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The Daily Reckoning | Monday, January 3, 2011 Understanding asymmetrical risk in life and the markets, Are we in for another year of bubbling, 2010-ish confusion? Plus, Bill Bonner on Che and the Virgin Mary, Nicaraguan property insights and much, much more... The Daily Reckoning Presents:The penultimate installment in our 2010 Best Of Series. We received a ton of reader mail after this column was first published, offering both condolences and appreciation for the underlying lesson of the story. Please enjoy... The Consequences of Risking Everything Eric Fry [Reckoning on Oct. 4, from Laguna beach California] In life, there are things, and there are treasures... Things are common. Treasures are rare. A few days ago, I lost one of my treasures - a cat named Uzi. Yeah, I know, Uzi was "just a cat." But that reality did not make her any less of a treasure. In so many different ways, that little cat made me smile...or laugh. She was just a cat, but she was precious to me...which is why I spent hundreds of hours during the last two years trying to keep her alive. I live next to an open hillside that is home to a variety of wildlife, notably coyotes. But this same hillside is also home to rabbits, mice, lizards, birds and numerous other varmints that excite the predatory instincts of a small feline. So it was next-to-impossible to keep Uzi off that hillside. She would hunt up there almost every day... And almost every day, she would return to the house with some sort of mauled "trophy." As long as Uzi conducted her hunting forays during daylight hours, the risks were very small that the hunter would become the hunted. But as soon as the sun dipped below the horizon, the balance of risk would shift dramatically against Uzi. At nightfall, nocturnal predators like coyotes and owls make the rules for small felines. The problem was; at nightfall, felines still make the rules for mice. And so Uzi was never keen to abandon the thrill of the hunt to return to the relative ennui of watching prime time television from my couch. Given the chance, she would roam the hillside at night. But she was rarely given the chance. I was obsessive about keeping her indoors at night. In fact, I was obsessive about locking her indoors well before sunset. On those rare occasions when she remained outside after sunset, I would scour the hillside until I found her. Sometimes the search lasted a few minutes; sometimes a few hours. But I would continue the search until I found her. Only twice during her two-year life, did I fail to find her. Once, she spent the entire night outside. Once she returned about 1:00 in the morning with a mouse in her mouth. On both occasions, I feared the worst. I assumed a coyote had found her before she found her way back to the house. Three nights ago, the worst came to pass. I searched for Uzi off-and-on from 5:00PM until 2:00 AM. Fifteen minutes after I walked back into the house the last time, I heard the chilling yelps of coyotes that had just captured prey. Their prey was my cat. I was heartbroken...and still am. But I will spare Daily Reckoning readers a feline eulogy. Uzi was, after all, "just a cat." Accordingly, some Daily Reckoning readers - probably the dog-lovers in the crowd - may be saying to themselves, "Wow! Eric's behavior is a little extreme. Why the big to-do about a cat?" The answer is two-fold - one part personal, one part universal. The personal part is that I loved Uzi. The universal part is that asymmetrical risks demand extreme vigilance. Investors take note... First, let's define our terms: An asymmetrical risk has nothing to do with the odds of a given risk, but everything to do with the consequences of a given risk. In Uzi's case, the odds that a coyote would kill her were relatively low, even on a hillside frequented by coyotes. In fact, the numerical odds were hugely in her favor. She spent more than fifty evenings on that hillside before finally encountering a fatal evening. So let's say the odds were 50-to-1 in her favor. But the consequences of that risk were massively asymmetrical. In our hypothetical 50-to-1 risk, Uzi returns to the house alive 50 times out of 51. But one time in 50, coyotes kill her. By the numbers, that's a good risk. In reality, that's a horrible risk. No investor would take a bet like that...at least not knowingly. But investors take asymmetrical bets every day. They accept miserly yields, for example, in exchange for buying the bonds or preferred stocks of bankrupt, or near-bankrupt, companies. In the "Bailout Era" of American finance, risks like these have tended to succeed most of the time. But when they don't succeed, investors lose everything. That's not a smart risk. Some asymmetrical risks are obvious - like playing Russian roulette...or buying a mortgage-backed security from a Goldman Sachs broker. But many asymmetrical risks are less obvious - like jaywalking at night...or placing 100% of one's net worth in a single currency. In all likelihood, the jaywalker will cross the street without incident and the single-currency investors will suffer no harm for lack of diversification. But if the jaywalker happens to encounter a vision- impaired driver or the single-currency investor happens to encounter an imprudent government, something bad will happen...something very bad. We investors cannot afford to turn a blind eye to risks, especially not to asymmetrical risks. We investors cannot afford to take risks that are likely to work, but are likely to wipe us out if they don't work. Understanding your potential rewards is worthwhile. Understanding your potential risks is everything. Regards, Eric Fry, for The Daily Reckoning Bill Bonner The Plight of the Baby Boomers Bill Bonner Reckoning from Delray Beach, Florida... Okay, so what will 2011 bring? Most likely, it will bring more of 2010. That is, the confusing and contradictory trends of the past year are likely to keep going. On the one hand, the deflationary contraction that began in 2007 will continue shrinking prices and economic growth. The savings rate has climbed to over 5%. Unemployment is still near 10%. And the CPI - if you believe the official numbers - is nearly flat. We may be living through the biggest rush in monetary inflation in US history, but the core inflation numbers haven't moved so little in more than 50 years. On the other hand, the inflationary expansion of the money supply that began in 2009 will go on too. It will bring more bubbles and more speculative pressure on oil and gold. It might also bring a collapse of the US Treasury bond market - if not in 2011, then soon after! Which hand will have the upper hand? Neither. Instead, they will continue jerking the economy this way and that...rewarding some speculators, punishing others...smacking economists...and giving central bankers the middle finger. That's our prediction. Gold will rise. Oil will rise. Emerging markets will rise. The US economy will NOT rise. What? Weren't there encouraging signs of life at the very end of the year? Yes. But there are always signs of life in an economy. The US economy isn't dead. It's just going through a bad patch...like a man whose wife has left him...or a woman who has gained 20 lbs...or a 60-year-old couple that has to downsize. These things take time. "Baby boomers unprepared for retirement," says a headline in the local paper. According to the article, 10,000 boomers will reach age 65 every day for the next 19 years. And few of them have saved enough money. Some were counting on 401(k) plans. But stocks haven't made any progress in the last 10 years. Others were looking to their houses as a source of retirement financing. They were doing fine until 2007. Since then, the value of their houses has been cut by a third. The poor boomers! What are they going to do? We talked to one of these boomers on the way from the airport. "I'm going to work until I drop," he said. (Good plan. If you have a job...) "I bought a little apartment over in Boca Raton," our driver explained after picking us up in Miami. "You know, like everyone else, I've been hurt by this recession. They say it's over. But it doesn't seem over to me. "A couple years ago, people would rent my limo service for a big night out...maybe, twice a week. I'd take them down to Miami. They'd go to a big party...or to a Heat game...and then to a nightclub. They'd pay me for a whole night. It was good money. "But now, I'm lucky if I get one a month. Either people don't have money or they're not spending it. "My wife and I had a big house with a swimming pool...everything. But we also had a big mortgage, $4,500 a month. She didn't want to do it. But we had no choice. I needed to make sure that at least I'd have a roof over my head. So, I bought an apartment in Boca for $27,000. It was $90,000 three years ago. "And I told my wife that we had to cut back. This way, I'll be able to save some money. Then, if we want to, we can always buy a big house again. But right now, I just don't want that burden on my back. I can't afford it." And more thoughts... "Bill, you made it sound like all the developments on the coast of Nicaragua have gone bust," said a friend. "But that's not true. The area is booming." Last week, we stood on a mountain peak near the coast. On the one side were the failures of socialism - cooperative farms with low productivity and severe title issues. On the other were the failures of capitalism - developments on the coast that had gone broke. But our friend is right. Oddly, most of the small developments on the coast did go broke...but the area is still thriving. We visited one development last week. It was well-designed. It was well built. Still, the concrete roads are cracking up. The owners face a big burden - how to maintain the place now that the developer has gone. Another one has been abandoned all together - with weeds growing up in the middle of the un-used roads. Still another is holding on. But the developer faces a financing crisis. He has to raise money to finish the infrastructure. And who will lend against Nicaraguan real estate? Meanwhile, the richest man in the country has begun his own development. He's going to spend $250 million - far more than anyone else has ever even dreamt of spending - in order to build a dream community near San Juan del Sur. He has sold million-dollar lots to his jet-set friends. He's putting in a golf course...an airport...and a marina. Despite the bear market in real estate in the US, prices in Nicaragua have not come down - at least, not as much as you'd expect. And more and more people seem to be discovering the area. The beach in front of our house, for example, was deserted 5 years ago. Two years ago, it might have had two or three bathers on the entire 2- kilometer stretch. But this year, there were 20 surfers on the water at 7AM. And on our morning stroll, we ran into an American who turned out to be a Dear Reader! "What you don't understand," continued our friend, "is that this place has reached a kind of critical mass. There are restaurants opening up. There are tourists coming from all over the world. And the surfers are now reporting surf conditions here on a daily basis. It may be a country run by old communists. It may be corrupt and inefficient. But it's still a very nice place to live. I've looked all over the world. There are no better beaches anywhere. And the weather, too, is about as good as it gets. And compared to most other places, it is still very cheap." *** On our way out of the country, we noticed a curious collection of pictures in the immigration office. There was a picture of the president, Daniel Ortega. There was also a picture of Che Guevara...the hapless Argentine revolutionary. Just beneath him was a picture of the Virgin Mary. "Maybe the Virgin Mary will move above Che after the next elections," said Elizabeth optimistically. Regards, Bill Bonner for The Daily Reckoning ------------------------------------------------------- Here at The Daily Reckoning, we value your questions and comments. If you would like to send us a few thoughts of your own, please address them to your managing editor atjoel@dailyreckoning.com The Economic Flop that Was 2010 In America, the year ends with the private economy a little better off and the public economy a lot worse off. Two trillion worth of debt and liabilities were added to federal accounts this year. In terms of federal finances, the average man, woman or child will be about $7,000 poorer when he rings out the old year. More Risk Appetite for Fiscal Gluttons Government Spending, GDP and Nonsense In Between Them The Last Angry Man’s Problem With IMF Gold Sales Adrian Ash of BullionVault.com writes that “the International Monetary Fund said it has completed the gold bullion sales program begun in October 2009,” and now 403 tonnes of gold have been sold. I bring this up all the time because the whole thing pisses me off because we gave those IMF bastards the gold to provide gold-standard legitimacy for their stupid fiat currency, the Special Drawing Right (SDR). And yet here they are selling the gold we loaned them! Gaaahhh! Investing in Gold Ahead of the Chinese The Year of Living Quantitatively The Amphora Report’s 2010 Topics in Review (4 of 4) In 14 editions of the Amphora Report this year we have covered nearly 30 topics, many of which overlap in some way. What binds them all into a coherent set is our view that the economic policies being implemented in nearly all major countries are not just unsustainable but in some cases outright reckless. These countries include the US, the issuer of the world’s reserve currency. The Amphora Report’s 2010 Topics in Review (3 of 4) The Present: On the Brink of Disaster The Daily Reckoning: Now in its 11th year, The Daily Reckoning is the flagship e-letter of Baltimore-based financial research firm and publishing group Agora Financial, a subsidiary of Agora Inc. The Daily Reckoning provides over half a million subscribers with literary economic perspective, global market analysis, and contrarian investment ideas. Published daily in six countries and three languages, each issue delivers a feature-length article by a senior member of our team and a guest essay from one of many leading thinkers and nationally acclaimed columnists. Cast of Characters: Bill Bonner Founder Addison Wiggin Publisher Eric Fry Editorial Director Joel Bowman Managing Editor The Mogambo Guru Editor Rocky Vega Editor