It’s worth noting that Monday’s auction for 3-year debt was met with ravenous, near-record demand and that Tuesday’s 10-year sale met a bid-to-cover ratio of 2.8… historically high for the 10-year, but not even close to the 3.3 ratio for the shorter dated bonds the day before.

“The market is sending many errant signals right now,” notes Dan Amoss. “U.S. policymakers are trying to reinflate stocks, houses and wages, while also recapitalizing an undercapitalized banking system with overt and covert subsidies. All of these actions are extraordinarily costly — so costly that creditors are getting nervous.

For the rest of the article, read Ian Mathias at The Daily Reckoning.

We spent the morning musing on the Maginot Line. The French built this elaborate line of fortifications along its border with Germany in the 1930s to thwart an invasion by its Great War enemy. When Germany invaded France in May 1940, Adolf Hitler’s armies simply bypassed the line and invaded France through neighbouring Belgium. The Maginot Line proved to be an elaborate dud.

As Nassim Taleb points out in his book The Black Swan: The Impact of the Highly Improbable:

The story of the Maginot Line shows how we are conditioned to be specific. The French, after the Great War, build a wall along the previous German invasion route to prevent reinvasion – Hitler just (almost) effortlessly went around it. The French had been excellent students of history; they just learned with too much precision. They were too practical and exceedingly focused for their own safety.

What does this have to do with investing? It’s a fair question. To our humble minds, the story of the Maginot Line illustrates that we humans tend to base our vision of the future on past events and have trouble imagining a future radically different from what has happened before. We are, if you like, sitting ducks: we build our defensive walls and then guard them jealously only to be blindsided at the crucial moment.

One of our central aims in Notes is to imagine futures unpalatable to the mainstream – futures that often seem impossible because of their lack of precedent in the past. It’s niche work. Most people don’t have the time or the inclination to wonder about what will come next. But to be a successful investor, you must first peer into distance and imagine the world that’s coming.

Today, we offer up a vision of a diminished America – an America weakened by decades of living beyond its means and almost entirely reliant on its foreign creditors. Some might say this future has already arrived. But here at Notes, we believe the country has further to fall. We’re short, if you like, on US hegemony.

Bond king Bill Gross is also concerned. He calls this diminished America “the new normal.”

Gross is better qualified than most to prognosticate on America’s fate. He runs the world’s biggest bond fund. So it’s his job to know where the US economy is heading. He’s also an honorary underground investor: he puts his money where his mouth is and he doesn’t pander to mainstream opinion.

In his latest monthly missive, Gross argues that the tipping point for the end of US economic dominance is easy to spot and is a matter of simple mathematics.

Private sector deleveraging, reregulation and reduced consumption all argue for a real growth rate in the US that requires a government checkbook for years to come just to keep its head above the 1% required to stabilize unemployment. Five more years of those 10% of GDP deficits will quickly raise America’s debt to GDP level to over 100%, a level that the rating services – and more importantly the markets – recognize as a point of no return. At 100% debt to GDP, the interest on the debt might amount to 5% or 6% of annual output alone, and it quickly compounds as the interest upon interest becomes as heavy as those “sixteen tons” in Tennessee Ernie Ford’s famous song of a West Virginia coal miner. “You load sixteen tons and whattaya get? Another day older and deeper in debt.” Pretty soon you need 17, 18, 19 tons just to stay even and that describes the potential fate of the United States as the deficits string out into the Obama and other future Administrations.

It’s a slow motion car crash, dear reader, and all we can do is sit and gawp. As Gross also points out, the US is already producing less wealth in proportion to the rest of the world. And less of its citizens are getting into the Forbes rich list as a result.

This does not come at a good time. America’s ability to borrow cheaply is dependent on its debt-to-GDP ratio, which at 13% is already at highs not seen since World War II. One way of improving this ratio is to grow GDP. But as Gross points out, this is becoming more and more difficult thanks to “private sector deleveraging, reregulation and reduced consumption.”  And all of this does not begin to take into account what Gross describes as the “pig in the python” demographic squeeze on resources on the way.

Private think tanks such as The Blackstone Group and even studies by government agencies, such as the Congressional Budget Office, promise that Federal spending for Social Security, Medicare, and Medicaid will collectively increase by 6% of GDP over the next 20 years, leading to even larger deficits unless taxes are increased proportionately. Collectively these three programs represent an approximate $40 trillion liability that will have to be paid. If not, you can add that present value figure to the current $10 trillion deficit and reach a 300% of GDP figure – a number that resembles Latin American economies such as Argentina and Brazil over the past century.

What Gross understands better than most is that we do not live in a world without consequences. This is the beauty of the bond markets: they provide (welcome) limits to the “something for nothing” culture that has gripped the US for far too long.

The big question, of course, and the one Team Obama would like to dodge for as long as humanly possible, is who is going to buy America’s tsunami of debt?

Broadly speaking, the problem is twofold. On the supply side, the US Treasury is set to issue roughly four times last year’s amount of bonds – an estimated gross issuance of $3 trillion. On the demand side, America can no longer rely on the current account/trade deficit to fund borrowings. As Gross points out, with this figure down to about $500 billion this year, China and other surplus nations simply won’t have the spare cash to fund Washington’s spending requirements.

There are only two possible outcomes to this supply-demand dislocation. The first is that the yield curve steepens. As we argued in yesterday’s Notes, there is enormous pressure right now on long-dated US Treasury yields. Yields are rising fast. And if this trend continues unabated, any “green shoots” will be choked off by the weeds of rising mortgage rates and corporate rates.

The second possible outcome is that the Fed steps into the breach and continues to buy back US Treasurys. This is horribly inflationary, as the money the Fed uses to pay for US debt is of the freshly printed variety. The Chinese are already getting nervous at the swelling of the Fed’s balance sheet. Should this trend continue private and sovereign holders of dollar-denominated debt will increasingly look to diversify out of their dollar assets, selling US Treasurys in the process.

The picture is a grim one. But the illusion of something for nothing is strong, and Team Obama shows no signs of quailing in front of this precipitous debt pile.

We read with horror in USA Today that one in six dollars of Americans’ income comes in the form of a federal or state check or voucher. This is the highest level of state-funded personal income since records began in 1929.

“In all,” reports the paper, “government spending on benefits will top $2 trillion in 2009 — an average of $17,000 provided to each US household, federal data show. Benefits rose at a 19% annual rate in the first quarter compared to the last three months of 2008.”

We don’t expect a return to balanced budgets anytime soon.

What other ways are there to hold on to your wealth in this “new normal”? It’s another fair question, and one that has been preoccupying us here at Notes for some time.

According to Gross, “staying rich in this future world will require strategies that reflect this altered vision of global economic growth and delevered financial markets.” Here’s what he advises:

Bond investors should therefore confine maturities to the front end of yield curves where continuing low yields and downside price protection is more probable. Holders of dollars should diversify their own baskets before central banks and sovereign wealth funds ultimately do the same. All investors should expect considerably lower rates of return than what they grew accustomed to only a few years ago. ]]> http://www.contrarianprofits.com/articles/bong-king-gross-says-ditch-the-dollar-before-its-too-late/17569/feed 0 http://www.contrarianprofits.com/articles/laughable-loans-to-prevent-the-bust/9341 http://www.contrarianprofits.com/articles/laughable-loans-to-prevent-the-bust/9341#comments Mon, 01 Dec 2008 19:29:52 +0000 Richard Daughty http://www.contrarianprofits.com/?p=9341 I have some bad news for the U.S. government; the taxpayers are not prepared to loan anything to anybody! Hell, total debt-to-GDP is over 350% already, maybe 450%, which is, either way, the highest, by far, of anything I’ve seen in U.S. history…

When I woke up, it was morning, which meant that the economic world did not blow apart during the night, abruptly waking me up by setting off loud alarms in the Mogambo Big Battle Bunker (MBBB), rudely alerting me to another outbreak of serious financial trouble from the economic cataclysm (”bust”) that I figure is right around the corner, now that the decades of irresponsible over-creation of excess money and credit by Alan Greenspan and his misbegotten Federal…

These late night legal brains usually tout these trusts as the best way to protect your assets, cash and investments from claims and lawsuits. And indeed, I’ll grant them America is one of the most law-suit happy nations in the world.

So what’s a trust? And who really needs one anyway?

Stripped to bare bones, a trust is a three-way legal device. It’s a contract of sorts, that allows one person (the trustee) to take title and possession of cash or property and hold, use or manage those assets for one or more other persons (the beneficiaries).

The person who creates the trust (the grantor) decides what it will do and donates the property to fund it. You actually create the trust by writing and signing a trust declaration, usually as part of an overall estate plan.

Before I go further, let me say: Setting up a trust requires expert advice and a careful review of existing arrangements that affect your estate.

One special kind of trust that I often recommend, the offshore asset protection trust (APT), can place your wealth well beyond the easy reach of claimants, creditors, an irate ex-spouse and even the government of your home country. More about that in a moment.

Trusts, Like Governments,
Are All About Who Has the Power

Most offshore asset protection trusts are discretionary trusts, a form that allows lots of planning flexibility.

Discretionary may mean the trustee is given power to decide how much will be distributed to beneficiaries and, in some cases, who qualifies as a beneficiary. A trustee often is given the authority to recognize beneficiaries in a class of persons (”my children and their heirs”). Or the trust could contain what is known as a “power of appointment.” This allows the trustee to choose beneficiaries from a class of eligible persons. A trust may be created for any purpose that’s not illegal or against public policy.

A trust can own title to, and invest in, real estate, cash, stocks, bonds, negotiable instruments, and personal property. Trusts can provide care for minor children or the elderly; or pay medical, educational, or other expenses.

A trust can provide financial support in an emergency. They can also help with an older person’s retirement, pay for a young person’s education, administer financial plans during marriage or divorce, or even carry out premarital agreements.

The Farther Away the Better

One of the most popular asset-protection devices in trust form is the foreign asset protection trust (APT), a personal trust created and based in a foreign nation.

This kind of APT shields your assets far better than any domestic trust, because it is located outside the United States or your home country. Distance makes the trust grow stronger. This trust shields business and personal assets against demanding creditors, litigation and other unpleasant financial liabilities in your home country.

The key to creating such a trust is simple: planning. You must plan and create your offshore asset protection trust long before you really need it, at a time of personal financial calm.

You can’t use an asset protection trust as a last-minute response to a sudden financial crisis – it won’t work. In fact, if you try to set up an offshore trust when you’re in the middle of financial upheaval, you could face civil liability for concealing assets or fraud under the fraudulent conveyance laws.

In litigation-crazed America, you shouldn’t wait for trouble before taking offshore precautionary measures. As a practical matter, placing title to property in the name of an offshore APT cannot really protect assets if they physically remain within an American court’s jurisdiction.

Assets actually transferred to the APT’s foreign jurisdiction, like funds moved to an offshore bank account, are usually safe from a U.S. creditor, even if he knows the account exists.

Seven Reasons Why Trusts Are So Darn Useful

A few reasons why offshore APTs have proven to be so effective:

1. Start-Over: In many cases, the courts of foreign “asset haven” nations will not recognize the U.S. or other nations’ domestic court orders. A foreign judgment creditor seeking collection must re-litigate the original claim in the local asset haven’s courts after hiring local lawyers. He may be required to post a bond and to pay legal expenses for all parties if he loses. The legal complexity and cost of such an international collection effort is likely to stop all but the most determined adversaries and promote quick settlement.

2. Minimal Requirements: An offshore trust does not need to be complicated. You can create one by signing the formal documents and opening a trust account managed by your local trustee in a foreign bank of your choice. Respected offshore banks traditionally provide experienced trust officers to handle offshore trust matters. U.S. asset protection attorneys routinely work directly with such offshore banks and trust companies. Most international banks have U.S. dollar denominated accounts, often with better interest rates than American banks offer.

3. Greater Protection: Under the laws of asset haven nations, assets placed in an offshore asset protection trust have far more protection than under domestic U.S. trust law. The law in such countries provides an asset protection “safe harbor” that is unavailable in the U.S. and many other nations. With an offshore APT, foreign-held trust assets are not subject to the jurisdiction of your local or home country judicial system.

4. Fast Acting: The statute of limitations imposed on initiating a foreign creditor’s suit varies. In many asset haven nations, the statute begins to run from the date you establish the asset protection trust. Some haven nations, such as the Cook Islands, have a limit of one year for initiation of claims. Others impose a claims filing limit for certain creditors of two years after APT formation. As a practical matter, it may take a creditor longer than that just to discover you have a foreign asset protection trust.

5. Confidentiality: The offshore APT can provide greater privacy and confidentiality, minimization of domestic, home country inheritance taxes, and helps your heirs avoid the probate tax process after your death. It provides increased flexibility in conducting affairs in case of personal disability, allows easy transfer of asset titles, and avoids domestic currency controls in your home nation.