Suicidal Trade Deficit The Daily Reckoning Boston, Massachusetts Tuesday, November 14, 2006 --------------------- *** Here's an option - put your 'wall of worry' aside…and buy some put options… *** We're accused of being too gloomy - there's something new! *** The diesels are coming!…Hey, where do you think you're going with that toothpaste?…and more! --- Advertisement --- The Most Important Gift You Could Ever Give Your Child… This guaranteed wealth building program will have your child saving: $48,808 by age 18
$1,284,002 by age 40 and a
$4, 039,426 nest egg before Age 50… Introducing the simple yet highly successful wealth building program GUARANTEED to make your children multimillionaires… Start seeding your child's financial future now… http://www.isecureonline.com/Reports/400SNEWSOW/E400GB08/ --------------------- Stocks have been climbing a 'wall of worry,' yesterday's International Herald Tribune informs us confidently. Funny. We don't see a wall of worry. Not even a hedge of hesitation…a dyke of doubt…or a curb of concern. When stocks begin a major bull market, the old-timers like to say they 'climb a wall of worry.' Why is that? Because when investments are ready to rise in a serious way, they have to be cheap to start with. And when they're cheap, investors worry that they will get cheaper. Going from cheap to expensive is the essential trip of a bull market. But if they're not cheap…they can't go as far…and you don't get as much of a run. Stocks are only a bargain after they've sold off - usually for a long time. So investors are very aware that they can go down in price. In fact, at the beginning of the biggest bull markets - '49 and '82 - investors hadn't known anything but falling prices for the previous two decades. Naturally, they were worried. Are they worried now? Not so's you'd notice. Volatility is again near record lows. Put options (which protect investors from the downside by allowing them to sell - to 'put' - the stocks to a buyer at a previously-agreed price) are extremely cheap. And the news is almost all positive - little inflation, high earnings, record employment figures. The IHT even tells us that consumers are still spending money like water - despite the fact that the housing bubble tap has been turned off. "Holiday sales marginally higher," adds Reuters. Where are they getting the money? We don't know. But the papers tell us that the economy is strong, with plenty of liquidity. We'll have to wait for a detailed plumbing analysis to find out for sure. There are three possibilities…either the impact of the housing slump hasn't hit the householders yet…or it's not really as bad as we think it would be…or the economy is somehow providing consumers with new sources of spending money. We'll see - one way or another. Meanwhile, there hasn't been much financial news for the last few days. Gold is holding at around $625. The Dow is biding its time over 12,000. Bonds are at the top of the range marked out in the rally that began in July. The markets seem to be waiting…watching…and wondering what to do next. What are they waiting for? Our guess is that they are hanging around waiting for news from the property market. Or maybe they're just hanging around. There is no doubt that the decline in housing has the potential to whack the whole economy very hard. But there is no sign of it yet. Of course, major tops take a lot of time - years - to fully form. And, in the meantime, the housing market seems to be shimmying around on the peak. Prices are sliding almost everywhere - according to press reports - and are down substantially already, especially if you include the value of sellers' incentives. And here comes a report from an economist who has studied the buying habits of baby boomers. It turns out that boomers are no more likely to buy a second house than their parents; there are just more of them. In 1998, 14% of people over 50 had a second house. Now 15% have a second house. Do you have a second house, dear reader? If not, don't despair. In a year, you'll probably be able to get one cheaper. So cheap, you might be able to afford a third… More news: --------------------- Byron King reporting from Pittsburgh… "…Forgive me if I call them tar sands, dear readers. I know that the marketing people want to call them "oil" sands, because it is better for the real estate values. After all, would you rather have oil on your land or tar?…" For the rest of this story, see the most recent issue of Whiskey & Gunpowder --------------------- And more views: *** Ethanol is most likely not going to be the solution everyone is looking for in the search for the next alternative energy. In fact, according to Justice Litle, "If Paul Revere were a present-day oil executive, he'd be driving his Mustang through the streets, shouting: 'The diesels are coming!' While diesels dominate Europe, with more than half the domestic market, they have mainly been restricted to trucks, 18-wheelers and other commercial vehicles in the United States. "With October's arrival of ultralow-sulfur diesel, which reduces sulfur content by 97%, diesel is set to cross the Atlantic in a big way. Automakers are gearing up for the change, with Mercedes in the lead and Honda a serious contender. Mercedes' new diesel leaves Lexus 'in the dust,' Fortune reports, and Honda has clean-diesel cars in the works for 2008." One of the big technologies of the future will be liquefied coal, whether the diesel engine wins over the public or not. While oil supplies run low, there is still enough coal to last for over 300 years - and new advances in this field have figured out how to clean up the pollution aspects of coal…and found a way to make it power your SUV. Coal is going to play a key role in our energy future. The safest way to profit is to own some coal and wait for the price to go up. It will. Click here for the full report: A Coal Boom is Inevitable *** "Can't you be more positive?" asked a reader last week. "It always seems so gloomy." But we are not gloomy at all. And as for positive…we are bullish on a number of things: gold…Japan…Argentina…commodities. Speaking of Japan, yesterday the Japanese reported annual growth running at two percent. Not flying…but still twice what analysts had expected. What do we know about Japan? Nothing, really. But after a 16 year slump, and with it's closest neighbor having the fastest-growing economy on the planet, we figure Japan is ready for a comeback. *** We flew into Liberty International Airport in Newark yesterday, and then on to Boston, after lining up for an hour - waiting to get approved and earched…and to turn in our toothpaste and toenail clippers. I was just wondering: has any terrorist ever been stopped by all these anti-terrorist measures? Does anyone know? Europe seems generally more relaxed about terrorism; but that's probably because Europeans have seen so much more of it. The IRA, the Red Brigades, the ETA…terrorists have been blowing things up in Europe for years. None of them, so far as we know, were deterred by Colgate peppermint flavor. *** "Jules, how do you like it here in Boston?" we asked our guitarist son last night. Jules did his first year of college at St. John's College in Annapolis. Now he's in a big school and in a big city. "Well, it's nicer in some ways," he replied. "I have a lot more choice about what I can study. But there are also more typical U.S. students; they just seem to want to have a party and get drunk. They're not very serious. The serious students I've met are all foreigners…and there are a lot of them. "Of course, they're not all that grown-up either. My roommate is Korean. He came in the other night carrying one of his friends. He just tossed him on the bed and left. And then the friend tried to throw up in the drawer of our dresser. They say the Koreans are the hardest drinking of the Asians. But that was the first time I saw it up close. Too close. But still, he seems like a decent guy." --- Advertisement --- America's Top-Ranked Financial Newsletter Says: The Petroleum-Free Car of the Future WON'T Run on Hydrogen or Ethanol Whatever you do, don't follow the Wall Street crowd into the hydrogen fuel cell myth. Forget ethanol, too. Getting rich from the end of cheap oil means investing in the REAL solution to America's oil addiction. Buy in now - before investors realize the mistake they're making and come flooding in. Readers who followed similar advice had a chance to rake in average gains of 64% last year…and 62% the year before that. But even bigger profits could lie ahead. http://www.isecureonline.com/Reports/OST/EOSTGB26 --------------------- The Daily Reckoning PRESENTS: Looking into 2007, the greatest uncertainty is whether the U.S. housing bubble will end in a hard or a soft landing. A bust would have severe adverse implications for the world economy, given that the U.S. economy has been the key engine of global economic growth in recent years. Dr. Richebacher explores… SUICIDAL TRADE DEFICIT
by Dr. Kurt Richebacher On the surface, it seems that there are diametrically different views at work in the markets. While the rising bond prices and the falling commodity prices apparently suggest underlying distinct economic bearishness, the sudden surge in stock prices and persistent record-low credit spreads appear to reflect very optimistic expectations about the economy. The turn in the bond market started in June with yields of 10-year Treasury notes at 5.25%. A decline to 4.7% generated a 5% return for investors within just three months. Annualized, this comes to a return of 20%. Take further into account that there is generally heavy leverage involved, multiplying this return between 10-20 times. Considering further that this rate of decline of long-term rates has occurred against the backdrop of a firmly inverted yield curve, implying that expenses of carry trade exceed current yields, the strength of this move seems a bit surprising. The quick capital gains, though, have richly offset these interest expenses - for the time being. But to maintain these highly leveraged positions, it will need at least one of two things: either a further sharp fall in long-term rates providing new capital gains or rate cuts by the Fed reducing the costs of carry trade. More surprising is the new bull run of the stock market in the face of an economic slowdown. Approaching recessions have always tended to depress stock markets in expectation of falling profits. Well, there is a tremendous difference between past and present experience. Past recessions were all triggered by true monetary tightening, hitting both the economy and the markets. The current economic downturn is unfolding against the backdrop of unmitigated monetary looseness. While the Fed has raised credit costs from unusually low levels, it has done nothing to tighten credit. Its expansion has kept accelerating. Credit demand has been running wild for consumption, housing and financial speculation. There is just one striking and ominous exception: Corporate credit demand for fixed investment remains zero. Corporations, too, have been borrowing heavily, but for mergers, acquisitions and stock buybacks, not for productive investment. In 2005, nonfinancial corporations spent $136.8 billion less than their cash flow from retained profits and depreciations on capital expenditures. Simultaneously, they spent $363.6 billion on mergers, acquisitions and stock buybacks. Given their moderate cash surplus, one has to assume that the stock purchases were generally financed with borrowed money. It is certainly reasonable to regard the strong trend of corporate stock purchases as an early negative indicator of investment intentions. Principally, there are two different ways for corporations to expand and to raise profits. One is the old-fashioned way of organic growth through creating new plant and equipment. The other is to purchase economic growth and higher earnings through mergers and acquisitions by going more deeply into debt. What, then, has been happening more lately to mergers and acquisitions? In short, they have gone crazy. During the first quarter of 2006, they hit an amount of $558 billion at annual rate, and in the second quarter another $554.8 billion. This compares with continuously weak capital investment. In the first quarter, it was $2.7 billion below cash flow, and in the second quarter, $43.2 billion above cash flow. There is an interesting comparison with the year 2000. Then, capital expenditures of nonfinancial corporations exceeded their cash flow by $310.8 billion, compared with net stock purchases of $118.2 billion. We would say that these figures indicate a continuous, rather dramatic change in corporate policies of expansion away from new capital investment and toward "purchasing" growth and earnings. It started in the 1980s. It strongly intensified during the 1990s, and during the last few years has gone to extremes. Stating this, we primarily have the long-term development in mind. But in the same vein, we are pondering what is going to happen to business investment in the short run, when consumer spending slows, or even slumps, in the wake of the bursting housing bubble. The generally highly optimistic expectations and forecasts about investment spending taking over from consumption as the driver of the economy greatly puzzle us. To stress one important point, which appears to be generally overlooked: Some rise in capital spending is not enough. Given its much smaller share of GDP than consumer spending, it needs a very strong rise to offset even a minor decline in consumer spending. While the markets seem to reflect highly conflicting views about the U.S. economy's outlook, we nevertheless presume one underlying common view, and that is the perception of very little risk of a possible recession because the Fed would, in any case, swiftly act to head off any gathering weakness. What matters from this perspective both in the bond and stock markets are impending rate cuts. In essence, this is in line with the conventional thinking that the U.S. Great Depression of the 1930s, as well as Japan's prolonged malaise since the early 1990s, could have been avoided by prompter monetary easing. Whoever believes in this is entitled to be bullish both on stocks and bonds. U.S. stock prices received their lift since June/July mainly from lower oil prices and lower long-term interest rates. To keep heading higher, it will now need sufficient earnings growth. After an unusually steep rise in profits during 2005, analysts are predicting more of the same. Our focus is on aggregate profits, as calculated and reported by the Bureau of Economic Analysis within the National Income and Product Accounts (NIPA). The customary way of making forecasts of economic developments is to extrapolate the recent past. Profit growth in the United States during the last two years has been at its best for the whole postwar period. Profits of the nonfinancial sector in 2005 have jumped to $900.1 billion, from $584 billion in 2004 and $411.8 billion in 2003. These figures compare with a profit peak of $508.4 billion for the sector in 1997 and a profit low of $322.0 billion in 2001. If you look at the profit development of U.S. corporations over the last 10 years, you will see that it is an awkward picture. Profits fared very poorly during the "New Paradigm" years of the late 1990s, presumably a time of excellent economic performance. No less astounding is their sudden steep rise in the course of 2005, from $624.2 billion in the fourth quarter of 2004 to $1,027.7 billion in the first quarter of 2006, happening while the economy distinctly slowed. The irony is that after a strong rise during the first half of the 1990s, profits abruptly turned down during the "New Paradigm" years of the late 1990s. For six years, from the recession year 1991-97, the nonfinancial sector's profits had soared from $227.3 billion to $508.4 billion. As a percentage of GDP, these profits had risen from 3.8% to 4.9%. While "New Paradigm" ballyhoo and stock prices flourished after 1997, business profits, as officially measured, suddenly slumped. As a percentage of GDP, they were a little higher at the height of the dot-com bubble than in the recession year 1991. Coming to the recent recovery years, we must point to some irritating observations. On the surface, it looks like a fabulous profit development. From recession year 2001 to 2005, profits of businesses in the nonfinancial sector have more than tripled, from $322 billion to almost $1,100 billion. It was the best profit performance of all time. However, this good-looking total consisted of two extremely different parts. It was in the first quarter of 2004 that profits exceeded their peak of 1997 for the first time. From there, they shot up almost vertically. Typically, it has been inverse that the very first years of recovery were best for profits. Regards, Dr. Kurt Richebacher
for The Daily Reckoning Editor's Note: Dr. Richebacher has found the best investments to protect your portfolio, no matter what lies ahead for us in 2007. See his full report here: Wealth Insurance Dr. Kurt Richebacher is the editor of The Richebacher Letter. Former Fed Chairman Paul Volcker once said: "Sometimes I think that the job of central bankers is to prove Kurt Richebächer wrong." A regular contributor to The Wall Street Journal, Strategic Investment and several other respected financial publications, Dr. Richebächer's insightful analysis stems from the Austrian School of economics. France's Le Figaro magazine has done a feature story on him as "the man who predicted the Asian crisis." --- Advertisement --- Discover the Unknown Canadian Biotech Poised to Grab Diabetes by the Throat - 400% Potential Returns for Fast-Acting Investors! Get in on the biggest diabetes treatment breakthrough since the discovery of insulin. This company, brimming with lifesaving promise, is ready to claim a whopping slice of the $66 billion spent annually on diabetes drugs. Learn how you can grab your share of those profits here http://www.isecureonline.com/Reports/VPI/EVPIGB08 --------------------- | 
