we drop our fascination with the present and consider the future? Is it really inconceivable that the dollar could now strengthen?

Women in Love, Investors in Love. What's the Difference?

Of course this is a minority view. Investors have reacted to last year's deflationary traumas by insisting that it is business as usual. They behave like D.H. Lawrence's coal miner Gerald from the novel Women in Love, who, just days after his father's funeral, steals into his former lover's bedroom and, "...into her he poured all his pent-up darkness and corrosive heat, and he was whole again." Or was he? The trouble is that we are so anchored to the recent past. Investors are fearful of what now seems so familiar and recognisable; at what they perceive as the reckless behaviour of our monetary authorities. "Inflation is a monetary phenomenon" is their Friedmanite dogma. Their salvation can only be found in the safe sanctuary of gold and the embrace of risky assets, but are they truly safe?

This is my home. Don't be so sure about anything, Big Horace. Not about anything in this world.

The Orphan's Home Cycle
Horton Foote

And so, just as the Church of England commissioners became convinced by the cult of equity way back in the whimsical days of 1999 and went 100% long the stock market, investors today recant a new mantra of, "anything but the dollar (A-B-D)". Inflation bets are all the rage. Some would insist that it is their fiduciary duty to protect their clients' capital; I say tell that to the Church of England pension fund, whose assets today are just £461m against liabilities of £813m. Austerity beckons for the clergymen; heaven will have to pay their stipend.

But the spell cast by a contemporary cult is hard to resist. Take another august body, the Harvard Endowment Fund. Not typically renowned as a hotbed of reactionary fervour, the fund is nevertheless radical in its construction and has come to typify the A-B-D stance.

Harvard's position could well be construed as a one-way bet. Almost half of the fund is invested in emerging market equities, commodities, real-estate, private equity and junk bonds. It is as though the rap artist 50 Cent has taken over the advisory board. The fund is going to, "get rich or die tryin'".

We, on the other hand, approach risk by considering the worst possible outcome. For a current pension scheme the greatest torment would be a repeat of last year's final quarter when 30 year Treasuries yielded just 2.5%. This would require a CAGR of 20% or more from the fund's riskier assets at precisely the time that their future returns would seem most questionable; insolvency would beckon. And yet, they blithely run the risk of ruination.

Of course, they are not alone. Another popular argument is that the emerging economies have to urgently diversify their immense dollar reserves. And so the Chinese are colonising the African continent in the pursuit of commodities and the Indian government has just agreed to buy 200 tons of the IMF's gold hoard.

Is this not a reincarnation of the 1980 trade of the brothers Hunt? It is hardly an exaggeration to suggest that China, for all intents and purposes, is already the commodity market. For despite providing less than 8% of global GDP, China accounts for more than half of the world's steel production and more than half of global seaborne iron ore freight. Indeed, this peculiarity is circular in nature. Consider that a modern aluminium plant requires 25% of the project's cost to be spent on buying aluminium in the first place. And remember that investments in fixed capital formation (think new aluminium plants et al.) have made up 95% of Chinese GDP growth this year. China Inc. is Commodities Inc.

Accordingly, China shares the same risk as the world's largest pension schemes. An over- leveraged American consumer does not return to his/her manic buying of old. As William White, former chief economist of the BIS, has argued:

Many countries that relied heavily on exports as a growth strategy are now geared up to provide goods and services to heavily indebted countries that no longer have the will or the means to buy them.

Surely, the Chinese stash of Treasuries is a prudent elimination of the fat tail risk that private sector deleveraging in the west ends up killing the golden goose of the trade surplus. But instead, in exercising good ol' Texan tradition, they have opted, like the Hunt brothers did, to double up. It is the old dice game, Mort Subite, played by the employees of the National Bank of Belgium in the busy lunch time cafes of Brussels in 1910. If the players didn't have time to complete their business, they played a final round with a sudden ending where the loser would be pronounced dead.

Much is made of the comparison between today's balance sheet recession and Japan's demise back in 1989. Despite their bubble never coming close to matching China's prominence in industrial commodities, the loss of Japanese economic growth in the 1990s was nevertheless a major factor in the waterfall crash in commodities. This plunge ultimately saw oil trade for as little as $10 per barrel in the next decade. Just consider how much more devastating the experience would have been had they gone very long the commodity market in 1989 rather than golf courses and Rockefeller Centre. At least the Harvard endowment scheme did not share their enthusiasm for golf. But, this time around, I fear a Mort Subite beckons for the losers in Asia and the pension market.

Last Orders: Inflation or Deflation?

If a poet knows more about a horse than he does about heaven,
he might better stick to the horse... the horse might carry him to heaven.

Charles Ives

I am now going to return to the torturous and binary debate concerning inflation. As you know, I am in the deflation camp for now, and we own a modest amount of government bonds and a series of asymmetric bets which would receive a boost from a return to some form of risk aversion. You could say that I am sticking to my horse.

My intellectual foes, on the other hand, are adamant that long duration government bonds are a short. I even hear that some Wall Street legends are so convinced of the argument made by the likes of Niall Ferguson that they personally own Treasury put options and are actively counselling others to do the same. The argument can be condensed into just two fears.

First, they will suggest that 4.5% is not an adequate return for lending your money to the profligate United States for 30 years. I agree wholeheartedly. Again, I fear it is my accent, but let me stress once more that I do not propose that anyone adopt a buy-and-hold policy for the next thirty years in bonds. However, a nominal rate of 4.5% might prove very profitable over the coming year should breakeven inflation expectations head south again.

Second, the bears contend, a lower Chinese trade surplus will eliminate a very large source of Treasury buyers at a time of burgeoning supply. Again, we find ourselves agreeing vigorously. However, it is our contention that US savings are heading north over the months and years to come. And an America that saves is an America that does not run a current account deficit. It is an American that can finance its own spending domestically. The US produced a small surplus back in the 1990-91 recession, so why not again?

As a consequence the Chinese surplus is set to fall further and, with fewer dollars needing to be recycled to maintain the currency peg, their demand for Treasuries will continue to shrink. Now this is potentially a huge headache owing to the massive projected American budget deficits for this year and next, and the Treasury's desire to extend the maturity of the existing stock of government bonds which is becoming perilously short dated. Some estimate new issuance of around $2.5trn for the upcoming year. Perhaps, it is better that we buy those Treasury put options after all?

American Gothic

Or is it? I have quoted Don Coxe's definition of a bull market before and I intend to do so again. "The most exciting returns are to be had from an asset class where those who know it best, love it least." On this point, America has fallen out of love with its own currency and bond market. Foreigners own over half of the outstanding Treasury stock. But, like I said, I think events could reignite some of the natives' old amour.

It is almost like declaring an enthusiasm for Say's Law. Think of it this way, a greater supply of Treasuries would be a very obvious by-product of weaker than anticipated economic growth. And in this environment risk aversion stimulates the investment desire for risk free assets. So, in a round about way, there are circumstances when supply and demand can match in the bond market. But weaker economic growth? Surely the governments' interventions this year have remedied the economy?

The surprise might concern the role that rising leverage has played in boosting GDP and in anchoring investors' expectations to an unrealistic level of nominal GDP. Over the last decade, each marginal dollar of debt has generated less and less marginal income. We knew that there would be a "zero-hour" for the economy when the creation of new debt would not contribute to GDP growth. The government's reaction to last year's demand shock has been to increase its own leverage. But, with the economy operating at its zero-hour, we believe this incremental leverage will actually have a negative impact. That is to say, the public sector will fail in its attempt to bring the economy back to its previous level of nominal GDP. In this scenario, the outcome will disappoint the market's expectations, which are rampantly bullish as evidenced by this year's dramatic re-pricing of risk assets.

This zero-hour for America has perhaps arrived sooner than many had anticipated. It was heralded by the Japanese experience. Japan is the bogeyman that confronts all academic thinkers, regardless of creed, from Krugman to Ferguson, as well as all who would choose to intervene in the workings of the economy. In a debate I had with Mr. Ferguson in London last month, he claimed that Japan was an extreme outlier and could be ignored. Really?

No sex, no drugs, no wine, no woman, no fun, no sin, no wonder it's dark
Everyone around me is a total stranger.
Everyone avoids me like a psyched loan-ranger
That's why I'm turning Japanese,
I think I'm turning Japanese,
I really think so

The Vapors, 1980

Japan has championed both Friedman and Keynes. They have built bridges to nowhere and dropped Yen notes from helicopters for twenty years and still they have nothing to show for it. Clearly the additional return from Yen debt in Japan is close to zero and it exposes the nightmare of interventionists everywhere: it may just be that there are no policy remedies for a debt deflation. So to elaborate further, our chances of financial success are greatest under conditions where investors believe government spending will succeed but in reality it fails.

However, where will the demand for all of this additional government debt come from? Let us review the Fed's Z1 numbers. The US has household wealth of some $67trn. Of that, $20trn is accounted for by real estate and is perhaps out of bounds for our purposes. But $8trn is held in the form of private pensions and insurance funds. And yet, remarkably, these institutions presently allocate just $630bn to Treasuries et al. Households have a further $22trn in time deposits and other financial assets. But again they own just $500bn of Treasuries, and commercial banks own a tiny $130bn or, 1% of their total asset base of $12trn.

Consider that in 1952, at the very end of the supernova bond bull market formed from the ashes of the Great Depression and the Liberty Bonds that financed the Second World War, US banks held 40% of their gross assets in Treasuries. That is a potential $5trn of demand from this one source alone, albeit spread out over a number of years. And again, the Japan experience lends support. Japanese financial institutions have quadrupled the percentage of their assets held in JGBs. Furthermore, their households have lifted their government bond weightings five-fold over the last ten years. Should the same pattern repeat itself stateside, American households would need to buy another $2.5trn, but again, over ten years.

And let us not forget that a trend of rising prices allied to the most basic human emotion of avarice encouraged commercial banks and other financial institutions to buy $3.2trn of questionable mortgage backed securities in 2004, $1.9trn in 2005, $2.2trn in 2006 and $2.1trn in 2007. So it is not inconceivable, at least in my mind, that financial institutions, and notable amongst them the nation's pension and endowment schemes, could be motivated by another basic human emotion, namely fear for their own survival, to snap up all these new government bonds. Perhaps in the end supply will create its own demand.

Again, it all really comes down to your take on the ratio of total debt-to-GDP. If you believe, like I do, that it peaked in 2007 then the repercussions are enormous. The leverage does not necessarily have to come down (after peaking in 1932 at 300% it troughed 20 years later at 150%). Rather, it may well be that low interest rates allow the mountain of debt to continue to be serviced. This has been the Japanese experience to date. However, everything in our economic life exists at the margin, and the consequences of just maintaining the leverage constant would be a very low delta in nominal GDP growth. Consider that the Japanese, under these very circumstances, have managed to grow nominal GDP at just 1% compound since 1990.

In Bernie We Trust?

This is why China's mad dash for commodities and its investment splurge this year is so worrying. In my marketing presentations I show a picture of Madoff superimposed on a dollar bill and ask, "...in Bernie we trust?" My point is that if the hedge fund fraudster had been given the responsibility for US GDP accounting, he would surely have overstated the figure. And in a similar way, the rise in leverage has probably misrepresented the truly recurring nature of nominal GDP. Now, if we repeat the Japanese experience then it is possible that nominal US GDP will rise from $14trn today to perhaps just $16trn in ten years time. Along similar lines, the German government does not anticipate its economy exceeding its previous GDP high until 2014. And yet it is as though the other surplus countries are behaving like Bernie's former investors who, believing in the stated NAV and its promise of more of the same (i.e., predictable and attractive compound growth rates), were happy to spend lavishly. The Chinese are building capacity to meet a world where US nominal GDP is $25trn in ten years time. I fear they could be in for a nasty shock.

What Do I Mean?

Consider the steel market. The homogeneous nature of steel, as well as other factors such as its price-to-density, allows for the export of the finished good across trade boundaries. Now with China having been on such an expansionary tear, it may not surprise you to hear that finished Chinese steel prices today trade below their production cost. Furthermore, import license applications to sell steel in the US, the world's largest export market, rose 24% last month. Now, mostly this comes from Mexican and Korean producers, but clearly there is the implicit threat that their Chinese competitors might also be tempted.

But the Economy is Growing?

Clearly it would be inappropriate to annualise the production of the US steel industry in the fourth quarter of last year when capacity utilisation plummeted to just 32%. So consider, instead, the annual run rate this year from January to August. This was a period of stabilisation in tandem with the cash-for-clunkers program, which boosted the industry's largest customer, the car sector. It is quite chilling to note that steel production in America is on a par with output back in 1938, when GDP was a mere 7% of its current size. The industry's run rate dropped to a paltry 13% during the Great Depression. However, output only troughed at its 1908 level; a twenty year retracement that is a far cry from our 70 year retracement. So the physical developments in the western steel markets should raise some concern. However, with an active steel futures market in China turning over $15bn a day (consult the Bloomberg page <RBTA CMDY CT>), speculative fears concerning the dollar have overcome the paucity of industrial demand in the west.

Of course, it is not just steel. Consider the aluminium market. We recently had a very bearish meeting with the Norwegian company Norsk Hydro. Admittedly, their strong petro-currency does not help and you have to discount the solace I seek in finding people even more miserable than myself. Even so, the aluminium situation mimics that of steel, but with an even mightier inventory overhang. Four and a half million tons reside at the London Metal Exchange, perhaps 20% of world ex-China annual capacity. It is probable that 75% of this surplus stock is accounted for by financial players exploiting a contango.

Does Life Imitate Art?

The advocates of Prechter's socio-economics would not be surprised to hear that the Romanian writer Herta Mueller has been awarded this year's Nobel Prize for literature for her work depicting "the landscape of the dispossessed". In a Los Angeles Times review of her book, The Appointment, they noted,

"...it is sometimes difficult to tell whether we are reading about people driven mad by a mad regime or people who may not have had all their marbles in the first place."

My partner, Mr. Lee, reflected on this as he sat in the chilly offices of Norsk Hydro last week watching the snow fall outside. The Norwegians continued with their tale of woe: a couple of million tonnes of inventory remains unaccounted for on the world stage and are believed to be hidden in cheaper warehouses in Russia. The rationale behind this is the same as the rationale used by LME speculators. Furthermore, the big Russian players like Rusal are under intense pressure from Putin not to cut capacity (check out 'Putin bitch slaps Deripaska' on http://www.youtube.com/watch?v=PprlM5R3Hbg), and are rumoured to be surviving only by not paying their electricity bills.

To make matters even worse, the Chinese have stopped importing and are eager to ramp up domestic aluminium production. They havethe capacity to produce another 13mt annually, which is equivalent to 52% of global production. Lastly, there is the fact that Rio Tinto bought Alcan right at the very top of the cycle, though they dare not admit it is a terrible business.

Poor Old Norsk Hydro?

Who would want to share a stage with so many mad villains? The Norwegians noted that construction demand had just taken another leg down as buildings started pre-crisis are now finished whilst no further pipeline exists outside of China. Even Ryanair are talking about suspending their aggressive growth plans and may delay the purchase of more planes.

The Norwegians suffer the most pain at present, but if the dollar were to strengthen Alcoa could conceivably go bust. Their dollar cost is the company's only competitive advantage. Let us not forget Alcoa has the most exposure to aircraft construction and still has $10bn of gross debt lording over an almost equivalent market cap. Imagine that we have not even considered their pension liabilities. Yet the Alcoa CDS trades at 200 basis points, down from its high of 1200 earlier this year. Why?!

"May sorrow break these chains of my sufferings, for pity's sake"

Lascia ch'io pianga
Handel

Now remember I have been describing a positive macro scenario: a world in which low interest rates make the debt load manageable and that we muddle through with lower growth rates in nominal GDP. But clearly the consequences for corporate profitability are very poor. The alarming thing is that my opponents (see Ferguson et al.) believe that government bond yields are going much higher. Effectively, the world's bond vigilantes are going to punish the Fed and tighten monetary policy. It is almost as if the world's greatest speculators are agitating for their own demise. It is my contention that the leverage of the economy is only tenable if interest rates stay low and yet, whilst I believe some of them agree, they still fervently expect a rise.

Je consens, ou plutôt j'aspire à ma ruine.

Pierre Corneille
Polyeucte, 1642

Do not forget that the US does not share the distinction of the British or Australian housing markets. According to FSA data, 55% of UK mortgages are fixed rate and 45% are floating. The latter have, of course, collapsed and have proven a boon for disposable income. We must remember, however, that British fixed rates are determined by two and three year swap rates; so effectively the entire stock of UK mortgages are determined by the central bank and could be thought of as floating. In the US, however, things are very different. Total single-family mortgages outstanding are $11trn but $9trn is fixed to the prevailing 30 year Treasury yield. Banks just do not offer variable rate or teaser mortgages anymore. You might say that the American housing market hangs by the tender threads of the bond market's generosity. Lose it, and let us say that the markets demand 6% yields on 30 year durations and mortgage rates would then shoot back up to 7%. And, I would argue, the economy would come to a crashing halt. Do speculators really want this to happen?

Perhaps I am describing a pressure cooker. The private sector's debt may be sustained by maintaining low nominal interest rates.But the pressure from so much issuance at a time of great reluctance from financial institutions to purchase bonds could break the stalemate. And with it the ominous precedent of 1931, outlined in our February report, when a back up in ten year Treasury yields from 3.1% to 4.4% undoubtedly accelerated the rate of deflation in the US economy.

Reader Response: Gold or Silver with a Weakened Dollar?

Ian Wyatt — Mon, 16 Nov 2009 18:10:00 GMT

Your Daily Profit

November 16, 2009

*****A Good Christmas

*****Obama in China

*****Gold vs Silver

Fellow Investor,

The headline retail sales number for October came in better than expected, up 1.4%. Of course, sales were down more than expected in September, so a bounce isn’t a complete surprise.

Interestingly, it was mostly auto sales that drove the decline in September and the increase in October. Remove auto sales from the numbers and retail sales were up 0.4% in September and 0.2% in October.

Those aren’t big numbers and it’s easy to imagine that they could reverse if there are any new shocks to the U.S. economy. But retail sales numbers are a better measure of consumer confidence than polls like the Michigan Sentiment Survey, especially when people are making long-term commitments like car purchases.

I suspect we can attribute much of the bullish bias in the stock market to rising expectations for holiday spending.

*****President Obama is in China this week. I’m sure you’ll read plenty in the media about how Obama is there simply to reassure the Chinese about the U.S. dollar and our deficit. But it’s critical to remember just how inter-dependent the U.S. and China are.

China is an export economy. Without the U.S. consumer, their economy collapses. China will continue to buy U.S. Treasuries because it’s in their interest to do so.

Also remember that China has been pegging its currency to the U.S. dollar since last year. China knows full well that the U.S. dollar is weak against the euro and the yen. China is deliberately piggy-backing on the U.S. dollar to keep their exports competitive.

So why all the lip service about the relative strength of the U.S. dollar? It seems to me it’s just good old fashioned politickin’. We complain about their human rights and slap tariffs on Chinese tires and steel, they gripe about our currency and deficits. It’s pretty standard stuff…

*****I received an excellent question on Friday from a Daily Profit reader. Lee M. asked “Ian, would you purchase Silver and/or Gold now with the Dollar tanking or wait?”

The first thing to understand here is that gold and silver are up because the dollar is tanking, not in spite of it. On the most basic level, when the dollar falls in value, it takes more of them to buy something. And that’s especially true for commodities.

Demand has an impact on commodity prices, of course. If nobody wants copper, for instance, its price will fall regardless of the dollar. There can be no doubt that the weak dollar is part of the reason that oil prices have been steady in the $70’s.

Silver and gold are a special situation because these metals are perceived as having implicit value that will exist no matter the dollar’s value. Plus, in gold’s case, there is also an economic aspect – gold is considered to be a store of value in hard economic times. In other words, investors believe gold will hold its value when all other asset classes decline.

It’s no coincidence that gold started moving higher in the Fall of 2007 – right about the time that Meredith Whitney was articulating the growing fear that banks were in danger. It’s also no coincidence that, with the exception of the brief spike lower when Lehman Bros. went bankrupt, gold prices have held firm above $800 an ounce. (And as I write this, it’s around $1,130.)

An important thing to notice is that gold has made a new high this year. Silver has not. To me, that says gold is trading higher because of ongoing economic fears as well as the weak U.S. dollar.

Silver, on the other hand, is the pure play on the U.S. dollar. Now, let’s have a look at that US Dollar Index chart again…

I selected a 2-year chart because it shows the dollar index’s 2008 lows around 72. If the dollar returns to those levels we will see a new high for silver and gold. Gold, however, can continue to move higher so long as the dollar stays where it is, because investors remain concerned about the U.S. economic recovery.

The bottom line is that gold may be the more reliable trade right now, but silver has more upside if the dollar continues lower.

Now, this gets to the heart of the matter as to why I’ve been recommending gold miners. Gold doesn’t have to move significantly higher from current prices for gold miners to post huge gains in profitability because their costs are essentially fixed, meaning that profit margins expand as the price of gold moves up. So long as gold remains fairly stable, miners will be locking in gold sales at attractive prices.

A dollar rally might knock silver miners much lower, but that’s not necessarily true for gold miners. For investment purposes, the risk/reward scenario is better for gold miners. For trading purposes, there is more upside for silver if the U.S. dollar heads lower.

To get my top gold mining recommendations, Click HERE.

Until tomorrow,

Ian Wyatt

Editor

Daily Profit

Japan Posts a 4.8% GDP!

Chuck Butler — Mon, 16 Nov 2009 15:19:00 GMT

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In This Issue..

* Risk Aversion goes away mad...
* China just says "no" to currency flexibility...
* Maybe a return to fundamentals?
* Gold continues to soar!

And Now... Today's Pfennig!

Japan Posts a 4.8% GDP!

Good day... And a Marvelous Monday to you! It's raining here, so it's one of those Rainy Days and Mondays... But I won't let it get me down, as opposed to the song! I got a chance to check out our new digs in the building next door to us here... Very nice! And... A long way from that small office I sat in on Olive St. a decade ago, when we started EverBank... To think back 10 years ago, and where we are today... Simply amazing!

OK... As I told you Friday, the President was in China this past weekend, trying his best to get the Chinese to agree to a greater flexibility for the renminbi... Well... There were a few stories this past weekend that hinted about the Chinese agreeing to do such... But I prefer to go with this story that appeared on Reuters last night... "The Chinese government has sought to distance itself from speculation surrounding a central bank statement earlier this week that was interpreted as a shift in currency policy towards a stronger yuan. However, a report on Saturday by Xinhua, the state-controlled Chinese news agency said that the government would not allow the currency to gain against the dollar in the short term."

Wang Qing, chief Asia economist for Morgan Stanley in Hong Kong, said in a report to clients: "I consider this article an official effort by Chinese authorities to dismiss the renewed speculation of yuan appreciation in the near term."

So much for that visit to China, eh? Put that one down next to the visit to Copenhagen earlier this year... Ahem... 3 strikes and you're out in baseball... But, getting back to the trip to China... The Asia-Pacific members were pretty tough with their questions for the U.S. President, questioning his commitment to free trade... And then let him know that China is going to fight protectionism, and keep the renminbi on a leash...

On Friday, we had the currencies add a bit to their rally on Thursday, as the Risk Aversion campers were sent home without a ball... No need to go away mad... Just go away! There was a bit of interesting data reaction that happened on Friday, which only gave me some hope of returning to fundamentals... The U. of Michigan Consumer Confidence Index fell in October, which wasn't expected one iota... And... The dollar sold off! That's exactly what should happen when a country's economic data prints badly! So Hur-ray! YAHOO! But... Just like I always say... On swallow doesn't make a summer, and one reaction to a data print doesn't make for a shift in fundamentals... But could it be a start? Yes, it could... But we'll need to see more of this type of trading after data prints to indicate that the old "trading theme" has been put in our rear view mirrors, and that fundamentals have returned... But wouldn't that be a happy day? Oh happy day... Oh happy day...

I'm going to tell you this next bit, and you're not going to believe it at first... But stay with it... There was good news in Asia overnight, as the Japanese printed a 3rd QTR GDP report that showed an annualized rate of +4.8%! That was 2.9% higher than the "experts" forecast for Japan! So... Even Japan is joining the other Asian and pan-Asian countries (Australia) in posting strong economic growth!

The Asia-Pacific leaders pledged to keep stimulus measures in place until there's a "durable growth"... Hmmm... Here's hoping that the Asia-Pacific leaders let us know when that happens, for 4.8% annualized growth for Japan, sure seems like "durable growth" to me!

And... In keeping with our hopes that fundamentals return to currencies and commodities... The strong economic data for Japan, did not quash the yen! In fact, the yen has traded stronger VS the dollar overnight!

Speaking of trading stronger VS the dollar overnight... Have you seen the price of Gold? WOW! Gold has set, yet another, all-time record high overnight of $1,133! It has since given back some of that to trade at $1,127... But still... WOW!

You know... Just about 10 days ago, the dollar was looking as if it was going to make a comeback / correction... I even saw a cute little poem a trader wrote about it being the end of euro strength... But here we are 10 days later, and the dollar is looking quite weak again... The euro is back to pushing the envelope to 1.50 VS the dollar, and I just told you about Gold's run VS the dollar...

Of course this doesn't mean that a correction couldn't take place today, tomorrow, or the next day... I'm just pointing out something that I've told you all about for years now... And that is: short term forecasting for currencies is usually wrong! So, then, people ask me... Why then do you write a daily letter about currencies, Chuck? Ahhh, grasshopper, because, someone has to make sense of this daily noise, and... You never know when a "turn" might happen in the currencies...

The Aussie dollar (A$) spent the overnight sessions trying to get past .9350, but failed to do so, especially on the back of a note from a local bank analyst who went out on a limb and said the Reserve Bank of Australia (RBA) would be on hold at their next meeting on Dec. 1st... Well, that may be... But I still believe the RBA will hike rates in December! But if they don't, then we could look for an even larger hike when they come back in January! So, this keeping the A$ below .9350 won't last long, in my humble opinion!

We could get some traction from the euro and other Euro-type currencies this week, as the Euro Finance Week in Frankfurt will take place with top leaders speaking on the financial crisis and lessons to be learned from it... German Chancellor Angela Merkel, who's always good for some interesting quotes, will speak, as will European Central Bank (ECB) President, Jean-Claude Trichet...

Speaking of Euro-type currencies... The Norwegian krone, continues to follow the Big Dog, euro... But when the Big Dog, euro gets going, the krone normally out performs the euro... So... The Big Dog, euro is the key here...

OK... For some time now, I've been trying to point out to you that monetary inflation is going to sneak up on us and rip apart our investments... My good friend, David Galland, had this to say in his Friday letter... Here's David!

"Just because it's not readily apparent doesn't mean it's not there. Of course, I'm referring to the government's monetary inflation, which, thanks to a combination of factors, still hasn't jumped out of the closet to scare bond markets into cardiac arrest."

David then goes on to show his readers a table that had useful details on the progression from normal to very much not normal, leading up to the German Hyperinflation of the early 1900's... David then says, "As you can see, the situation in Germany was not so bad - until it was."

If you would like to see the "table" David refers to... Or read his excellent letter... Click here... http://www.caseyresearch.com/quick-guide/free-publications/

OK... You know, the soaring Gold price has been mostly tied to the weak dollar... But, you would have to think that "smart investors" with an eye on this monetary inflation is having some push to the price of Gold too... I know that's why I own Gold... The weak dollar thing is just icing on Gold's value in my opinion... The inflation hedge... The Deflation hedge... Or... As I call it... The "uncertainty hedge"...

And then there was this... The other night I was discussing the Health Care stuff, and told the person I was talking to that the stimulus bill, you know the one that was pushed through so fast last winter because we as a country were "near total collapse"? Well, the stimulus bill had hidden in it, part one of the Obama Health Care Plan... Hmmm didn't know that? Well, yes, grasshopper... It's the "death panels" that Sarah Palin coined them... They are called the rationing and enforcement board. And... The President has already funded them with $20.6 Billion of our taxpayer dollars!

Now... I'm not going to get into a discussion of the Health Care here... My point was simply to show that when bills are passed, it is important that they are read aloud to the people, to keep from "hiding" things in the bills... $20.6 Billion of money that the Gov't did not have!

Ok... Enough of that... My good friend, Dr. Dave Janda, was the first to expose this "hidden gem" And he's been on the speaking circuit trying to get anyone that will listen to him, and they should, to understand what's going on...

Currencies today 11/16/09: American Style: A$ .9340, kiwi .7445, C$ .9555, euro 1.4970, Sterling 1.6720, Swiss .9920, European Style: rand 7.3910, krone 5.5730, SEK 6.8060, forint 178.90, zloty 2.7375, koruna 17.0530, RUB 28.68, yen 89.50, sing 1.3850, HKD 7.75, INR 46.22, China 6.8269, pesos 13.01, BRL 1.7125, dollar index 75.03, Oil $77.19, 10-year 3.40%, Silver $17.85, and Gold... $1,130.30

That's it for today... Our resident TV personality, Ty Keough, was announcing the Missouri Valley Conference Soccer match yesterday on Fox Sports Midwest... Ty had a great line during the match, referring to one shot by a player as being a "venomous shot!" I made a drive to the country yesterday to visit my graves of my parents and oldest sister... It had been a couple of years since I made that drive, my bad... The little country town that our family farm sat outside of, hasn't changed... It's still the same quiet little country town in mid-Missouri... Went to dinner with good friends, Lisa and Kevin on Saturday night, they used to be our neighbors, and now we rarely see them... UGH! OK... Mike's here, so that means it's time to hit "send"! I hope you have a Marvelous Monday!

Chuck Butler
President
EverBank World Markets
1-800-926-4922
1-314-647-3837

Trying to Break Out

John Nyaradi — Sun, 15 Nov 2009 21:54:00 GMT

To get a Complimentary Special Report from Wall Street Sector Selector, click here:

Dear Friends,

The markets remain mixed this week as the general indexes bounced off their recent lows and tried again to challenge, but failed to break out of the upside of the recent trading range.

Looking back at the past 30 days, we see leadership in diverse sectors like Gold, China, Short Small Caps and Short Financials so it’s easy to see the cross currents flowing through this market as people try to figure out if the rally is dying out or gathering new force to break higher above the 1100 level on the S&P 500.

On the technical side, the New High/New Low index is down and 58% of all stocks are above their 50 Day Moving Averages compared to 80% a month ago when the S&P was near current levels.

The Dow and NASDAQ are +1.98% and +1.95% above their October highs while the Russell 2000, the small cap gauge, is -5.6% off its October highs. Small caps generally lead any rebound and so weakness here would support the “tired market” argument and be a red flag for higher prices ahead.

Seasonally, we’re at the beginning of the “best” six months of the year where historically the market has outperformed between October and May. Known as the “Halloween Indicator,” for buying and the “sell in May and go away” bromide for selling, this seasonality has a good track record and perhaps we’ll see that in positive action again this year. It didn’t work in 2008-2009, but certainly recent times have been like no other times we’ve seen.

Nobody has a crystal ball and there's no way to predict the future and so the best strategy, as always, is to let the market tell you where it's going next and what to do. A sustained break higher will likely draw more money into the market and we could even see some panic buying, while another failure would dampen the "animal spirits" and "risk appetite" I've been reading about all year.

The View from 35,000 Feet

The news is murky, as well, with consumer sentiment unexpectedly down for the 2nd month in a row in November while insider buying has picked up. Wal Mart issued a disappointing outlook expecting a cautious holiday season and declining sales in non essential merchandise while Disney reported higher than expected profits. Overall operating profits have declined -14% which is the best since 3rd Quarter of 2007 and better than the -25% expected but still there is little revenue growth seen.

The Federal Housing Authority finds itself in trouble as its reserves have dropped below Congressionally mandated limits due to still rising foreclosure rates. Possible solutions include raising down payment requirements and credit score requirements which the real estate industry doesn’t want to hear anything about since those types of actions could crimp the still fragile housing market recovery.

My “Friday Bank Failure Report” indicates that 3 more banks failed on Friday bringing the total to 123 for the year and delivered another $1 Billion bill to the FDIC. One can only shake one’s head at the magnitude of these numbers.

Still, there’s more stimulus to come and it appears that a muted recovery is underway.

The Week Ahead

Lots of economic news this coming week along with earnings reports from key retailers Lowes, Saks and Limited, Dell in the tech. sector and CIT, the troubled lender to small businesses. Also, we’ll see significant reports on retail sales, manufacturing industrial production and housing.

Monday: October Retail Sales, November Empire Manufacturing, September Business Inventories

Tuesday: October Producer Price Index, October Capacity Utilization, October Industrial Production

Wednesday: October Housing Starts, October Building Permits, October Consumer Price Index

Thursday: Weekly Jobless Initial and Continuing Claims

Friday: October Leading Economic Indicators, November Philadelphia Fed

I had a little “minor surgery” this week and proved again that it’s only “minor surgery” when it’s not on you. But I’m fine, although realizing that I’ve come to the point in life where I’m in the repair and replace mode. As a neighbor of mine told me today, “R&R” used to have a much different connotation. But it’s always nice to be on the other side of those events, and a visit to the hospital helps one realize how much we have to be thankful for and how much we take for granted in our lives.

Wishing you a great weekend wherever you may be.

To get a Complimentary Special Report from Wall Street Sector Selector, click here:

All the best,

John

John Nyaradi

Publisher

Wall Street Sector Selector

[disclaimer]

If This Is Recovery…

John Mauldin — Sat, 14 Nov 2009 05:31:00 GMT

If This is Recovery, Where Are the Taxes?
Last Business Standing
Stimulus, What Stimulus?
The Reality of Unemployment
Let the Good Times Roll
The Quick Double-Dip Scenario
Phoenix, New York, and Thoughts on the Internet

No one goes into Wal-Mart and asks to pay extra sales tax. Thus sales taxes are reasonable barometers for retail sales. This week we look at how taxes are doing in a period of economic recovery. Then we turn our eyes to a very interesting (and sobering) analysis of possible future unemployment rates. This is an anecdote to the happy-face analysis of employment numbers you get from establishment economists. There will be a lot of charts and tables, so this letter may print a little longer, but I think you will find it very interesting.

If This is Recovery, Where Are the Taxes?

I keep reading about surveys that show that retail sales are up. But as noted above, no one pays extra sales taxes, or decides they need to pay more income taxes. The surest way to measure retail sales is sales taxes. Want to know how incomes are doing? Look at income tax receipts. Let's look at sales taxes first.

First off, I can find no single source of recent sales tax information. It is all one-off, but it is consistent. Sales taxes in my home state of Texas are down 12.8% year-over-year, and we're in the fifth straight month of decreases of 11% or more. Projections are for sales taxes to continue to decline into 2010.

There is a very revealing study by the Pew Center on state taxes, called "Beyond California" (http://www.pewcenteronthestates.org/). Everyone knows how bad California is. The Pew Center looks at how the rest of the states are doing, and focuses on 10 states that also have severe problems. Sales tax receipts are down 14% in Arizona, and state income taxes are down 32%.

On average, revenues are down almost 12%. Oregon has seen their revenues collapse a stunning 19%. New York is down 17%, with a deficit of 32%. Illinois has a projected deficit of 47% of its budget, second only to California with 49%. You can see how your state fares at http://downloads.pewcenteronthestates.org/Beyond_California_Appendix.pdf.

The Liscio Report notes that all states had negative year-over-year sales tax collections in October, and the weighted average decrease was 10.2%, down from a negative 7.2% in September. (www.theliscioreport.com)

Sales at Wal-Mart stores slipped by 0.4% in the third quarter. Actual government figures show that retail sales were down 1.5% in September from the previous month and 5.8% year-over-year. So how do we keep seeing headlines about retail sales being up, as unemployment keeps rising?

Remember that such reports are usually based on surveys, and generally cover mid-sized and up retailers, leaving out smaller businesses. Further, if you are a retail chain that has closed 10% of its stores, the remaining stores should in theory benefit from getting your loyal customers into them.

Last Business Standing

Yesterday I was with an associate, and I hesitated in asking them how their business was doing, because I knew things had been tough at the beginning of the year. But I did ask, and they said sales were up over the last months and business was looking better. Surprised, I asked them what made the difference. "Ah," they said, "less competition. Our competitors have gone out of business."

Best Buy and other electronic retailers had to benefit from Circuit City disappearing. That is Schumpeter's creative destruction at work. Not very good for total employment, but it does help the profitability of the survivors.

So, if things are so bad, how did we have 3.5% growth in the third quarter? First off, things are not as bad as they were in the past year. We are in fact getting close to an economic bottom, at least for now. Second, the 3.5% number is a preliminary estimate. A study by Goldman Sachs suggests that the number will be revised down by at least 0.5% and maybe as much as 1%.

Why? The estimate does not really take into account how poorly small businesses are performing. If you look at small-business indexes and compare them to historical GDP numbers, you get the smaller number mentioned above. And since at least 2% of the GDP was from the stimulus package (Cash for Clunkers, houses, tax cuts), the economy on its own was flat. That begs the question, what happens when the stimulus runs out?

And the answer is that we won't know for some time, as the stimulus is just getting ramped up. "According to CBO estimates, only 21% of [the stimulus] spending will occur in 2009; another 38% will come in 2010, and 22% in 2011. After that, its effect will dissipate quickly." (The Liscio Report)

But David Rosenberg notes that what the federal government is giving, the states are taking away. The Pew Study shows that at least nine other states are in appalling shape, so it is no wonder that David writes:

Stimulus, What Stimulus?

"Fully nine states are in fiscal distress and only two have balanced budgets. States like Michigan are planning 20% budget cuts for the coming year. Indiana is planning a 10% spending cut in light of a 7.4% YoY revenue decline. How can the economy really be out of recession if government revenues are still deflating?

"The states are filling around 40% of their fiscal gaps with the federal stimulus (so much for spending on "shovel ready" infrastructure projects). Even after the fiscal help from Washington, the state governments will still face a projected deficit of $142 billion for 2011 (versus $113 billion in 2010). All in, the restraint in the state and local government sector is estimated to drain a full percentage point from U.S. GDP growth in 2010 and more than fully offset the stimulative efforts from Washington. The U.S. economy is more likely to post growth of little more than 2% next year, rather than the 5% currently being discounted by the equity market."

The Reality of Unemployment

All this is, of course, going to put continued pressure on employment. As I noted last week, the number of unemployed actually soared by 558,000, to 15.7 million, as measured by the household survey, not the 190,000 you read about in the mainstream media. Unemployment is sadly continuing to rise by significant amounts.

In August, I did an interview with CNBC from Leen's Fishing Lodge in Maine. The unemployment numbers had just come out. I did a back-of-the-napkin estimate that we would need about 15 million new jobs over the next five years just to get back to where we were when the recession started.

That works out to a need for about 125,000 new jobs each month to handle new workers coming into the market (which comes to a total of 7.5 million over five years), plus the 8 million and rising jobs we've lost. That is a daunting number. It amounts to 250,000 new jobs a month every month for five years. And we are still losing more than that number a month, let alone adding the needed 250,000.

Look at the chart below. It shows the establishment survey employment figures for the last ten years. Only once, in 1999, did we actually add over 250,000 jobs a month for a whole year. And that was during the internet boom.

Sadly, the private sector has shed over 300,000 jobs since 1999. Think about that. We have had a decade where there have been no new jobs added by the private sector. Real incomes are roughly where they were, and the stock market is down. Talk about a lost decade.

I love it when someone does the really heavy lifting for me, and my friend Mike Shedlock of Sitka Pacific Capital Management has done a wonderful job of taking that speculation of mine and putting it into a spreadsheet that helps us get a real handle on what unemployment is likely to look like for the next ten years. I am going to make use of his basic analysis and then modify some of his assumptions in the spreadsheet he provided me, in order to think about different scenarios.

All three scenarios are based on assumptions, so let's see what Mish started with. There is a wealth of data available from the Bureau of Labor Statistics and the Census Bureau. According to the Census Bureau Population Estimates we are going to add about 2.5 million working-age (16 years old and up) citizens a year, from now until 2020. The numbers varies slightly year to year. Mish used an estimate of the average, summing up the buckets from 16 to 100+ for the years in question and rounding the result.

You can go to the BLS site and look at Table A-1, which shows the civilian noninstitutional population (those over 16 not in prisons), the participation rate (those who are working and/or want to work), the unemployment rate, the number employed, those not in the labor force, and those who want a job. Those are starting numbers for the charts below.

For those interested, you can read Mish's very full (and quite detailed) analysis at his blog site http://globaleconomicanalysis.blogspot.com/2009/11/mish-unemployment-projections-through.html). But let's look at his assumptions:

Job losses are likely to continue for a minimum of another year.
When job gains start, they will be very slow at first, then pick up.
An extremely generous monthly job gain stat over the course of the year would be 150,000 jobs.
A falling participation rate (boomers retiring) will continue to mask reported unemployment.
Starting in 2013 the labor pool will start decreasing because of Boomer demographics.
The noninstitutional population will rise by 2.5 million workers a year.

The spreadsheet below needs a little explanation. Let's start with the assumptions. Mike starts with current working-age population and adds 2.5 million people a year. He assumes that Boomers will retire at 65 (something which all the surveys say is not going to happen). And his last estimate is what the unemployment numbers will be. Everything else is based on those assumptions, which leads to the first column, or the expected unemployment number.

By the way, we know that everyone will want to make different assumptions. I am going to create three scenarios, but you can go to Mike's blog and at the bottom of the post is a link to the actual spreadsheet. Have fun. Let's look at scenario 1.

This assumes there is no double-dip recession, and jobs roughly rise along the same lines as the last recovery. Actually, Mish is far more optimistic, as in the very first chart you will notice that job losses were negative in the first year after the end of the recession and flat the second year. Mish has jobs rising by 120,000 next year and 600,000 the second year (2011), and then a fairly robust recovery. Below is the graph of the unemployment numbers under such a scenario.

Notice that unemployment stays at or above 11% for three years. Pessimistic? Mainstream and usually very optimistic Mark Zandi of www.economy.com predicted this week that unemployment would rise to 11% by the middle of next year, right in line with this scenario. Also note that total jobs rise by 14 million over ten years. Hardly doom and gloom. Again, Boomers all retire on time and there is no double-dip recession.

Let the Good Times Roll

What would it take to get back to 5% unemployment? I played with the spreadsheet and came up with the following numbers, which get us below 5% by 2020. I assume no recessions for the next ten years, and 2 million new jobs a year after 2011, which I start off with almost 1.5 million jobs. Of course, we have never done that, but let's be optimistic.

And the graph below shows the unemployment numbers for the Good Times Scenario.

Want to get to 5% within five years? Add 3 million jobs a year starting now. With no housing recovery, a smaller auto industry, and financial firms getting leaner.

The Quick Double-Dip Scenario

When I called the last two recessions about a year before they happened, it was not all that hard. We had inverted yield curves, falling leading indicators, and a lot of other data that pretty much pointed to a recession. Believing that we had a housing bubble and a looming credit crisis also helped my conviction in calling the last recession.

I think we are in for a double-dip recession in 2011, yet I readily admit there will be little if any statistical evidence in advance this time. This is more of an instinct call. I have serious doubts that we can have what amounts to the largest tax increase of all time in what will be a very weak (albeit growing) economy, without putting us back into recession. And Speaker Pelosi thinks it is a smart thing to add another 5.4% surtax on what will already be a rising capital gains and dividend tax.

Taxing small businesses, and that is what the tax increase amounts to, is a very bad idea in a weak economy. Small businesses are where the job growth comes from. Taking money from productive businesses and giving it to government is a fundamentally flawed concept.

Now, if they decide to postpone the tax increase, or phase it in slowly, then maybe we avoid the double dip. But right now it doesn't look like that will be the case. So, let's quickly see what a double-dip scenario might look like. Let's be optimistic and assume we only lose another 1.2 million jobs in the next recession, since we have already lost so many in this one (8 million and counting). And then the economy comes roaring back in 2012 with 1.5 million jobs and continues to grow rather smartly for the rest of the decade. No further recession. We absorb the tax increases and move on with our economic lives.

Unemployment under such a scenario would rise to just under 13% and stay above 10% for 8 years. Take a look at the chart and graph.

Think 13% is too dire? This week David Rosenberg said unemployment would rise to between 12-13%. The former Merrill Lynch economist was one of the few mainstream economists who called the recession and the credit crisis. The so-called "Blue Chip" economists told us at the beginning of 2008 that unemployment would peak out at 6%. While Rosie is not optimistic of late, he has a rather solid record of being right.

We are at 10.2% unemployment today. The economy lost jobs for 21 months after the end of the last recession. That would easily take us into 2011. Another million lost jobs will take us well over 11% and close to 12% (remember, you have to add in the increasing population), even without my double-dip scenario.

The letter is getting long and it's getting late, so let me close with a few thoughts.

First, 12% unemployment is horrendous by American standards. But Spain is now at 20%, and much of Europe has been in the 10% range for years.

Second, Americans are not used to the concept of 12% unemployment or 10% rates for extended periods. That is going to cause a serious backlash across the political spectrum. Couple that with the discomfort over $1.5-trillion deficits and there could be some serious political changes in the coming years. I think the message will be more anti-incumbent than one party or the other.

Third, the only way out of this morass is to create an environment where small business can thrive. As I've noted for the last several weeks in this letter, government spending does not increase GDP over time. It is a temporary nonproductive stimulus. It takes private investment to create jobs and increase productivity. Over the next few months, I will write more about how to do that.

Phoenix, New York, and Thoughts on the Internet

Next week I take a quick one-day trip to Phoenix, then back to do a satellite-remote speech to a South African hedge fund conference. I will be in New York the first weekend of December (the 4th) for Festivus, a great fundraiser for kids sponsored by Todd Harrison and the team at Minyanville (http://www.rpfoundation.org). Interestingly, they hold it every year at a "Texas" barbecue joint. Look me up if you are there.

The 7 kids, spouses, and grandkids are starting to gather. We will all have brunch Sunday and then a shower for Tiffani. She has another 6 weeks before she is due, and she is really uncomfortable. Walking is literally a pain.

Permit me to reminisce. A little over 9 years ago I started this letter on the internet with about 2,000 email addresses. It was a new version of what had been a print letter, as that was the business I knew. The internet was still a new thing to me, but it seemed like a good idea at the time. Little did I know.

I am still amazed at the growth and the direction my business and life have taken. My letters are sent out by various publishers and affiliates to over 1.5 million readers and posted on dozens of web sites, and the numbers have been growing rapidly of late. I am grateful. But I wonder what would happen if I started it today. Ten years ago there was little in the way of free economic letters. Not a lot of competition.

Today, there is so much free information that it's staggering. There have to be thousands of blogs and hundreds of free letters, some with very large circulations. It seems a new star is born every few months. While much of it does not add to the level of conversation, some of it is quite excellent. I think I am lucky to have started when I did.

And I am grateful for the kind attention you give me. As I turn 60, I note that this has been a rather overwhelming last ten years. A lot of changes for me, and almost all of them very good. But there are more to come. The last two flights I was on I was connected to the internet at 35,000 feet. I sense a lot more changes coming. I am thinking a lot about how to keep up and not get left behind, how to make sure that you, gentle reader, continue to get my best. That is what, at the end of the day, drives me.

Have a great week. I know I shall. Dad loves it when his kids (from 15 to 32) and spouses and grandkids are all under one roof.

Your amazed at it all analyst,

John Mauldin

Underestimating the American Consumer

Ian Wyatt — Fri, 13 Nov 2009 17:39:00 GMT

Your Daily Profit

November 13, 2009

*****P/E Ratios

*****Underestimating the American Consumer

*****TradeMaster’s Jason Cimpl

Fellow Investor,

As we came into earnings season, it seemed clear that analysts were far too pessimistic with their estimates for earnings.

Yesterday, Bloomberg reported that 81% of corporations have beaten earnings estimates. That’s the highest percentage since 1993. Bloomberg also reported that the S&P 500 is now trading at 22 times reported earnings. That’s the highest P/E for the S&P 500 since 2002. We might assume from this P/E that stocks are overvalued and due for a correction. But that might be a mistake.

In 2002, stocks made their final bottom following the Internet bubble and 9/11. The S&P broke below 800 twice in 2002 (July and October) and traded down to 806 on February 13, 2003. By the end of 2003, the S&P 500 had rallied to 1,112, a 37.9% gain.

*****Price to earnings ratios are often inflated when stocks are bottoming. In 2002, according to the very nifty P/E indicator at BigCharts.com, the P/E for the S&P 500 ranged between 27 and 42. And even in 2003, the P/E ranged between 26 and 35. It wasn’t until the end of 2004 that we started to see the P/E for the S&P 500 drop below 20.

What does this mean?

It means we shouldn’t read too much into P/E ratios. P/E ratios are lagging indicators. They tell is what earnings were, not necessarily what earnings will be. Right now, investors are saying they see more improvement in earnings ahead.

*****It’s happened to all of us. We accidentally overdraw our checking account while using our bank card, and then we get nailed with a series of overdraft fees. Well, no more.

Bernanke says that banks can no longer allow their customers to overdraw their accounts with debit cards -- and be charged overdraft fees – unless customers opt-in to the program. It may not sound like a big deal, but banks took in nearly $37 billion in overdraft fees in 2008. And even this year, when unemployment has devastated some family budgets, banks may take in $38.5 billion in overdraft fees.

In light of the fact that the Fed and the Treasury have done as much as they can to make it as easy as possible for banks to earn money, this is a surprising move. But it’s a good move. At $35 a pop, overdraft policies look almost predatory.

*****J.C. Penney (NYSE: JCP) reported earnings this morning. Revenues and earnings were lower than last year’s third quarter, but then we expected that. The surprise was that Penney’s raised full year revenue and earnings expectations. An even better earnings report came out at Abercrombie & Fitch (NYSE: ANF). Abercrombie beat estimates by a wide margin, even though same-store sales dropped by what must be one of the biggest margins in retail – 22%.

Again, we must remember that earnings estimates were very low for the third quarter. Companies should beat. And if they don’t, it’s a very bad sign. Still it’s good to see improvement in retail. I still think there could be upside surprises for holiday spending.

*****Now, here’s TradeMaster’s Jason Cimpl with our weekly video analysis of the markets. It’s free. Click here to view it.

Until Monday,

Ian Wyatt Editor
Daily Profit

Dow/S&P Collide and Gold at the Top?

Adam Hewison — Fri, 13 Nov 2009 15:44:00 GMT

On Wednesday, 11/11/09, the Dow Jones Industrial Index rallied to a 50% retracement level based on MarketClub’s Fibonacci measuring tool. The action today indicates that this level is very important and that it could be an important top for this market.

In my latest video I cover both the Dow and the S&P 500 and tell you what I think is going to happen to both of these markets in the near and intermediate term.

As always our videos are free to watch and there’s no need to register.

http://www.ino.com/info/479/CD3678/&dp=0&l=0&campaignid=3

Adam Hewison
President, INO.com
Co-creator, MarketClub

Germany & France Post 3rd QTR Growth...

Chuck Butler — Fri, 13 Nov 2009 15:31:01 GMT

..But First, A Word From Our Sponsor..
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* High upside potential
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* Low $1,500 minimum deposit

Don't miss this unique opportunity. Deadline to buy the BRIC MarketSafe CD is Dec. 3rd, 2009. Apply today or learn more at http://www.everbank.com/001CertificatesMSBRIC.aspx?referId=11808
.

In This Issue..

* Risk Aversion fuels dollar rally yesterday...
* Eurozone growth may stop the Risk Aversion...
* Budget Deficit is a record $176.4 Billion!
* Euro, Swiss, Aussie, Norway, all cheaper today!

And Now... Today's Pfennig!

Germany & France Post 3rd QTR Growth...

Good day... And a Happy Friday to one and all! Let's try to make this a Fantastico Friday as well! The Risk Aversion that was creeping into the currency markets yesterday really took hold in the U.S. trading session, which meant the dollar was being bought once more, along with Japanese yen...

It just makes me laugh out loud, when I write that the "safe haven currencies" during Risk Aversion trading are the dollar and yen... These two countries have debt up to their eyeballs, pay no interest on their deposits, and have a leadership deficiency... (ok, before every begins to think that I'm ripping the president again, I'm not... I'm talking about the Central Bank, and lawmakers of each country)

There was good news out of the Eurozone this morning... Both Germany and France followed their previous quarter's growth, with stronger growth in the 3rd QTR... The Eurozone's two largest economies continued to recover from recession in the 3rd QTR, as exports boosted both German and French gross domestic products. I say that, and I want to spit out a raspberry to all those that claim the European Union will collapse because of the strong euro! Neener, neener, neener... The largest economies of the Eurozone can grow, with strong exports even with a strong euro!

OK Chuck, no need to be childish here, let's get back to the growth... Germany's GDP rose 0.7% in the three months to Sept. 30. In France, GDP also grew for the second consecutive quarter, rising 0.3%.

So... Of course this data from the Eurozone put a floor under the euro's decline from yesterday... It will be interesting to see how the U.S. guys look at these growth numbers... The European guys liked them... The U.S. traders though can be very fickle...

And more than that though, I think this might be the thing to put the Risk Aversion to bed... Recent history tells me that whenever Risk Aversion has crept into the markets, any sign that Global growth is back on track, and will lead investors to higher yielding assets, the Risk Aversion ends abruptly... Let's hope that's the case today with these two growth reports from the Eurozone!

Yesterday's data in the U.S. showed that the Weekly Initial Jobless Claims remain above 500,000 per week, and that the Budget Deficit was even worse than the forecast $160 Billion! The Budget Deficit for October totaled $176.4 Billion, which annualized puts us over $2.1 TRILLION! OMG! That awful folks! And you should be writing, calling, or making your way to your representative's next meeting and demanding that they STOP SPENDING MONEY THEY DON'T HAVE!

You know that letter that I said I was going to write to my darling granddaughter, Delaney Grace, apologizing for the lack of freedom and tax burdens that were left to her generation to deal with? Well, I started writing it the other night... What this and the previous administration is doing has no morals, when it comes to leaving the debt to be dealt with by future generations...

OK, it's a Friday, I need to try to remain calm here, and be upbeat! Hmmm... Usually, that means that I pull out a story on Gold... But yesterday was not a good day for the shiny metal, after reaching a new all-time record level of $1,118, it fell more than $10 in the aftermath of the Risk Aversion... See how stupid the Risk Aversion people are? I mean, if you wanted to avert risk, wouldn't you buy Gold?

Any way, colleague, Don Ries, sent me a story that he came across regarding Gold that I thought was quite interesting... The Telegraph in the U.K. printed a story about how Barrick Gold believes we may have reached "peak" Gold already... And by that "peak" I'm talking about the mining of the shiny metal!

"Aaron Regent, president of the Canadian gold giant, said that global output has been falling by roughly 1m ounces a year since the start of the decade. Total mine supply has dropped by 10% as ore quality erodes, implying that the roaring bull market of the last eight years may have further to run. There is a strong case to be made that we are already at 'peak gold'," he told The Daily Telegraph at the RBC's annual gold conference in London."

WOW! Did you get the one line that was in there about how this lack of mining implies that the roaring bull market of the last eight years may have further to run? I think that's putting it conservatively for sure! "may have further to run?" I would say it stronger... But I can't... Or I'm not supposed to! ( our legal beagles read the Pfennig each day!)

OK... That put me back on track to be more upbeat for this Fantastico Friday! Today's data cupboard will yield the Monthly Trade Deficit data, and the U. of Michigan Consumer Confidence index... The Trade Deficit overhang continues to be a problem for the U.S., obviously not as bad as a problem as it was during the go-go days for the consumer...

Traders have become "comfortably numb" with the deficit figures in the U.S. which is a bad thing folks... Traders need to make a stand, and not allow this stuff to just slip under the door, thus allowing larger and larger deficits in the future!

I see the President is in China... I bet he thinks his presence will be the thing that will move the Chinese to allow greater currency flexibility... I just don't see the Chinese getting caught up in the "show" to give in and allow flexibility in their currency, just because the President of the U.S. showed up...

The currencies are rallying this morning VS the dollar. Since I came in and began writing, the euro has climbed higher, albeit a small move higher, it's still moving higher, and thus has stopped the bleeding, that began yesterday morning...

I'm surprised the Aussie dollar isn't really hitting on all 8 this morning, considering the growth numbers in the Eurozone... But I think we might have to wait for the U.S. traders to come in to see the rally in the A$ this morning... It is Saturday in Australia!

The Swiss franc got caught up in the Risk Aversion trading yesterday, and has backed off its ascent to parity... The franc is trading around .9855 this morning, which is more than 1-cent lower than yesterday morning... Wink, wink...

And a country / currency that I drop the ball on all the time, when it comes to talking about it in the Pfennig, is the Norwegian krone... Long time readers know that I truly like Norway, for their fiscal and monetary surplus prowess... And most recently, for their absence from the rolls of those countries that got involved in sub-prime and bad lending practices. Earlier this month, Norway's central bank, the Norges Bank, hiked rates 25 BPS, and is expected to raise them again in a month or two... So, now we have a country that has a strong fiscal and monetary position, no bad banks or loans, and a strong positive interest rate differential to the U.S.... Hmmm...

And then there was this... Neil Barofsky, the special inspector general for the $700 Billion TARP bailout said the program will "almost certainly result in a loss to taxpayers"... "We need to temper or be realistic about our expectations, a dollar-for-dollar return is just highly unrealistic." Barofsky also said that he's conducting 65 investigations of possible fraud...

OH MY! You're telling me that with the $700 Billion TARP funds that there could have been some fraud involved? I wouldn't have believed it! .... NOT! I bet you thought I had gone softy on you! The whole TARP was fraud to begin with! So, with all the corruption and scandals that have gone in before, the thought that there could be some fraud, should have been a belief that there "would be fraud for sure" when the TARP was issued!

Currencies today 11/13/09: American Style: A$ .9285, kiwi .7370, C$ .9495, euro 1.4890, sterling 1.6685, Swiss .9860, European Style: rand 7.4410, krone 5.62, SEK 6.8660, forint 180.80, zloty 2.76, koruna 17.10, RUB 28.83, yen 89.70, sing 1.3860, HKD 7.75, INR 46.34, China 6.8263, pesos 13.16, BRL 1.73, dollar index 75.39, Oil $77.45, 10-year 3.44%, Silver $17.36, and Gold... $1,109.30

That's it for today... Yes, today is a Friday the 13th... I don't get into that stuff, but if you do, be careful today! We're supposed to have another nice weekend here in St. Louis, weather wise, so we have that going for us! No football game this weekend though for my little buddy, Alex. I saw Chris Gaffney and his son Brendan on TV at the Blues game last night. The Blues lost the game though. UGH! Another week, and well be talking about Thanksgiving getting here so fast! The radio station that plays Christmas music every year, began broadcasting the Christmas music a couple of weeks ago! They used to at least wait until Thanksgiving came and went! Well... Let's get working on having a Fantastico Friday! And a Wonderful Weekend!

Chuck Butler
President
EverBank World Markets
1-800-926-4922
1-314-647-3837

What Your Heirs Should Know About IRAs

Bob Carlson — Thu, 12 Nov 2009 18:28:00 GMT

Heirs routinely lose a large percentage of inherited IRAs to unnecessary taxes. The rules are simple, but they aren't obvious and most heirs don't know about them or to ask about them. If you don't want a large portion or your hard-earned wealth and careful plans wasted, be sure your heirs know how to manage their new IRAs. Here are some key points.

* Spouses vs. non-spouses. A spouse who inherits an IRA has one big advantage over other beneficiaries. He or she can roll over the IRA to an IRA in his or her own name, providing the spouse with a fresh start for the IRA. The beneficiaries and required minimum distribution schedule can be reset. This often is a good idea for an inheriting spouse. But non-spouses who are beneficiaries cannot rollover the IRA to a new IRA.

* Naming the IRA. Other than a spousal rollover, heirs should not make the mistake of changing the IRA to their own names or allow the custodian to do so. That would require a rapid distribution of all the IRA. An inherited IRA needs three things in its title: the name of the deceased owner; the word "IRA"; and the statement that it is "for the benefit of" the beneficiary. An appropriate title is "Max Profits IRA (deceased), F/B/O Hi Profits, beneficiary.

* Deadlines. After inheriting an IRA, beneficiaries have options and reuirements. Required minimum distributions must begin, for example, and joint beneficiaries can split the IRA into separate IRAs for each beneficiary. But these actions must be taken by the end of the year after the year in which the owner died. Failure to act by the deadline ends the right to take an action and can result in higher taxes than would otherwise be paid.

* Splitting the IRA. A single IRA can be left to multiple beneficiaries. For example, Max Profits can name his three children as equal beneficiaries. If they decide to share the IRA, required minimum distributions are based on the age of the oldest beneficiary. The owners also would have to agree on how to invest the IRA and on rules for taking distributions beyond the required minimums. An alternative is to split the IRA into a separate one for each beneficiary. Most IRA custodians allow the IRA to be split in this way. Beneficiaries need to know this option is available and how to exercise it.

* Distributions. Most heirs tend to withdraw all the money from an inherited IRA quickly, pay taxes, and spend the after-tax amount. When beneficiaries prefer to use the IRA’s tax deferral, they should know how to compute required minimum distributions. The amount of the RMDs depends on whether or not the original owner was already taking RMDs, and the beneficiary also has two options in each case.

Suppose the deceased owner was not over age 70½ and had not begun RMDs.

The first option for the beneficiary is to begin taking distributions using the beneficiary's life expectancy. The second option is to distribute 100% of the inherited IRA to the beneficiary by the end of the fifth year following the year of the original owner's death. In the second option, the distributions can be taken on any schedule the heir wants. For example, the entire amount could be left in the IRA until the end of the fifth year. Or roughly equal amounts could be taken each year. Or money could be withdrawn as needed, with whatever is left in the IRA distributed by the end of the fifth year.

The first option is best for an heir who wants to use the IRA's tax deferral for as long as possible. Remember, an amount exceeding the RMD for the year can be withdrawn at any time. The second option is for an heir who doesn't intend to use the long-term tax deferral of the IRA. The five-year period gives the beneficiary time to search for ways to reduce income taxes on the distributions.

The options are a little different when the deceased owner already started RMDs.

The first choice again is for the heir to take annual installments over the beneficiary's life expectancy. The second option does not include a five-year rule. Instead, the heir can continue the RMDs on the schedule begun by the deceased owner, using what would have been the deceased’s age and life expectancy each year. The IRS says that the second method is the default method if the beneficiary does not make a selection or the IRA custodian does not name the other method as the default.

* An overlooked deduction. Most taxpayers and even many tax advisers are unaware of the deduction for "income in respect of a decedent.” Many people who inherit a substantial IRA are eligible for this deduction, which essentially is a deduction for the estate taxes that were paid on the IRA. The deduction is best explained with an example.

Suppose someone left a large estate with an IRA. The estate tax accountant computes that the IRA was responsible for 36.7% of the estate tax paid, and that the IRA's dollar share of the estate tax was $175,000. When the beneficiary takes distributions from the IRA, a miscellaneous itemized deduction (not subject to the 2% floor) of 36.7% of each distribution is allowed. This continues until the beneficiary has deducted a total of $175,000 over the years.

The estate tax accountant should determine the data for the deduction. Details can be found in the IRS Publication 559, Survivors, Executors, and Administrators, available free on the IRS web site, www.irs.gov.

* Disclaimers. The details of who should inherit an IRA can be left to your executor who, along with family members, can determine from both a financial and tax standpoint who should be the Designated Beneficiary. The Designated Beneficiary does not have to be selected until Sept. 30 of the year following the year of the owner's death. The first required distribution does not have to be made until Dec. 31 of that year. But the Designated Beneficiary must be one of a group of primary and contingent beneficiaries named by the account owner.

The way to take advantage of this provision is for you to name both primary and contingent beneficiaries. After your heirs and executor decide who should inherit, those who are ahead of that person in the beneficiary chain can disclaim their interests.

There is a procedure in the tax law for making qualified disclaimers. Your heirs and executor should be aware of your intentions and this process, and you should give the executor guidelines for making the decision and advising the beneficiaries.

All your work of growing and preserving the IRA over the years and planning your estate could come to naught when your heirs mishandle the IRA. Be sure they know their options and obligations and have good advice on how to handle the inherited IRA.

Video Dispatch: Israel and Intrigue at the White House

John Mauldin — Thu, 12 Nov 2009 17:53:00 GMT

The closed-door meeting is a prime indicator of unpredictability. It's one of the most difficult elements for even the most savvy investors to encounter and plan for - or against. Usually we know the preemptive measures we need to take in order to protect our assets, and even make a few dollars in auspicious instances. But what about the information we can't access?

Luckily, we have options. Today I'm including an excellent video from my friends at STRATFOR, a global intelligence company. They shed light on a closed-door meeting between the Obama administration and 3 top Israeli officials. When speculation is rampant, there's only one source I trust for reliable insight, and that's STRATFOR. I encourage you to watch this video. Also, sign up to get their two free weekly intelligence reports for more door-opening insights on critical issues.

Risk Aversion Creeps Back Into The Currencies...

Chuck Butler — Thu, 12 Nov 2009 15:32:59 GMT

..But First, A Word From Our Sponsor..
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* 4 BRIC currencies: Brazilian real, Russian ruble, Indian rupee, Chinese renminbi
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In This Issue..

* Comments spook currency traders...
* A$ hits 15-month high, this time going up!
* Geithner as the "joker"?
* China changes statement about the renminbi...

And Now... Today's Pfennig!

Risk Aversion Creeps Back Into The Currencies...

Good day... And a Tub Thumpin' Thursday to you! It's a Thursday, and it's not raining here! YAHOO! After a week of Indian Summer weather, we're slowly creeping back to the colder weather, but still, better than most Novembers of the past, so far!

That was a strange feeling yesterday, having a holiday in the middle of the week, but the day was nice, and I got to spend the day with my granddaughter, Delaney Grace, who sang me songs all day long!

So... Last night, I'm doing some writing, and before I put the laptop to bed for the night, I checked the currencies, and while they had drifted in the early Asian session, the Big Dog, euro was still trading above 1.50, and the Aussie dollar (A$) had set a 15 month high of .9368... But when I turned the currency screens on this morning after arriving to a pitch black office, which is the way I like it this early in the morning, the euro had given back about 1/2 cent, and so had the A$... So, it was my mission to find out what caused this slippage...

The only thing I could find was a comment by the Chinese Premier, Wen Jiabao, who said that "the world faces an uneven recovery"... This made traders think twice about leaving me behind, no wait... I mean they thought twice about the green light they thought they were under to have carte blanche with the dollar...

The dollar also received a bit of love from the comments by U.S. Treasury Sec. Geithner, a.k.a. the Cheater... Geithner was doing his best Robert Rubin, circa 1995, saying that he believes strongly in the need to maintain a strong dollar and said the United States was determined to get its budget deficit down. HAHAHAHAHAHAHAHAHAHA! That's a joke, right? OH! He wasn't joking? Are you sure? Because for a minute there, I really thought he was joking, for what, in the past, has he or this administration done to back up those words? But he wasn't joking... Hmmm... And I was all ready to give him a new nickname... The Joker...

Geithner did say that the U.S. was well aware it must work to keep investors' confidence in U.S. economic policymaking... Yeah, and that's exactly what you've done, right? NOT! Hey Timothy, you might want to check the scorecard on your performance so far... The dollar index has fallen 7.6% this year, and hit a 15-month low of 74.89 yesterday...

OK... I've got to go on to something else, otherwise I'll say something that will cause people to fill my email box with nasty emails! But... It sure looks like Risk Aversion has crept back into the currencies after all these statements... We seem to run into these Risk Aversion stints about every week... They come, they take away gains, and they go away, thus allowing the gains to be reinstated...

How about that 15-month high for the A$ yesterday of .9368? At least this time the currency is on the way up when it hit that 15-month figure... 15 months ago, it was on the way down! So, here's the skinny on this move by the A$... Australian employers added jobs in October... This was unexpected... But... Caused the immediate response of speculating that the Reserve Bank of Australia (RBA) would indeedly do, raise rates at their next meeting on Dec. 1st...

There was another "push" to the A$ yesterday... And it came from Gold! The shiny metal pushed to yet another new all-time high record level of $1,117 during the day... I might remind you here that Gold is Australia's third most-valuable raw material export... Oh! By the way, Australia's unemployment rate is now 6.5%, which is still too high, but falling... And doesn't that have a nice ring to it, versus saying an unemployment rate is rising past 10%?

The A$ pulled its kissin' cousin from across the Tasman, New Zealand dollar / kiwi along for the rally yesterday... Kiwi continues to be haunted by the ghost of deficits past... But, hiding in Australia's shadow suits kiwi just fine... And New Zealand Retail Sales just posted a nice, surprise, uptick... There are all kinds of reports going around that say the New Zealand 3rd QTR GDP will be strong... I'm from Missouri, so they'll have to show me!

There was further news out of China yesterday, from the People's Bank of China (PBOC)... The PBOC stated that "the exchange rate will be guided in a proactive, controlled and gradual manner and based on international capital flows and movements in major currencies." What's the news of this you might be asking? Ahhh grasshopper, sit... Here is the news... That statement is completely different toward the Chinese currency than previous statements that said that the PBOC would keep the currency "basically stable"...

This is Central Bank parlance folks, to say that the PBOC will continue to "gradually" move the renminbi... As previously they basically said they would keep it at current levels... The foreign newspapers are all over this statement like a cheap suit, folks... But I think they're going in the wrong direction... The foreign newspapers are thinking that the PBOC has given the "high sign" that they are ready to allow the renminbi to float... Buzzzzzzzzzz! I'm sorry, that's the wrong answer... We hate to see you leave, but Johnny, tell our contestant what they've won!

I just don't see it as that... The Chinese like to play these games with words, to get everyone all lathered up... And then pull the rug out from under them... No rug pulling from under me!

The Wall Street Journal (WSJ) is reporting this morning that Central Banks around the world, like the Russian Central Bank, are buying dollars to underpin the currency from a free fall... The WSJ also said the Asian Central Banks have all been buying dollars to keep their currencies from getting too strong... Hmmm... I wonder how that's been working out for them? Oh... Here's the skinny on that... "Quite clearly, all Asian central banks have found it necessary to intervene, and it's costing us," said Korn Chatikavanij, Thailand's finance minister.

So, it's kind of nice to see other Central Banks around the world throwing good money at bad money, like the Fed Reserve has done for 15 months now... At least they're not throwing money down the toilet, nononononononono! YES THEY ARE! They're buying dollars! What dolts!

OK... While I was browsing through the WSJ, I saw another story that caught my attention... Here was the headline... "Fannie Mae, Freddie Mac say more losses are possible"... According to the WSJ, the U.S. Treasury has already injected $112 Billion into Fannie Mae and Freddie Mac since the government took them over last year... And now, more losses are possible?

Let's see... The Government took them over, and more losses are possible? Sounds like the Post Office... Sounds like Amtrak... What else has the Government taken over, and the bleeding continues? I know, and you know where I'm going with this, so I'll stop there!

What some more depressing data? October saw 332,292 U.S. homes seized by lenders or listed in default or auction documents according to RealtyTrac... October was the 8th consecutive month of 300,000 or more.... There was a 3% decline in October from September, but I wouldn't get too lathered up about that, given the chart I saw and shared with the desk the other day regarding residential loan resets that are coming due in the next two years, with peaks in Sept of 2010, and Sept 2011...

Looking at this chart tells me that the cartel, I mean the Fed will have no other choice but to keep rates low, and to keep buying Treasuries to keep the yield from getting too high... Haven't we learned anything the past 10-years? You have to learn from previous mistakes or you'll make them all over again... And that, is what, I, believe, the Fed is doing! The tried like heck to keep the Tech Bubble from bursting, by keeping rates artificially low, and credit loose as a goose... What were the unintended consequences of those actions? And what will be the unintended consequences of these actions by the Fed? I don't have an answer to that, but I don't see how this works out nice for the U.S. economy and taxpayers...

Before I go on... A reader sent me a note that made me laugh... He said, "Hey Chuck, since you can't decide on whether or not call the Fed the Fed or the cartel... Why don't you just put them together and call them the Fartel"? HAHAHA HAHAHAHAHAHA!

The data cupboard finally gets restocked today, and we'll see the usual Thursday fare of Initial Weekly Jobless Claims, which remains above 500,000 every week, and something that Tim Geithner might want to pay attention to... The U.S. Monthly Budget Statement, which will be somewhere around $160 Billion for October... Annualized, that's almost a $2 Trillion deficit in the Budget! OUCH! Say it ain't so, Joe!

To recap... The non-dollar currencies rallied all day yesterday, but have given back those gains in the overnight sessions. Most of the slippage has been from words, not actions. The Chinese premier, and the U.S. Treasury Sec. So... Don't look for this to be any reversal of the weak dollar trend... The Aussie dollar hit a 15-month high last night on a strong employment data report, which has traders thinking another rate hike on Dec. 1st is coming, and the Asian countries have been buying dollars to keep their currencies weak, and according to them they are "paying the cost"!

Currencies today 11/12/09: American Style: A$ .9315, kiwi .7370, C$ .9315, euro 1.4950, sterling 1.6580, Swiss .99, European Style: rand 7.4380, krone 5.6050, SEK 6.8550, forint 180.50, zloty 2.7645, koruna 17.0490, RUB 28.79, yen 89.80, sing 1.3870, HKD 7.75, INR 46.65, China 6.8267, pesos 13.17, BRL 1.7150, dollar index 75.25, Oil $78.67, 10-year 3.44%, Silver $17.57, and Gold... $1,116

That's it for today... Isn't that something, the Gold move? My good friend, David Galland, said that Gold is "blowing a raspberry"! HA! Well... Now that my blood has been thinned out, and had the consistency of water, the swelling in my left leg has backed off just a bit... At least I don't have to continue with the shots! Next week I go back to the cancer doctor that has been treating my left eye that was taken over by cancer... I really don't know why I have to go back, he told me last time there "was nothing else he could do"... All these things, and still life goes on, right? Yep! Little Delaney Grace was really cute the other day, trying to pawn off her carrots to me, she kept telling us that the carrots were mine to eat, not hers! Well... I'm locked down in St. Louis until late January... But my annual Christmas vacation will break things up... I know, it's a month away, but I can't help starting to get geeked about it! OK... A little long here with the Big Finish, I had better get going on this Tub Thumpin Thursday!

Chuck Butler
President
EverBank World Markets
1-800-926-4922
1-314-647-3837

InvestorsInsight.com | Financial Intelligence, Advice & Research / Investment Strategies & Planning for Individual Investors.

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One “mother” of a trade

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