Wealth International, Limited (trustprofessionals.com) : Where There’s W.I.L., There’s A Way

W.I.L. Finance Digest for Week of January 7, 2008

This Week’s Entries : This week’s W.I.L. Offshore News Digest is here.

Take a look to your right and observe the rock. Take a look to your left, and notice the hard place ...

"More than any time in history mankind faces a crossroads. One path leads to despair and utter hopelessness, the other to total extinction. Let us pray that we have the wisdom to choose correctly." ~~ Woody Allen

Hear the siren calls of the standard media pundits and your own human inertia. They tell you that while things might be a little sketchy just now, you do not need to worry too much. ... It is just the latest scare, or "correction", that markets go through from time to time before the secular bullish trend reasserts itself. Right? Those doom-mongers have predicted 25 of the last -- what, one? -- economic collapses. (A medley of their greatest hit would be Ludwig von Mises and the Austrian economists accurate foretelling that a severe contraction would follow the Roaring Twenties, although even they did not foresee how policy makers would transform the contraction into a total disaster.) Why should we think they are accurate this time?

In investing, as elsewhere in life, timing is all important. The saying that "Wall Street is littered with the graves of men who were right too soon" is an old one.

If you get in a car within the Continental U.S. and drive due east, you will eventually end up in the sea. That is certain. The fact that you may have been driving for days with no sign of water does not refute this. But nor does catching a whiff of salty air mean you will be axle-deep in the ocean within the next hour. An economic crisis is more abstract and less predictable that getting immersed in the ocean in a car, but today the signs that such a crisis is nigh are as compelling as an overpowering smell of salty air would be above.

It should be an interesting year. We hope you enjoy the new Digest format.


Inflation has been so ingrained in the U.S. dollar-based international financial system since the Great Depression in the 1930s that it is natural to assume that inflation is a permanent state of affairs. Historically, all fiat currencies (those unbacked by gold or some other scarce asset) eventually have fallen to their intrinsic value. Zero. So hyperinflation seems the inevitable fate of that system. Certainly recent price action of commodities, gold, etc. provides little counterevidence for this theory.

However, various analysts -- Bob Prechtor of Elliott Wave International being among the most prominent -- have argued that the credit expansion behind the inflation (it actually is the inflation, strictly defined) will eventually exhaust itself. Credit revulsion and contraction, i.e., deflation, will allegedly follow. Prechtor argues that both borrowing and lending depend on confidence by both sides of the transaction that the borrower will be able to repay the loan. This is the case in a generalized macro-sense as well as with regard to the particulars of any one loan. Once the general confidence is shattered, as happened in the '30s worldwide and in Japan after 1989, no amount of central bank prodding can reinflate the bubble. It has to run its course until John Maynard Keynes's "animal spirits" reassert themselves and a bull market in confidence reignites.

Since the investment implications of the two outcomes are apparently very different, getting accurate odds on the likelihood of the two outcomes appears more than a little desirable. Peter Schiff, author of Crash Proof: How to Profit from the Coming Economic Collapse, suggests in "Not Your Father's Deflation" that the outcome will actually depend on which yardstick you use. The U.S. Federal Reserve now has virtually unlimited capacities to monetize assets of any sort, e.g., witness its recent offer to effectively redeem a panoply of bad debt-backed assets at face value, where the market value would otherwise be a large or small fraction of face. Thus the Fed can always prop up nominal asset prices if it tries hard enough. "Nominal" value here means, asset prices will not fall relative to that book-entry accounting measurement device commonly referred to as the "U.S. dollar". But, Schiff maintains, the Fed can do nothing to sustain real asset values, meaning values when measured in terms of "real" money, e.g., a stable yardstick such as gold. So deflation properly defined and measured is in the offing no matter what the central banks do.

Antal Fekete takes a still deeper look into the matter in "Can we Have Inflation and Deflation All at the Same Time?" He notes that the various forms that "money" and "dollars" take are not perfect substitutes for one another, especially during a credit crunch and other times of monetary distress. The circulating Federal Reserve Note (FRN) "dollars" will not be freely exchangeable into electronic "dollars" if everyone goes to the local ATM and tries to drain his or her bank account. In this instance FRN dollars will trade at a premium to book-entry dollars, i.e., the former will deflate vis-a-vis the later. Purchasing safe U.S. government T-bills is a big-money equivalent of retail ATM withdrawls -- thus the collapsing T-bill yields of late, essentially putting a quality premium on T-bills relative to standard e-dollars, or an inflationary discount on the latter.

In a subsection of the article, "The curse of electronic dollars", Fekete notes:

Helicopter Ben has just made a most unpleasant discovery. Earlier he has promised that the Federal Reserve will not stand idly by while the dollar deflates and the economy slides into depression. If need be, he will go as far as having dollars air dropped from helicopters.

Time has come to make good on those promises in August when the subprime crisis erupted. To his chagrin Ben found that electronic dollars, the kind he can create instantaneously at the click of the mouse in unlimited quantities, cannot be air dropped. They just will not drop.

For electronic dollars to work they have to trickle down through the banking system. The trouble is that when bad debt in the economy reaches critical mass, it will start playing hide-and-seek. All of a sudden banks become suspicious of one another. Is the other guy trying to pass his bad penny on to me? In extremis, one bank may refuse to take an overnight draft from the other and will insist on spot payment. A field day for Brink's. The clearing house is idled, and armored cars run in both directions up and down Wall Street delivering FR notes and certified checks on FR deposits.

Under such circumstances electronic dollars will not trickle down. In effect they could be frozen and, ultimately, they may be demonetized altogether by the market. How awkward for Helicopter Ben. His boasting of air drops is an empty threat.

It what could have been the article's conclusion (what follows this is in the nature of a polemical addendum), Fekete writes:

In a few days during the month of August central banks of the world added between $300 and 500 billion in new liquidity in an effort to prevent credit markets from seizing up. The trouble is that all this injection of new funds was in the form of electronic credits, boosting mostly the top layer where there was no shortage at all. Acute shortage occurred precisely in the lower layers. This goes to show that, ultimately, central banks are pretty helpless in fighting future crises in an effort to prevent scrambling to escalate into a stampede. They think it is a crisis of scarcity whereas it is, in fact, a crisis of overabundance. They are trying to douse insolvency with liquidity.

I feel strongly that this aspect of research on the denouement of the fiat money era has been lost in the endless debates on the barren question whether it will be in the form of deflation or hyperinflation. Chances are that it will be neither, rather, it will be both, simultaneously. There is a little-noticed and little-studied continental drift beween the money supply of electronic dollars and that of FR notes. ... The tectonic plate of electronic dollars will keep inflating at a furious pace, while that of FR notes and T-bills will deflate because of hoarding by financial institutions and the people themselves. The Federal Reserve will be unable to convert electronic dollars into FR notes. Apart from lack of collateral, present denominations cannot be printed fast enough, physically, in times of crisis. If the Federal Reserve comes out with new denominations by adding lot more zero's to the face value of the FR notes, Zimbabwe-style, then the market will treat the new notes the same way as it treats electronic dollars: with contempt.

The conclusion of both authors, then, is that electronic book-entry dollars are going to hyperinflate and approach their intrinsic value of zero. The only defense is to convert them into assets that are protected from this hyper-depreciation. In Crash Proof, Schiff suggests a core holding of European and Asian blue chip stocks (his reasons go well beyond inflation protection per se, and there is little padding in his book-length treatise) and a nontrivial residual holding in precious metals-related assets. Fekete's analysis suggests that at some point -- the $64 question is when -- Federal Reserve Notes will be a useful asset to hold. Hollywood mogul Samuel Goldwyn once said that "a verbal agreement is not worth the paper it's printed on." Perhaps U.S. FRNs will yet escape that fate.


Policy makers turned the recession of 1929-1931 into the Great Depression. Will we see a repeat?

Lew Rockwell notes that many people are finally admitting the "R word" into their forecasts and routine speech. Rising unemployment -- a symptom of a recession, rather than its cause -- has tipped the psychological scales. And unemployment is an issue policy makers are always tempted to do something about.

Already, Bush administration spokesmen are talking about a "fiscal stimulus" to counter this trend. But why is this not laughable on its face? Perhaps if Bush had been a famed penny pincher, you could see how a stimulus would make some sense on the surface. But it is hard to imagine a more fiscally profligate regime than the Bush administration. We can confidently say that more spending is not the answer.

And during the 1930s the policy makers' "doing" created a lot of unnecessary misery and economic disorder:

The view that unemployment causes recession was one of the great errors of the New Deal and the Great Depression. The government looted the private sector and transferred it to visible jobs programs. It forced business to maintain high wages precisely when the market was attempting to equilibrate them downward. It increased the costs of hiring just when the costs needed to be lower.

None of it did any good; in fact, it delayed recovery for many years. Lionel Robbins, in his classic book The Great Depression, wrote this in 1934: "If it had not been for the prevalence of the view that wage rates must at all costs be maintained in order to maintain the purchasing power of the consumer, the violence of the present depression and the magnitude of the unemployment which has accompanied it would have been considerably less ... A policy which holds wage rates rigid when the equilibrium rate has altered, is a policy which creates unemployment."

So interfering with the functioning of the labor market is counterproductive. A more fundanmental error than trying to "fix" unemployment is the perspective that a recession is in and of itself a "critical problem". Rockwell concludes his article by summarizing the Austrian Economists' theory about the purpose served by recessions and the true cause of boom/bust business cycles:

Writing all throughout the 1930s, both Mises and F.A. Hayek tried to explain that the recession itself served a market purpose, in the same way a correction to an inflated stock market serves a purpose. It re-coordinates economic structures that have grown seriously out of balance.

In other words, they urged that we look back before the recession, to the good old days of economic boom, and realize the prosperity of the past was a partial illusion. The recession is the way that the economy tells the truth about the fundamentals. The illusion itself is caused by errors in monetary policy. Interest rates are driven down by the Fed, and this causes widespread errors in the investment sector. These investments are unsustainable over the long term. The recession is the time of cleansing out errors and reestablishing economic soundness.

The housing boom and bust is only a symptom of a wider problem. If the economy has indeed fallen into recession, we can know with certainty that recession is precisely what the economy needs the most. It is the equivalent of the drunk who needs time on the wagon.

The rap on the Austrian School of the 1930s is that they counseled a do-nothing policy on the depression. That is not true. There are many things that government can do but they all amount to doing less, which is a positive action of sorts. It must not attempt to prop up and raise wages. It must stop taxing business so heavily and raising the costs of investment. It must cut regulations that are hampering recovery. It can cut spending dramatically as a way of returning resources to the private sector where they can do some good.

What government cannot do without causing even more problems is take positive action against symptoms, such as falling stocks or housing prices, rising unemployment, business failures, and falling incomes. This is precisely what caused the Great Depression to get its name instead of being called what it might have been called: the recession of 1929–1931.

Insofar as the Austrians were largely alone in being vocal skeptics about the 1920s boom while it was happening and in predicting that it would end unpleasantly, while mainstream economists and other state apologists were proclaiming the advent of permanent fun and prosperity, their analysis certainly warrants a listening today.


If the sources cited in the "deflation of hyperinflation" journal item above are correct, we are doomed -- at least as a whole. (Individual investors may still do fine.) Too much wealth has been destroyed and it is time to acknowledge the losses and steel ourselves against the bitter medicine we will soon be forced to imbibe. The Lew Rockwell item immediately above is rather more optimistic, at least in principle. He says we can avoid the worst of things if only policy makers do not do anything stupid, however unlikely this may be. Larry MacDonald entertains a third possibility, that the Federal Reserve can postpone the day of reckoning yet again, as it has been done so many times before.

A Primer on Fed Interventions

For those lacking historical context, here is a quick and dirty primer on and history of Federal Reserve interventions. No pretense of objectivity is attempted or implied! Take seriously at your own risk.

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A feature of economic expansions and bull markets is that as they get long in the tooth, investors get increasingly confident that good times will continue. They attribute the success of past investments to their smarts rather than the bull market. They get greedier when they should be getting more cautious. Speculative investments which would not be undertaken in less giddy times, and which prove to be uneconomic in the longer run, proliferate.

Mega-cycles of fear and greed appear to be part of the human condition, perhaps due to some atavistic herding instinct, so this is probably unavoidable to some degree. But with the modern financial system's capacity to create credit out of thin air (by "printing money"), the greed part of the cycle continues on artificial life support well beyond its natural end. Oscar Wilde described a fox hunt as "The unspeakable in pursuit of the inedible." Not at all dissimilarly, a credit-driven boom is the artificial in embrace with the unprofitable.

When boom gives way to bust, confidence turns down, and fear rears its head, the debts (and equity) backing the uneconomic projects go bad and are liquidated -- partially or fully in particular cases, depending on how much value can be salvaged. Recessions and bear markets are natural concomitants to major debt liquidation cycles, as is asset value deflation in the sectors where the debts and investments are being liquidated.

Central banks are haunted by their supposed failure to "do enough" during the Great Depression, when the credit retrenchment which naturally followed the excesses of the "Roaring Twenties" spiraled down into worldwide deflation, bank failures, economic contraction, and political upheaval. More than anything, the banks fear that a debt liquidation cycle accompanying a recession will prompt a repeat of that disaster. They will do whatever it takes to preclude a repeat whenever they perceive potential danger on the horizon. This ultimately involves having some group or economic sector -- consumers, businesses, governments, whatever -- pick up the debt accumulation baton to offset the debt liquidation that is unavoidably occurring in the area of the malinvestments from the previous boom. The primary central bank tools for invigorating the origination of more debt involve the creation of more available credit -- so lenders have more to lend -- and lowering interest rates -- so borrowers will be encouraged to step up and borrow more.

In the midst of major stock market corrections in 1966, 1970, 1974, and 1982 -- the latter three co-occurring with recessions -- the Fed stepped on the monetary gas after the ongoing credit liquidation and loss of confidence in the system reached perceived critical points. Some have reasoned that these interventions stopped a needed cleansing process prematurely, and in any case started acclimatizing investors to the idea that the Fed would always eventually step in and save them from the full consequences of their bad speculative bets. Certainly since the 1930s, if anyone has been willing to bet you that financial Armageddon was imminent it has paid to accept that bet, no small thanks to the Fed.

When Paul Volker backed off on his regime of monetary growth restriction in 1982, after the Latin American countries threatened to default on their debts, that ended the last major attempt to impose some form of monetary discipline on the dollar-based financial system. His successor, Alan Greenspan, never encountered a crisis -- real or imagined -- that he did not see fit to salve with more money and credit: the Crash of 1987, the junk bond/banking/S&L travails of the late 1980s/early 1990s, the bond market rout of 1994, the Asian/Long Term Capital Management crises of 1997-98, and the dot-com/technology stocks bubble collapse of 2000-02. In each case, incipient or actual debt liquidation was stopped in its tracks.

Market folk wisdom tells us that Bull markets "climb a wall of worry." The idea is that when no one is worried, everyone has bought in and there is no place left to go but down. By the late 1990s markets had become so accustomed to the Fed continuously respiking the monetary punch bowl, that a bacchanalian "wall of whoopee" more properly characterized the behavior and psychology of the market. Loss making dot-com companies selling at double- or triple-digit muliples of sales were the signature manifestation of that bubble. The mother of all manias and the end of a century neatly coincided.

So when the dot-com/tech craziness collapsed under its own weight, starting in 2000, it looked like the end of an era. When the liquidation of the excesses was argumented by the breakdown in confidence that followed the shocking 9-11-2001 World Trade Center/Pentagon attacks it added further impetus to a severe, possibly crushing, debt contraction. (Note that credit and confidence are opposite sides of the same coin in the financial world, for all intents and purposes.) Recession, and even system-wide deflation (supposedly), were widely feared. It was hard to see what the Fed and other central banks could do to reinvigorate the debt buildup process.

But the Fed had not yet begun to fight. By lowering the Federal Funds rate to 1%, and real rates to well below zero, the Fed encouraged U.S. consumers to run down their already depleted savings to zero and lower by borrowing still further in order to spend, spend, and spend some more. Consumer borrowing against the inflated equity values of their homes was the most notorious proximate means by which that was accomplished. But it was just a means, as was the dizzying alphabet soup array of financial instruments via which various suckers ... er, parties ... channeled loans to the consumers. More important was that the end of avoiding further debt contraction was effected.

Now housing values are falling and consumer debts backed by housing values (mortgages) are defaulting (to the financial hurt of many parties who should have known better, but that is another story). Economic stagnation and recession are also leading to more defaults on other consumer-based debt such as credit cards and car loans. And it looks like there is more to come in the consumer sector, and probably the corporate sector in time. What rabbit can the Fed possibly have in its hat to avoid credit contraction this time.

We now return you to your regularly scheduled article ...

MacDonald writes:

[This past] Friday's economic reports showing softness in U.S. employment and industrial production fanned recession fears and hit stocks hard, but an aggressive easing of monetary policy is expected to rally stocks -- especially emerging markets and U.S. large-caps -- once the usual fretting and handwringing subsides. That, in a nutshell, is the kind of scenario the Bank Credit Analyst advisory seems to be espousing.

It is not that Federal Reserve Chairman Bernanke is such a nice guy but that the "Debt Supercycle" will force the Fed's hand, starting with a likely 50-basis-point cut in its key lending rate ... on January 30. The term, "Debt Supercycle" is attributed to the BCA advisory, which has chronicled the rise of U.S. debt in one of the scarier charts to be found on the long-term prospects for the U.S. economy.

This is one place to view an X-ray of the chronicled buildup in debt. Peter Schiff's Crash Proof: How to Profit from the Coming Economic Collapse supplies an excellent introduction for those starting fresh.

You will find it on page 3 of the document, "An Inflection Point in the Debt Supercycle" ... It shows U.S. non-federal debt as a percentage of GDP from the 1970s to present. As can be seen, the percentage of debt to GDP has been cycling ever higher -- from 100 to 180 (with the surge since 2000 quite startling).

The Fed pulled out all the stops to avoid overall debt contracting following the dot-com bubble popping and the September 11, 2001 attacks.

What this means is that there is a real capacity for a major economic implosion if market forces are left to unwind on their own. A debt-deflation spiral like the Great Depression of the 1930s is a possibility even -- unless the Fed responds quickly and dramatically (as it likely will) to stop the economic multipliers from gathering downward momentum.

There will be the usual fears over "pushing on a string," and deflationary vortexes but the history of the Debt Supercycle and Fed policy indicates the latter wins out. Besides, there is still plenty of scope for a policy response of sufficient magnitude thanks to low consumer price inflation, aided by fiscal re-stimulation (federal debt is still relatively low at less than 40% of GDP), and a falling dollar.

The side effect of staving off another financial Armageddon will be another upleg in the Debt Supercycle and bubble-like episode (BCA picks emerging stocks and U.S. large caps as the favored assets). But this leaves one wondering where it will all end. Debt cannot keep rising relative to income forever. Perhaps the doom-and-gloom prophets will be right eventually about a supernova-like trauma. I do not look forward to that at all.

The Bank Credit Analyst is a well-respected and rigorous publication. However, their claim that U.S. federal debt is "still relatively low" is distinctly odd, given the huge unfunded Social Security and Medicare liabilities which are hardly a secret. But if they conclude that Reckoning Day can be postponed again, one should assign a positive probablitity to that scenario playing out.

Betting on the Fed standing aside and letting nature takes its course has not been renumerative, well ... for a very long time. (In the early 1920s, the Fed and Warren Harding administration did nothing while the U.S. economy went through a very severe recession as it transitioned from war to peace. The nasty business was over practically before it began -- in about a year -- and the fun and games were able to recommence. The experience was so painless, the Fed vowed never to do it again.) Instead the bet is on when no matter what the Fed does that nature will take its course anyway.

Summarizing BCA's position, while paraphrasing Janis Ian:

But that day may have to wait for a while.
The system is still Ben and company's child.
When we're older things may change,
But for now this is the way they still remain.


A UK Telegraph article discourses on gold's future, amidst the world central banks' opening of the monetary floodgates:

If you strip out the Hunt anomaly [when they tried to corner the silver market], it is fair to say that gold established a "safe-haven" level of $600 -- or $1,500 in today's money -- that roughly lasted through the final phase of the Carter malaise, the oil shock, and the collapse of confidence in the monetary order.

By this benchmark, last week's jump to $869 looks tame. Yet gold is undoubtedly flashing warning signs. The price has jumped 42% since the U.S. credit markets suffered their heart attack in August. It has tripled since Gordon Brown sold over half Britain's reserves, deeming it a barbarous relic. That conceit has cost taxpayers £3.4 billion, after adjusting for returns from dollar, euro, and yen bonds.

The mounting risk that Pakistan's nuclear weapons could fall into the hands of al-Qa'eda is playing a role. So are fears that Western leaders have no credible answer to the banking crisis as it drags on for month after month.

Note that gold smashed the 28-year record just days after the European Central Bank launched its monetary "shock and awe", showering half a trillion dollars on the banks, with parallel moves by the Fed, the Bank of England and the Swiss. Clearly, a small army of investors is betting -- rightly or wrongly -- that our debt-bloated democracies are now too decadent to take their punishment. The elites will opt for the easy path of reflation to postpone the day of reckoning.

See also the jounal entry immediately above. They are assuming here that postponing the day of reckoning is an actual option.

Ben Bernanke, the Fed chief, is viewed as an inflationist. He once talked of dropping bank notes from helicopters. Loose words have consequences if you are a Fed governor.

"The central banks are flooding the market with paper," Peter Hambro of Peter Hambro Mining, said. "Does anybody now take the dollar, the euro or the pound seriously? People are turning to gold because it is the only hard store of value," he said.

Joachim Fels, bond guru at Morgan Stanley, said that the central banks will tolerate an upward creep in the underlying level of inflation because the pain required to kick the habit at this late stage is deemed too high. "I strongly doubt that they will tighten the screws. I expect 2008 to mark the beginning of another global liquidity cycle."

It is questionable whether allowing such an "upward creep" would accomplish anything of substance. Macroeconomic theory at least has this correctly: If everyone properly anticipates the level of inflation they will see through the "money illusion" and lock on the substance of real prices. The inflation rate will then cease to be effective as a policy instrument until the rate is unexpectedly increased -- which leads down a steep and slippery slope, for obvious reasons.

Blame the return of 1970s stagflation. The China effect has turned malign, pushing up global prices. The easy trade-off between growth and inflation is over. All choices are now bad. Infecting everything is the looming end to US dollar hegemony. Mid-East and Asian states are importing America's bailout policies through their currency pegs (or dirty floats), stoking an inflationary fire. Prices are now rising 14% in Qatar, 10% in the UAE, 13% in Vietnam and 6.9% in China. The pegs are near snapping point. Bretton Woods II is dying.

For a while Asia, Russia, and the petro-powers seemed happy to accept the euro as the anti-dollar. Long-term capital flows into the eurozone reached a net €200 billion in the first seven months of 2007, according to BNP Paribas. Then the money dried up.

Perhaps Asians were shocked to learn that German, French and Dutch banks had gorged on sub-prime debt, or perhaps they began to take a closer look at Europe's fertility rate and vanishing youth, or woke up to the deflating property bubble in Spain. Yes, the euro reached record highs in the autumn, but this was driven by hot money flows. Such fickle finance will drain away as soon as the ECB hints at rate cuts.

So are the new powers turning to gold instead, mistrusting the euro as much as the dollar? Their footprints have not yet shown up in the IMF reserve data, but there can be long delays, and China does not report data. Vladimir Putin has told Russia's central bank to raise the gold share of its $469 billion reserves to 10%. We know that those Asian and oil states now holding most of the world's $6.6 trillion reserves possess very little gold, yet most have an historical affinity for it. Draw your own conclusion. We know too that the little guys are buying defiantly, at last able to invest in gold through exchange trade funds (ETFs) on the main bourses. The ETF holdings have reached 834 tonnes, putting them in 7th place ahead of the Bank of England, the ECB and Japan.

Gold's latest surge has caught the bullion banks off-guard. ... With all the moons aligned for a correction, Goldman Sachs advised clients to go "short" in November. That was $60 ago. Ouch. The gold bears may yet smile. James Steel, an analyst at HSBC, said gold is shackled to oil since the commodity funds ($140 billion) allocate fixed shares to each component. ... So what happens if a slump chills oil? We will then learn whether gold is a commodity, or once again a currency.

"We think gold is fundamentally overvalued by about $150 but that can go on for a long time," John Reade, the precious metals chief at UBS and top forecaster this year. "A lot of our clients have been buying gold since the credit crunch because they think central banks will respond with aggressive monetary easing. If that becomes a mainstream view, gold will soon have four figures on it. The feeling is that there is a lot of money around, and not much gold," he said.

Let us take stock here: On one hand the idea of using gold to hedge against aggressive central bank easing has made some serious headway into the mass conciousness, and into buyers' trigger fingers. So we are not talking about a ground-floor opportunity here. One the other, this view is not yet "mainstream", according to a top forecaster. So we would not be near a long-term top either.

In the Middle Ages gold fetched nearly $3,000 an ounce in real terms. The price fell to nearer $550 when Spain flooded the world with Aztec and Inca riches, and there it hovered for three centuries.

But the modern era has been an aberration. Supply is exhausted. Perhaps we should now regard the Middle Ages as the proper benchmark price. One thing is certain: gold will outperform paper as long as governments keep increasing the global money supply 15% a year.

Other studies have shown that major bull markets in gold are accompanied by negative real, i.e., inflation-adjusted, interest rates -- as they are now. If money supply, however defined, is growing at double-digit rates while nominal government debt interest rates are nowhere near 10%, that condition would seem to be in place.


"On our way to a post-collapse, post-dollar world," Justice Little writes, Asia will likely transition from a de jure dollar standard to a de facto gold standard. This will happen in stages as the dollar crumbles; Asian countries and consumers will accumulate gold reserves surreptitiously at first, and may eventually formalize the transition ..."

An interesting forecast, which makes the heroic assumption that policians will do something innovative and sensible. But similar to what Winston Churchill once said, that "The Americans will always do the right thing... after they have exhausted all the alternatives," perhaps the fiat/debt/credit-based monetary system alternatives have been exhausted. Little does argue that there are no good alternatives.

Asia has the "second mover advantage" of being privy to all the Western World's mistakes. They are able to see where profligacy and runaway entitlement programs have led. Their top-down orientation will enable them to rein in expensive entitlement programs or, better yet, curtail young ones before they grow bigger. Not being as mentally and emotionally tied to the workings of empire and the capitalist welfare mentality, Asia will successfully cut the cord faster. In doing so, Asia will also rely on its citizens' natural propensity to trust precious metals and hoard them as a store of value in the first place.

Asian mental and emotional ties to empire are not exactly lacking in historical precedent, but it may take a long time for them to redevelop strongly enough to hurt them.

Last but not least, Asia's relative lack of capital market structure -- its underdeveloped backbone of lending networks -- will make a de facto gold standard that much more attractive. By going straight to gold, Asians get the "trust" that is already built into the metal ... they can skip all the financial engineering, or get to working it in later.

While Keynesians see the rise of gold as temporary -- and will continue to assert their naysayer views as gold rises further -- it will soon come to light that the "world reserve currency" idea was the temporary thing, an anachronism of the industrial age.

The world reserve currency concept is tied to the notion of a single all- powerful superpower. That is a 20th-century idea that is going away. It is also tied to the idea of a single economic powerhouse striding atop the rest of the world. That idea is going away too.

Even if China becomes the new manufacturing Boss Hoss of the 21st century, it will not wield the same economic heft as America did in the 20th or Britain did in the 19th. There are too many competitors for that now. To the degree that China's power comes as a cheap manufacturing destination, it will always be one price cut away from noncompetitiveness with India or the rest of the Asian nations, and eventually the Middle East, South America, Africa, etc. ... economy of scale is simply no longer the powerhouse edge that it used to be. The agglomeration of industrial and political power seen in the 20th century will likely vanish into the pages of history. The concept of "world reserve currency" may well vanish with it.

Gold is also a contender because the alternatives for replacing the dollar look so weak. The euro has its own set of long-term problems, in some ways more severe than those of the dollar. ... Nor is the yen ready for prime time, with Japan's economic behavior erratic and the Bank of Japan viewed as incompetent. China's yuan is not yet supported by a fully functional financial infrastructure and has too long been pegged to the dollar to suddenly go it alone.

Gold, on the other hand, steps up with a number of advantages. It is already regarded as a hard asset safe haven and a key barometer of financial anxiety. Its value is easily understood and appreciated by the masses. It can function without the need for a complex financial system to guide and regulate transactions. ...

Sound money naysayers argue that a gold standard cannot work in today's modern global economy. They declare the gold straitjacket too fiscally restrictive. They warn that there is not enough gold in the world to properly grease the wheels of commerce. But the naysayers wrongly assume that a gold-based system cannot contain leverage.

Leverage is like nitroglycerin -- dangerous in the hands of idiots, but highly useful to the skilled. The whole reason fiat currencies came about is because 20th-century governments realized the power of leverage as applied to existing assets. Giving politicians free rein to leverage the moon via fiat currency was stupid, but the baby need not be thrown out with the bathwater. ...

Governments cannot be trusted to apply leverage responsibly, but private entities could -- under the watchful eye of investors and deposit holders, who would have a personal interest in maintaining vigilance and bear direct financial responsibility for any failure. Remove the moral hazard of a federally subsidized blank cheque to cover losses and you immediately reintroduce private-party vigilance.

The same logic applies to banks and bank panics. Historic bank panics of the past were largely fueled by two things: (1) a lack of fiscal transparency, making it hard for investors and depositors to be aware of unsafe habits and practices, and (2) the moral hazard of guaranteed government bailout, allowing banks to go wild knowing Uncle Sam would step in if things went bad.

A sound money system policed by private creditors -- without the moral hazard of government influence -- could make use of leverage responsibly and well, without undue political pressures. A transparent rate of exchange could be maintained at all times, giving depositors assurance that their electronic balance could always be exchanged for physical metal. Total leverage levels of the institution could be posted and observed by all, allowing the market to police itself in real time. And the institution could voluntarily maintain membership in a mutual-responsibility insurance system, similar to the futures industry clearing system that provides a pool of assets for emergency situations.

These types of advances could only be implemented through a combination of investor savvy and advanced technology, both of which are developing here and now.


Denial, anger, and bargaining down. Depression and acceptance still to go.

Barry Ritholtz draws intriguing parallels between the market's mass psyche and that of an individual during times of crisis, and concludes the market has some issues to resolve before psychological heath can be reestablished.

One of the most intriguing things I find about the market is how the collective psyche sometimes resembles a singular entity. In particular, I have been fascinated by the commentary we have heard from some quarters regarding deep and obvious flaws in the present macro environment. I spent a lot of time over the holidays (skeptically) reading commentary from various pundits. There was something strangely familiar in the absurdly erroneous observations, but I could not place my finger on what it was. ...

[I]t finally dawned on me what the parallel was: The Kubler-Ross model of 5 stages of grief.

In her widely-read 1969 book On Death and Dying, Elisabeth Kubler-Ross posited "Five Stages of Grief" by which humans deal with severe grief and other traumatic emotional experiences, in order: denial, anger, bargaining, depression, and acceptance. (Kubler-Ross's methodology and conclusions have been criticized, but in any case the framework has its uses.)

Reviewing recent market commentary, it appears that the investors, traders and pundits alike have been working their way through each of these 5 stages. Consider:

(1) Denial: For the longest time, the consensus was that Housing issues would not impact anything else. Classic denial was demonstrated by the insistence that first Housing, then the credit crunch, was "contained."

There has been a multi-step process for the deniers (denialists?). Initially, they insisted there was no housing slowdown. Then, any slowdown would not impact consumer spending or the broader economy. The 3rd denial step was that while it was no longer contained, any damage would be mild. The most recent denial was that while the Housing issue has been worse than previously believed, it is now fully reflected in stock prices.

Me thinks they doth protest too much.

We saw the same denial steps in inflation, consumer spending, and job creation. The denial transition went from (a) No slowdown to (b) Slowdown, but no impact to (c) Impact, but contained to (d) Broad impact already reflected in stock prices.

(2) Anger: The details of this were personified by Jim Cramer's now infamous Fed rant. After spending the prior year discussing that Housing was fine (February 2007), and pointing out each bounce in the home builders (November 2006) was proof the Housing bottom was in, Cramer's incredible meltdown was stark evidence that the denial stage was over, and the classic anger stage was beginning.

(3) Bargaining: I believe we are now at the bargaining stage. This is reflected in the increased expectations of a 50 bps rate cut (If the Fed cuts aggressively, stocks will be fine). Buying falling knives is a form of bargaining (If I avoid momentum plays, and only buy cheap stocks, I am okay). ...

What is next? Well, steps 4 and 5 -- Depression and Acceptance -- have yet to occur this cycle.

If you were an active investor -- or better yet, in the business, recall what your psyche was like in mid-2002. That was Step 4 - depression. The screens were red all day, investors refused to even open up their monthly statements, no one wanted to take your calls. It was ugly. That is what depression is like.

This is great advice. Remembering your previous states of minds at critical times in market history is always a valuable exercise. But do not cheat by deceiving yourself!

Step 5 (Acceptance) was when people finally admitted it was over -- that stocks had their day. Hope was extinguished, and perhaps real estate or commodities might be a better play. Incidentally, stage 5 is a great time to buy equities.

If this parallel to Kubler-Ross continues to hold, and if my approximation that we are only at stage 3 is correct -- then we have some downside work to do before this is all over.

So there you go. Traditional market analysts look for "capitulation" at the bottom of a bear market -- analogous to the acceptance stage described -- where investors say "I can't stand the pain any more. Just get me out." Are we there yet? Ritholtz says no.


Maybe the Federal Reserve in combination with other policy makers can engineer a reversal of the financial markets and stop the current credit crunch in its tracks via traditional means. But just in case that is insufficient, Ambrose Evans-Pritchard writes that President Bush has convened the so-called Plunge Protection Team to directly manipulate the markets as needed:

Bears beware. The New Deal of 2008 is in the works. The U.S. Treasury is about to shower households with rebate cheques to head off a full-blown slump, and save the Bush presidency. ... Mr. Bush [has] convened the so-called Plunge Protection Team for its first known meeting in the Oval Office. The black arts unit -- officially the President's Working Group on Financial Markets -- was created after the 1987 crash.

It appears to have powers to support the markets in a crisis with a host of instruments, mostly by through buying futures contracts on the stock indexes (DOW, S&P 500, NASDAQ and Russell) and key credit levers. And it has the means to fry "short" traders in the hottest of oils.

The team is led by Treasury chief Hank Paulson, ex-Goldman Sachs, a man with a nose for market psychology, and includes Fed chairman Ben Bernanke and the key exchange regulators.

Judging by a well-briefed report in the Washington Post, a mood of deep alarm has taken hold in the upper echelons of the administration. "What everyone's looking at is what is the fastest way to get money out there," said a Bush aide. ...

We face a version of Keynes's "extreme liquidity preference" in the 1930s -- banks are hoarding money, and the main credit arteries of the financial system remain blocked after five months.

"In terms of any stimulus package, we're considering all options," said Mr. Bush. This should be interesting to watch. The president is not one for half measures. ... The only question is what the president can manage to push through a Democrat Congress.

The thinking seems to be that at times it is effective to try and wag the financial system dog with a flick of the major market indices tail. And those occasions are in the offing.

The Plunge Protection Team -- long kept secret -- was last mobilized to calm the markets after 9/11. It then went into hibernation during the long boom. Mr. Paulson reactivated it last year, asking the staff to examine "systemic risk posed by hedge funds and derivatives, and the government's ability to respond to a financial crisis." ... It seems he failed to spot the immediate threat from mortgage securities and the implosion of the commercial paper market. But never mind.

The White House certainly has grounds for alarm. The global picture is darkening by the day. The Baltic Dry Index [which measures shipping rates] has been falling hard for seven weeks, signaling a downturn in bulk shipments. Singapore's economy contracted 3.2% in the final quarter of last year, led by a slump in electronics and semiconductors.

The Tokyo bourse kicked off with the worst New Year slide in more than half a century as the Seven Samurai exporters buckled. The Topix is down 24% from its peak. If Japan and Singapore are stalling, it is a fair bet that China's efforts to tighten credit are starting to bite. Asia is not going to rescue us. On the contrary.

Keep an eye on Japan, still the world's top creditor by far, with $3 trillion in net foreign assets. The Bank of Japan has been the biggest single source of liquidity for the global asset boom over the last five years. An army of investors -- Japanese insurers and pension funds, housewives and hedge funds borrowing at near zero rates in Tokyo -- have sprayed money across the Antipodes, South Africa, Brazil, Turkey, Iceland, Latvia, the U.S. commercial paper market and the City of London.

We would hazard the guess that Japan's fount of liquidity goes much further back than 5 years, like to 1989 or so when their stock market and real estate bubbles popped. Wanting to avoid a repeat of the 1930s, the BoJ and Japan's policians have been more than willing to supply monetary and fiscal stimulus to a fare-thee-well.

The Japanese are now bringing the money home, as they always do when the cycle turns. The yen has risen 13% against the dollar and 12% against sterling since the summer. We are witnessing the long-feared unwind of the "carry trade", valued by BNP Paribas in all its forms at $1.4 trillion.

The U.S. data is now relentlessly grim. Unemployment jumped from 4.7% to 5% ... in December, the biggest one-month rise since the dot-com bust and clear evidence that the housing crunch has spread to the real economy.

"At this point the debate is not about a soft land or hard landing; it is about how hard the hard landing will be," said Nouriel Roubini, professor of economics at New York University. "Financial losses and defaults are spreading from sub-prime to near-prime and prime mortgages, to commercial real estate loans, to auto loans, credit cards and student loans, and sharply rising default rates on corporate bonds. A severe systemic financial crisis cannot be ruled out. This will be a much worse recession than the mild ones in 1990-91 and 2001."

Sovereign wealth funds stand ready to rescue banks, as they have already rescued Citigroup and UBS. But as Moody's pointed out this week, the estimated $2.5 trillion in lost wealth from the U.S. house price crash is more than the entire net worth of all the sovereign wealth funds in the world.

Add fresh losses as the property bubbles pop in Britain, Ireland, Australia, Spain, Greece, The Netherlands, Scandinavia and Eastern Europe, as they surely must unless central banks opt for inflation (which would annihilate bonds instead, with equal damage), and you can discount $1.5 trillion in further attrition.

Here we have an estimated total of $4 trillion in lost wealth from the worldwide property bubble (finally) popping. That is real money, even in today's funny-money financial world.

Not even a Bush New Deal can hold back the post-bubble tide that is drawing in across the globe. What it can do is buy time. Fortunately for America -- and the world -- the U.S. budget deficit is a healthy 1.2% of GDP ($163 billion). Washington has the wherewithal to fund a fiscal blitz.

Britain has no such luxury. Our deficit is 3% of GDP at the top of the cycle. Gordon Brown has shut the Keynesian door.

It must be something in the air. As noted in journal entry elsewhere on this page, another respectable analyst also seems to labor under the delusion that the U.S. is some kind of example of comparative fiscal rectitude. No mention of unfunded Social Security and Medicare liabilities, etc. here or there. The idea that the U.S. federal government has the "wherewithal" to add some real estate bailout scheme to the budget on top of its unprecedented profligacy truly boggles the mind. If business-quality accounting (such as that is) were used on the U.S. budget, one would no doubt find a deficit greater than the 3% of GDP which allegedly has shot the UK's fiscal wad.


Doug French, writing on LewRockwell.com, notes the widespread prevalence of high-rise construction cranes, "from housing projects under construction in Jerusalem to casino resorts underway in Macao. ... Even in mega-sprawl Phoenix, cranes are in high demand ... Over 60 cranes dot the Las Vegas skyline ..."

In addition, the tallest building in the world, completed in 2004, is in downtown Taipei, Taiwan. But the 164-floor Burj Dubai is scheduled to be completed in 2009. The 101-floor Shanghai World Financial Center is scheduled for completion next year (after being under construction for a decade). A 102-floor building in Hong Kong is due for completion in 2010. Another six buildings, each over 90 stories are in the planning stages to be built in Russia, Korea, Taiwan and China.

So what does this all mean?

Mark Thornton of the Mises Institute examined the connection between the completion of the next tallest-building and the business cycle in "Skyscrapers And Business Cycles" which appeared in the Spring 2005 edition of The Quarterly Journal of Austrian Economics. Using economist Andrew Lawrence's skyscraper index, combined with Austrian Business Cycle Theory, Thornton finds that the skyscraper index is a good predictor of economic crisis and "that both the cause of skyscrapers reaching new heights and severe business cycles are related to instability in debt financing ..."

Four historic construction cycles -- in 1904, the late 1920s, the late 1960s/early '70s, and the 1990s in Asia ...

Share common characteristics: A period of cheap, easy money, leading to stock market booms and increases in capital expenditures. This new capital leads to technological advances and employment growth. During the booms, the next tallest building is planned and construction begins. But, prior to completion, negative information leads to market panics and the value of capital goods falls.

The coordinated and constant creation of liquidity by the world's central banks, especially since the Greenspan era, has led to not only more contenders for the tallest building title all over the world, but also frenzied high-rise construction everywhere.

Thornton's work shows us that before the construction party ends, the economy wakes up with a bad hangover. Better stock up on aspirin, there is a lot of pain coming.


The Penny Sleuth is a small cap stock investment service which publishes under the umbrella of marketing nonpareil (written in envy, more than as a warning) Agora Financial. It is primarily a paid service, but they throw out a fair number of freebies to the general public. The Sleuth's writers mix enough of a fundamental value orientation into what is inherently a high-risk investment arena that their ideas are usually worth a look. They "try not to get too philosophical about investment trends and what the market is doing. (Although I have to admit, it is hard not to sometimes.) What get us excited are huge growth opportunities in small-cap stocks." Here are two ideas they proffer to start off the new year:

Opportunity #1: The Only Company That Can Handle All of Canada's Problems

The first company is one that was first mentioned in an article back in October, but is still going to have a big year this year. Currently, from the moment I first discussed it, it's up 32%, but it has tons of room to grow. The company is Aecon Group, Inc. (TSX: ARE).

Aecon has been a leader in Canada, especially in the Toronto area, in various businesses, which include infrastructure, concessions, buildings and industrial.

The infrastructure segment of Aecon's business includes road, highway and airport runway construction; building dams, tunnels and transit systems; as well as utility construction like water and sewer systems, telecommunication networks and even mainline gas projects.

Aecon's concessions segment takes care of maintenance, management and upgrades that go along with the ongoing operations of certain infrastructure projects.

The company's buildings segment includes projects like commercial office buildings, schools, hospitals and government buildings.

And finally, its industrial segment handles everything from industrial pipe manufacturing and platform/assembly construction to electricity-generation facilities that range from nuclear and fossil to hydroelectric.

The company has proven itself throughout Canada by efficiently completing projects like the Bruce Power Used Fuel Dry Storage Facility for spent radioactive materials (from the many nuclear plants in Canada). But, the company is also diving into international projects like the construction and maintenance (over a 30-year period) of a new airport in Quito, Ecuador and a cross-country highway in Israel.

This kind of experience and trust from the Canadian government, not to mention the international community, puts Aecon in a great position in the upcoming infrastructure boom.

What is missing from this thumbnail is some fundamentals such as the current stock price vs. 2008 estimated earnings and the quality of the company's balance sheet. You also might want to look at a stock price chart going back several years, in order to understand just how early in the day you are privileged to have been informed of this idea. But we agree that infrastructure and repair will be high-demand areas for years to come, so that is an interesting starting point.

Opportunity #2: This $160 Million Chinese Education Provider Is Set to Explode

China has made it a point of pride at how fast its population is becoming educated. From the land of a long agricultural past, it is pretty obvious that more and more Chinese are moving to the cities to work in white-collar jobs. Well, those jobs are not just handed to ex-farmers. They must pass through a bit of education first. And educated, they are ...

For instance, the number of students in China, who are enrolled in a regular institution of higher education, has risen from only 850,000 in 1978 to 13,335,000 in 2004, when the last number was published.

With more and more people moving to the cities in China, we expect to see that number skyrocket. The schools are trying to keep up on all the new students but are failing. So one little small-cap company, ChinaEdu Corporation (NASDAQ: CEDU), is starting to make huge strides.

This little educational services provider offers full online degree programs for various majors. It also offers many services for both schools (from pre-primary to colleges) and students. The company has exclusive long-term contracts with many schools. This secures its revenue stream for years to come.

Again, some numbers are needed, and a lot more. It certainly sounds interesting, and we imagine that is no accident. A paid subscriber the The Penny Sleuth probably is privy to a much deeper level of analysis, which would enable one to make a decent assessment of whether the idea is worthy of some portion of his or her investment funds. You can also do the analysis yourself, of course, at the cost of some time.


Another idea from The Penny Sleuth (see entry immediately above) is from their commodities specialist. He is bullish on commodities in general, and natural gas in particular. He shares a stock idea in the industry:

It seems that the commodities could barely wait for the clock to strike midnight on the New Year before they were off to the races. Both gold and oil have hit record highs and stocks in those sectors are going parabolic as I write. Agriculture is on fire as well. Corn is at an 11-year high, soybeans are trading just short of a 34-year high, and wheat surpassed $10 for the first time.

With prices at these levels and markets as volatile as ever, you would have to proceed with caution to invest in these markets. They are very susceptible to a strong pullback at current prices. If it were me, I would not look to try and set up new positions and nickel and dime the rest of this short up leg. I would put tight stop-losses on any current positions, and I would wait for the next serious pullback to set up new positions. In the mean time, there is a big story brewing. In my opinion, this could be the biggest story for commodities markets in 2008.

A prudent warning against carelessly playing around in commodities and commodities stocks after the wild runups we have seen.

I am talking about natural gas (NG). I believe that natural gas will have a huge year in 2008, and there is good reason to believe so. Natural gas exploration was down in 2007 and is expected to be down again in 2008. ... [W]hy would someone explore for NG with oil trading at $100/barrel and looking to go higher? ... With oil trading at $100, people will begin to look for feasible alternatives. In the following couple of years, natural gas seems to be one of the most plausible solutions.

You have to look at the alternatives. I love nuclear energy, and we could sure use a whole lot more nuclear power plants, especially in the U.S. The problem there is that the nuclear industry is STILL trying to overcome political obstacles as ridiculous as that sounds.

Note here, however, that fellow Agora Publishing publication Whiskey & Gunpowder, in "The Truth About Nuclear Power", argues that if "all subsidies," including the "full cost of all waste disposal for a 10,000-year period, with such waste required to be kept out of the biosphere; and the full cost of 'entombing' or decommissioning the reactor," were calculated, "it would reveal the true cost of nuclear energy as many times more expensive than existing, commercially available renewable sources." So do not forget to consider that before diving into a uranium mining investment.

What about renewable energy? Well, simply put, for renewable energy to be a reasonable near term solution, we would have had to start seriously implementing all forms of renewable energy about 10 years ago, and we cannot change the past.

So it seems that even if natural gas were a poor substitute, we would be forced to continue to develop natural gas-based power. The beautiful thing is that natural gas IS a good alternative.

At current prices, it costs twice as much to produce a BTU from crude as it does from natural gas. In today's world, we cannot help but notice the political attitude towards energy production from a carbon-emitting standpoint. ... NG is the cleanest burning of all the carbon-based fuels. Also, say what you will about liquefied natural gas, but it is an ever-growing market. At that point is becomes even cleaner to burn, but is also less economical. Also, both power plants and diesel fuel can use natural gas.

Being that NG seems to be one of the only feasible alternatives, is clean burning and is experiencing declining exploration due to crude prices, I believe that natural gas will be the best performing commodity in 2008. I believe it is trailing slightly behind most other commodities in the commodity super-cycle, but believe me when I say that natural gas will be a crucial aspect of supplying power to the millions of people in the emerging markets that will be coming onto the power grids in 2008.

A company worth looking into in this sector is Delta Petroleum Corp. (DPTR: NASDAQ). Delta is located in Denver, Colorado and is involved with the exploration and production of natural gas as well as crude oil. The company is also very actively involved in M&A. It has operations in both the Rocky Mountains and Gulf region. Delta is already producing, which is very important to me when looking at juniors and intermediates in the commodities sector.

One thing that really jumped out to me about Delta is that Kirk Kerkorian's Tracinda has recently purchased a 35% stake in the company at a 23% premium to market value. It seems that I am not the only one who likes the potential of Delta going forward as it continues to expand production and exploration in order to build revenues as well as its proven and probable reserves.

A standard way to value an oil and gas company is to take the value of its proved reserves and subtract its net debt (or add its net cash, if cash > debt). An extremely rough way to value proved reserves is to assign to each barrel of oil or mcf of gas in the ground a value of 1/3 of what a barrel/mcf sells for above ground. However far off this calculation is from a company's true economic value, at least it gives you a starting point. In particular, if this assessed value is well below what the company is selling for in the stock market, you want to ask where else the value is.

Kirk Kerkorian has demonstrated a good nose for value, but keep in mind he is a company insider. His shares are worth more that the shares of a small investor with no say in the company's management. Do not just take the premium he paid at face value.

Making money in oil and gas requires spending a lot of money drilling a hole and hoping you find that you got more back (discounting future cash flows appropriately) by the time the hole runs dry than you put in. In practice this can work out with a fairly good probability if management manages risk well and avoids overpaying for prospects. So you want to know management's philosophy and record there.

However exciting or dull the story, at the end of the day all businesses just take money in and then churn it out. The good or service produced is just a mechanism for this. Look at the financial statements as if you do not know what business the company is in -- especially the flow of funds statements, which are neglected as a rule. Is the company generating value or destroying it?

Delta Petroleum may or may not have a record of value creation. If it is a well-run company selling at a discount to its current value, the extra boost from future increases in the price of natural gas is gravy. The above writeup on Delta answers none of the issues raised. It may be a reasonable idea (it is not like it came in as a piece of spam email), but that has to be demonstated further.


Forbes's Art And Collectibles Collectors Guide 2008

A widespread economic slowdown could start to cool the market for art and collectibles. But until then -- it is hot! From custom-built motorcycles and Cuban cigars to the Picassos and Modiglianis bought and sold by one savvy art trading family, find out what is most coveted in the world of collecting.

The End of the Petrodollar Trade

Oil has finally reached $100 per barrel, yet few people on the distant end of oil supply lines are aware of how fast the status quo can change. The status quo tells us to expect more oil when we want it. That market forces always bring ample oil supplies to market. That oil producers will always accept a fixed amount of paper money in exchange for concentrated liquid energy.

But the status quo view of the oil market has been wrong for years. Many still use speculation and geopolitics, rather than supply and demand, to explain rising prices. These pundits never question whether the exchange of paper money for black gold is sustainable. In the old days, when oil prices rose, big exporters like the Saudis recycled most of their oil money into the U.S. bond market, giving rise to the term "petrodollars." But those days are long gone. Middle East oil producers now pump lots of money into local economies and oil price subsidies. These policies have led to much higher oil consumption in OPEC countries and will keep lots of oil from ever reaching the export market.

The oil trade has radically changed, and investors need to understand these changes. So it helps to look at a model of a hypothetical oil exporting country. ...

Invest in the New Way to Get Oil

"Subsea processing" is the new black -- the sexiest fashion in the world of oil extraction. Based on figures put out by the International Energy Agency (IEA), "nontraditional" methods will play a large role in replacing future oil production. And many of those non-traditional methods will operate more than 1,000 feet below the surface of the ocean. ...

The subsea market is very much on an upward growth path, particularly when looking at the value of delivered systems between 2001 and mid-2007, and forecasting deliveries of orders on the books out to 2011. Subsea production is currently occurring in 50 countries worldwide, with a further 10 nations to join this club within the next few years. Who are the players in all of this? Here is a chart of the principal leaders among the companies that design, build and deliver significant subsea production systems: [image link]

The leading U.S.-traded companies in the subsea field that are stand-alone investment plays are FMC Technologies Inc. (FTI), Cameron Intl. (CAM) and Dril-Quip (DRQ). Another highly regarded company in the field, Vetco Gray, was acquired last year by General Electric (GE). One more company that is a player in the subsea equipment business is Aker Kvaerner, which trades on the Oslo, Norway, exchange. (The stock also trades here in the U.S. Pink Sheets under the symbol AKKVF). Aker cut its teeth developing technology for work in the North Sea, and thus is a world leader in the field. Looking forward, half of all semisubmersible drilling rigs in the world currently under construction will be equipped with equipment supplied by Aker.

In the subsea realm, the current market fundamentals are extremely healthy for contractors. Profit margins are large and growing. ... In the subsea equipment field, the trend is for operators to develop long-term relationships with the suppliers named in this report. These relationships will almost certainly last for at least 15-20 years per project. ... As conventional oil production continues to decline, investment dollars will continue to flow toward offshore production, particularly deepwater.

Investing in the Most Undervalued Sector

One interesting guidepost to look at is the longer-term market cycles of what is in fashion and what is not. Which brings me to one of my favorite charts. It is a conceptual portrait of market history -- stretching back to 1977. Take a look at "The Tree Rings of Markets Past." This chart marks off the booms and busts of various sectors. You see fat eras of plenty, bulging like swollen rivers after a rain, and you see thin areas of hardship, like parched desert sands: [image link]

It shows you the market capitalization share of the S&P 500 by sector. The S&P 500 Index, a popular stock market index made up of 500 stocks, is broken down into 10 sectors, as you can see. Market capitalization is the value of the sector in the marketplace. As stocks rise, market caps swell.

Looking at the chart, you can see what has been popular. In 1980, the energy sector was hot and grew to represent nearly one-third of the S&P 500. It collapsed thereafter, and energy sector investors took a beating. In the 2000 bubble, you can see how technology stocks came to represent an even greater share of the stock market, nearly 35%. I am sure I do not need to recall how badly mauled investors in technology were as the bubble popped. ...

I love this chart for all that perspective it gives in one glance. And because it shows how great tides shift in the market. Now unfolding is another great shift. You can see how financials have come to represent a sizable piece of the S&P 500. Today, they make up over 21% of the whole. Financials have enjoyed a long stretch of prosperity. If the past is any guide, you want to avoid the dominant sector. [The chart goes to May 2007, so given the decline in financials since then an newer chart is needed. But the tool itself is a great one.]

Invest in China's Version of the 1896 Dow

America's industrial revolution required the basic commodities and raw materials essential to a nation's growth. So it is no surprise that the original Dow Jones Industrial Average consisted entirely of companies that produced goods like cotton, sugar, tobacco, gas, lead, coal and iron ...

These are the resources developing countries like China cannot live without. The "China story" is nothing new. It has been played time and time again. Southeast Asia's insatiable appetite for a limited supply of natural resources will continue to rise right alongside its staggering annual growth rates. ...

Right now, the world is struggling with the adjustments of globalization. Specifically, energy security has prompted many nations to issue threats, assess strategic positions and begin to retrench to protectionist tendencies. ...

Oil is much more than the commodity that fuels our cars. Petroleum-based products undoubtedly serve as the most important commodity driving domestic economies. Domestic stability rests on its relative availability. Consequently, Beijing will certainly protect the vested interests of the two large energy companies, PetroChina (PTR) and Sinopec (SHI).

I believe these companies will provide consistent long-term returns with minimal risk. While companies like these may not offer the kinds of returns known to penny stocks, in the uncertain world we live in, they might be your best bet.

Ponzi Financing and the S&L Crisis Revisited

One way banks have of attracting money is by offering above market rates on CDs and savings accounts. With six-month treasuries yielding 3.2%, guaranteed rates of 5.0% on CDs or savings accounts will attract capital. Such rates should not be government guaranteed but they are. Money will always flock to the highest guaranteed returns.

Washington Mutual, Corus Bank, Bank United, Countrywide Financial and others are all attracting capital because of FDIC insurance. Can they make it up by lending it out higher? Perhaps, but only by taking on additional risk. Would those banks attract as much capital without FDIC insurance? Hardly.

It was excessive risk that got WaMu, Citigroup, Merrill Lynch, Bear Stearns, Countrywide and others into trouble in the first place. If this financing scheme fails, the taxpayer will be left holding the bag. Does this ring a bell? It should because that is what happened in the S&L Crisis.