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Harley Bassman's Model Portfolio For 2011, And Why "It Is Just A Matter Of Time" Before The Fed Creates Inflation
Harley Bassman, who used to head Merrill's RateLab, and who was one of the most erudite sellside voices on rate matters, and doubly so on mortgage issues, and subsequently moved to Merrill's prop side, has kept a low profile recently. Which is why we are happy to present his model portfolio for 2011. Bassman is a firm believer in inflation (synthetic or real), and we for one would pay good money to see the redux of the Rosenberg vs Grant debate in 2011 be Rosenberg vs Bassman. Bassman's conclusion, even though obtained in a circuitous way to our own, is comparable to the Zero Hedge thesis that the Fed will have no choice but to eventually create inflation. "In a nutshell, the FED (with the help of the Govt), is going to
engineer some type of Inflation to reduce the value of both our Private
and Public Debt. Since Inflation is the only solution, it will happen;
it is just a matter of time. Since the entire G-7 is in the same boat,
trading in Euro or Yen is purely a short-term speculation since all
these currencies will be heading south." Where Zero Hedge and Bassman, however, differ, is that we are certain that the Fed will be unable to contain said inflation once it has finally been unleashed, resulting in a complete wipeout of all assets that are directly or indirectly a rate derivative (ref: a very notable reparation paying, post-WW1 central European state), which means all fiat derivatives, leaving only hard assets in the wake.
Bassman's Model Portfolio for 2011
1a) Long "Big Oil" + "Big Pharm" + "Big Tobacco" + etc equities. I am precluded from making naming names, but you know what I like. Mega Cap international stocks with patent and pricing power. P/Es of 13ish (an earnings yield of 7 1/2%) and Dividend of 2 1/2% to 4 1/2%. FED will encourage Retail to reverse out of Bonds and into Stocks.
1b) For "non-stock pickers": Buy the S&P five years Forward at a discount to Spot. Sell Ultra long dated (five to ten year expiry) calls.
2) Buy Brazilian Local Currency Bonds. Yes the "Real" at 1.67 is rich, but the 10 1/2% yield for three to six years will more than offset the Govt's efforts to weaken the Currency. Unlike China or India, Brazil is a "hard asset" country.
3) Buy Russian // Mongolian // Southern Caucus Equities. I want "hard assets", not cheap labor. Yeah, this region is sort of lawless and it is unclear if your legal claim will be upheld. But at some point Russia, etc, will need to bring in Capital and reform is likely. Most importantly, this region is a "negative beta" to the G-7 race to the bottom.
4a) A diverse portfolio of Long-dated Municipal Bonds. You can find a selection of AA bonds in the 10 to 20 year sector that yield 5% or more. Since rates can only rise if the FED is successful in reflating the economy, a higher rate world would tighten Muni ratios. Also, I do not see taxes declining anytime soon. Muni's have a massive negative spread correlation to Treasury rates. Long Muni bonds will simply not sink below 4% on the downside and will start to compress at 5% to 6% on the upside. These "retail" bonds are super sticky at these coupon levels.
4b) Buy Closed-End 35% leveraged Muni Bond funds. Either National or Single State. They trade at a 5% to 8% discount to NAV and sport yields near 6.0%
5) It goes without saying I hate Treasuries, especially 3yrs to 7yrs.
6a) Buy 10yr into 10yr 6.0% swaption payers (puts) at 435bps. This trade is analytically "Positive Carry" for the first three years as 9yr, 8yr and 7Yr payers also struck at 6.0% costs 450bpb, 465bps, and 475bps respectively.
6b) A variation of above: Sell 3y-10y 5.35% payer vs Buy 10y-10y 6.00% pyr for zero cost. This trade is long a 10% delta, so there can be some severe mark-to-market risk. Nonetheless, this trade is a carry monster. Moreover, I do not think we can break T10yr above 4.05% as long as the FED is on hold, which should be sometime into 2012. Pure "roll down" on this package is 175bps for the year and the net delta decays from 10% to 3%.
7) I hate to say it, but I kinda like owning some GOLD. I would execute via either a costless collar trade (buy OTM call vs sell OTM put) or via our famous "Quiet Bull" structure (long call spread funded by short an otm put).
8) And of course, CMM vs CMS for 6 months, now offered at 59 3/4bps
SUMMARY: In a nutshell, the FED (with the help of the Govt), is going to engineer some type of Inflation to reduce the value of both our Private and Public Debt. Since Inflation is the only solution, it will happen; it is just a matter of time. Since the entire G-7 is in the same boat, trading in Euro or Yen is purely a short-term speculation since all these currencies will be heading south. The question is: "When will the non-Western USD/EUR/Yen buyers take actions that will defend their longer-term Purchasing Power ?
If you are reading this note, congrats on having survived the Great Wall Street meltdown. As I have noted, this period is nearly identical the last great Financial Meltdown from 1989 to 1994....and I can assure you, it will end in a similar manner: FED steepens Curve to allow banks to re-cap via carry.
Happy 2011
h/t First Last
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I do not believe that.
Yes, we have a fractional reserve banking system, whereby banks have to only have x amount of capital at inception, and these banks can loan the same dollar they have in capital out 9 times over.
But it is not accurate to say that this means that banks can't suffer losses even with high inflation.
In fact, the same principle of margin and leverage is at work here; whatever is great on margin and leverage in good times is disastrous in bad economic times.
If a bank loans 9 dollars to every one it has in capital, and we get serious, sustained inflation, all loans it has made, using 9 to 1 leverage, including many past loans (but not all, given time-rate and maturity factors) will be impaired! The bank will literally be rendered insolvent unless it is nationalized.
Now, one may want to make the case that all or most banks will be nationalized, and that's how the Federal Reserve will be able to justify allowing or encouraging intense and sustained inflation, but that opens up an entirely different set of problems.
How? Those dollars have the same notational value. It's not like inflation actually makes the units disappear just lessens the units worth. If a bank lends out 100 dollars and gets 100 less valuable dollars back how does that hurt them? Yeah their margins are worse because their costs should be rising, but they can lend into that rising inflation by raising their new rates. After all they have free money from the fed and their own ability to create money, as well as cheap depositor money. So long as the units come back they are golden, the value of the units doesn't matter.
Think on this. The value of the dollar has plummeted since 71. How has the banking system done during that time frame? By your line of reasoning these banks should be bleeding out their asses from the sustained inflation...but they are a huge part of the GDP and making record profits and bonuses.
That is why inflation is INFINITY better for banks then deflation. It's just important that the notational amount gets paid back, they have to be able to keep their own creditors whole in notional terms while they harvest the spread.
Wait.
First, the traditional profit-generating operations of a commercial bank are in lending money to borrowers, at a rate that is higher than what the bank incurs to obtain and/or borrow that same amount.
If that amount is 'notational,' and if the loan does not perform, or if inflation eats away at the loan spread, the loan still is booked as a loss on the ledger, and the bank's credit is impaired, right? In other words, the bank will have to dig into capital reserves to write down the impaired value of that loan.
Second, the banks are not faced with the compounded, and extremely toxic dilemna of seeing assets many are holding go bad/negative in record numbers and for big losses.
So, not would banks lose money, notational or otherwise, on loans they have made, their capital is impaired, their ability to issue new credit and make new loans is hampered, and moreover, their asset side of their ledger is now taking a pounding by losses in actual/real value as the asset-backed paper they hold gets marked down.
I do not understand your argument, to be honest.
Let's stand back here and look at the big picture. If we assume throughout the 20th and 21st centuries that the banks and financial class have been in league with the political class in most nations, or at least in most advanced nations, and that they have exercised effective control over their respective economies and currencies, and that inflation is detrimental to their power and well-being, then why has inflation been not just the rule, but the rule without exception throughout this period, and why have hyperinflations and currency collapses repeatedly hit even fairly advanced nations over and over as well?
You are talking about the roughly 1.25% inflation that has occurred since 1913, right?
I think some analyses have pegged a 1913 dollar as having 3% purchasing power versus a 2010 dollar, or something along those lines.
While I lean Austrian, and do believe it's detrimental to have a fractional reserve banking system which relies upon expansion of the money supply, loan supply and some inflation in order to expand economic activity (as nearly sole means, monetarily, towards that end), we are not discussing 1.25% inflation rate parameters on ZeroHedge. People are openly discussing not only intense inflation, but hyperinflation.
That's entirely different than what even I would admit is an insane reliance on a much more tame inflationary target as official monetary policy, which has ran at between 1% and 3%, on average.
No. Why would they have to write down the loss of purchasing power? I got a degree in accounting and there are no rules for that, none. So is this a secrete special rule that only bank insiders know to force them to take extra loses? Now if they get upside down from what they borrow short and go long on yeah. But since the Volker episode they have kept a lid on rates, inflation be damned.
All they need to do is make sure they are on the right side of the spread. This is easy when one can borrow at 0 or near 0 from the Fed.
No where are they forced to take accounting loses based on inflation. Does not happen. If anything under normal conditions inflation increases the notational value of the collateral, look at the housing bubble. Now they are underwater on that collateral so they need inflation to come in and save them and get that collateral back above where they wrote the loan at. Why do you think the Fed is tossing so much money out there? They need to raise that collateral because now the books look ragged, but they looked great during the highly inflationary bubble.
Deflation here would RUIN them. Lowing asset prices and debt defaults kills them because it forces them to recognize loses and sales of bad assets and they have their own creditors, the depositors.
This is simply not true.
I mean, you're welcome to try and make that case, but I've never heard or read of anyone else claiming that high inflation does anything other than destroy creditors' loans.
If you analyze this simply from a mathematical vantage point; if a loan is made at 7% interest, and it's a 30 year mortgage or even a 7 year auto loan, at 6% interest, and we have a high inflation rate averaging 20% per annum, for 5 years, that loan is going to be a negative asset for the issuing creditor in fairly short order, and this is especially true on an amortized basis, where on the home loan, in particular, the payments for the first many years do not even pay back principal.
I think you are contending that somehow the money the bank or creditor is issuing for the loan is not real, somehow, because it's what you term 'notional.'
Again, even if that were the case, the bank is then loaning money on margin (money it doesn't have, as its capital base is 90% smaller than its loans outstanding), and it will be drowned even more quickly by loan losses, as it lacks the capital to cover the losses.
Your other point that the Federal Reserve will simply give whatever amount of cash to the bank to bail it out reaffirms my statement previously that the banks are being nationalized under that scenario, and I would argue that under this scenario, the banks will collapse anyways, because the nation will. Realpolitik would also work against this, as any politician not pledging to break the back of inflation (and meaning it) wouldn't even have a prayer of being elected, as people are enraged by intense inflation (you may say this happened in Weimar, Germany, and in Argentina and Zimbabwe, and you'd be correct - but again, those are false comparison given the composition and relative importance of magnitudes higher of the U.S. on a relative basis).
Finally, banks are indeed failing, right? Obviously, since the collapse of Lehman & Bear, 'too big to fail' has come into play regarding the largest 5 financial institutions, but the Federal Reserve is not saving many other banks that we've witnessed go down, with many more on the edge of failing as we speak, right?
If the Fed or any entity can just simply flood them with cash and save them with such ease, why aren't they doing so? Why let any of these banks fail? These banks are failing because they have negative capital reserves, which were depleted by sour loans and devalued asset-backed paper.
Ok lets us big but round numbers.
Real Inflation 100% per year.
Interest offered for deposit 10%
Bank offered interest rate 50%
Bank takes in $100 in deposits. Lends out 900. After one year the bank gets 450 from interest and pays out 10. This leaves the bank with 440. Now they are not responsible for accounting for inflation on their books, but lets do it anyway. This leaves the bank with 220 in original purchasing power dollars. The depositor on the other hand has his 100 plus 10, but with inflation that becomes 50 +5 = 55.
In the above example all I see is a bank that makes money even in insane inflation offering a rate below the real rate of interest, and is able to do so by offering the depositor next to nothing.
Now look at the real world, what are depositors getting? That's right next to nothing. What are the banks turning around and lending at? Answer greater then nothing, hell look at Citi and their credit cards. The numbers in the real world are not as extreme. The banks win so long as the rate they pay depositors or can get form the Fed is lower then the rate they loan out at. They can lend out FAR below the real rate of inflation so long as they further undercut the depositor. The depositor has the choice of accepting super low rates or going into the casino and rolling the dice.
As to the banks failing that is because of deflation burst. Inflationary boom leads to deflationary bust. So the Fed had to step in and unleash the money machine to keep inflation going. The deflation forced defaults and collateral destruction which destroys their books. Inflation as can be seen only helps them. The paper turned bad your right. And you know the cure, more inflation. Inflation raises the notational value of those collateral assets. Inflation fixes the holes in their books, remember they account in dollars not some fixed value.
Remember the source of the depositors and assets is not the bank, they get the spread. The problem the bank has is when their paper assets are less then book value. So what does the bank need to fix those assets? Inflation. The whole banking system lives and dies on it.
Trust me at the end of this the dollar will be slag but we will still see the big banks around. They might consolidate into each other and create some unholy super monstrosity but the system will live even if it must destroy the dollar in the process.
Ok lets us big but round numbers.
Real Inflation 100% per year.
Interest offered for deposit 10%
Bank offered interest rate 50%
Bank takes in $100 in deposits. Lends out 900. After one year the bank gets 450 from interest and pays out 10. This leaves the bank with 440. Now they are not responsible for accounting for inflation on their books, but lets do it anyway. This leaves the bank with 220 in original purchasing power dollars. The depositor on the other hand has his 100 plus 10, but with inflation that becomes 50 +5 = 55.
I know you were using large numbers to make things simple, but given such extreme numbers and spreads, no one would want loans, and no one would want to make loans. Further, if inflation is running 100%, interest rates offered on deposits are going to be a hell of a lot higher than 10%, even using today's real spread as an example - and would be closer to 25% if not higher; they were 9% in 1981, and that was with a real inflation rate of about 20%, I believe, or close enough (again, the 30 year Treasury was yielding 20%).
That aside, let's go with your numbers, anyways:
The bank loans $900 on deposits of $100, charges interest of 50% on loans, and pays 10% yield on deposits.
In year one, bank receives $450 in interest, pays out $10 to depositors, and makes a spread of $440, as you said,
But here's the problem; how long of a duration were the loans for? Even on a relatively short term loan of 10 years, the original $900 the bank loaned, with inflation at 100%, what will that $440 be worth when the loan reaches maturity? (hint: the accrued profits/spread the bank made from the $900 in loans in year one will be wiped out and then some).
Year 1: $440 spread.
Year 2: That $440 is worth $220.
Year 3: That $220 is worth $110
Year 4: " " " " $55
Year 5 " " " " $22.50
Year 6: " " " " $12.25
Year 7: " " " " $6.12
Year 8: " " " " $3.06
Year 9: " " " " $1.58
Year 10: " " " " $0.79
Now - go back and add the additional interest component spread/profit in for each of the remaining 9 years above - the bank will still lose money, because the inflation is destroying the FIXED RETURN/ROR the bank is receiving in each and every year.
Year 1: $440 spread.
Year 2: That $440 is worth $220. Add another $440 (or $220) to the pot.
Year 3: That $220 is worth $110 (but we added $220 earlier), so it's $220.
Year 4: " " " " $55 (but we added $110 earlier), so it's $110.
Year 5 " " " " $22.50 (but we added $55 earlier), so it's $77.50.
Year 6: " " " " $12.25 (but we added $22.50 earlier), so it's 39.75.
Year 7: " " " " $6.12 (but we added $12.25 earlier), so it's $18.37.
Year 8: " " " " $3.06 (but we added $6.12 earlier), so it's $9.18.
Year 9: " " " " $1.58 (but we added $3.06 earlier), so it's $4.64.
Year 10: " " " " $0.79 (but we added $1.58 earlier), so it's $2.37.
So, even charging 50% interest on loans, and assuming the loans perform, in a 100% inflation environment, and even assuming a relatively low 10% yield paid on deposits, AND even assuming new loans originated in such an environment, the bank is actually weakening itself, becoming insolvent faster, making new loans. The more money it loans in this environment, the faster it becomes insolvent!
And that's on a relatively short, 10 year loan duration.
Where are you getting insolvent from? Each year it is making money for nothing. Only the depositor is getting hurt here. You keep assuming the bank is the depositor, they are not! They might have some cash they use for this purpose but the main depositor is going to be J6P or govs.
So yeah lets assume we lock the depsoirot and creditor into the 10 year. Run the numbers on that. The bank gets the spread. The bank is not insolvent at all because it makes money every year by picking up the spread. Look the numbers you post have them making a profit each year, and then can use that profit for another venture like making more loans if they want or clearing a bad position. Hell I'll take free money for 10 years, so I gotta assume banks are down with that to.
The only problem they have is with defaults, which is why we have collateral. The problem they have now is collateral is shit. How do you fix shit collateral, inflation. If they crank inflation they fix that problem by fixing the notional amount. The "value" is totally meaningless, it's all about accounting.
The only way banks go insolvent is if their books go bad. That happens with defaults and bad collateral. When are defaults and bad collateral most likely, a deflationary environment. What was going to follow the inflationary boom, the deflationary bust. So that is why the Fed is printing. Do you really think the Fed would thrash the dollar if they thought it would hurt the banks? The only reason they are doing this is to protect the big banks. Like them buying the shit collateral form the banks, to fix their books.
Do the numbers at 10% real inflation (totally reasonable in our world) 5% lending by the bank and 1% for depositors, and it looks almost like the real world. And just like the in real world the banks make the spread. If you say people would not hold money in accounts then explain what they are doing with the money now and the blitz in commodities. We have inflation now and people like old granny are still in cds and savings. The average person is retarded when it comes to inflation, read When Money Dies, and it talks about people just not able to comprehend what was happening.
Because the bank has lost over 93% of the value of its loans outstanding, even with interest accounted for, assuming 100% of the loans perform, over the 10 year run. That puts them into negative territory EVEN IF ONE ASSUMES THAT 90% of the original capital used to make loans was 'notional.'
Add to that the interest it is paying on its deposits, and the bank is in the red, because the yield paid on deposits is rejiggered on a monthly basis, not at 10 year intervals.
None of this even takes into account staffing expenses, adminstrative expenses, regulatory costs, taxes or such, nor, more importantly, defaults on loans, nor losses incurred via other methods.
Value means nothing! The banks are not responsible for value, they are responsible for dollars. If they were responsible for value we would be on a gold standard. Go to your bank and demand the purchasing power of you money plus interest and the bank manager will look at you like you emerged from the Black Lagoon.
If you cannot divorce the idea of value and the notational currency then you'll never see it. But there is no place on the balance sheet for "value" just dollars. They are not responsible for value, they extract value via the spread, that's the point. They make sure they don't get caught with their pants down by inflating and raising collateral via inflation. And you talk about defaults, hello collateral. Collateral is great if it's notional amount is more then the home, look at housing bubble. It only went pear shaped when the collateral price collapsed. So the banks need collateral to go back up in notional terms to cover their books. If housing prices were still going up then the banks would all still be around and everyone would be partying, Dick Fuld would still be a Wall Street hero.
If inflation hurts and kills the banks then why didn't all the banks go tits up in the stagflation of the late 70s? I wasn't alive then but seems to me like they did ok.
Since you are so dead set on banks abhorring inflation despite the evidence to the contrary then explain to my why the banks want deflation (which would blow up their balance sheets BTW) and the Fed is being the bad guy and not giving it to them. After all we should be having deflation now, but the Fed chose otherwise.
Dollar <> value
That is the main thing I'm trying to get across. Dollar <> value. It's a notional term. It's value changes every minute of every day. It's a unit of measure, but a bad one because it constantly shifts. The banks use it on their books. If 1 dollar bought 1 ton or corn or 1 kernel of corn, it doesn't matter on the bank books, it's just there for accounting.
Isn't it relevant and essential to talk about relativity if you are going to talk about value versus nominal amounts?
How many units of labor did a new car cost in 1955, and how many does a new car cost now?....
With all the talk of inflation lately, do Americans spend more or less on food than they did in the 1940s, as a % of their income?
Etc., etc.
I like Ron Paul, as you may be able to tell by my avatar. However, although he may be right that the dollar has lost 93% of its value since 1913, this is a somewhat specious point, isn't it, if in fact, one hour or unit of labor buys the same or more bread or milk or rent as it did in 1913?
Again, these are legitimate economic questions that many people assume they inherently understand, but are more abstract (or at least convoluted) than many realize.
@Shameful
Clap. Clap. Clap... Excellent debate, excellent job, thank you.
Shameful -- I buy your accounting argument perspective and agree that dollar <> value.
However. Banks do have overhead. Their buildings. HVAC. Personnel costs. Office equipment. Vaults. Facilities maintenance. And various of these costs will go up during inflation.
So while your accounting perspective (based on a single year of loans) appears totally correct, the diminishing value of those repaid dollars will not be sufficient to cover the increasing costs. But the reason why the banks survive is -- they don't just loan out for a single year, they loan out every year. And they roll loans over also.
And yes they can survive just fine in inflationary times -- as long as they can keep making new loans. And keep reducing costs. Just like other industries, banks have cut overhead due to computers, ATMs, electronic check payments, etc.
"All they need to do is make sure they are on the right side of the spread. This is easy when one can borrow at 0 or near 0 from the Fed."
Yeah, that's the key. What killed S&Ls was that they borrowed short (savings accounts and demand deposits) and leant long. In inflation, when long rates went up, they had to use funky accounting to avoid marking the assets down. But they could not hide the eroding spread between cost of funds and yield on on long term loans. If they Fed were there to loan them money for nothin' they'd still be around. Effectively, in this case, the Fed is not absorbing the loss either since it is not borrowing the money but creating out of thin air.
Ever hear of a bang-bang valve? They're used in rocket engines -- they pop open and slam shut extremely fast, hence the name bang-bang. By the time the Fed reacts to inflation, pain will already be felt by all, by the time they correct their inevitable over-reaction, we'll be in a deflationary spiral (again!) -- rinse and repeat! :>(
VERY interesting...
So, while you're up, explain to me how ALL OF THESE creditors were within hours or days of going fucking BK in September 2008. Including GS, the squid creditor with all its tentacles.
I already know the answer: the banks aren't really creditors. Most people's understanding of what major banks actually do is laughable and obsolete. this isn't It's a Wonderful Life banking
If that question's addressed to me, I'd respond that there's a vast difference between the TBTF banks and the rest.
Community and even regional banks are failing, with more to come. Their model is based on spreads made on loans that they make to borrowers, and interest paid on deposits. They don't even have access to the Fed's overnight lending facility, as a matter of fact.
Local and regional banks are going belly up because of bad loans made with not enough collateral. Inflation or deflation has little to do with it.
When you let Becky Sue have a six year loan on a 2003 Honda Civic with 125,000 miles on it, AND you're rolling another $1200 from her blown up 1996 Pontiac Sunbird into the note.......
When I built my house I needed 20% down to secure a construction loan. When that was still the standard, banks had some cushion on their balance sheet if I couldn't pay. But now, Becky Sue and John Joe can move in for free. Not only does that leave NO room for inflation/deflation/housing bubble pop values plummet, but Becky and Johnny really don't give a shit about the house in the first place because it didn't take five to ten years of scrimping and saving to move in......
Now, Becky Sue's 2003 Honda Civic blows up with four years to go on the note. The "value" of Becky's house has gone up in the last few years so you roll her two dead cars and a BRAND SPANKIN NEW CAR into one loan and call it a HELOC.......
Fuck the Banks.
Its worth noting that you can have inflation in one class of assets and deflation in another. In 1920s Germany there was actual deflation in realastate and inflation in food, heating etc. At one point a few ounces of gold could have bought a large commercial building. However this time will be different due to energy and resource scarcity, there will be huge inflation in these asset classes. We are peak everything, oil, soil, fish, silver and the list goes on. You cannot print papper without real assets to back it up, in one form or another, be it gold, oil or a strong economy. You could try to back it up with a gun, the US has the largest millitary in the world, but so did the Roman Empire. Theres this song in heavy rotation on mtv or vh1 or what the fuck it is with a dude wanting to be a billionaire so fucking hard, well he doesnt have to wait much longer.
I've been saying for some time here that there is biflation in the US today. There are a few ways of conceptualizing this. One simple way: one bubble bursts (ResRE, still deflating) and another gets inflated (Paper assets notably stocks). That's how the Fed has been operating for the last 30 years. The response to the late 80s early 90s ResRE bust and S&L crisis was a stock market bubble. In the 2000s when the stock bubble burst it was reversed. But that's superficial analysis and what the Fed simplistically (stupidly) believes is how things work. You mentioned global natural resource demand and of course that is something they can't control. But here's a deeper, darker and more powerful problem: 40years of unbridled dollar printing with an ocean of dollars in foreign hands (50% of US public debt). That's feeding the fire and will drive resource prices ever higher. There are other less simplistic ways of conceptualizing the conundrum.
I selfishly hope so.
To be fair and complete in the analysis, you must admit that the world is dramatically different, economically and militarily, and the U.S. role in it is even more different, than Rome was during Roman times.
Failure of the Roman Empire was actually a liberating and stabilizing event for many of the lands that had been sacked by Rome, and there wasn't a dynamic need for a new superpower to immediately enter the fray, commanding respect or at least obedience, from other nation-states.
If the U.S. were to systemically fail, the situation from a global standpoint would be highly destabilizing, and may even lead to catastrophic consequences all over the world. I do not think that it's hyperbole to state the consequences in such a framework.
When high inflation such as in education, food, energy, and healthcare(made possible by government subsidies) lock horns with deflation in housing and cheep Chinese goods, bad things are certain to happen. Chasing bubbles is no way to go through life son. I cheerled the death of both the NASDAQ and housing bubbles as I knew they would pop. The dollar and bond bubbles will be so much fun to watch burst. Get me started on the Chinese housing bubble. 64 million vacant properties, wohoo. I will party like it's 1999 when that pops along with the complete and total economic collapse of the USA.
I believe the complete and total economic collapse of the USA is necessary to fix the unfixable problems we have today.
Muni ideas (4a and 4b) are interesting. I wish there was chapter on each of these ideas so i could get a better grasp on some of the concepts.
Inflating away the debt as an option concerns me that an alternative is to use military power to gain control of hard assets. $120T of oil and such may not be so much to round up?So, how does inflation really manifest itself?
1. Labor rates are under pressure given unemployment in the private sector and budget constraints in public sector (well, maybe not constraints, but they'll try to keep the increases down to avoid the noose)
2. Retailer and other down stream product/service providers are finding it hard to increase prices much given number 1 above (Harry Wanger's booming retail business excluded, of course)
3. The current 22 month asset bonanza still doesn't make anyone whole from 2007 - excluding certain commodities and Harry Wanger's personally selected dream-team asset portfolio - 'smart money' and the boyz are only looking to get even from the spiral of 2007 that caught them by surprise - they won't be spending squat
4. Real estate is in the crapper and we effectively have Zombie banks drooling over a couple of hundred basis points of easy money and hoping this continues for about 5 more years to make a dent in their swiss cheese balance sheets - LOANS? not a chance!
5. CFOs in large companies still have a bunker mentality - notice how there has been little investment except for Harry Wanger's booming super secret/dooper retail business
6. Even the Federalales have probably spent most of their ammo - QE3? QE4? -- nahhh, seems too linear in projection. These guys know better. So far this has been a confuse, distract and strong arm (PDs) game - time isn't on their side
This doesn't feel like an environment conducive to generic commodities and equities...but, that said, WHAT THE F**k DO I KNOW ANYWAY
All your points are well taken and describe the deflation side of the US economy: real incomes, real estate and employment opportunities. In short, the real economy is getting downsized as China and other developing nations grow. But many natural resources are peaked out and in demand everywhere. Plus there's this: since the dollar is still reserve currency all commodities trade in dollars. US trading partners and entities around the world have huge dollar holdings from 4 decades of IUO printing. There's your inflation side of the equation. Both sides are at play and hurting margins.
Agreed. Guess its going to be a game of which force is more overwhelming. Why anyone wants to play the equity card like Harley recommends is beyond me. Equity generated dismal returns during most inflation/hyperinflation scenarios.
We are now witnessing, and unless things reverse course overnight, will continue to witness, margin compressions of almost all businesses (many raw producers of commodities excepted), which will translate into lower eps going forward, and in many cases, with a fundamentally sick underlying economy, where businesses will have to choose between generating revenue even at a loss to survive and hope things turn around vs hiking prices and almost certainly dooming revenue stream as throughputs can't be absorbed by end users, businesses will lose money, possibly long term, or simply close or transition to other models.
Ultimately, if things continue in a highly inflationary environment for a protracted period of time, even commodity producers will take massive hits, and as one example, look at what happened to coffee producers during the great coffee crisis decades ago - yes, even coffee drinkers cut back or cut out coffee. High prices cure high prices, as coffee subsequently crashed.
Some may say "but this won't happen with oil or basic foodstuffs," but I wouldn't take that bet. Humans are innovative and adapt. People do trade down from beef to chicken, they do drive less, they do carpool, they do substitute things, and ultimately, they may even abandon all but the most essential things given a large enough price spike, and even with the most basic things, they figure out how to do with less.
Your last 2 paragraphs are assuming that the inlflation we are currently facing is due to supply/demand when it is not.
We are experiencing monetary driven inflation not industrial based inflation. To elucidate my point, bread in Weimar Germany was not purchased with wheelbarrows of money because the demand for bread was so high, it was because a central banker decided to pull a helicopter Ben and print Germany into prosperity...well, we know how that worked out.
Thats the great thing about it from my perception. This experiment has already been tried and we KNOW how it ends.
But Germany did not have a world reserve currency post WWI.
In fact, Germany had massive and unpayable war reparations imposed upon it, as condition of the treatise to end that war.
Nor did Germany constitute anywhere near the level of global commerce that the U.S. is responsible for.
These comparisons to Weimar and Zimbabwe are fairly ridiculous. I can appreciate dramatic license to demonstrate basic points of finance, but let's admit that this doesn't make the comparison valid or anything other than absurd.
There are a million ways why the U.S. is the furthest thing, and far more central, to modern day global consumption, trade and economic activity than 1,000 Weimar Germanies and Zimbawes, and you can add Argentina in 1981 to that mix, too.
I am not minimizing the stuctural economic and fiscal problems the U.S. faces. However, on the fiscal side, much of the problems reside in future entitlements, and these are by no mean immune from cuts. There's a lot of fat in entitlements and defense, that cutting away would do a great deal in reining in the debt and deficits.
I am minimizing the extremely inaccurate and over-reaching comparisons to Weimar Germany and Zimbabwe that are ignorant, at best, and disingenuous, at worst.
Debt is debt and it doesn't matter if it's from war reparations or if it's from bailing out banks/soveregin nations...the debt was accumulated, more debt than can ever be paid back minus massive money printing.
The fact that the US has the world reserve currency really doesn't mean shit in the broad scope of things. The only difference it really makes is that unlike high prices being exclusive to Germany, this time the higher prices will be on a global scale.
But our debt is approx 100% of GDP, as of now.
If one includes future spending based on entitlement programs and an assumption of fixed military expenditures, then the debt gets into that whacky atmosphere of from anywhere to 56 trillion (David M. Walker) to 200 trillion (Laurence Kotlikoff).
And that's where the battle will be drawn, either by some sort of discipline, or a literal revolution that forces a dramatic paring down (given the rather unpleasantness that would presage a default or a hyperinflationary event): Future entitlement and defense spending, as that's the only way to deal with the debt crisis.
I want to emphasize one thing:
When I stated that these comparisons to Weimar, Zimbabwe & Argentina are fairly ridiculous consider that in 1981, they had a doubling of prices in single days in Argentina, which caused people to literally clear store shelves of all goods, and especially food, as shopkeepers added digits to the prices each hour.
Could that happen here? I guess anything is possible.
As much as I detest Bernanke, and for all the inflation in necessities and malinvestment and rewarding of criminals he has helped foster (and he has), he hasn't brought us even near this brink, yet. Japan is running larger deficits as a % of its GDP than we are, and even they have not endured appeciable inflation, let alone hyperinflation.
Count me as one Bernanke's biggest detractors, though. I despise him.
For all practical purposes I think we are on the same page.
I don't think the FED or any central bank will allow any more defaults, or extended period of deflation.
The only logical conclusion I can come up with is:
-If the economy recovers hard assets will do well
-If the economy weakens, Bernanke prints money, hard assets will do well.
Thats how I've been positioned and with some pairing to hedge.
Jerry McGuire wrote "As long as they favor the financial class, though, the threat is deflation, not inflation, because the financial class is very much opposed to inflation." The problem is that they have figured out how to have it both ways by way of cooking the published CPI. On one hand inflation is rampant in commodities ( sone any food shopping lately?) but the published CPI says "no inflation" wages stay put or go south meanwhile that house you own is going down in value. Looks like the politicos are double agents and no one knows whose side they are on!
Sorry, I just don't see it...they would need to inflate real estate values to solve the problem...that just ain't gonna happen. The stock market is already over inflated. What will inflation do to the bond market? Real estate, he key, is past the tipping point. Sorry kids, this ends one way; very badly.
I know I'm in the deep end and not a good swimmer, but work with me on the following...
Bernank must know there is too much debt and there isn't a good mechanism to get credit (inflation) into the system. Good risks don't know how to (honestly) make the spread on the loan, so they don't want it?
The easy way for the Bernank to toss the money from the helicopter is through a restructuring of mortgage debt. That is why the money goes to the banks and the bad debt to the GSE's. All that housing debt (95% of mortgages plus buying up outstanding) is being piled up in Fan / Fred / FHA. Eventually under the guise of saving the homeowners the homeowners mortgage debt will be cut and subsequently sold back to the banks at a significant loss to the GSE's but will through some accounting miracle show as a gov profit? Great deal for homeowners who now have manageable mortgage debt. Great for banks because they have performing loans again that can renew the MBS game. Great for American economy because credit can start to flow as America can go back to shopping and returns can be made on loans?
Not so good for citizens of America who end up with all the $2T to $5T in "losses" from the hair cut mortgages...this seems massive deflation but a deflation that favors those in power? So long as we owe all the money to ourselves, we can play any game we want, believe in any fairy tale we desire ...as we will for unfunded SS, etc. Monetization will be the new black. Now this is where the inflation will come from???
If the cpi is cooked than its irelevant, the ussr had great stats in 1990, didnt help much. You cant cook the books forever, Bernie Madof can atest to that.
If things look so rosy we should worry, its always that last 5 year plan that fucks things up.
Equities potentially have room to go a lot higher. The Fed explicitly wants this - it solves a lot of problems. yes there are a lot of "value" investors claiming the S&P is overvalued based on Q ratios, historical PEs etc etc. But gace it - in 1999 the market got to truly absurd valuations . It is not absurd now - maybe some stocks are a bit rich, many are not particularly expensive. So a equities bubble could take things up a lot higher as all the "value" types gnash their teeth and wring their hands. Path of least resistance.
only complete idiot could have said that.. cant believe.. hey idiot go to Zimbabwe, ask them is it better???????????
##going to engineer some type of Inflation to reduce the value of bot1h our Private and Public Debt
this notion based on stupid logic that in times of high inflation your income grows in-line w/ high inflation so its eaiser to service/repay nominal debt...
well is this a case? how many people/businesses can say
they're better during high inflation.. inflation is higher cost of something capital/food/commds/etc.. how is it better to pay more for something ?
if it was the case 70x in uSA would have been just fine.. high oil, high inflation ... hey moron how old are you ?
in 20s ?? ask your stupid dad/mom was it good in USA in 70x?
just cant believe people gave this idiot money to run
alx
Why Inflation is inevitable?
A: Currently, there are approximately 100 million taxpayers in the US (those who had some form of tax liability). As of January 1 2011, the calendar year deficit was 1.7 trillion dollars. Take 1.7 trillion / 100 million and you get $ 17,000 / tax payer. And this is ONLY the deficit. Not average expenditure per person. If you add in state & municipalities, that number is probably closer to $ 20,000 deficit / tax payer. Given that the baby boomers are just starting to ramp up entitlements, the current scenario will likely get worse. We are living on borrowed time of sheeple investors who don't realize how dire our predicament actually is. Protect yourself and head for the precious metal exit before it is too late. Only a fool could dream that these numbers are logical or can reasonably be handled by the government.
The real question - and I will quote Hugh Hendry here - is not if the Fed will try to create inflation (of course they're trying) but if the Fed will be successful in doing so, ceteris paribus. After all, the BOJ has tried to create inflation for over 20 years and has failed miserably.
#BOJ has tried to create inflation for over
guys please stop saying 'create inflation'.. does anybody who use this term posess even basic knowledge of economcs ???
WHAT FED WHAT IS 'NOT INFLATION' per se ( they are not that stupid) but PRICING POWER OF CORPORATIONS AKA ability to raise prices to service NOMINAL DEBT accumulated..
thats why they're so fucking afraid of deflation as
no matter what CORPORATIONS do if nominal prices down,, thus unability serve debt...
WHAT FED DONT UNDERSTAND IS 'IT WONT HAPPEN UNLESS NOMINAL INCOME/priceof labor starts grows again... well with all offshorring its not possible..
USA must erect trade barries and bring back all those 20-30$ middle class paying jobs..
basically PEOPLE CANT SERVE DEBT/BUY STUFF not having enough income . period... as long labor policies intact .. outcome same..
alx
@TruthInSunshine
you're smart boy, one of a few here..
you're right &exactly $ CANT LOSE 97% OF PURCHASing POWER cause nominal $ is NOT storage of value .. nominal $$ is just tool of exchange..
so basially IDIOTS WHO SAYS '$ LOST 95% OF VALUE' compare to what ?????????
how much computer cost now and then ? how much drugs cost now and then? how much lifestyle cost now and then ? how much air fare cost now and then ?? how much life expectancy 50 years and 90 years cost now and then ?
#2
PRICE DONT MATTER.. SEEMS THAT SIMPLE CONCEPT TOO HARD TO UNDERSSTAND ... price is relevant only as compared to INCOME ... so what price of car up 10% if income is up up 20%...
alx
Since when have moron central bankers been able to engineer inflation? They are always behind the curve and are idiots. To suggest that can overcome a deflationry suckout is absurd, given the current array of fuckwits governing European and US central banks.
I'm not doing paper anything.
Does Bassman's portfolio assume the USD is still standing?
Cause I have my doubts. The USD is another layer of paper.
Yesterday Hoenig, at one of the Fed Reserve banks, came out in tacit support of a gold standard
Just shows there is an awful lot of concern and doubt among the powers that were.
The best way to stick to China is with a Gold related currency. The West is desperate to devalue their currencies against China, but China won't let them. So, the West devalues against Gold (and by proxy against China) because China has very little Gold. The West has virtually all the Gold.
I keep hearing this over and over. Somebody tell me how the FED creates inflation? They can make all the money they want available to the banks, they can do that any number of different ways. They can keep rates low or force them lower as we've seen.
But so what? This, on its own, won't create inflation. It hasn't so far. What will it do? It will prop up the stock market and make some rich bankers richer.
That won't do it. These guys can only drive one Jaguar at a time. It's not going to come from wage increases. No growth. Nobody's made any serious efforts at a jobs program, and that's not in the FED's jurisdiction anyway.
Like anyone, I understand the need for it re: debt. But how do they do it? I'm tired of reading this all the time without seeing how they can "engineer" inflation. As far as I'm concerned, it's bullshit until it makes sense to me, because the only way I see them doing it is if they pay 8 million people 60 grand a year to dig holes and another 8 million people 60gs to fill holes.
How else?
Somebody give it a shot and explain.