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The Daily Reckoning Thursday, October 22, 2009 How this bank went from profit to plunge inside a day, Those Dr. Frankensteins keep fumbling at the Fed, What comes of pretending that debt doesn't exist...and more... First up today, the gang over at The 5-Minute Forecast report... Here's one of the more convincing series of charts we've seen in a while... Bailing out the big US banks - at least the way our government did it - was not a good idea: In the year ending June 30, the biggest five banks in the US grew deposits by 29%, the FDIC said this week. In dollar terms, that's over $852 billion in deposits over the last year. But in spite of this, and the over $100 billion in TARP funds they've received, lending has increased only $564 billion. So for all our troubles - the billions of taxpayer dollars, the tireless political battles, the violent market swings - what have we gotten in return? Too-big-to-fail banks are even bigger, and they are hoarding their larger market share. We can hardly blame them for it, but from the taxpayer standpoint, heh... looks like we got the shaft. For more on how "too-big-to-fail" banks are failing their shareholders, check out today's essay below... But first, Bill Bonner with a few words from Waterford, Ireland... Devil debt will have his due... Here at The Daily Reckoning we may hate the devil and renounce all his works...but we're betting on him anyway... Let's begin with the headlines: "Financials Slam Wall Street," says a headline. The Dow fell 92 points. Makes us think the financials didn't slam it very hard. Gold rose. Oil rose. And the dollar sank below $1.50 per euro...another milestone. As we reported yesterday, investors think the recovery is for real...and that it will boost up prices of commodities and stocks. The dollar, on the other hand, is chopped liver. But we have a feeling that the devil is on the side of the dollar. Let's us explain. "How Wall Street Will Kill the Recovery," is a headline at BusinessWeek. Finally, everyone is catching on to how it works. The big banks take the feds' money...then they speculate with it ...or lend it back to the Fed for an easy 400 basis points of gain. At Seeking Alpha, they're talking about "the return of Japan's zombie finance." Over at The Wall Street Journal they've talking about America's own "Zombie banks." But these monsters are only reacting to the jolt of juice given them by the Dr. Frankensteins at the Fed and the Treasury. It has become very unprofitable to hold cash; the feds are creating more of it by the boatload. You get a minimal rate of return on cash...while other assets go up. And the feds can't stop...or change course...not without sinking the whole economy. They may talk about an 'exit strategy.' But the exits are blocked. Remember cash is created when the feds "monetize the debt" by buying US Treasury bonds. In order to exit...that is, in order to reduce the monetary base...they'd have to sell those bonds back into the open market. Are you kidding, dear reader? After being the single largest buyer on the planet? Imagine what will happen to the bond market when investors realize that the Fed is selling! It's not going to happen. Instead, that $1 trillion increase in the monetary base is more or less permanent...and it's eventually going to turn up as inflation. The feds have no idea what is going on. They consistently misunderestimate the devil...the market...and the economy. And they consistently misoverestimate themselves. In short, the old timers were right. To them, an economy was a natural thing...like an eco-system...or a language. It followed natural rules...rules that no man could change. It was like a living organism. It needed to breathe in and breathe out. And like all things under heaven, it was subject to moral laws. Do the wrong thing and you (an economy...as well as an individual) will pay the price. You don't get what you want from markets...you get what you deserve. This seemed intuitively correct to generations of economists. Not only that, it was proved correct time and time again. Each time people borrowed too much and spent too much money, they came a cropper. You may ask: "How much is too much?" According to the record, compiled and analyzed by professors Reinhart and Rogoff, it's impossible to say exactly. One nation can support public debt of 200% of its GDP (Japan comes to mind)...another cracks up at 50% (think of Argentina). A man like Donald Trump can carry millions in debt...another goes broke if you lend him 20 bucks. (At one point Donald Trump was the poorest man in the world. His net worth was negative by 10s of millions (we don't recall the figure). All over the world, hundreds of millions of people could have said: 'I'm richer than Donald Trump.' Even if you didn't have a dime, you were richer than The Donald.) So, how much is too much debt? It depends on what you use the money for...how much you have in assets...whether your earnings are shrinking or growing...and a number of other questions. But while the answers aren't simple, the questions should still be asked: If you run up a debt, how are you going to pay it back? What will happen if you don't pay it back? A professor at the University of Basel, Peter Bernholz, thinks he has the answer. He studied instances of hyperinflation. He believes that you get hyperinflation any time the government spends 166% or more of what it receives in revenues. This should set off alarm bells. The US budget is now about 170% of tax receipts. The feds can't repay the record amounts they're borrowing - not without a major political crisis. They'd have to cut spending and raise taxes so dramatically it would cause a backlash. The parasites would revolt. It would probably unseat the ruling party and break the repayment plan. Generally, people prefer inflation...or default...to actually paying their public debts. One way or another, however, the devil debt will have his due. Somebody is going to pay - if not the borrower...then surely the lender. There's a bullet out there. Someone has to take it. But who believes it? The old economists are dead. John Maynard Keynes denied that debt mattered very much. Then, his successors forgot that it mattered. Dick Cheney told his party to stop worrying about it. And now a whole plethora of modern economists and politicians believe that the problem with today's economy is that there is not enough of it. Debt that is. They think the government should borrow and spend even more. To them, the whole secret to a healthy economy is how much money people spend. Yes, it's absurd, but that doesn't make it unpopular. People like spending money. And they welcome economists who tell them that they're doing the right thing. Since Keynes, economists pretend the devil doesn't exist. They believe they are not part of nature...controlled by natural laws. Instead, they want to take control of nature. And the only way they can get a grip on economies is to break the boom-bust business cycle. And you can't do that unless you pretend that debt doesn't matter. The trouble with real markets is that they are always subject to human emotions and human calculations. It is a quality that George Soros describes as "reflexivity." Markets act differently, depending on what people believe. And when the authorities try to turn their knobs and yank on their levers, it changes both what people believe and what they do - but not necessarily in the way the feds want. It is much easier to manipulate speculative markets than it is to manipulate the real economy. Want to drive up prices? Just give speculators some free money to play with! Guarantee their debts! Bail them out of their stupid positions! That's what the feds have done. And that's why the banks - the recipients and conduits for the free money - are making profits. Goldman allocated $527,000, per employee, in compensation for the first 9 months of this year. An increase of 46% over last year. Gold, oil, copper, stocks - all are in government-induced speculative booms. But the underlying economy is harder to move. In order to get consumers to spend, the feds have to put money into their hands...and raise prices so consumers will want to get rid of it, rather than hoard it. But that is proving very hard to do. Why? Because of the debt. Consumers have to pay down their debt. They have to cut back. They have to spend less. So, the economy shrinks. And now The Wall Street Journal is talking about another downdraft in the housing market. It could get "even uglier" it says. Why? The mortgage debt that still have to be reset and rescheduled. Apartment rents are falling as unsold units are put up for rent. Sales at luxury stores go down as consumers work their way back down the price chain. Why? They have to spend less as they pay off their debts. Yes, you can ignore debt...until you go broke! More thoughts after today's essay... --------------------------------------------------------------- The Daily Reckoning PRESENTS: "A rational, disciplined investor would be fearful about buying today, after prices have been jacked up by an unprecedented seven-month rally," warns Dan Amoss, the mind behind the Strategic Short Report. "Nearly every economic and corporate development over the past few months has been translated into a reason to buy stocks. But underneath the elation over Dow 10,000 lies the palpable feeling that this rally is to be 'rented,' not 'owned.'" Yesterday's ominous trading action in the all-important financial sector suggests that the "rental" period may have come to an end. Details below... Falling Down the Wells by Eric J. Fry Laguna Beach, California Whoops!...What's this?...Bad news is bad news after all? Yesterday morning, Wells Fargo posted a cosmetically pleasing profit of $3.2 billion, or double the tally from the same quarter last year. So when the opening bell sounded, exuberant investors rushed into the market and bid up the shares of WFC. But then a very strange thing happened; the buying frenzy dissipated into a selling panic, as a variety of analysts started poking holes in Wells Fargo's "strong" report. In particular, analyst Dick Bove of Rochdale Securities, complained that the bank's entire profit for the quarter came from a $3.6 billion profit on a hedging transaction. The bank's operation's, meanwhile, produced results that ranged from mediocre to poor. Bove slapped a "sell" recommendation on the stock, and more than one investor seemed to heed the advice. The stock slumped 7% from its high print of the day to its closing price of $28.90. Technically oriented traders couldn't care less about WFC's income statement mumbo jumbo...but they would probably care a great deal about the textbook "outside day reversal" pattern that WFC etched onto trading screens yesterday. This ominous pattern features a share price that exceeds both the prior day's high and the prior day's low - i.e., "outside" - and then ends the trading session on or very near the day's lows. A "textbook" reversal pattern should also feature a big surge in volume. In other words, WFC's reversal pattern has it all! - higher high, lower low and a huge spike in volume. Yesterday's trading volume of 113 million shares doubled the average daily volume of the last four months! So if you added up all the component to yesterday's reversal patter, you would probably begin to deduce that a new bearish trend will unfold over the coming days. Incidentally, the KBW Bank Index (BKX) of 24 financial stocks also produced an outside day reversal yesterday. This technical formation does not guarantee a selloff, of course, but it does suggest that WFC might stop going up...at least for a while. This pattern also suggests that bad news is actually bad news...which would be REALLY bad news for a stock market that relies more on hope than substance. Regards, Eric J. Fry, for The Daily Reckoning P.S. Of course, not ALL banks will report dubious earnings...not all banks will see outside day reversals and suffer violent selloffs...and not all banks are deceiving shareholders and the general public about the health of their balance sheets. But if you'd like know about some of the bank stocks that ARE on shaky ground, despite the "recovery," you'll want to check out Dan Amoss' Strategic Short Report portfolio. Early in 2008, for example, Dan correctly warned his subscribers that something didn't smell quite right at Lehman Bros... And Dan issued these warnings LONG before the rest of Wall Street smelled the toxic assets in Lehman's basement. The subscribers who took Dan's advice, cashed in more than 400% on the put options Dan recommended to them months earlier. In other words, the last place a struggling bank wants to land is on Dan's "short list." But that's not to say that you can't use his list to your advantage. Learn how to beat the banks at their own game Right Here. --- Major News Outlet Calls This The "Next Crisis"... --- THE GREAT AMERICAN "RECOVERY RIP-OFF!" America on the mend? HORSE HOCKEY! Here's what's real: Brace yourself for what's about to go down as the BIGGEST FINANCIAL SWINDLE in world history, engineered by none other than Wall Street and Washington, D.C. How does their scam work? It's a crafty "triple-swindle" just clever enough that most Americans won't even see it happen... until it's too late. Ensure You're Prepared. Details Here. ---------------------------------------------------------------- And back to Bill with the Daily Endnote... Ireland is going through the same de-leveraging process as the US, while Chris Hunter looks for a house to rent. "House prices here in Ireland are still too high," judged our man on the scene. Chris is our main man at the family office - where our own family money is managed. "Everything is still much too expensive to buy. The prices don't really make sense when you compare them to the rents. I found a beautiful cottage, with direct access to the beach. It's lovely. It has whitewashed stone on the outside with a real thatched roof. On the inside, it has been completely renovated and modernized, but in very good style. Three bedrooms. Idyllic setting. Just what I was looking for. "If that house were put on the market, the asking price would probably be about 400,000 euros. But I can rent the place for only 700 a month. It's crazy. Prices probably have a lot further to fall." Until tomorrow, Bill Bonner The Daily Reckoning   The Daily Reckoning - Special Reports: Gold: The Truth About Gold Fiat Currency: Using the Past to See into the Future "THE GREAT AMERICAN RECOVERY RP-OFF" Brace yourself for what's about to go down as the BIGGEST FINANCIAL SWINDLE in world history.