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The Daily Reckoning | Thursday, August 11, 2011 
Long Lost Lovers The Dow/Gold Ratio and measuring the market by the metal 
Joel Bowman Gold Hits $1,800 Per Ounce…Where to From Here?
Even as the yellow metal soars to record new highs, this stunning new presentation from a trained geologist reveals...
Nine Simple Ways You Can STILL Get Rich With Gold
Click Here for Byron King's Latest Dispatch.
The Daily Reckoning Presents Crony Capitalism at Work 
Dan Amoss America 2012...Wall Street in Ashes...Main Street in Ruins...
Here's SIX ways to protect yourself and profit from the biggest lies DC, Wall Street, the Fed and your banker are telling today...
Click Here To Find Out How.
Double Depression Another great day for a stock market meltdown 
Bill Bonner "All this debt blew up in 2008..." he writes... "and that led to the second problem: Homeowners, firms, banks and governments are all now "de-leveraging" or trying to -- meaning that they are saving more, shopping less, paying off debts and trying to dig out from mortgages that are under water."
Lots of the activity going on in London is based on open source warfare precepts. Much more going on here than a simple riot or looting. It's a learning lab. Communicating via BlackBerry instant-message technology that the police have struggled to monitor, as well as by social networking sites like Facebook and Twitter, they repeatedly signaled fresh target areas to those caught up in the mayhem. They coupled their grasp of digital technology with the ability to race through London's clogged traffic on bicycles and mopeds, creating what amounted to flying squads that switched from one scene to another in the London districts of Hackney, Lewisham, Clapham, Peckham, Croydon, Woolwich and Enfield, among others -- and even, late on Monday night, at least minor outbreaks in the mainly upscale neighborhood of Notting Hill and parts of Camden. NYTimes. Facebook example: Riot page.
Friday, 12 August 2011
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Obama's Burning Shame Revealed Here...
This is the unspoken, burning shame that could kill Obama's presidency...
It could spell the end of his short political career...
Joel Bowman, crisis vacationing in Barcelona, Spain…
Whoa! Another severe drop in the markets yesterday. The Dow ended the session down 4.6%, plunging through the 11,000-point mark along the way. The S&P 500 and the Nasdaq chartered a similar course, off 4.4 and 4.2% respectively. Both have lost more than 10% for the year. The Dow, too, has erased all gains earned over the past twelve months.
What happened to the recovery? That word was all the rage until a few weeks back. "Welcome to the Recovery," wrote Treasury Secretary Timothy Geithner a year ago, in an op-ed piece in the New York Times. President Obama and his #2, Joe Biden, went so far as to call it the "Summer of Recovery."
Well, where is it? And, more importantly, why do these men still have jobs? Why are they not selling fridge magnets from a tin tray on street corner somewhere? More on that tomorrow…
In yesterday's reckoning, we promised a wee discussion on gold. But, with all our ranting and raving about the inexorable decline of the Anglo-Saxon Empire and the not entirely unrelated riots in London, we ran out of time. Today, we pick up where we left off.
Gold scooted past $1,800 per ounce yesterday, before cooling a little to end the session around $1,790. That brings The Midas metal's gains for the past twelve months to around 50%. Not too shabby. Understandably, therefore, investors are wondering whether it too late to hitch their wagon to the gold train? Have they missed the action? Is the golden bull market, now a decade old, finally over?
As usual, your editor has no idea. And, as usual, he will offer one anyway. But before having a look at the year ahead of us, let us first read the prologue.
At the 2010 Agora Financial Investment Symposium in Vancouver, back when gold was on offer for the bargain price of just $1,200 per ounce, we made a prediction. It was prompted by the previous evening's Whisky Bar discussion. Members of the panel were asked to guess where gold and stocks would be in a year's time (today). Exact estimates varied, but the general consensus was that gold would be higher and stocks lower. They were half right.
Not a member of the panel himself, your editor published his own guess in the following morning's issue of The Daily Reckoning. We had the same idea, but our method was a little different. Take a look:
"[I]nstead of measuring the [Dow] index in points and the metal in dollars, we'll do away with floating abstractions and simply measure the index in metal.
"Historically, the peak of a gold bull market/stock bear market occurs when you can pick up the 30 bluest stocks for about one, maybe two, ounces of gold. The Dow/Gold ratio, at that point in time, is said to be around 1:1 to 2:1. During the furor of tech. mania in the late '90s, early '00s, when the Midas metal was scoffed at in polite company, that ratio reached 45:1. In other words, it would take you 2.8 POUNDS of Mother Nature's money to buy the Dow.
"During the past decade, as stocks stagnated and gold rallied fourfold, that ratio has slipped dramatically. Today, it takes about 8.6 ounces of gold to buy the Dow. Our bet, for what it's worth, is that this trend continues for a while yet. Next year, we're probably looking at a Dow/Gold ratio of about 6:1...and not because the Dow goes to 60,000."
This morning, with gold at $1,780 and the Dow at 10,719, we hit the mark: the Dow/Gold ratio is, exactly, 6.02:1. So it took 55 weeks for our one-year prediction to come to pass. That's close enough for us.
Of course, past performance is not necessarily indicative of future ability. As the old saw goes, even a broken clock is right twice a day. Nevertheless, we'll stick with the thesis that led us to last year's conclusion…and use it to inspire this year's guess. The rational behind it is simple: A bet on gold is a bet against the Bernankes, Obamas and Geithners of the world. It is a statement that says "I don't believe you know what you are doing, sir." With that in mind, we reckon the Dow/Gold ratio will contract further still, meaning it will take fewer ounces to purchase the 30 stock index a year from now. How many, exactly? Good question…
All sorts of things could happen over the next twelve months, events that could jolt markets hither and gold thither. For one, QE3 is definitely on the cards. The Fed Head said so himself. And Wall Street is calling for it too. Then there's China's "nuclear option" in the bond market…the fracturing of the eurozone…the Arab Spring across North Africa and the Middle East…and plenty more the Gods have in store that is beyond our earthly imagination.
Still, it's no fun if you don't have a little "skin in the game." So we'll tempt fate and take a shot. We already reckon the general trajectory will be the same. Now let's go out on a limb and suppose that market uncertainty intensifies and that the collapse of the western powers accelerates. And let's take Bernanke at his word and assume he cranks his printing presses into overdrive.
Let's say, a year from now, we're looking at a Dow/Gold ratio of between 3 and 3.5 to 1. And if we're wrong…well, give it another year. Eventually, these long lost lovers will meet once more.
But where does that leave the terms of the relationship, you ask, the values of the antecedent and the consequent?
How the Heck should we know? Remember, we're just a broken clock, hoping to be accidently correct twice. You're on your own from here.
Well, not completely…Bill has more on stocks and gold below. But first, here's our resident short selling maven, Dan Amoss, with a look at flash crashes, the SEC and other farcical market conditions. Enjoy…
High-speed trading is turning the stock market is turning into a farce, and in the process is turning off an entire generation of investors. It's speeding up a process -- P/E ratio compression -- that normally takes a grinding bear market a couple of decades to accomplish. Even after the wake-up call of the May 2010 flash crash, the SEC has done little to foster a healthier market ecosystem.
It looks like computer-driven, high frequency trading shops, which now account for the majority of trading volume, hammers stocks much more quickly than human investors And there aren't enough human value investors (at these prices) to absorb the supply of high-P/E stocks from high-speed trading shops looking to sell.
These shops aren't liquidity providers; they're parasites that worsen volatility, extract economic rents from long-term investors, and make rational investors whoaid the vital process of market efficiency want to throw up on their trading screens.
As investment horizons have shortened, the market has gotten dumber -- especially regarding the macro picture.
Rather than doubt the sustainability of the economic stats in early 2011, the market didn't ask any deep questions, and rallied mindlessly. Now that we get a cluster of terrible data points in the space of the past week (downward GDP revisions, ISM near 50, etc.), we take the elevator down in gut-wrenching fashion.
Common sense dictates that GDP and ISM numbers would weaken when new supplies of fiscal and monetary stimulus drugs were cut off, so why was this a surprise?
Both forms of stimulus (fiscal and monetary) remain very aggressive, but it seems the stock market requires off-the-charts stimulus in order to maintain its high valuation. Even after the past weeks' selloff, the S&P 500 is still trading at a Shiller P/E ratio of 20. I think it's reasonable for it to trade down into the low-teens, because stimulus has temporarily pumped up corporate profit margins. The catalysts to drive the Shiller P/E into the low-teens should be some combination of stimulus hangover and a rising CPI.
Don't listen to the strategists spouting "the Fed model" as justifying much higher stock prices. The Fed Model goes like this: "10-year Treasury yields are 2.5%, so the P/E on ‘forward operating earnings' should be 30," or 35, or whatever number suits the strategist's objective.
I heard a strategist selling this garbage on Bloomberg Radio this morning. First of all, the Treasury yield is a completely manipulated instrument, and doesn't correspond to the cost of capital for corporations through economic cycles. Secondly, the duration of stocks, however you measure them, is at least three to fours times greater than the duration of the 10-year Treasury, so it's comparing apples to oranges. The Fed model spits out dangerous conclusions for investors. Four years ago, John Hussman used robust statistical analysis to deconstruct and invalidate the Fed model.
So the strategic outlook for stocks remains negative. Valuations remain high and headwinds will start blowing harder against corporate profits. As for the tactical environment facing stocks...
Europe is the reason for yesterday's 5% market crash. Bank runs are rumored to be hollowing out the Italian banking system. This "fear trade" will likely continue until the European Central Bank reverses course from its tightening stance, and aggressively buys PIIGS bonds. Most central banks will yet again inflate their balance sheets, which will only exacerbate the stagflation plaguing the global economy.
We should get a relief rally in the S&P 500, but probably not until we go lower -- low enough to panic central bankers. German central bankers in particular will change their "hard money" tune once they see their domestic banking system at risk. I agree with the "hard money" central bankers' view on subsidizing the PIIGS, but ultimately, a critical mass of European central bankers will push for a policy of ballooning the ECB's balance sheet.
After the next bout of coordinated global central bank easing, I think we'll transition into a grinding, sideways-to-down market. Gold prices should benefit from a new round of easing.
This is not 2008. I'm confident at this point that the crisis has transitioned to the following: private capital and small business withering on the vine, as each sovereign debt flare-up elicits a new round of central bank easing. This applies to nearly every economy, including the U.S., the euro zone, China, and Japan.
Crony capitalism is, unfortunately, still a dominant force. It slows the healthy process of creative destruction, slows the mobility of capital and labor, and keeps consumer prices higher than they otherwise would be. But it's the price we paid for the 2008 bailouts.
Cronyism will eventually come back to bite most big banks and corporations as the inflation created to fund bailouts works its way into cost structures, which in turn shrinks profit margins.
Regards,
Dan Amoss,
for The Daily Reckoning
Joel's Note: Last time markets melted down like this, Dan issued a recommendation to buy put options on Lehman Bros. That call, made when most analysts saw nothing amiss with the new defunct financial giant, gave his readers the chance to lock in 472% in gains. And that's not all…
Dan also gave delivered a heads up opportunity to cash in another 162% gain when Allied Capital came clean with their losses...and 220% when PNC Financial admitted their own abysmal earnings.
If you're interested in viewing Dan's exceptional research, take a look at his introductory presentation right here.
And now over to Bill Bonner with the rest of today's Reckoning
from Poitou, France...
The sun is shining. The sky is clear. The weather is warm.
What a great day for a meltdown!
Dow down another 519 points yesterday. Gold zooming towards $1,800...in fact, reports this morning tell us it has passed the $1,800 mark. And the 10-year T-note yield slipping down close to 2%.
Are we at Armageddon, yet?
"You don't know how pleased I am to live this long," said our mother, whose 90th birthday party will be celebrated in 3 weeks. "I will see two major depressions during my lifetime."
Years ago, we guessed that the price of gold and the price of the Dow would converge. We also guessed that they would meet around 3,000.
It seemed crazy when we first suggested it. Then, the price of gold was only around $500 an ounce, while the Dow was over 10,000...and still going up. That put the Dow to gold ratio at about 20 to 1...way down from the peak at 43 to 1 set at the end of the ‘90s.
We said the ratio would go to 1 -- to -- 1. One ounce of gold would be equal in value to the 30 Dow stocks... just like it was, very briefly, at the end of the ‘70s. When would it happen? We didn't know. But it would feel "like Armageddon" when it happened.
Well, now it doesn't seem so crazy. In order to get down to a bear market low, the Dow needs to be cut in half...and more. All we need is another two weeks like the last one.
The price of gold could easily double from here too. In fact, it won't match its 1980 high -- properly adjusted for inflation -- until it is back near $3,000. And this time, it should go much higher. Whatever problem gold signaled back in the late ‘70s is worse today. Much more debt. More willingness on the part of the feds to "monetize" debt. More wobbly economies run by wobbly economists.
The real problem is debt. It's been building up for more than half a century -- thanks to encouragement from the same officialdom in whose hands the problem now rests.
The feds think...or thought...they could deal with this slowdown the same way they dealt with every other post-war recession -- by adding more and easier credit. That is, by increasing the amount of debt in the system.
They tried direct spending -- fiscal stimulus. They tried re-flating the banks. They put the key lending rate at zero. And now Bernanke says he'll leave it there for two more years! They even tried money printing -- their QE I and QE II programs.
Nothing has worked. Fewer people have jobs today than when the crisis began. Real incomes are going down. House prices are going down. The US has the lowest percentage of people gainfully employed ever recorded. The rich may be getting richer...but the poor are getting poorer, faster than ever. And real, private sector, per capita GDP is still going down.
Bernanke once joked that if he ever got in such a situation he would know what to do: he would drop money from helicopters.
Time to warm up the helicopters!
But the feds are beginning to realize that it is not enough to offer more cash and credit; they have to do something about the debt. At least, we think they're beginning to realize it. Several top economists have appeared in the papers recently arguing in favor of actual debt liquidation as well as more stimulus.
Both Nouriel Roubini and Ken Rogoff have written to support debt restructuring (reduction) initiatives. And even dodos such as Thomas L. Friedman have finally realized that debt is a problem.
Typical. He gets confused. You can't dig out when you're underwater. You drown. But at least he's beginning to understand what is going on. And since he is the last man on earth to understand anything...it is likely that even the feds are catching on.
So what? Well, you'll begin to hear more about debt reduction as well as stimulus measures. They'll get the banks to write down mortgages, for example, in exchange for more cash from the government. This is classic political legerdemain. Debt doesn't go away. Ever. It has to be reckoned with. Moving mortgage losses to the government pushes the government further underwater. That will have to be reckoned with too.
But not today, dear reader. Lenders are still buying US debt. As the Dow goes down, gold and bonds go up. The 10-year note is nearing a record high... This allows gives US authorities a lot of rope. They don't have to cut US spending. They can still bailout whoever they please. They can borrow...borrow...borrow...spend, spend, spend...until Daddy takes the T-bird away!
Then, they can use all that rope to hang themselves.
And more thoughts...
Open source unemployment.
Here is a very serious thought. As far as we know few people have written about it. Few have even thought about it. And no one has figured out what it means. But it could mean that the whole nature of the economy...and how we measure it...will have to change. More immediately, it is another cigarette for the wheezing Middle Class.
The seed was planted by a headline from the Wall Street Journal. We didn't read the article. But we noticed the headline.
"Porn industry profits down," or something like that.
Hmmm.... surely, the demand had not decreased. We began to think about why the porn industry might be less profitable.
We'll take a guess -- open source technology. It's now so cheap and easy to make and distribute dirty pictures that the profit must have gone a little limp. An amateur with an I-phone or a $100 filming aparatus can make a fairly clear movie. He can send it over the internet at no cost. So, the recipient can view it in the privacy of his home for nothing...or almost nothing.
This is very different from the old days. You needed a whole crew to make a film of any sort...and expensive cameras, lights -- all sorts of things. Then, when you had made the film, you put it on a reel and sent it all over the country...to physical theatres in dingy parts of town, where people drove in their automobiles to buy tickets and watch smut. Lots of middle class jobs involved.
In the old days, the enterprise consumed large expenditures of energy -- human and mechanical -- to produce what was recorded as an increase in GDP and considered an increase in living standards. Energy = GDP = Standard of living = jobs.
Now, very little energy is expended. Very little money is spent. No increase in GDP is recorded. Nor is there any measurable increase in standards of living. And jobs have been eliminated (no film crews, no drivers, no gasoline sold, no theatres built, no popcorn sold, no carpets cleaned). From an economic standpoint, the switch over to internet-based porn looks like a net loss. And yet, the pleasure of the viewer is as great or greater than ever. The clients are getting the same bang, so to speak, for many fewer bucks.
Now, imagine this same principle applied to, say, warfare. The US spends trillions on defense. This is great -- or so it seems -- from an economic point-of-view. Lots of jobs making big ships and big tanks and big airplanes. Lots of energy used moving them around. Lots of money spent. Lots of support personnel and profits in the contractors' pockets. Lots of bribes (campaign contributions) for Congress too.
But now imagine that, say, China figures it will challenge the US empire in a different way. Let us imagine that it spends just a little bit and figures out a way to scramble communications. Its signals crossed, the US battleship runs aground. The US airplane bombs the wrong city. The tank gets lost, runs out of fuel...and is abandoned.
This is a purely hypothetical example, but it is how things work. Old imperial forces get fat and stupid. They are always ready to fight the last war! New challengers have to figure out new techniques and try new technology.
But if it were to work out this way, communications technology would have done to the defense industry what it has done to books and pornography. It will have de-materialized it. Fewer jobs. Less energy. Less money. Fewer resources. Again, you get the same bang...with many fewer GDP bucks.
Already, terroristas have noticed. Here's an article about how new open source communications technology is being used by England's rioters:
When property can be so easily vandalized, the benefit of owning it goes down. Asset prices fall. Lower asset prices make building and investing less attractive.
But that's what Open Source does. It lowers the value of traditional capital -- theatres/bookstores/battleships and so forth. And it kills jobs and wipes out GDP.
The new economy may yield the same pleasures...the same quality of life...more or less. But it may also produce a nightmare: very high unemployment for a very long time. Here's Jeff Jarvis at the Huffington Post and on the case:
We're not going to have a jobless recovery. We're going to have a jobless future.
Holding out blind hope for the magical appearance of new jobs and the reappearance of growth in the economy is a fool's faith. Politicians who think that merely chanting the incantation "jobs, jobs, jobs" will bring them and the economy back are fooling us if not themselves. When at least a tenth of Americans are out of work, for Wall Street to get momentarily giddy at the creation of 117k jobs is cognitive dissonance at its best. No one can make jobs out of thin air. Jobs will not come back. A few new jobs reappearing won't fix anything.
Our new economy is shrinking because technology leads to efficiency over growth. That is the notion I want to explore now.
Pick an industry: newspapers, say. Untold thousands of jobs have been destroyed and they will not come back . Yes, new jobs will be created by entrepreneurs -- that is precisely why I teach entrepreneurial journalism. But in the net, the news industry -- make that the news ecosystem -- will employ fewer people in companies. There will still be news but it will be far more efficient, thanks to the internet.
Take retail. Borders. Circuit City. Sharper Image. KB Toys. CompUSA. Dead. Every main street and every mall has empty stores that are not going to be filled. Buying things locally for immediate gratification will be a premium service because it is far more efficient -- in terms of inventory cost, real estate, staffing -- to consolidate and fulfill merchandise at a distance. Wal-Mart isn't killing retailing. Amazon is. Transparent pricing online will reduce prices and profitability yet more. Retail will be more efficient.
The housing market has imploded and is not likely to reinflate for a long time to come. So the market for new homes will not recover and construction jobs will not come back.
Regards,
Bill Bonner,
for The Daily Reckoning
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