Market Review: Legacy of the Hairy Brutes

"Free trade must be fair trade, and we will work to ensure that American manufacturers and workers compete on a level playing field."

— Carlos Gutierrez, U.S. Commerce Secretary April 4, 2005

In Wednesday’s edition of the Rude Awakening, we brought to your attention the plight of the Neanderthals.

To our satisfaction, we beat our favorite magazine to the punch with this one – the Economist published this story today. Such are the advantages of daily web-based publications like ours. But we digress…

The Neanderthals became extinct some 30,000 years ago, we reported, usurped by Homo Sapiens. According to the, it was Homo Sapiens’s propensity for free trade that may have been the decisive factor.

Last week, the Bush administration published figures showing that imports of cotton clothing in the first quarter of 2005 had blown away all previous records. In some cases, imports were up 1,500% from the same quarter a year ago.

"The Neanderthals are incensed," we wrote. "One group of primitive cave dwellers has already asked Washington to enact combative legislation."

So it is with utter dismay that we report to you today, dear reader, that the Neanderthals have gotten their way. A process to impose import quotas on shirts, trousers and underwear from China has already begun in Washington, reports the New York Times.

"In an abrupt policy reversal, the Commerce Department said it would begin an investigation into the need to re-impose trade quotas that were lifted just three months ago on a wide variety of Chinese apparel," they wrote.

"Free trade must be fair trade"

We repeat this ludicrous example of Carlos Gutierrez’s Orwellian double-speak for emphasis.

Hirsute brutes like Carlos Gutierrez think government intervention is the only way to free trade. This primitive bone rattling and chest pounding is proof to us that the Neanderthals still have no idea what free trade is, nor fair trade.

Is it fair that we, the consumer, should have to pay higher prices for our boxer shorts just because the savages want to protect an inefficient industry?

"Imposing new quotas is just going to impose a hidden tax on consumers," said Eric Autor, vice president of international trade at the National Federation of Retailers.

Of course, we sympathize with the 17,000 textile workers that have already lost their jobs this year…the National Council of Textile Organizations says 17 textile mills have already closed since January 1, 2005. However, it should also be pointed out that China is still only the 13th-largest supplier of cotton trousers to the U.S., and its gains have largely come at the expense of other low-cost producers like Mexico, Nicaragua and Honduras, claims Mr. Autor.

We conclude our argument with the words of economist Michael A. Heilperin, delivered in 1952…

"It is an elementary, but often forgotten, knowledge that policies of national governments have always been the principle obstacle to economic relations between people living in various countries, and that whenever these relations were free from government restrictions, equilibrium and balanced growth would follow by virtue of the spontaneous and anonymous mechanism of the market."


Tom Dyson,
The Daily Reckoning

April 10, 2005 — Baltimore, Maryland

P.S. This reader comment just landed in our inbox: "I was amazed and very upset at your redneck article "Backstabbed". Just for the record, I am not a Canadian. This type of ugly American type thinking is what makes America despised in Europe and elsewhere. Get some maturity and stop printing nonsense like this"

Bravo! This is exactly our point. We are pro-free trade and despise the U.S. government’s market meddling. "Backstabbed" is exactly the type of Neanderthal opinion so pervasive in Washington, and we wished to both highlight it and help you profit from it.

This is what we propose:

— Daily Reckoning Book Of The Week —

Becoming Rich: The Wealth-Building Secrets Of The World’s Most Successful Investors

By Mark Tier

Twenty years ago, Mark Tier himself had lost so much money in the markets he quit investing entirely. Only after he discovered these winning investment habits and strategies did he go back into the markets.

The result: someone who used to be (in his own words) "the world’s worst investor" quit working seven years ago and now lives entirely from his investment profits.

THIS WEEK in THE DAILY RECKONING: Our usual smorgasbord of editorial…there’s oil, world improvers, a piece on commodities by Jim Rogers and even a look at the way George Soros’s "Theory of Reflexivity" can help improve your trading immediately…

By Bill Bonner
"The path that led America to its place as the biggest debtor…biggest consumer…and most meddling military in the world was not forged alone. But, as Bill Bonner points out, there is one world improver who stands out among the crowd…"

By Dan Denning
"Energy is the dominant story of the month. It’s hard to ignore when crude futures are setting new highs daily – and there’s more than just rising commodity prices and a
falling dollar to explain oil’s rise…"

By Mark Tier
"George Soros believes that everyone’s view of the world is ‘somehow flawed or distorted,’ and Mark Tier shows us how Soros turned that realization into a powerful investment tool. Read on…"

By Jim Rogers
"Investors tend to steer clear of the commodities market, saying that it’s just ‘too risky.’ But, as Jim Rogers points out, there has been more volatility in the NASDAQ in recent years than in any commodities index…"

By The Mogambo Guru
"There are many things that astound The Mighty Mogambo…one that gets him really scratching his head is why people continue to buy the ever-rising U.S. debt? Isn’t that something an intelligent person would avoid?

FLOTSAM AND JETSAM: "The risks undertaken by the GSEs, if not properly managed, may pose a threat to their solvency, the stability of other financial institutions and the strength of our economy." – John Snow, April 7, 2005.

Ummm…you mean like an explosion, violent enough to remove airplanes from the sky, John?

By Dan Denning

"But housing activity is red hot," I’m often told, usually with annoyance, by someone who’s read my ideas about America’s mortgage/housing bubble. Red hot, indeed. But so was the hold of the French freighter Grandcamp, which smoldered in the harbor of Texas City on April 16, 1947.

That accident at Texas City was not the result of a refinery running 24/7 at breakneck capacity with no time for repairs or for any downtime whatsoever. The Grandcamp was piled high with ammonium nitrate fertilizer. At a little after 9:12 in the morning, after the hold had been sealed and the firemen evacuated, 3,100 tons of ammonium nitrate blew up, raining debris on Texas City, causing a 15-foot tidal wave in the rest of the harbor and knocking two airplanes out of the sky.

Which brings me to Fannie Mae, Freddie Mac, and derivatives.

You might have heard the news that Freddie Mac reported a 42% drop in 2004 profits. Freddie managed to lose $4.5 billion on its derivatives portfolio alone – you know, the one designed to protect the value of Freddie’s mortgage assets when interest rates are volatile. Overall, net income fell from $6.68 per share in 2003 to $3.78 per share last year. Analysts were expecting $6.87 per share.

Why the lofty expectations? Who knows? Freddie hasn’t been current in any of its financial reporting since 2003, when it had to restate earnings by $5 billion after confessing it managed earnings, although whether that was to smooth earnings out to please Wall Street or to meet executive bonus targets…no court has yet said.

Either way, something is smoldering in the mortgage-lending market, and the heart of fire is on the balance sheets of Freddie Mac and Fannie Mae. Fannie is not without troubles of its own. The stock itself is violating a 10-year upward trend and moving toward a serious breakdown.

Will Fannie’s breakdown and Freddie’s earnings crackup lead to a wider fall in mortgage-lending and homebuilding stocks? It wouldn’t be at all surprising. The chart below shows the performance of the Philadelphia Housing Sector Index (HGX) and Countrywide Financial (CFC), one of the nation’s largest residential mortgage lenders. Hello housing bubble!

There are other mortgage lenders, of course. But the big ones are Fannie and Freddie, although they are secondary mortgage lenders, buying up the mortgages issued by the likes of CFC, a primary mortgage lender. These three stocks are all excellent put buying opportunities as the story plays itself out. But don’t forget the homebuilders.

The HGX is made up of 21 of the largest homebuilding stocks on the market. It includes the top five: Pulte Homes (PHM), D.R. Horton (DHI), Lennar (LEN), Centex (CTX), and KB Home (KBH). As an options trader, I’d look at all six stocks, HGX plus the big five, as opportunities for leveraged profit as the bubble bursts.

But if you’re not into leveraged profits, sit back and enjoy the spectacle. Don’t get too comfortable, though. Many institutions – banks, pension funds, and even foreign central banks – own GSE-backed bonds. The fire is smoldering.

Good Weekend,

Dan Denning


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