-- Posted Wednesday, 21 February 2007 | Digg This Article

While the Chinese celebrate the year of the pig, the “Don’t Worry, Be Happy” crowd on Wall Street are fattening up their piglets with “Goldilocks “economic forecasts despite storm clouds on the horizon. TOUT-TV (CNBC-TV) continues to do its part in getting the piglets ready for the trip to the slaughterhouse even though the announced new FOX Business Channel may become reality in time to save some from becoming bacon.

It’s my firm belief that the financial markets are at a crossroad never before seen. Unlike many of their neighbors to the North, most American investors are either unaware of the storm approaching or believe it will not hit them. Perhaps by robbing Peter to pay Paul so they can attempt to keep up with the Joneses, the typical American investor is unaware of the mortal danger fast approaching. You have to have sympathy for them knowing their leading “weather forecaster” on TOUT-TV spends most of his time hitting buttons and screaming at the camera. It will be interesting to hear what it will be like hearing the piglets screaming “Boo-yah” as they hustle down the ramp into the slaughterhouse (Mark Skousen comments http://www.investment-u.com/ppc/splash_cramer.cfm?kw=XVVIUE89)

Overall Assessment –

It’s my contention that America has been robbing Peter to pay Paul but Peter is now tapped out. Thanks to Wall Street and Madison Avenue, the average American has been led to believe that more money equals more happiness. Unfortunately, they’re killing themselves by trying to keep up with the Joneses by obtaining many things, but owning outright very little of them. They bow not to their God in Heaven but to their debt pushers. It may be hard to believe, but Shania Twain has seen the reality of all this better than most in her song “Ka-Ching”. I urge you to seriously listen to all the lyrics (as hard as that can be with Shania in the video). It’s an absolute bulls-eye assessment on how Americans have been living. http://youtube.com/watch?v=27vdkmU8ErE

America’s day as the world’s number one economic power is ending. The only question is how bad will it get? Most Americans have no idea or have chosen to ignore it. Their reckoning day is near!

U.S. Economy –

The “Don’t Worry, Be Happy” crowd continues to tout a “Goldilocks’” economy forthcoming. This is where the economy is not too hot, nor is it too cold, but just right. Putting aside for a moment the fact that finding a needle in a haystack is easier than finding an actual time in America’s past when such an occurrence took place, let’s try to remember our childhood fable. What seems to be forgotten with the Goldilocks analogy is the end of the story, which, depending on the version, wraps up with Goldilocks either fleeing for her dear life out the back door, or being eaten by the angry bears.

Such shall be the case, IMHO, here in the good old USA. Yes, for now, TOUT-TV fable tellers Haines, Kernan, Kudlow and crew seemingly have turned fiction into non-fiction. But just like former CNBC anchorman Neal Cavuto (now FOX News Business Editor) will huff and puff and blow down his former home with FOX’s new business channel (please God), so shall this Goldilocks’ hoax be shown for what it really is – empty promises.

There are a whole host of factors that have come together to form the perfect economic, social and political storm:

Economic Front – It’s extremely important to remember that the U.S. is the world’s largest debtor nation. We must borrow money every day to finance our deficit spending. Two GATA dispatches: (http://www.gata.org/node/4830 and http://www.gata.org/node/4832) noted how the recent news on capital inflows should be of great concern. I would like to go so far as to suggest it could be the most alarming news in quite some time. If we get another month of similar results, the whole ball of wax could already be becoming unglued (I urge readers to become financial supporters of http://www.gata.org).

It’s been my belief that the greatest crisis America faces is not an energy or terrorism crisis, but an aging crisis. I have stated that the entitlement issues will dwarf all others. I took great comfort in this assessment recently when Fed Chairman Bernanke warned that the rising health-care and Social Security spending could create a “vicious cycle” of rising debt and interest payments and an eventual fiscal crisis.

Under Congressional Budget Office projections (see chart left), the ratio of federal debt held by the public to gross domestic product will rise to about 100% in 2030 and “grow exponentially after that,” from about 37% now, Mr. Bernanke said. “Ultimately, this expansion of debt would spark a fiscal crisis, which could be addressed only by very sharp spending cuts or tax increases, or both,” he said. The “effects on the U.S. economy would be severe. Rising debt would require increased spending on interest payments. A vicious cycle may develop in which large deficits lead to rapid growth in debt and interest payments, which in turn add to subsequent deficits,” he added.

There are numerous other bearish economic factors including:

·    Negative Savings - Not since the Great Depression has the U.S. savings rate been this low. The savings rate for 2006 was minus one-percent. It’s been negative for 21 straight months. America has managed to forestall the inevitable meltdown from negative savings thanks to past massive tax cuts, stock market gains and big run-ups in housing prices. Unfortunately, their last bastion, the housing market, has blown up and all the talk of a bottom fell through the floor last week.

·    Housing/real estate – Construction of new homes and apartments plunged by 14.3% in January to the lowest level in nearly 10 years. Meanwhile, The National Association of Realtors reported that sales of existing homes fell in 40 states and home prices dropped in 49% of the metropolitan areas they survey. This was the widest price decline in the history of their survey. But hey, TOUT-TV continues to usher on analysts who tell us the worst is over (but please ignore the fact that many of them were the same ones telling us how the party was going to continue versus imploding as it has). I and many others spoke of the dangers about all the “shoe-horn” financing that was taking place at the now top of the housing bubble. The costs of these exotic financings are now showing up in the sub-prime lending markets where defaults are rising sharply.

·    Shakey Global Markets - It’s not just bankers like Bernanke who are sounding the alarm. Mr. Jean-Claude Trichet, president of the European Central Bank said recently that conditions in global financial markets look potentially “unstable” suggesting investors need to prepare for a “repricing” of some assets. The recent explosion of structured financial products and derivatives had made it more difficult for regulators and investors to judge current risks in the financial system, “We are currently seeing elements in global financial markets which are not necessarily stable,” he added. He also pointed to the “low level of rates, spreads and risk premiums” as factors that could trigger a repricing.

·   Trade Deficit - “Little” economic factors like the U.S. trade deficit widening to a record in 2006 and industrial output falling in January by the largest amount in nearly a year and a half may not bother the “Don’t Worry, Be Happy” crowd, but it should you.

Geopolitical – While the little piglets may not be aware or care, the majority of people outside the U.S. have come to realize Uncle Sam is no longer the world’s favorite Uncle. The importance of this lies in the fact that our aging and out-of-favor uncle depends on others to send him money thanks to the out-of-control spending habits of his family members, the debts they have run up and all the political good-will they have spent for which they now face deficits.

Uncle Sam faces some enormous geopolitical factors both here and abroad. They include:

·    While the Middle East has always been a hotbed, it’s never been more of a tinder box. I, along with many others, believe Iraq is lost and has already slid into a civil war that is all but certain to spill over into neighboring countries. A very good assessment of the situation can be found in a 130-page report entitled “Things Fall Apart” released recently by the Brookings Institution’s Saban Center for Middle East Policy. In the report, they anticipate this civil war to lead to mass deaths, refugee flows, Gulf oil supply disruptions and a drastic decline in U.S. influences in the region.

·    As bad as Iraq has become, it’s sad to say it may only be the opening act to a much bigger problem: Iran. I think we all know the drill. Iran has, or is expected to have, a nuclear bomb or bombs. The ramifications of this, IMHO, surpasses any and all potential “fall-outs” from the debacle in Iraq.

Like him or not, I’ve found former U.S. House Speaker Newt Gingrich to be one of the more level-headed and frank political commentators in recent years. His comments recently about the Iran situation were truly frightening not because of the content, but for the fact I think he’s pretty much on target in his assessment.

Among his points of view, he noted that Israel’s very existence was under threat again for the first time in 40 years and their people were facing the threat of a nuclear holocaust. He added what I believe most of our current politicians know but are afraid to state, “Our enemies are quite explicit in their desire to destroy us. They say it publicly? We’re sleepwalking through this process as though it’s only a problem of communication. Our enemies will kill us the first chance they get. There’s no rational ability to deny the fact. It’s very clear that the problems are larger and more immediate than the political systems in Israel or the U.S. are currently capable of dealing with.”

I’m not here to argue whether the points are valid or not but to note that the U.S. investment crowd has not even paid lip service to this potential danger. I believe it’s financial suicide to not take this into account. Nobel laureate Dr. Mohamed ElBaradei said recently, “The Middle East is in the worst condition I have ever seen.”

Like it or not, I believe Israel ultimately faces a “kill or be killed” choice. The many reports of them preparing to attack the Iranian nuclear facilities must be considered a legitimate possibility along with the ramifications of such an attack (whether it’s successful or not). BBC News has reported that the U.S. has contingency plans for air strikes on Iran and they extend beyond nuclear sites and include most of the country’s military infrastructure. To those who think economic sanctions will do the trick, be advised that the Wall Street Journal’s February 20, 2007, edition reported that Europe’s biggest countries are doing a booming business with Iran. Hard to believe but the EC’s trade with Iran has actually increased since Iran’s secret nuclear program was exposed. So, if you think there are going to be strong economic sanctions placed against Tehran, you are a strong candidate for a bridge I have for sale in New York City.

I can tell you that the U.S. financial markets have not even discounted this concern one bit and therefore such an event or the perceiving of it can greatly impact the markets to the downside.

·    I’ve suggested that the Democrats and the Republicans will be the Hatfields vs. the McCoys of the 21st century. We’ve always had political battles but the mud-slinging will be so bad that you won’t be able to visit Washington D.C. without hip boots. Why is this so important? The U.S. sustains its daily financial life with its hands out seeking borrowed funds every day. The more we look like we’re unable to fix our growing problems thanks to our leaders fighting among themselves, the more likelihood our lenders will want more collateral and/or a higher interest rate to compensate for the higher risk.

·    “Mr. Gorbachev, tear down this wall!”   Mr. Putin, are you putting a new wall up? Is it just me or does anyone else feel a cold breeze coming from Russia regarding its relations with Uncle Sam? It may not qualify yet as a leading geopolitical concern, but we may be witnessing the birth of a “frothier” relationship with Russia. Great, one less place an American can go to without having to wear an “I’m Canadian” button so not to be disliked.

U.S. Stock Market –

I have noted that I’m looking to go short the stock market on the belief that several years of sideways to down can occur once a top is in place. Ideally, I’ve wanted to go short once the market mood is wholeheartedly bent on the FED being in an “easing” mode. This perception in place and the DJIA hitting 13,000 may be a good combination to implement my strategy. We shall see.

In my other business, I counsel individuals, families and small to mid-size business owners using an alternative to traditional financial planning. Whether their income is $50,000 or $5,000,000, the vast majority of them have lots of commonalities:

·    They have possessions but actually own very little of them

·    Their current lifestyle is significantly higher than their financial wherewithal

·    They have bought into Wall Street’s and Madison Avenue’s mantra that more money will equal more happiness

·    Their ability to retire at or even close to their dreams is fiscally impossible or highly unlikely and slipping further away daily

·    THEY WISH THEY NEVER MET ME AFTER I’M DONE!

Obviously, my other career doesn’t win many friends but I do make it a whole lot easier when one of the “mainstream” financial folks comes to see them after me. I suspect once that person shows them it’s really only a matter of buying low and selling high, they say something like, “that Grandich guy was the Devil himself” or “it’s guys like Grandich who are going to cause everyone to panic and thus cause a self-fulfilling prophecy.” To them I say, listen to Shania Twain’s Ka-Ching, again and again, and again, and again….

Okay, so the average American has lots of things, owns little of them and is living beyond their means. This hasn’t caused the stock market to falter so far, why should it any time soon? Good question. For starters, I believe we must first realize that unlike 20, 30 or 50 years ago, the stock market has an enormous flow of capital into it on a regular basis thanks to just about every American now having some exposure through their retirement plans, pensions, etc. The bias is definitely to the long side. In addition, many in the financial media are directly or indirectly “better off” with a bull versus bear market. And far more important than most give credence to it, Americans have a far bigger tilt towards gambling (speculation) than any other generation in the last 100 years (casinos, lotteries, etc). These factors and more give an underlying support that didn’t exist a couple decades ago.

Having said that, I believe there are a whole host of fundamental and technical factors that scream to me to use furthers strength as an opportunity to lighten up and/or go short.

One factor that has served me well over time is Margin Debt.

When stock market players get giddy, they tend to feel it’s a one-way street up and getting highly leveraged is just a way to make more money. They attempt this by borrowing heavily against their existing holdings in order to get more equity exposure. You’ll notice we’re now back to levels last seen in 2000. To those who say the stock market peaked then – good eye.

Another fairy-tale told by the “Don’t Worry, Be Happy” crowd is that too much concern is being placed on the fact that Americans have a negative savings rate and have too much debt. They like to assert that the average household is better off than it appears.

Well, call me old fashioned, but I’ve always felt the more cash I had and less debt, the better off I was. If this is true, the opposite of this would not be a good thing. Well, as you can see from the chart, cash as a percentage of household debt has a far deeper descent than even President Bush’s approval ratings. If the average household has almost two-thirds less cash versus its debt than it did a couple of decades ago, and we know Americans owed far more now, exactly what could they sell if they had to paid down the debt? Oh yes, what am I thinking? Their real estate and equity holdings, of course. How stupid of me – LOL.

One last tidbit to ponder – Who owns the lion’s share of our debt is quite interesting. Perhaps we wouldn’t worry so much if the wealthiest of Americans held the largest percentage of our debt. Unfortunately, the top 1% of households hold 30% of the assets but just 7% of the debt, while the bottom 50% (half of all Americans) hold a mere 6% of assets but 24% of the debt. I wonder who will be left holding the bag?

U.S. Dollar –

Repeat after me, “the only party that doesn’t know the U.S. Dollar is dead is the U.S. Dollar.”

While I’ve discussed this before, let’s do it again so we don’t forget the significance of it. After putting in a massive double top at 120 in 2001-2002, the U.S. Dollar Index fell off the cliff and again touched critical support around 80 in 2004. Then in 2005, the U.S. Treasury offered a one-year amnesty program to U.S. corporations that allowed them to repatriate U.S. Dollars that were offshore. This gave a boost to the U.S. Dollar. At the same time, the Fed was in the midst of an aggressive tightening mode, which also should benefit the U.S. Dollar. Despite these two factors, the U.S. Dollar Index could only limp back up to the 93-94 area and has since worked its way lower yet again.

A closer look of this latest retreat can be seen on the weekly chart. Here we see an important double top in the 87 area, a lower low at the end of 2006 and a rebound that couldn’t even get much past the 85 area despite an avalanche of bullish forecasts for the dollar at the beginning of the year. It now appears to be rolling over again.

I would sooner look for a needle in a haystack then to try and find a reason or two why one should expect a rising U.S. Dollar knowing the fiscal and political mess America is in. In addition, economic growth in the EU appears it can be stronger thanks to increased demand at home. This comes after a long period where growth in Europe’s economies lagged far behind the rest of the world.

So lets say it one more time – “The only party that doesn’t know the U.S. Dollar is dead is the U.S. Dollar.”

Oil –

Oil was the latest victim of investor momentum, also known as “piling in” or “piling out”. After the crowd was climbing over one another and reports were being issued daily about peak oil and the energy crisis, the piling in became piling out and we saw a swoon down to $50. There, yours truly removed his bearish hat but has yet to put his bullish hat on. I suspect we may work our way lower for the balance of 2006 barring a major negative geopolitical and/or weather event. Ideally, a retest of the $50 area after many months in an orderly decline would be the most preferred entry point. Stay tuned.

Natural Gas –

There’s been a considerate amount of talk about a “Natural-Gas Cartel” being formed, with Russia and Iran being the leaders. Among the concerns is that Russia would be using its vast energy reserves as political leverage. They just may, but a gas cartel would be a lot harder to operate effectively. For starters Qatar (world’s number three gas producer) Iran (number two) and Russia (number one) are already members of the Gas Exporting Countries Forum, which was formed in 2001, but hasn’t met since 2005. Gas markets are fragmented thanks in part because transporting it overseas can be difficult. Also, gas is sold through long-term contracts that would make any type of cartel less influential.

Like oil, I think we’re likely to see an orderly retreat in prices and one should look to become bullish only after a sustained period of weakness.

Metals, Mining and Exploration –

At the end of the day, I realize the lion’s shares of readers seemingly are most keen on knowing my metals and mining thoughts. That’s why we email out any comments made in the media on these subjects.

I’ve greatly favored precious metals (gold, silver and PGM group) and uranium over virtually all base metals. I went so far as to dare suggesting shorting copper near its all-time high and remain bearish on it long term. I continue to believe precious metals are a better choice going forward, with special attention still towards uranium and now cobalt (a mini-uranium type run-up appears underway in cobalt - see Formation Capital).

Gold –

I’ve been very blessed to have almost no blemishes on my gold forecasting record ever since returning to the bullish camp in 2003. I managed to step aside before the handful of significant corrections and have increased my bullishness at or near important lows. With this in mind, I’m due for a clunker –LOL!

Back in early January, with gold testing the $600 area, I went on ROB-TV and dared suggest the next $100 was up, not down.  I urged the host not to have me back if I ended up wrong. While the very small band of Grandich haters have been rooting for $500 ever since, gold has managed to get a little more than half way to my goal (sorry but the goal is not harming the nay sayers – even though I must confess with Lent upon us it has entered my mine once… okay, twice).

Given the fact that gold is up over $325 from where I first turned very bullish, I’m perhaps the most bullish I’ve been since then. Why? For starters, I’m very impressed with its trading patterns, especially accounting for the occasional bear raids that are repelled within hours or days. The day I was on ROB-TV back in early January was a typical raid just like the one we endured yesterday. The fact that the raids marked the lows, not the beginning of a more sustained downside move, is just one of the bullish factors. These down days, unbearable seemingly to some based on emails and phone calls, are actually welcomed by me because they’re classic bull market actions. It is when a market slowly works it ways lower with rallies that get close to a break out only to be taken lower, that are classic in bear markets. Also, years back, talk of IMF gold sales would cause sharp drops that could last for months. The gold market virtually laughed off the most recent IMF exercise.

While supply vs. demand remains constructive, I believe gold is going to become more of a currency-driven and geopolitical vehicle than anything else. I do think we’re going to see the 80 level tested and eventually broken on the U.S. Dollar Index. The world should get a sell signal on the U.S. Dollar and this can only help serve the bullish cause for gold.

Silver –

It remains second fiddle to gold but should have its moment where it leads the way up.

Platinum and Palladium –

I believe we’re on the verge where the spread in prices between the two should shrink in favor of palladium. This shrinkage should be led by a move already underway in the auto industry to favor palladium catalytic converters over platinum.  A two-to-one ratio is my target (Palladium $500-$600 vs. Platinum $1,000-$1,200).

Base Metals –

For the most part, the great run-up in base metals prices appears behind us. However, I continue to favor nickel and zinc over copper if I have to pick among the three. I felt copper was due for a counter trend rally and it has indeed kicked in. Eventually, I see it testing $2 before year’s end.

Uranium –

Still in a powerful uptrend, another leg up in the uranium stocks is before us. However, it’s no longer simple “dart-throwing.” We can still see remarkable returns but we’re clearly past the halfway point in this bull market. No need to look for the exits but don’t forget you will eventually need to go though it.

Mining and Exploration Shares –

I believe the record should show I came early to the crowd who foresaw massive M & A within the mining game. I also have recently suggested it was going to filter down to the second tier producers and even exploration and development companies. Wolfden Resources is the latest example. Don’t be surprised to hear junior exploration companies doing the same.

Despite substantially higher metal prices, on average, mining companies are more challenged now than ever before thanks to an acute skilled labor shortage, lack of drills and qualified personnel to staff them, and a seemingly ever-increasing hostile work environment in many areas of the world. All of this and the potential that we could be reaching a “peak gold” scenario should keep the industry hopping for the foreseeable future.

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-- Posted Wednesday, 21 February 2007 | Digg This Article

Peter Grandich is the Managing Member of Grandich Publications, LLC (www.grandich.com).
The company publishes The Grandich Letter (first published in 1984) which covers the metals and mining industry, follows world markets and economies, and covers the Canadian markets from an American prospective.

Grandich also provides a variety of corporate finance and development services to publicly-held companies.

Peter Grandich is also the Managing Member of Trinity Financial, Sports & Entertainment Management Company, LLC (www.trinityfsem.com), a Registered Investment Advisor in the State of New Jersey. Trinity provides investment advisory services to individuals, small to mid-size businesses, professional athletes and entertainers.

Peter is a long-standing member of The New York Society of Security Analysts and The Society of Quantitative Analysts.

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