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Thursday, June 25, 2009 Americans have rediscovered their inner squirrel... Buffett still can't see the 'green shoots'... The public still has faith in economists - but why? Dan Amoss looks at unsustainable US economic activity...and more! --------------------- Special Offer --------------------------- Only 63 People Know Why These Six Tiny Companies Will Change the World... You're #64 - and about to become ultra-wealthy. This will go down in history as the "story of our era..." Most importantly, you'll be rich because you took decisive action in 2009. See the full report here. --------------------------------------------------------------- What's the Purpose of a Correction? by Bill Bonner London, England The purpose of a man is to love a woman... And the purpose of a woman is to love a man... Remember that hit from the '60s? How about this? To everything there is a season And a time for every purpose under Heaven... That is a line from Ecclesiastes that The Byrds turned into another hit song... Well, what's the purpose of a correction? It's to destroy the illusions of the previous bubble period. How's this one doing? Progress is mixed. US consumers seem to have straightened up pretty fast. After the crash, they went into therapy and rediscovered their inner squirrel. Now, according to news and anecdotal reports, they're saving all the cash they can. Savings rates, which had been near zero, are now bouncing up towards 5%. When they aren't stashing nuts, they are becoming more independent. Reports tell us that they are planting backyard gardens...and putting in their own power plants. (Yesterday, we came across a website for people who wanted to generate their own power.) They're said to be cutting their own hair...and their own grass, driving less, cooking their own meals, and so forth. They are prone to backsliding at any moment, of course. And with the feds waving the bottle under their noses every day, many are bound to fall off the wagon. But on the whole...consumers seem to be breaking free of the illusion that they can get rich by spending money. The property bubble illusion seems to have been given a good whack too. Few are those in the United States of America or Britain who would say today, 'houses always go up in price.' Or that 'you can't lose in property.' People know it doesn't work like that. Many speculators and homeowners alike have lost big. They'll remember it. Still, while the lesson has been taught...it probably has not been thoroughly learned. Many people still look for the bottom of the property bear market. They think the bottom will come soon...and that they will be able to profit from another big move up. This is not the sort of thinking you get at the real bottom. It's the sort of thinking you get at false bottoms on the way down. It's the sort of illusion that needs to beaten out of people by successive waves of disappointment. Here's what will happen. Prices will seem to stabilize. Hopeful speculators will begin to buy property again, counting on capital gains. Then, either property prices will fall again...or go nowhere. Eventually, the illusion will disappear. People will cease looking at houses as anything more than very durable consumer items, which cost money to maintain and never reward their owners with anything more than a roof over their heads and a place to keep their collections of Playboy magazines and Cabbage Patch dolls. But in stocks - and in economics - the illusions of the bubble era have barely been dented. Okay...stocks were involved in a major fender- bender a few months ago. Investors realized that profits weren't guaranteed...and weren't steady. But they knew that already. That was the lesson of the downturn in 2001-2002. What they took from that earlier experience was that even though stocks go down - and may go down sharply - if you keep your nerve you can still do quite well. We can't remember the figures exactly, but it seems to us that if you had bought at the bottom in '02 and held for the next 5 years you could have almost doubled your money. And if you had been lucky enough to buy Google (we advised against it...) you could have done far better. So stock market investors know there is some risk. But they still believe that you can make money by buying the dips...even the big dips. This strategy works in a bull market. It is murder in a bear market. In a major bear market, the investor comes back into the market after a dip...only to find himself in a bigger dip later on. He does this a few times and finally realizes that he is the biggest dip of all. Then, when stocks have gotten down to their major lows - at price to earnings ratios of about 5 or 8 - he is fed up. His illusions have all died in the bear traps. He's ready to give up on stocks altogether. Of course, that was the infamous message of the BusinessWeek cover of August 1982, which proclaimed "The Death of Equities." BW, speaking for the great mass of disillusioned investors, had thrown in the towel. We are far from there now. No major journal has run an obituary of the stock market. Instead, the question is 'how much further will this rally last?' Some think it is already exhausted. Others think it will last forever. But everyone's thinking about it - and it's not the sort of thinking that happens at a real bottom. At a real bottom, people have given up thinking about stocks. The illusion that stocks always go up over the long term is replaced by a new illusion - that they never go up at all! But is it in the economic area where the illusions are most intact. Miraculously, or perhaps just stupidly, people still have faith in the economics profession...and in the economists who steer the world's major economies. It doesn't seem to bother them that these are the same people who failed the critical test. When the tsunami approached in the spring of '07...these lookouts didn't see it. More on this below...but first, take a look at our special report that shows you how you can avoid the stock market all together - but still not take yourself out of the game. Get it here. Now, some news from The 5 Min. Forecast: "Despite all the data out this week - new and existing home sales, GDP, jobless claims - only one has given the Street a jolt: Durable goods," writes Ian Mathias in today's issue of The 5 Min. Forecast. "Orders for items meant to last a few years increased 1.8% from April to May, smashing Wall Street's expected 0.4% growth. Never mind that orders in the first five months of 2009 are down 27% compared to 2008... May's number is another green shoot! Hooray!" "'I get figures on 70-odd businesses, a lot of them daily,' said Warren Buffett yesterday. 'Everything that I see about the economy is that we've had no bounce. The financial system was really where the crisis was last September and October, and that's been surmounted and that's enormously important. But in terms of the economy coming back, it takes a while. There were a lot of excesses to be wrung out and that process is still underway and it looks to me like it will be underway for quite a while. In the [Berkshire Hathaway] annual report, I said the economy would be in a shambles this year and probably well beyond. I'm afraid that's true... "'I had a cataract operation on my left eye about a month ago and I thought maybe now I'll be able to see green shoots. We're not seeing them. Whether it's retailing, manufacturing, wherever. We have a big utility operation. Industrial demand is down like we've never seen it for a simple thing like electricity. So it hasn't happened yet. It will happen. I want to emphasize that. But it hasn't happened yet.'" Wanna make sure you get The 5 - in its entirety - sent to your inbox, every Monday through Friday? You can...by becoming a subscriber to one of Agora Financial's paid publications, such as Penny Stock Fortunes. Their latest special report details the easiest way to make money in this market - by focusing on stocks most investors overlook. Read all about it here. And more on the end of illusions: Not much to say about the markets yesterday. The Dow dropped a few points. Oil held steady at $68. The dollar gained a little on the euro. The 10-year note remained parked where it was. And gold rose almost $8 - to $934. Our intrepid correspondent Byron King offers his two cents: "The price of gold has also pulled back, from the high $900s to about $930 or so. Silver has pulled back in tandem. I'm not concerned. I'm happy to buy gold and silver cheaper. Long term, gold and silver prices are going higher. Really, where else can they go? Lower? With the current monetary madness that's infecting the world's central bankers? "Precious metals prices won't fall very far unless governments worldwide stop spending funds they don't have. (OK, China is spending money it DOES have. Everybody else? No way.) Will governments stop spending? Doubtful. So with excess spending, we'll see the accompanying monetary expansion from the central banks. That'll give us more inflation. "And the only effective defense against inflation is gold and silver." Get your inflation protection here. Back to the illusions of the Bubble Epoque... The public still has faith in economists. The whole world economy is underwater and the same economists who failed the critical test are manning the pumps. What makes anyone think they know what they are doing? On the surface of it their plan is absurd. Commerce, industry and households drown in a sea of debt; these fellows throw them a bucket of water. Asked to explain themselves, they resort to voodoo economics. "If we give Wall Street a lot of taxpayer money they will feel more like lending to households. That will bring a recovery," they say. "And oh yes, we'll give money to automakers who couldn't make it on their own, too." The feds are spending trillions - buying up trillions worth of Wall Street's mistakes...bailing out failed banks, insurance firms and even automobile companies...subsidizing borrowers...and realizing their own boondoggle projects. If Ben Bernanke were a teenaged girl, his name would be written on every public bathroom wall in town. "Where does the money come from?" we ask. "Oh...it comes from lenders..." say the fed economists, "and if we don't get enough from lenders, we will print up the rest. The important thing is that business has enough money to keep doing what it is doing." "Isn't it losing money?" "Well...yes...but only because people aren't buying enough." "Aren't they saving rather than buying because they saw what happened the last time you told them they didn't need to save? " "Well...maybe...but now they are gumming up the economy by sitting on idle capital. We need to put it to use." "Is that what you call paying bankers' bonuses?" "Look, if we don't support the banks, they will collapse...and then the whole financial system will come down on our heads." "But isn't a mismanaged bank supposed to collapse?" As you can see as well as we can, this conversation is a waste of time. The cornerstone illusion is never even addressed. And people never even question it. The meddlers claim that their central planning will do a better job of directing the economy than free people will do on their own. Instead of letting honest lenders and borrowers set interest rates, for example, the interveners set them - much lower than they would otherwise probably be (we don't really know...we never get a chance to find out)... Rather than let companies fail in the open market, the feds prop them up. "They're too big to fail," they say. And rather than let people spend their own money according to their own preferences, the feds borrow trillions of it - on the pretext that only Treasury bonds are safe - while simultaneously undermining the value of the dollar through excess debt and excess currency creation. The illusion is so big we scarcely see it - that an economy...even one involving more than a billion participants, speaking hundreds of different languages in more than a hundred different countries and 24 different time zones...can be successfully 'managed' by a group of mountebanks who missed the biggest financial event in history. That illusion will take a long time to be crushed. It will be an entertaining show for us... That is our purpose here at The Daily Reckoning. We point and laugh at the pretensions and illusions around us. For most people, however, the end of the Grand Illusion...that economists can direct the economy better than people can do on their own...will probably be a miserable, frustrating time. Until tomorrow, Bill Bonner The Daily Reckoning --------------------- Special Offer --------------------------- Options Made Simple Let's face it - playing options can be tricky. But they can also be incredibly lucrative. Well, in this report, we lay it all out for you. It's quite plainly, the easiest way to play options...ever. And the gains are just as big. Keep reading here. --------------------------------------------------------------- The Daily Reckoning PRESENTS: The 21st century gilded age for US consumers ended with the popping of the credit bubble. And this bubble was so big that it may take a decade for specialty retailers and restaurants to shrink store footprint, operations, and product lines to match a more sober customer. Dan Amoss explores, below. Read on... Unsustainable Economic Activity by Dan Amoss Jacobus, Pennsylvania "I think the American consumer recognizes they've got to hunker down, spend less, and they're doing it. Saks and Neiman Marcus have the worst sales on the planet, and the dollar stores and Wal-Mart are doing terrific because they offer value. That's a huge change in the mind-set of Americans. It's going to be with us forever. Living standards, of course, can never be the same. You can't put [the US] in this kind of financial condition. In our [federal] budget, we have 4% of the budget for debt service. That's going to go to 8. Now, when you do that, what happens to living standards?" - Retail expert Howard Davidowitz on a May 14 Bloomberg Radio interview. The day of reckoning has arrived for California's state government. It will not be pretty. Spending cuts and tax hikes are unavoidable; unlike the federal government, the state cannot monetize its debt with its own fiat currency. On June 10, California Controller John Chiang said in an official statement: "Without immediate solutions from the governor and legislature, we are less than 50 days away from a meltdown of state government." The golden goose that funded irresponsible growth in state spending is dead. Chiang issued a report detailing a 39% year-over-year drop in personal income tax receipts, a 52% drop in corporate tax receipts, and an 8% drop in sales tax receipts. Both consumer spending and capital investment will keep dropping in the state of California, because during the credit bubble, which paralleled growth in government spending, so much economic activity that would have taken place in the future was instead pulled into the present. Entrepreneurs suspect that state taxes on businesses will go up and will incorporate this into their plans. "Sustainability" isn't just a word for environmentalists. In fact, it has a lot to do with the various stages of our financial crisis. In short, unsustainable economic activity fueled by easy credit will fade away quickly under tight credit. As economist Herb Stein said: "If something cannot go on forever, it will stop." Like California's government, the consumer discretionary sector - which includes specialty retailers, restaurant chains, auto manufacturers, and more - has not been acting in a sustainable manner. California's budget crisis provides a good example of what happens to institutions that wait until the last possible moment to correct mistakes and gets their fiscal houses in order. Like state governments, many businesses in the consumer discretionary sector must correct mistakes made during the bubble and write off uneconomic investments. So while Wall Street's shortsighted focus is on the growth rate of the so-called "green shoots" of economic recovery, at Strategic Short Report, we're going to swoop in and seize not one, but two opportunities. "This is why it's healthier (yet politically unpopular) to have small, frequent recessions to keep supply and demand in balance, rather than have massive debt bubbles followed by nightmarish depressions and currency debasement. Such are the perils of government-promoted, debt-driven economic bubbles. It's like trying to live on a diet of candy and energy drinks, rather than wholesome food." But first, you may ask why the consumer discretionary sector made so many uneconomic investment decisions. In hindsight, it was easy to see that we had, for example, too much auto production capacity. But in the heat of the credit bubble, it simply was easy to be fooled by artificially boosted trends in consumer demand. Think about it this way: Consumer borrowing and government budget deficits both pull what would have been future economic activity into the present, while pushing the associated costs into the future. When this unsustainable behavior reaches its point of exhaustion, and people finally realize the folly of it all, employment falls, reckless investments are liquidated, and bad debts default. This is why it's healthier (yet politically unpopular) to have small, frequent recessions to keep supply and demand in balance, rather than have massive debt bubbles followed by nightmarish depressions and currency debasement. Such are the perils of government-promoted, debt-driven economic bubbles. It's like trying to live on a diet of candy and energy drinks, rather than wholesome food. The 21st century gilded age for US consumers ended with the popping of the credit bubble. And this bubble was so big that it may take a decade for specialty retailers and restaurants to shrink store footprint, operations, and product lines to match a more sober customer. US consumers will save much more and spend only on things that provide clear value, and this will crimp demand for things like three-martini lunches. Meanwhile, the stock market seems to have forgotten that we are facing a long-term adjustment in consumer behavior; it's distracted by noise surrounding the latest taxpayer-funded bailout. Market participants are also mesmerized at the spectacle of the Federal Reserve transforming its balance sheet into a toxic waste dump. It's like a bad reality television show that must up the ante to keep the audience interested. Consumer discretionary stocks enjoyed full participation in the post- March 6 stock market rally. However, this sector must endure years of disappointing profits - thanks to the capital investments made during the bubble to meet a level of demand that turned out to be phony. As US consumer demand approaches a more sustainable level, the excess capacity in specialty consumer companies will come to light. In the coming years, bankruptcies, price wars, and shrinking competitive barriers will prompt the market to start treating these former darlings as "commodity companies." Take another look at the lead quote from Howard Davidowitz, a widely recognized expert on the retail sector. He has lived through booms and busts, seen the rise and fall of winners and losers, and is not sugarcoating the return to sustainability in retail. The message is clear: Extravagance is out and frugality is in. Davidowitz may not be an economist, but his point about the federal deficit is one that all rational economic actors understand. He emphasizes that you cannot overspend without eventually suffering consequences. There's no getting around the fact that as with California's budget, profit margins in the financial and consumer discretionary sectors must shrink. Sustainability matters. Even the federal government will recognize this as the market charges high interest rates to fund its deficits. Regards, Dan Amoss for The Daily Reckoning P.S. Our two new short ideas, accelerated growth during the bubble, and will have trouble adapting to the post-bubble economy. These higher-end restaurant chains reinvested virtually all of their profits - and lots of externally sourced capital too - into aggressive expansion. In the second half of 2009, the stock market will realize that expansions of ornate restaurants were foolish investments. These restaurant chains are fragile species trying to survive in today's harsh economic habitat, hoping and waiting in vain for a return to a hospitable climate. Put options on two restaurant chains could each return at least 150% in a few months. To learn how to take advantage of this play, see here. Editor's Note: Dan is among our all-star line-up of speakers we have for this year's Agora Financial Investment Symposium in Vancouver, British Columbia. The conference is rapidly approaching...and this year marks the 10th anniversary of The Daily Reckoning. So, this July, the Symposium will be focused around a "Decade of Reckoning"...four days that will help you to gain greater insight into the investment ideas and profit opportunities of the next decade. This event is sure to sell-out...secure your spot now. Click here for all the info: The Agora Financial Investment Symposium: July 21-24 --------------------- Special Offer --------------------------- How You Can Grab Quick Strike Forex Profits... Like a 2009 trade for a 99% gain in only 4 days! 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