Our Financial System is in Uncharted Waters

Uncharted Waters

By Editors Doug Hornig and Bud Conrad, The Casey Report

These are uncharted waters, indeed. The shenanigans being foisted upon us by Washington are unprecedented at least since World War II, and probably ever. There is so much complexity, if not sheer trickery, going on that it becomes increasingly difficult to make any sense of what’s happening, much less what the net effect is going to be.

Nevertheless, we must try.

As always, the first line of inquiry should be directed at the data, for the raw numbers tell us things that our politicians will reveal only reluctantly, if at all.

Let’s first take a look at what didn’t happen: Casey Research Chief Economist Bud Conrad has been scrunching the numbers to distill the bigger picture. Over the past four months, American banks have received massive amounts of bailout money, ostensibly to unfreeze the credit market and enable the banks to lend money again. That it didn’t work is obvious from a couple of charts. Here’s Bud’s first chart.

Banks Cash
Banks Cash

Note that banks’ cash assets rose by over a half-trillion dollars in just two and a half months. That’s primarily the money (ours) that was handed over to them via the Federal Reserve. Did it go to a socially useful purpose? Mmmm… no. In actuality, we got scammed.

Here’s how the scam operated: the Treasury borrowed our dollars via the sale of Treasury notes and deposited the cash at the Fed. The Fed used the money to relieve banks of their most toxic liabilities. But instead of lending it, the banks simply bought more Treasuries, thereby polishing up their balance sheets. This is made starkly evident by Bud’s second chart, where you can see that cash was being hoarded even as lending declined.

Banks Increased Cash
Banks Increased Cash

The net result of this asset shuffling is that the Treasury (that’s us) incurred more debt, the Fed absorbed all manner of toxic waste for which it may not get 10 cents on the dollar, and the banks wound up with many more bucks and much less junk, leaving them sitting pretty and chuckling all the way to… well, to the bank.

These were not small-potatoes moves, either. Check out Chart 3 below.

Trillion Dollar debt added in 3 months
Trillion Dollar debt added in 3 months

That bears repeating. The Treasury Department, on our behalf, nicked us for a cool trillion in three months. Never been done before.

And remember, over the same period, the Fed was bloating its balance sheet with financial garbage to the same trillion-dollar tune. Chart 4 shows the path of the reverse meteor.

Reserve Bank Credit
Reserve Bank Credit

As badly as it’s behaved at times, the Fed hasn’t done anything remotely like this in all its checkered 95-year history.

What’s our point? Simply this: delicate financial balances are quickly falling into imbalance. Responses of gargantuan size have merely served to keep the system from collapsing and have barely begun to improve it. Thus, the situation is not yet stabilized. There will be new surprise problems, and bigger responses, for the foreseeable future. Of that we can be certain. And collectively, all the government’s responses will inevitably have a negative effect on the value of the U.S. dollar.

With all these momentous forces at play, it’s understandable that you would feel small and powerless. Obviously, you can’t fight City Hall. But are there ways to play along with it? Is it possible to survive, and even prosper, while the economy heads for hell in a handbasket?

Yes… but you must look behind the headlines, learn to follow locked-in trends, and develop the foresight to invest counter to what the herd may be doing. The Casey Report brings you opportunities to accomplish just that.

In these times of crisis and extremely volatile markets, the trend can truly be your friend… if you recognize it in time to profit while the investing masses are still oblivious. Month after month, The Casey Report scrutinizes and analyzes emerging trends – a strategy that has been providing our subscribers with double- and triple-digit returns. Learn more here.

The Battle is On: Inflation vs. Deflation

The battle rages over whether we can expect inflation or deflation; and naturally your investment decisions will be proven correct or incorrect based on which wins the battle or maybe the war.

The same people who have argued whether the dollar is going up or down, oil is going up or down and gold’s direction are arguing over the result of the Federal Reserve’s actions causing inflation or deflation.

Here is a guest editorial from very sharp guy at Casey Research, Bud Conrad. Bud is their chief economist and was the first person I heard the recommendation from to short MBIA, Ambac and the banking sector. Very profitable trades those were.

Here’s Bud:

Battle of the Flations

By Bud Conrad

Chief Economist, The Casey Report

One of the most hotly debated topics among financial talking heads these days is, “Deflation or inflation, what is it going to be?”

There is no question that we are currently experiencing asset price deflation and economic slowing. But we, the editors of The Casey Report, see this as a transitional phase. In our analysis, the truly extraordinary and historic levels of government spending and bailouts being deployed to keep the economy afloat are certain to lead to inflation in the not-too-distant future.

While our long-term view remains solidly in the inflation camp, over the past four months, the U.S.’s financial problems have caused deflation in many important asset classes. Put another way, a reduction in asset prices amounting to about $14 trillion (in housing, equities, etc.) is bigger than the government’s countervailing actions of around $3 trillion — the total, so far, arrived at by combining the measures taken by the Fed with the federal government bailouts.

But there are important differences between a sharp collapse in asset prices and the potentially leveraged stimulus packages.

The Fed’s actions, if taken in normal times, would be multiplied throughout the banking system as banks used the new money to increase their lending and, in so doing, leveraged the funds throughout the entire economy. This time around, however, while the Fed has been extremely accommodating to the banks, even going so far as to make direct loans to them, the effect is moderated. That’s because of tighter lending standards, the need to replenish capital, and the demise of many complex structures, which were previously available for securitizing and selling loans on to others.

As a result, the banking system as a whole is not responding to the stimulus. It can be thought of as pushing on a string. Simply, as large as the stimulus has been to date, it has not yet been enough to offset the effects of the economic collapse. The resulting deflationary pressure increases concern over a downward spiral in the economy.

Another way to view this is that consumers and businesses alike are now anticipating deflation, which makes saving and survival the primary goal (in an inflation, spending becomes the primary goal, unloading the money before it can lose value). Of course, a cutback in spending and demand drives down the price of things, at least temporarily.

But the longer-term expectation is that Bernanke’s assertion – an assertion now backed up by action – that the government can and will print new money to any extent needed is the more important force.

As long as there is evidence of serious economic collapse, it can be expected that the bailout programs will be ratcheted up. And, to the extent that the public expects deflation – and so businesses reduce prices to raise cash and reduce inventories – the wave of price inflation experienced in the spring of 2008 will be moderated. But within the seeds of that positive are the very big negatives that the government, seeing that its extraordinary money creation is not being evidenced in rising prices, will be emboldened to go even further.

This is of great importance because, unlike in the 1930s, there is no limitation on what the government can do, because there is no gold standard to enforce monetary discipline. Instead, the world is afloat on a sea of massive new government spending and credit facilities. After a lag, the stimulus will perform the expected actions of reinstating credit and debasing the currency. But never lose sight of the fact that the government is creating money out of thin air. Some call it bailouts, we would call it legal counterfeiting on an epic scale.

In the New Deal, FDR created the FDIC and guaranteed bank deposits, set minimum bank deposit rates, and brought the discount rate to almost 0%. He cut the dollar/gold exchange rate from $20.67 to $35 and confiscated gold; i.e., devalued the dollar by 40%.

While the beginning of the collapse from too much credit was parallel to the previous experience of the depression, the response today is different. The size of the monetary stimulus and the risk to the dollar from foreign holders — who can also see the implications of the out-of-control deficits — strongly argue for a return to inflation much sooner.

How much sooner? Impossible to say, but remember: deflationary or inflationary fears are not the independent agent that will determine whether or not we will see inflation (though, in the intervening phase, they will certainly be an important economic driver). The Federal Reserve is throwing everything it can at the financial markets to fight deflation. As you can see in the chart below, the Fed has doubled the size of its balance sheet since September.

On December 16, the Fed cut interest rates to a range of between a quarter of a point and zero. That is lower than ever in the 94 years of their existence. And they promised in the accompanying announcement to provide additional funds to “stimulate the economy through open market operations and other measures that sustain the size of the Federal Reserve’s balance sheet at a high level… the Federal Reserve will purchase large quantities of agency debt and mortgage-backed securities to provide support to the mortgage and housing markets.”

At this time individuals and companies alike are sensing deflation and, as a result, are raising cash… in the process deleveraging the extreme debt loads. That is causing downward pressure on asset prices and, soon, a serious contraction in the economy as more and more companies lay off workers and cancel spending. This will not be a happy holiday season. And it will be a long-term recession and maybe even a protracted depression.

But the fact of the extraordinary deficit spending is there for all to see and, over time, more and more will see it. And, more to the point, understand it. In fact, thanks to the Internet and always-there financial media, the shift in sentiment can happen almost on a dime. Slowly at first, and then faster, fears over inflation will return, but this time they will be well founded.

The economic downturn could be protracted, but that does not mean that the deflation will be protracted. Instead, once we are through this phase, we expect to see poor economic conditions, but against a backdrop of rising inflation. Stagflation is a word that remains in our vocabulary.

Inflation or deflation – whatever the current market trend, there is a way to play it. Every crisis contains opportunity as well as danger… and many of those who manage to mitigate the risk and grab the opportunity have made a fortune in times like these.

Making the trend your friend and riding the market “riptides” that can lead to exceptional returns in the double, triple or even quadruple digits is easier than you think… with a little help from experts who have been correctly predicting – and profiting from — these riptides for years. Learn more here.

Lost Principles in Economically Uncertain Times

Lost Principles

By Olivier Garret

CEO, Casey Research

As the economic crisis continues to unfold, recently a sense of uncertainty has begun to pervade the market. Even dyed-in-the-wool risk takers admit that they don’t know what to think anymore. Inflation, deflation, recession or depression – there are so many vagaries that it appears to be anyone’s guess what will happen next.

Despite the current, volatile environment, though, our expert team at Casey Research maintain their core prediction: that a highly inflationary cycle is not far off. While we, along with several external experts, continuously review our assumptions and conclusions and encourage dissenting opinions and analysis to avoid biased conclusions, so far we keep returning to our views about what’s coming. That said, the hardest thing to predict is not what will happen, but when.

The way I see it, the swift, far-reaching and mostly ill-conceived reactions from most of the world’s governments under the leadership of two apprentice sorcerers (Bernanke and Paulson) have until now resulted in a widespread run for an exit to nowhere, a deep credit freeze, and total and indiscriminate mistrust in the market and all of its players.

The fact remains that in the last year, many principles that have long been rooted in the success of capitalism have been thrown out of the window.

  • First, market players discovered that the longest-lasting asset bubble in recent history was made possible by poor regulations (as opposed to lack thereof), greed, and the misunderstood and misrepresented risks of credit derivatives.
  • Second, we found out the real meaning of “too big to fail.” If a business is large enough and has enough clout, it doesn’t matter how poorly managed it has been, it will be bailed out at the expense of taxpayers (us) and investors (us again).
  • Third, we found that the rating systems the financial markets had been relying on have been misleading investors and failing to identify some of the riskiest asset classes. As a result, investors and all other economic agents are left with no means of evaluating risk as they conduct business, hence the credit freeze and rush to cash.
  • Fourth, to add to the confusion, the U.S. Fed and Treasury, followed by many other central banks, have been altering the rules of the game by the minute (buying toxic waste at face value, bailing out certain financial institutions but not others, becoming shareholders of several behemoths in the banking and insurance industry, and trumping all accepted rules of creditors’ and stakeholders’ priority, prohibiting the shorting of certain classes of assets on a moment’s notice).
  • Last but not least, the U.S. presidency, weakened by almost eight years of mismanagement, has continued to show total lack of leadership. It has empowered a couple of technocrats to run the country’s finances without leadership until a new administration gets in and, hopefully quickly, figures out what to do. To make matters worse, the EU has shown its ugliest face and demonstrated a fact we all truly knew but didn’t want to recognize until recently — that economic unity and coordination is easy in good times but almost impossible when the going gets tough.

No wonder economic actors are wreaking havoc as they race for shelter.

Add to this the fact that all natural resources have been hammered by the combination of a credit freeze and lower real and anticipated demand from most industrial nations.

Finally, junior exploration stocks – being very thinly traded and rightfully considered to be in a higher risk class — have been hammered twice as hard as the rest of the markets (hence the performance of the TSX-V, which has lost 76% in the last year and 30% in the past 30 days alone). The fact that many hedge funds had to unwind large positions in such a small market certainly did not help values.

What does this mean for investors in this market?

We all have suffered significant losses in our portfolios, and although our choices may have reduced some of the downside, quality companies have been hit almost as hard as fly-by-night juniors with no future.

Several of our companies are trading at or below cash value and get no goodwill for the significant assets and outstanding management teams they have assembled.

Although there is no way to tell when we will hit a bottom in these markets, we believe that once tax-loss selling season is over and reality settles in, we will see the beginning of a slow recovery process for the best of the juniors. Investors who have the ability to stay the course and are invested in the highest-quality juniors will recover from their losses and benefit from what will eventually be another bull market in commodities.

Precious metals and agriculture, followed by certain segments of the energy sector, will lead the way to widespread price increases across the range of commodities. While we can’t predict the exact timing of this run, the fundamentals are in place once the world economies take a turn for the better or at least stabilize somewhat.

Here is why:

  • The current crisis is taking tremendous amounts of needed capacity off the supply pipeline. Whether it be energy, base metals, or agricultural goods, projects to bring online expensive oilfields and alternative fuel sources are being shelved and will take years to get back on track. Mines are closing and projects are being canceled, thereby removing much of the supply; the credit squeeze is cutting down on agricultural investment, and working capital constraints will dramatically limit supply.
  • The world’s demographics are not changing, nor are the aspirations of a hard-working, fast-growing middle class in emerging economies. The changes that drove commodity markets up for the last few years are long lasting and real.
  • Peak Oil and peak-everything. There is limited supply for many commodities, and although there are alternatives (curbing consumption and finding alternative sources of energy), it takes large investments to do so. In current markets, many of these investments are going to be put aside until the next crisis/shortage hits – at which point we will have years of a commodities bull run before an equilibrium is reached.
  • We anticipate that China, Russia, and India will take advantage of low commodity prices to secure very large, long-term supply commitments while the Western world licks its wounds and tries to recover. By the time we do, an even larger portion of the world’s available resources may no longer be available on the markets, for example oil and gas.

In the last edition of Casey Energy Opportunities, Marin Katusa pondered how the U.S. is going to replace the supply of uranium when the HEU program with Russia is set to expire in 2013. The answer is that the U.S. will struggle to replace 40% of its needs, and this will benefit a handful of U.S. suppliers with proven reserves. Currently shares of these companies, which have the cash to develop resources or are already producing with positive cash flows, are incredibly cheap – a win-win situation. Eventually similar opportunities will come from copper and strategic metals.

  • We can expect the world to continue to be a very unstable place, where regional conflicts can quickly spread and spin out of control, with obvious impact on the smooth supply of key commodities (Gulf region, Nigeria, former Soviet republics, to name a few). In fact, a widespread financial crisis could precipitate those events as conflicts are often linked to economic hardship.
  • The unprecedented deficits, a wave of bailouts, and growth in the money creation by central banks in the Western world will eventually lead to massive inflation. In the U.S. alone, the monetary supply has increased by 50% since early September. This will unequivocally reverse the current short-term deflationary pressures and lead to a steep devaluation of the dollar and other major currencies. At that point, precious metals and all tangible assets are poised for a strong recovery.

So, if you ask me if I am still bullish on the resource sector, my answer yes, now more than ever. Juniors are juniors, and when things go wrong, they get beaten down. The strong ones with great teams and lots of cash will survive and prosper, the others will disappear. When commodities come back with a vengeance, there will be fewer companies, almost all with good projects… and those who are invested in these few companies will see a very sizeable appreciation of their capital as the broader public returns.

It’s very hard to be a contrarian investor, especially when all forces seem to be against you, but one thing the markets have taught me is that memory on the Street is unbelievably short, and they will come back.

***

Not only is the economy presently going haywire, there’s also still the boogeyman of Peak Oil looming on the horizon. While oil prices are at a low not seen for a while, it is all but certain that this sweet relief for motorists won’t last very long.

When oil prices come roaring back, the energy market will virtually explode… and,  if you are safely positioned in the right stocks by then, your bank account will too. Learn more about how being a contrarian investor can earn you a fortune – click here.

Jim Rogers Sees Lower U.S. Dollar

JIm Rogers the international commodities guru living in Singapore has made it clear that he feels the ultimate direction of the U.S. Dollar is DOWN.

This really doesn’t come as a surprise to any thinking person what with the Treasury and the Fed intervening everywhere they can:

There is no such thing as markets, only interventions

is becoming truer everyday. You don’t dare short a doomed, poorly run, highly leveraged, gambling company for fear that come Sunday the government will inject BILLIONS into that sinking ship and buoy the stock price and wipe away your profits.

Facing questions from Ron Paul a few days ago, Helo Ben Bernanke sidestepped Congressman Paul’s questions about gold and stated simply that the dollar has been doing pretty well lately.

Well, a person who jumps out of an airplane at 20,000 feet without a parachute does just fine for 19,999.99 feet. After that it gets a bit messy though.

Once the unwinding and deleveraging are done, how can the dollar stand?

It wasn’t that long ago that a TRILLION dollars was almost considered an infinite number. Now we stand to run a deficit that high next year alone.

And how about all of those talking heads blasting the “whackos” who predicted that this bailout could ultimately reach $2 Trillion? After all, our guv’ment bureaucraps were predicting only about $500 Billion. How could they be wrong?

Guess what? It has now come to the $2 Trillion dollar mark and I don’t see anyone arguing against that number.

Do they think money is free? For the time being maybe.

Jim Rogers can stay solvent in the face of irrationality longer than you or I; but he KNOWS that all of this funny money will eventually come home to roost by way of a MUCH lower U.S. Dollar.

After all, how can America ever hope to repay this debt without seriously devaluing first?

Jim Rogers is still in commodities, agriculture (people need to eat), and other short dollar investments. He has stated flat out that the U.S. Dollar stands to lose its reserve status currency. Maybe not tomorrow, but sooner than Washington will allow you to believe.

Got Gold? See Big Gold from Casey Research.

What’s Up Doc – by Bud Conrad

What’s Up, Doc?

By Bud Conrad
Chief Economist, Casey Research
The Casey Report

Under Bernanke’s direction, the Federal Reserve has completely rewritten its mission. Many articles in the International Speculator and The Casey Report have reported the strange growth in the loans they have made and explained that Bernanke has, for a long time, espoused unconventional actions to avert deflation and to expand the economy. So the charts below tell that story, and it is truly amazing.

The Federal Reserve was never envisioned to be lender of last resort to a whole slew of investment banks, money market mutual funds, and commercial paper issuers.

The situation is not easy to sort out, for the simple reason that the extent of their actions is not presented by the Fed via clear and concise data. Instead, the data is complex and hard to analyze, partly because of the piecemeal way the actions were taken, but also probably due to a desire by the Fed to avoid public scrutiny and criticism.

Digging into the details of the Fed’s balance sheet reveals, however, the complete change of composition and direction of the Fed. The most obvious change is that they have doubled the size of their assets and liabilities. A year ago, the Fed’s assets consisted almost entirely of government Treasuries and a little gold.

That is a clean, safe balance sheet.

The only important liability was the currency they issued (our paper dollars). They also had a small reserve of deposits from all the banks. When Greenspan wanted to give the economy a boost by lowering short-term interest rates, he would create some money and buy Treasuries. He could also do the reverse.

Bernanke has turned this upside down. Initially he made focused loans to big banks. But then the loans became bigger than the reserve deposits, leaving the banks in total as net borrowers. The concept of a fractional reserve no longer applies when the reserve is net negative.

To fund yet more loans, Bernanke then sold off half of the Fed’s Treasuries. And he traded Treasuries for toxic waste of poor-quality mortgage-backed securities. And he encumbered half of the remaining Treasuries with “off balance sheet” swaps of about $220 billion. (Does this sound like Enron accounting?) The balance sheet started with $800 billion of mostly reliable assets and now has about $250 billion of unencumbered Treasuries.

The biggest source of funding is from the Treasury. Banks are leaving deposits in the Fed now that the Fed is paying interest.

The important conclusion is that the paper dollars are now issued by a far less soundly structured Fed, an organization that is more interested in bailing out the financial community than defending the dollar.

This chart below compares last year’s assets, which were mostly Treasuries, to this year’s twice-as-large and far more questionable mix:

The other side of the balance sheet shows that the Fed has borrowed and taken in deposits to fund the loans that are as big as the issuance of currency. In effect, the Fed has doubled its footprint and doubled its responsibilities. Mostly under the covers, they added almost $1 trillion new credit to the financial world in about two months.

There are additional important Fed actions not included in their balance sheet. For example, they invented a Money Market Investor Funding Facility (MMIF) to guarantee up to 90% of $600 billion of loans to that sector. They do this through special-purpose vehicles established by the private sector (PSPVs). The latest Commercial Paper Funding Facility (CPFF) started October 27 and has issued $143 billion so far. These are both in addition to the Asset-Backed Commercial Paper Money Market Mutual Fund Liquidity Facility initiated September 19. The programs are beyond keeping up with.

Nothing like this has ever been done before by the Federal Reserve. In time, the consequences in terms of confidence in the dollar will be bad.

Bud Conrad is the chief economist of Casey Research, LLC., providing fiercely independent analysis and investment recommendations for subscribers in the U.S., Canada, and over 150 other countries around the world.

Powerful forces are at work in the economy; a global tidal wave of bank failures, credit crises, and sky-high debt. The central banks of the world may not be able to stave off what’s coming — but you can protect yourself and profit… by catching one of the massive market riptides Casey Research identifies every month in The Casey Report. Don’t miss the lifeboat that can take you to financial safety. Learn more here.

Unintended Consequences

Unintended Consequences

By David Galland

Managing Editor

The Casey Report

As you may know, here at Casey Research we are not optimistic about the outlook for real estate, that lynchpin of the U.S. economy. This pessimism is evoked by a number of factors, starting with the simple fact that residential housing increased by about 50% between 1992 and 2007, massively outpacing population and income growth over the period. As you absolutely know, much of that excess inventory is in the hands of individuals who simply can’t afford to pay the freight.

Then there is our hardened belief that the equivalent of an express train wreck is about to happen in the 4 – 6 trillion dollar U.S. commercial real estate market. There will be a lot less in the way of Ho! Ho! Ho! this holiday shopping season, and a lot more Oh… Oh… Oh’s.

And none of it is helped by the inevitable rise in interest rates, which are today at near 50-year lows. While we might not be quite at the bottom, we’re close… after which we expect a persistent rise as the government bailouts flow through the inflationary pipeline. Of course, wounded housing markets react about as well to rising interest rates as I do to the prospect of my taxes going up in the next administration.

Unfortunately for the housing market and by extension the U.S. economy, we are already seeing the ghosts of what’s to come. This just in from Bud Conrad…

The U.S. government’s conservator status of Fannie and Freddie was supposed to lower mortgage rates, which it did for a few weeks. But we have now started to see the unintended consequences of guaranteeing the banks – namely that investors are moving away from housing-related debt and investing it in bank debt instead, pushing mortgage rates up. My sense is that movement by foreigners away from agency (Fannie Freddie) debt contributed to the half-point rise in mortgage rate, too. The TIC data confirm that shift.

The result is that housing will be further hurt with the higher rates and will continue to fall in price.

On the same topic, the news is out this morning that in September, single-family home starts in the U.S. fell to the lowest level in 26 years. Just 544,000 new homes would be built over the next 12 months (if the trend were to stabilize here, which it won’t).

Just so you have the right perspective, at the peak of the bubble, annualized housing starts in the U.S. were running at 2,265,000 units, so we’re seeing about a 75% decrease.

By the time this is over, it wouldn’t surprise me to see housing starts fall to 10% of the peak.

Of course, housing is far more than just “another” economic stat. In addition to the tragic financial and emotional implications of coming up short on the mortgage on a personal and even societal basis, there are the direct consequences to the broader economy. No more excess equity to borrow against to fund shopping sprees, and none to allow for a comfortable retirement for far too many.

This is, and will continue to be, a big problem for the economy. While there is no soft solution at this point, the best we could hope for is that the damage will be quick to come and quick to pass. But the only real way for that to happen is for house prices to fall to the point where ready buyers are available. And that entails workouts between lenders and borrowers, or outright foreclosures, to clean up the mess and allow the market to function as it certainly can, and will again… if left to its own devices.

Unfortunately, the plans now being bandied about by the government envision pretty much the polar opposite of letting the market clean itself up. Rather, they involve taxpayers buying defaulting mortgages and even the imposition of a moratorium of some duration on foreclosures. Most people read news such as that and shrug it off. It may help to view these ideas through a narrower spectrum.

For example, imagine you are the president of a small bank and you had lent money in good faith to someone in the neighborhood. We’ll call him Joe as that seems to be a popular name for these sorts of examples these days.

For reasons only known to him, Joe has stopped paying on his mortgage, leaving your little bank on the hook for $200,000. Following procedure, you have Mrs. Smith down in the lending department send Joe a nice letter asking him what’s up, to which she receives no response. So you personally send him another letter, this one offering to have him down to the bank to have a chat and see if you can work things out.

No response, no money.

So, uncomfortable at having to perform the duty, you give Joe a call and he admits he is in over his head. When you offer to help him work out a payment plan, he calls you a blood sucker and hangs up on you.

Pained by the outcome of your loan, because you’d rather be getting paid back on the agreed-upon terms, you call up your lawyer and reluctantly authorize the expense of beginning the foreclosure proceeding. At that point, you know you will likely spend thousands and the better part of a year trying to get back your property (and it is your property). But what choice are you left with?

And then you hear – as does Joe – that Congress is seriously considering passing a moratorium on foreclosures, and you reach into the locked drawer of your desk for the flask you keep there for such occasions. Joe, meantime, heads down to the local deli for a six pack to celebrate free rent for the foreseeable future, perhaps paying for his purchase by selling off the copper pipes he’s ripped out of the guest bathroom.

This exercise is, of course, little more than the morning musings of a sleep-deprived mind, and I am well aware that the circumstances surrounding the defaulting on loans are as varied as humanity itself. Even so, the underlying principles are the same. There is a contractual agreement between a lender and a borrower that no one had to be waterboarded to sign. In the event of a failure to perform on the part of either party, it is up to the two parties alone to resolve — with the help of an impartial judiciary if an impasse occurs.

Interjecting an overreaching government run by perfect-worlders into the process can only gum up the works. And, I would contend, result in just the sort of unintended consequences now being reflected in jumping mortgage rates. Or, for that matter, the entire housing mess in the first place… much of which is the unintended consequence of Greenspan ratcheting down interest rates instead of pouring himself a nice cup of tea and watching as the participants in the dot-com mania received their just desserts.

Personally, I am shocked by the rising cacophony of calls for more, not less, government regulation. Given the widespread chanting now going on in favor of elevated levels of oversight, retribution, taxation, meddling, and outright nationalization, it is clearer than ever that the laissez faire view I just expressed is in a minority. And the situation is only going to get worse as the next wave of well-intentioned government operators step up to the controls… controls that are being firmly bolted onto the machinery of markets.

We are about to enter a dark period for the free markets. That’s the bad news.

The very good news is that, seeing it coming, you can anticipate where the next unintended consequences will occur and position yourself to profit.

David Galland is the managing editor of The Casey Report, the flagship publication of Casey Research, LLC., which for over 26 years has been providing independent minded investors with unbiased recommendations on big trends they can profit from. From as long ago as August 2005, in a lead article entitled “Profit from the Collapse of Western Civilization” Casey Research was alerting subscribers to the crash now unfolding and recommending specific steps to profit. What’s next for the U.S. and global economy? How long will the crisis last? How can you profit? Find out for yourself with a no-risk, fully guaranteed three-month trial subscription. Learn more now.

The AIG Bailout – What’s Next?

Wondering where it’s all going to end? Or who’s going to be left standing once the dust settles from this latest round of financial collapses? So is Olivier Garret, CEO of Casey Research, publisher of the investor newsletters The Casey Report, and BIG GOLD

The AIG Bailout

What’s Next?

By Olivier Garret, CEO

Casey Research

  • Sunday, Sept. 14: Secretary Paulson finally makes a brave decision; enough is enough, let Lehman go bust. After all, the federal government shouldn’t be rescuing every financial institution that stumbles… or should it?
  • Monday, Sept. 15: The financial markets react badly to the news, and the Dow suffers its biggest drop since 9/11/2001.
  • Tuesday Sept. 16: The Fed succumbs to political pressure and promises to write a check for an $85 billion rescue package for AIG, hoping to bring some relief to the markets.

What is wrong with this picture?

First, Bear Stearns, then Indie Mac, then Freddie Mac & Fannie Mae, now AIG…

Where does it stop?

When will the country’s taxpayers cry “Enough”?

Can our federal government bail out the entire U.S. financial sector?

And what about our troubled auto industry (save Main Street instead of Wall Street!)?

And the airline industry (critical to the functioning of our economy and the beat-up victim of oil speculators)?

Are these measures further steps toward a centrally planned economy? Where is the triumphant capitalism of the post-Cold War era?

I spent six years as a business turnaround consultant. I’ve seen the good that comes from letting private companies deal with their own problems – either face up to mistakes or suffer as they get worse. After bankruptcy, if that’s what happens, comes a fresh start. But government rescue efforts sabotage that painful but healthy process. The longer the government delays the unwinding of the current financial bubble, the greater will be the cost and uncertainty for our country, its economy and its taxpayers.

Keep in mind that the government isn’t run by wizards, geniuses or even people with ordinary, practical experience. It was our government that sponsored the disastrous housing bubble by forcing interest rates to artificially low levels (negative real rates), by deregulating financial institutions while continuing to guarantee their liabilities and, finally, by encouraging the FHLB, Fannie Mae & Freddy Mac to loosen credit standards and make it easy for a homebuyer to get in over his head.

Without knowing what it was doing, the federal government offered irresistible incentives for crafty financiers to use dare-devil leverage to pile up huge profits for as long as the government could keep the system going.

The consequence of the reckless mismanagement that government incentives pleaded for is a huge overhang of derivatives — over $500 trillion, or more than 10 times the market cap of the all of the world’s public companies.

Does the Fed honestly believe that handing out another $85 billion in capital will solve a $500 trillion problem? The Fed is continuing to reward bad behavior and is delaying the inevitable. There is a time-tested rule, whether with employees, children, or even pets; rewarding poor behavior results in more of the same. Financial managers respond in the same way.

No matter what the consequences might be, the faster we get through this crisis, the better off we will all be. A fresh start is what we need at this point, no matter how painful!

Instead, our government will bail AIG out of its troubles, changing the rules of the game once again. Instead of letting the bankruptcy court distribute AIG’s assets based on established creditor claims, the Fed is stepping in, becoming a secured creditor and de facto owner without the consent of existing shareholders and creditors.

In the restructuring world, this is called “preference” and is usually thrown out by bankruptcy courts, since it is contrary to established rules for “cramming down” new debt on the stakeholders of distressed companies. Disregard for the rule of law by our own government using authority granted in the Federal Reserve Act isn’t going to reassure the foreign holders of trillions of U.S. debt – a particularly inconvenient fact when we need their support more than ever.

Our Chief Economist Bud Conrad provides a picture of how fast money is already leaving our country.

Foreign Central Banks Sold Off Record Agency Debt in August 2008

A great and inevitable deleveraging of financial excesses is underway. Our dollar will be collapsing, investors will be running for the exit, and panic will be moving in.

The AIG and any subsequent bailouts may delay the pain, but that is the best they can do. Our recommendation to investors is to use the little time they have left to find refuge in real, tangible money — specifically gold — and in the stocks of companies that produce gold and other commodities the world uses, especially food and energy.

Olivier Garret, CEO

Casey Research

The surest way to fortune in strange times like these is by investing in big market trends. For over a quarter century, Casey Research has been providing investors with insightful investment newsletters  – and now their new flagship publication, The Casey Report, zeros in on the big trend targets of the day. To find out how profitable this approach can be – and what it can mean to your portfolio to be on the right side of the trend – click here now to learn more about The Casey Report.  And the current trend of financial panic is sending more and more money into gold and gold stocks…. And Casey’s BIG GOLD provides investors the down-in-the-tunnel, boots-on-the-ground insights into the large cap mining companies that are most likely to see the big profits. Find out more about BIG GOLD.

Paul van Eeden and the Fair Price of Gold

I have a lot of respect for Paul van Eeden of Cranberry Capital, especially since he was wise enough and gutsy enough to bail out of most, if not all, resource stocks early this year. What a call.

Paul has recently been called upon quite frequently to laud his research on the “fair” price of gold as gold is considered money. And last week when gold was priced in U.S. Dollars almost exactly at his “fair price” of $760 an ounce, Paul was doing even more interviews.

Paul has done some phenomenal research that I only partly understand and I don’t want to be seen as criticizing.

Perhaps I’m just a bit daft, and that’s why I don’t get it. But here is my question:

How can you compare any fiat currency to a non-fiat currency, let alone, the ultimate currency – gold?

There are many reasons, many of which exhibited themselves today in gold and silver’s record price jumps, why people want to own gold (and silver to a lesser degree) that would never be true with regard to any fiat currency, especially one like the U.S. Dollar.

I say that about the dollar, world reserve currency (for a while anyway) not withstanding, quite easily in light of the dollar’s almost complete destruction of purchasing power from the invention of the U.S. Dollar’s alleged protector – the Federal Reserve – until today.

Add to that the carnage in purchasing power the dollar has suffered in less than one decade since the beginning of this current century.

Gold is gold, the U.S. Dollar isn’t. Was once, not now, likely never again.

There is No Conspiracy on Silver, so says Jeffrey Christian

The following link will take you to a story on Kitco.com and KitcoSilver.com that tries to debunk via video that there is no conspiracy and that all such theories are bunk regarding the Comex silver contract.

Jon Nadler of Kitco in particular wants to debunk these theories. Jon, whom I have criticized much for, IMHO, insulting Kitco customers, has certainly taken a better tone of late, and after today’s massive jump in the price of gold and silver, will probably continue to carry a better tune. Yet, Jon certainly makes no beef about his idea against conspiracy theories on silver and/or gold prices.

It is said that everyone loves a good conspiracy theory, and the movie by that name is a favorite of mine. Ted Butler and Gata.org make some compelling arguments.

So I suggest you listen to Jeffrey M. Christians argument also. But does it bother anyone that Mr. Christian and his company CPM Group are formerly of Goldman Sachs? You know, the guys on Wall Street that seem to have very close ties with the Fed, Treasury and it’s key people. You know, the Wall Street firm that doesn’t often seem to be caught flat footed in the markets?

I suggest you watch the video and decide for yourself who to believe. I did.

Jim Rogers on Government Intervention, Commodities and the Dollar

Jim Rogers hasn’t given up on commodities, but he has given up on the U.S. Dollar. Jim said yesterday that he is using the current dollar rally to sell his dollar holdings.

“Commodity prices will go up whether governments impose controls or not as there is a serious supply-side problem.”

Jim doesn’t feel that governments and politicians understand markets and actually make things worse when they get involved. Jim, I think that’s an understatement. Further, Rogers feels that the U.S. Dollar will lose its place as the world’s reserve currency soon; and much of it has to do with oil. As for gold, Rogers said he will buy more if it gets cheaper and will buy any you want to sell him. And he is NEVER going to sell his gold.

“If you have gold, I will buy it from you. Gold is not something I plan to sell. Ever.”

Bailing out Fannie Mae and Freddie Mac was a mistake in Jim Roger’s mind. He thinks the government needs to let some of these institutions collapse; which will help clean up the economy so we can start moving forward again. Government intervention in my mind may reduce some short term pain, but I feel it will just draw out the global recession and delay recovery. Based on what came out of Paulson’s mind, Lehman Brothers may be the first one allowed to fail. We’ll see. In the mean time, precious metals stocks were on a tear yesterday. For the last several weeks it has been nothing but tears. Don’t be rattled and confused by those who intend just that for you. Get reliable information to grow your wealth here:
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