Bernanke Looks to Spend Some More of Our Money

St Louis, Missouri- Good day… The dollar moved higher yesterday, as Fed Reserve Chairman Ben Bernanke urged Congress for another stimulus package. Yes, Bernanke wants to spend a few more of our taxpayer dollars to try and keep Wall Street afloat. "With the economy likely to be weak for several quarters, and with some risk of a protracted slowdown, consideration of a fiscal package by the Congress at this juncture seems appropriate," Bernanke told a congressional panel. Others at the Fed echoed Bernanke’s gloomy outlook, saying that the global credit crisis would chill U.S. economic growth well into next year.

Bernanke is looking to Congress to send out additional stimulus checks in the hope that they will ‘prime the pump’ and get U.S. consumers spending again. The government sent out about $100 billion in tax rebate checks over the summer to consumers, but consumer spending has struggled since then. Retail sales fell for three consecutive months through September. Bernanke says the moves to shore up the global financial systems seem to be working, but we now need to concentrate on getting the U.S. economy growing again. "The stabilization of the financial system, though an essential first step, will not quickly eliminate the challenges still faced by the broader economy," he said. The FOMC, which meets next week, is expected to lower U.S. interest rates to further stimulate the economy.

My thoughts yesterday were that Bernanke would have to come clean on the poor status of the economy, and that his ‘straight talk’ would force the dollar lower. But Bernanke threw a spanner in the works with his push for a new stimulus package. The prospect of a new government handout was enough to rally the dollar across the board, as it would have a positive short-term impact on the U.S. economy. But the markets continue to overlook the elephant in the room. Eventually, we are going to have to pay for all of this ‘stimulus’. Helicopter Ben is certainly living up to his old nickname!

And have you heard any mention of inflation from Bernanke and his compatriots lately? With the price of oil dropping back below $75 per barrel, inflation has been pushed back into the closet. Sure, the drop in oil has certainly helped ease consumer prices, but what about the unbelievable amount of money Bernanke and Paulson have thrown into the credit markets? This dramatic increase in money supply is pretty much the definition of inflation. I agree that a certain amount of ‘bailout’ was necessary, but taxpayer funded stimulus has become the drug of choice for this administration. Not only are U.S. taxpayers on the hook for all of the debt Paulson and Bernanke have created, but we are also going to pay for it with an eventual spike in inflation.

But as usual, the markets have a very short-term outlook – and the prospect of another stimulus package has the stock market rallying and the dollar moving up with it. Investor confidence has also been buoyed by a drop in the short-term Libor rates. This drop confirms that the central bank efforts are working to thaw out the recent freeze in short-term lending. And the efforts to shore up banks continue. Overnight, France announced that it would inject 10.5 billion euros into BNP Paribas, Societe Generale and four other domestic banks.

The Czech koruna slipped for a second day against the euro (EUR ) after Deputy Prime Minister Alexandr Vondra said he is uncertain whether the government will survive a no-confidence vote tomorrow. Hungary’s forint also fell to a two-year low versus the euro. The political uncertainty is weighing heavily on the Czech currency, but the odds are that the Czech government will survive the vote. The Czech currency also fell, as traders bet that the Prague-based central bank would lower interest rates at their meeting on November 6th. The eastern European currencies have been getting sold, as investors worry that the slowdown in western European economies will also impact growth rates in the eastern countries.

We were unable to sell the Icelandic krona from maturing Icelandic CDs yesterday, as we were told by our currency traders that there was ‘no bid’ for ISK in the markets. But hopefully this situation will improve, as the Icelandic central bank announced last night that it was close to finalizing a $6 billion IMF-led rescue package. The IMF is expected to provide about $1 billion in emergency cash for Iceland with the balance lent by Norway, Sweden and Denmark and additional money possibly coming from Russia and Japan. But Economists gave warning that $6 billion would not be sufficient to refloat Iceland’s devastated banking system because the Government needs so much foreign currency to buy basic supplies for Icelanders. We continue to work with our currency dealers to try and work out a solution for holders of this currency. I just hope the currency markets will open back up following the proposed IMF bailout.

I read a research report from Goldman Sachs yesterday that made a compelling argument for the currencies of South Africa (ZAR ), Mexico (MXN ), and Australia (AUD ). The report stated that these currencies are undervalued by more than 20%, based on inflation, productivity and terms of trade. These three have been the worst performers over the past month, with the rand falling nearly 25% versus the U.S. dollar and the others falling almost 20%. The currencies "offer considerable value from a medium-term perspective," Jens Nordvig, a Goldman strategist in New York, wrote in the research report. "Any evidence that currencies are becoming less closely linked to equity market trends would be an indication that valuation signals are closer to becoming important trading signals again." According to Nordvig, the South African rand is the cheapest, followed by the currencies of Norway (NOK ), Australia, and Mexico. All trade at discounts of more than 20% to both current and 12-month estimates.

Speaking of undervalued, have you seen the price of gold lately? It still doesn’t make sense to me, as our dealers continue to tell us they can’t get any ‘physical’ metals. The basic law of supply and demand tells me that if there is a shortage of metal in the markets the price should be moving higher. The prices of gold and silver look like excellent buying opportunities to take a position or average down on existing positions.

You can always find value in markets. Over the long-term, the best time to be buying is when everyone else is looking to sell. In my opinion, diversification of a portfolio into/across several different asset classes is the most important factor in reaching your financial goals. Investors need to set their emotions aside, and make investment decisions based on fundamentals. Staying focused on the long-term goal will help you avoid the pitfalls of short-term ’emotional’ trading, which typically locks in big losses.

Currencies today 10/21/08: A$ .6853, kiwi .6119, C$ .8292, euro 1.3208, sterling 1.698, Swiss .8679, ISK (No Quote), rand 10.33, krone 6.7084, SEK 7.5330, forint 207.52, zloty 2.7303, koruna 19.1385, yen 100.88, baht 34.41, sing 1.4813, HKD 7.7550, INR 49.09, China 6.8338, pesos 13.0438, BRL 2.1475, dollar index 83.52, Oil $73.50, Silver $9.815, and Gold… $777.66

That’s it for today… I’m a little worn out this morning as I was up late tiling my basement floor. My wife and I decided to finish out our basement a few months ago, and I decided to do much of the work myself. My wife suggested we hire a contractor to do most of the work, but I actually enjoy doing projects, so I convinced her to let me do a majority of the work. But this project (as many do) has turned into a much larger one than I had anticipated. After spending more than a full day at the office I hardly feel like heading downstairs to do ‘manual’ work on my hands and knees. With a big push tonight I should be done with the floor, but I’m finally starting to think my wife may be right when she keeps telling me to hire out the rest. I just hate to admit she was right (again!). Hope everyone has a Terrific Tuesday!!

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Chris Gaffney
October 21, 2008

The Daily Reckoning