Set Up to Fail

The Daily Reckoning – Weekend Edition
March 24-25, 2007
Baltimore, Maryland
by Kate "Short Fuse" Incontrera

VIEWS FROM THE FUSE: SET UP TO FAIL

Moving stinks. Who likes all the packing… organizing… repainting… and fumes from oven-cleaner?

Even more dreaded than moving yourself: helping others move. Unfortunately, if you’re a male with arms and legs or any sort of truck, there is pretty much no way to avoid it (luckily, your editor has three younger brothers and is small enough to always be put on ‘guarding the U-Haul duty’).

Unfortunately, the ‘too short and weak’ excuse didn’t fly recently – we were recruited to help some friends organize their house for a big move from their apartment into their first home. But, early this morning, we received a call from our friend telling us to not come over, as it looked like they might not be closing on their dream house after all.

Apparently, their loan, that they had been told was a done-deal, had fallen apart. As it turns out, their subprime lender, buckled under the burden of failed loans and a shortage of cash, and joined the other 44 lenders that have folded since late 2006.

More and more Americans are failing to keep up with their mortgage payments, finding themselves stuck in loans whose costs keep rising. As foreclosures and loan defaults rise, the subprime lenders are finding themselves strapped for cash…and being forced to shut their doors.

But this has hardly caused mainstream economists and the mass media to furrow their brows. A headline in yesterday’s Baltimore Sun read, "Subprime Damage is Called Limited."

Roger Cole, director of the Fed’s Division of Banking Supervision and Regulation (sounds like a fun job), told Congress on Thursday, "At this time, we are not observing spillover effects from the problems in the subprime market to the traditional mortgage portfolios or, more generally, to the safety and soundness of the banking system."

Okay…let’s check out the facts. The piece reports, "about 14 percent of subprime mortgages are 60 or more days past due" and "lenders currently have $1.28 trillion in subprime loans outstanding."

That sounds like more than "limited damage" to us. Not to mention the fact that close to 2 million of those loans’ interest rates are going to reset in the next two years…do they really think that people who didn’t have money to put down in the first place are going to be able to afford noticeably higher payments. We wouldn’t count on it.

But that’s the thing about bubbles – they all burst. Has everyone forgotten about the tech meltdown seven years ago?

Well, Morgan Stanley’s Stephen Roach certainly hasn’t. And we’ll leave you with his much more succinct analysis:

"The bursting of two bubbles seven years apart – dot-com and housing – holds the key to the macro outlook. While different in many respects, these sharp swings in asset markets share one thing in common – the initial belief that any spillovers would be limited and that the rest of the economy and financial markets would remain unscathed. Just as that view turned out to be wrong in the early 2000s, I fear a similar outcome today.

"… a post-bubble macro contagion that could end up being a good deal worse over the next year than it was seven years ago. What’s especially worrisome about the current situation is that real GDP growth has already slowed to just 2% over the past three quarters – far short of the 3.7% annualized pace of the previous three years. Yet this downshift is largely an outgrowth of a steep recession in homebuilding activity, together with collateral impacts of a recent downtrend in business capital spending. By contrast, the American consumer has barely flinched, with average gains of 3.2% in real consumption since mid-2006 representing only a modest downshift from the astonishing 3.7% growth trend of the past decade. Should the consumer move into a more meaningful period of consolidation – precisely the risk as equity extraction from residential property now slows in a post-housing-bubble climate – then macro contagion could become an increasingly serious problem.

"Given the likelihood of meaningful consumer spillovers, I would place about a 40% probability on an outright recession scenario in late 2007 and early 2008.

"It would take a Volcker-like toughness to bring this insidious process to an end. Yet both Greenspan and Bernanke seem to be cut from a very different cloth."

Short Fuse
The Daily Reckoning

— The Daily Reckoning Book of the Week —

Demise of the Dollar…and why it’s great for your investments
by Addison Wiggin

The DR’s own Addison Wiggin spent over a week in the #1 slot on Amazon’s bestseller list – knocking Harry Potter to number two. He then showed up on Barnes and Noble’s bestseller list and debuted on The Wall Street Journal’s Business bestseller list at #8!

The logical next step was for the book to get on the New York Times bestseller list…which it did, sitting strongly at #5!

The Demise of the Dollar examines the reasons for the dollar’s slide – including the nation’s historic trade deficit, the euro, government spending habits, globalization, and other international factors – and offers an up-close look at the Federal Reserve’s attempts to "manage" the dollar’s value.

To purchase your copy, see:

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THIS WEEK in THE DAILY RECKONING: Missed an issue of The Daily Reckoning this week? No worries – we have them catalogued for you, below…

300 Cretins       03/23/07
by Bill Bonner

"It takes a great deal of courage to stand with only 300 men against 100,000. However, unlike the Spartans at the Battle of Thermopylae, the small group of men who goaded President Bush into Iraq did so at no great personal sacrifice. As Bill Bonner explains, it is the common man who will suffer the greatest sacrifice of this War on Terror. Read on…"

Filtering Out the Noise     03/22/07
by Kevin Kerr

"When looking at the commodities market, it’s hard to decipher what is critical information, and what is just media fluff. Below, Kevin Kerr explains how to tune out the noisy chatter – and zero-in on the significant data from news and media outlets…"

The Coming of the Second Wave    03/21/07
by Mike "Mish" Shedlock

"Serious housing declines mirror very closely the life cycle of tsunamis. Their initial impact on land is often a wave trough as opposed to a wave crest… with most of the damage yet to come. And that is how housing markets typically crash. Read on…"

An Unprecedented Speculative Spree   03/20/07
by Dr. Kurt Richebächer

"Last year set new records everywhere: records in stock prices, records in mergers and acquisitions, records in private equity deals, record-low spreads, record-low volatility. Manifestly, there is not the slightest check on borrowing for financial speculation. Dr. Richebächer wonders, what can stop this speculative binge? Read on…"

Mexican Jumping Oil      03/19/07
by The Mogambo Guru

"First the tortilla crisis, now this? Oh Mexico…if only you hadn’t put all your eggs in one chalupa. This week, the Mogambo Guru examines the Mexican peak oil crisis, and (in perfect Spanish) explains why depending on oil exports for 40% of your revenue is "no bueno". Read on…"

FLOTSAM AND JETSAM:

Fill ‘Er Up…Fast
by Kevin Kerr

Another week of subprime selling in the broader market was initially pushing down commodity prices, but only initially. Suddenly, after several weeks of difficult trading over in RTA, we are seeing a lot of what we predicted coming true. Certain commodities are performing just as we expected them to, especially the cattle market, which is falling apart rather rapidly.

Gold and silver have gained quite nicely in the last few sessions, especially because of all of the inflation data coming out. It seems as though inflation is a problem after all. Of course, if you’ve been to a grocery store or gas station lately, you know this.

I drove by the Mobil near my home and the price had jumped about 40 cents in two weeks. Looking at this week’s EIA numbers, we see refinery runs are down and gasoline supply is already being impacted… it could be a very long summer, indeed. Here on the East Coast, the calendar says March 16, but there is a foot of snow falling outside my window. All of this bodes very poorly for the summer driving season. The less time refineries have to switch over from making heating oil to making gasoline, the more they will be behind the eight ball with gas supplies. Now a new weather concern is also raising eyebrows in the oil patch.

NOAA predicts that La Nina, evil sister to El Nino, will produce weather patterns in the Gulf Coast that could ramp up the number of hurricanes that hit the region. Any direct hit in the Gulf can always have a devastating impact. The losses are massive, not only in terms of the individual people whose lives are destroyed, which is the most tragic, but also to the energy and agriculture industries.

Drilling platforms, refineries, shipping terminals, pipelines, etc. are all impacted when a direct storm hits and refining and production grinds to a halt.

This is already driving prices higher in anticipation of more demand and possibly less supply. It’s still a little early to be worrying about hurricanes, but the reality is they will be here sooner than we think.

Speaking of being here sooner than we think… Have you registered to come meet Byron and me at the Agora Wealth Symposium? Forget about just seeing Byron and me, the event is in Vancouver, British Columbia, and some of the top financial analysts, traders and countless others will be there… and did I mention it’s in Vancouver? I really hope you can join us this year. For all the info call 1-800-926-6575 for further details.

With gas prices set to soar this summer, Byron and I will be bringing you some good trades to take advantage of it. I know Byron has some strong opinions on the subject, and I will discuss them with him when I see him next week.

Meanwhile, one of the most common questions I get is if I had to pick one trade, what market do I like the best for 2007? It would have to be orange juice right now. November OJ, in my estimation, is setting up for a major rally as more and more bullish news pours in. And surprisingly, the options are still relatively cheap. I just bought some more of the November 220 calls in OJ and I feel pretty good about that trade, and we still have all of summer hurricane season to go.

P.S In Outstanding Investments and Resource Trader Alert, we often write about the most profitable ways to play the commodities and natural resource markets – and our readers have been quite pleased with the results. That’s why we’ve decided to package all of our commodity-related publications together in one easy package so you can effortlessly take advantage of the next leg of the massive commodity super boom.

For a very limited time, you can get what we are calling the "Resource Reserve" for a ridiculously low price. But act now – this offer is only open to a limited number of people…and spaces are filling up fast.

Editor’s Note: Kevin Kerr is the editor of two highly successful and acclaimed financial advisory newsletters, Resource Trader Alert and Outstanding Investments. A veteran commodities trader, Kevin uses his irreplaceable experience to advise his readers on a variety of commodities investments on a daily basis. Widely considered one of the nation’s top commodities gurus, Kevin’s expert opinions are routinely featured in the country’s premier media outlets.

The above was taken from Kevin’s soon-to-be-released book, A Maniac Commodity Trader’s Guide to Making a Fortune. In the book, Kevin dispels the common myths and misconceptions about these markets, offering an insider’s view of what he calls "the last bastion of pure capitalism on Earth." Whether you’re a novice or an experienced trader, Kevin’s down-to-earth, clear-cut guidance will make you more savvy, more confident, and more able to jump right in and grab those profit opportunities that are waiting for you. The book is available for pre-sale here:

A Maniac Commodity Trader’s Guide to Making a Fortune