I think that’s wrong. It’s an erroneous viewpoint that’s symptomatic of the short memories of the chattering media. It’s also one that could cause investors to miss out on one of the best profit plays in the global marketplace today.

I’m talking about Germany – the real powerhouse of Europe.

The “New” Germany

From the 1950s to the 1980s, West Germany consistently delivered high growth rates and low inflation. West German engineering proved superior to any other on the planet. And West German living standards rose far above anywhere else in Europe.

Then came 1990.

East and West Germany were reunited and an economic malaise set in. Instead of unifying the two currencies at a ratio of two Ostmarks to one Deutsche Mark, which would have kept East German labor cheap and competitive, the politicians unified the currencies at a rate of one to one.

That meant that East German labor was instantly priced out of the world market. And with good reason: It now offered Soviet-sector efficiency and skill – but at West German costs levels. Consequently, East Germany went through more than a decade of very high unemployment. German taxpayers went through more than a decade of huge subsidies to the former East Germany to prop up that region’s living standards and retrain its labor.

However, since the excellent German high school education system was quickly established throughout the country, the burden of reunification was a problem that did not last forever. What ultimately happened was that younger, fully trained workers in East Germany replaced their inferior Communist-era parents.

From about 2005 onward, the financial cloud of reunification costs began to lift. During the last few years, Germany’s economic performance has been notably better than its European competitors. Against Italy alone, for example, Germany’s competitiveness has improved by more than 20% since Europe’s currencies were unified in 1999.

The German economy has been held down by a tax burden that’s high by global standards. Its tax system suffers from excessive complexity and from draconian enforcement. Small businesses, for example must pay a 14% trade tax – on top of the standard corporate income tax that all businesses must pay. The trade tax goes to the “lander” (the states), rather than to the federal government.

Despite such problems, Germany has played it smart in several key areas. Unlike the United States and many other countries, Germany did not engage in fiscal stimulus. Indeed, the Social Democrat Finance Minister Peer Steinbruck last winter referred to Britain’s huge fiscal stimulus plans as “crass Keynesianism.” That showed that Germany has a true consensus against the stimulus foolishness. Germany’s budget deficit is expected by The Economist panel of forecasters to be only 4.6% of gross domestic product (GDP) in 2009, far below its rich-country competitors. Thus, even though Germany’s taxes are high, they will not be forced further upwards by zooming budget deficits.

The Angela Merkel Era Begins

Merkel’s election as German Chancellor is important, because it enables her to govern in coalition with the most free-market party, the Free Democrats, who are committed to lowering taxes and freeing up some of Germany’s restrictive labor laws.

This should not be taken too far. The Free Democrat leader Guido Westerwelle, flushed with victory, pledged Sunday night that the new government would act “responsibly” – not exactly “Hope and Change” as a slogan! Nevertheless, the Frankfurt market rose on the election result, as it should have done.

Germany is sometimes knocked for its export orientation. Its balance-of-payments surplus was $179.4 billion for the fiscal year that ended June 30, and is expected to be 4.0% of GDP this year.

Rest assured, however, that this is strength, and not a weakness. With world trade recovering, the German economy can be expected to benefit. Just look at Germany’s auto sector, which may be the most well rounded in the world. It boasts such strong luxury brands as Mercedes (NYSE ADR: DAI), Porsche and Audi. And it includes such high-volume – but innovative – manufacturers as Volkswagen AG (OTC ADR: VLKAY). German automakers are likely to gain market share against faltering U.S. competitors in the coming global recovery.

Another plus: Germany’s savings rate rose to 12.8% of GDP in the first half of 2009, a 16-year record. That compares with the feeble rate of only 4% in the United States, up from close to zero in the preceding three years. In a competitive world with the financial sector in difficulty, it’s better to be a capital-rich country running a trade surplus than the opposite, like the United States.

The economic recovery is a mixed bag from one market to another. But in Germany, it seems in Germany to be proceeding briskly. GDP, which fell sharply in the first quarter, rose at a 1.3% annual rate in the second quarter. Manufacturing orders rose by 3.5% in July, after a 3.8% rise in June. The ZEW index of economic sentiment has risen in each of the last six months, reaching a healthy 57.7 (50 is neutral) in September.

With competitive manufacturing, a business-friendly government and plenty of domestic capital, Germany is about as healthy an economy as there is in the world today. You should think about staking a claim to this outlook, even if it’s only the MSCI Germany Exchange-Traded Fund (NYSE: EWG).

Source: Why You Should Invest in the ‘New’ Germany

With this recent rush of upbeat economic news, it’s no wonder commentators are trumpeting the rebound of the U.S. economy.

But I think it’s time to short U.S. stocks.

Shocked?

Don’t be.

What most experts see as a strengthening U.S. rebound, I see as an increasingly dangerous “false dawn” – for these two key reasons:

• An overly expansive monetary policy that’s almost certain to spawn inflation.
• And a record-level budget deficit that will cause interest rates to spike, crimping economic growth.

A Foundation for Trouble

U.S. policies that were intended to combat the financial crisis that broke last year – as well as the recession that’s been plaguing us since December 2007 – have actually inflicted a lot of weakness upon our economic system.

For instance, the federal government has made $11.6 trillion in financing commitments, many of which will saddle us with debt for generations – some of it forever. Outlays of that magnitude in a $14 trillion economy are bound to have lasting implications: Think of the consumer who has a series of maxxed-out credit cards – he’ll make the minimum payments, but the actual balance will never get paid down.

And the foundation for this financial fiasco was actually constructed several years ago.

After the bursting of the 1996-2000 “dot-com” bubble, the U.S. Federal Reserve re-inflated the money supply. That caused stocks to resume their upward march, and as we now know, also inflated a housing bubble of such enormous size that it caused a general financial-system crash when that real estate bubble burst in 2007-08.

This time around, the Fed has been even more expansive. The benchmark Federal Funds Rate was 1.0% in 2002-04. This time it is 0.25%. What’s more, this time around we’ve had a $2 trillion expansion of the Fed balance sheet, a doubling of the monetary base and $300 billion worth of direct central bank purchases of government debt. Given this orgy of Fed expansionism, it’s likely that the onset of inflation – whether it’s in consumer prices or asset prices – will be correspondingly worse. In fact, we’re already seeing that gold prices are once again making a run at their all-time high. And crude oil hovers at about $70 per barrel, a level that would have been unimaginable before 2004.

Now that he’s been nominated for reappointment, U.S. Federal Reserve Chairman Ben S. Bernanke says he will tighten monetary policy in good time. But why should we believe him? If he tries to tighten significantly, he will incur the wrath of the Obama administration and the Democrats in Congress.

Even back during the 2001-04 time frame – when there was an administration in place that claimed to believe in monetary stringency – the Fed didn’t tighten. Bernanke himself was among the most aggressive opponents of tightening. Back in 2002, in fact, when inflation was running at a perfectly respectable 2%, Bernanke actually spun myths about the imminent onset of “deflation.”

Given what we know, it seems that if the current economic bounce shows even the slightest signs of faltering, Bernanke won’t tighten – he’ll pump even more money into the U.S. financial system. Rest assured that the administration, Congress, and much of the media will be cheering his move.

Borrow Now, Hurt Later

If an overly expansive monetary policy was the only problem we faced, it might not be so bad. Unfortunately, there’s more.

Lots more.

Unlike in 2002 – in fact, unlike any other time in U.S. history – this country now has a budget deficit in excess of 10% of gross domestic product (GDP). For fiscal 2009, that was forgivable: We’ve had a major recession, and a shattering financial crisis, which the federal government has tried to battle with aggressive bailout programs.

Here’s the problem, however: The projected deficit remains above 10% of GDP for fiscal 2010, even though no additional bailouts are contemplated and the Obama administration is projecting a modest-but-steady economic recovery.

The result is harder to predict – this country hasn’t travelled down this particular path before. This strategy bears some resemblance to the position Japan found itself in during its so-called “Lost Decade” of the 1990s. But even Japan’s deficit never reached this 10% threshold.

In Japan, the effect seems to have been the gradual abandonment of small business finance, and the resulting starvation of the most critical factor in economic growth – entrepreneurship.

The small-business sector creates most of the new jobs in the U.S. economy. But in a challenging environment, it’s easy to see why this sector gets overlooked. Without political connections or large contracts to hand out, the small-business sector ends up being last in line in the financing queue when the economy faces strong headwinds. Why should banks or other people lend to small businesses when the U.S. government bond market stands as such as huge, safe parking place for their cash?

Interest rates will also become an issue. With the inflationary pressures we expect to see from the overly expansive monetary policy we’ve described, long-term interest rates are likely going to rise anyway. As was the case in Japan’s decade-long malaise, these forces will combine to spark high default rates in the banking system, low or zero economic growth, and a general downward trend in the stock market.

All of this will make it tough for small businesses to obtain the cash they need to grow, meaning this key job-creation engine will have to sputter along.

It’s still early in the game, and there are many factors to consider, so the future economic picture remains a bit murky right now. But my guess is that the bubble in asset prices will be largely confined to commodities, that economic growth after this current initial burst will relapse, and that U.S. stocks will prove to be the same generally unattractive investment that they were in 1970s – the era of the so-called “Nifty Fifty.” If the stock market bubble gets even more exuberant from here, the relapse will be correspondingly more painful.

Profitable Pockets

Despite this dour backdrop, three things are worth remembering:

• First, all U.S. stocks are not created equal. Although I’m saying it’s time to short U.S. stocks, and I see tough times ahead for the key indices, there will always be individual stocks worth consideration, such as the “Alpha Bulldog” stocks I highlight in the Permanent Wealth Investor service.
• Second, the best way to play this looming downdraft – either as a direct profit opportunity or as a way of hedging your current portfolio – is through the use of what I like to call “Stage 3″ investments. An example of one such investment is long-dated “put” options on the Standard & Poor’s 500 Index, which trade on the Chicago Board Options Exchange. If you buy these options when they are way “out of the money” with a strike price far below the current price, in a real bear market (like that of 2007-09), you will see them really zoom up in value as the S&P drops down closer to the strike price, or possibly even falls below it.
• And third, understand that my pessimism about the U.S. market doesn’t apply to every other market around the world. While the monetary problems are more or less global, the budget-deficit problems are not. For instance, you might want to consider investments in Japan, where a recent election should spawn the kind of economic changes that will benefit savvy investors. Germany, too, looks to have avoided the contagion of “stimulitus,” which is why its economy is now viewed as one of the healthiest in Europe. Consider the iShares exchange-traded fund (ETF) entry for each of those two markets: The iShares MSCI Japan Index Fund (NYSE: EWJ) and the iShares MSCI Germany Index Fund (NYSE: EWG). They each warrant a look.

Source: The Two Reasons it’s Time to Short U.S. Stocks

In fact, when you peruse the news it’s difficult to come to any other conclusion. For instance:

• A number of key earnings reports have been much better than expected, and company executives buttressed those profit figures with positive comments about the next 18 months.
• The trading operations of Goldman Sachs Group Inc. (NYSE:GS) and JPMorgan Chase & Co. (NYSE: JPM) both just reported record profits.
• U.S. housing prices rose in May for the first time in three years. Initial jobless claims have plunged 15% since their April peak. The Conference Board’s Index of Leading Economic Indicators rose 0.7% in June, its third successive positive reading.
• And just yesterday (Thursday), the Dow Jones Industrial Average topped the 9,200 mark for the first time since November – a potentially highly bullish development for the economy, since stock prices are forward-looking.

But while many experts will look at these developments as an excuse to celebrate the looming rebound to come, I actually see them as a real cause for concern. The reality is that these reports, when viewed in concert with other data, are actually a sign of a re-inflating financial bubble.

This is actually an “Economic Recovery Trap” that – when sprung – will inflict a lot of pain on overly optimistic investors. Now that we’re sufficiently forewarned, we should re-orient our money accordingly.

Doomed by Deficits

It’s not surprising that the U.S. economy has shown signs of strength in recent weeks; it has had huge amounts of money thrown at it.

On the fiscal side, the Obama administration’s May budget plan suggested deficit for the 2009 fiscal year (which ends in September) would reach $1.83 trillion – about 13% of gross domestic product (GDP).

However, subsequently released unemployment figures have shown that the U.S. jobless level reached 9.5% in June, far above the 8.3% rate assumed in the budget. And unemployment is expected to spike further in the second half of the year.

This worsening unemployment situation strongly suggests that the true budget-deficit figures will be even worse than those already announced, a supposition strengthened by the postponement – from mid-July to mid-August – of the normal mid-term budget review. Since U.S. President Barack Obama is currently attempting to steer two difficult and expensive pieces of legislation – the cap-and-trade energy bill and the healthcare-reform bill – through Congress, he does not want unfavorable budget numbers appearing that might be used to persuade wavering legislators to oppose them.

Even at 13% of GDP in fiscal 2009 and 10% of GDP in fiscal 2010, the U.S. federal deficit is far above any previous level reached in peacetime, so it’s likely that if the economy begins to recover these deficits will prove difficult to finance, meaning the budgetary shortfalls will push up long-term interest rates.

That escalation in long-term rates, in turn, could choke off the economic recovery, which to be healthy requires a rebuilding of inventories, extensions of credit to new domestic-and-foreign customers, and a revival of enthusiasm for such large-ticket items as housing and automobiles.

With the yield on 10-year U.S. Treasuries already up from a low of 2.07% in December to a recent level of 3.60%, the dampening effect of rising interest rates may already be becoming apparent. In any case, the deficit is a dark cloud that threatens to obscure the economic outlook.

And that dark deficit cloud will be very difficult to remove.

Know Your (Real) Enemy

The other main problem with today’s economy is the likely resurgence of inflation. Even the U.S. Federal Reserve – which under central bank Chairman Ben S. Bernanke for a long time apparently maintained a fear of deflation above all else – admitted in its last meeting that the likelihood of deflation had receded.

That’s not surprising: In the last six months, core consumer price inflation (excluding food and energy) was a reported 2.4% annually. Although the “headline figure” has been low because of the sharp drop in energy prices the United States economy has experienced since last year, that effect is about to disappear, as energy prices peaked in early July 2008 and fell sharply throughout the fall. Thus, even reported consumer price inflation – on a year-over-year basis – is likely to surge in the months after this one (July).

Moreover, the reported inflation figure may be low. Each month, the U.S. Bureau of Labor Statistics “seasonally adjusts” consumer price statistics to remove normal seasonal patterns from the data. That seasonal adjustment process is thoroughly opaque, and is subject to manipulation. In the early months of 2008, for example, when reported inflation was high, the downward seasonal adjustments were consistently much larger than the average of the decade 1998-2007. The process was then reversed late in the year, when reported inflation was negative, but the upward seasonal adjustments made it less negative. For the year as a whole, “seasonally adjusted” inflation was 0.5% below unadjusted inflation, which shouldn’t happen, except by bizarre rounding effects.

In the first six months of 2009, the negative seasonal adjustments have re-appeared, to the extent that total seasonal adjustments for the six months were minus 1.2%, compared with a 1998-2007 average of minus 0.61%. If the seasonal adjustments are indeed wrong, and should have been at only the average level, then “core” price inflation in the six months to June would have been 3.6% annually.

Not only is that not deflation; it suggests accelerating inflation.

Money Supply Moves

Another reason I wouldn’t be surprised by a reappearance of rapid inflation is the big increases in the money supply we’ve seen over the last year.

According to St. Louis Fed data, the M2 money supply has increased by 8.8% in the last year. The St. Louis Fed’s own Money of Zero Maturity (MZM) – the best measure of the broad U.S. money supply available since the central bank ceased reporting M3 in 2006 – jumped 10.2%. And the overall monetary base zoomed an astounding 92.8%.

In addition, the Federal Reserve has bought $300 billion of government bonds, always an inflationary warning signal since it monetizes the deficit. Furthermore, the Fed and the government together have engaged in rescue, stimulus and guarantee programs totaling an astounding $23.7 trillion, according to Neil Barofsky, inspector general for the government’s Troubled Assets Relief Program (TARP). A “gross” number if ever there was one, that figure is nearly twice overall U.S. GDP.

Let’s face reality: We’re going to be paying this bill for decades to come – almost certainly largely through resurgent inflation. In those circumstances, the recovery in the stock market is based not on reality, but simply on a bubble – an assertion that’s already been vindicated by the extraordinary afore-mentioned profitability of the Goldman Sachs and JPMorgan Chase trading operations, which typically benefit enormously when bubbles are inflating and there is too much money sloshing about.

The near-bankruptcy of CIT Group Inc. (NYSE: CIT), and the losses recorded by the commercial banking sides of Citigroup Inc. (NYSE: C) and Bank of America Corp. (NYSE: BAC), demonstrate that even in a period when short-term rates are exceptionally low, conventional commercial banking is not currently a moneymaker.

Other then Goldman Sachs shares (whose prosperity is likely to be short-lived), it is clear that our investment dollars should be concentrated in two areas:

• Conservatively run overseas economies.
• And inflationary hedges such as gold and silver.

Let’s look at some investment opportunities in each category.

First, we should buy moderately priced shares in countries where “stimulus” has been limited and in which monetary and fiscal policies are close to balance. The two largest such countries are Germany and Brazil, so you should look at the Germany ETF iShares MSCI Germany Index (NYSE: EWG) and the Brazilian iShares MSCI Brazil Index (NYSE: EWZ).

Second, you should make sure that a substantial portion of your assets are in inflation hedges such as gold and silver, either in the metals directly through SPDR Gold Shares (NYSE: GLD) and iShares Silver Trust (NYSE: SLV) or through gold mining shares, the exchange-traded fund (ETF) for which is the Market Vectors Gold Miners ETF (NYSE: GDX).

Source: Beware of the Obama Stimulus Trap

And with some justification, for China and the two Asian “tigers” share some alluring characteristics like:

• A highly competitive and innovative manufacturing industry.
• Excellent government and workforce discipline.
• Modest fiscal and monetary stimulus (or, like China, they started from a position of budget surplus).
• And an export orientation that seems likely to benefit quickly as order is restored in the global trading economy.

But there’s another country that shares those characteristics. It’s nowhere near East Asia. But investors can expect this particular economy to also bounce back from this recession with considerable vigor.

I’m talking about the center of supposedly sclerotic Old Europe itself: Germany.

Germany lacks the huge financial sector that has been the bane of the United States and British economies, but it has manufacturing industry that is the envy of the world. Its balance of payments surplus was $205.8 billion in the 12 months through April, and is expected to be 4.4% of gross domestic product (GDP) for all of 2009.

The German government resisted the urge to splurge on “stimulus” packages, and consequently is expected to run a budget deficit of only 4.4% of GDP in 2009 – a ratio that’s far smaller than those of other “advanced” economies, and one that should be easy to finance. Furthermore, the European Central Bank (ECB) has been the most conservative of all major central banks outside Brazil, and German Chancellor Angela Merkel has indicated pretty strongly that it had better stay that way, as she is worried about inflation.

German labor discipline is world-famous, partly because of its sophisticated system of “mitbestimmung” (co-determination) between industry and labor unions. Thus, Germany loses only four days to strikes per 1,000 employees in an average year, an average that’s well below the same statistic for each of its European neighbors. Skill levels are also excellent, because of the superior German education system, much of which is run in partnership with industry.

Because of its more conservative fiscal stance – with less stimulus – Germany has suffered through a much-deeper recession than many other countries, with first-quarter GDP down 6.9% from the previous year.

By comparison, economic output declined 2.5% in the United States and 4.2% in Korea, but 8.8% in Japan and 10.2% in Taiwan.  However, manufacturing orders stabilized in April and it seems likely that Germany will experience a return to growth in the second half of 2009. The ZEW indicator of German economic sentiment for June came in at 44.8 – up more than 13 points from the previous month, and a three-year high. When Germany starts to recover, its economic rebound is likely to be healthy, without resurgent inflation or bond market turmoil, because of Germany’s cautious fiscal and monetary policies.

What to buy? Well, for a start there’s the German exchange-traded fund (ETF), the iShares MSCI Germany Index (NYSE:EWG). At $489 million, it’s surprisingly small, but it has a Price/Earnings (P/E) ratio of 12 and a yield of 6.4%, meaning it provides shareholders with a decent income. It also provides a much-broader exposure to the German market than do the American Depository Receipt (ADR) shares, which relate only to very large companies, and not to the highly successful “mittelstand” medium-sized enterprises.

There are eight German companies whose ADRs have a sponsored full listing on the New York Stock Exchange (several others have moved to the Pink Sheets recently because of the costs of Sarbanes-Oxley compliance). Of these, Infineon Technologies AG (OTC ADR: IFNNY), a semiconductor manufacturer, is making a loss, while Qimonda AG (OTC ADR: QMNDQ), a maker of computer memory devices, is in bankruptcy.
That leaves six possible profit plays:

• Allianz SE: (NYSE ADR: AZ): This huge insurance company sold its shares in Dresdner Bank AG and is now a shareholder in Commerzbank AG (OTC ADR: CRZBY). Allianz lost money in 2008 because of investment losses, but is trading on only nine times projected 2009 earnings, with a 5% dividend yield.

• Daimler AG (NYSE ADR: DAI): A major automaker, and producer of the upscale Mercedes Benz brand (including the fashionable “Smart” small car), Daimler is now thankfully devoid of Chrysler LLCinvolvement. Daimler gratuitously tossed away a considerable amount of shareholder value with two foolish diversifications – into aerospace in the 1980s and into Chrysler in the 1990s. If management can keep its eyes on the road (stay on the black stuff between the trees), this stock could be quite attractive. Daimler’s shares are trading at 20 times recession-year earnings. The dividend yield is only 1.7%, but overall there’s a lot of upside in an economic recovery.

• Deutsche Bank AG (NYSE ADR: DB): This is Germany’s premier bank and investment bank, but it is currently losing money and the stock yields only 1%. For a play on a German financial sector recovery, I prefer Allianz.

• Deutsche Telekom AG (NYSE ADR: DT): Germany’s traditional fixed-line telephone service, Deutsche Telekom also has mobile-phone operations and has increased its revenue by also offering high-speed Internet access. Currently operating at a loss, DT also cut its dividend. Avoid – there are better telecom plays out there.

• SAP AG (NYSE ADR: SAP):  A globally known provider of so-called “enterprise resource planning” (ERP) software, SAP shares have a dividend yield of only 1.2%, and are trading at 19 times prospective earnings. The stock looks a bit pricey to me: I like the sector, but not SAP’s bureaucracy-friendly product line.

• Siemens AG (NYSE ADR: SI): With its wide array of product offerings, Siemens is operationally akin to General Electric Co. (NYSE: GE). Indeed, with  heavy-equipment offerings that range from locomotives to electric power plants, Siemens is selling the kinds of products that are likely to benefit from heavy “stimulus” spending worldwide. The company has recovered from losses in 2006. But the shares are trading at only 11 times estimated earnings for the 12 months that end in September. That low valuation, coupled with a nice dividend yield of 2.9%, makes the stock appear fairly attractive.

Source: Germany: Emerging Market Profit Potential, With (Only) Developed Market Risk

The iShares MSCI Germany ETF will make a lot of people a lot of money in the next 12 weeks… but not everyone.

This chart shows EWG trading at a critical support level. A rule of thumb for trading is that major support lines normally hold while minor support levels usually break. What that means for EWG is uncertainty: a jump back to recent highs or a fall off a cliff.

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I’m biased towards a fall off the cliff. Just look at momentum getting ready to turn negative like Karl Rove in a presidential campaign.

Not to mention that manufacturing numbers show a fall of 2.4% when economists expected a rise of 0.3%.

Source:  Short the iShares MSCI Germany ETF (EWG)

The iShares MSCI Germany ETF (EWG) will make a lot of people a lot of money in the next 12 weeks… but not everyone.

This chart shows EWG trading at a critical support level. A rule of thumb for trading is that major support lines normally hold while minor support levels usually break. What that means for EWG is uncertainty: a jump back to recent highs or a fall off a cliff.

I’m biased towards a fall off the cliff. Just look at momentum getting ready to turn negative like Karl Rove in a presidential campaign.

Not to mention that manufacturing numbers show a fall of 2.4% when economists expected a rise of 0.3%.

So here’s how to trade it: A failure here means a quick tumble to $22 (from a current price of $28.50) with an ultimate hard landing all they way down at $8, however unlikely that seems.

A bounce here should be played a bit more tentatively, since upside is more limited.

Sara Nunnally

Editor, Taipan Trader

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Source: Critical Value Alert