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The Daily Reckoning Wednesday, November 11, 2009 Stocks up again while gold holds above $1,100...for now, Private sector credit suffers a severe case of shrinkage, Currency? What's a currency? Playing dumb with money and more! ------------------------------------------------------------ Bill Bonner, with his thinking cap on, reports from Buenos Aires... We write every day. Occasionally, we think too. We did some thinking yesterday, on our trip to Uruguay. Why Uruguay? We thought we should have a look around. Montevideo is a cheap place to live. It's on the sea, with beaches near the downtown area. It is an old town, with many fine buildings. It is clean. It is safe. It has history too. When the English invaded Buenos Aires, the Spaniards launched a counterattack from the fortress at Montevideo and got it back. "It looks like a nice place," we said to our local contact. "But it seems a little like a resort town out of season; it's very quiet." We were having dinner in the best restaurant in town, next to the opera house. The restaurant was large and well fitted out. But it was almost empty. A French group sat at one table. An American group sat at another. The only other diners were sitting with your editor. Outside on the street, it was as if everyone else had been warned of an approaching tsunami; there was no one. --- Special "Bric by Bric" Emerging Market Investment Report --- A path-breaking opportunity five years in the making... Instant Access to the World's Fastest-Growing Economy: All the Profits, With None of the Hassle Here are four ways to safely capture all the upside potential of this turbo-charged economic growth machine... Including one play that simply can't lose - it's actually guaranteed by the US government But you must act by Midnight, Wednesday, December 2 - before the doors on this opportunity close forever. --------------------------------------------------------------- "Well, it's out of season all year round," our host replied. "It's a nice place to live. But it's not very lively. "Montevideo used to be a lot richer. You can tell that just by looking at the public buildings. They're very grand. We couldn't build those places today. We don't have the money. But during the war years, Uruguay was booming. We were leading exporters of beef and grains. We're still leading exporters...but the margins are no longer there. You can make money in farming, but not enough to get rich." We wonder what people are going to be saying a century from now. "Yeah, Manhattan used to have the richest real estate in America...back in the financial boom. Wall Street was the center of the financial industry. People made fortunes from high-margin financial products. But then, the financial industry went into decline...and new financial centers in Shanghai and Singapore took the business." Could New York have already passed its peak? Perhaps not quite. The papers are reporting record bonuses on Wall Street. But the story has an undertone of desperation about it...like the wild parties in Berlin in 1945, just before the Soviet Army arrived. Maybe that's why the bonuses are so high. Get it while you can! This could be the last hurrah for the US financial industry. Private sector credit is still contracting. In fact, it's shrinking faster than at any time in the last 35 years. And this trend is not likely to change. As we keep saying - you're probably getting tired of hearing it - the private sector has 7 to 15 years of de-leveraging to do. The financial industry will be forced to downsize, along with the economy. Wall Street's leveraged debt bombs are still blowing up. Banks are going under. As we reported yesterday, the 'second wave' of residential mortgage defaults may be just beginning. Commercial real estate debt isn't far behind...with no Fannie Mae to help the wounded or pick up the dead. And how about all those private equity deals Wall Street financed? Of the top 10 deals from the bubble years, 6 are in trouble...and 4 have already defaulted. The idea of private equity was that the hotshots were so smart they could take over a company, re-organize it, restructure it, and sell it back to the public market at a higher price. What they actually did was merely to load up the company with debt - using the money to pay themselves lavish fees. And as we know...and maybe we alone know it...debt hurts. Run up enough debt and sooner or later bad things will happen. But not necessarily to the borrower! Right now, the dollar is at a 15-month low. The speculators borrow dollars. Then, it doesn't matter what they do with them. Everything is going up against the greenback. But that's why our Crash Alert flag is flying. Mr. Market doesn't like it when morons make money. We wouldn't be at all surprised to see these carry trades go bad in a big, big way. All of a sudden, stocks...bonds...emerging markets...commodities...and even gold...could go down against the dollar. Watch out! The Dow rose another 20 points yesterday. It is now only 54 points below the 50% retracement level...where the bounce of 1930 peaked out. Gold, meanwhile, held above $1,100. As we were saying...once in a while, we think. The last few days have been so busy, we didn't have any time to think. But, now things are settling down, so we've had a chance to put our thinking cap on. What are we thinking about? Well, of course, we're trying to understand the basics... George Soros had the right idea: Find the story whose premise is false...and bet against it. What premise is false? We'll tell you...right after the news... "The 'American rebound' stock trade is more and more dependent on a steadily weakening dollar," Ian Mathias wrote in yesterday's issue of The 5-Minute Forecast. "As stocks soared yesterday," reported Ian, "the dollar index found its own 2009 benchmark... a yearly low of 74.9. Looking at both together...hmmm... something is wrong with this picture." --- Introducing the Options Hotline Guarantee --- Our readers could have turned $5000 into $1 million in just over 5 years "Each week, I tell my readers to make just 1 investment buy. And since November of 2006, not one pick has lost value! It's no wonder our readers could have turned $5,000 into $1 million in just over 5 years! Now, we're quickly closing in on $2 million - currently at $1,892,043.04! "Read on Here to find out how to start making huge gains!" - Steve Sarnoff, editor Options Hotline --------------------------------------------------------------- And back to our storyline... The major premise that almost everyone believes is that government economists can improve the workings of an otherwise free economy. That leads people to believe that the feds have pulled off a save...they've now got the economy well along on the road to recovery...the recovery is getting stronger as time goes by...and soon, the feds will begin to exit from their stimulus efforts. The big question in most investors' minds is this: how quickly will the feds exit? As long as they keep up their stimulus efforts, investors expect rising prices for everything but the dollar. Those who think the feds will be able to exit quickly believe growth will come without too much inflation. Those who think the exit will come slowly expect higher rates of inflation. Well, guess what? The whole premise is false. From top to bottom. From beginning to end. Even the air it breathes is tainted with the smell of fraud and self-delusion. The theory behind the recovery concept is that government spending and stimulus from the Fed has a "multiplier" effect. That is, the feds spend...the money goes into the economy...and then, the private economy multiplies the spending by growth in consumption and investment of its own. If there were no multiplier effect the whole exercise would be a waste of time, because we know that government spending in itself is a cost to an economy, not a source of real wealth. Government spending, generally, is a drag on prosperity. The Soviet Union proved that. The question remains however, can extra government spending at critical moments "prime the pump" so that it is multiplied by the private sector? Answer: no. "Our new research," writes economist Robert Barro in The Wall Street Journal, "shows no evidence of a Keynesian 'multiplier' effect...the available empirical evidence does not support the idea that spending multipliers typically exceed one, and thus spending stimulus programs will likely raise the GDP by less than the increase in government spending." Now, we turn to the current situation. Is there any evidence of growth beyond the government's own stimulus efforts? From what we can see so far, again, the answer is 'no.' The premise of recovery/multipliers/growth/and exit is false. We want to bet against it. Tomorrow we'll talk about how. Real economists know that there are no secrets. You work hard. You invest carefully. You save your money. That's the best you can do. There are no multipliers. There are no miracle cures. There are no easy exits from trouble. That's why the world has little use for honest economists; they tell you what you don't want to hear. So, people turn to the phonies...the charlatans...the imposter economists who say "yes we can!" Trouble is, they can't. Until tomorrow, Bill Bonner The Daily Reckoning --- Penny Stock Fortunes Research Report --- If You Started With $200 in August 2007, You Could Have Been Sitting on $5 Million by November 11, 2008, Thanks To... Wall Street's Most Profitable Stock Strings Revealed AT LAST... Inside This Report: Exclusive details about four stocks set to rise as much as eight times over in the next year. If I don't deliver gains, I'll give you DOUBLE your money back. --------------------------------------------------------------- The Daily Reckoning PRESENTS: Today's essay comes from a man whose maverick ideas really need no introduction. So with that, we welcome long-time DR favorite, the good Dr. Marc Faber to the stand... When Currencies Crash By Dr. Marc Faber Chiang Mai, Thailand The US is dedicated to debasing its currency. Are you ready? There is a risk in holding cash in an environment of asset price inflation - a condition that usually occurs when governments create large fiscal deficits and inflate the money supply. The practice is endemic to banana republics and declining empires...and it is happening in the US at this very moment. The global recession and financial crisis have refocused attention on government stimulus packages. These packages typically emphasize spending, predicated on the view that the expenditure 'multipliers' are greater than one - so that gross domestic product expands by more than government spending itself. Stimulus packages typically also feature tax reductions, designed partly to boost consumer demand (by raising disposable income) and partly to stimulate work effort, production and investment (by lowering rates). The existing empirical evidence on the response of real gross domestic product to added government spending and tax changes is thin... But the evidence is quite strong that these policy responses usually trigger inflation. I suppose that even someone without any common sense might understand that a "strong currency" over longer periods of time reflects a high degree of prosperity and economic success, whereas a chronically weak currency is symptomatic of economic imbalances, such as a lack of competitiveness or overconsumption, arising usually from excessive supply of money and credit. I would also suppose that even if someone never travels overseas, he would understand that if the US dollar loses 50% of its value against all the other world currencies (everything else being equal), it means the US is 50% poorer relative to the rest of the world. (Now, this is not entirely correct, since the US has overseas assets that would appreciate in value in USD terms). Moreover, stock price movements become extremely volatile and erratic in countries with a depreciating currency. In the long run, the depreciation of the currency will usually more than eliminate the gains in local currency terms. So, whereas in 2007 both the Dow Jones and the S&P 500 exceeded their previous highs reached in 2000 in US dollar terms, these indices failed to make new highs in Euro terms. In addition, whereas the US economy expanded in US dollar terms between 2001 and 2007, in Euro terms it actually contracted! Even with the S&P 500 having shot up since the beginning of the year by over 25%, it has merely kept pace with the price of gold. And during the last 10 years, the S&P has lagged behind the official US inflation rate...while lagging VERY far behind both the euro and gold. Sine the end of 1999, the S&P 500 has delivered a total return after inflation of about MINUS 25%. Unfortunately, the US is not the only country that is busily debasing its currency. "Everyone" is doing it. Because of the current collective debasement of all paper currencies by central bankers, I believe that precious metals and mining companies will maintain their purchasing power. In the 1980s the US dollar was a very strong paper currency compared to the Mexican Peso. Today, there is no paper currency that is as strong relative to the US dollar as the US dollar was relative to the Peso in the 1980s! The only "currencies" that have a chance of becoming as strong against the US dollar as the US dollar was against the Peso between 1979 and 1988 are precious metals such as gold, silver, platinum, and palladium. Also, I should add that precious metals could appreciate even if the US dollar miraculously recovered strongly against foreign currencies for an extended period of time. Such dollar strength would probably be a symptom of some horrible economic or political problems around the world, which could be friendly to precious metals. Central bankers and pundits seem to believe that they have averted the second Great Depression, while ignoring the fact that more and more debt produces less and less GDP and fewer and fewer jobs. For now, though, the low ten-year bond yield is the lifeline from which all support flows. Much of the investment universe holds together because money can still be had for cheap - not by the volition of a cooperative private sector, rather induced by a US government that simply distributes money for free. Such an ill-conceived idea could only have been born in the test tube of a central banker. Private lenders comprehend the difficulty of making profits when being forced to lend for nothing, so the government increasingly finds itself to be the interest-free lender of last resort. Ultimately, if central bankers continue this process for long enough, it is the dollar, and any currency or economy still pegged to it, that could eventually crash. Therefore, we investors find ourselves in the precarious position of having to maintain sufficient liquidity, but not too much in case the real value of these liquid reserves is wiped out by politicians and central bankers gone mad. Regards, Dr. Marc Faber, for The Daily Reckoning Editor's Note: Dr. Marc Faber, an Asian-equities sleuth and the original bear on Japan, is the editor of The Gloom, Boom and Doom Report. Dr. Faber has been headquartered in Hong Kong for nearly 20 years, during which time he has specialized in Asian markets and advised major clients seeking down-and-out bargains with deep hidden value - unknown to the average investing public - and immense upside potential. Dr. Faber is the author of the bestseller Tomorrow's Gold. 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.