Saturday, March 20, 2010

The Illusion Of Safety

On the news you hear about how worried financial advisors are that the stock market has risen too far too fast.  They worry that the public has entered the market at the wrong time.

They are correct about half of that statement.  The American market has risen too soon too fast and has once again become overvalued based on historical P/E ratios.

The part they are incorrect on is that the public has entered the market. 

During 2009, bond mutual funds saw inflows of $440 billion.  Global Stock mutual funds saw inflows of only $45 billion.  American specific stock market funds saw inflows of only $800 million.  This trend has continued into 2010.

This important information can be looked at in multiple ways.

One way to view it is that because the public has yet to enter the stock market it could mean the stock market could head higher over the short term as investors try to catch the upward movement they have missed out on thus far.  I agree with that view, and think this cyclical bull market could head higher in the short term.  (However, remember that we are in a long term secular bear market for stocks and we have not come close to the ultimate lows in the market priced in gold)

Another way to look at this information is to say that the public has once again all headed in the wrong direction at the wrong time.

During 1999 the public poured into technology stocks just at they were set to explode.  In 2005 they poured into the safety of the housing market because home prices did not fall.  (At least not for the previous 70 years they didn't)  They did this just as the housing market was on the precipice of collapse.

Now they have all held hands and moved together into the bond markets.  They are buying up muncipal (state) debt, corporate debt, and federal government debt.

 Just as realtors told them they were making an excellent/safe investment back in 2005, financial advisors tell their clients today that bonds represent the ultimate form of safety. 

"Bonds don't go down like stocks.  They don't fall in price like real estate.  You are guaranteed your principle even though the return is small."

Ah, they can now take a deep breath and enjoy the feeling of safety.

What the financial advisors forgot to tell them is that you can lose money in bonds.  Not only can you lose some of your money, you can lose all your money.

Unlike real estate which will always have some value, bonds can go to zero.  How?  The entity you loaned money to cannot or does not want to pay you back.  That is all a bond is; lending money for a rate of interest.

We have been in a bull market for bonds since 1981.  That is 29 years running.  That is longer than most financial advisors have been in the business.  Not only are we entering a bear market for bonds, I believe it is the last great bubble to burst.  Proceed with caution, extreme caution.

An obvious question is, how has the stock market risen if the public has not entered the market.  The answer is through the commercials moving the market higher.  This entire rally has been driven with very low volume.  That means that the high frequency traders such as Goldman Sachs have the ability to move the market with ease.

Unless the public decides to enter, the market will go up as long as the commercials want it to.  When they don't, look out below.  The next thirty days will be extremely important as the Federal Reserve begins its "exit" strategy out of the markets.  Their lack of impact could be the catalyst for the next major move in many asset classes.

Friday, March 19, 2010

The Repo Man

The catch phrase over the past two weeks has been "Repo 105," which is the accounting fraud Lehman used to cook their books during every quarterly earnings period. (And we are now finding out more of the big banks were/are using it as well)

The following video provides a simple explanation on what this Repo 105 actually is:

Repo 105 from Marketplace on Vimeo.

Tuesday, March 16, 2010

Meredith Whitney Warns Again

In the clip below the great Meredith Whitney spends some time speaking with CNBC. She made her name in the fall of 2007 calling for the demise of the large banks; specifically Citigroup. Unfortunately, her warnings today now once again fall on deaf ears.

One In Ten Mortgages Not Being Paid

The following chart provides a real time update on the state of the housing meltdown.  The shaded purple area shows the percentage of mortgages that are currently in foreclosure.  The shaded yellow area shows the percentage of mortgages that are 90 days or more delinquent:


This chart shows that currently 10% of mortgage holders are not making a monthly payment.

As you can see the lines historically have tracked each other on a 1:1 basis.  As homes became delinquent, the banks filed for foreclosure.

Only recently have the lines separated.  The number of homes 90 days delinquent have skyrocketed, while the number of homes in forclosure has only risen mildly thus far.

This difference is known as the shadow inventory.  It is the tsunami of homes that will be coming on to  the market over the next few years at fire sale prices. 

The following chart shows the quarterly losses posted by Fannie Mae and Freddie Mac.  As you can see, the two monsters began hemorrhaging money in the third quarter of 2008 and they have not stopped.

With the Fed's mortgage purchase program set to expire, and the coming onslaught of new foreclosures entering the market, look for the losses at Fannie and Freddie to reach unimaginable levels.

This is the reason why our government took away the loss limits for the two mortgage giants on Christmas Eve last year. 

The continuous rolling losses will be added to our yearly Federal deficit.  As foreign countries continue to sell off our debt, which I discussed yesterday, it leaves only the Federal Reserve to purchase the endless trillions.

In the end it is the same whether they purchase the mortgages directly from Freddie and Fannie (as they are now) or they purchase treasury debt from the Federal government when they have to absorb the losses.

In the meantime it keeps the American public confused.  Unfortunately, the foreign buyers which have kept us on life support see right through the smoke screens.  The debts will ultimately be purchased by the Fed, and all dollar denominated holdings will be decimated.

Monday, March 15, 2010

Repo 105

Great video from Dylan Ratigan explaining the now infamous "Repo 105" accounting fraud used by Lehman brothers and most likely being used by all the big banks today.

Visit msnbc.com for breaking news, world news, and news about the economy

US Debt: Who Is Selling?

The January numbers were released today showing the buyers (or more importantly sellers) of US treasury debt.

After a monster sell off in December, China continued its selling in January by unloading $6 billion in debt.  Japan was a net seller as well.

The following chart shows the world's two largest treasury holders (the red and blue lines; China and Japan) ridding themselves of US debt.


The big mystery for the last four months has been the enormous purchases coming from the UK. (A country that is insolvent like the US and cannot afford to purchase our debt)

The two main suspects behind these purchases are China and the Federal Reserve, who could be purchasing from this country for political reasons. (The Fed hiding the purchases is obvious, China is a little more suspicious.)

Time will tell who is behind the buying, which is the most important news story this year.