Wednesday, July 8, 2009

The Tipping Point

The global economy today has a similar theme to a book I read a few years ago, "The Tipping Point" by Malcom Gladwell. The book rocked the business world, opening minds to a new way of looking at sociological events. He used examples in the book such as when certain brands of clothes or shoes go from being an underground fad to the "tipping point", when they spread as a national phenomena. The tipping point is when something starts to spread rapidly beyond the point of return.

I think we saw this in action last fall when Fannie and Freddie Mac failed. That event triggered panic in the financial system that led to the tipping point of financial Armageddon. Every major investment bank, the core of our financial system, became literally insolvent overnight. The panic spread throughout the world and it became uncontrollable.

The tipping point, as described in the book, does not just occur out of thin air. It has to build ever so slowly until it reaches that critical level.

The financial crisis is not something that appeared out of thin air. It took years of excess, subprime debt, leveraged derivatives, and speculation before it finally came undone.

This same process is occurring today with the dollar. Every hour of every day we move closer to the tipping point of our currency going into a free falling abyss.

Back in 2006, it seemed impossible for the financial system to be headed toward collapse, but a large collection of small events brought us to the tipping point in August of last year.

Today, we see a similar theme building. In a Bloomberg column this morning it read:

"China expanded yuan settlement agreements last week from border zones to its largest financial centers, including Shanghai, Guangzhou and Hong Kong. The program is being rolled out across Malaysia, Indonesia, Brazil and Russia, all nations seeking to reduce the dollar’s role as the linchpin of world finance and trade."

This means that business will now be conducted in yuan, not dollars. While this seems small, it is a massive change in global commerce.

Other countries around the world are slowly beginning to adopt similar policies.

Along with trade and business conducted in local currencies, we continue to hear of foreign savings moving away from US assets. Foreign purchases of treasuries have fallen significantly this year and their cries to our leaders of fiscal irresponsibility have fallen on deaf ears as they continue to push through one spending bill after another.

On our own shores, our economy is now moving away from destruction and toward full disintegration. The entire economy is now propped up by the government and Federal Reserve and it is only a matter of time before the house of cards collapses.

All debt across the board is exploding at a frightening pace. Real estate, corporate, and even California debt is losing value every second. You do not hear much about the banks these days, but the sky has only grown darker for their balance sheets.

We hear now that the FDIC is preparing for a massive wave of bank defaults approaching.

Its hard to believe that in 2005, the word subprime was considered a positive term in the investment world. It was a way to receive higher returns with little risk and investors lined up around the world to purchase. How different we look at things today after reaching the tipping point last summer.

When will this mighty domino fall? Your guess is as good as mine. However, I think once it starts, it will be similar to the fall of Bear Stearns or Lehman brothers. Investors will be wiped out in the blink of an eye, and we will be living our lives in a whole new paradigm.

For those that think this thought is ridiculous because financial experts and politicians say it's impossible, let's look back at the week of March 11, 2008. On that Wednesday, one of the most popular face of the financial world, Jim Cramer, was asked by an investor if their money was safe at Bear Stearns. The stock that day was worth $62.


The following Monday, the firm no longer existed. The company was bought by J.P. Morgan over the weekend for $2 per share. Many people lost their life savings over that weekend.

Open your eyes to what is happening all around you, don't be someone who has all your retirement eggs in a Bear Stearns company stock fund because it will "never fail".

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