There are a lot of uncertainties permeating the market right now, not the least of which is healthcare reform. Will that reform entail a public option that could add $1 trillion to the deficit?  How is reform going to be financed?  And is it going to mean higher costs for employers across the board, or just the healthcare insurers?

Investing is made infinitely more difficult when 18% of U.S. gross domestic product (GDP) is hanging in the balance.

And you still have to consider:

• That unemployment is likely to keep rising, perhaps over 10%.
• That the U.S. Federal Reserve’s policy of quantitative easing is slowing down.
• That there is almost certainly a second wave of home foreclosures on top of the current commercial real estate epidemic.
• And that retail sales are still a long way from recovery.

There is also reason to believe that the U.S. dollar will continue to be weak, though it probably won’t sell off precipitously.

The U.S. dollar has weekend against the Euro lately, having fallen 0.8% Friday.  Technically speaking the chart shows a traditional “cup and handle” formation that could lead to an acceleration of the dollar’s downward trend.  Gold prices, up about 13% Friday, confirm this trend and could soon break through the $1000/oz resistance.

Fundamentally, if the economy – encumbered by high unemployment and a relapse of the housing market – does not pick up the dollar could be further imperiled.

Weakness in the dollar will also be affected by the Fed’s withdrawal of liquidity, which is likely to proceed at a gradual pace.

Finally, diversification away from the dollar among the world’s central banks is taking place, albeit at a slower pace than many analysts have suggested, and that too, is weakening the dollar.

Let’s concede that there is no currency that could supplant the dollar as the world’s major reserve currency. So, it’s unlikely that the world’s central banks will simply abandon the dollar anytime soon. However, we must also acknowledge that a reduction in the weightings of the U.S. dollar within central bank reserves is already underway.

An Aug. 14 article by BNP Paribas currency strategist Ian Stannard in Euromoney recently described this gradual shift in currency reserves.  The article noted that only 62.5% of global currency reserves are in U.S. dollars, down from about 66% in 2005.

So I do not anticipate a sudden shift in central bank reserves, but rather a continuation of the measured restructuring we’ve seen so far. Thus, the slow weakening trend in the U.S. dollar is likely to continue.

So, in this very uncertain investment scenario, I prefer to go for more secure returns in bonds.  And we can achieve great diversification at a cheap cost with the iShares iBoxx $ Investment Grade Corporate Bond Fund (NYSE: LQD).

For starters, its weighted average coupon of 6.26% offers a current yield slightly north of 6% at today’s prices.  Investors are assuming interest rate risk, which means that if interest rates climb, the value of the bond has to come down.  But in the short term, there is no immediate threat of inflation.

Looking at the major holdings of the fund – which has no single position that accounts for more than 1.26% of its total holdings – I see some names that have demonstrated continued stability and others that have shown recent signs of improvement, such as American Express Co. (NYSE: AXP).  So I do not expect any major credit spread hiccup here.  I certainly do not see any hiccup that a 6.26% coupon would not compensate for.

For an additional hedge against dollar weakness, I suggest you revisit my June 8 recommendation of the iShares SPDR Gold Trust ETF (NYSE: GLD). You may also consider buying a bit of the PowerShares DB US Dollar Index Bearish (NYSE: UDN) fund.  Do not go overboard. Err on being light, rather than heavy on hedging, since timing currency moves is very difficult.

Recommendation: buy iShares iBoxx $ Investment Grade Corporate Bond Fund (NYSE: LQD) at market.  Consider hedging part of the US dollar risk by buying the iShares SPDR Gold Trust ETF (NYSE: GLD) and PowerShares DB US Dollar Index Bearish (NYSE: UDN). Both funds should account for a fraction of your position.  Have a 5% stop loss on UDN (**).

Source: Buy, Sell or Hold: The iShares iBoxx $ Investment Grade Corporate Bond Fund

• The Conference Board’s index of consumer confidence jumped to 54.9 in May, up from a revised 40.8 in April. The leap marks the biggest one-month gain since April 2003, and was set in motion by tighter credit and oversupply of homes pushing down prices, Reuters reported.

• Hong Kong’s government will inject another HK$16.8 billion ($2.2 billion) into the economy via tax cuts, fee waivers and spending, Bloomberg reported. Added to previous stimulus measures, Hong Kong’s government has pumped HK$87.6 billion, or 5.2% of the country’s gross domestic product, into the economy.

• Virgin Atlantic said its annual profits nearly doubled, but gave a grim assessment the current fiscal year. “We have not seen conditions as tough as this, and we do not see any signs of recovery … for airlines to make a profit this year is almost impossible,” Chief Executive Steve Ridgeway told Reuters. “The key now is to slow down capital expenditure and preserve cash.”

• South Africa has slipped into its first recession in 17 years, as its gross domestic product fell an annualized 6.4% in the first quarter. Manufactures and miners have been scaling back output and letting workers go, as a result of tightening global demand, Bloomberg reported.

• Sonia Sotomayor, President Barack Obama’s nominee for the U.S. Supreme Court, does not appear to be either particularly liberal or conservative on business issues, but four of her rulings have been overturned by the high court, according to legal experts interviewed by Reuters. Sotomayor has a lengthy record of rulings in business cases as a federal judge in New York, but her rulings appear to present a patchwork of decisions based more on the merits and facts of the cases than an ideological approach to the law, the experts said.

• Hedge funds are making big bets that commodity prices will rise as the global economy rebounds from its steepest slump since World War II, according to Bloomberg. An index of the net long positions in U.S. commodity futures held by hedge funds and other large speculators rose to a nine-month high. The index consists of 20 raw materials and is monitored by the U.S. Commodity Futures Trading Commission.

• General Motors Corp. (NYSE: GM) received approval from its Canadian Auto Workers union to freeze pension payments until 2015 and cut new hires’ pay to protect jobs, as it works on labor agreements to help speed its exit from a probable bankruptcy, Bloomberg reported. The union, representing about 9,000 hourly employees, ratified the accord yesterday (Tuesday) with 86% of the vote. The United Auto Workers (UAW) presented a tentative U.S. contract to plant-level leaders in Detroit yesterday as well.

• A Russian Internet investment firm has invested $200 million in Facebook, as the social networking site builds a cash buffer.  The investment by Digital Sky Technologies, which has invested in leading Russian web properties like Mail.ru and Vkontakte.ru, values the social networking site at $10 billion.  The Russian company took a 1.96% stake in Facebook in preferred stock in exchange for its investment, Reuters reported.

Source: Investment News Briefs Wednesday May 27, 2009

Unfortunately, there’s one sobering conclusion many investors have so far failed to reach: With grossly over-stimulative monetary and fiscal policies at play, most countries will find it very difficult to recover.

Fortunately, a few well-run countries avoided the fallout from the U.S. housing debacle – as well as the fiscal-and-monetary-stimulus mess that followed. And although they have been badly stung by the slump in world trade, these countries are poised to recover with a satisfying bounce.

One such country is Taiwan, and global markets may be just starting to realize this.

A Backgrounder on a Potential Winner

Because its banks were not active in the United States, Taiwan didn’t suffer directly from the collapse in the U.S. housing market. Taiwan also has not suffered from the typical money-tightening consequence of the financial crisis in the world’s emerging markets; it has no need of foreign bank credit, since it consistently runs a payments surplus and has $300 billion in currency reserves.

However, like all the East Asian countries involved in the supply chain to U.S. consumers, Taiwan did suffer a huge decline in exports in the first three months of 2009; its exports dropped more than 35% in the first quarter – less severe than Japan’s drop, but more than those in Korea and China.

I wrote on this some weeks ago, guessing that the export problem was not fundamental, but simply due to United States de-stocking and the difficulties of obtaining trade finance.

The first-quarter U.S. gross domestic product (GDP) figures published April 29 show that this supposition was correct. U.S. inventories dropped a huge $109 billion; the drop in inventories was by itself responsible for 46% of the 6.1% annual rate of decline in U.S. GDP.

Taiwan’s trade figures for March were already improving somewhat, suggesting that this problem might be alleviating. Recent statements by the major Taiwanese semiconductor companies – firms that are intimately involved in the East Asia/U.S. supply chain – confirm that this transformation is, indeed, taking place. Thus, the Taiwanese economy is likely to at least experience a short-term bounce.

Taiwan’s prospects for sustained recovery are better than many Western countries, because its leadership didn’t panic and jump into the fiscal and monetary policies that are almost certain to cause long-term damage in the countries where leaders opted for such strategies.

In fact, the panel of forecasters from The Economist predicted that Taiwan’s fiscal deficit to be only 5% of GDP for the current fiscal year – less than half the deficit projected for the United States and Great Britain, for example. Its short-term interest rates are below 1%, but it currently has no inflation. And the Taiwanese dollar has declined by 10% against the U.S. dollar since September, making Taiwanese exports more competitive.

The Economist panel expects the Taiwanese economy to shrink by 6.5% in 2009, but that is certainly far too conservative, given the signs of export recovery.

Profiting from the “Other” China

Investors have always worried about Taiwan’s relations with The People’s Republic of China, which claims it as part of the mainland country. However, since the election of the Kuomintang president Ma Ying-jeou last year, relations between Taiwan and Mainland China have improved markedly.

Investors who are aware of Taiwan’s potential have long labeled it as “The Other China.”

On Thursday, China Mobile Ltd. (NYSE ADR: CHL) – China’s largest cellular telephone company – announced plans to invest in Taiwan’s Far EasTone Telecommunications Co. Ltd., a first for Chinese investment in Taiwan (Taiwan has huge investments in China), suggesting that trade relations are no longer cool – but are, in fact, warm.

Three possible avenues into Taiwan seem attractive:

• The Taiwanese exchange-traded fund (ETF).
• And the two largest producers of semiconductors, an industry central to Taiwan’s growth that should benefit from the recent weakness in the Taiwan dollar. In this context, it is notable that the SEMI book-to-bill ratio for the U.S. semiconductor increased sharply in March to 0.61, with the three-month average of orders up 9%. That’s still not a strong number, but it’s moving in the right direction, and matches recent optimism from Taiwan’s manufacturers.

Let’s look at these three Taiwan profit plays:

The iShares MSCI Taiwan Index ETF (NYSE: EWT) is clearly an efficient way to invest in Taiwan; it has risen recently, but is currently trading at a reasonable 13 times earnings.

Taiwan Semiconductor Manufacturing Co. Ltd. (NYSE ADR: TSM) is Taiwan’s largest semiconductor manufacturer. It just reported a tiny first quarter profit on a 54% decrease in sales, but said that its order book was very strong and noted that it expected a sharp rebound in sales and earnings in the second half of 2009.

United Microelectronics Corp. (NYSE ADR: UMC) reported a loss for the first quarter, but just invested $285 million to acquire Chinese semiconductor manufacturer HeJian Technology (Suzhou) Co. Ltd., giving it a substantial foothold in that rapidly growing market. UMC expects a profit in the second quarter and rapid recovery thereafter; it has a strong balance sheet and its free cash flow was positive even in the loss-making first quarter.

Source: Three Ways to Profit As Taiwan Rebounds From the Financial Crisis

For instance, a 5% to 6% contraction in first quarter gross domestic product (GDP) will look decent vs. the wrenching 6.3% decline the U.S. economy experienced in the fourth quarter. Mix in some still weak – but improving – corporate earnings season and there may be reason to hope that U.S. President Barack Obama’s prediction of an economic rebound in 2010 may not be off target after all.

Eddie Cohen, a market historian who is chief investment officer for Stavis & Cohen Financial, a Houston-Texas financial-management firm, points out that the U.S. stock market has endured three protracted bear markets since 1900 (1906-1921, 1929-1942 and 1966-1982) and sees evidence that the United States may be ensconced on one of those periods again.

While Cohen sees some positive indicators, he continues to advise that caution (or even cautious optimism) be the order of the day.

“Plenty of questions still need to be answered before we can proclaim an end to the bearishness and a definitive market recovery,” Cohen said. “At least, we have started to see some rays of sunshine on the horizon, and that is encouraging.  Still, this environment is not the time to be a hero.”

But there are three significant wildcards at play here that could keep the market from sinking into an even deeper malaise – and that could, in fact, be a catalyst for higher stock prices and perhaps even an improved economy in the months to come. Those three wildcards include:

• There’s an estimated $4 trillion in cash in investors’ hands on the sidelines – capital that could be drawn in to further pump up the markets, should the recent rally continue.
• The federal government has already committed to funding $11.6 trillion in stimulus initiatives, and the sheer magnitude of that government intervention could play a substantial role in determining just how long this downturn lasts – or how quickly it ends.
• Stocks are, in many cases, currently trading at levels not seen since the late 1990s, meaning the market is dangling bargains too enticing to ignore.

Cohen believes that investors need to remain cautious and to understand that market sentiment can literally turn on a dime, especially if the volatility levels remain high [there's some evidence that volatility has diminished somewhat in the past week, and is currently below what is usually expected for the start of the corporate earnings cycle]. However, the Texas investment advisor also foresees some potentially positive developments on the horizon and believes that patient long-term investors who are willing to ride out the short-term volatility may want to commit some money to stocks in profit from these low valuations.

Given that there is “an estimated $4 trillion in cash on the sidelines right now … as investors become more confident, some of these funds could potentially find their way into equities and help drive the markets higher,” Cohen said.

The Quarter That Was

When 2008 came to a close, investors hoped the nightmare had ended and some normalcy would return to the economy and the markets. It was not to be. During the first three months of the New Year, a $787 billion stimulus package, multiple blueprints for rescuing the nation’s banking system and a honeymoon period for a new presidential administration that was one of the shortest in U.S. history made it very clear that the nation’s economic nightmare was continuing.

Much of the data portrayed an economy in decline despite the promises by U.S. Federal Reserve Chairman Ben S. Bernanke’s that better times were coming. The U.S. Commerce Department initially reported that fourth-quarter GDP was down 3.8%, its worst showing in 27 years, though not as bad as many economists had projected. A few months later, however, Commerce Department analysts revised that statistic downward to 6.3% and confirmed that the recession had worsened.

Jobless statistics became the barometer for the nation’s declining economic health, as company after company announced major cutbacks. On Jan. 26 – in a single day so bad that it was labeled as “Black Monday” – about 75,000 jobs were eliminated ad the likes of Caterpillar Inc. (CAT), Sprint Nextel Corp. (S), Home Depot Inc. (HD), Texas Instruments Inc. (TXN), General Motors and others announced major job cuts. Even before that dark Monday, there had already been 170,000 job cuts announced that month – and that’s after a 2008 that saw the recession claim 2.6 million jobs.

“Some of the worst job losses are ahead of us, not behind us,” Wells Fargo & Co. (WFC) senior economist Scott Anderson told USA Today at the time.

One-time global giant Citigroup Inc. (C) fell briefly into penny stock territory and came within a heartbeat of nationalization as the U.S. government finally opted to inject more money into the former financial-sector stalwart. A late-quarter restructuring plan seemed to better position Citi.

Nor did the trouble stop with the banks. Two of the U.S. Big Three automakers – General Motors Corp. (GM) and Chrysler LLC – moved closer to bankruptcy as the government rejected the American carmakers’ plans for reorganizing. Indeed, the Obama administration even “suggested” GM’s CEO pursue other endeavors, and laid down serious guidelines regarding future intervention. Even so, bankruptcy may be unavoidable.

But then a funny thing happened on the way to Great Depression II. Citi, Bank of America Corp. (BAC) and JPMorgan Chase & Co. (JPM) each announced promising results for the first two months of the year, surprising investors and igniting a late-quarter stock market rally. In an interesting parallel development, a “surprise” announcement by Wells Fargo & Co. (WFC) last week added fuel to that already-existing rally in financial-sector stocks, and in the market in general.

Some confidence returned to the boardroom – at least within the healthcare sector – as major deals involving Merck & Co. Inc. (MRK) and Schering-Plough Corp. (SGP) ($41.1 billion) and Roche Holding AG (ADR: RHHBY) and Genentech Inc. (DNA) ($46.8 billion) moved forward.

Electronics retailing giant Best Buy Co. Inc. (BBY) reported better-than-expected profits as consumer activity suddenly picked up (at least, above the dismal levels of the fourth quarter). The credit markets began to thaw a bit as corporations issued new debt and the U.S. Federal Reserve offered up a plan to buy U.S. Treasuries as a way of keeping interest rates low.

Though the Dow Jones Industrial Average declined 13.3% for the quarter, March was its best-performing month since October 2002. The tech-heavy Nasdaq Composite Index declined 3.07%, but enjoyed a March that was actually its best month ever. The Standard & Poor’s 500 Index declined 11.67%.

Some of the late-quarter economic reports seem to reflect this brighter outlook. In manufacturing, for instance, factories continued to struggle as industrial production fell to the lowest level in almost seven years, though a favorable durable goods report offered some optimism as the first quarter came to a close.

Home sales likewise offered some cause for optimism, rising in February as buyers took advantage of low rates and a tax-break for first-time homeowners. Retail sales statistics were a bit better than expected – especially after removing dismal auto sales from the mix. And inflation – a much-feared foe with the level of government spending that’s taking place – remained well under control, even as talk of deflation also seemed to subside.

Stocks continued their strong run, even after the quarter closed. Since then, in fact, the Dow has rallied 6%, the S&P 8% and the Nasdaq 8%.

Sound Strategies to Follow No Matter Which Way the Market Moves

Nat Levy, a principal with Houston-based McNeil, Levy & Friedman LP, is a five-decade veteran of the financial-services sector, and has seen his share of uncertainty. In the near term, it rarely pays to prognosticate – so he doesn’t.

“I am unable to predict short-term market or economic movements and don’t know of anyone who can do more than guess at this,” Levy says.

Even so, at a time when many investors are talking about “new rules,” or “new realities,” Levy says it pays to stay the course.

The one prediction he will offer is that some investors will look back on miscues they made today with more than a little regret.

“Right now, we find ourselves in one of those “if only I had…’ periods,” said Levy.  “My one educated guess is that in five years from now we’ll look back and think “If only I had invested in this; if only I had remained invested in that, etc.’.”

Stavis & Cohen Financial’s Cohen points to the usual suspects like automakers and banks as industries that continue to face considerable challenges in the periods ahead.  While he sees signs of renewed housing activity in terms of new and existing home sales, he acknowledges that prices continue to fall each month, foreclosures are increasing, and the newly laid-off workers could exacerbate those trends.

Cohen – like Money Morning – believes that commercial real estate may be the next shoe to drop; vacancies are increasing, rents are under pressure, and banks may not be willing to loan large sums of money to related companies looking to refinance.

Because inflation could become a problem, Cohen says investors should have some exposure to gold in today’s environment.

“The unprecedented level of government intervention has added significant liquidity to the marketplace, but, ultimately may lead to higher levels of inflation,” he said. “Gold can serve as a potential hedge against such price pressures.  Additionally, as the country’s debt and deficit positions mount, the dollar could remain under pressure and gold can be viewed as an insurance policy against a weak currency and the uncertain times faced today and in the future.”

Cohen states that investors can invest in gold directly by purchasing bullion or through funds or exchange-traded funds – one being the SPDR Gold Shares exchange-traded fund, or ETF, (GLD) that track the price movements of the so-called “yellow metal.” His firm uses a manager who buys bullions and stores it in a vault, which he says gives his firm’s clients the opportunity to access a product whose price moves more in lockstep with the market price of gold, and is even more cost effective than gold funds or ETFs.

In terms of stocks, Cohen believes investors should consider small-cap shares.

“Historically, coming out of recessionary times, small-caps are among the best performing equity asset classes,” he says. “Granted, many of these companies may have struggled during the dire economic times as investors shun anything other than industry leaders. Now may represent a decent time for cautiously optimistic investors to again look at small-cap companies, particularly when combined with some exposure to gold as a hedge against renewed downside pressures on stocks.”

Cohen recognizes that the newly enacted government programs could prove helpful in jump-starting the U.S. economy – which should enable the recent upward move in stock prices to continue. In particular, he sees some successes in the Fed’s attempts to get corporations and municipalities borrowing again.

“The credit markets definitely are showing signs of life,” said Cohen. “In the first quarter, domestic companies issued over $350 billion in new investment-grade paper and interest rate spreads between [corporate bonds] and Treasuries are coming down. Likewise, according to Lipper, investment-grade [municipal bonds] were up 4% to 5% in the first quarter and investor demand for such offerings seems to be on the rise. In fact, the state of California moved up a recent sale of $4 billion in bonds by a day to accommodate the demand for what turned out to be one of the largest tax-exempt offerings since 2007.”

Mortgage-market distress could also create some investment opportunities for investors who do their homework, Cohen says.

“I am a firm believer that challenges create opportunities, and no products have experienced more significant challenges over the past few years than mortgage-related securities,” said Cohen. “Amid the subprime debacle and related credit crisis, all mortgage products have struggled and even the higher-quality paper is being priced as if it is a toxic asset. We use a fixed-income manager who has been buying up more stable mortgage-backed issues at what he perceives to be tremendous values because of the negativity that has enveloped the entire asset class.”

A market historian to the end, Cohen likes to return to what he knows best when attempting to analyze just where he believes the markets will head next.

“Dating back to 2000 through mid-March, the equity market lost about 3% in value, so history may suggest we are about halfway through what some would call a secular bear market,” Cohen said. “During such times, it is quite common to experience periods when markets really take off. In fact, during the last few weeks in March, equities rose over 20% and some investors have pointed to that move as evidence that the market had bottomed and the turnaround had begun. In reality, since October 2007, we have seen six rallies of various magnitudes.”

Source: After a Tough First Quarter, Investors Have Cause For Cautious Optimism

[Editor's Note: This look at the U.S. economy and stock market is the latest installment in a series of Money Morning quarterly reports that will examine such topics as gold, housing and oil. These reports will now be a regular feature at the end of each quarter.]

The U.S. recession is now in its 15th month, and many economists now expect the downturn to last until 2010 – if not longer. In fact, some economists now say the U.S. malaise could easily evolve into the virulent “L-shaped” downturn that Hutchinson predicted – a development that would guarantee both the maximum pain and the slowest recovery, experts say.

“I said in December that the recession could be ‘bloody-L shaped.’ With the huge deficits, that now looks the most likely outcome – and believe me when I say that it will be very bloody,” Hutchinson said this week. “The economy will bottom quite soon, but every time it tries to emerge the drags of the federal deficit, the huge bank bailouts and the huge money creation will drag it back.”

Noted Hutchinson: “It won’t get all that much deeper – it’s not 1929-33 – but my estimated emergence date is about 2013. The economy will remain essentially flat till then, although wobbles may make [it look like a “W-shaped” recovery] –until you realize there are more than two bends in the ‘W’.”

Nouriel Roubini, the professor with York University’s Stern School of Business who predicted the current financial and economic crises, wrote in the March 1 edition of The New York Times that the recession could last a total of 36 months. The U.S. slump – instead of following a typical “U” shaped rebound – “may turn into a more virulent L-shaped near depression,” he wrote.

Reports Keep Getting Worse

U.S. gross domestic product (GDP) contracted at a 6.2% annual pace in the fourth quarter of 2008, the U.S. Commerce Department reported Feb. 27. That’s the biggest drop since 1982, and was far more than analysts had anticipated, Money Morning reported.

The government had earlier estimated the drop in fourth-quarter GDP at 3.8%.  The subsequent revision of 2.4 percentage points was almost five times as large as the average adjustment. Global trade, which contributed a 0.1% gain in the advance report, actually subtracted half a percentage point from growth last quarter, indicative of the truly worldwide nature of the current financial crisis.

“Most of the major components contributed to the much larger decrease in real GDP in the fourth quarter than in the third,” the Commerce Department said. “The largest contributors were a downturn in exports and a much larger decrease in equipment and software.”

The U.S. economy lost 651,000 jobs in February, the fourth month in a row where job losses were right around the 600,000 mark. The unemployment rate rocketed to 8.1%, its highest level in more than 25 years. The U.S. economy has now shed 4.4 million jobs since the recession began in December 2007, with more than half coming in the last four months.

Thanks to a seemingly unending stream of bad news or disappointing economic reports, the Standard & Poor’s 500 Index has sold off sharply and trades at or near 12-year lows.

“This is what falling off a cliff looks like,” Lawrence Mishel, president of the Economic Policy Institute, told MarketWatch.com. [For a complete analysis of the February employment report, check out this story, which appears elsewhere in today’s issue of Money Morning].

Optimism in Short Supply

Because the U.S. economic landscape is so dour right now, economists say there could easily be another two to four years of malaise.

“I find it quite easy to imagine two consecutive years of contraction,” Harvard University financial historian Niall Ferguson, a financial historian at Harvard University, said in one of 11 assessments by economists that appeared in The Times. “I don’t rule out two more lean years after that,” he said. Bloomberg News summarized the assessments in an article last week.

Although the burst of the housing bubble, the U.S. financial system morass, global trade problems and soaring joblessness are all key contributors, the drop-off in consumer spending is the key culprit, since it accounts for 70% of the country’s economic activity.

Because U.S. consumers are in such bad shape financially – and are obviously both angry and scared – any “whiffs of growth [this year] are likely to herald a false dawn,” Morgan Stanley Asia (MS) Chairman Stephen Roach told The Times, noting that he doesn’t expect to see the economy begin to actually expand again until late 2010 or early 2011.

And when the recovery does begin, it will likely be weak – if not downright anemic.

For one thing, history shows that – after a severe banking crises – an economic system typically takes as long as four years to return to its prior personal income peak, says University of Maryland Economist Carmen Reinhart, an economist at the University of Maryland.

George Cooper, author of “The Origin of Financial Crises: Central Banks, Credit Bubbles and the Efficient Market Fallacy,” said that while the recession – as technically defined – could be over by the end of 2010, “the broader credit cycle will likely remain a significant drag on economic activity well into the next decade.”

Some Bright Spots?

There are some optimists – including former U.S. Federal Reserve insiders Alan Blinder and William Poole. Both Blinder, the former central bank vice chairman, and Poole, the former president of the St. Louis Fed, are both on record predicting an upturn in the economy late this year.

Blinder, a Princeton University economics professor, said that “housing must hit bottom at some point,” Bloomberg reported.
When that happens, house-hunters could come out in droves, said Eric E. Schmidt, the chairman and chief executive officer of search giant Google Inc. (GOOG).

“Americans love a bargain,” so the economy will get a boost from consumers jumping in to take advantage of once-in-a-lifetime buying opportunities, Schmidt said.

James Grant, editor of Grant’s Interest Rate Observer, agrees that falling housing prices will jump-start growth. But he’s just not willing to predict when that will happen.

“Today’s low prices, painful though they may be, are the market’s own shovel-ready stimulus,” Grant wrote in his Times Op-Ed piece. “Before you know it, the stock market, and the residential real-estate market, too, will be on their way back up again — just don’t ask when.”

Source: As Economic Reports Worsen, Experts Predict a Longer Downturn

It no doubt reflects a fault in my makeup that I found it not entirely convincing – but then I’m a math major and a former banker.

The speech – which took the place of the State of the Union address since it’s Obama’s first year in office – concentrated almost entirely on economics, and in particular on the financial and economic crisis currently facing the United States. President Obama’s comments were least convincing when they focused on the financial aspects of the crisis.

President Obama’s first mistake was in blaming the entire current situation on Wall Street. That’s attractive, populist rhetoric, but where was the acknowledgement of the U.S. Federal Reserve’s role in the debacle, inflating the money supply 70% faster than gross domestic product (GDP) for more than 13 years, so that asset bubble after asset bubble caused the incentive structures on Wall Street to go haywire?

Where, too, was the (admittedly subsidiary, maybe No. 3 after the feckless Fed and the greedy bankers)  role that Congress played over decades, messing up the housing market by creating unregulated irresponsible government guarantee monopolies in Fannie Mae (FNM) and Freddie Mac (FRE), an extra excrescence that no other advanced economy has found necessary to finance housing?

Bashing bankers is good rollicking stuff for a campaign speech, but it is less appropriate here, when the problems must actually be fixed. This rhetoric actually obscures the reality of the current problem, and diverts attention from the still-dangerous presence of U.S. Federal Reserve Chairman Ben S. Bernanke, whose role in creating the disaster is in danger of being exceeded by his role in perpetuating it. If Bernanke’s current rapid expansion of the money supply leads to violent inflation, as is likely, the crisis will indeed be prolonged for a decade, as Obama claimed was possible without government action.

President Obama’s second inaccuracy on the financial side in last night’s speech was in diagnosis. Lending in the U.S. economy has not seized up. It did seize up for about two months after the September crisis, but even by the end of the year loan growth had resumed, as figures from the major banks show. The commercial paper market has reopened and the investment-quality bond market has run at high volumes since the beginning of January.

Only one major source of “easy money” in past lending markets has disappeared – the securitization business: Almost nobody will now invest in securitization structures, and with good reason. However, as my investigative analysis of the nation’s Top 12 banks last week demonstrated, most of the major U.S. banks are in better shape than we believe, and are actually making money.

Their profitability has been greatly increased by the disappearance of competition from securitization – loan margins at the healthy US Bancorp (USB), for example, increased from 3.7% to 3.9% in the fourth quarter of 2008, and will have increased still further now.

Other than a few huge “zombies,” most banks are now making good money the old-fashioned way, through the interest margin between borrowing and lending rates. They will continue to do so, provided the government doesn’t (as President Obama and U.S. Treasury Secretary Timothy F. Geithner are currently readying to) introduce artificial competition, by inventing new taxpayer-funded vehicles to make consumer loans and drive margins down.

Yes, loans need to remain available for houses, automobiles and other purchases, but there’s no reason why they should not be somewhat more expensive – to rebalance the U.S. economy, the U.S. consumer needs to save more, not borrow more.

As well as being shaky in his knowledge of banking, President Obama is coming to make me question his math. Reducing the budget deficit from 10% of GDP, its level in 2009, to $500 billion, about 3% of GDP by 2013, is a hell of a task. That 7% swing in the budget balance is almost double the largest four-year swing ever achieved since the end of World War II: 3.8% in 1996-2000. Even during the 1990s economic cycle as a whole – a period of exceptional economic good fortune and budget thriftiness – the swing in the eight years from 1992 to 2000 was only 7.1% of GDP.

The problem with trying to tighten fiscal policy so rapidly is the negative “stimulus” effect it would cause. If the U.S. economy does anything in mid-2010 but zoom like a Saturn V rocket roaring off the launch pad, sucking 7% of GDP out of government demand over so short a period is likely to abort the recovery and push the economy back into a depression. Furthermore, Obama intends to do this without raising the taxes by one penny on anybody earning less than $250,000, and while increasing the size of the armed forces, their pensions, and spending more on energy, healthcare and education.

Maybe I’m a grouchy old skeptic, but it doesn’t look to me as if the math adds up.

Look, President Obama is a wonderful speaker, he really is, and he gave quite a performance in his address to Congress last night. As a gnarled old Republican, I’m prepared to admit he’s as good as former President Ronald Reagan, I may even nurse a faint suspicion that he’s better than Ronald Reagan.

But to be a great president, Obama will need to pursue policies that are sufficiently middle of the road so as not to destroy the superb private sector that’s the backbone of the U.S. economy, and that are also cleverly designed to work properly. It’s the math, the economics and the finance, not the language, the arts and the humanities, where there are still doubts.

Source: Despite Great Speech, President Obama Presents Risky Plan

Obama as Prime Mover will have to turn the chaos in America’s housing and mortgage market into harmonious order. Then He has to single-handedly leap a tall legacy of toxic assets in a single bound, freeing up banks to lend by buying all of their dodgy assets.

It’s a big ask. But if anyone can do it, He can. Especially when He’s got America’s credit rating to abuse!

Reordering the financial universe is not cheap. It takes a lot of energy and a lot of matter in the form of new U.S. dollars. Reuters reports that, “Goldman Sachs estimated that it would take on the order of $4 trillion to buy troubled mortgage and consumer debt. That number could shrink if the program were limited to only certain loans or banks, but it could also grow if other asset classes such as commercial real estate loans were included.”

How much is $4 trillion? “At $4 trillion, that would be the equivalent of nearly 1/3 of U.S. gross domestic product. If the government had to fund that amount by issuing additional debt, it would intensify investor concerns about massive supply scaring off demand.”

Yes. You can imagine the world’s main owners of dollar-denominated reserve assets (China, Japan, the Petro states) would be intensely concerned about a $4 trillion increase in dollar denominated debt. But wait a tick…

It’s one thing to say you might need to float as much as $4 trillion in debt to fund your bad bank. It’s another thing to sell that debt? Who will buy it? Even these days, $4 trillion is a lot of capital to loan. Maybe that number has been floated to make a smaller number, say $2 trillion, look small by comparison.

Good news everyone! The Bad Bank is going to cost us half as much as we thought!

If the ‘big bang’ goes off this week, what will it mean for Planet U.S. Dollar? Or Planet Gold? Well, as our friend Steve Belmont in Chicago reported on Friday, gold is moving toward a day of reckoning after trading in a range for the last ten months. It will either break out much higher, Steve says, or buckle. We’ll be watching.

Did you notice the obnoxious change in political rhetoric this weekend? You knew Barrack Obama was going to give it to Wall Street, calling executives “shameful” for getting bonuses while their firms received TARP money. Remember, by the way, the TARP money was forced on some firms in an effort to boost confidence in the overall plan.

We normally try to keep a reserved, ironic, and sceptical air when reading the statements of politicians. Most of them are not worth taking seriously. But every once in a while, you get the scent of something so noxious and dangerous that you have to put aside humour and call it what is. Today is one of those days.

Now, the populist shame game is to be expected. That’s not a big deal. What’s more alarming is the bilge and claptrap spilling from Kevin Rudd’s gob and what it may mean for your ability to preserve and create wealth in the coming years.

In The Monthly, Rudd plants a Neo-Marxist flag in the ground of the current debate with the kind of jargon-laden elitist preening that makes academic critics of the free market (who’ve never spent a day in the business world creating value) so nauseating.

Specifically, Rudd writes that, “The time has come, off the back of the current crisis, to proclaim that the great neo-liberal experiment of the past 30 years has failed, that the emperor has no clothes. Neo-liberalism, and the free-market fundamentalism it has produced, has been revealed as little more than personal greed dressed up as an economic philosophy.”

Why not proclaim, since he is apparently in the position to make such proclamations, that the experiment in paper money and the deliberate policy of inflation it implies is theft? It is bureaucratic lust for power and authority disguised as monetary policy? It’s also, at its heart, the belief that one or a few people in government know better than you how you should lead your life.

Leave it to Rudd and the resurgent global Left to use the present crisis as an occasion to expand their political ideology of government power and wealth confiscation. Despite the fall of the Berlin Wall in 1989, Marxism never really went away. It ensconced itself in Western universities and colleges, and in the careerism of the political class, which believes it is entitled to govern by virtue of its intellectual superiority and the moral justness of its anti-market position.

Their strategy, as always, is to control the rhetorical high ground by framing the discussion in populist terms and making an enemy of “greedy capitalists.” Don’t get us wrong. There are plenty of greedy capitalists to go around, or to go to jail. In fact, many more of them would be going out of business if the government would quit propping them up with taxpayer money. This generation of corporate executives shares plenty of blame for playing fast and loose with the corporations they were supposed to be stewards of. They over-levered, over-speculated, and over-paid themselves.

But Rudd is an ignoramus of the lowest order to say that current events somehow negate the last thirty years of globalisation, or three hundred years of economic growth and the division of labour. Tens of millions have been lifted out of poverty. Hundreds of millions have more economic and political freedom than ever before.

These results can only be the product of a system in which risk taking entrepreneurs have access to capital and savings, allocated through competitive markets where firms that deliver real value to consumers thrive and those that don’t fail. That system has worked for 300 years of Western history to create wealth, choice, and opportunity.

Shame on Kevin Rudd for calling that “market fundamentalism”, as if belief in the institutions that create wealth and liberty is akin to the same kind of religious fundamentalism that permits suicide bombing. If there is a more offensive use of rhetoric to equate two vastly different things, we haven’t seen it.

But the Neo-Marxists are back on the march. And they are probably coming for your wages and pension sometime soon. Make no mistake about it. 2009 is the year the Neo-Marxists have been waiting for.

It is their chance to undo all the perceived evils of Thatcher and Reagan. There would be plenty of those to undo, of course, not least the idea that deficit spending is morally permissible. But the real push by the Neo-Marxists is to use the present occasion to expand the scope and reach of government power into your private life, so they can tell you what to do, what to watch, what to eat, what car to drive, and ultimately, what to think or say.

This will be disguised as better more “parental” regulation to achieve more equality and social justice. But behind the false populist outrage and the elevated language of idealism, it’s just another push for government elites to expand their ability to compel you to live the life they think you should lead.

The simple regulatory response to all this is to reduce the amount of leverage available to financial players. Reduce margin lending in shares. Let bankers get back to making prudent loans in the housing market based on what a buyer can actually repay, rather than letting the government subsidise subprime lending because it’s politically desirable.

There are other sensible regulatory responses to the mess. But they will be discarded in favour of grandiose and over-reaching plans to redesign the entire world in some utopian image. A “big bang”? Really. Does that mean they’re going to blow things up and call it a “fix?”

What we’re getting at is that it’s going to be a tremendous challenge to withstand this push in the next few years, mostly because it will have so much popular support from people with no brains who believe in fine sounding speeches and appreciate getting tax rebates/credits/handouts from the government. The first battle in the war on wealth creation is wealth redistribution, whether you like it or not.

It would be more honest if the Left just came out and said something like, “The last ten years have been a huge wealth transfer from the middle class to Wall Street and from the developing world to the developed world. We’re going to try and reverse all that now because we know it’s our best shot in the last thirty years to get some back. So here we come! Open your wallet and shut your mouth!”

Neo-liberalism isn’t the culprit in all this. What does that word even mean? Isn’t Rudd using it because it sounds like Neo-Conservatism? And everyone knows that Neo-conservatism is evil, therefore Neo-Liberalism must be evil too!

The real evil of the last thirty years is the vast expansion of credit in the world that changed personal and corporate incentives. The plunge in the cost of capital-encouraged by governments and Central Banks-set of an orgy of bad risk taking, quietly condoned by regulators and politicians who all benefitted in some way from housing/commodity/trade booms.

But now the credit cycle has turned. The Credit Depression is upon us. And Comrades Rudd and Obama will try and use it for the next great push in the Neo-Marxist dream, one world government with one world currency. More on that tomorrow!

Source: Marxism Marches On

U.S. stocks fell on Friday after news that the economy shrank at its fastest pace in nearly 27 years while downbeat data and earnings reinforced apprehension about the plight of consumers and manufacturers.

Highlighting the slowdown in spending, Procter & Gamble Co , the world’s largest consumer products maker, reported profit that missed expectations and was the latest company to cut its full-year earnings forecast, citing weaker demand.

P&G was the Dow’s biggest drag, down 3.9 percent at $55.95.

U.S. gross domestic product for the fourth quarter fell at a 3.8 percent annual rate but beat analysts’ expectations, providing a short-lived relief rally right after the open. In a bad sign for corporate profits, the report showed stocks of unsold goods rose, compared to drops in recent quarters.

Investors were already fretting over the health of the economy following dismal jobless claims and durable goods data on Thursday and had been expecting a 5.4 percent contraction in GDP, according to a Reuters poll.

“This is one where the headline is clearly better than people were expecting,” said Nigel Gault, chief U.S. economist, Global Insight in Lexington, Massachusetts.

“But underneath, those details do not look healthy and it’s telling us firms were not cutting production as fast as their sales were falling. And that’s a bad sign for what’s going to happen in the first quarter because it says they have got to work off these excess inventories.”

The Dow Jones industrial average was down 81.08 points, or 0.99 percent, at 8,067.93. The Standard & Poor’s 500 Index gave up 9.71 points, or 1.15 percent, at 835.43. The Nasdaq Composite Index was off 14.48 points, or 0.96 percent, to 1,493.36.

The declines threatened to send stocks to their worst January in nearly two decades, with the S&P 500 down 7.2 percent on the year thus far. January performance traditionally serves as a harbinger for stocks for the rest of the year.

Data showed U.S. consumer confidence rose to a four-month high in January but improved less than expected, while Chicago area business activity shrank more severely than anticipated.

Capping off a week of announcements of massive job losses, Caterpillar Inc (CAT) said it was laying off a further 2,110 people, adding to nearly 20,000 jobs the heavy equipment maker slashed on Monday.

Caterpillar was down 3.6 percent at $30.71.

The energy sector was the lone group on the upside on the S&P 500 after results from Chevron and Exxon Mobil topped Wall Street’s expectations.

The oil producers were also the Dow’s biggest lifts, with Chevron up 1.2 percent at $71.46 and Exxon losing 1.2 percent to $77.91.

NEW YORK, Jan 30 (Reuters)

Oil futures rose $2 on Friday after data showed the U.S. economy shrank less than expected in the fourth quarter and after OPEC signalled it may again cut production.

By 1420 GMT, U.S. crude was up $1.34 a barrel at $42.78, after earlier touching $43.44, while London Brent crude had gained $1.70 to $47.10.

“The rally got started on WTI (West Texas Intermediate) when the GDP numbers were released,” Olivier Jakob of consultants Petromatrix said.

Data on Friday showed gross domestic product, which measures total U.S goods and services output, fell 3.8 percent in the fourth quarter, the steepest decline in nearly 27 years. But this was better than the market’s forecast for a 5.4 percent contraction.

Crude was also supported by strong RBOB gasoline and heating oil futures as February refined products contracts approached expiry, a possible workers strike at some U.S. refineries at the weekend, and word that OPEC may act again to cut production.

The producer cartel’s secretary general told Reuters it was willing to cut output further at its meetings in March.

“If the market is unbalanced, yes we will take measures to balance the market,” the Organization of the Petroleum Exporting Countries’ Abdullah al-Badri said at the World Economic Forum in Davos, Switzerland on Friday.

The comments are a strong indication the Organization of the Petroleum Exporting Countries, source of a third of the world’s oil, is willing to go further to stem oil’s $100-a-barrel collapse since June last year.

SHRINKING DEMAND

Oil has fallen nearly 11 percent over the past week but is only down 6.8 percent from December, its smallest monthly percentage fall since June 2008.

On Thursday oil fell 1.7 percent on data showing the U.S. jobless rate rose to a record peak in January, single-family home sales fell in December to their lowest ever and new orders for durable goods tumbled for a fifth straight month.

Shrinking demand for fuel has also contributed to the biggest four-month build-up in U.S. crude stockpiles since 1990.

Asia’s outlook was equally bleak. Data showed Japan’s unemployment at a near three-year high and industrial output in the world’s third-biggest oil consumer plunging a record 10 percent last month.

But traders said a possible strike by 30,000 U.S. refinery workers who threatened on Thursday to shutter more than half of the nation’s oil refining capacity could support crude.

In Britain, energy workers staged unofficial walkouts on Friday when anger over the use of foreign workers at an oil refinery spread to other sites across the country.

Contractors at Total’s Lindsey refinery in eastern England began a protest on Wednesday. The dispute spread on Friday, and hundreds walked out at the Grangemouth oil refinery in Scotland run by Ineos Group.

Total and Ineos have both said production has not been affected.

LONDON, Jan 30 (Reuters)