Resorting to Zimbabwe Economics
Bill Clinton should have gone to the Alps. Instead, the poor man went to the piedmont…to the aid of his wife in South Carolina.
At the annual Davos, Switzerland conference of celebs, power-brokers and do-gooders, Clinton was always a hit. In Carolina, he was a flop.
If he’d been in Davos, he might have given the meeting some of the magic of the old days. Every year, the movers and shakers gather to tell each other how to make a better world. Most just blather in a way that began naively, early in their careers, soured into cynicism in middle age, and finally becomes merely stupid. Some probably still think they can improve things. A few probably succeed.
But this year’s meeting seems to have had a defeatist tone to it. Probably because the news was bad.
Last Sunday, it was discovered that a young man at an old bank had managed to get himself into $50 billion worth of positions – most of them losing positions. This was more than half of the value of all of France’s gold and currency reserves. It was more than the entire value that had been built up by the bank over decades. How could it happen? What was wrong? How could banks be so fragile…and what could you think of the whole world’s financial system when it was built with bricks that cracked up so readily?
When his bosses at Societe Generale found out what he was up to, they quickly tried to close his trades – on the worst trading day in recent memory. And when it was over, he had set a new record for this kind of thing, at more than two times the losses of Nick Leeson, who brought down the 200-year-old Barings Bank.
Asked his opinion, Leeson responded: “Haven’t they learned anything?”
Learning comes at a price. When markets are rising, nobody learns anything. It’s when they go wrong that people put on their thinking caps and take instruction.
And then, at Davos this weekend, up to the podium stepped Stephen Roach, acting like an old professor with an “I told you so” tone in his voice.
“If we had been running our economies the old-fashioned way, for example, where saving and consumption were funded by income, maybe we wouldn’t be in this mess we are in now.”
Roach went on to say that this mess “will dwarf the dotcom slump.”
As we’ve hinted, too, it is one thing to punish a few speculators with skin in the dotcom game. It is quite another to deliver a stern lesson to America’s entire middle class. The latter never liked school.
Spending on information technology was barely one sixth the spending on house building. But that’s only the beginning – because the dotcom bubble didn’t cause millions of householders to think they were a lot richer than they really were. It didn’t lead millions of families to borrow and spend far more than they could afford. And it didn’t entice bankers and investors into billions of dollars worth of losing positions.
Naturally, Mr. Roach’s words didn’t seem to lift the mood at Davos. And the news coming out of the U.S. economy does little to lift American consumers’ moods either.
On Friday, the Dow sank back 171 points. What happened to the rally, investors asked themselves? Hadn’t the Bernanke helicopter squadron just dropped rates 75 basis points? Aren’t they warming up the engines for another run this week?
Ah…yes. But only gold investors seemed to know what it meant. Dropping money from helicopters is unlikely to make an economy prosper. But it is very likely to make gold investors prosperous. Gold rose another $4.90 on Friday – to over $910 – a new record high. Commodities, generally, rose too, with the CRB index reaching 492…and oil once again over $90.
A word to the wise: you can’t really make people wealthy by resorting to “Zimbabwe economics.” A society grows rich by producing things…and saving money. There is no other way. Cheaper credit won’t do it. More consumption won’t help. Printing money – and dumping it from helicopters – is a losing proposition.
But we hope our financial authorities continue. At least it’s fun to watch.
*** A trillion here…a trillion there…pretty soon you’re talking real money.
U.S. stocks are down about 10% so far this year…that’s about $1.5 trillion lost. U.S. housing stock is said to be down about $2 trillion. And losses from subprime, credit cards, home equity lines, rogue traders…and hanky panky…probably add up to another trillion or so.
And let’s not forget the cost of the War Against Nobody in Particular – the war on terror…which costs a couple hundred billion.
And now, along comes…what’s this…a bi-partisan giveaway of tax rebates! Yes, it’s in today’s news. The Dems and the Reps have agreed to give taxpayers back some of their money. And Treasury secretary Paulson appeared in Congress telling them to get a move on. If they don’t get those checks out soon, it will be too late.
The pols are going to spend as much or more than ever. They were already running a $200 billion deficit…so they couldn’t possibly give money back. And many of these “rebates” are said to be going to people who never paid anything in the first place. Still, they’re going to send out 117 million checks at a cost of some $150 billion. This is Zimbabwe economics…if you don’t have money, just print it.
“Economic stimulus” they call it. But if they’re hoping to counteract the effect of trillions of dollars of lost wealth…they’re going to have to come up with more than $150 billion.
No, no…say the politicians. This stimulus is ‘targeted.’ It will go to people who are most likely to spend it. Yes, they will spend it at Wal-Mart…and at the gasoline pumps. The $150 billion will thus end up where the trillions that went before it ended up – in the pockets of Asians and Arabs. And yes, it will probably stimulate their economies.
And it might stimulate dollar holders all over the world to look for something else to put in their vaults.
*** “I was given last rites, twice,” said an old friend over the weekend. His hair had all fallen out…but he looked fairly good…almost stylish, with his bald head and hairless eyebrows. “The second time, I was unconscious. They thought I was dead. I probably thought I was dead too.”
Our friend had a tumor in his chest the size of a baseball. Figuring they had nothing to lose, the doctors hit him hard with chemotherapy.
“I thought I was a goner. They told me I only had about one chance in seven that the treatments would work. It’s a form of cancer that they don’t know very well; it’s fairly rare.
“It’s funny what you think of when you think you’re going to die. I thought of very practical things. I didn’t want to leave my financial affairs in a mess. So, I got everything sorted out in a few days. And I didn’t like to leave my kitchen the way it was. So I had the kitchen remodeled. Then, I guess I was ready to go. The family all came to see me. They all said goodbye. And, for a while, I was in such a fog from the treatment I actually thought I was dead.
“Then, miraculously, I began to feel better. I started to eat again. And when the doctors did a scan, they said the tumor had disappeared. It was as if I had died and been reborn. Most people are born only once and die only once. I felt like I had a new life.”
*** “Our school priest explained how he does marriage counseling,” began Henry. “He is very funny. He said he tries to throw a few banana peels in the path of the young couple….”
“Sounds rather unorthodox,” said Henry’s mother.
“He says that since so many marriages don’t last, he should test people out a bit and see if they are getting married for the right reason. One time he had a couple…and he figured that the woman didn’t really like the guy…she just wanted to marry him because he had a good name…’de’ something or other…she just liked him because he had a higher social status. Besides the guy was an alcoholic. So, he told them they shouldn’t get married. The guy said he was going to stop drinking after they got married. But the priest told him he had to stop drinking before they got married or he wouldn’t perform the ceremony.
“He said everyone got mad at him. The girl said she wanted to marry him even though he was an alcoholic. She and her family went to see the priest and they were all yelling at him. But he refused to marry them…and then, the guy decided that he didn’t want to get married anyway.”
The Daily Reckoning
Monday, January 28, 2008
The Daily Reckoning PRESENTS: Like a child begging his mom for a new toy, the U.S. economy is begging the government for a correction. Unfortunately, the Fed doesn’t want to give it what it wants. But, as Dan Amoss explains, that doesn’t mean you can’t stay financially happy, even while the economy pouts the whole car ride home. Read on…
SELL THE GARBAGE STOCKS SHORT
by Dan Amoss, CFA
2008 will be a good year for short sellers. The credit cycle is turning, and it threatens to bring consumption, also known as GDP, along with it. Nothing stirs up public fear quite like seeing sharp drops in house prices and the Dow Jones on the evening news.
Polls show that the economy is voters’ biggest concern, so politicians are itching to enact a “stimulus plan.” Such a plan will stimulate little besides political careers and consumer price inflation.
The brilliant government ideas don’t end with cash handouts, of course. A potential freeze in adjustable rate mortgages would also have consequences. It may soften the freefall in housing prices. But it would also scare off the timid bankers still bold enough to grant non-conforming mortgages. Any hopes of a recovery would be pushed years into the future.
The government is skating on thin ice in its proposals for outright property confiscation. By nullifying the legal contracts between borrower and lender, such a bailout would take property from fixed income investors who were expecting rising ARM payments to compensate for the extra risk in making the original loan. Fixed income investors – many of them foreigners – would lose a big chunk of interest payments. This would diminish the confidence foreigners have about their capital being safe in U.S. dollar assets. The Fed’s rate cutting activity doesn’t help either.
This type of political initiative strikes at the very heart of capitalism. It undermines the foundations of the United States as the safest, most attractive destination for international capital.
As my friend and colleague Dan Denning often writes, to have a healthy, advancing capitalist system, it’s important to have the freedom to succeed and the freedom to fail. Risk is being socialized in the United States, and foreign investors will notice.
In 2008, it will be hard to convince foreign creditors to hold their existing dollar assets, let alone buy more. The stock market is adjusting to this changing reality. A healthy dose of fear has returned. Investors are finally bothering to glance at the fundamentals in their stock portfolios and eliminating the garbage.
Computer hardware retailers will be at the top of the list of garbage stocks in 2008. The industry has a history of short booms and long busts that add up to a sea of red ink. A small company called Systemax may be the worst among this motley crew. I first wrote about Systemax in the February 2007 issue of Strategic Investment, describing it as a business that “requires constant reinvestment of capital into new inventory – inventory that grows more obsolete with each passing day.”
In the frenzied stock market environment of early 2007, I was amazed at how speculators bid up the stock of this second-rate company to a multiple of 70 to 80 times sustainable free cash flow. Systemax is barely profitable in the best of times. To top it off, reading Systemax’s financial statement footnotes and customer satisfaction ratings should convince investors that management has been using manufacturer rebates to artificially inflate sales and profits for years.
Regulators have not yet paid much attention to Systemax’s accounting shortcomings. But they are finally gaining attention from the mainstream media. The latest issue of Barron’s confirms my suspicions about Systemax’s business model and accounting.
In “Can This Tiger Keep Roaring?” Bill Alpert explains how complaints about rebate practices “fill Internet discussion forums, customer lawsuits and now, an active investigation by Florida’s attorney general… Systemax, however, has told investors nothing of this rebate ruckus. That’s a shame, given that those disputed rebates might partly account for the unusually fat gross-profit margins shown by the company: At 16%, the gross margins are four or five percentage points higher than those of peers like PC Mall (MALL) or Zones (ZONS).”
Most importantly, Barron’s discovered that Systemax has not told shareholders about the subpoena it received from Florida’s attorney general just a few weeks ago. Last Friday was the deadline for Systemax to respond to the subpoena, and as of today, the company has not issued a statement about it.
Systemax is the type of idea I’m looking for in Strategic Short Report. Traders are fleeing from stocks like Systemax – stocks that had been held up by momentum and hype. It’s a good time to be selling short and buying put options on the worst of the garbage stocks.
Dan Amoss, CFA
for The Daily Reckoning
P.S. You can find vulnerable stocks in all kinds of market environments. For instance, at Strategic Short Report, we regularly track industries notorious for never producing real profits. These include airlines, semiconductor capital equipment and computer hardware companies, specialty retailers, restaurant chains, and more. Investors here lose more often than they win…unless they play the other side.
Editor’s Note: Dan Amoss, CFA is managing editor for Strategic Investment and the new Strategic Short Report, and is a contributing editor for Whiskey & Gunpowder. Dan joined Agora Financial from Investment Counselors of Maryland, investment advisor for one of the top small-cap value mutual funds over the past 15 years.
Dan brings with him the unique experience of an institutional background and a drive to seek out the most attractive investments within favored “big picture” trends. He develops investment ideas for his readers with a global network of geopolitical and macroeconomic analysts. Dan holds the Chartered Financial Analyst designation, a professional designation widely recognized within the investment community.