Financial markets are roiling and it all comes down to one thing - whether Fannie Mae and Freddie Mac will survive.

The volatility you've been witnessing reflects US markets devolving into an unpoliced playground for giant Hedge Funds.  Completely unpredictable triple-digit moves are nothing more than taking the daily haul from the para-mutual bets of  market players.  When enough are lined up as either buyers or sellers, the market magically moves against them.   Talking heads are  worth their  weight in used sand  as they strain to pin market movement  on something  fundamental.  Although news may move the markets, it is merely used as an excuse.  Blame oil, blame, political instability but it is exactly as Gordon Gekko said in the movie Wall Street  "Feast, famine, we pull the rabbit out of the hat". 

For months the catspaw of FNM and FRE get played with and threaten the golden goose of US exchanges.  Every time it looks like a braking point, the deadline gets extended; it's just too good a game to end quickly.  Of course they are bankrupt and have been long since but so are dozens of industrial giants.  If, however, FNM and FRE are felled for the profit of the short sale, we'll take one giant leap toward socialsm and the redistribution of wealth that  will initially ensue.  That is precisely why they won't fail.  They'll hobble to life over the next few months.  Contributing to their resurrection is the fact that providing the fiat to shore them up, with consumer inflation already smoking, risks Weimar-Germany-style hyperinflation and  this republic  would be in serious  danger  of extinction.  They are repeatedly driven to the brink because everyone knows the stakes: nationalize them and the dollar tanks and takes America (and her juicy markets) with it.  It won't happen.

 

Fannie Mae, Freddie Mac

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David Roskoph
Investment Adviser
Certified Financial Planner
Total Asset Performance
Total Asset Blog

America is in decline.  Our standard of living is descending to reconnect with our means and more resemble Western Europe’s.  We’ve been living on a borrowed standard of living ever since we started replacing organic growth with financial engineering, some 40 years ago. 

Although they’re becoming ubiquitous, step back and notice the warning signs of a nation losing its way;

1. unchecked illegal immigration;
2. fiat sponsored growth,
3. an impossibly unfunded social net driven mostly by a failed health care system, and
4. a financial market being reduced to little more than a battleground for hedge fund titans. 

1. Curiously our FBI can track down one criminal but somehow we, as a nation, couldn’t stop the migration of 12 million illegal immigrants now living within our borders.  Perhaps the government’s tough talking blind eye is due to the fact that we have no other option left to shore up our unfunded mandates.  We need lots of (FICA paying) working-age adults to make that happen.  The hope is that the (eventually-granted-amnesty) immigrants can resuscitate the unfathomable ($65 trillion) deficit of our social net.  The strong-border rhetoric is merely subterfuge; the immigrants are here out of desperation – ours.  Our straits are so dire that we cannot survive economically without them at this point.  Either (means-justifying-ends) preservation of Medicare and Medicaid above our sovereignty sanctioned the exodus or we are too weak to control our borders.  Neither reality is pretty.
2. We have been going from one Federal Reserve-sponsored bubble to an ever larger one because they are providing the only medium to (simulate) growth, fiat.  The housing bubble, mother of all cheap-credit fixes, was a giant flashing billboard. It read – we are out of reserves and worse, out of organic growth so we’ve created a Ponzi scheme to maintain the façade for one more round.  That was a signpost at the end of the financial engineering road.  There is no bubble to eclipse or patch the deflating housing debacle without risking hyperinflation, thus the process of deflation begins.  Surprised?  Don’t be.  We’ve been faking it while convincing the world we’re making it to keep our credit cheap and available.  Every time growth ratcheted down, more debt was added to systematically mask the transaction.  The 40-year-old Great Society birth projections, based on the Baby Boom, were as specious as the recent earnings histories of no-doc loans; both were doomed before the ink was dry.  The music has stopped and credit destruction has begun.  US dollars will continue to gain value as they become scarcer.
3. The decades old delusion that debt equals growth has convinced us that we could afford our lofty standard of living.  Central to that standard is our health care system which, through Medicare and Medicaid, has driven our unfunded mandates into impossible deficits. We are pretending that although our health care is expensive, 1) it’s the best, 2) we deserve it and, 3) we can afford it.  The bitter irony is that, although we spend far more on health care, (double that of Europe) we are far from investing wisely.  Europe is far more right than we in distributing health care, and their currency reflects their fiscal discipline.   There are only so many resources to supply a potentially unlimited demand.  Continuing to “hope” we can grow our way into our present level of health care is an insult to anyone with an IQ over 50.  The next check we receive may be the reality check of socialized medicine, one of several waiting to be issued.  The World Health Organization [WHO] ranks the U.S. health care system 37th of 190 countries, well below most of Europe, and trailing Chile and Costa Rica. The United States does even worse in the WHO rankings of performance on level of health — a stunning 72nd. Life expectancy in the U.S. is shorter than in 27 other countries; the U.S. ties with Hungary, Malta, Poland, and Slovakia for infant mortality — ahead of only Latvia among industrialized nations. 
4. Does anyone believe a confused public is responsible for the frenetic, daily triple-digit moves driving the Dow?  Our markets are reverting to their pre-SEC status of “rich man’s playground”.  The cartels of then are being replaced by massive hedge funds who, with impunity, create enough chaos to suck in the public and winnow weaker hands at the same time.  There are no adults in the playground.  We have an SEC, desperate to look relevant, enforcing an existing naked short sale rule applicable only to institutions.  A clear sign of capitalism’s limits are when one institution must be stopped from destroying another merely because it’s profitable.  Without sufficient regulation, we will have a market ruled by feudal hedge fund lords who will become the casino and thus everyone else its customers. A history of human nature shows that no great nation thinks itself capable of decay, especially during the heady days of its zenith.  Are we blithely rationalizing the warning signs of our descent, too confused by violent markets, too bamboozled by official propaganda to think for ourselves? 

Wake up America, this is a modern depression born of hitting the limits of laissez faire capitalism (again).  The systemic deflation (5.5 – 6 trillion) is too vast to offset by fiat without felling this republic.  Like Japan of 1990, all the government can do is keep you calm.   The first stimulus checks hardly covered the loss of purchasing power from the newly minted debt known as inflation.  They’re a dividend to placate an evaporating middle class on their mandatory investment (of new dollars) made to shore up a system that is widening the chasm twixt the top 1% and everyone else.

deflation, Federal Reserve, Hyper inflation, Illegal immigration, World Health Organization

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David Roskoph
Investment Adviser
Certified Financial Planner
Total Asset Performance
Total Asset Blog

 

 

Dear Client,

 

Today Treasury Secretary Paulson, Fed Chairman Ben Bernanke and even President Bush were on TV to quell anxiety about the state of the economy.  The official line has been that we are not even in a recession, by strict historical measures.  The problem is that you and I see what is happening first hand and know the government is being less than honest.  The two largest mortgage holders Fannie Mae and Freddie Mac (both government sponsored enterprises, GSE’s) are bankrupt.  They own 5.3 trillion worth of mortgages, 70% of America’s mortgages!  They are among a growing list of business & bank failures and Congress is feeling the heat to press the Fed and Treasury for answers and solutions. 

Today’s testimony FINALLY got closer to the reality everyone is living.  It was the most honest recognition of our present state of affairs in years and it was essential to begin the process of restoring public confidence.  The news was not good but it was candid and that’s what America both wants and deserves; it will stabilize the markets.  No miracle cure, but hearing the un-spun reality directly from those making the decisions is better than patronizing lies that treating us like morons. 

At the heart of the matter is the US Dollar.  All the recent inflation you see is mainly attributable to the weakness in the dollar.  Dollars are weak because our government has been creating them to shore up the deflation in housing and the money that has simply evaporated.  For example, if oil was $100 and you print 10% more dollars, oil will rise to $110 - because there are 10% more dollars relative to the same amount of oil.  So far the government has created approximately 1 trillion (12 0’s) in new money/debt out of thin air to stem this collapse.  If that printing were to accelerate, inflation would get out of control as it has in every central banking system ever created.  It is a politically expedient remedy which masks an economy’s weakness for a while but eventually destroys it.  Modern civilization has not outgrown this dance.

As I have been alluding to for months, this is a modern depression; one which will be not be as severe as the Great Depression but will have similar characteristics.  Foremost among them will be deflation.  For 60+ years the government has sustained prices by inflating the currency, each time decreasing its buying power.  Now, however, continuing that policy would potentially be fatal to our union as it would likely spawn hyperinflation.  Therefore the only alternative is for assets to deflate thus restoring the value of the dollar.  Deflation consumed 25% of the money supply in the Great Depression but will likely consume much less this time around.  It is a necessary process to correct years of dollar debasement.  Japan trod this very road just 18 years ago.  Like them we have begun stimulus checks.  The first was cashed and is in the system and a second is almost guaranteed.  Today the topic of infrastructure restoration emerged in Congress exactly as was done in the Great Depression – public works programs to occupy the massive unemployed.  In a deflation as credit is destroyed so too are jobs.  The officially stated unemployment rate is hideously understated.

We remain on a figurative precipice between hyperinflation and deflation; there are only two paths.  Deflation is unavoidable (and necessary) unless the heightened inflation we are now experiencing is intentionally turned into hyperinflation.  Today I got the strong feeling that Bernanke and Paulson understand that hyperinflation will destroy America, whereas deflation will be painful but leave a restored currency and economy.  Deflation is the path we are on and I can only hope they let it take its course and not jump start the printing press.   It will take over one year and housing will continue down and unemployment up.  But if deflation runs its course to reestablish values, we will have a strong country on the other side of the process.  If hyperinflation occurs, we might not have a country at all.

 My fear has been that the Treasury and Federal Reserve would succumb to the political pressure and try to print their way out of more deflation.  Trying to replace the dollars lost in the market with newly minted ones so values did not descend and businesses did not fail.  We were at the precipice because of the recent failures of the mortgage giants Fannie Mae and Freddie Mac.  For now it seems they won’t, and that makes all the difference as a strengthening dollar will bring order to the entire world.  

Presently we have no US holdings and have in fact profited from the stock market’s decline.  Although I expect the decline to continue, I will be lessening these hedging positions and nibbling at US stocks soon; once I’m sure the printing presses won’t be fired up.  The original global framework which placed America in the center of the economic universe seems to continue even though it is mathematically disconnected.  I plan no changes to you foreign holdings. 

It hasn’t been comfortable staying “safe” while the market raced up.  Most investors expect their portfolio’s to rise and fall with the market.  When the market rises and leaves their portfolio behind, they may question the mind that manages it.  Indeed many, many advisors whose newsletters I trust capitulated and (incorrectly) bought that sharp rise off the March lows.  It was a monstrous rally that gave every indication of being genuine and to be left behind was to threaten one's business.  Your trust helps me to remain fiercely independent and protect your assets both during unrealistic run up’s and descents.  Thank you.  It is something I never take for granted.   

 

 

David Roskoph

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David Roskoph
Investment Adviser
Certified Financial Planner
Total Asset Performance
Total Asset Blog