21
Jun
2010

Weekend Thoughts

Weekend Thoughts

By Phil Davis of Phil's Stock World

We don’t care IF the game is rigged, as long as we know HOW it is rigged so we can place our bets accordingly. - Phil

Remember it was last summer that Goldman’s secret trading program was stolen.  At the time, Goldman Sachs asserted that: "There is a danger that somebody who knew how to use this program could use it to manipulate markets in unfair ways."  I believe this was a misquote and what GS meant to say was that there was a danger someone ELSE could use it to manipulate the markets in unfair ways.  Was it just a coincidence that the indictment of computer thief Sergey Aleynikov on Feb 11th coincided with the beginning of this year’s massive rally or was that the day GS regained sole control of their pet program?

Does this sound conspiratorial?  Well perhaps then you haven’t read Tim Lavin’s "Monsters in the Markets," where he points out:

Algorithms now trigger 70 percent of all trades in U.S. equities. The speed and volume of everyday trading have propelled the market into a new and esoteric dimension, and rendered traders in the pits largely obsolete…  At least a few high-frequency traders have learned to make a killing by detecting the more simplistic algo strategies deployed by basic pension funds and mutual funds, buying the next stock the funds plan to buy, and then selling it to them at a higher price. This may not be illegal, but it’s almost certainly unfair to the funds’ investors. “It is increasingly clear that there are quite a number of high-frequency bandits in the high- frequency-trading community who pump up volume statistics, front-run investor orders, increase transaction costs, and hurt real liquidity,” according to former NASDAQ vice-chairman David Weild.

Default or Hyperinflation for US?

Mint Life has a very nice overview of the EU crisis.

It’s in 3 parts: Understanding the Crisis, The Counties Involved and The Potential Consequences.  The last article points out the potential danger that nobody likes to talk about but is worth mentioning at least once, lest we forget:

It is worth recalling financial crises have helped install the worst among men into political power. Adolf Hitler, for instance, rode a wave of unrest over Germany’s massive unemployment into the Chancellor’s seat. Joseph Stalin also obtained public support by promising solutions to Russia’s economic woes. Though it’s unclear if another Hitler or Stalin is waiting in the wings, history shows that cunning politicians are fully capable of exploiting financial chaos to everyone’s detriment but their own.

John Reed, who predicts hyperinflation in our future, thinks that default is the only real solution - not just for the EU nations but for US as well.  Face it citizens, we owe $15Tn (ignoring unfunded liabilities, of course) and we are spending $3.5Tn this year and taking in $2.1Tn in tax revenues.  What is the exit strategy here?  Cut spending in half?  Double taxes?  Like John, I think ultimately we have to face up to the fact that we are either going to finally admit we can’t pay this debt and default (as many other countries will have to do) or we will have to inflate our way out of debt (effectively growing GDP to the point where $15Tn is no longer an unpayable amount).  Either way, the people we owe money to are pretty screwed.

File:Estimated ownership of US Treasury securities by category 0608.jpgUnfortunately, for the US, we owe most of that money to our own people.  Japan owes 80% to their own people and the EU mainly owe money to each other.   Notice on this chart that 1/2 of the outstanding Treasury Debt is owed to the Fed.  No wonder they are so interested in keeping this game going at all costs!

In a Forbes article titled "Learn to Love A US Default," John (something about Johns) Tamny says: "For Americans to worry about a debt default is like the parent of a heroin addict fearing that his dealers will cease feeding the addiction. In truth, just as the much-needed heroin withdrawals would mark the beginning of the addict’s recovery, so would a cessation on the part of investors when it comes to funding federal waste signal a United States on the mend."

I think hyperinflation is an easier pill to swallow than default, which is why we love our TBT.  Either way, lending the US government money for 20 years at 3.5% interest so they can run up another $70Tn in debt and expecting to get paid back in dollars where $100 will buy you more than a happy meal in 2030 is madness.

Under what premise do we say BUYBUYBUY gold while cutting budgets and paying down debts and allowing unemployment to fester and begin a deflationary cycle that drives down prices?  Belt tightening and deflation might make sense if we DIDN’T have a $15Tn debt already, it might make sense if we didn’t have $75Tn of unfunded liabilities already - BUT WE DO!  So deflation = default, whether now or next year or the year after, there is NO WAY deflation will "save" us and the proponents of NOW trying to scrimp and save AFTER we had a $90Tn party and the bill is due are not just unrealistic - they are IDIOTS!

Just like anyone or any company that is in debt and needs to survive and avoid bankruptcy - America needs to get back to work.  We wasted $4Tn stimulating and bailing out banks (including Fed asset purchases) and we have done NOTHING for the American people.  The people should be revolting but instead 580 MILLION votes were cast for American Idol, while our President, who had 63M votes and Congress, some of whom got elected with as little as 50,000 votes, continue to sell out our national interests to Bankers and Big Business.  Man are we stupid…

And the situation is no better in other countries with unsustainable debts.  As Michael Hudson describes in "Eastern Europe won't pay what it can't pay," Financial Times, creditor bankers are trying to shift the entire burden of the debts onto the debtor nations, but there's a point at which the debtor nations cannot and therefore will not pay.

Bankers in Sweden and Austria, Germany and Britain are about to discover that extending credit to nations that cannot (or will not) pay may be their problem, not that of their debtors. No one wants to accept the fact that debts that cannot be paid, will not be. Someone must bear the cost as debts go into default or are written down, to be paid in sharply depreciated currencies, and many legal experts find debt agreements calling for repayment in euros unenforceable. Every sovereign nation has the right to legislate its own debt terms, and the coming currency re-alignments and debt write-downs will be much more than mere "haircuts".

There is no point in devaluing, unless "to excess" - that is, by enough to actually change trade and production patterns. That is why Franklin Roosevelt devalued the US dollar by 75 per cent against gold in 1933, raising the metal's official price from $20 to $35 an ounce. To avoid raising the US debt burden proportionally, he annulled the "gold clause" indexing payment of bank loans to the price of gold. This is where the political fight will occur today - over the payment of debt in currencies that are devalued.

[...]

The question is, who will bear the loss? Keeping debts denominated in euros would bankrupt much local business. Conversely, re-denominating these debts in local depreciated currency would wipe out the capital of many euro-based banks. But these banks are foreigners, after all - and in the end, governments must represent their own home electorates. Foreign banks do not vote.

There is growing recognition that the post-communist economies were structured from the start to benefit foreign interests, not local economies...

It seems unreasonable and unrealistic to expect that large sectors of the new European population can be made subject to salary garnishment throughout their lives, reducing them to a lifetime of debt peonage. Future relations between Old and New Europe will depend on the eurozone's willingness to redesign the post-communist economies on more solvent lines - with more productive credit and a less rentier-biased tax system that promotes employment rather than asset-price inflation. In addition to currency realignments to deal with unaffordable debt, the solution for these countries is a major shift of taxes from labour to land. There is no just alternative. Otherwise, the age-old conflict between creditors and debtors threatens to split Europe into opposing camps, with Iceland the dress rehearsal.

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