There you have it. If you possess absolutely no gold, other than maybe a tooth filling, you are civilized. Congratulations!

If, however, you’ve stashed a few Krugerrands under your mattress, we’ve got some bad news for you. You are hopelessly uncivilized — a financial Neanderthal, deserving of pity from your civilized counterparts.

“I think gold is a great thing to sew into your garments if you’re a Jewish family in Vienna in 1939,” Munger remarked recently, “but I think civilized people don’t buy gold. They invest in productive businesses.”

Yes, that’s right, Charlie. Civilized people invest in productive businesses…until an uncivilized government decides to steal it, or merely tax and regulate it into oblivion. Some Jews in Vienna in 1939 operated extremely productive businesses. Unfortunately, they could not stitch any of those into their garments.

In other words, Charlie, civilized investment strategies function in civilized societies. In uncivilized societies, gold is usually a better bet. Or to put it another way, as civilizations lose their civility, share prices fall and gold soars…which is exactly what has been happening here in our beloved US of A.

During the last decade and a half, the investment return of Berkshire Hathaway, perhaps the most civilized of American stocks, has trailed far behind that of gold. Civilized folks like Charlie Munger and Warren Buffett consider that 15-year trend a fluke. Maybe so. Or maybe this trend is a warning that America is becoming a bit less civilized — a bit less friendly to productive businesses.

Notwithstanding this trend, civilized folks know better. They shun gold in order to invest in the shares of overhyped social media companies, highly leveraged banks, bonds of bankrupt governments and complex derivatives that are impossible to value precisely… until they go to zero… at which point their precise value is known.

That, Dear Reader, is civilized!

But there is one additional echelon: the über-civilized investor. Über-civilized investors shun gold to invest in über-complex derivatives. These are the folks like Warren Buffett who do not merely shun gold, but also belittle it very publicly while loading up on highly leveraged finance companies that are loaded up on complex financial derivatives.

Often, these banks are run by über-über-civilized investors — the kinds of guys who do not merely load up on complex derivatives, they load up on complex derivatives linked to the bonds of bankrupt governments. Then they utilize a “risk control” methodology that has a perfect record of failing to control risk.

You just can’t get any more civilized than that.

Eric Fry
for The Daily Reckoning

Investing in Gold as World Economies Falter originally appeared in the Daily Reckoning. The Daily Reckoning, published by Agora Financial provides over 400,000 global readers economic news, market analysis, and contrarian investment ideas. Recently Agora Financial released a video titled "What Causes Gas Price to Increase?".

During the last couple of years, anxious Greeks have yanked a net €72 billion from the banking system — or nearly a third of total short-term bank deposits. And according to the scuttlebutt, withdrawals have been accelerating in recent days, as the “unthinkable” possibility that Greece might withdraw from the euro bloc has become increasingly thinkable.

So who could blame the Greeks for grabbing their euros before they turn into zeros…or, at best, drachma? In fact, given the chaotic conditions now unfolding in Europe, who could blame anyone for grabbing their euros before they turn into zeros?

Anxious Spaniards are also queuing up to withdraw their euros from the banking system. And many bond investors are behaving similarly: they are dumping Spanish government bonds and/or buying insurance against a default by the Spanish government.

You all remember Spain, don’t you, Dear Readers? That’s the country that, if it were an American high school senior, would be voted, “Most likely to follow Greece out of the euro zone.” Spain’s fiscal problems are not new news, but thanks to the renewed turmoil in Greece, distress has returned to the Spanish bond market.

As the chart above illustrates, the yield on Spanish government 10-year bonds recently touched a six-month high, while the price of insuring Spanish bonds against a default just hit a new all-time high.

That’s what we would call, no bueno.

Eric Fry
for The Daily Reckoning

Greeks Run on Banks as Euro-Confidence Wanes originally appeared in the Daily Reckoning. The Daily Reckoning, published by Agora Financial provides over 400,000 global readers economic news, market analysis, and contrarian investment ideas. Recently Agora Financial released a video titled "What Causes Gas Price to Increase?".

On good days, guilty parties go to prison; innocent parties do not. On very good days, innocent parties do not even have to go to the trouble of hiring a lawyer and showing up in court. Law enforcement agencies correctly decide to spare them the burden (and potential agony) of proving their innocence before a judge or jury.

On bad days, the exact opposite occurs. Innocent parties go to prison, while guilty parties do not. On very bad days, guilty parties do not even have to go to the trouble of hiring a lawyer and showing up in court. Law enforcement agencies incorrectly decide to withhold charges and spare guilty parties the burden (and potential agony) of defending their guilt before a judge or jury.

Once you string enough bad days together, you get a Water Wiggle — a “system” of law enforcement that investigates and prosecutes alleged crimes capriciously, unfairly and disproportionately. You get a system, for example, that:

1) Prosecutes Hall of Fame pitcher, Roger Clemens, for injecting performance-enhancing drugs into his own body, but does not prosecute a single investment banking executive for fraudulently injecting mortgage-backed securities into the US financial system.

2) Tasers-to-death a Mexican national for sneaking into the US to find work, but provides billion-dollar bailouts to finance company executives whose extreme incompetence causes thousands of individuals to lose their jobs. (Bring us your tired, huddled masses so that we can beat them to death).

3) Threatens to shut down porn film studios for failure to comply with “condom laws,” but turns a blind eye to Wall Street’s serial financial rape of the US taxpayer.

4) Fires a 5-year employee of Wells Fargo for shoplifting when she was a teenager, but does not bother to prosecute M.F. Global’s former CEO, Jon Corzine, for allowing (or causing) $1.6 billion of client funds to disappear from the firm he controlled.

In other words, once you string enough bad days together, you get a “system” that punishes minor crimes and rewards major crimes…consistently. You get a system that punishes entrepreneurial initiative by rewarding cronyism.

To reward incompetent finance company CEOs with billion-dollar bailouts, for example, is to punish the employees and shareholders of the prudently operated finance companies that compete with the firms receiving bailouts.

To refrain from investigating and/or indicting Jon Corzine for “disappearing” $1.6 billion of client funds is to punish both the 38,000 M.F. Global customers who are still missing the money they did not deserve to lose and the 1,000 employees who lost paychecks they did not deserve to lose.

To continuously intervene on behalf of politically connected incompetence and sociopathy is to invite the kinds of corruption, recklessness, cronyism and criminal negligence that ruins innocent lives and destroys entire economies.

The US is sprinting down this very path…as last week’s “surprising” $2 billion loss at J.P. Morgan Chase illustrates. Morgan’s egomaniacal CEO, Jamie Dimon, described the furor over the trading loss as a “tempest in a teapot.”

Maybe so, but based on subsequent disclosures about the reckless trading that produced this loss, Dimon looks like a teapot in a tempest — clueless and overwhelmed.

The only surprise about this announcement was that the loss wasn’t $4 billion…or $40 billion. But let’s give it some time. Morgan’s expert traders might still get there.

There’s a direct connection, Dear Reader, between the trading losses at JP Morgan and the conspicuous non-prosecution of Jon Corzine. In fact, there’s a term for this connection. It’s called “moral hazard.”

Most parents understand the term. They understand that the best way to raise a socially dysfunctional brat is to give him a candy bar every time he whines for something, and to give him a $20 bill every time he bullies a classmate. And yet, incredibly, the Federal Reserve, Treasury and Congress are doing exactly that. They are creating a generation of “spoiled brat” bankers.

Just three years after the depths of the 2008-9 Credit Crisis, Wall Street’s power brokers remain as remorseless as ever, as self-entitled as ever and, therefore, as fearless as ever. That’s not a good thing.

Three years after a crisis that nearly toppled the US financial sector, JP Morgan is playing the same old games…as if nothing had changed. The official chitchat from Washington and Wall Street about “risk” and “regulation” has changed quite a bit since 2008, but Wall Street’s behavior is just as deplorable and dangerous as ever.

As the chart above shows, the “gross market value” and “gross credit exposure” of global OTC interest rate derivatives has jumped to its highest levels since 2008. If you don’t understand what these data points mean, don’t feel bad, Jamie Dimon doesn’t seem to get it either. (But if you’d like to understand what these data points mean, check out this report from the Bank for International Settlements).

The only thing you really need to know about the global derivatives market is that risk exposures are increasing, not decreasing. JP Morgan’s balance sheet tells the tale. According to Morgan’s latest quarterly report, the firm was a net seller of credit protection — to the tune of about $206 billion, up from $116 billion as of Dec. 31. In other words, it nearly doubled its risk exposure. Morgan calls this speculation “hedging.” Unfortunately, it is hedging without a hedge, which is the same thing as speculating.

The newly “retired” Chief Investment Officer of JP Morgan, Ina Drew, was supposed to be hedging other exposures at the firm. But hedging is not supposed to produce billion-dollar losses. That’s why it’s called “hedging.”

“[Ina Drew’s] position over the years has always been around hedging,” explains Dina Dublon, a former JPMorgan CFO who worked with Drew for 22 years, “but hedging for profit as opposed to hedging just to counter losses.”

Ah yes…“hedging for profit”…also known as “speculating.”

“The sheer size of this trade,” says Barry Ritholtz, editor of the Big Picture and recurring speaker at the annual Agora Financial Investment Symposium in Vancouver, “makes it far more accurate to describe this as speculation than hedging. The loss was the tell. A true hedge would have been offset by the underlying position that was being hedged — so any loss should have been insignificant. Even a minor correlation error should not lead to a $2 billion hit.

“If we are going to define this trade as a hedge, then there is no other conclusion to reach except that everything at a huge bank is a hedge. And once you define everything as a hedge, well then, nothing is a hedge.”

In other words, Dear Reader, nothing has changed since 2008. Absolutely nothing. The only reason Dimon is around to lose $2 billion of the shareholder’s capital in 2012 is because the federal government (i.e., we taxpayers) bailed him out in 2008.

Therefore, Dimon understands the rules of this rigged game very well. He knows he can conduct mega-billion-dollar speculations because he knows that JP Morgan could never bankrupt itself, no matter how recklessly it conducts its business. The US central planners would not allow it. Morgan could build bonfires with $100 bills in front of all its branches every night, and it still would not be able to burn through the federal government’s commitment to keeping it alive.

Jamie Dimon, along with the rest of the coddled Wall Street predators, knows he is just as free to jeopardize the US financial system as he was in 2008. He and his counterparts at Goldman and elsewhere are just as free to place their monstrous heads-I-win-tails-you-lose bets with non-consenting US taxpayers as they were in 2008. No one will stop them.

Vibrant economies and civilized societies rely on law and order. And law and order relies on a foundation of fairness — a basic understanding that bad things are bad and good things are good. But when the powers of government begin to affirm that bad things are okay and good things are irrelevant, all hell breaks loose.

If America is to regain her former glory, she must first regain the integrity to prosecute criminality, no matter how many politicians know the criminals on a first-name basis…and she must regain the courage to let incompetent capitalists fail so that competent capitalists can arise to take their place.

If America is to regain her former glory, she must regain the integrity to prosecute guys like Jon Corzine and the courage to let guys like Jamie Dimon fail.

Eric Fry
for The Daily Reckoning

The “Corzine-Dimon Syndrome” originally appeared in the Daily Reckoning. The Daily Reckoning, published by Agora Financial provides over 400,000 global readers economic news, market analysis, and contrarian investment ideas. Recently Agora Financial released a video titled "What Causes Gas Price to Increase?".

But Debbie took the stage again Sunday when the left-wing Syriza party gained a surprisingly large number of seats in Parliament. The leftists hope to form a coalition government that would nationalize banks, repeal recent labor reforms and immediately cancel the bailout accords with the European Union and the IMF.

In other words, these politicians are threatening to undo the very austerity measures that the EU and the IMF adore. Whether or not such “leftist reforms” would benefit Greece, the idea that the Greeks would unhinge their EU shackles is worrying investors.

The major European stock markets dropped about 2% — pushing several stock indices on Europe’s periphery deeper into the red for the year. The Spanish, Italian, Portuguese and Greek stocks markets are all showing losses for 2012. Looking back over the last 12 months, all four of these markets have tumbled at least 33% in dollar terms.

For a fleeting moment earlier this year, many investors placed the Eurozone crisis in the past tense. But now it appears that the crisis is very much in the present and future tense. “Euro Near Three-Month Low on Greek Leadership Concern,” a Bloomberg News headline declares. “Alexis Tsipras, whose Syriza party placed second in Greek elections on May 6…said he wouldn’t agree to join forces with New Democracy and Pasok, the two Greek parties that have supported austerity measures in return for international funds.”

“When you have the guy who’s supposed to form the coalition saying that there’s a moratorium on debt limits,” a currency strategist tells Bloomberg, “that the bailout is not necessarily in place — stuff like that is getting people a little skittish,”

Indeed…and the skittishness is rippling across the Atlantic. Here in the US, the “risk-off” trade is back on. Stocks and commodities down; bonds and the dollar up. Although the major US stock indices are still clinging to gains for 2012, the S&P 500 is off about 4% since early April.

These modest signs of investor distress will no doubt inspire renewed bailout/austerity/manipulation efforts by the European and US governments’ financial meddlers. As we have observed time-after-time since the 2008 crisis, there is no economic downtick that is not simultaneously a call to action — a call to government action.

Regrettably, most of these government actions address symptoms rather than the disease itself. They “cure” gangrenous limbs with Lidocaine rather than amputations. As a result, a smattering of politically connected banks and corporations feel better, but the overall economy remains deathly ill.

The European interventions of the last two years tell the tale. Northern European taxpayers have sent hundreds of billions of euros to their southern neighbors, while the European Central Bank has printed more than €1 trillion and funneled most of that money to large European banks. As a result of all of these shenanigans, many large European banks feel much better. But millions of taxpayers are poorer… and the Greeks themselves are no better off.

In 2010, before the first bailout, the Greek government owed about €310 billion, all of it to banks and other members of the private sector. Today, a whopping 73 percent of Greek debt sits on the books of the European Central Bank, euro-area governments and the IMF. And by the time the EU and the IMF finish sending their bailout euros to Greece in 2015, Greek debt will total about €316 billion, close to 100% of which will be held by the ECB and other government agencies.

In other words, the Greek’s monstrous government debt load would be just as large in 2015 as it was in 2010. But government agencies would be on the hook for those debts instead of European banks and other private investors.

Is this really a remedy? If so, for whom?

This sort of remedy rewards imprudent banks, punishes taxpayers and condemns the Greeks to years of indentured servitude. And it probably condemns the entire European economy to a sustained period of slow-to-negative growth.

Unfortunately, while such governmental “do-gooding” almost always fails to restore health and viability to a sickly economy, it almost always succeeds in nourishing a lot of “do-badding.” By rewarding imprudence — over and over — government-sponsored bailouts encourage bad behavior…over and over.

Eric Fry
for The Daily Reckoning

How Bailouts Encourage Bad Behavior originally appeared in the Daily Reckoning. The Daily Reckoning, published by Agora Financial provides over 400,000 global readers economic news, market analysis, and contrarian investment ideas. Recently Agora Financial released a video titled "What Causes Gas Price to Increase?".

The seller in this case is very large and very sloppy, perhaps intentionally so. The buyer is also very large, but very patient and methodical. Trapped between these two powerful opposing market participants we find a “range-bound” gold market. Let’s take a closer peek at the curious goings-on…

Last Monday, a large early-morning sell order in the gold market whacked the price of the precious metal by about $15 in a matter of seconds.

“The CME Group Inc.’s Comex division recorded an unusually large transaction of 7,500 gold futures during one minute of trading at 8:31 a.m.,” The Wall Street Journal reported. “The sale took out blocks of bids as large as 84 contracts in one fell swoop and cut prices down to $1,648.80 a troy ounce [from $1,663.00]. The overall transaction was worth more than $1.24 billion.

“Gold traders buzzed with speculation that the transaction was an input error — a so-called ‘fat finger’ trade,” the Journal continued. “‘Or a Gold Finger as it might be known in the bullion market,’ traders at Citi joked in a note to clients.

“Still, not everyone agreed Monday’s slip in gold was caused by a keystroke error,” said the Journal. “Chuck Retzky, director of futures sales for Mizuho Securities USA, said that silver prices suffered a similar leg down at the same time as gold, tumbling 35 cents to $30.805 a troy ounce, but other markets like Treasurys, currencies and stocks were unperturbed. ‘To do it both in gold and silver tells me that it wasn’t a trade done in error,’ Retzky said.”

A second trader chimed in, “No one who has the account size and the money to trade thousands of gold contracts would do it in one transaction, that’s just stupid.”

Or maybe this “stupidity” was intentional, as the folks at ZeroHedge suspect. Again yesterday, a large 3,000-plus lot gold sell order hit the Comex overnight trading system around 1:30 AM, Chicago time — causing the gold price to quickly fall more than $5. “Volume that size is unusual for that time of the day on the COMEX,” ZeroHedge remarks.

A few hours later, shortly after the Comex opened the gold pits for the regular daytime trading, a couple of very large sell orders knocked $10 off the gold price in a matter of minutes.

These large, sloppy sell orders are no accident, ZeroHedge insists. They are simply some of the most flagrant examples of what could be market manipulation by Western central banks. ZeroHedge does not point fingers at any particular “fat finger,” but it does wonder aloud if the Bank for International Settlements (BIS) may be involved.

“[A few weeks ago],” says ZeroHedge, “somewhat tongue-in-cheekly, we presented the ‘people bringing you currency manipulation on a daily basis,’ or in other words, the BIS execution team for Europe’s central banks, which is most directly engaged in FX and precious metals ‘interventions’ when needed.

“The execution chain we presented was headed by one Richard Austin Jones, head of central bank services at BIS, Basel, yet more importantly the actual trader at the bottom of the totem pole was a Mikaël Charozé, whose various tasks included the ‘management of the liquidity for big amounts’ primarily interventions and portfolio diversification, as well as ‘holding and managing proprietary positions on all currencies including gold.’

“We posted this observation on April 5,” reports ZeroHedge. “Funny then that just 10 days later, one would never know that Mikaël no longer counts ‘holding and managing proprietary positions on all currencies including gold’ among his duties as well as task of ‘management of liquidity for big amounts including interventions.’ [I.e. the BIS Website removed all of this language from Mikaël’s job description]. In fact his entire profile, since our little humorous exposés, appears to have been rather completely altered. Inquiring minds would love to know: why?”

Why, indeed?

Many gold-market participants have long-suspected that Western central banks (and other agencies of currency debasement) conspire to suppress the gold price. According to this conspiracy theory, the central banks periodically pound on the gold price in order to prop up the value of the paper currencies they print.

But despite the anecdotal evidence supporting the conspiracy theory, no one has ever caught one of the conspirators in the act. Like Sasquatch, the conspirators leave lots of great, big footprints, but no one ever manages to trap them in their caves.

So maybe there are no conspirators, just lots of really stupid and sloppy gold sellers.

Meanwhile, the buy side of the gold market is much less mysterious.

“Earlier this month it was revealed that Hong Kong gold imports into China totaled nearly 40 tonnes in the month of February, representing a 13-fold increase over the same month last year.” Sprott Asset Management observes in its April letter. “China has now imported 436 tonnes of gold through Hong Kong over the past 8 months, compared with only 57 tonnes over the same 8 month-period a year earlier (July 2010-February 2011).”

In other words, on the other side of every sloppy gold sale by a BIS trader (or whomever) you are likely to find an eager Chinese buyer. The recent surge in Chinese buying represents a whopping 25% increase in total global investment demand for gold.

“There isn’t a physical market on earth that can withstand that type of demand increase without higher prices over the long run,” Sprott declares, “and the gold market is no different. There are no sellers of physical gold that we know of who can satiate that scale of new demand, and global gold mine supply has been virtually flat for over the last 10 years…Where is the gold going to come from? We ask because we don’t actually know.”

So there you have it…The invisible “fat fingers” are selling gold. The very visible Chinese are buying it. Place your bets!

Eric Fry
for The Daily Reckoning

China Buys Gold…No Matter Who’s Selling originally appeared in the Daily Reckoning. The Daily Reckoning, published by Agora Financial provides over 400,000 global readers economic news, market analysis, and contrarian investment ideas. Recently Agora Financial released a video titled "What Causes Gas Price to Increase?".

“During normal times,” we continued, “investors can focus only on buying quality stocks one by one from the bottom up, without also trying to envision what tragedies might befall them from the top down… But it may be time to begin imagining the unimaginable.

“It may be time, in other words, to begin considering that the next phase of the global monetary system might not include the US dollar as its reserve currency…or that the next two decades of life in America might not look anything like the last two decades.”

Here in the US of A, life is still pretty good, even if the economy isn’t perfect. A true crisis seems unimaginable. After all, even the 2008 crisis wasn’t that bad. Today, the Apple store in the mall is always packed, most of the restaurants in town are full…and the dollar is still strong enough to buy a nice vacation almost anywhere in the world.

A currency crisis that triggers an economic crisis — or vice versa — just feels like a bunch of wacky doom-and-gloom stuff. And it may well be. In the context of America’s legendary resilience and economic might, a catastrophic currency crisis seems almost unimaginable… But the time has arrived to begin imagining it…not because it is certain, but because it has become less unimaginable.

The best way to defend against a currency crisis is as obvious as it is emotionally difficult: Don’t hold the currency that is hurtling toward a crisis.

There is nothing mechanically difficult about this remedy, but it can be very difficult emotionally…and tactically. An individual who trades dollars for some sort of “safer” currency, for example, risks looking like a fool for a long period of time. Not even gold is a sure bet over short-to-medium-term timeframes. This safe-haven asset tumbled about 40% against the dollar during the 2008 crisis.

In short, being “safe” can sometimes feel very dangerous…and foolish. And no one wants to look as foolish as Noah building his Ark…unless, of course, it starts raining.

When the rain started falling on Brazil in 1990…or Thailand in 1997…or Russia in 1998, investors who had traded their local currencies for US dollars or gold were able to sail through the crises relatively unscathed. As their economies tumbled into deep recessions and asset values collapsed, the folks who had parked their wealth in dollars or gold were able to preserve their wealth…and also to take advantage of the resulting bargains.

But these folks had to be both forward-looking and patient if they were to succeed in protecting their wealth. Even so, their mission was infinitely easier than the one we Americans face today.

Throughout the serial currency crises of the last several decades, individuals everywhere throughout the world knew they could protect their wealth simply by trading their local currencies for US dollars. They didn’t even have to think about it. Just a wee bit of imagination enabled some investors to steer clear of these crises. The dollar was a sure thing.

But now that the “sure thing” itself is the thing that is becoming less sure, the appropriate course of action is very difficult to determine. Today, the looming potential crises are not unfolding in banana republics or in chronic economic basket cases, but in the world’s largest economies.

Investors required almost no imagination to envision the Argentine currency crisis of 2002. Argentina, Brazil and Russia all possessed a rich history of monetary incompetence and chicanery. Today, however, investors will require an imagination so vivid and wild that it would border on hallucinogenic. They must not merely imagine that an Argentina might have a currency crisis…again…but they must try to imagine that the euro might splinter apart…or that the dollar might suffer a disastrous hyperinflation.

If, in fact, the foundations supporting the dollar’s strength are eroding, how should the forward-looking dollar-holders protect themselves? Should they swap dollars for a few select foreign currencies? Maybe, but what if they select the wrong “select” currencies?

Singapore, Norway and Chile, to name just three examples, issue currencies that have been appreciating against the US dollar for many years. Broadly speaking, their currencies are strong because these nations operate in a much more fiscally responsible manner than the US government. Yet, when the euro crisis reached a boil last summer, the US dollar was still the world’s go-to currency. The Singapore dollar, Norwegian krone and Chilean peso all fell at least 10% against the US dollar.

All three of those currencies have since recovered most of their losses. But the point remains: Trying to preserve wealth by swapping US dollars for some other currency is a terrifying and risky quest…even if that strategy may be absolutely correct over the long run.

Eric Fry
for The Daily Reckoning

Preparing for a Lengthy and Unpredictable US Dollar Crisis originally appeared in the Daily Reckoning. The Daily Reckoning, published by Agora Financial provides over 400,000 global readers economic news, market analysis, and contrarian investment ideas. Recently Agora Financial released a video titled "What Causes Gas Price to Increase?".

Your California editor’s father turns 88 years old in one week, so your editor took the occasion to stop in and wish Dad an early Happy Birthday! But let’s not let these modest festivities stand in the way of our daily reckonings…

A few weeks back, your team here at The Daily Reckoning highlighted the groundbreaking work of Harry Browne, creator of the Permanent Portfolio.

“A few decades ago,” we remarked, “a guy named Harry Browne devised an investment strategy he dubbed the ‘Permanent Portfolio.’ The idea was so simple it seemed almost moronic. And yet, with the passage of time we have discovered that his idea was pure genius.

“He suggested building an investment portfolio out of only four components: gold, bonds, stocks and cash.

“The idea was that at any given time, two or three of these four components might underperform — but the other portfolio components would perform so strongly, you’d get an overall gain that would outpace any increase in the cost of living. Incredibly, this simple strategy has delivered some surprisingly strong investment results.”

After providing more detail about the history and underlying philosophy of the Permanent Portfolio, we invited our Dear Readers to ask themselves the following questions:

1) Is Harry Browne’s original allocation still ideal for today’s macro-economic environment?
2) If not, how would you revise his original allocation for the next 30 years?

We called this little exercise the Daily Reckoning Group Research Project and as usual, our Dear Readers responded with some fascinating suggestions.

Several readers struggled to comply with the rules of the Group Project. For example, some readers could not stop themselves from recommending specific companies; others argued that some of the very best Permanent Portfolio allocations do trade on a public exchange.

One such reader suggested buying grazing land as part of his Permanent Portfolio. Another recommended buying a house. And a third named potash as one of his allocations. We sympathize with these readers who “drew outside the lines.” The financial markets do not possess a monopoly on attractive investment opportunities. We also sympathize with those readers who could no longer stomach the idea of buying Treasury bonds as a “risk free” allocation.

“Mr. Browne’s formula was based on the idea of a functioning and fair government and not a criminal enterprise,” writes a reader named Kent. “I would bet he would eliminate most government bonds since today they really are nothing more than counterfeit and would substitute ammunition, food or fuel.”

A reader from Buenos Aires (not Joel) offers a similar observation. He points out that the Permanent Portfolio mutual fund (PRPFX) has held a large position in both US Treasuries and Swiss bonds. “[This allocation] has been great so far in this über bond bubble. But will it stand the test of time?… I looked at the permanent portfolio’s performance in this century, which yields an increase of about 130%… However, looking at its performance from 1996 to 2002 is quite disappointing. Moving around like a cork on the water’s surface, just bouncing around in the waves. It takes off in 2002, when Greenspan lit the fuse beneath the bond bubble. What will happen when the bond bubble ruptures?”

Not surprisingly, most of the folks who had no use for Treasuries had plenty of use for hard assets.

“Dear Harry (RIP). Things are different now while the dollar is dying,” writes a reader named Susan. “It’s all ‘risk on’ as the world hangs in the balance… You must have your own grocery store at home… I want to be able to put my hands on at least a few of the things I need. All the clouds out there storing my stuff for me make me very nervous and I hope to end up with more than vapor and fumes at the end of the day.”

“There might have been a time when the permanent portfolio idea may have worked,” writes a reader named Ken, “but I believe that time has passed, which is why we avoid most bonds and buy gold and silver.”

A reader named Carl concurs. “I do not believe in a ‘permanent’ portfolio,” he writes, “because things work in cycles as you surely know… We are in our sixties and plan to stay conservative and just continue to buy silver bullion each month (dollar cost average). We have had more than a few of our stocks go to zero but we know that gold and silver, especially today, will never even approach that point… Mundus vult decipi, ergo decipiatur. (‘The world wants to be deceived, so let it be deceived’)”

Hard assets were not the only crowd favorites, however. Many readers suggested investing in real estate investment trusts (REITs) and other types of high-dividend-paying stocks. Biotech stocks also seemed to be a favorite.

So without further ado, here is a sampling of the Permanent Portfolios you submitted in response to the latest Daily Reckoning Group Research Project…

Eric Fry
for The Daily Reckoning

Musings on the Work of Harry Browne originally appeared in the Daily Reckoning. The Daily Reckoning, published by Agora Financial provides over 400,000 global readers economic news, market analysis, and contrarian investment ideas. Recently Agora Financial released a video titled "What Causes Gas Price to Increase?".

Admittedly, this bull market is in its early stages. (Only a couple of American citizens, so far, have met their demise at the losing end of a killer-drone strike). But Lyster is formulating her view of the future by drawing trend-lines from the present — just like any forward-looking investor would do.

For example, the bull market in drone surveillance is already well established…and trending sharply higher. Likewise, the bull market in governmental intrusiveness is very robust…and trending sharply higher. Meanwhile, Constitutional rights and due process of law are slumping into a wretched bear market…and trending ever lower.

So if you get out your rulers and your #2 pencils and start drawing trend-lines, you won’t have to draw very far into the future until your lines intersect at the data point labeled, “Federal Agency Orders Drone Killing of Suspected Felon.”

In this mythological scenario, the “suspected felon” might be a derelict who had been running a meth lab next to an elementary school, in which case most folks would applaud a drone strike (without the hassle of a jury trial). But in the world that is coming our way, the suspected felon is just as likely to be a pig farmer who is raising “illegal” pigs.

Yes, it’s true, thanks to a new “Invasive Species Order” in the state of Michigan, numerous pig farmers have become potential felons. And the authorities are wasting no time bringing these outlaws to justice.

According to a story from NaturalNews, Michigan’s Department of Natural Resources “conducted two armed raids on pig farmers…one in Kalkaska County at Fife Lake and another in Cheboygan County…with the intent of shooting all the farmers’ pigs under a bizarre new ‘Invasive Species Order’ that has suddenly declared traditional livestock to be an invasive species.”

The Capital Account’s Lyster brought the story to our attention yesterday and, by a bizarre coincidence, your editor discovered shortly thereafter that his niece, Jennifer Fry, had covered the story earlier this week for the Pacific Legal Foundation.

Ms. Fry remarked:

Is it lawful to own a pig in Michigan? It depends what the pig looks like.

The Michigan Department of Natural Resources, a state administrative agency, has decided that certain breeds of swine must be eradicated in order to “stop the spread of feral swine and the disease risk they pose to humans, domestic pigs, and wildlife.” The problem is that, rather than focus on feral swine — the alleged source of the problem — the Department has issued an interpretive ruling so broad that any pig could qualify for destruction, including domestic farm animals.

Whether a pig is prohibited or not depends on eight physical characteristics, including the coloration of its bristles, coat coloration, underfur coloration, skeletal appearance, ear structure and “other characteristics not currently known to the [Department] that are identified by the scientific community.”

Rather than clarify the scope of this order, the Department has told individual farmers to bring in pictures of their pigs so the Department can decide, on a case-by-case basis, whether a pig must be destroyed. And any farmer found to possess a prohibited pig is subject to a felony conviction, two years in jail, and $20,000 in fines.

Mark Baker, an air force veteran and the owner of Bakers Green Acres Farm, filed a lawsuit challenging the Department’s order. Baker raises specific heritage breeds of hogs which he has chosen because they can withstand Michigan’s cold winters and because they are prized for their reddish-meat and high fat content by chefs and other gourmet food consumers. Now, because those breeds exhibit characteristics on the Department’s list, his entire operation is likely illegal under Michigan law; he expects the Department to show up at his farm any moment to destroy his animals and his livelihood.

Unsurprisingly, the Michigan Pork Producers Association — an organization whose members do not grow heritage pigs — supports the Department, which has allegedly assured the Association that its members’ operations will be exempt. It must be nice for large-scale producers who command enough political clout to simply outlaw their competition. Meanwhile, Mark Baker and other smaller-scale farmers must wait to see where the bureaucratic winds will blow.

As this episode highlights, administrative agencies constantly try to expand the scope of their jurisdiction to accumulate more and more power. Originally, Michigan’s Department of Natural Resources was limited to regulating hunting and fishing. Now, it points to certain state laws and executive orders as authorizing its “Invasive Species Order” to include hogs. Even though that order claims to exclude domestic hog production from its reach, it does not exclude those pigs, like Baker’s, which exhibit the characteristics on the Department’s list. According to State Senator Darwin Booher, this order threatens to shut down an estimated 2,000 small farms in his state.

At a time when more and more people are relying on government welfare programs, it is ironic and self-defeating that government should chose to undermine local economies and put self-sufficient farms out of business.

You see how easy it has become to be a felon? Almost anyone can do it…just by trying to run a business.

The saga of the felon pig-farmers is just one little piece of a very disturbing mosaic. The individual pieces differ, but together they form a horrifying image: Americans are forfeiting their personal liberties in the name of security and freedom.

The plight of the felon pig-farmers, therefore, is part of the very same trend that has spawned the bull market in drone surveillance. And as Lyster points out, the bull market in drone surveillance has also spawned a kind of educational “drone rush.” College kids want to hitch their wagons to this booming growth industry.

“As the US Federal Aviation Administration prepares to let civilian unmanned aircraft operate in domestic airspace,” Bloomberg News reports, “universities including Embry-Riddle have created majors in flying and building drones…The drone industry, estimated worldwide at $5.9 billion annually, will expand to $11.3 billion by 2021, according to a report last year by the Teal Group Corp. of Fairfax, Virginia, which analyzes the industry. It’s ‘been the most dynamic growth sector of the aerospace industry this decade,’ the firm said in the report…

“The FAA is scheduled to release proposed rules later this year for allowing small drones to operate commercially in the US without special permission,” Bloomberg News continues. “Unmanned aircraft could be used for photography, police surveillance and monitoring pipelines and power lines. US Customs and Border Protection has special permission to use drones.”

Sure they could…and they could also be used for targeting and “neutralizing” threats like:

1) Suspected feral pigs
2) Suspected feral pig farmers
3) Suspected terrorists
4) Probable future terrorists
5) Colombian prostitutes who may possess classified information
6) People who act like they are guilty of something
7) People who gaze nervously towards the heavens
People who have difficulty speaking English
9) Other people who annoy us

With such an array of potential uses, is it any wonder that college kids have identified drone-anything as a growth industry?

“I like to be on the cutting edge,” one aspiring drone undergrad told Bloomberg News. “I think it’s just the beginning.”

So do we…

Unfortunately, Dear Reader, our story does not end there…

In yesterday’s edition of the 5-Minute Forecast, our colleague, Dave Gonergan, led his readers on a chilling tour through the place formerly known as “The Land of the Free.”

Here are a few highlights:

In the spirit of Patriots’ Day — the 237th anniversary of the Battles of Lexington and Concord that launched the American Revolution — we inventory a series of recent outrages.

Every new automobile sold in the United States come 2015 must be equipped with a “black box,” under the same odious legislation that links your passport to your back taxes.

(It’s called the “Moving Ahead for Progress in the 21st Century Act,” or MAP-21 for short. Congressional aides get six-figure salaries to come up with this stuff.)

This way, if you’re involved in a crash, investigators will know, at minimum, the speed of the vehicles before impact… and whether everyone was wearing a seat belt.

“Coupled with GPS systems, the devices could provide the police with the ability to monitor private citizens’ movements in real-time,” says the law firm O’Reilly Collins in an analysis of the bill.

Want to just hide out in your home instead? Good luck. You always run the risk of police shooting your dog. That’s what happened to Michael Paxton of Austin, Texas, last weekend.

An officer was responding to a domestic disturbance call. “The 911 caller mistakenly gave the wrong address,” reports KVUE-TV. Paxton, getting something out of his truck parked in the driveway, had the ill fortune of being the first person the officer saw.

The officer gets out of his squad car with his gun drawn. First he tells Paxton to put his hands up. Then Paxton’s dog — a blue heeler named Cisco — comes out from the backyard. So the officer tells Paxton to control his dog.

Paxton, understandably reluctant to move his hands to perform that task, says frozen. Seconds later, Cisco lies in a pool of blood.

No one keeps national statistics of how often police shoot dogs. But “puppycide” is an almost daily fixture at the blog of Reason and Huffington Post writer Radley Balko. Records show one large Florida agency, the Broward County Sheriff’s Office, has shot five dogs so far this year, and 12 last year.

Remarkably, Mr. Paxton managed to avoid arrest for “disobeying a lawful order.” And because he kept his cool despite his instant grief, he also steered clear of “disorderly conduct.”

“Lucky” for him. Many of the accused inside the US criminal justice system discover that they are guilty until proven innocent…and are on the hook for the legal fees…even after proven innocent!

If you happen to run afoul of the law and for whatever reason cannot pay your fine, you run the risk of being thrown in a modern-day debtors’ prison.

Actually, you can be thrown in debtors’ prison even if you’re innocent.

“In some states, public defender, pretrial jail and other court fees can be assessed on individuals even when they are not convicted of any crime,” writes George Mason University economist Alex Tabarrok.

“Failure to pay criminal justice fees can result in revocation of an individual’s driver’s license, arrest and imprisonment.

“Many of these charges,” he goes on, “are not for any direct costs imposed by the criminal, but have been added as revenue enhancers.” In Pennsylvania, for instance, a $5 fee supports the County Probation Officers’ Firearms Training Fund, an $8 fee supports the Judicial Computer Project, and a $250 fee goes to the DNA Detection Fund.

And these are the outrages we’ve collected from the last three days alone.

“The state is always inclined toward oppression, division, conquest and bloodshed, because these are its tools of trade,” writes the Independent Institute’s Anthony Gregory in an essay marking a rather different anniversary. It’s titled “We’re All Branch Davidians Now.”

“In the 19 years since Waco,” writes Mr. Gregory, “we have seen the police state explode in every direction, and now we are all ensnared.

“The prisons have swollen to the largest detention system since Stalin’s gulags. The police conduct 3,000 SWAT raids a month. The war on terror has made a total mockery of what remained of the Fourth Amendment. Torture has lost its taboo. So has indefinite detention. The feds irradiate and molest airline passengers by the millions…

“Every major police department has tanks and battle rifles and drones that are being used for surveillance and God-knows-what else. Each federal department has enough firepower to conquer a small third-world country. The Department of Homeland Security, alone, has ordered enough ammo to shoot every American man, woman and child. The president claims the right to kill American citizens anywhere on the planet on his say-so alone. And he exercises that power.”

Which brings us all the way back to Lauren Lyster’s observation, “There’s a bull market in targeted killings.” But remember, this bull market is just getting underway. So there’s still time to get on the right side of this trade — the safe and sane side.

The government’s growing intrusiveness still seems relatively benign — if not absolutely appropriate and necessary — to most Americans. They don’t really care very much if the TSA gets a little too intimate with Granny or if Michigan’s Department of Natural Resources rolls Gatling guns into a few pig farms.

These are mere inconveniences in the crusade to “protect America.”

But step-by-step, government-intrusion-by-government-intrusion, we Americans are forfeiting our civil liberties in the name of freedom.

Today, the government is hunting down feral pigs. Tomorrow, the government’s drones may “go feral” and start hunting down US citizens…all in the name of liberty.

The state of Michigan considers feral pigs to be a dangerous “invasive species.” But America’s most dangerous invasive species are not pigs; they are the folks who decide which of your Constitutional rights are obstructing their lawless agendas. They are the folks who believe that shiny badges and well-pressed uniforms are an adequate substitute for due process of law. They are the folks who may soon monitor your behavior from a surveillance drone to determine if the route you take to work and the espresso drink you order from Starbucks are consistent with a “terrorist profile.”

They are the folks who aggressively compromise or confiscate your liberties while purporting to protect them…and these folks are not going away. Draw the trend-lines.

Regards,

Eric Fry
for The Daily Reckoning

Feral Drones…and Other Invasive Species originally appeared in the Daily Reckoning. The Daily Reckoning, published by Agora Financial provides over 400,000 global readers economic news, market analysis, and contrarian investment ideas. Recently Agora Financial released a video titled "What Causes Gas Price to Increase?".

More importantly, can we trust the derivatives markets? Or might they be toxic? Might they subject the financial markets to devastating side effects?

No one really knows…and since lab rats refuse to eat them, we must assess the risks of derivatives by relying on suppositions, theories and conjecture. Therefore, as a public service, your California editor will offer a few suppositions, theories and conjectures about the rapidly expanding derivatives markets.

The worldwide marketplace of financial derivatives is enormous. No one disputes that fact. But the potential destructive impact of these arcane, opaque securities is very much in dispute.

The apologists for financial derivatives usually say something like, “Sure, the derivatives markets are huge on a gross basis, but relatively small on a net basis.” According to this logic, a bank that purchased $1 trillion worth of Spanish interest rate swaps from one-party, but also sold $1 trillion worth of Spanish interest rate swaps to another party, has zero “net exposure.”

Mathematically, that statement is correct. Realistically, it is a delusion. If the financial markets should hit a pothole or two, that “zero net exposure” has the potential to behave a lot more like the $2 trillion of gross exposure. How could that happen? Very simple. One or more of the parties to these enormous transactions would have to renege on its obligations, thereby triggering a domino effect. Very simple…and not difficult to imagine.

In fact, we’ve already seen the trailer for this horror film. The bankruptcy of Lehman Brothers in 2008 was not only the demise of a prestigious investment bank, it was also the demise of a major counterparty to numerous derivatives contracts. Without Lehman, billions of dollars’ worth of “zero net exposure” suddenly became billions of dollars of plain, old exposure — i.e., unhedged risk.

But that’s when the US Treasury stepped into the path of the falling dominoes with trillions of dollars of newly printed cash and government guarantees. As a result, the dominoes did not merely stop falling, but Wall Street banks were also able to take their fallen dominoes to the Fed and trade them for cash. Pretty nifty, no?

But what happens next time? Will the US government’s power of credit and collusion be sufficient to prevent a disaster in the derivatives markets?

No one knows — least of all the folks who are sitting atop this big, steaming pile of risk exposure. Here’s a bit of background…

In the derivatives markets, the term, “net exposure,” conveys a sense of certainty and reliability — a sense of finely calibrated balance. In fact, “net exposure” more closely resembles the image of two drunks leaning against one another. The net balance between the two drunks is the only pertinent risk factor, the apologists argue. As long as the two drunks are leaning towards one another, the two of them can toss back as many tequila shots as they wish. On a “net basis,” they behave as if they are completely sober.

But what if one of the drunks should keel over backwards, instead of merely leaning toward his fellow drunk? “That won’t happen,” comes the practiced response from the derivatives industry. “That won’t happen. Don’t worry about it. The four largest banks operating in the derivatives markets maintain very manageable levels of net exposure.”

Your California editor is not convinced. He suspects these levels of net exposure are only manageable…until they aren’t. Furthermore, these exposures are growing rapidly. Since 2000, the notional value of US derivatives outstanding has multiplied ten times faster than world GDP. At last count, American banks had conjured more than $200 trillion of financial derivatives into existence, according to the Options Clearing Corporation — a staggering sum that is equal to roughly three times world GDP!

Even scarier, this mind-blowingly enormous pile of risk is highly concentrated inside the finance industry. A mere four banks hold 94% of all derivatives contracts outstanding. JP Morgan’s exposure, alone, is larger than the entire world’s GDP…while the gross exposures of Bank of America, Citigroup and Goldman Sachs do not trail very far behind.

The story becomes even more frightening when you take a closer look at what these “little derivatives are made of.” Snakes and snails and puppy dog tails would be an improvement.

“In its 2011 annual report,” reports James Grant, editor of Grant’s Interest Rate Observer, “J.P. Morgan Chase & Co. discloses that the great bulk of the bank’s [derivatives]…are classified as ‘level 2’ assets, i.e., they are valued, in part, by analogy.”

JP Morgan’s derivatives book is not unique. A whopping 97% of all derivatives trade “over-the-counter” where illiquidity and opacity are the norm. In other words, they do not trade on a public exchange where buyers and sellers continuously exchange cash for securities, thereby establishing real-world, real-time values for the securities they trade.

Let’s summarize:

1. Gross US derivatives exposure is more than three times world GDP.
2. Four banks hold nearly all of this risk. (And by the way, each of these four banks received billions of dollars from the Federal Reserve and Treasury four years ago to ensure their survival).
3. Almost none of these securities trade on a transparent, public exchange. Therefore, they are valued, as Jim Grant says, “by analogy.”

What could possibly go wrong?

To begin answering that question, let’s take a closer peek at JP Morgan’s exposure — specifically, the calculation of its “Derivative Receivables” relative to its tangible equity capital (TEC).

“Derivative Receivables” represents the money other folks owe to J.P. Morgan, based on the current pricing of the derivatives on JP Morgan’s books. These are Morgan’s “winning bets” in other words. But as every gambler knows, a winning bet is not automatically a moneymaker. You must also collect the bet from the loser. Thus, the “Receivables” line item on the balance sheet represents uncollected bets.

So, what would happen if a couple of the losers didn’t pay…just like Lehman Bros. didn’t pay its bets a few years ago? Would that be a problem? In a word: yes.

Obviously, the size of the problem would depend upon the size of the reneged bet or bets. So just for kicks, let’s imagine that almost everyone made good on their bets with J.P. Morgan. Let’s say that 19 out of 20 repaid their bets, while only one out of 20 refused to answer his phone.

If something like that occurred, Morgan would be short roughly $90 billion — a shortfall that would completely wipe out Morgan’s tangible equity capital. In other words, just one deadbeat gambler out of 20 could imperil the bank’s very existence. Morgan would be insolvent…at least until the Treasury and the Fed flew in their “financial medevac” choppers to airdrop billions of dollars onto the disaster scene.

We aren’t saying a disaster is likely to strike. We are merely saying that it is not unimaginable.

And here’s the really crazy thing; there aren’t even 20 gamblers in the derivatives markets to diversify the risks, there are only four that matter — all four of whom are also “the House.” In other words, because only four big banks hold 94% of the derivatives, they all owe money to each other in virtually incalculable ways.

Yes, they can each count the actual receivables and payables, but they still cannot quantify the “what ifs” they could ensue if one piece of this multi-trillion daisy-chain breaks down. “The high concentration of derivatives among the top four players,” warns Reggie Middleton of the Boombustblog, “strongly suggest that they may be subject to extreme levels of counterparty risk towards each other. JPM is the largest player in derivative markets accounting for approximately 40% of total notional value of derivatives in US. JPM’s notional value of derivatives as of March 31, 2009 stood at 39.0 times its total assets and 959 times its tangible equity.”

These spectacularly large data points concern us. Enormous, opaque and illiquid risk exposure is rarely a good thing.

That said, we would quickly add that we have no axe to grind with J.P. Morgan…or any of the other big banks. Maybe they are great banks in every way, maybe they aren’t. We have no idea. We are all about hating the sins, not the sinners. And we are concerned about the sizeable risks that linger just beneath the surface of the world’s financial markets.

Any fool can see that the four big derivatives banks should be dialing back their exposures before the next credit crisis, rather than necessitating the next mega-bailout. But Fed Chairman Bernanke is no fool. He’s got enough education and advanced degrees to understand that two drunks leaning against one another are actually “net sober.”

We aren’t that smart…and probably never will be.

Regards,

Eric J. Fry,
for The Daily Reckoning

“Net Sober” originally appeared in the Daily Reckoning. The Daily Reckoning, published by Agora Financial provides over 400,000 global readers economic news, market analysis, and contrarian investment ideas. Recently Agora Financial released a video titled "What Causes Gas Price to Increase?".

A resolved crisis is not supposed to feature soaring Spanish bond yields and rising credit-default swap prices. In fact, the squiggles on this chart below may be the most disturbing images to emerge from Spain since Salvador Dali’s melting clocks.

Less than two months after the financial leaders of the Western World — you know who you are — informed the rest of us that they had vanquished the euro crisis, it has flared up anew in the “peripheral” credit markets of Europe. Peripheral is the polite term for the P.I.I.G.S. nations of Portugal, Italy, Ireland Greece and Spain.

In Spain, the yield on 10-year government bonds jumped to nearly 6% Tuesday — the highest level since early December. Meanwhile, the price of insuring a 5-year Spanish government bond against a default (i.e. the 5-year CDS price), jumped to within a whisker of a new record high.

These are not the data points of confidence and comfort; these are the data points of resurgent distress. Bond yields don’t soar when investors trust the borrower; and default insurance doesn’t jump to near-record levels when investors are confident they will be repaid.

Bond yields and CDS prices are climbing throughout the financial markets of the peripheral European nations. Meanwhile, share prices on the European continent are tumbling. Despite a brisk start to the year, several European bourses have slipped into the red for 2012.

Perhaps this rocky price action reflects some “healthy” profit-taking and nothing more. On the other hand, healthy profit-taking can easily morph into a great big bear market when the underlying fundamentals are as suspect as the balance sheets of the PIIGS governments.

In other words, as we have mentioned more than once in this column, bankrupt entities tend to go bankrupt. So any time an investor lends money to an insolvent entity, he is playing a game of chicken…or as they would say in Spain, un juego del pollo.

Eric Fry
for The Daily Reckoning

Unsettling News on the Unresolved Eurozone Crisis originally appeared in the Daily Reckoning. The Daily Reckoning, published by Agora Financial provides over 400,000 global readers economic news, market analysis, and contrarian investment ideas. Recently Agora Financial released a video titled "What Causes Gas Price to Increase?".