Fall Like a U.S. Dollar, String Like a Bee

We’re on our way to Vancouver today…not much time to write. Besides it’s not easy to concentrate in an airport lounge. Too much going and coming. We get distracted.

What was interesting last week was the continued decline of the U.S. dollar. On Friday, it sank again…as gold shot up. It is impossible to predict what direction the buck will go this week; but if it continues to go down, the results could be unpleasant.

As we keep saying, we can’t predict the future…but it seems to us that investors greatly underestimate the risk in this market.

The Dow fell heavily on Friday. It’s near record levels – in every sense. If you’re looking for bargains, you will have trouble finding them. Everything is expensive.

We remind readers that the way to make money is to buy low and sell high. Doing it the other way around doesn’t work. Of course, you can also buy high and try to sell higher. But the higher you buy, the more downside risk you take on.

Our advice: Stick to the simple formula. Buy stocks when they are bargains. If they’re not bargains, don’t buy them.

And here’s another reason not to buy stocks: The dollar is falling. So far this year, investors have lost about 4.5% in dollar-based assets, compared to the euro. That effectively wipes out an entire year’s worth of earnings for Treasury bond investors, for example. The typical American barely notices; but the overseas speculator feels every slight drop in the dollar like a bee sting. And the risk to the world financial bubble is that he might go into shock.

Of course, a sudden rush out of the greenback has been a danger for years. Since it hasn’t happened yet, speculators believe it will never happen. Still, some are starting to wonder…

"Traders ask how low dollar can go," is the headline of an article on the subject in today’s Financial Times. Already at $1.38 against the euro…the paper cites a guess that it will go to $1.40 soon. We remember, we predicted that it would go to $1.50. Unfortunately, we made that prediction at least two years too early.

"At some point, the fall in the dollar will translate into foreign investors no longer buying U.S. assets and selling their existing holdings," said an expert who was willing to talk to the FT.

A falling dollar isn’t bad for everyone, though. It’s usually safe to say, when the dollar goes down, gold and silver go up. And investors have, historically, turned to precious metals as a hedge against the faltering U.S. currency. Our friends at EverBank offer a unique way to play this trend – their MarketSafe Silver CD.

This is one of the safest and most profitable ways to invest in this precious metal.

The United States has a huge annual current account deficit. Foreign investors cover it each year – buying U.S. treasuries and other American assets. Spectators – we among them – have been amazed at how much money they were willing to put into dollars. But there’s a limit to everything…and it’s not hard to imagine a change in attitude.

One thing is connected to another, of course. The whole Crack-Up Boom owes its existence to the willingness of complete strangers to finance America’s spending habits. Now, the crack up in subprime lending is reminding them that every asset with a dollar sign on it is not necessarily as child-safe or foolproof as it looks. And pity the poor speculator who borrowed yen, traded for dollars, and bought into Bear Stearns’ Leveraged Credit CDO fund. He’s been wiped several times over. Not only has his hedge fund account gone to zero…the yen has gone up too, giving him additional losses.

All over the Bubble Planet, people have made bets based on delicate guesses…about currencies…the Dow…interest rates…and credit quality. All it takes is one thing to go haywire…and pretty soon they’re all going haywire.

Whether this week they go further haywire or not…we’ll just have to wait to find out.

Bill Bonner
The Daily Reckoning
London, England
Monday, July 23, 2007

More news:

————–

Addison Wiggin, reporting from the Agora Financial Investment Symposium, in Vancouver…

"Here’s a trend that might be worth watching. ‘For the second consecutive month,’ reports the Free Market Investor’s Christopher Hancock. ‘China has been a net seller of U.S. securities.’

"China sold a net $6.6 billion of U.S. securities in May, after selling $5.8 billion in April. This is the first back-to-back sales of securities in these quantities since January and February 2004. And is evidence China may be diversifying its more than $1,300 billion in foreign reserves."

For the rest of this story, see today’s issue of The 5 Minute Forecast

————-–

And more thoughts…

*** The latest report from rural France:

"Yesterday," Sophia reported, "we went to church at Bourg Archambault. We got there and realized something special was up, because – out front – there were a bunch of old men carrying flags.

"It turned out that they were there to lay a wreath on the spot where some people were killed in WWII. It took us a while to figure it out, because no one explained what had happened.

"First, the priest ranted and raved…I mean, he was yelling.

"’We watch the television,’ he said. ‘We watch what is going on in Africa or in Iraq and we feel so smug. They aren’t civilized, we say to ourselves. They are killing each other…committing atrocities. Yes, it’s horrible.

"’Well, I’ve got news for you…we are just as savage as they are. Because right here in this little town, some people did terrible things…just as bad as they do in Africa or anywhere else. And these people were our own neighbors and our own relatives.

"’We’re here today to remember those who were victims of this barbarity.’

"Then, after the service," Sophia continued, "the old guys with the flags marched down the hill, into a little valley next to town, and put their wreath down.

"I still didn’t know what it was all about, so I asked Pierre – you know, the one who was a colonel in the French Army. He said that once, a group of people who were operating as the Resistance rounded up some people in town and took them down and machine gunned them. But he said that these people – the killers – weren’t really resistance fighters; they were just thieves and brigands…and they weren’t even French.

"He said he actually saw them when he was a child. They were from Russia, supposedly, and since Russia was allied with the Free French during the war, somehow these guys escaped from a German prisoner of war camp in France – or something like that – and hooked up with the Resistance.

"But these were bad guys. Pierre said they weren’t really even Russian. They were from Turkmenistan…and they killed these people here because they wouldn’t pay them protection money. No one is too sure exactly what happened – but that was the way it was in France during WWII.

"He also said that you should count yourselves lucky when you know who your enemy is. The French didn’t know…after Petain made peace with the Germans, the French fleet was attacked by the English. It made a lot of French people think that they were better off with the Germans. It was very confusing.

"Then Pierre and another guy I didn’t know got into an argument about it. The other guy said that the people who were shot might have been collaborators. Pierre got really mad, because he said they were not.

"I thought it was kind of funny…I mean kind of strange…that after all this time people still don’t know who was killed or why…and that they’re still arguing about it."

*** "What separates civilized human beings from Barbarians?" Henry was reciting a joke he heard at the office in London:

"The English Channel."

The Daily Reckoning PRESENTS: This week, The Mogambo looks at the stock market, and upon hearing about margin debt, consequently chokes on his own tongue. Fortunately, he is able to compose himself, and give yet another rant on the insane creation of money and credit by the Fed. Read on…

PRICES BENEFIT FROM SPOOKED SHORTS

Why are the stock markets and bond markets rising? For the only reason that there is: Because there are more buyers than sellers! Hahahaha!

Okay, I am sorry about laughing, but if I may be so bold as to make a suggestion, perhaps your question would have been better phrased as, "Where are the buyers getting the money to buy all of this stock and bond madness and act like a bunch of morons?"

If that had been your question, I could have saved us both a lot of time by merely sending you to Online.wsj.com, which reports that, "’Margin Debt’ Hits Record $353 Billion on NYSE", which means that, "Investors are borrowing record sums of money to finance trades on the New York Stock Exchange."

How much money? The Journal continues, "So-called margin debt, a broad measure of leverage, jumped 11% to $353 billion at the NYSE in May, up from nearly $318 billion in April."

The news that margin debt increased 11% in one month, to a new record, so surprised and alarmed me that I accidentally swallowed my tongue in horror! But, thankfully, it turned out to be okay, since it was soon forced back up by my reflexively puking up blood at the sheer horror of so much speculative debt.

And broker-dealers suddenly find themselves with more money, too, as from Jim Grant’s Interest Rate Observer we learn that thanks to the new regulatory system for broker-dealers called Consolidated Supervised Entity, "the broker-dealers (in voluntary fashion) are implementing the risk-based capital rules known in the trade as Basel II.

"The liberating feature of Basel II", he continues, "is that the financial institutions to which it applies may hold more assets per dollar of equity capital than they previously could – provided that a ratings agency judges the assets to be top-flight."

By this time I am so bored by one more story of one more bunch of sleazy operators in cahoots with corrupt regulatory supervision that I am thinking "Yadda yadda yadda" and trying to stick my pencil in the ceiling just to keep from nodding off. I was yanked back to cruel reality when Mr. Grant said. "Specifically, under Basel II, a broker-dealer must set aside just 56 cents in capital to hold US$100 of triple-A-rated securitizations." Yow! Fifty-six lousy cents?

Shocked, I am too, too, too nonplussed to comment, so I turn to Junior Mogambo Ranger (JMR) Phil S., who says that only putting up 56 cents to hold $100 in assets seems a bit much, as "That is 1/18th of the 10% stock margin equity required in 1929"!! Hahaha! The exclamation points were added by me, utilizing my awesome editing powers ("If there is nobody here to stop me by force, I can do whatever I want") to add that essential Mogambo Stylistic Flourish (MSF) to give it the dramatic emphasis that it truly deserves.

And the stock market may be going up because there is a huge, towering overhang of short interest, and if there is one trick that the sharks of Wall Street reliably pull to eat their fill when short interest expands like this, it is by suddenly running the market sharply up and squeezing the shorts, who buy in a panic to cover their enormous short positions and to keep from losing more money if the stock price continues to rise, making prices go up even more, spooking more shorts, who then buy to cover, making prices go up some more, spooking more shorts.

And a lot of buying is resulting from lots of foreign investment money coming here, too, as an FT.com article quotes Alan Ruskin, chief international strategist at RBD Greenwich Capital as saying "One reason why the dollar has responded in such a negative fashion is that corporate bond inflows have made up half of the current account financing in the past year."

In fact, he says, "In the 12 months to April, the US received $509bn in corporate bond investment inflows that helped finance the current account deficit." Half a trillion a year!

And the market is also going up because the Plunge Protection Team and the entire rest of the governments, banks and financial services industry are busily intervening in the marketplace, desperately trying to keep stock, bond and housing prices up and rising.

And they can intervene with good effect at those times when prices have been recently down, and the charts of the market price start hitting the lower bound of their up-trend channels, making technical traders get nervous that prices will fall some more to penetrate the lower channel, meaning that lower prices lie ahead and now is a good time to sell!

But nowadays (just in time, every time!), the markets suddenly turn around, bounce off of the lower bound of the channel, which is a bullish signal, and the technical traders launch into "buy mode"! Mission accomplished!

But the real reason that markets are going so bizarrely up is because excess money and credit are constantly being created around the world, by central banks around the world, and thus money supplies around the world are expanding at double digit rates around the world, and all this new money has to go somewhere, or why would anyone borrow it in the first place?

And it is going into stock markets, and bond markets, and housing markets and commodities markets around the world, driving up (by bidding up) the prices of everything. How far away from "price stability" can you get before you just say "Ugh!"?

Until next week,

The Mogambo Guru
for The Daily Reckoning
July 23, 2007

Mogambo sez: I suggest that you take the time to buy some gold bullion, silver bullion and some oil stocks, and when I get back you can tell me all about how much money you made, and all the silly, selfish crap you want to buy with the gains, which always seems to put people in a really, really good mood!

Editor’s Note: Richard Daughty is general partner and COO for Smith Consultant Group, serving the financial and medical communities, and the editor of The Mogambo Guru economic newsletter – an avocational exercise to heap disrespect on those who desperately deserve it.