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Friday, July 28, 2006 4:26 PM

Look at the Numbers

Mish Moved to MishTalk.Com Click to Visit.

Today's Thought of the Day comes from John Succo at Minyanville.

The CEO of DOW was on financial TV last month telling the world how great things were and how positive he was on the company. Yesterday the stock blew up.

We never listen to what people say. We don't listen to Ben Bernanke. No one can tell you anything about the future. You can have an understanding of the state of things, but not how people will react to that state. Trends are uncertain and even CEOs can't tell you much about them. Trends in products that have wide profit margins (insurance) can change overnight; trends on products with small profit margins (toothpaste) are more stable, but the companies are more levered.

We only listen to numbers. The sooner people understand this the sooner they will stop losing money trading stocks. Everyone has an agenda. Numbers do not: people can make the presentation of numbers false, but they cannot make the numbers themselves lie.

So the next time any media says something, take it with a grain of salt. Before you invest your hard earned money, look at the numbers.

John Succo / Minyanville


Thanks to Professor Succo and Minyanville for that thought of the day.

Today's number to look at is the GDP.
Here it is in all its glory:

!Gross Domestic Product 2nd 1st 4th Consensus: !
! Overall GDP Growth 2.5% 5.6% 1.8%r +3.2% !
! PCE Price Index 4.1% 2.0% 2.9% Actual: !
! +2.5% !
Well the market "seemed" to like the fact that the GDP is slowing but no one can "really" say much of anything othere than the market rallied because it wanted to. Perhaps a better way of looking at it is "risk takers are willing (once again) to plunge back in on any bad news". Bad news has been bought for three straight years so why not buy bad news today?

Rest assured GDP at 2.5% with housing collapsing and 2.5 trillion dollars worth of ARMS resetting over the next two years is not good news. Those too are important numbers but today those numbers do not matter. Perhaps those numbers matter tomorrow.

Supposedly the spin of the day is the market is looking forward to a pause. Of course the pundits have been saying the market has been looking forward to a pause for 5 months now. If and when the Fed pauses, slow growth will be one of the reasons.

The odds of a seeing a sustained rally on a Fed pause has been a losing bet. Not only did it take a pause but several surprise cuts by the Fed in 2000 and 2001 to get a rally. The first couple of rally attempts were eventually sold very hard. In fact, the market did not make a sustained rally until the Fed has slashed rates all the away to 1%.

Historically the time to buy is after the second cut. That would not have worked in 2001 and it may not work next time either given the extreme gross imbalances in our economy.

In spite of the fact that it took rates at 1% to get the economy humming last time, people are still speculating on a pause, a pause that has not yet happened. One wonders what all these "riskloves" are thinking.

I suspect that people are finally starting to believe the Fed can cure anything by throwing money at it. I have heard many comments on message boards over the last year or so "The Fed will NOT let this market fall". My answer has been and still is "The Fed is not in control. They are irrelevant." The Fed is clearly not in control and if they have any sense left at all (debatable of course) they should be scared half to death about increased speculation in the face of a slowing economy.

This market depends on the ability of consumers to consume, and "riskloves" to keep taking more and more risk at decreasing volatilities.

If the Fed could control things, there would not be recessions, there would not be market plunges, and there would not be asset crashes. How quickly we forget the lessons of 2000-2001 just six short years ago. We are about to re-learn that lesson. This time housing will be the driver.

It is clear the economy is weakening, substantially weakening in fact.

In Econ 101 Applied to Existing Homes, Paul Kasriel at the Northern Trust claims housing is in an outright recession. From Kasriel:

In the months ahead, Econ 101 predicts that the prices of existing dwellings will continue to soften.

This will serve to reduce the excess supply as some not-so-serious sellers take their homes off the market and as those sellers who have to sell acquiesce to the reality of lower prices.

The knock-on effects of all this will be subdued consumer discretionary spending as those “home ATMs” are not refilling as rapidly as before. Another factor that will curtail consumer discretionary spending is slower income growth in housing-related industries as employment and sales commissions moderate further. I said it last week and I will say it again – the residential real estate sector has entered a recession. Whether the economy as a whole enters a recession early next year depends on how severe the housing recession gets. Further Fed interest rate increases can only increase the depth of the current housing recession and geometrically increase the odds of an economy-wide recession.

The numbers are what they are, but it is also important to understand what they represent. If we calculated GDP the way Europe did, we probably would be showing something like .5% growth (if that) rather than the 2.5% that was reported. I talked about this in Grossly Distorted Procedures.

Also note that if we calculated unemployment numbers the way they did in Europe (or for that matter the way we did here about 20 years ago), unemployment would be at 8%-9% vs. the 4.6% we report. So while "numbers may be numbers" and "numbers don't lie" please be aware that what those numbers represent can and does change over time. I am quite positive that I am not explaining anything in that regard to either Succo or Kasriel.

Yes, I am looking hard at those numbers. So is Kasriel, and so is Succo. "Sammy the Snake" is concerned about those numbers as well (even if it seems like he only has one eye on them).

On behalf of Professor Succo and "Sammy the Snake" please keep at least one eye on the numbers, preferably two. Any further sustained weakening of those GDP numbers and will be in a recession (even though no one will admit it).

Mike Shedlock / Mish

Thursday, July 27, 2006 7:02 PM

Lights Out in Georgia

Mish Moved to MishTalk.Com Click to Visit.

Following is a set of posts from a real estate broker who goes by the name "Sonnypage" on the Motley Fool. This synopsis is with his permission. Follow the progression from 2006-01-04 through 2006-07-20. You might find it interesting.

Many of you know by now that my wife and I are both Realtors and associate brokers. We live and work north of Atlanta in the suburbs of Alpharetta and Roswell. I made the point in a post last month that I have always thought that our business gives us some unique insights into the economy, not just here in Atlanta, but across the country.

We are seeing an extremely high level of relocation activity. Our business last year was very solid, we closed twenty six transactions. So far this year, days into the year, we have two transactions pending, booked in the fourth quarter, plus twenty five prospects. If only two thirds of those prospects close, then we already have eighteen or so deals. They are evenly split, buyers and sellers, but much more importantly, nineteen involve relocations. This is a very high level of relocation activity, the highest we have seen in years.

More relocation prospects than any January in memory. The economy remains very strong.

Mish and I would seem to have very different points of view on what 2006 holds in store. I am basing my forecast on what I am seeing, and what I am seeing is a strong economy.

There will be no recession in 2006.



Last week my wife and I met our out of town buyers at the home that we had put under contract earlier in the month. It was time to meet a home inspector at the home for the inspection. The inspection took most of the day, so we had plenty of time to talk about anything and everything. The mortgage lender and I were both amused by all the chatter in the popular press about the "real estate bubble". He told me that his business is up about 20% over last January. I told him that we were having the strongest January we have ever had. It is truly remarkable. About then his sister, the buyer wife, walked into the room where we were talking. I asked them both, what would this home be worth back in northern Virginia? We were under contract here in Alpharetta at $1.1 million. The buyer wife paused for just a second, then said she thought about $2 million. Her brother, the mortgage lender, thought a second longer, then said he thought perhaps closer to $2.5 million.

Where's your housing recession, Mish? In actuality, if our economy is growing, the nations' total wealth is growing, then real estate as a whole, nationwide, continues to appreciate.

Our business here on Atlanta's north side is very strong. We have four contracts year to date, we will get number five this week. This compares with twenty six closings in 2005, so we are clearly off to a strong start. The unemployment rate here is 3.2 %, below the national average. Business is booming. I know of no one complaining of slow business, or worried about losing their job. Everyone is too busy making money to have time to worry. As for us and our business, our average transaction continues to move up in dollar size. If 2000 was our biggest year with forty four transactions, we could easily make more dollars this year with as few as perhaps thirty deals. We are seeing lots of money out there, it's full speed ahead. A very bright year lies ahead.

All of which leaves me free to make my biggest and strongest Sonnypage prediction ever. This time next year, I will still be making money hand over fist, and Mish and Gary Shilling and the rest of the doomsday crowd will still be pumping the next depression. And as always, it will still be just over the horizon, not quite here yet, but surely coming, right?


If I am reading Mish correctly, he still is calling for a sharp pullback in residential housing in the U.S. that will lead us into a recession. Mish, if I am misstating you please correct me, and I am still taking the other side of your bet. It's not going to happen.

Real estate is local. I have no doubt that Florida, southern California and other hot spots are having contractions. The speculative money has bailed out and that's what happens. But here in Atlanta, where my wife and I have our residential real estate business, it's a very different story. We never had a speculative run up in prices here and so far, this year, it's shaping up as a normal year. We have nine transactions closed or pending year to date, which is exactly where we were this time last year. We currently have six listings, two of which are pending, and those pending listings, plus two others that have already closed, are going at about 97% of list price. Obviously, that does not translate as a distressed market. We have the same situation on the buy side. Our buyers under contract are paying about 97% of list. We have not been able to find distressed sellers for our buyers in upscale neighborhoods willing to sell at major discounts to list price. The only other part of the country that I can offer direct evidence of is Houston. My brother in law is a builder while my sister and one of her daughters are a mother-daughter realtor team. Here is an email from my sister from last week about the Houston real estate market.

We put a $ 1.5 mil house under contract today and met with someone yesterday about our $2.7 mil spec. (*Daughter*) showed a house to a couple her age that was priced at $469,000- a 3/2 one story bungalow in West U. They were one of five competing bids and did not get it with their offer of $475,000. It was not under priced. We are having the best market we have ever had city wide.

A collapsing real estate market, Mish? I don't think so.

Most of you know by now that my “day job” is real estate. My wife and I practice real estate north of Atlanta up in Roswell and Alpharetta. As Mish continues to pound away trying to make the point that residential real estate is doomed or worse, I feel honor bound to jump in every now and then and remind everyone that real estate is local, local, local. That means that even if real estate is in trouble in say, Florida, it's still, according to my sister, doing extremely well in Houston, and very well, I would say, in Atlanta. We have twelve deals closed or pending through April which is about where we were this time last year. It's looking like a twenty five deal year which is fine.


This year is quickly becoming what might euphemistically be called a character building experience. We are off to the slowest start in the twelve years we have been in business. Here's a taste of what we are up against. Two months ago we took a great listing in Alpharetta just to the north of us. It's a beautiful three sides brick, full finished basement, in a cul de sac. They listed at $550,000, which was actually a little below what we recommended. They are definitely motivated to sell. When we had lots of looks but no offers, they agreed to drop the price to $535,000. I emailed all agents who had previously shown the house to advise of the price drop, and sure enough, one agent brought his buyers back for a second, then third, look. They offered $495,000. We countered at $530,000. Our sellers said they really did not want to go that much lower. I was not too concerned. I expected a counter from the buyers, then another counter from my sellers and we would eventually get there. The next morning, when I did not hear back from the buyer's agent, I gave him a call. Did I get a shock, they were done, that was it, no higher offer. So what we have are buyers who just don't want to pay too much, who are really skittish, and sellers who are having trouble accepting that things are slowing down. Two years ago, or even last summer, we would have that house under contract. But not this year. We now have a total of six listings, five of which have reduced, the other is brand new. Only one really active buyer, plus two of the listings who will buy locally if they can first sell. If things don't pick up fairly quickly, this will be our slowest year ever. We have closed or have pending a total of only twelve transactions year to date. We have booked only one contract since May 1st which is really slow. Our business plan was thirty transactions, I would have been o.k. with twenty six, but at this rate we will not reach twenty. This is normally our peak season. If Atlanta, which has been a solid market with no speculative price run ups, is faltering, then I suspect that this slow down has become national at last, no longer just local.

The economy is slowing and is doing so rather quickly. In my opinion, at least, the chances of a recession starting no later than the first quarter have increased significantly.


Most of the regulars here know that my wife and I are a Realtor team associated with one of the major national firms here on Atlanta's north side, out in Roswell and Alpharetta. It's been a “character building year” as another agent in our office put it the other day. What makes it more stunning, at least to me, is that it started out so well. We ended the first quarter with nine deals pending or closed, which is a very solid start. Then we hit a brick wall with only three deals in the second quarter and that would make it our worst second quarter ever in our twelve years.

Then it got worse. Normally, over the years, about one in fifteen deals fall out, that is, they fail to close. Usually it's over the inspection contingency amendment but not always. At any rate, two of our three second quarter contracts failed to close. Unbelievably we booked and closed only one contract in the second quarter. So here we are, July 20th, with only ten deals for the year. What a mess.

How those two contracts failed just might tell a story about this years' market and the economy in general. First, one of them was indeed over the inspection amendment. Most of you understand that after going under contract, the buyer is entitled to have a qualified home inspector do an inspection. The buyer then presents a copy of the inspection to the seller along with an amendment to the contract asking for the repair of defects affecting safety or the structural integrity of the home. In this instance, the buyer went far beyond that, asking for, at least in my opinion, cosmetic items and home improvements. Our sellers' response, I thought, was more than fair, but the buyer would not yield. Normally we can work these differences out but not this time. Looking back, it is clear that the buyer was determined to wring additional concessions out of the seller or not close. We had a failed agreement and both parties signed a termination and release as required. That listing is back on the market.

Then the other failed contract was even more unusual. We had been working with relocation buyers from Cincinnati for several months. We found them a great house and went under contract. Ten days before closing they called to say they had decided they did not want to move. [Instead] he is leaving the company [that was] trying to move him to Atlanta. My take on this is he was afraid they would move him down here and then let him go. His company is facing a management reshuffle. But, who knows? At any rate, it cost him $5500, his forfeited earnest money.

So here we are with ten deals and needing a total of about twenty to meet our cash flow needs; personal and business plus taxes. The last year we failed to “make a living” so to speak in real estate was about 1994. Without a strong finish we just may be looking at that again. What are our chances of pulling it out? It's still possible. We have several buyer prospects plus we have ten listings and listings are the life blood of any real estate business. We will, with certainty, get one more listing by month's end. On the other hand, we have a listing that expires at midnight Monday and we don't expect them to renew. They have had two lowball offers and have refused both. My take is that they can't reduce without going under water.

What do you do if you owe more on your home than you can sell it for? Apparently, you just decide to sit on it and hope for a better market, at least for now.


Mish (from here on down):

For one reason or other realtors across the country thought "It's different here".
"We are unique". "Real estate is local". "It won't happen here". "There is no bubble".

Look at all the reasons given:

  • Demographics - Florida & California
  • Strong Jobs - California
  • Relocations - Atlanta and SE
  • Retirement - Las Vegas, Phoenix, Florida
  • Strong economy - Everywhere but the rust belts
  • This place is unique - Damn near everywhere
And in every case my set of answers was the same.
  • Home prices have outstripped wages by 4-5 standard deviations from normal
  • Home prices have outstripped rents by 4-5 standard deviations from normal
  • This can't continue
  • What can't continue won't continue by definition
One by one by one all of the local experts that said "It's different here" are finding out "It's NOT different here".

The "strong economy" was (and still remains) an illusion. What we had was an economy totally propped up by homebuilding and real estate transactions. 40% of all home buying in both 2004 and 2005 was for second homes or for "investments". In addition people were all too quick to spend that increased "wealth" from home price appreciation (and then some), going deeper and deeper in debt.

The economy has not crashed (yet) because homebuilders are still building. That supports jobs. But when those houses don't sell (and they won't - without enormous discounts) all this "paper wealth" of homeowners is going to vanish overnight. As soon as someone drops their price by $100,000 every house in the neighborhood will be repriced. Comps will drop like a rock. Consumers used to seeing nothing but rising prices are in for a rude awakening. Their house will no longer be an ATM. Consumer spending is 75% of the economy and it has only one way to go and that is down. There are going to be a lot of people hurt badly in the recession of 2007.

The Blame Game

It will be interesting to see who the scapegoats will be.
  1. Some will blame Realtors
  2. Some will blame the Fed for hiking rates too far
  3. Some will blame the homebuilders for slashing prices
  4. Some will blame their neighbors for selling too low
Where the blame really belongs.
  1. On the Fed (not for raising rates) but for cutting them to 1% in the first place and flooding the world with dollars in the biggest liquidity experiment the world has ever seen
  2. On banks and Fannie Mae for loose lending standards
  3. On government for promoting the "ownership society"
  4. On themselves for getting caught up in bubble madness just as they did with stocks in 2000, then taking cash out refis and spending like drunken fools further fueling a runaway economy
That was a friendly debate with Sonnypage on the FOOL, not an acrimonious one. I am pretty sure Sonnypage will harbor no ill will towards me for making this post, especially since I asked in advance if he minded. Sonnypage was gracious enough to say yes. I think he wants to share a "prepare for the worst" message with others that might think "It can't happen here", "The local economy is too strong".

A recession is just around the corner.
Ironically enough, it has already started for Sonnypage.

Mike Shedlock / Mish

12:34 AM

The Case for Treasuries

Mish Moved to MishTalk.Com Click to Visit.


Today's Thought of the Day is a joint venture from Bennet Sedacca and John Succo at Minyanville.

From Bennet Sedacca:

I have received many inquiries about treasuries. Let's discuss why I am looking heavy into 2's, not 10's, and avoiding corporates altogether and now mortgages as well.

Obviously, a two year Treasury has less duration than a two note and has less volatility for a given change in rates. My firm is negative on the economy and expect the Fed to ease. So why not 10's? Because of the current shape of the curve. We already own some 2's from 5.25% and took some profits in 10's as mentioned here previously.

Let's say 2's go to 3.5%. I think the curve will be in a 'curve steepener.' In other words, rates on 2's will fall faster than the rest of the curve, taking the curve from flat to a more normal, steeper curve, prior to the end of the Fed's ending their easing campaign. So we buy TWICE AS MANY 2's as we would 10's and think we can actually make more money with the same or less amount of risk. In addition, we always like to ask ourselves, "what if we are wrong and rates rise?" Obviously, 2's will crush 10's in performance and we have our 2's to sell to extend into more duration.

Why only Treasuries? Well. Put it this way. I have been in the business 26 years or so. I have never seen, relative to an economic backdrop like we have now, so little value in corporates, agencies, mortgages, etc. I think spreads will eventually widen, perhaps DRAMATICALLY, which is normal in slowdowns.

Email Bennet at Atlantic Advisors.

From John Succo:

After reading the comment in Professor Bennet Sedacca's article, "I have never seen, relative to an economic backdrop like we have now, so little value in corporates, agencies, mortgages, etc." prompted me to write this.

What Bennet means by value is that investors are buying risky assets like corporate bonds at only a slight discount to non-risky asset like treasuries. They are willing to incur the risk of default, which should be higher for a company than for the U.S. government, for only a very small increment in yield. Bennet is describing an investor who is willing to take on too much risk for too little yield.

This is a phenomenon directly born of government policy, central bank intervention.

All central banks around the world have purposely driven real interest rates to zero or even below. Money is free. This means the worst of the worst, those willing to speculate and go bankrupt if necessary are free to buy risky assets. This forces risk premiums lower and lower. Even relatively conservative investors feel the pinch, the pressure to go out on the risk curve to just make a little money.

And the central banks want this. They have actually targeted lower volatility to encourage investors to take risk that they don't really see. Not until volatility rises does risk become apparent. So they are doing everything they can to keep volatility low and investors taking risk.

What happens if investors decide to take less risk? Heavens forbid they actually want to save money and not take on more debt. That would reduce risk and reduce liquidity. Volatility would go up and it would feed on itself. The credit bubble that has driven nominal asset prices to these levels (risky assets) would begin to unwind and the opposite would occur.

It is all about liquidity. Risk premiums are the largest variable in driving liquidity. People will be very surprised at how fast people want to reduce risk when they decide to. A very gradual and incremental process that has reduced risk premiums over the last several years can reverse quickly.

Central banks are doing everything they can to avoid this. Credit is being offered (money supply is high); will the market continue to keep taking it? My firm's work is showing the market on the margin is taking that credit less and less and it is going to the more and more speculative.

Hedge funds, mutual funds, and even pensions are taking the risk for the investor more than ever. These are in general managers that are once removed from the consequences of risk so they take more than the actual owner of the money would.

Bennet is saying that it [the risk vs. reward of corporates, of agencies, of junk bonds, etc as compared to treasuries] is not there, not by a long shot. I agree.

From Mish:

I was asked just yesterday by someone on Silicon Investor what duration I recommended. My reply was that the "sweet spot" was probably between two and three years. I went on to say that IF my deflation scenario pans out that the place to be might be 10 year notes or even the 30 year long bond. Obviously this depends on the amount of risk that one wants to take and I pointed that out as well.

Bennet raises an interesting twist that perhaps double weighting 2's might be a better strategy. Certainly that strategy has a better out. One can ride out a 2 year note far easier than the 30 year long bond if proven wrong, or one can convert (at a relatively small loss) to 10's or 30's for tremendous extra potential down the road.

I also need to comment on professor's Succo's observation. Risk premiums in general have been driven to zero. Risk has been not only encouraged but embraced. The case for treasuries goes far beyond just treasuries vs. agencies or junk. The case for treasuries extends across a multitude of asset classes. We are seeing emerging market ETFs, gold and silver ETFs, oil ETFs, etc etc, most of which opened up only after tremendous five year runs.

I remember the day JDSU leaps (long term options) were offered. I remember commenting "that marks the top in JDSU". I think I was close. For those of you not familiar with the JDSU fiber story, it fell from 100 to 2 and sits near that level still today.

Flash forward to today. Virtually no one likes treasuries. They are universally despised. This is somewhat odd given that treasuries are sill in a bull market (long term) and if we are about to head into K-Winter (as I think we are) treasuries may outperform every other asset class. Those unfamiliar or needing a review on the K-Cycle may wish to read The Kondratieff Cycle Revisited.

At no time in history have investors turned bearish at a market peak. I suspect it will never happen either. Yet that is what treasury bears want you to believe.

Yes, I know all of the arguments. Treasuries are manipulated, it's the "Caribbean Connection", if it was not for Japan or China treasuries would tank, etc etc. Yet many of those same people are willing to plow into stocks, junk bonds, real estate or whatever. It makes no sense. If treasuries collapse, the last place you will want to be is in junk bonds, housing, or US equities.

Yes there is an alternative, but it is not without risk. That alternative is of course gold and/or energy stocks. If I could pick two other sectors that were universally despised it would be gold and energies. The risk is what happens in global recession. That can't happen? Then again, I believe gold will do well in deflation (once all of the inflationists panic out).

Barron's recently came out with a cover touting big caps like CSCO and Home Depot. I talked about it in Think Outside the Box Score. If and when Barron's comes out touting treasuries, gold, or energies, it will be time to take the profit and run.

Mike Shedlock / Mish

Wednesday, July 26, 2006 9:29 PM

The American Nightmare Initiative

Mish Moved to MishTalk.Com Click to Visit.

Democrats, led by Hillary stepped up to the plate today in an attempt to buy more votes than the Republicans can in the mid-term elections. This may sound like the start of a political post but it goes well beyond that. I am of course talking about budget deficits, the US dollar, "affordable housing", and long term problems with Social Security and Medicaid.

Both parties act as if there are no consequences to wasting trillions of dollars in the present while promising trillions more down the road. We do not have the money now, nor will we have it in the future. Yet no one from either party seems to care. The Bush Administration blew a half trillion dollars in a war that should not have been fought and arguably produced negative benefits for both the US and Iraq (and most likely the rest of the world too). The amount of money we are wasting on homeland security is staggering as well. Does anyone feel more secure? We are also building bridges to nowhere in Alaska. We waste tons of money on "affordable housing" projects of all kinds and at every governmental level. The list goes on and on.

Does anyone in government, other than Ron Paul, understand basic economics?

Please consider the "American Dream Initiative".

The initiative was unveiled Monday at the annual meeting of the centrist Democratic Leadership Council by Democratic Sen. Hillary Rodham Clinton of New York with support from Sen. Evan Bayh of Indiana and Iowa Gov. Tom Vilsack. All three may run for president in 2008.

"This American Dream initiative is a series of proposals to renew and strengthen the middle class and to help pave the way for the poor to work their way out of poverty," Clinton told about 375 local and state Democratic elected officials.

Democrats outline 'dream' project
  • $3,000 college tuition tax credits to help families pay for college.
  • A permanent "saver's credit" aimed at helping low-income families build equity by having the government match 50% of their savings, up to $2,000 a year.
  • $500 savings bonds for each of the 4 million children born annually in the United States and letting families with income under $75,000 augment the bonds by putting existing annual tax credits in them.
  • Pooling small businesses into a single national insurance purchase pool to augment bargaining power and streamline administrative costs.
  • Universal health care for children. The DLC says 9 million Americans under age 18 are uninsured.
  • Setting up an independent commission to crack down on business subsidies, which Clinton, Vilsack and their compatriots believe save the government $250 billion over 10 years.
  • Tax credits for employers that offer employee housing assistance programs, especially for public employees, and a $5,000 tax credit for first-time home buyers.
Corruption in Miami Dade

Government waste penetrates every governmental body, from state and federal governments all the way down to the local level, regardless of the party in power. "Affordable housing" is one of the main culprits. Please consider the Miami Herald article House of Lies.
Riverside Homes. Miami-Dade Housing Agency Funded Project.

The dirt lot that cost taxpayers $764,000 sits on a grungy corner just outside Miami, strewn with slashed tires and beer cans and an official white sign, now covered by weeds, announcing Miami-Dade's promise to the poor:

Here, behind a sagging chain-link fence, developer Oscar Rivero promised to build 24 houses for low-income families. Across town he promised 54 more, but that lot, too, is barren, occupied only by a contractor who uses the spot to hose down cement trucks.
For these two affordable housing projects, the Miami-Dade Housing Agency paid Rivero's development companies almost $1.6 million -- but not a single house was built.

It was the beginning in a series of ill-fated government deals that shook the foundation of public housing in one of the poorest and most distressed communities in the nation.

In the past five years, the Miami-Dade Housing Agency squandered millions of dollars on failed projects, pet programs and insider deals even as thousands of families languished in rotting and unsafe homes.

Aided by the agency's longtime director, a cadre of developers made out, raking in millions of dollars for homes that have never been built. From Little Havana to Liberty City, they took the money but left only empty lots, with broken baby cribs and bags of trash where houses had been promised.

Overall, the Housing Agency pledged more than $87 million to put up 72 developments for the poor, including apartments, houses and complexes for the elderly. The expected payoff: more than 8,300 new homes.

The agency diverted another $5 million -- money earmarked by state law to build homes for the poor -- to pay for a new office building complete with a $287,000 bronze sculpture of stacked teacups called Space Station that was shipped from Italy.

The Housing Agency paid more than $12 million to developers who promised dozens of houses but built only two, and years later, never returned the money.

One of the agency's most high-profile projects -- replacing dilapidated public housing in Liberty City with 411 new homes -- is so marred by mismanagement that only three houses have been built in six years. More than $22 million has been spent while 800 poor families have been forced to relocate.
That is what happens when government gets in the way.
Offering $5000 tax credits to make housing more affordable will make housing less affordable.

Back in December I wrote about Alternative Underwriting.
Illinois Governor Rod Blagojevich went off the deep end on Sunday when he announced an Opportunity I-Loan mortgage loan program for illegal aliens.

The state-backed mortgage loan program is aimed at making home ownership more accessible to first-time buyers, regardless of immigration status.

The move comes as a similar year-old program in Wisconsin is coming under fire for offering loans to undocumented immigrants. A bill that would end that program is under consideration.
In what way shape or form can government backed loan guarantees for illegal aliens help make housing more affordable, for anyone?

One of the reasons that housing is not affordable is there are 350 or so government programs to make housing affordable. It simply is not the government's place to make housing affordable. That is the market's problem. Throwing money around and giving it away is guaranteed to make housing less affordable. Yet we persist with policies that are guaranteed to fail right from the start.

An applicable quote came up just yesterday in Think Outside the Box Score.

"When I started writing I thought if I proved X was a stupid thing to do that people would stop doing X. I was wrong." Source: Moneyball, Michael Lewis

This is not a Dream Initiative, it is yet another nightmare based on policies that have proven to fail every time. That is the sad economic reality regardless of what party you intend to vote for. If we persist with such nonsense, it ultimately will be bad news for the US dollar and for the US itself.

Mike Shedlock / Mish

Tuesday, July 25, 2006 8:03 PM

Think Outside the Box Score

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Today's Thought of the Day comes from Ryan Krueger at Minyanville.
This is longer than I like, but Ryan has a great tale to tell. Of course that means I had to add my 2 cents worth as well.

The following is all from Ryan until the end.

The transition from Ryan's thought to mine will be at the very end starting with "Mish". Here goes:

The Stock Market's Box Score

I was talking to a new partner about my two favorites, baseball and the markets, last week. He was a professional ballplayer and major league scout for the better part of four decades. He convinced me to share an old book report I wrote. It follows:


Many investors know the risk of being incorrect, but few consider the even greater risk that can come with being “correct.” Looking for good ideas that are clear to see often prove surprisingly disappointing investments if they already had “good” prices asked for them. What may be visible to most people, even when true, can provide terrible payoffs because the common knowledge was already inside the price of that asset. So, being correct can cost even more money than being incorrect; that is the danger of agreement.

MoneyBall is the name of the last book my partner and I each reviewed. The book had absolutely nothing to do with investing, yet came closer than any we have ever read in describing how we approach money management. The vocabulary for the book was from one of the two most beautiful languages in the world: baseball statistics. We will translate it here back into the other, a box score with a little more riding on the outcomes: the Stock Market.

The background to the book needs to be explained for baseball and non-baseball fans and should interest each because the comparison to the Stock Market will follow. A few years ago, a blue ribbon panel was assembled to address the economic landscape of Major League Baseball’s completely un-level playing field for its competing teams. With no salary cap, rich teams could buy the best players. Money was seen as the only problem and the only solution. The Commissioner of Major League Baseball, Bud Selig, said that a team like the Oakland A’s “…can’t compete. They’re not viable without a new stadium.” The majority of the panel agreed that poor teams needed more money for better players, and the rest of the country agreed. There was only one dissenting opinion on the entire panel, cast by the only voter with a financial background. It was the former Federal Reserve Chairman Paul Volcker who asked, “If poor teams are in such dire financial condition, why did rich guys keep paying higher prices to buy them?” Another little noticed item drew some curiosity from the panel as well. “If poor teams had no hope, how did the Oakland A’s, with the second lowest payroll in all of baseball, win so many games?”

The fascinating answers to that second question were explored in this book Moneyball, written by Michael Lewis, one of our favorites for many years but who had no knowledge of baseball before this story captured his interest.

If the conventional wisdom in baseball were correctly assessing the value of ballplayers, then all of the best talent would be bought up by the rich teams, and the Oakland A’s would not stand a chance. Yet they not only stood a chance, they won. Why? [The book goes on to describe describe the Oakland A’s and their General Manager Billy Beane and his approach to the game - Mish]

In a parallel story that we write every day in the Stock Market, if prices rationally reflect all known information then stocks would theoretically trade efficiently based on those fundamentals. Yet, in our opinion, they do not. Why?

The Book:

“Too many people make decisions based on outcomes rather than process.”
Source: Moneyball, Michael Lewis

The Market's Translation:

Investors who read about the Stock Market being up or down 100 points, and believing their investments had a “good day” or a “bad day” are focusing on the outcome, and a misleading one at that. We believe the most overrated question in the country is, “How’d the market do?”

The Book:

“Traditional yardsticks of success for players and teams are fatally flawed.”
“The naked eye was an inadequate tool for learning what you needed to know.”
Source: Moneyball, Michael Lewis

A good portion of the Oakland A's general manager's Beane’s advantage is described as simply doing better homework. After graduating from Harvard, one of his assistants input the raw statistics of every baseball game ever played in the 20th century into their computer to analyze what most correlated with winning and losing. Think about how much sense this makes, yet realize that for those 100 years, assumptions trumped these facts that had never been compiled.

The study proved that almost all of the widely-followed statistics in a game of baseball never consistently correlated with which team won or lost. There were two striking exceptions: on-base percentage and slugging percentage. Simply having players getting on base any way they could, and having players making each successful contact count as much as possible, were the two Holy Grails. These two measurements proved superior to all others yet they are not followed as closely as the more popular statistics like batting average, runs batted in, and speed. These three were not only inferior indicators, but the players who possessed them became over-priced because everybody was bidding for the same wrong things.

The Market's Translation:

It is our belief that, just as in baseball, managers in the Stock Market rely on statistics that often do not help them. In our experience, the two most often used are P/E’s and Earnings. Over time, it has been difficult to prove the ability of either to give you a consistent edge in predictive power. Yet, until the end of time you will always read about stocks with “low P/E’s” and stocks with “better earnings growth” even though this data may not help performance when managing money. The only thing worse than owning something that does not work is paying dearly for it. Investors pay premiums for the assumptions of conventional wisdom since they all end up bidding for the same stocks.

Many people are willing to accept the risk of losing 50% if they can make 80%. But instead of looking for that kind of hit, do the math. $100,000 is worth $50,000 before becoming $90,000. You are not up 30%, you are down $10,000. Few investors consider that losing might hurt them more than winning helps them. But, that is the camouflaged truth and it will remain invisible in plain sight until a vaccine is developed for a debilitating disease called human nature.

The Book:

There were several little examples of scouts for baseball teams looking at the wrong things because of their inability to trade their subjectivity, based on years of “understanding baseball” with the objectivity that clear thinking, better data, and an open mind could have afforded them.

Scout: “He is a bad body catcher.”
Beane: “A bad body who owns the Alabama record books.”
Scout: “When he walks his thighs stick together…put him in corduroys he’d start a fire.”
Beane: “We are not selling jeans here.”
Scout: “He can’t run.”
Beane: “He’s leading the country in walks.”

They drafted him. Not only because Beane thought he was better than other teams believed, but due to that conventional wisdom he could underpay. To sign him to a contract, the Oakland A’s did not have to agree to traditional first round prices. They wanted a better player, and they wanted to underpay.

The Market's Translation:

When it comes to stock prices, we are focused on the same combination of better analysis along with the selectivity of only agreeing to prices when they are favorable to us. We need to be patient enough to wait for our price on the way in, but just as willing to part with those same shares however dear they may seem, if we are offered prices even more dear.

The best players in the draft are analogous to the S&P 500, the group of the biggest and best companies in the U.S. Those 500 blue chippers have an average of 20 scouts following each company. The scouts in this case are Wall Street analysts.

Price measures popularity, in ballplayers and stocks. The average market value of stocks in a dollar weighted S&P 500 Index is just under $90 billion per company as of this writing. By comparison, over 90% of our holdings are below (well below) that size. What is the point? The emptier the stadium of scouts and the more unrecognized the company, the more chances we have to find something others will not. The blue chippers attract all of the attention in any sport. Wal-Mart (WMT) is followed by 21 scouts, Cisco Systems (CSCO) has 22 scouts, General Electric (GE) has 19 scouts, and Johnson & Johnson (JNJ) has 23 scouts. If you take the sum total of all their scouts’ different opinions you would see the very highest 2006 earnings per share estimates compared to the very lowest are separated by a grand total of 30 pennies, combined!!! That comes out to an average difference between the extreme hi-low estimates of only 3% based on earnings per share, and it took 85 teams of analysts, countless hours and countless millions to create these “ different opinions.”

We believe the best ballplayers and the best companies do not often make the best investments because we are not looking for the most agreed-upon estimates; we are looking for the most disagreement.

The Book:

“When I started writing I thought if I proved X was a stupid thing to do that people would stop doing X. I was wrong.”
Source: Moneyball, Michael Lewis

The Market's Translation:

We believe this last quote is the most fascinating and timeless lesson from the book and from the story on Wall Street. No matter how much proof you have to support doing something a different way more successfully, people still like doing things the way they always have. This provides the mother of all misperceptions, and what we enjoy working on every day.


How can Ryan Krueger possibly be more correct?
Intel, Home Depot, Malmart, IBM, Citycorp, Microsoft? Where are those "leaders" going. Yet, just this past week Barron's came out with what I think may be one of the greatest contrarian magazine covers on equities that we have seen for a long long time.

I talked about it on July 22 in Time To Sell.

Odds of a continued bear market selloff increased today with this cover of Barron's. Magazine covers like this (especially at the end of a three year cyclical runup) are typically very contrarian in nature.

Overly depressed stocks -- particularly large caps -- look poised for a second-half rally, even if global political and economic turmoil lingers. The biggest bargains include familiar names such as General Electric, Home Depot, Cisco, Nestlé and Lehman Brothers.

Supposedly this is the best buying opportunity in big caps since 1994. What a bunch of nonsense. We are headed into a consumer and housing led recession.

This is the best selling opportunity on "familiar names" since 2000. The best selling time for the Nasdaq was earlier this year.
In 1994 we had an internet boom to look forward to. In 2000 we had a housing boom to look forward to. The entire time we had a financial boom to look forward to as lenders were willing to finance anything, and the Fed was willing to accommodate the entire mess with what has become to be known as "The Greenspan Put".

Supposedly after all of this we have the greatest buying opportunity since 1994 on the basis of a mere 5% pullback in the S&P. Is this a joke?

Now we see a classic case of herding. Tech is out so SOMETHING must be in. The troops are now rallying around Home Depot (even though housing is collapsing), and other "bargains" such as Cisco (a company that is now nearly as irrelevant as Micron).

It is a classic case of plowing into yesterday's favorites 5 to 10 years too late. I have news for Barron's. The internet bubble has popped and the housing bubble is popping as I type. There is no "value" in most of the companies that everyone is following.

Just because I do not like tech does not mean I have to like non-tech. Just because I do not like big caps does not mean I have to like small caps. Yet the mantra of the day, day in and day out is to be 100% invested in stocks 100% of the time.

No one it seems likes treasuries.
I do as do a couple of other Professors on Minyanville.

Please take a good hard look at a piece I wrote back on July 16th called Time Preferences. No one domestically likes US treasuries. Cash is trash. Inflation is soaring. "The bond market is wrong". "Treasuries are manipulated by Japan and China".... and so on and so forth.

Value exists where no one else sees it. That may not make treasuries a screaming buy, but it sure beats the heck out what nearly everyone else is screaming about.

Mish Note: I have no idea of Ryan's views on treasuries. He may hate them for all I know. That is not the point of this article. If you missed the point, here is the three sentence summary:
  1. Think outside the Box Score.
  2. That is where the profit lies.
  3. Profit is not found on the cover of Barron's touting yesterday's news.
Thanks to Ryan Krueger and Minyanville for today's thought of the day.

Mike Shedlock / Mish

1:39 PM

Five Stages of Grief

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Before looking at the five stages of grief, please consider a medley of tunes that David Lereah, chief economist for the National association of Realtors, was singing on July 25th 2006. It's quite a collection.

Let's start with the MarketWatch article Existing home sales fall 1.3% to 6.62 million

The report shows a continued weakening in the housing market, with inventories up sharply while prices are softening.

The inventory of unsold homes rose to a record 3.725 million, a 6.8 month supply at the June sales rate, the highest since July 1997.

The median price has risen 0.9% in the past year to $231,000. It's the weakest price growth in 10 years.
What tune is Lereah Singing?
"I hope we are hitting bottom," said David Lereah, chief economist for the private real estate trade group, which is predicting sales of about 6.60 million this year.
Sellers should expect lower prices, Lereah said, adding that he wouldn't be surprised to see single-family home prices fall nationally.
Also on July 25, the National Association of Realtors reported Existing-Home Sales Flattening, Prices Cooling.
David Lereah, NAR’s chief economist, said the housing market is flattening-out. “Over the last three months home sales have held in a narrow range, easing to a level that is near our annual projection, which tells us the market is stabilizing,” he said. “At the same time, sellers have recognized that they need to be more competitive in their pricing given the rise in housing inventories. Home prices are only a little higher than a year ago.”
What tune is it?

I think this snip best expresses the tune of the day.
In fact it represents the tune of the day, day in and day out, 365 days a year.
NAR President Thomas M. Stevens from Vienna, Va., said opportunities have opened for home buyers. “People who were discouraged by the bidding wars that were so common over the last few years are finding more choices now,” said Stevens, senior vice president of NRT Inc. “Relative to the five-year housing boom, this year is a buyer’s market in much of the country with plentiful supply, along with interest rates which remain historically favorable, so it’s a good time to buy a home.”
It's always a good time to buy a home according to these cheerleaders.

If home prices have "flattened out" after a massive 5 year run, pray tell exactly what value is there in housing? Or have home prices rally fallen more that you want to say? If inventories are high and the top cheerleader is admitting "he wouldn't be surprised to see single-family home prices fall nationally", why should anyone be rushing into this market?

Home prices are 4-5 standard deviations above wages increases and 4-5 standard deviations above rental prices.

The truth hurts.

You know it is not a good time to buy, I know it is not a good time to buy, they know it is not a good time to buy, and FINALLY the public is starting to realize it is not a good time to buy. A very lengthy correction has only just begun. Yes, it's a better time to buy than a year ago, but only because prices have fallen more than anyone wants you to believe. That does not make this a good time to buy.

Five Stages of Grief

The Palm Beach Post is talking about the five stages of grief.
Thomas Lawler, a Virginia-based housing consultant, thinks South Florida's real estate market has entered what the respected "death-and-dying" psychiatrist Elisabeth Kubler-Ross called the first of five stages of grief.
  1. "Denial in a previously hot real estate market occurs when a home listed at a high price doesn't sell quickly, even though just a few months ago houses sold in just a few weeks," Lawler says in his July 19 Lawler Economic & Housing Consulting newsletter. "The home buyer says, 'This is weird, but I'm sure it's just a glitch,' and does not alter his or her asking price.
  2. "Anger occurs when, after a few months pass, the house still hasn't sold, and little interest has been shown," he continues.
  3. "Bargaining begins as the home buyer starts to offer a few incentives, agrees to more open houses, starts to fix up the house to make it show better, and actually agrees to lower the listing price a bit.
  4. "Depression starts to set in when the house has been on the market for about four months or so, and the seller realizes that his or her net worth simply isn't going to be as high as he or she thought.
  5. "Finally, acceptance occurs when the seller realizes that homes prices have fallen; that he or she will not get peak price of what is now six months or more ago; and that if he or she wants to sell the home, the asking price needs to be adjusted downward considerably."
This process takes time, Lawler says, which is why home prices in hot markets that cool fast don't immediately start falling.
I agree it takes time. Far more time than the four months that Lawler is suggesting it takes for depression to set in. Depression does not set in after 4 months (except perhaps for flippers on the fringes). I think six years is more like it. In Japan it took 18 years. Why can't it take four, six, or even ten years here? It can and it likely will.

For the most part, we are probably still in the denial phase after 6 months to a year. If each phase lasts six to eight months we are in for a three year collapse. Given that this is basically a national bubble, and the biggest bubble ever, it would seem to me that 5-7 years minimum is more like it. Some people have not even hit the denial stage yet. Those people are still trying to flip, buy foreclosures, or buy the dip.

It's a long way down from here.
That is in terms of time, price, and emotion.
For most recent real estate gurus it will not be a pretty ride.
Nor will it be a pretty ride for those trying to make a living off of ever decreasing sales.

Mike Shedlock / Mish

1:08 AM

FOOLish Nonsense

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Someone recently sent me a set of articles that appeared on the Motley FOOL and asked for comments. All three were written by the same person: Mike Norman.

The first article is called Tune Out the Debt Doomsday Crowd.
Following are a few snips:

Have you ever seen one of those debt clocks? They show our national debt, with the numbers ticking away at the end so fast you can't even read them.

The debt is a source of popular conversation again, now that it has hit a new high of $8.4 trillion. And of course, it's never been out of favor with the Debt Doomsday crowd. I'm sure you know those folks. They're the ones who have been predicting a debt-driven collapse of the U.S. economy for decades -- yet it's never happened.

Much ado about nothing

I'm going to let you in on a little secret: The U.S. debt is tiny. That's right, tiny. Take a look at this: The $8.4 trillion figure is only about two-thirds of our nation's economic output, which is currently at $13 trillion and growing.

For those of you wondering who took the dubious top honors in the world of national debt, it was Uruguay, with a debt-to-GDP ratio of 793%!

For America, however, the debt news is really better than it appears. Of the $8.4 trillion that the government owes, $3.5 trillion is intragovernmental debt -- or what the government owes to itself. Essentially, this is all bookkeeping, and operationally never a cause for worry.

When you look at that as a percentage of GDP, however, it comes in at a very comfortable and manageable 38%, which is well below the post-World War II average of 43%.
I hardly know where to start. Comparing the US to Uruguay and proclaiming "see look how much worse someone else is" is hardly a decent measure of fiscal sanity.

Next, Norman has his figures wrong.

In Is the US dollar toast? I have a graph of the National Debt from Whitehouse.Gov showing the projection by the OMB to be close to 70% and nowhere near "a comfortable manageable 38%" that Norman proclaims.

The chart above shows the debt to GDP ratio was higher under Truman. But this was in the wake of WWII and with the baby boomer boom just starting. The debt to GDP ratio is now close to a peace time record high (if one calls this peace) and far exceeds the Vietnam Era debt to GDP ratios under LBJ and Nixon. Will there be another baby boomer boom to bale us out? I think not.

Please consider the following paragraphs from the May issue of the Richebächer Letter as mentioned in Ostrich of Omaha.

Over the five years from 2000–2005, total debt, nonfinancial and financial, has increased $12.7 trillion in the United States. This compares with a simultaneous rise in national income by $2.1 trillion. For each dollar added to income, there were $6 added to indebtedness.

In real terms, national income increased little more than $1 trillion. Last year, U.S. private households added $374.4 billion to their disposable income and $1,204.7 billion to their outstanding debts. Inflation-adjusted disposable income grew $115.7 billion. It is a growth pattern with exploding debts and imploding income growth.

I must point out that Richebächer was talking total debt, not just government debt. Personal debt is indeed a bigger problem right now but that does not mean government debt is a non-issue. It boils down to a question of timing. What matters more (right now) is personal debt but that does not necessarily make government debt "comfortable". When the baby boomer time bomb triggers, there will likely be nothing comfortable at all about government debt, especially if current deficit spending continues and there are fewer workers supporting each retiree.

As Richebächer points out: Every year it takes more debt (public and private) to produce equivalent GDP growth. Every year it takes more debt to produce fewer jobs than any recovery before it. Every year the percentage of GDP it takes to finance that debt increases. To those ideas I would like to add, that every year the government attempts to hide more and more expenses (such as the war in Iraq) off the balance sheets.

Furthermore, estimates of US GDP are total fabrications of reality. For those that want to tout GDP and US growth compared to the rest of the world, I suggest reading Grossly Distorted Procedures.

Yes, Japan does have a higher (way higher) percent of debt to GDP than the US. But guess what? I have been told by many people that it is OK because the "Japanese owe it to themselves". The idea that debt is OK because we "owe it to ourselves" is nonsensical. I will have a lot more to say about "owing money to oneself" in a rebuttal of "America IS Fiscally Responsible", Norman's next article.

Monetary nonsense is running out of hand yet people believe what they want to hear. What people want to hear are the "free lunch" ideas that Norman is spouting.

Yes, "It hasn't mattered yet".
All I have to say is "How comforting".

Until the great depression happened, that had not happened on a worldwide scale ever before either. Until the Nasdaq collapsed 75% that had not happened either. Until gold rose from $35 to $800 that had not happened either.

Point blank, arguments that suggest something can not happen because it has not happened yet are silly. Yet consider these facts:
  1. We have had a great depression
  2. We have had an Nasdaq crash
  3. We have had interest rates rise to 18%
  4. We have had interest rates fall to 1%
  5. Japan did have a stock market that fell for 18 years
  6. Japan did have real estate prices that fell for 18 consecutive years
Until those happened they had not happened before.
Worse yet, there is now a precedent.
If they happened once, they can happen again.
If it happened in Japan it can happen here.

America IS Fiscally Responsible

Norman Proclaims America IS Fiscally Responsible.
Why deficits are good

While it's true that the nominal figures have grown, it's a mistake to examine the deficit and debt numbers without some frame of reference. That frame of reference is how big the economy has grown. To ignore the growth in inflows (or the asset side of the balance sheet) gives a totally lopsided view. It's as if you walked into a bank to get a loan and only showed the loan officer a list of your debts. In the real world, the banker would have the sense to also demand to see how much money you made and a list of the assets you owned. When it comes to the government, however, the Debt Doomsday crowd doesn't want you to know about the income and asset side of the balance sheet. All they want you to see is that big, scary debt figure.

Beware of fearmongering

The fact of the matter is that unless we decide to end the growth policies that have been driving this nation's economy for the past two centuries, we shall be leaving the same or even more riches to our children and our grandchildren than we'll inherit from our parents. It's always been that way -- and it's the reason why all the worries about the Social Security and Medicare "time bomb" are misplaced. Do you realize that those dire forecasts have been around almost since Social Security's inception back in the 1930s? Yet they have never come to pass.
Once again we see the same reasoning that "It hasn't happened yet" so ignore it. Of course it hasn't mattered "yet". The condition that triggers the Social Security problem is a massive Baby Boomer Retirement and that has not yet happened. But it is about to.

Back in March I reviewed US Government’s consolidated financial statements for the fiscal year ending September 30, 2005, a 158 page PDF, and reported on it in The Sorry State of US Govt Accounting Practices.

The federal government’s fiscal exposures now total more than $46 trillion, up from about $20 trillion in 2000. This translates into a burden of about $156,000 per American or approximately $375,000 per full-time worker, up from $72,000 and $165,000 respectively, in 2000.

Please note that was not my comment, but a comment by David M. Walker, Comptroller General of the United States. Here are my comments.

We Owe It To Ourselves

What the US is doing can be equated to taking money out of a piggy bank (a piggy bank that should be accumulating cash to pay for future known liabilities) , spending that money now, but putting an IOU slip back in the bank and suggesting this makes perfect accounting sense because we "owe the money to ourselves".

The idea is preposterous. Espousing ideas that suggest things are OK because we "owe ourselves money" is no more "contrarian thinking" than it would be for a math teacher to write+1=3 on the blackboard while calling it "contrarian math". Any math teacher suggesting 1+1=3 would be promptly fired. Any would be economist suggesting that everything is OK because "we owe ourselves money" should be fired as well. It is impossible to owe oneself money.

Following is another statement signed off by Walker, the US Comptroller General:

More troubling still, the federal government’s financial condition and long-term fiscal outlook is continuing to deteriorate. While the fiscal year 2005 budget deficit was lower than 2004, it was still very high, especially given the impending retirement of the “baby boom” generation and rising health care costs. Importantly, the federal government’s accrual based net operating cost increased to $760 billion in fiscal year 2005 from $616 billion in fiscal year 2004.

Social Security

In 2004, there were about 30 beneficiaries for every 100 workers. By 2030, there will be about 46 beneficiaries for every 100 workers. A similar demographic pattern confronts the Medicare Program. For example, for the HI Program, there were about 26 beneficiaries for every 100 workers in 2004; by 2030 there are expected to be about 42 beneficiaries for every 100 workers. This ratio for both programs will continue to increase to about 50 beneficiaries for every 100 workers by the end of the projection period, after the baby-boom generation has moved through the Social Security system due to declining birth rates and increasing longevity.

A chart for Social Security showing the number of beneficiaries per 100 workers can be found on page 54 of the 158 page PDF:

Social Security Expenditures minus Income

One quick look at those charts should be proof enough of the silliness of the "no problem yet" crowd. As bad as Social Security looks, Medicaid/Medicare looks worse. Those interested in real facts, should click on the previous link and see what the Comptroller General of the United States is worried about. Norman may not be worried, but the Comptroller General seems worried and you should be worried too.

As for "ignoring the asset side of the equation", Norman's arguments are easily dismissed. Heading into the Nascrash of 2000 assets were high. What happened to those assets? They plunged right? Did debt go away? No it did not. We are in the same situation now, only worse. Greenspan and Bernanke replaced one bubble (in the stock market) with multiple bubbles (housing, stock market, debt).

When assets rise 100% and debt rises 100% what has really happened is that leverage and risk have increased exponentially. What happens if home prices fall a mere 20%? What happens if the stock market falls 40% from here? What happens if real estate prices fall for 8 consecutive years? (Remember they fell 18 consecutive years in Japan). Of course people like Norman say "It can't happen" or "It can't happen here" even though such things have already happened before.

In effect, Norman is suggesting "It's different this time". That argument has a historic 100% failure rate. I do not buy it. Nor should you buy it either, given that home prices are in many places 4 to 5 standard deviations above normal as compared to both rent and wage increases.

History has proven time and time again that housing prices will revert to the mean. When that happens it will make a mockery of those touting the "asset side of the equation". We are now facing the housing equivalent of the "mother of all margin calls" for leveraged debt backed up only by housing prices expected to rise forever. The ramifications of that "margin call" will be enormous.

Consumers have never been in worse shape from a debt standpoint or so dependent on rising house prices. When home prices plunge, asset values will be wiped out but the debt will remain. Compounding the problem is the "bankruptcy Reform Act". That act is an attempt to make people debt slaves forever.

Is America Bankrupt?

In July of 2006 the St. Louis Fed dared to raise the question Is the United States Bankrupt? Here is the conclusion:
There are 77 million baby boomers now ranging from age 41 to age 59. All are hoping to collect tens of thousands of dollars in pension and healthcare benefits from the next generation. These claimants aren’t going away. In three years, the oldest boomers will be eligible for early Social Security benefits. In six years, the boomer vanguard will start collecting Medicare. Our nation has done nothing to prepare for this onslaught of obligation. Instead, it has continued to focus on a completely meaningless fiscal metric — "the" federal deficit — censored and studiously ignored
long-term fiscal analyses that are scientifically coherent, and dramatically expanded the benefit levels being explicitly or implicitly promised to the baby boomers.

Countries can and do go bankrupt. The United States, with its $65.9 trillion fiscal gap, seems clearly headed down that path. The country needs to stop shooting itself in the foot. It needs to adopt generational accounting as its standard method of budgeting and fiscal analysis, and it needs to adopt fundamental tax, Social Security, and healthcare reforms that will redeem our children’s future.
The Trade Deficit

Let's now consider Norman's third article in the series. This one is entitled How Big Is Your Trade Deficit?
Twin deficits will kill us?

This is my last in a series of articles, for the time being, on debt and deficits. I've already written about the budget deficit and the national debt, and I hope you now have some better perspective on those issues, so that the next time you hear the typical one-sided commentary, you'll be better equipped to analyze the arguments. Today, I'd like to discuss the trade deficit.

Reality check

Although we had a $710 billion outflow because of our big import tab, foreigners pumped a whopping $1.2 trillion in investment into our economy. They were snapping up Treasury bonds, stocks, and non-governmental bonds, and putting them into other forms of direct investment. The $1.2 trillion figure more than covered the $710 billion trade deficit, but as usual, the media and the so-called "experts" focused only on the red ink and not the good stuff happening on the financial side.

Yes, the media and the "experts" did talk about those capital inflows, but they totally mischaracterized them by saying that it was simply a case of foreigners "financing" us, and that it was only thanks to their largesse and generosity that we can continue with our profligate ways.


Nobody forces foreigners to invest in America. It's a free, global economy, and they can invest their money anywhere they want. But they put it here because the U.S. economy is the world's engine of growth. Foreign nations -- particularly Asian nations -- have been growing their economies and creating jobs for their citizens by selling products to America. In some cases, this has been going on for decades. In fact, some nations have become so dependent on this form of export-driven growth that they have engaged in all forms of protectionism, including impediments to trade and the costly manipulation of their currencies to maintain a competitive advantage.

At this point, you may be thinking, "Well, haven't they beaten us at the game, then? After all, Mike, you just said they've secured a competitive advantage."

The answer is no -- they haven't beaten us. All they've done is gain an advantage in exports, but it comes at a tremendous cost to their citizens' standard of living. Because to gain that advantage, they've had to divert vast amounts of the money they've earned toward protecting their markets, subsidizing certain industries at the exclusion of others, and keeping their currencies weak relative to the dollar, thereby reducing or suppressing their workers' purchasing power. That's not only inefficient; it's also unsustainable in the long term because it leads to an ever-widening gap between their living standards and those countries where economies are open, as in the case of America. Another way to state it is that imports are a benefit, while exports are a cost.
For the third time we see arguments that equate to "It's different this time". This one suggests that outsourcing of jobs to India and China is a result of strength in the US economy. I strongly disagree. Outsourcing of manufacturing jobs that are replaced with jobs at Walmart can hardly be a good thing.

In the classic sense, savings are what is left over from production after consumption. Given that the US is now a nation of consumers as opposed to producers, any idea that equates consumption as opposed to production as a position of strength is fatally flawed. The US savings rate hit a negative rate of -1.7% the lowest since the great depression. Is that strength? Is it remotely sustainable? The fact that US consumers must grow increasingly indebted to maintain their lifestyle is ample evidence of the unsustainable nature of the current trend. It seems that Norman, like others before him, is making the classic mistake of confusing "savings" with unwarranted asset price inflation caused by "bubble economics" and reckless expansion of credit.

Miscellaneous points of contention
  • Norman accuses foreign countries of protectionism and subsidizing producers. The fact is few countries are worse than the US when it comes to subsidizing markets. Price crop supports should be proof enough. Look also at Boeing and Halliburton. They are being subsidized by a war in Iraq that did not need to be fought. The same can be said for all weapons manufacturing. Brazil offered to sell us ethanol 35 cents cheaper than we can make it ourselves. We refused the offer and instead our government pays a subsidy to produce ethanol from corn, the least efficient method of ethanol production. When it comes to subsidies the best the US can be accused of is "the pot calling the kettle black". A case can be made that we are worse than anyone but Europe. The beacon of free trade is New Zealand. We should aspire to that standard.
  • The idea that the standard of living in China and India is falling is absurd. The fact is the middle class in China and India is rising exponentially while ours is arguably shrinking.
  • Real (inflation adjusted) wages have been falling in the US while rising elsewhere. That is unprecedented in an "economic recovery" and is proof that purchasing power in the US is falling.
  • An increase in jobs and wages elsewhere (in conjunction with a falling US dollar) suggests that purchasing power outside the US is rising not falling.
  • The idea that "imports are a benefit, while exports are a cost" is unsound thinking. It overlooks the destruction of real capital at a rate that is nowhere near sustainable.
Foreign investment in the US

Foreign governments are buying Treasuries because they do not know what else to do with balance of trade dollars, no more, no less. Anecdotal evidence of that statement is easy enough to establish: China tried to buy Unocal, but Congress interfered. Foreign governments have been trying to buy US port operations but Congress blocked that too. So exactly what are they supposed to do with those dollars? Buy oil you suggest? OK if China uses those dollars to buy oil, what does Saudi Arabia do with those US dollars?

The bigger the US deficits are, the more US assets foreigners are going to buy (or try to buy). So foreigners eventually do have to buy US assets (or the balance of trade has to reverse) which is in stark contrast to the statement "Nobody forces foreigners to invest in America".

Is it a good thing for China to own Unocal, or Dubai to own US ports, or other countries to be buying US toll roads? This question was explored in USA For Sale Part 2 . Eventually the US is going to be selling off more and more assets to foreigners whether we like it or not.

We have no choice. That fact that we are selling off the US piece by piece because we have to (not because we want to) is further proof that our current consumption binge is not sustainable.

For now foreigners have been willing to finance our deficits for a mere 5% interest rate. While I suspect this can continue for a while it is a big mistake to assume this arrangement will last forever. The only solution will be to sell off more US assets, stop spending, or hope to god the rest of the world gets as crazy as we are about buying stuff on debt. The latter will only help us if we have a manufacturing base in the US.

The imbalances that Norman says do not matter are about to. A consumer led recession is coming our way regardless of what we do now but the real price to be paid will come later, when China and India no longer need US consumers to grow.

About Mike Norman:

Fool contributor Mike Norman is founder and publisher of the Economic Contrarian Update and is a Fox News Business contributor. He also is a radio show host at BizRadio Network.

Final Thoughts

On one hand I am disappointed that the FOOL published those articles by Norman. The reason I am disappointed is because those articles are filled with factual errors while espousing the "free lunch" economic thinking that has this country in the mess that it is in. Some of those ideas are not "contrarian", they are pure nonsense. Thus the printing of such articles on the grounds of "equal time" is no more valid than it would be to give "equal time" to the flat earth society. At the very least the FOOL might have caught some of the factual errors and the "we owe it to ourselves" silliness. I fear for people that take Norman's message to heart. On the other hand, perhaps I should thank the FOOL and Norman as well because the viewpoint "no problem yet" is so pervasive in current thinking that rebuttals like this need to be heard. On that basis I thank Mike Norman and the FOOL for those posts.

Mike Shedlock / Mish

Sunday, July 23, 2006 6:29 PM

Vancouver Housing Bubble

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I was stunned by this chart posted on the Vancouver Housing Market Blog.

Mish message to Vancouver:

No matter what you think about the Olympics, about tar sands, about the Loonie, about commodities, about anything else, that is a chart of a bubble. It is ridiculous to think that an upcoming two week Olympics will hold prices sky high forever. It is equally fallacious to think that high commodity prices will bail you out. For starters, a worldwide recession could kill commodity prices, and even if that does not happen, housing prices in Vancouver or Toronto can no more stay above wage or rental prices than they could in Florida.

Look at Florida for what is about to happen. Your turn is coming up. I expect to see a 50% plunge in the value of some of those condos (if not more) before this plays out. Given that a Canadian housing bubble popping is not priced in (from my perspective), the Loonie could be subject to a significant correction as well.

Mike Shedlock / Mish

Saturday, July 22, 2006 3:25 PM

Weekend Humor

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Click on either picture for a larger view

3:00 PM

Time To Sell

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Odds of a continued bear market selloff increased today with this cover of Barron's. Magazine covers like this (especially at the end of a three year cyclical runup) are typically very contrarian in nature.

Overly depressed stocks -- particularly large caps -- look poised for a second-half rally, even if global political and economic turmoil lingers. The biggest bargains include familiar names such as General Electric, Home Depot, Cisco, Nestlé and Lehman Brothers.

Supposedly this is the best buying opportunity in big caps since 1994. What a bunch of nonsense. We are headed into a consumer and housing led recession.

This is the best selling opportunity on "familiar names" since 2000. The best selling time for the Nasdaq was earlier this year.

Mike Shedlock / Mish

Friday, July 21, 2006 9:52 AM

Cajoling the Markets

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Today's Thought of the Day comes from John Succo at Minyanville.

Cajoling the Markets

The comparison of what Mr. Bernanke said to Congress..."the housing market slowdown appears to be orderly decline"...to what the CEO of DR Horton (DHI) said..."sales are falling off the Richter scale"...should say a lot of how the government attempts to cajole markets.

The company "senses there are three to four quarters of inventory adjustments ahead for homebuilders."

From the flawed statistics they release to their subjective commentary, I can't believe anyone still listens to them.

Government intervention and control of markets has a very negative cumulative effect. Easy credit allows unproductive companies to survive when they should not. It interrupts the system from cleansing itself which creates stronger growth in the future. Our economic growth becomes more and more dependent on speculation. All that stability investors "feel" is an illusion: the cumulative effect is actually very destabilizing.

There is much anecdotal evidence that investors have become very dependent on government to keep asset prices going higher. This is absolutely necessary for an over-levered economy so it can keep borrowing to consume.

This is where I differ from the bulls. They stay with shallow arguments that growth is this and earnings are that without looking at the why of it. The why of it is that speculation in asset prices is all that is driving growth (companies buying back stock with debt is helping earnings per share dramatically) and this is called a ponzi. It depends on the next guy paying a higher price.

When the next guy does not pay a higher price it falls apart. If asset prices like stocks start going down you will see how quickly growth stalls. Then all that leverage that the Fed has been trying to infuse will unwind. The markets that they have "controlled" will control them.
Thanks to John Succo and Minyanville for today's thought of the day.

Mish Comment:
Look no further that this statement from the FOMC minutes today.
The Federal Open Market Committee intended in its last policy statement to indicate that rate hikes at future meetings was no longer "foreordained," according to a summary of their closed-door deliberations on June 29-30 released Thursday.

Are we really supposed to believe that was their intention? They intended to say something but forgot? What a crock. It is obvious they pour over every little word with a fine toothed comb. Furthermore, if they really meant to say that, they have had 25 days to correct their intentions. Perhaps the collapsing housing market is "scaring some intentions" into them. It should be. But if that was the case why was Bernanke willing to call it an "orderly decline" during his Congressional testimony just yesterday? The answer is obvious. This nothing but another attempt by the Fed to cajole the public today.

Mike Shedlock / Mish

Thursday, July 20, 2006 3:55 PM

Urgent message to gold, silver, oil, and commodity traders

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This post is for commodity traders as well as people who use the Commitment of Traders (COT) reports for other uses. Even if you do not trade commodities or use the COT reports you may find this post interesting so please read on.

The first message is by Minyanville professor Bennet Sedacca. The second post is by Minyanville professor John Succo. Kevin Kerr has a few comments for everyone as do I. Here goes.

From Bennet Sedacca:

The CFTC (Commodities Futures Trading Commission) has indicated that they may stop publishing the COT (Commitment of Traders) report, pending input from the public by August 20th. Pepe wrote on this a while back and I use and have used this data with great success over the years. In fact, I usually Buzz each Monday and it played a HUGE role in me being out of stocks during the bear of 2000-2002.

They have already gotten rid of M3, one of the other most important pieces of data that we use as traders and investors (both individual and institutions).

Do I still live in America? Why must we be kept in the dark? So they can make a bigger mess without us knowing, I suspect - I hate being that cynical, but it sure feels that way. Maybe they should take my Bloomberg away and my Treasury quotes, turn off the lights and have me GUESS what to pay?

Anyway, if you care about this, Email: COT report.
The subject line MUST state COT report
The deadline is 8/20/06.

From John Succo:

Bennet's post is ominous for free markets.

I don't think I am over-reacting when I say that I see all around an effort, conscious or not, to curb information by a government who creates the information. This is symptomatic of what I have called the "socialization" of markets. If I had my way, government would be so small that it wouldn't matter.

Government intervention/manipulation of markets has gotten the U.S. to where it is today: up to our eyeballs in debt, a middle class struggling to stay solvent, and industry less competitive than ever. Their solution is more intervention.

Government gets to the point where "it" believes it knows best and the people need to be led; this feeds on itself and attracts participants who are mostly interested in power.

Just look at our politicians. If I were a con-artist there could be no better con than being a Congressman. They just stall the people and pay their benefactors. There is a great article in the Cincinnati paper about Congressman John Boehner of Ohio, the new House majority leader. He was supposed to help legislation to reduce lobbyist influence in Washington and it seems he has done the opposite.

This has huge implications for our country and for what made it great. Everyone should re-read "The Fountainhead" by Ayn Rand. Her philosophy in a pure sense may be over the top, but it has some great lessons in it and one can certainly see some parallels in our world today.

From Kevin Kerr:

The COT report is a vital tool for the free market trader. I use it everyday when considering trades. It is about the only piece of data the Government puts out that I actually think is useful. So when I found out this information might be taken away happen I was very disappointed, but unfortunately not surprised at all. I find the growing propensity of the US government to walk all over freedom of information appalling.

By hiding key market info like the COT report, the marketplace is no longer level, and free market integrity is deeply in question. I for one plan to write to Congress, the CFTC, NFA and even the President to express my objection to suppression of information.

What would be the purpose for not publishing this information? We all know the real answer, but the question is what will they say? If we want to have our free market system then we must fight for it.

Kevin Kerr, Lifelong Commodities Trader
Editor Resource Trader Alert (RTA) newsletter

From Mish:

For those that have not heard the term "COT" report, it is a "commitment of traders" report that discloses the futures position of hedgers (commodity producers or buyers), big specs (hedge funds and mutual funds), small specs (individual traders) as to whether or not they are short or long, and by how much they are short or long. That statement alone should be enough to tell you that certain players may not want their position to be known. Rest assured the big players will probably know it anyway, and not just once a week either.

At a time when data is easy and cheap to gather we should have more data not less data. It seems the SEC, the CFTC, the FED, and various other government agencies are acting to restrict the flow of information. Many people are upset about the cancellation of M3 reporting and fear the same will happen to COT data.

COT reports come out on Friday reflective of positions as of Tuesday. In this electronic age, they probably should come out once a day or at least with a 1 day time lag vs. the current three day lag.

The same hold true and even more so for short reports. Short reports come out once a month. By the time the data does come out, it is quickly outdated and useless. One wonders if the intent is to make the data useless or as useless as possible.

Stacked Deck

Look at how stacked the deck is:

  1. Massive Insider back dating of options
  2. Massive Insider selling of stocks while buying back shares for the public to meet EPS requirements
  3. Three day delays in COT reports (reports that insiders do not want the public to see at all)
  4. Elimination of M3 reporting
  5. Short interest stats that come out so infrequently as to be useless
  6. Upgrades at the top and downgrades at the bottom
  7. Upgrades and downgrades after mutual funds have bought in or sold
  8. Debt rating changes happen only after they are totally expected (GM, Ford)
  9. Debt rating companies have side business relationships with companies they rate
  10. Upgrades and downgrades of stocks during options expiration week and other less liquid times for maximum effect
I am sure there are additional "stacked deck" examples. Those came to mind in about two minutes flat. Elimination of the COT report would be another attempt to further stack the deck.

John Succo and Bennett Sedacca are two of the brightest minds I know. I would also like to add a couple of other Minyanville professors to that list: Scott Reamer and Kevin Depew.

Kevin Kerr is one of the best commodity traders there is.

If these guys are all upset about something then I know two things:
  1. I should be paying attention.
  2. You should be paying attention.
Here is the original Request For Comments by the Commodity Futures Trading Commission.

I had a brief conversation with Kevin Depew at Minyanville about that request. Depew points out the possibility that we may be overreacting a bit. The reason that everyone is jumpy is the elimination of M3 reporting by the Fed and that this Request For Comments by the CFTC may be a valid attempt to improve our access to data. On the other hand it is possible that this comment period is nothing more than an attempt by the CFTC to eliminate the COT reports or reduce their usefulness by reporting that data once a month as opposed to once a week.

The point is we do not know what the intent is so it is hard to say if we are overreacting or underreacting at this point. What we do know is that unless you speak your mind by August 21, 2006, you will lose the opportunity to affect their decision.

Mike Shedlock / Mish
Editor The Survival Report
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Blog Mish's Global Economic Trend Analysis

On behalf of everyone mentioned above, we ask you to flood the CFTC with comments asking for more timely reporting of COT data, not the elimination of it.

Please click on the following link and make yourself heard:
Email: COT report. Please reply now, with a subject matter of COT Report.

Mike Shedlock / Mish

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