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The Daily Reckoning Monday, November 23, 2009 What Wall Street's "Fear Gauge" is telling you to do right now, Homeowners fall further behind as unemployment trumps GDP, Bill Bonner on "toppy" gold, colossal debts and a picture of then and now... Eric Fry, reporting from Laguna Beach, California... Late last week, the stock market seemed to lose its footing, as the Dow slipped from a 13-month high of 10,437. Options expert, Jay Shartsis, believes that last week's stumbling stock market is a sign of things to come. Meanwhile, our colleagues over at The 5-Minute Forecast argue that the stock market should never have been rallying in the first place. The economy still stinks, they say, and it is showing no signs of recovering. In fact, a close look at the housing market tells you all you need to know about the economy...and the news is not good. Check out both of these stories below in today's edition of The Daily Reckoning... Jay Shartsis, the mind behind the Shartsis Option Alert in New York observes: The always-intriguing "Stock Cycles Forecast" is looking for an important top right in here. This bearish outlook stems from a quirky collection of indicators called "time and price squareouts." For example: 1) The big S & P low in October of 2002 was 769. If one adds 769 days to the grand top of Oct 11, 2007, it comes out to Nov 18, 2009. 2) Nov 18, 2009 is a "natural square" of the crash of 1929. 3) The Oct 2002 low of 769 on the S&P 500, converted to months is 25 and due west from 25 on the Gann Square of Nine points to an S&P target of 1,104. We are there. 4) We are 85 months from the low recorded on Oct 10, 2002 and due West from 85 on the Gann Square is 1,105, which coincides with the same S&P 500 target. 5) The low last March on the S&P 500 was 666. If we subtract that in days from the recent peak of 1,102, it equals 666 days, which would bring us back to the date of the Lehman bankruptcy - the event that started the crash. I know all this sounds very wacky and mystical, but Jenkins (the editor of Stock Cycles) has had some very good calls with this methodology in the past. Another much less mystical indicator is the VIX Index of option volatilities - aka, the Fear Gauge. For starters, the VIX is currently sitting at its lowest levels since just before the stock market crash of one year ago. That's a bearish indicator all by itself. But there's more to the story. The January VIX futures contract is trading at a steep $4 premium to the spot VIX. Normally, a large premium in the near-term futures contracts relative to the spot VIX price would portend an imminent stock market selloff. The opposite is also true. Thus, three weeks ago, as the S&P was hitting its recent low of 1,029, the VIX futures had a discount of $3 versus spot. Stocks promptly rallied. But today, we find the opposite configuration, which is quite bearish indeed. A selloff is not guaranteed in here, but it is becoming an increasingly likely possibility. Adding a bit more kindling to the stock market's smoldering pyre, Ian Mathias logs this report from The 5-Minute Forecast: Here's another observation from our Charm City HQ: If the housing market has bottomed, it hasn't happened here: Nearly one in 10 prime Maryland homeowners are behind on monthly payments, The Baltimore Sun reports this morning. That's about 77,000 homes in our tiny state and a 70% year over year increase. Souring subprime loans - despite all the scenes from The Wire you might have in mind - total "only" 48,000. All of the US is mired in a similar muck, the Mortgage Bankers Association reported yesterday. The national delinquency rate for private single-family and multiunit homes was a record 9.6% in the third quarter. Add in the loans that are already in the process of foreclosure and that rate goes up to 14.4% - another record. Think about that... One in seven of all US home loans was past due or in foreclosure as of Sept. 30, 2009. "Job losses continue to increase and drive up delinquencies and foreclosures because mortgages are paid with paychecks, not percentage point increases in GDP," said MBA's chief economist, Jay Brinkmann. (Amen!) Following that logic, Brinkmann told the press he does not expect this trend to recede until the unemployment rate peaks. And now, over to Bill Bonner for today's essay... ------------------------------------------------------------- The Daily Reckoning PRESENTS: If pressed, few people would tell you they expect robust global economic growth, uninterrupted, for the next few years. And yet, at their present levels, that's exactly what stock valuations seem to suggest. So, who's doing all the buying? Not insiders. They're selling 18 times as many shares as they're buying...as if they had some kind of "insider" knowledge of their companies' fundamentals... In today's essay, Bill Bonner muses over the price of gold, the implausibility of a sustainable recovery and the very real possibility of mass investor hallucination. Please enjoy... The Golden Years By Bill Bonner London, England The Dow fell slightly on Friday. Oil ended the week at $77. The dollar went nowhere. But gold rose to a new high - $1,146. Whatever else may be going on, there's a real bull market in gold. It's a bull market that began ten years ago. If you'd bought stocks then, you'd have about what you have now...less inflation. If you'd bought gold...you have about 4 times what you had then. Today, a quick glance at a chart shows gold looking a little toppy. Expect a correction. But remember, this is a bull market. In a bull market, you buy the dips. Stocks, meanwhile, are in a bear market. In a bear market, you sell the rallies. This looks like a good time to sell - if you haven't done so already. "Take Your Gains," says Forbes. And once you're out of stocks, stay out until the bear market is over...probably at around 3,000 - 5,000 on the Dow. When the price of gold equal the price of the Dow, it will be time to switch. We haven't seen the last of this bull market in gold. It's what you buy when you think government is making a mess of the monetary situation. You put your trust in gold as an antidote...as protection...as wealth insurance. Are the feds making a mess of the monetary situation? Oh dear, dear reader...please ask us something harder. Trillion dollar deficits as far as the eye can see... Stimulus spending that turns the US into a Zombie Economy... Handouts to the bankers...gifts to the carry traders... The feds are out-doing themselves... As for the bear market on Wall Street, investors are counting on a miracle...a 'recovery' that doubles corporate earnings in just a couple years. They think it's "just like 1982". Of course, it is just the opposite of 1982 ...see the chart below. Besides, there is no recovery...and profits will go down, as businesses compete for less spending. The recovery may be all in your head, writes Robert Shiller, in The New York Times: "Consider this possibility: after all these months, people start to think it's time for the recession to end. The very thought begins to renew confidence, and some people start spending again - in turn, generating visible signs of recovery. This may seem absurd, and is rarely mentioned as an explanation for mass behavior late in a recession, but economic theorists have long been fascinated by such a possibility. The notion isn't as farfetched as it may appear. As we all know, recessions generally last no more than a couple of years. The current recession began in December 2007, according to the National Bureau of Economic Research, so it is almost two years old. According to the standard schedule, we're due for recovery. Given this knowledge, the mere passage of time may spur our confidence, though no formal statistical analysis can prove it.... Back in 1931, for example, The New York Times attributed the emerging economic cataclysm to a "mood of pessimism which had been carried to grotesque extremes." In 1932, it compared reckless talk about "depression" to shouting "fire" in a crowded theater." It doesn't matter what anyone says. It's a depression. It's nothing like the garden-variety recessions of the Post-War period. It's a depression because of the nature of the work it has to do. It has to clean up 3 decades' worth of filthy balance sheets. It has to wipe away trillions in trashy consumer debt. It has to defuse trillions more of Wall Street's debt bombs. It has to wash out billions...maybe trillions...worth of bad decisions - houses that are too big, too expensive, too grandiose for their buyers...shopping malls with far too much retail space for the new, thrifty customers...businesses geared up to produce goods and services for millions of people who can no longer afford them. When will the depression be over? When the work is done. But wait... the world's government piling up trash faster than the depression can haul it away. And here comes the next mega-crisis! "US cost of paying i.o.u.'s gets steeper," says a front-page headline at The International Herald Tribune. And over at The Financial Times in London, Gillian Tett asks "Will sovereign debt be the next sub-prime?" Everyone knows what when wrong with sub-prime. When you lend money to people who can't pay it back, you're asking for trouble. So, if you're out of a job and looking for a sub-prime loan to buy a double-wide trailer you're out of luck. Bankers won't give you a dime. But now, the world's lenders are doing something just as dumb. They're lending to governments. Imagine you were a banker. And the US government comes to you for a loan. "Do you have enough income to cover the payments," you ask. "Well, no," comes the answer. "In fact, our revenue has fallen off a little. Because of the recession, you know. Like everyone else." "How bad is it?" "Uh...we spend nearly two dollars for every dollar of income." "Oh...and you expect us to lend you money? What do you have for collateral? What is your net worth position?" "We were hoping you wouldn't ask. The most recent tally of our obligations comes to $113 trillion." "Well, don't you have assets?" "We have some buildings in Washington...military bases around the world...things like that. But as a practical matter, you could never foreclose on them." "Oh, I see..." What is interesting is that the world's investors are beginning to see that the US and many other governments are bad credit risks. This is an extraordinary event. Until now, the US government has been able to finance and refinance its debts at the lowest rates in three generations. Lenders have wanted to lend the feds money, because they believed they were the safest credits in the world. Bankers can always be counted on to find the worst investments at the worst time. They are at the tail end of the chain of insights that begins with the sharpest, most independent-thinking analysts...runs through the broker/hedge fund community...passes on to the financial journalists and the TV pundits...arrives at the lumpeninvestoriat through the popular media...and finally gets to bankers when they pick up the Wall Street Journal and read about what's going on. Now, the bankers are buying sovereign debt - government paper - because they think it offers a "risk free" return. In fact, it is one of the riskiest investments you can make. This year and next, major governments will need to raise $12 trillion to fund their debts and deficits. That is a huge increase to the world's supply of sovereign bonds. Colleague Porter Stansberry estimates that the US government alone will need to finance $4.5 trillion worth of bonds next year. That amount is twice the total capital of the world's biggest central bank - the Fed. Even if the Chinese took every penny they have in financial reserves and used it to buy US debt, there would still be about $2.3 trillion in bonds left unsold. As to the cost of servicing the debt, that too is expected to reach breathtaking levels. Even the Obama Administration forecasts the interest payments to increase from $200 billion at present to $700 billion by 2019. This is surely a misunderestimation. If the deficits rise to the level predicted by former OMB head David Stockman, the national debt will soar from $12 trillion to more than $20 trillion in about 5 years. Lenders are sure to wise up and ask for higher yields. Even a banker is likely to want more than 3.5% interest for lending money to the feds for 10 years. Maybe 5%...maybe 10%. Remember that during the early years of Volcker's time at the Fed, the lending rate rose to 18% on a 10-year Treasury note. There is also a possibility - which seems remote as of this writing - that a government bond auction could go 'no bid.' It happens. When lenders come to see the risk higher than the potential rewards, even at high yields. And when it happens - or even approaches - the feds will be in the same situation that hundreds of their forebears faced over many centuries. All governments go broke from time to time. Then, they default. When they run up more debt than they can pay...like a sub- prime borrower, they always go broke. And here's something interesting. As near as we can make out this is a joint effort by David Rosenberg and Barry Ritholtz. It is an answer to the question: Isn't this just like 1982 all over again? The short answer: no, it isn't. Regards, Bill Bonner The Daily Reckoning P.S. A quick reminder that we'll be presenting an exclusive interview with dear friend and colleague, Dr. Marc Faber, in this space, tomorrow at 2 PM. You probably already know Dr. Faber as editor of The Gloom, Boom and Doom Report. Put simply, he's one of the finest contrarian economists working today and we're very pleased to be able to bring you his insights. Below is a preview of the interview and instructions on how to make sure you can access it for free tomorrow.   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