Gut Checked?
Sep 7 2008 - Mike Williams - Weekly Focus
Good Morning:
Early on Friday, I was taping a piece on an unnamed television network. It was for a weekend show that would run several times throughout Saturday and Sunday. As one might expect, after a very ugly Thursday where rally efforts of the last several weeks were snuffed out, and facing a futures pre-market reading showing the major average opening another percent or so down, the questions on the agenda were all focused on the end of the world as we knew it. As we all know by now, that is what all the questions have been focused on for many months. There has been no good news. There has been no good psychology. The spiraling effort that our various watchdogs are now trying to fend off has become a global self-fulfilling prophecy. Likening this to a traffic jam on the interstate as we make our way home each day, once the first car or two slow, you are stuck…like it or not and the delays back up for miles.
This does not mean it is unfixable. Just like that unbearable traffic jam, sapping all of your patience and eating up your valuable time, this crisis will end too. Given the massively negative outlooks and the complete denial of any good readings, recovery is likely to be well-weaved into our framework long before anyone will accept same. In fact, given that this is the worst psychology I have seen from the advisor and investor crown in my entire career, I would argue that the denial of recovery potential, even as it becomes obvious, will take longer than anything we have ever witnessed. Meaning, prices will rally for extended periods of time before anyone climbs on board.
The Questions
Before we get to the real fireworks that were released by the Treasury after hours on Friday, let’s review the questions I was presented with in this interview:
The general thesis was that “real trouble” had finally set in if the global slowdown was causing even crude to melt around its edges. Commodity prices tumbling clearly meant that the global top was in and we were set to suffer through an extended number of years where things would only be bad. In other words, the same press corp. which had bludgeoned us to death with the idea that high crude prices were a death knell for global growth were now suggesting to me that I defend against the idea that lower crude prices must be terrible for us as well!
What Was Missing
At not time, was I asked any of the following questions. Questions I might add that we are more likely o benefit from if we ponder their answers…most of which, by the way, are positive benefits for us all in the future:
I was not asked, “Mike, can you let us know the level of positive impact that the domestic economy will begin to feel in the next 90 days once the $40+ drop in a barrel of crude begins to impact the gas pump and the consumers wallet?”
I was not asked, “Mike, with so many companies having seen their profit margins crushed in recent quarters by the ever-increasing spiral, driven by too many speculative dollars, of commodity input costs of every stripe, can you let our viewers know just how much the latest price collapses of those same commodities will now help those margins increase again?”
I was not asked, “Mike, since the market is looking ahead, is it not likely that even as the bad news festers even deeper into the headlines, the seeds of repaid are already in the works, suggesting that as each piece is remedied and the medicine is digested, 12 to 15 months from now the surprises will be positive and not negative?”
I could go on but you get my point. These are the questions we should be focused upon even as we suffer through the painful reminders every day of the terrible deeds done on Wall Street over the previous 36 months. Yes, I clearly underestimated the time and the extent of the spread. We got a few of the shorter-term elements incorrect. Longer-term however, not only are the pieces moving in our direction but their benefits are likely to be more sizable than we previously thought once they begin to be understood. That is the problem though with seeing around corners….a) you are early and b) you look like an idiot for the last part of the “what’s now” hysteria. I merely remind you that people do not build wealth on what’s now….it is built on “what’s next”.
And Then There Were None
What we had suggested we expect all along has finally come to pass. Paulsen and the Treasury stepped in over the weekend and took over Fannie and Freddie. There will likely be big swings in perception, good and bad, of just how big an effect this will have on the outcome of the real estate, sub-prime and related debt issues that face us all as the real estate collapse plays itself out.
The takeover, in time, will send the following signals out to the rest of the world. Yes, the government is back-stopping over $5 trillion in debt. Before you get in a wrinkle over the astronomical number, please note that this is headline stuff. The reality is that 4 to 5% of the debt, at worst, will never be repaid in full. IF 5% of all mortgages go up in smoke…recall, this is not all mortgages under Fannie and Freddie, then we likely see $250 billion in capital go into work out mode—much like the “bad bank” process of the RTC back in the early 90’s. The workout process is easy…they dump it into investors hands at 4o to 50 cents on the dollar and then investors by that back from the vultures at market price 5 years form now when everyone is off to yet another panic.
That suggests that the government will take a $125 billion hit over the next 3 years or so from the bailout. What you will not see in the press is that this time, Thank the Good Lord above, Paulsen has done it in a way that we (the taxpayers) will actually benefit. It is the equivalent of the largest hedge fund known to mankind, ever, taking over a wounded company and bringing it back to life. We get to participate. Over the next few years, things will get better. The panic in debt markets will subside. Liquidity will return. Banks will lend now that they know they get their money back, PERIOD…end of story. We see an inkling of this in the last data showing long-term mortgage rates are FALLING a half percent in the last two weeks in anticipation of this fix.
The next result? In a few years, the health of Fannie and Freddie will be back up to par and those two entities, in some fashion, will be sent back out into the public. My guess? The government plan, at a minimum, doubles it money in the process. Rest assured that when the final bell rings, you will see nothing of the profits made by these bold and necessary moves to restore confidence.
And Now It’s Ike
Gustav, for the most part, was nothing like what was pounded into our heads for a week. The next week will make Gustav look like a summer shower to any viewer of news as we cover the terrible events of the next “storm of the century”, Ike. This one does look a little worse but there is a long way between it and some shoreline so we do not yet know what it means. I would expect the crude market to use it as an excuse to get some kind of rally moving. This will likely put pressure on the dollar and give commodities a life after the pummeling these markets have taken in recent weeks.
I would not get too alarmed about it. The psychology has shifted and even if you had a massive rally in energy as the storm approaches, it will pass….and crude would be $120 or so….still nearly $30 off its high, only to be faced with the idea that Ike is a storm…and in two weeks it will be gone.
What's Next?
Monday's action should be the first vote on what the world thinks of the greatest bailout of all time. The Treasury's actions over the weekend will be judged 18 ways to Sunday--most of which will only be the negative slant that gets the coverage. Meanwhile, a few years from now, as stated above, we all make money from the debacle as the taxpayers finally profit from a real estate collapse.
The good news? The US Government can afford to be the most patient iinvestor on the planet.
Your Charts This Week
I am on a plane early Monday morning and will be posting the chart set by late Monday for your review. Let me give you the hot spots here in summary:
- ALL major averages are in a severe mode of testing their most recent lows. There is every indication that this will be a frightening situation to chart watchers as the view appears as though things will just fall off a cliff if the tests fail. I suspect they will succeed but I continue to swallow the TUMS as fast as I can. I can see the diet infomercials now, “How You Too Can Lose 20 Pounds on TUMS!”
- The Dollar has stated a significant breakout and has breached a series of resistance points. The UUP, which we have suggested you watch since FEB at its lows, has hit the same levels we stood at last October. Surely this is a major surprise to the world. There is more to come in the long-term, but we should recognize that things do not go straight up or down. As such, the data suggest we should expect a pause here at the October lows as this next band of resistance likely drives a setback in the near-term. I would look for the dollar to gain more energy as the Fannie Mae plan is digested and we begin to see it as a positive for the US economic spirit—here and abroad.
- Gold, after being hammered as the Dollar rallied and crude plummeted is also likely to see some bounce here. It too can have a fairly large rally without fixing the technical damage now done. In all commodities, the story….much like the add, “They have fallen and they can’t get up.” Too many will presume only bad news from this. To the contrary, it is likely good news, not to be understood for several more months, if not longer. The upshot? Lower costs help push a new wind of confidence into companies around the globe. Costs of growth have been reduced…hence, we will get more of it, with patience. The severe tests we have been suffering through have brought about new focus on productivity and cost controls. Every process in the corporate arena has been seized upon with the idea of, “how do we make it better in a world of high input costs?”
- These issues will come together to provide the foundation for the next leg in the global boom. THIS TIME, however, the crowd will understand what Warren Buffett said long ago, “You never know who is swimming naked until the tide goes out…” In the last year, we have all begun to understand which economies were “swimming naked” and as one might have guessed, those were the same economies that most of the crowd has been piling into for the last 24 months in their mutual fund investing.
- As is often the case over the long-term nature of investing….the shunned eventually becomes the favorite.
- That means as we all go through the buzz-saw, the US comes out on top, first.
- Sure, it sounds like the nuttiest thing you ever heard….except the one about how the Dollar will rally…not fall, covered here since the beginning of the year.