Sunday, February 1, 2009

UNCOMMON COMMON SENSE written by Aubie Baltin on December 22, 2008

Uncommon Common Sense

Aubie Baltin CFA, CTA, CFP, PhD.

The National Bureau of Economic Research (NBER) said; its Business Cycle Dating Committee determined that the U.S. entered recession in December 2007. WOW! Is that a fact? I've been saying we were in a recession for the last 10 months or so. Am I that smart, or was I just not in Denial? (See DENIAL Mar. 2007)

A devastating new financial and economic crisis is headed our way and there's no stopping it. And its impact could make the sub-prime sell-off, housing collapse and banking crisis look like child's play. WHY? Despite the government's bailout plan, home prices are falling, unemployment is rising, manufacturing is collapsing and prices are declining. Even Oil that GS and JPM predicted would hit $200 by 2008 and $300 by 2009 has been dropping like a stone along with the drop in demand. More Americans are holding on to their money and the global economy is slowly (maybe not so slowly) sinking into Recession and will most likely follow the USA into Depression: Resulting in a dangerous deflationary spiral that will continue to crush earnings and increase layoffs as businesses cut production, stop any and all expansion plans at best or declare bankruptcy at worst.

Tragically, most economists, analysts and investors have no clue as to how global deflation will not only undermine the world's markets...but will make the 1973-74 and 1980-82 Recessions look like just an afternoon snooze. In fact, be prepared for the Recession to quickly turn into a Depression that will challenge the 1930's and may even surpass it as the US is in much worse shape to day than it was back in 1929.

The reasons are staring us all in the face

Unlike rising inflation that you can choke off quickly by jacking up interest rates, deflation is a much more insidious animal to control. Falling prices make it difficult or impossible for businesses to either payoff their debt or to increase their borrowing, especially when interest rates are low. As a result, profit margins decline and quickly turn into losses and layoffs increase as consumers reduce their spending, fearing that their own job may be in jeopardy. The resulting chain reaction causes prices to fall further, making your cash not only worth more, but your debts more expensive to pay off-not only for individuals but for businesses as well. This will make it even more difficult and risky for banks to lend money since businesses won't show the growth needed to pay back their outstanding loans, forget about new ones.

The end result will be to crush the unwitting investors who fail to understand or refuse to see the dangerous situation that's unfolding.

My name is Aubie Baltin and I didn't write this report to scare you. I wrote it in hopes that because of my track record, especially over the last three years, you will heed my warnings and take the proper steps to protect yourself and perhaps even profit in the months and years ahead. You see, in my 50 years of investing, I've never seen such a dangerous situation forming and there does not seems to be even one person of influence who has any IDEA OF WHAT SHOULD OR COULD BE DONE TO MITIGATE THE ON RUSHING DISASTER.

Despite the government's bailouts of Fannie Mae, Freddie Mac, Bear Stearns and AIG, despite the $700 billion allocated to banks and despite the fact that Treasury Secretary Paulson claimed "the fundamentals of our economy are sound...the actions taken by the Treasury and Fed over the past three months are not working, with the markets losing more than 20% since October 3rd, while more than doubling the FED'S balance sheet with junk instead of Treasuries.

When you add up Paulson's actions to date...

* The Term Auction Facility
* The Term Securities Lending Facility
* The Primary Dealer Credit Facility
* The Commercial Paper Funding Facility, and
* The Money Market Investor Funding Facility's crystal clear that his policies have been more like Don Quixote battling windmills than guiding the economy with a sure and steady hand.

Why is the Estimated $8.5 Trillion Injected Into the System not Working?

The simple answer is because the money supply, the contraction of Credit and the Collateral behind all the outstanding loans is shrinking faster than the FED and the Treasury can create new money. By the end of October, between the drop in the equity markets and the decline in home prices over $ 13 trillion of wealth has evaporated: And the situation is going to get a whole lot worse before it gets better!

This Is Why You Must Reposition Your Assets Now

You needn't take my word for it. Just ask Japanese investors who lost 60% in equities between 1989 and 1992 and saw their home prices lose 70% of their value ! But while the specter of deflation will send millions of investors to the poorhouse, it could make millionaires out of anyone who understands how to take advantage of this dramatic shift. Will you be one of the winners or one of the losers?

As far back as November 2006, I published "Why Hasn't "IT" Happened Yet"; long before the word "derivatives" ever hit the front page and while total unregulated derivatives were still less than a $ trillion, I rationed that we were rapidly headed for grave danger of a global financial meltdown stemming from the untamable and unregulated growth of the now $600 trillion global derivatives market. Warren Buffet recognized the danger, calling it a time bomb waiting to explode but then somehow got caught by it: The shadow market that is 10 times the size of world GDP and has been labeled "the Phantom Economy." A Measly 5% slip wipes out $30 trillion.

In letter after letter I warned about the hidden financial time bombs, which were lying in America's banks, and which I believed could detonate at any time...setting off a devastating chain of events that would end up causing the greatest financial meltdown since the Great Depression. They didn't listen then and they are still not listening now.

Doing the same thing over and over again and each time expecting a different outcome is the definition of insanity.

The Worldwide Industrial Shutdown

The international economic data now being released is down right frightening. Not only is US industry contracting at the fastest pace in 26 years, but manufacturing indices from Europe, Russia, China, Latin America and Southeast Asia are all showing record shrinkages as well.

The World's Factories Are Turning Out Their Lights

US manufacturing activity contracted for the fourth consecutive month. The November ISM index fell to 36.2%, the lowest reading since May 1982. In the 15-nation Euro zone, manufacturing contracted by the most on record in November. Indices for Poland, Hungary, Sweden and the Czech Republic showed some of the steepest ever declines as Recession struck their main export markets. Even manufacturing in China fell by a record amount in November. Southeast Asia followed in the rout and Japan's exports fell 7.7%, the biggest drop since December 2001.

In The Background Hovers The Great US Deflation

The US is leading the worldwide parade. This can be seen from the fact that the debt deflation has carved $7 TRILLION US from US stock indices and another $6 TRILLION US from US home equity. That is a direct loss of financial wealth totaling $13 TRILLION US. In response the Federal Government committed an additional $800 Billion US, bringing its cumulative commitment to financial rescue initiatives to a staggering $8.5 TRILLION US, which is only slightly more than 50% of what's been lost thus far..

STEEL - The Global Depression Indicator

Crude steel production for the 66 countries reporting to the World Steel Association was 12.4% lower than last year. The declines were particularly severe in China, down 17% from last October, and Russia down 27%. Some 90 million tons or two months worth of imports of iron ore are now stockpiled in Chinese ports due to a sudden collapse in demand by Chinese steel mills. Scrap steel, recently fell to $90 US per ton after having traded at $550 US in July! When both price and volume collapse simultaneously, it is a clear indication of a deep global Recession/Depression.

Deleveraging - Every bit of leverage is being pulled

"The brokerage firms are pulling in their lines and so are the banks. At the same time, there is nobody willing to put new capital into new investment." "Over leveraged is the clearest description of the US financial system today." "At eight of the largest US financial institutions, tangible equity equals slightly more 3.% of assets (which are rapidly declining in value) which implies over 30 times leverage." WHICH IS WHY THE BANKS ARE NOT LENDING. In a credit contraction, being in debt is terrible. In a credit deflation - which is stalking the world today - being in debt can be down right deadly. As credit deflates, it also contracts the total volume of credit money in circulation. That sends the deeply indebted or overleveraged into a near frenzy to re-gain liquidity; selling everything in sight including Gold to gain cash in their desperate attempt to stay solvent. Once the debtors have gained some cash and used it to repay some debt, they have de-leveraged. But they have also deflated the money supply even further. This is near fatal to any credit, fiat money based economy.

The Facts

The Fed and Treasury are acting the way they are because they think that there are no longer any other alternatives. They believe that by not acting, the entire US financial and monetary system will slide into a monetary and credit deflation which will, in turn, drag the entire US economy down with it into a Depression that will rival and perhaps exceed the one in the 1930s. Congress has signed on to this same idea. This can be seen from the Democrats who are now cooking up yet another "stimulus package" with numbers around $500-700 Billion which will probably be at a $Trillion by the time Obama takes office and bails out the car industry - all to be borrowed of course by the US Treasury and then spent on what, public works?. It assumes that the US economy and financial system would already be in a 1930s situation had the Treasury and the Fed not acted to the extent they have. It also assumes that the moment they both stop or even slow down, the same, sad end will be the result.

Excluded From American Thought

Two scenarios are willfully excluded. The first exclusion is the possibility that the Treasury will be unable to continue to increase its borrowing. The second exclusion is the possibility that the US Dollar will lose its current international standing as a viable currency, let alone continue to function as a reserve currency.

Totally Excluded FromThought

The situation in which the US finds itself in today is not unknown to political and economic history. The former British Empire was in a near similar position during the Crimean War (Against Russia in the Black Sea). (They too refused to learn from history; (Napoleon). Luckily saner minds in Britain prevailed. A peace was entered into with Russia and Great Britain withdrew. With British finances in a complete shambles the prescription (before Keynes came on the scene) of the British Classical Economists were followed. The British Discount Rate was raised and a severe economic recession followed. The higher Interest Rates brought a huge inflow of foreign funds. The internal economic contraction lowered prices, increasing exports while reducing imports. The balance of trade swung from deficit into surplus. Within three years, the British economy once again had low market rates of interest freely funded by internal business and private savings and Britain once again became the foremost economy in the world with an annual current account surplus of 4.6% of GDP.

What Can We Do?

There is no reason why the US could not follow a similar policy: To do so would entail a US military withdrawal from Iraq, from Afghanistan and especially from NATO (which is about to sign a deal with Russia which will exclude us anyway). That would cut the current Pentagon budget by at least 50% freeing up a massive amount of resources to re-invest in the private sector. And HIGHER, not lower, US interest rates would ignite that investment.

A Return to Free Market Economics

To use just one example: By removing all road blocks, plus providing huge incentives for oil exploration during the next 3 - 5 years, we could create 250,000 to 350,000 jobs quicker than all the Government programs put together. PLUS it would not cost the Government one red cent; in fact, they would collect $ Billions from selling oil leases both on and off shore. It would also go a long way in shoring up our balance of payments, increase our security and most important of all, help insure our access to power, with out which our economy will collapse in the not to distant future, as the world eventually resumes its growth and the problem of PEAK OIL re-asserts itself..

Give out permits to build nuclear power plants on government land (such as on surplus military bases), cut out the red tape, and circumvent environmentalist extremists and the courts. This also would bring money into the government while not costing us a penny in creating an additional 250,000 jobs plus, and that's not counting all the ancillary jobs that would be created. It would assure our economy's access to cheap reliable energy, without which our economy will stagnate, crushing the very people that Obama has sworn to protect.

The Money Factory

Although the US Federal Reserve credit issuance has been greatly expanded; but big as it looks, they are in fact puny numbers compared to the $13 TRILLION in wealth that has evaporated. The problem that the Fed and the Treasury have is that these falling prices and valuations of US stocks and real estate is the collateral which underpins the loans of our banks and other lenders. If $1,000,000 US has been lent against collateral, which is now only valued on the market at $700,000 US and if the collateral is repossessed, the lender is still looking at a loss of $300,000 (assuming everyone else is not trying to dump the exact same type of assets).

That is the precise problem that haunts the Fed and Treasury. So many loans are now "underwater" that the entire US financial and monetary system can be brought down in any systemic crisis that might accelerate out of control. This situation, so long in the financial background, has been the real cause of all the bailouts of those deemed too big to fail.

US Corporations Have Debts Too

The accelerating crash in real estate mortgages has its counterpart in US corporate bonds. US long-term corporate bonds declined in value by more than 18% on average through October, which is worse than any full-year decline going back to 1926! The sudden rout in US corporate bonds, particularly high-yield bonds, has been considerably worse than even the deeply distressed markets of the Great Depression were. Corporate bonds and commercial mortgage crashes are always the harbingers of an outright corporate collapse.

If you recall; as early as 2 years ago, I mentioned in missive after missive that the best and safest Investment that I ever saw was to Buy Treasuries and Short Junk Bonds.

The Third and Final Deflation Stage

In all past deflations, the third stage hits when the last lender goes broke. The last lender is the US Treasury itself. Historically, all deflations either end here or morph into hyper-inflation because there is literally nowhere else to go.

A Global Economic Overview

For the first time since the end of WW II, the entire world is now in a synchronized Recession/Depression. In all prior international recession periods, there were at least a few major industrial countries that were slowing down, but managed to stay out of Recession. This time, even the best economies are now in trouble.

A Global Financial Overview

The US sub-prime crisis was the spark that ignited the worldwide credit powder keg because so many other nations had bought these "investments" from the US financial giants. The holes they burned in international balance sheets were the triggers that set off the global credit crunch. This credit crunch froze the international payments system and escalated fast into a global deflationary situation with the global financial system close to a systemic failure.

The Chinese Recession Has Arrived

The internal Chinese economy is showing all the classical signs of having entered into its very own Recession, shattering the hopes of China taking over for the Us as the engine of growth. (an illogical idea at best)

Japan joins the march

Japan's exports fell 7.7% in October in the biggest drop and as the economy entered into its worst slump since 2001 and slipped deeper into Recession with its factory output tumbling 3.1%and consumer spending dropping 3.8%.

What Next? They Never Learn

On December 15-16, the FOMC meets for the last time before Mr. Obama is inaugurated. The Fed is expected to lower by at least 0.50% - or even more. The frantic repatriation of capital by US investors and the global de-leveraging, which have been boosting the US Dollar and Treasuries, is showing signs of winding down. The huge rise of the USDX is just about over with short-term Treasury yields at a rock bottom 0% a Fed rate cut to new historic lows will put both Treasuries and the US Dollar under huge pressure. The Fed surely knows this, but the KNOW NOTHING politician's and media pressure to cut will almost certainly be the deciding factor.

Lessons Learned The Hard Way

With all the experts they have at their disposal, Government's are only able to learn from catastrophe and not from history or experience." So, as individual citizens are spending less, saving more, shunning what they see as "risk" and trying to prepare as best they can for what they can clearly see as the "hard times" to come, Governments are spending like drunken sailors (I apologize to all drunken sailors, as least they spend only their own money), blowing out deficits, pouring "liquidity" into empty shells and furiously denying that there is anything that they can not spend their way out of. The final schism between the "private" and "public" sectors will come when the "government guarantees," now so eagerly sought begin to be shunned. In order for GM to survive long term, they would have declared bankruptcy by now and did what they now have to do without the Government's help and what's worse, supervision. Do you really believe that with Government oversight and new regulations but with the same old union and its work rules and pay scales, GM can now be made to succeed? Oh Really?

The Main Problem

When we allow our education system to be taken over by the far left, who promptly become entrenched by instituting a program of tenure so you can't get rid of them; we end up with all economists, politicians and journalists especially the ones who graduate from the real seats of power (Harvard, Princeton and Yale), using text books written by Socialists. These economists, who are all steeped in Keynesian economics, can't understand that what is consumed must first be produced. The consumer is first and foremost a wage earner and you can't have rising wages and an increasing living standard without prosperous, highly profitable and growing companies. The surest way to guarantee a falling standard of living accompanied with large unemployment is an excess profits tax. It doesn't dawn on them that high taxes on corporations are really high taxes on consumers because, unless the companies can pass the extra costs (taxes) on to consumers, the company goes out of business or shify production to low tax lower wage countries. The companies are not moving voluntarily, the government is driving them out.

There has never been a socialist system that has ever succeeded.

Where to Now, DOW?

There are many lessons than can be learned from the 1930's Depression. The most important lesson that must be learned as an investor is that although the worst of the Depression was 1936-37 and lasted into 1946, the bottom of the stock market was made in 1932. The entire Bear Market lasted for only 3 years. So please do not become mesmerized by the economic numbers coming out over the next three months, be prepared to witness some of the worst economic data you've ever seen or heard of. But the key to remember is that the market has most likely discounted much of the bad news. That's why the major indexes were already down more than 45% this year and why they crashed in September, October and most of November. My point is that the market is a discounting mechanism and always reacts to what the economic landscape will look like in the future, not the economic readings of yesterday which are being reported today. From that stand point, I thought that there was a good chance that the market, after breaking below its lows, would then complete Wave A of Wave {IV} with Waves B up and Wave C down yet to come.

NOTE: This market low that we just saw will not be the final bottom. It will only be a 1930-31 type {B} Wave bounce that may be large enough to trap even the best of the bears before the market resumes its Bear Market in 2009-2010. This last 3 days of pull-back may be minor wave (b) of the larger a,b,c, of Wave B which will then set the stage for Wave (c) that could carry the DOW back to the 10,500 +/- level. The market may have laid the groundwork for a couple of good up months ahead, despite what the economic indicators will be saying.

BUT BE CAREFUL, we are still in a major Bear Market. We have only discounted the Recession. The next stage of the Bear Market will be the discounting of the Depression.

FORGET ABOUT JUST BUYING AND HOLDING. IT'S A TRADERS MARKET but whatever you do, DO NOT chase rallies. BUY only into 500 to 1,000 point sell-offs. Better to be safe and stay in cash and wait for the shorting opportunities that are sure to come.


What's with all the bitching and complaining? Since 2001, I have been calling for a 16 to 20 year BULL MARKET for Gold. Did you think that this Bull Market would be different from all others and would not have even one pull-back in 16 years? So far Gold, except for the manipulated Treasury Bond Market, is the only Bull Market still standing. Thus far, the Gold Market has pulled-back a maximum 32% over 8 months. A normal Elliott Wave minimum correction is 38%, lasting an absolute minimum 9 months, but a more normal bull-back time wise would be 1.5 years. As I have pointed out to you time and time again, the maximum expected pull-back, especially if the 4th wave of one lesser degree is a diagonal triangle, would be back to the apex of that triangle which stands at $600 to $650. What we are witnessing is a less than normal correction thus far. If we were to have a parabolic up move, it would be fast and furious but it would not last any longer than did $147 oil. We may have hit $1200 or $1500 and then crashed just like Oil and the rest of the commodities have - I don't know about you, but I'm looking for $6,250 over the next 8 to 12 years. I have been warning you all along NOT TO BE A TRADER. Sell options against some of your positions if you must, but continue to accumulate on weakness. Unless you are experienced and successful traders Just hang on to that GOLDEN BULL the ride will be bumpy but well worth it and extremely satisfying once the ride is over. I for one will last longer than the 2.7 seconds on the Bull named Fu Man Chu..

Unless you are experienced, knowledgeable investors: Stick to GLD and GDX. Use DGP or margin if you want more leverage. If you still want more action, buy options. If GDX is not exciting enough and you want Juniors, there are a few excellent services out there that you can subscribe to. I am no longer able to do proprietary research on individual companies and I do not comment on other commentators that I do not know personally.

Just like during the heyday of the commodity bubble, I cautioned all investors that there would be a major supply response to continued high prices. The Laws of Supply and Demand may be asleep for awhile, but they are not Dead. The Demand side of the LAW is about to kick in for Gold and Silver! THERE IS A SUPPLY DEMAND PRICE EXPLOSION BAKED INTO THE SYSTEM JUST WAITING TO BE RELEASED.

So Keep the Faith and Enjoy the Ride. You Will Not Have Much Longer to Wait

December 22, 2008
Aubie Baltin CFA, CTA, CFP, PhD.
2078 Bonisle Circle
Palm Beach Gardens FL. 33418

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