Kontent News

Latest News on the commodity supercycle...and the rise of the precious metals, including uranium. Get ready for peak everything, the repricing of the planet and "black swans" all over the place..

Tuesday, June 26, 2007

BIS warns of Great Depression dangers from credit spree

By Ambrose Evans-Pritchard
Last Updated: 9:02am BST 25/06/2007



The Bank for International Settlements, the world's most prestigious financial body, has warned that years of loose monetary policy has fuelled a dangerous credit bubble, leaving the global economy more vulnerable to another 1930s-style slump than generally understood.

"Virtually nobody foresaw the Great Depression of the 1930s, or the crises which affected Japan and Southeast Asia in the early and late 1990s. In fact, each downturn was preceded by a period of non-inflationary growth exuberant enough to lead many commentators to suggest that a 'new era' had arrived", said the bank.

The BIS, the ultimate bank of central bankers, pointed to a confluence a worrying signs, citing mass issuance of new-fangled credit instruments, soaring levels of household debt, extreme appetite for risk shown by investors, and entrenched imbalances in the world currency system.

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"Behind each set of concerns lurks the common factor of highly accommodating financial conditions. Tail events affecting the global economy might at some point have much higher costs than is commonly supposed," it said.

The BIS said China may have repeated the disastrous errors made by Japan in the 1980s when Tokyo let rip with excess liquidity.

"The Chinese economy seems to be demonstrating very similar, disquieting symptoms," it said, citing ballooning credit, an asset boom, and "massive investments" in heavy industry.

Some 40pc of China's state-owned enterprises are loss-making, exposing the banking system to likely stress in a downturn.

It said China's growth was "unstable, unbalance, uncoordinated and unsustainable", borrowing a line from Chinese premier Wen Jiabao

In a thinly-veiled rebuke to the US Federal Reserve, the BIS said central banks were starting to doubt the wisdom of letting asset bubbles build up on the assumption that they could safely be "cleaned up" afterwards - which was more or less the strategy pursued by former Fed chief Alan Greenspan after the dotcom bust.

It said this approach had failed in the US in 1930 and in Japan in 1991 because excess debt and investment build up in the boom years had suffocating effects.

While cutting interest rates in such a crisis may help, it has the effect of transferring wealth from creditors to debtors and "sowing the seeds for more serious problems further ahead."

The bank said it was far from clear whether the US would be able to shrug off the consequences of its latest imbalances, citing a current account deficit running at 6.5pc of GDP, a rise in US external liabilities by over $4 trillion from 2001 to 2005, and an unprecedented drop in the savings rate. "The dollar clearly remains vulnerable to a sudden loss of private sector confidence," it said.

The BIS said last year's record issuance of $470bn in collateralized debt obligations (CDO), and a further $524bn in "synthetic" CDOs had effectively opened the lending taps even further. "Mortgage credit has become more available and on easier terms to borrowers almost everywhere. Only in recent months has the downside become more apparent," it said.

CDO's are bond-like packages of mortgages and other forms of debt. The BIS said banks transfer the exposure to buyers of the securities, giving them little incentive to assess risk or carry out due diligence.

Mergers and takeovers reached $4.1 trillion worldwide last year.

Leveraged buy-outs touched $753bn, with an average debt/cash flow ratio hitting a record 5.4.

"Sooner or later the credit cycle will turn and default rates will begin to rise," said the bank.

"The levels of leverage employed in private equity transactions have raised questions about their longer-term sustainability. The strategy depends on the availability of cheap funding," it said.

That may not last much longer.

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Monday, June 25, 2007

naked capitalism

naked capitalism: "We had wanted to write about the role of models and more important, model assumptions in the ongoing Bear Stearns hedge fund debacle, and Gretchen Morgenson of the New York Times, in her story, 'When Models Misbehave,' provided some useful intelligence.

With all due respect to Morgenson, while she touches on some dimensions of the problem, she doesn't begin to capture how woefully inadequate the risk management and risk modeling processes are that are apparently standard practice on Wall Street for collateralized debt obligations, which has been a rapidly growing market in recent years. And the worst is these shortcomings have been in plain view."

Let's start with Morgenson:

First, marking illiquid securities to a model that makes certain assumptions about their future behavior is not the same thing as marking to an honest-to-goodness market of buyers and sellers...

In worst-case scenarios, such models may reflect the fantasy that a firm’s principals prefer, not the reality of a security’s likely value. And yet, investors and financial firms everywhere are relying heavily on these models and building their balance sheets accordingly — a very dangerous game, especially when it comes to complex pools of securities backed by assets like home loans.

What does this mean in cold, hard cash? On a conference call with clients on Thursday, a Credit Suisse analyst estimated that the markdowns would likely be in the billions of dollars.

That brings us to our second lesson, which is another blinding glimpse of the obvious emerging from this debacle: the rating agencies, which investors rely on to be prescient cops on the beat, are stunningly behind on downgrading mortgage-backed securities and the pools that own them. Do the math: Bear Stearns is paying $3.2 billion to shore up a fund that once had $10 billion in value, according to one investor. That’s 32 cents on the dollar.

THE portfolio wasn’t just made up of toxic stuff, either. While 60 percent of the fund was invested in residential mortgages, 40 percent was in commercial loans. Moreover, 90 percent of the fund consisted of securities with AA or AAA ratings, according to the investor.

Officials at ratings agencies have said in the past that their ratings reflect their estimates of future performance, not market pricing. So the agencies are also marking to model. And that keeps people playing the fantasy game about values, especially in hard-to-analyze collateralized debt obligations that are essentially pools of other asset-backed securities. Some $1 trillion of C.D.O.’s have been issued. (Yep, C.D.O.’s were in the troubled Bear funds.)

“The C.D.O. sector is still extremely rich versus where the underlying collateral is trading,” said Albert Sohn of Credit Suisse on the conference call. “Either subprime has to get richer or C.D.O.’s have to get cheaper.”


I hate to sound like I am picking on Morgenson, who is a fine journalist, but market arcana is not her beat. There is enough wrong with this piece so as to make it somewhat misleading, and almost all of it is in the direction of making the situation sound better than it is.

Morgenson is right that marking to model is problematic, but she only skims the surface of how detached from reality the CDO assumptions, developed by the ratings agencies, are. This post from Minyanville give a much clearer picture:

I asked a large broker firm to send over its smartest math person on Collateralized Debt Obligations (CDO) structuring. I wanted to know what I am missing: why is the market so sanguine in the face of deteriorating collateral values in the mortgage market? One of my firm's theses has been that, as the mortgage market deteriorates, investors holding CDO as an investment would realize losses and this would feed into other risky asset classes. Why aren’t losses being seen when the market is clearly deteriorating?

The team that came over was headed by a very smart gentleman. He was very good at math and very straightforward. Working for a broker I was prepared for some sugar coating. I didn’t get any.

The answer is simple and scary: conflict of interest.

He explained that due to the many layers of today's complicated credit products, the assumptions used to dictate the pricing and outcome of CDO are extremely subjective. The process is so subjective in fact that in order to make the market work an “impartial” pricing mechanism must exist that the entire market relies upon. Enter the credit agencies. They use their models, which are not sensitive to current or expected economic activity, but are based almost entirely on past and current default rates and cash flow to price the risk. This of course raises two issues.

The subprime meltdown, continued | Bearish turns | Economist.com

The subprime meltdown, continued | Bearish turns | Economist.com: "“THEY kept pointing to the juicy yield, but our guys soon saw the paper for what it was: nuclear.” Thus one chief executive, recounting his investment firm's decision to spurn an offer of securities backed by subprime (low-quality) mortgages from Bear Stearns, a large investment bank. The radiation appears to have seeped out at its source, leaving two of Bear's own hedge funds terminally sick. Coming less than two months after UBS, a Swiss bank, closed a fund that had lost over $120m as the subprime market crumbled, the incident is a clear sign that concern is shifting from small, specialist lenders—dozens of which have gone bust—to the supposedly more sophisticated Wall Street firms that package, distribute and trade bonds tied to home loans.

Of the big securities houses, Bear is the most exposed to subprime. So no one was shocked when it announced a 10% fall in underlying profits for the latest quarter. But the fate of its year-old, unfortunately named High-Grade Structured Credit Strategies Enhanced Leverage Fund and its sister fund, the High-Grade Structured Credit Strategies Fund, has raised eyebrows. Run by Ralph Cioffi, an industry veteran, they were thought to be among the shrewdest actors in the mortgage-debt markets. Their downfall suggests that hedging at the highest levels is not as adept as it might be.

The enhanced-leverage fund lost 23% of its value in the first four months of the year as the subprime market collapsed, then stabilised, then fell again. The fund's problems were compounded by its borrowings, which were ten times bigger than its $600m in capital. This made it more vulnerable when things went wrong.

Last week Bear's funds, besieged by disgruntled investors, offloaded securities with a face value of at least $4 billion to free up capital. This fire sale was not enough for one creditor, Merrill Lynch, which seized collateral and threatened to auction it off to cover its losses.

Bear persuaded Merrill to stay its hand by agreeing to negotiate a rescue with a consortium of banks. At one point an injection of $500m in new capital looked possible, with Bear itself offering to lend an additional $1.5 billion. But the plan fell apart. On June 20th Merrill began hawking some of the funds' assets to other hedge funds, while other creditors, such as JP Morgan Chase and Deutsche Bank, worked with Bear to unwind their positions. But there were few buyers for the bank's subprime-backed debt, even the highest-rated paper.

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The six hurdles to successful trading are:

1. Trading for the thrill of it.
2. Trading for revenge.
3. Lack of money management.
4. No well-defined trading plan.
5. Inability to pull the trigger.
6. Inability to admit you’re wrong.

Here’s how to overcome the hurdles, from Trading Commodities and Financial Futures:

Condition Yourself to be Unemotional

If you are trading for the thrill of it, you’ll trade when the conditions favor your methods and you’ll trade when they don’t. Because you are trading emotionally, you will overtrade---the inevitable outcome of thrill trading. You will also overstay your welcome on trades not going your way and this invites disaster. It might work for a time, but there will come a time when it will wipe you out.

Revenge Trading; Another Recipe for Disaster

Has this ever happened to you? You have just been stopped out for a loss, a bigger loss than you had anticipated. Perhaps, it was a ‘gap open’ beyond your stop due to some unexpected news. It is early in the trading day, and you feel you must make it back. The market owes you your money back and it must do so today! Have you ever had this feeling?

Well, I have, and let me tell you when I’m out for revenge, 9 times out of 10 it ends badly. This is because the state of mind is unstable leading to bad decisions. When you get this feeling, force yourself to take a step back and relax. The market will be there for you tomorrow and there are always opportunities.

Preservation of Capital is Your Primary Mission

When you have no money management program, it’s impossible to preserve your stake. Unless you tell yourself you will only risk X percent of your account on any one trade, that one trade that looks so right will inevitably come along and you will overtrade it. Let me share a secret with you; they all look so right. I would not enter a trade unless it looked real good, but it seems there is no way to know in advance which trade is going to be the big winner.

If we knew this then these would be the only ones we would trade. For me, I’ve found it’s a small number of trades that makes my year each year, and many times not the trades I thought would be the big winners. You must preserve your capital, and this means taking small hits on the many and inevitable losers. The goal is to still be in the game when those ‘mega-trades’ finally materialize.

Your Plan Must be Well-Defined

Nobody enters a position expecting it will result in a loss, however it will not come as news that even top traders experience numerous losses. So if the best will lose, why would you be any different? A well-defined plan will define success and failure both.

Ask yourself why are you buying gold? If the answer is something like, ‘because it just broke above the 30 day moving average’, or ‘because the CPI indicates inflation is heating up and in the long run gold is sensitive to inflation’, you have not defined your plan. You have reasons why you entered, but no clear exit strategy.

You are trading on hope and this is not a recipe for success. You must define your loss point before you enter the trade, and if you are not mentally prepared to lose, you’ll never win. It is essential to realize you’ll lose countless battles in this trading war, or the war will never be won. You should have a profit objective. Stop loss points should be written in stone, however profit points can be flexible and you should have contingency plans when your profit objective is reached.

The plan could be nothing more than something like this; ‘I am risking $500 per contract on this trade and my technical profit objective is $1200. If the market moves $500 my way, I move my stop up to an approximate break even and if it moves $900 my way, I move the stop up to approximate a $400 profit. If it reaches my technical objective I watch very closely for signs of failure; if the market shows these signs, I sell at the market, however if it moves through, I tighten my stop to just under the previous low’. This plan may or may not work, but at least it is a plan, and without a plan you’re ultimately doomed to failure.

You Must Act Without Hesitation (if there's good reason to do so)

When you ‘paper trade’ you always take the loss or the profit. In the heat of the battle it is not as easy to pull the trigger.

Remember, you must lose to win in this game. Too many times, even good traders will not take the loss when the planned risk point is reached. It is a human trait not to be able to admit you are wrong, and it is seductive to wait just a bit longer or take just a bit more risk in the hope the market will turn back your way.

In the great majority of cases, this just exacerbates the pain. How do you overcome this shortcoming? Very simple. Place a physical stop loss order with your broker the moment you enter the trade and then just let the “Market Gods” determine your fate. Trust me when I tell you this; you won’t be stopped out of the very best trades.

Condition Yourself to be Humble

You cannot have an ego and be a successful trader. With apologies to Vince Lombardi, winning is not everything, and it is not the only thing. I had a client with an S&P day trading system that made money four out of five trades. The problem was that fifth losing trade more than offset the other four winners. Yet, until he ran out of money, he kept trading it for small profits because it felt good to him.

I have seen numerous clients try to pick tops and bottoms, yet this is an almost impossible task because every major move has just one top and just one bottom. Who cares if any one trade makes money or if you have more losers than winners? The name of this game is not how many winners you have, but making money at the end. Forget about being right on any particular trade and focus on making money!

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Gerard Minack Sydney

Markets continue to be unsettled by the fall-out from sub-prime mortgage market in the US. Wall Street fell on Friday, and there do now appear to be some safe-haven flows, as evidenced by sharp fall in short-end Treasury yields (Exhibit 1). The focus is now on losses at two hedge funds run by Bear Stearns. Here are some comments:

First, some commentaries have compared the Bear Stearns' funds with Long Term Capital Management (LTCM). From my understanding – and here all I have to go on is the wire reports – the two episodes are in a different league. Reports on Bloomberg suggest that the Bear Stearns funds, which specialise in mortgage bonds, have lost as much as 20% of their value. The same reports suggest that the funds had invested US$11 billion, of which $9 billion was borrowed.

Compare those figures to LTCM. Before LTCM ran aground it had equity of around $4¾ billion, which supported borrowing of around $125 billion. In addition, it had off-balance sheet derivative positions of $1¼ trillion. This was an order of magnitude (or two) larger than the capital at risk now.

Second, while LTCM's threatened collapse clearly posed systemic risks, there are no sign of that now. That's in part because the gross exposure seems far smaller. While it's not at all clear what the ultimate losses may be in the specific funds, it seems likely to be smaller than the ultimate losses at LTCM (around $4.6 billion), and smaller than those recorded by, say, Amaranth when it failed last year.

Moving away from the specifics of the Bear Stearns funds, there are a few other points to note about what's happened.

First, it seems that things will get worse before they get better with sub-prime mortgages. As Exhibit 2 shows, a large numbers of ARM resets fall due this year. In addition, house price indicators continue to deteriorate, reducing the prospect of a borrower in trouble being able to sell the home and repay the loan. Refinancing is more difficult now that lending standards have been tightened.

How much of this is in the price of mortgage-related securities is a moot point. Prices on at-risk mortgage products have already reacted (Exhibit 3 – although note that this is weekly data; the sub-prime index apparently finished Friday at new price lows).

Second, part of the concerns with the Bear Stearns' funds relates to the pricing of the more exotic instruments in their portfolio. Because liquidity is low, it's not clear what is a fair market price – or what prices other funds are carrying similar instruments on their books. One concerns is therefore that the forced sale of some of those instruments may establish a low market price, forcing other funds to mark down their asset values. No one, it seems, wants to admit what's becoming increasingly obvious: these have been poor investments.

This highlights two of the problems with the ‘new technology' of debt: first, that in the absence of a transparent market, pricing is difficult (and hence, as Warren Buffet noted, parties on opposing sides of a deal can both assume that they are ‘winners'). Second, liquidity is often an issue.

There is another potential problem with the new world of securitised debt: coordinating creditors becomes an issue. The New York Fed famously brokered a deal with LTCM's principal creditors, and 16 participants injected $3.6 billion to prevent the fund collapsing. Arranging a similar deal now, if ever it were required, in a world of sliced, diced and securitised debt would be far more difficult.

Finally – and importantly – it still seems that investors are ring-fencing the problems in the mortgage market, with broader credit markets remaining well-behaved. Exhibit 4 shows spreads on generic credit default swap spreads.

My view is that the problems in sub-prime are indicative of a bubble that extends through credit markets. Ultimately, many of the problems now appearing in sub-prime – excess borrowing, with low lending standards on tight spreads, the lack of transparency and liquidity in secondary markets – will likewise affect corporate credit. But it remains unclear when.

The closest analogy I can see to the behaviour of credit markets now is in the latter stages of the TMT boom. Although often forgotten, internet stocks caved in through the first half of 1999 (Bloomberg's internet index halved in value). That setback was likewise ring-fenced from the broader bubble, and TMT overall continued to do well. (Full disclosure: the internet index then tripled between August 1999 and March 2000.)

So it may be that the overall credit bubble may persist even as one of its offshoots pops. However, this now needs to be watched closely: to state the obvious, if the problems in sub-prime do start to infect the overall credit universe, it would be very important for investors in debt and equity.

Gerard Minack

Morgan Stanley

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Sunday, June 24, 2007

Black(stone) Friday! Oh Oh, Credit Markets Come Home To Roost!

Market Ticker: "Let's dispense with the silly first - BX (Blackstone) looks to be opening up in the $37 range. That's not awful, but its hardly the huge pop that people were talking about with the oversubscription ratio.

The Dow, S&P and Nasdaq all opened up moderately down. The 10 is up again, opening up 0.7%, which puts us back in the groove on interest rates - going higher. The markets are doing the 'inverse of the 10' deal again this morning; the charts on my 9-pane are interesting; near perfect inverses for the first few minutes, but then they appear to have decoupled a bit. It will be interesting to see how this plays out over the remainder of the day - my guess is that the 'Blackstone fever' has infested traders - at least for a while. Certainly, its all CNBS was talking about for the first half-hour!

As I noted last night, we got the Hindenburg Omen confirmation. Asian markets were down last night; I wonder how much of that was people paying attention and how much was just plain old-fashioned exhaustion."

Black(stone) Friday! Oh Oh, Credit Markets Come Home To Roost!

Let's dispense with the silly first - BX (Blackstone) looks to be opening up in the $37 range. That's not awful, but its hardly the huge pop that people were talking about with the oversubscription ratio.

The Dow, S&P and Nasdaq all opened up moderately down. The 10 is up again, opening up 0.7%, which puts us back in the groove on interest rates - going higher. The markets are doing the "inverse of the 10" deal again this morning; the charts on my 9-pane are interesting; near perfect inverses for the first few minutes, but then they appear to have decoupled a bit. It will be interesting to see how this plays out over the remainder of the day - my guess is that the "Blackstone fever" has infested traders - at least for a while. Certainly, its all CNBS was talking about for the first half-hour!

As I noted last night, we got the Hindenburg Omen confirmation. Asian markets were down last night; I wonder how much of that was people paying attention and how much was just plain old-fashioned exhaustion.

It looks like the market is starting to consider risk once again:

"June 22 (Bloomberg) -- U.S. stocks fell on concern hedge- fund losses at Bear Stearns Cos. may signal wider problems in credit markets.

Bear Stearns, the second-biggest U.S. underwriter of mortgage bonds, dropped after people with knowledge of the company's proposal said it plans to take on $3.2 billion of loans to stave off the collapse of a hedge fund. Citigroup Inc., JPMorgan Chase & Co. and Moody's Corp. also declined. "

No, you think?

$3.2 billion? For guys that had $6b in leverage out against $600m in collateral?

So what's the truth here guys? The claim was that they lost "20%"? Really? Or was it 50%? Or was the leverage ratio more like 25:1, not 10:1?

And better - why do you flush $3.2 billion down the toilet if you're Bear Stearns? There is only one reason to do that - you're afraid of the explosion that will result if you don't do it - that is, the blast will be even bigger in its impact on your bottom line.

CNBC is also reporting that Cantor Fitzgerald is getting bids as low as ten cents on the dollar for some of the CDOs they're trying to sell! That's a ninety percent haircut!

There are a lot of liars out here on the street right now, and sooner or later, they're going to have to fess up. If the real loss was 50%, that's horrendous. It also tells you a lot about the exposure on the street to this issue and points out the fact that there is absolutely no way that this will be, or can be, contained. It simply doesn't matter whether people want it to be or not - there is some $2-3 trillion in losses out there that are being hidden under the carpet at the present time!

This can and WILL come out, and if I'm right about the magnitude of this "crash" isn't the right word for what's coming. More like catastrophe. This pile of paper is what supports the consumer credit markets! If it implodes, and it looks like that's exactly what's happening, the damage, given the leverage being employed, will be tremendous.

We haven't seen a day with the futures limit down in the AM in five or six years. We may well be headed for a few of them in the coming months.

Let me be clear - what I'm implying here is that this cycle of fraud and avarice in the markets may be worse than the '00 Tech Wreck. In fact, it may be much worse.

You heard it here first guys and gals. I may be wrong about this - but the evidence appears to be mounting that indeed, I'm right - and the pump monkeys out there are doing their damndest to keep you, the retail bagholder, from finding out, because they know what happens once the cat is out of the bag.

Unfortunately, Bear's Hedge Fund blowup has let the cinch loosen up a bit on the sack that has been kept tightly closed since February, and it appears that at least one rabid cat got loose.

Now they've got a problem - as I noted last night there's at least one small broker/dealer that has been shut down due to repricing of assets. This is likely to continue, but the "big guys" on Wall Street are almost certain to lie about their exposure until they are forced - by someone -to fess up.

And lookie what that rabid cat dragged back home and dropped in front of the door!

"June 22 (Bloomberg) -- Losses in the U.S. mortgage market may be the ``tip of the iceberg'' as borrowers fail to keep up with rising payments on billions worth of adjustable-rate loans in coming months, Bank of America Corp. analysts said. "

Oops. And who do they target? One of my favorite whipping boys - Countrywide Financial and another good one for the post, Indymac Bank. Are 'ya short (or, if you prefer, "Got PUTs"), perhaps?

Then there's this from Bloomberg:

"June 22 (Bloomberg) -- U.S. high-yield debt investors, after snapping up a record $600 billion in new loans and bonds this year, are starting to push back."

No, you think?

And finally we see a ratings agency waking up.

"NEW YORK, June 22 (Reuters) - Fitch Ratings on Friday said it may cut its collateralized debt obligation (CDO) manager rating on Bear Stearns Asset Management, part of Bear Stearns Cos.' due to troubles arising from bad bets on subprime mortgages."

Hmmmm.... do you think that perhaps - just perhaps - the credit markets might be freaking out a bit? Uh huh....... The ratings agencies - late to the party, but they can't ignore it forever - unless they want to get sued out past Pluto. Not for being wrong - for willful or even collusive overrating of debt instruments in the face of hard evidence that the ratings are vastly too high.

And let's be perfectly clear on this - this is not confined to subprime mortgages or even residential housing. Today was horrible in the CMBX as well - not only is the BB up (again) and now in the stratosphere zone, nearly straight up since the 6th of June (a total of over 60 bps!) but the BBBs, As and even the "gold standard" AAA spreads are moving the wrong way. Someone (or perhaps, given the BROAD impact now, lots of someones) is/are in trouble in the commercial R/E space, but I still don't know who.

Contained? I don't think so!

Now add this - I have reason to believe (from perusing the public statements out of the OCC) that before the year is out stated income loans will be toast. This is going to be lots of fun for the homebuilders and the housing industry in general. It needs to happen, but it is not going to be pretty. If you want to know why I am quite sure this is going to happen, read this document. The salient part of it is:

"Let’s not sugar-coat what’s going on here. The practice of inflating income is at best misleading, and at worst, fraudulent. Yet if the studies are to be believed, it’s a practice that has become widespread in the riskier loans in the mortgage market."

Any questions?

The speaker? John Dugan, Comptroller of the Currency on May 23rd of this year. You know, the guy who can make that happen? Yep.

To add to this, we got another Hindenburg Omen today and the S&P closed under the 50 (not by a lot, but under is under!) There goes your first-level support. 1490 is now the critical number; if we close under that decisively, odds are very high that a major top is in and the trend to the upside has been broken, although I want to see the Dow Jones and Nasdaq also break the 50 - which they have approached but not yet done.

In addition, if there was a McClellan on the Nasdaq, we'd have a Hindenburg there too. Some people have said that the NYSE isn't "really" the right thing to use for this because of all the "bonds that trade like stocks." Well, that doesn't apply to the Nasdaq, and it too had New Highs and New Lows both over 2.2%.

Finally, Goldman broke the 50 decisively to the downside.

If you remember my list from here, we now have:

* The S&P closes under the 1490 level. NOT YET.
* China blows up (stocks). NOT YET.
* Goldman, Bear and Merrill close under their 50s. NEW SIGNAL TODAY; Goldman. All three now below. CHECK.
* HGX breaks trendline support. CHECK (from the other day).
* The Nasdaq (and Dow) break their 50s. NOT YET.

So we've got two of five, with two of the remaining three one more solid selloff away. The Nasdaq will breach the 50 at 2564, while the DOW does at 13,321 (about 40 points more down.) Monday, depending on China's action Sunday night, could reach all three targets, making five of five.
So what do we have to look forward to here?

This is my thesis, which you might note hasn't changed much over the last three months......

We have ~$300 trillion in notional value of derivatives flying around. If even 1% of those go boom, that's a $3 trillion dollar explosion - to put this in perspective, the US GDP last year was $13 trillion dollars, give or take one. That is an absolutely huge amount of money and no amount of "pumping" by the Fed or anyone else will stave off what is going to happen when it detonates and the Fed knows it.

Worse, foreigners have gotten a whiff of the stink and they're bailing on both the dollar and treasuries. This is ominous because as treasuries mature they are effectively "bought back" and a new sucker, er, investor is required to take their place. If this fails to continue at any point real interest rates will rise precipitously - they could shoot as high as 10% in a month's time, as the government will be forced to raise the offered coupon in order to finance its debt! There is really no other option, and the fear of this event - if that dynamic gets going and cascades there is no way to stop it as it is totally beyond US borders - will keep the Fed from attempting to keep the party going for much longer. As evidence of this, the TOMO activity (liquidity flush) from the Fed this week has been enormous, yet it has had almost no net positive effect. The taps are now being slowly closed, as despite the rise in bond prices the Dollar has resumed its slide, especially against the Euro and Pound. This is very likely to continue.

Next, Japan's government is getting very concerned about the effects of a forced "fast unwind" of the carry trade on their economy. They're wising up, and as a consequence they're starting to jawbone about doing something to slow it down. The market is responding by unwinding some of these trades to avoid being caught "offsides" if Japan decides to get truly aggressive. FX moves that go against you will BURY you in short order - the FX markets are amazingly liquid but margin capabilities are crazy in those markets. What this means, however, is that adverse moves have a habit of wiping people out even when the move as a percentage is quite small. This is certain to continue.

The government (ours) is very unhappy about the idea of people risking someone else's money yet treating the gain as a capital gain when they're right - and someone else's loss when they're wrong. This inequity is almost certain to be corrected, if not now (assuming Bush vetos it) down the road after the '08 elections. This change, by the way, needs to happen - carried interest is really more like a bonus than a capital gain, and while I know the hedgies and such will scream, they better get used to the idea because down the road I think it is a near certainty that the treatment will be revised. This will put a damper on private equity and LBO activity.

Real inflation is running close to 10% annually in the US. Eventually, the politicians and bankers will be forced to deal with this by raising the Fed Funds rate to defend the dollar, because most of this inflation is occurring via FX disadvantages in imports. Why forced? Because if they don't more and more nations will break their dollar pegs, a trend that is already starting in the Middle East - not a good place for it, given that we buy OIL from there. This is certain to play out over the next couple of years and will further drain the liquidity pool.

The OCC (regulators of banks) has said (if you read the right sorts of places) that stated income loans are likely to be restricted severely or banned outright this year. Guess what that will do to what's left of the bubble? Yep. Bye-bye. Return to rational valuations or you cannot sell the house. Period! By the way, this is probably the fairest way to solve that particular problem - and its a problem that needs to be solved. This process is very likely to move forward, with a formal comment period after the proposal is put out sometime this summer.

Companies that levered themselves up by buying back stock with debt and other cute financial tricks will find the cost of financing that debt has grown precipitously. When you have a D/E ratio on your balance sheet of 8:1, even small changes have ruinous impacts on your profits. This is nearly certain to hose entire sectors, especially mortgage lenders and home builders, who are in the worst possible position to be able to afford it. This trend is very likely to continue.

That's it for now - may update it later this evening or over the weekend.

Saturday, June 23, 2007

Systemic fallout dead ahead?

The Tip of the Iceberg?: "The near-collapse of two big Bear Stearns hedge funds heavily invested in highly-speculative packages of subprime mortgages indicates that the severe housing recession is spreading to the financial arena and is threatening the occurrence of systemic fallout. It is estimated that various institutions own about $6 trillion of mortgage-backed securities of which about $800 billion are subprime. About 13% of subprime mortgages are currently in default, and foreclosure rates on these loans are soaring.



In addition about $2 trillion of mortgage securities are backed by adjustable rate loans (ARMS) that have been or will soon be reset at higher rates. An estimated 29% of all mortgages issued in the last three years were ARMS. Home buyers who took out ARMS in 2004 have already seen their rates rise by about 40%, adding about $290 a month in additional payments on a $300,000 mortgage. Many of these buyers will not be able to refinance at fixed rates as a result of higher mortgage rates and stricter regulations that will disqualify would-be borrowers."

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Losses - tip of the iceberg

Bloomberg.com: News: "une 22 (Bloomberg) -- Losses in the U.S. mortgage market may be the ``tip of the iceberg'' as borrowers fail to keep up with rising payments on billions worth of adjustable-rate loans in coming months, Bank of America Corp. analysts said.

Homeowners with about $515 billion on adjustable-rate home loans will pay more this year, and another $680 billion worth of mortgages will reset next year, analysts led by Robert Lacoursiere wrote in a research note today. More than 70 percent of the total was granted to subprime borrowers, people with the riskiest credit records, they said.

Surging defaults on subprime loans have pushed at least 60 mortgage companies to close or sell operations and forced Bear Stearns Cos. to offer a $3.2 billion bailout for one of two money-losing hedge funds. New foreclosures set a record in the first quarter, with subprime borrowers leading the way, the Mortgage Bankers Association reported."

Bear Stearns and MBS Hedge Funds: What are the real risks today?

Safe Haven | Bear Stearns and MBS Hedge Funds: What are the real risks today?: "'...What people don't fully appreciate is the extent to which our financial system has geared up over the last twenty years to finance the worldwide residential housing boom...'

MOST SIGNIFICANT MARKET EVENTS cause an immediate and substantial price reaction, which makes it hard to profit from them. But sometimes there's a sort of slumber, when the market gazes sleepily about itself not quite sure what to do.

We may be experiencing one of them now.

This week a major American investment bank called Bear Stearns was reported as having some serious trouble with a couple of hedge funds. It is difficult to be clear exactly what is going on, because this story involves lots of people and banks who have a vested interest in not being very open. I have been trying to find out the details."

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Cantarell 'to decline by 14% per year'

Upstreamonline - Cantarell 'to decline by 14% per year': "Pemex chief executive Luis Ramirez Corzo said he expects production from the state-owned oil company's giant Cantarell field to decline by about 14% per year between 2007 and 2015.

Ramirez told Mexico's Senate Energy Committee that the annual decline of the field was equivalent to about 150,000 barrels per day, the Associated Press reported.

The field began declining in 2005 from record production of 2.13 million barrels per day in 2004.

Corzo said Cantarell was expected to produce an average of 1.8 million barrels per day this year.

He added Pemex was struggling to pay for deep-water exploration to replace the Cantarell output. Corzo added the company needed to invest at least $18 billion a year in exploration and production to maintain output of about 3.3 million barrels a day."

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Friday, June 22, 2007

Australia, the US and torture

I thought if history taught us anything, it taught us that torture was useless in learning the truth; people tell you want you want to hear and it becomes an end it itself. Western civilisation without a commitment to the rule of law and its secular moral high ground has little to offer.

The Guardian 20 June, 2007

Bob Briton

On Monday evening last week, a documentary news program went to air on the ABC containing material of a sort that used to bring down governments or at least cause some of their ministers and senior public servants to fall on their swords. Sally Neighbour’s "Ghost Prisoners" on the ABC program Four Corners was the second part of an exposé that brought together a wealth of material and expert opinion to show conclusively that Australian authorities have co-operated and will continue to co-operate with the CIA’s "rendition" program.

"Rendition" (or "extraordinary rendition") is a sanitised term to describe how terror suspects or their alleged accomplices are kidnapped and taken to countries like Jordan, Syria and Egypt and to the CIA’s own secret prisons (or "black sites") including several in Eastern European countries for interrogation. The governments of the countries involved deny it but by now the whole world knows the suspects are tortured unmercifully in order to extract information.

Neighbour’s investigation would have been particularly startling for her Australian audience. The process was laid bare using the example of Australian citizen Mamdouh Habib. The program opened with footage of a Gulfstream executive jet of the sort that took Habib from Islamabad in Pakistan to Cairo in Egypt. The program introduced British journalist Stephen Grey, author of Ghost Plane, who showed his extensive on-screen log of these rendition flights, including the one most likely to have carried the hapless Australian to Cairo in November, 2001.

Habib was subjected to brutal treatment from the moment he was snatched off a bus by local police in Pakistan three weeks after the devastating 9/11 attacks in the US. In interviews and using home-made re-enactments he videoed with his son, Habib described his ordeal in disturbing detail. Experts, such as Professor Joe Margulies who was a lawyer for a number of Guantánamo detainees who suffered a similar fate, recognised the pattern:

"Confined to a small cell, windowless, bare metal cot, 6 by 8 foot cell approximately, one blanket, one dimly lit bulb. Unmitigated violence, beatings were routine, some of them creative, some of them just brutal, thuggery."

Prior to being packed off to Cairo, Habib was prepared for the journey. His clothes were cut off, an object inserted in his anus [prisoners are routinely given an enema prior to their long flights], he was dressed in a grey tracksuit before being chained and handcuffed, drugged and had duct tape put over his mouth.

In Cairo, his treatment at the hands of Egyptian authorities was unspeakable. Egypt is a trusted friend of the US and Israel. It is also a virtual police state in its twenty-sixth year of a state of emergency with 5,000 political prisoners held without charge and, according to Amnesty International, a total of 18,000 citizens held without any charge against them. Mohamed Zarei, of the Human Rights Centre for the Assistance of Prisoners, told Neighbour that torture is automatic upon detention in his country:

"There are more than 70 types of torture that citizens are subjected to. Different types of beating — beating with sticks, with bamboo, with a hose, with their hands and legs; electrodes on the hands, on the legs, on the tongue, the genitals. They flood the cell with water. This stops the person from sleeping and he spends all night standing up."

Habib recounted his experience of most of these during his six months of hell in one of Cairo’s twelve security establishments. He also claims to have seen a man kicked to death, suffered cigarette burns, the removal of his fingernails and sexual assault using trained dogs. He was reported to have been in a very agitated state when he arrived in Guantánamo for the next stage of his nightmare.

The accounts of torture in the program were distressing. Equally disturbing, though, were the flat denials from US authorities, like current Secretary of State Condoleezza Rice and the bald-faced lie that the US would not transport anyone to a country where they believe the person may be tortured. Incidentally, the US continues to harbour admitted anti-Cuba terrorist Posada Carriles and prevent his extradition to Cuba, Venezuela or Nicaragua on the baseless grounds that he could be tortured in the jurisdiction of those countries.

Former senior CIA officials are slightly more forthcoming. They do not deny that prisoners could be tortured. Michael Scheuer was the Chief Special Advisor to the CIA’s Bin Laden Unit from 1996 to 2004:

Sally Neighbour (to Michael Scheuer): What did you expect would happen to people when they were sent to Egypt?

Michael Scheuer: Didn’t care.

Sally Neighbour (to Michael Scheuer): Did you expect that people would be tortured in Egypt?

Michael Scheuer: I can say I wouldn’t be surprised. We certainly raised the issues with the White House. Certainly within the CIA it was clear that there was no way we could tell anyone honestly that someone would not be tortured if they were taken to a particular country.

Of course, former CIA officials estranged from the methods and objectives of that organisation are more candid still:

Bob Baer, Former CIA Officer and author See No Evil: If you want to get a good interrogation you send a prisoner to Jordan, and the prisons are full in Jordan of American prisoners. If you want somebody tortured to death you send them to Syria. If you never want to hear from them again, send them to Egypt. That’s pretty much the rule.

By the end of Habib’s interrogation in Egypt, he had "confessed" to a host of crimes including being intimately involved in the planning of the events of September 11. He had trained the pilots involved and even wanted to commandeer a plane himself! Most experts believe the type of "intelligence" gathered by these cruel methods is useless, but not the gnomes within the CIA. "We’re pursuing a war. We’re pursuing it very badly, and at the moment the rendition program remains the most successful US counter-terrorism program in the history of the country", Michael Scheuer again.

It turns out that Habib was only released when it seemed his case might lift the lid on the whole seedy "rendition" process when he finally got his day in court.

Perhaps the most contemptible role in all of this was played by the Australian government and its intelligence services. Habib claimed to have met an ASIO agent soon after his detention in Pakistan. The agent told him he was stripped of his Australian citizenship and that the US authorities were now in charge of his fate, which included being "rendered" to Cairo. Habib also claims an Australian was present at a session of interrogation in Cairo. All these claims have been denied.

In fact, despite documentary evidence obtained under Freedom of Information, the current and previous Attorney General, the Foreign Minister the Commissioner for the Australian Federal Police and the Secretary of the Attorney General all denied knowledge of Habib’s rendition to Egypt. There was a Kafkaesque touch to all the denials, however. Authorities, while denying knowledge of his whereabouts, would reassure Habib’s wife Mara that he was well and being well treated.

The US experts interviewed on the program were unanimous that Australia would have been fully aware of what was going on. We are part on the very close Anglophone intelligence club that includes the US, Britain, Canada, Australia and (on again and off again) New Zealand.

Jack Cloonan, Senior Special Agent, FBI’s Bin Laden Unit, 1996-02: This is a willing partner, we’re married to each other. So to think that we, the United States, would just say don’t tell them and we’ll tell them afterwards and don’t worry about it, we’ll clear it up, you know, baloney.

This was done in a co-ordinated way. Now it may not be popular in Australia and there’s probably people looking to jump in a hole some place because they don’t want to acknowledge this, but believe me, there’s an audit trail and somebody is just not telling you the truth if they are denying this.

Mamdouh Habib is now suing the Commonwealth for complicity in his wrongful arrest and failure in its duty of care to protect him as a citizen. The Commonwealth is meeting the latter claim with the argument that no such duty exists! Habib’s passport was cancelled in 2005 and has not been restored.

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CDO's claim US broker Brookstreet

To Our Valued Brookstreet Members,
Disaster, the firm may be forced to close...

Today, the pricing system used by National Financial has reduced values in all Collateralized Mortgage Obligations. Many of those accounts were on margin and have suffered horrendous markdowns and unrealized as well as realized losses.

National Financial and the regulators expect Brookstreet to pay for realized liquidated losses and take a capital charge for unrealized mark to market losses.

This firm has done a valiant if not Herculean job of managing the liquidations and capital charges to the firm's net worth and net capital. We had reduced the margin balance significantly; we had liquidated and reduced exposure by 80%.

That still left a $70,000,000 margin balance against around 85,000,000 of value. Unfortunately the pricing service used by NF revalued many CMO positions downward last night. We went from a positive net capital of 2.4 million, down from 11 million at the end of May, a negative net capital of 2.1 million. It would take a capital infusion of at least $5,000,000 to keep the company in compliance with no guarantee that additional markdowns will not be forth coming.

I cannot in good conscience request that anyone put money in the firm, I think $10,000,000 would be a minimum without consideration of the horrific customer complaints to follow.

I have told many of you that you are always in danger of not being paid on your last check when working for any broker dealer, which is why I have always paid twice per week and maintained huge net cash positions, generally in the realm of 15,000,000 on average. I will try to get enough money from our account at NFS to complete our upcoming payrolls.

Since I have been writing this letter I have received three hurried inquiries about re capitalizing the company. I will negotiate an arrangement that guarantees that everyone gets paid, to the best of my abilities. Please stay at Brookstreet at least until Friday so I may do my best for each of you.

Unfortunately we are on "SELL ONLY."

I believe I will be able to reconstitute another opportunity for everyone that will result is a minimum of change and disruption. There will be disruption.
Please give a day or so for us to come up with the best strategy. This has happened to us in one day, amazing. All of our family net worth is in the firm, please give me time to present a new plan."

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Thursday, June 21, 2007

This is where the shit hits the fan

Bear Stearns Staves Off Collapse of 2 Hedge Funds - New York Times: "The high-stakes game of brinksmanship began early yesterday on Wall Street, and continued throughout the day. Bankers traded telephone calls, frenetically negotiating the fate of two hedge funds.

All wanted to avoid a fire sale in the troubled mortgage-securities market, but at the same time, not get stuck with an exploding liability that could result in steep losses. The day ended with deals that appeared to have forestalled a meltdown. But questions remained about how successful they were and whether they had merely delayed the inevitable.

As the morning unfolded, lenders to two hedge funds at a unit of Bear Stearns, the investment bank, tried to ascertain what they could expect if they auctioned off mortgage securities with a face value of up to $2 billion. The solicitations were hastily withdrawn when investors reacted with little enthusiasm. But by the end of the day, some of the less-risky securities did change hands."

Not Buying It

ON a Friday evening last month, the day after New York University's class of 2007 graduated, about 15 men and women assembled in front of Third Avenue North, an N.Y.U. dormitory on Third Avenue and 12th Street. They had come to take advantage of the university's end-of-the-year move-out, when students' discarded items are loaded into big green trash bins by the curb.

New York has several colleges and universities, of course, but according to Janet Kalish, a Queens resident who was there that night, N.Y.U.'s affluent student body makes for unusually profitable Dumpster diving. So perhaps it wasn't surprising that the gathering at the Third Avenue North trash bin quickly took on a giddy shopping-spree air, as members of the group came up with one first-class find after another.

Ben Ibershoff, a dapper man in his 20s wearing two bowler hats, dug deep and unearthed a Sharp television. Autumn Brewster, 29, found a painting of a Mediterranean harbor, which she studied and handed down to another member of the crowd.

Darcie Elia, a 17-year-old high school student with a half-shaved head, was clearly pleased with a modest haul of what she called “random housing stuff” — a desk lamp, a dish rack, Swiffer dusters — which she spread on the sidewalk, drawing quizzical stares from passers-by.

Ms. Elia was not alone in appreciating the little things. “The small thrills are when you see the contents of someone's desk and find a book of stamps,” said Ms. Kalish, 44, as she stood knee deep in the trash bin examining a plastic toiletries holder.

A few of those present had stumbled onto the scene by chance (including a janitor from a nearby homeless center, who made off with a working iPod and a tube of body cream), but most were there by design, in response to a posting on the Web site freegan.info.

The site, which provides information and listings for the small but growing subculture of anticonsumerists who call themselves freegans — the term derives from vegans, the vegetarians who forsake all animal products, as many freegans also do — is the closest thing their movement has to an official voice. And for those like Ms. Elia and Ms. Kalish, it serves as a guide to negotiating life, and making a home, in a world they see as hostile to their values.

Freegans are scavengers of the developed world, living off consumer waste in an effort to minimize their support of corporations and their impact on the planet, and to distance themselves from what they see as out-of-control consumerism. They forage through supermarket trash and eat the slightly bruised produce or just-expired canned goods that are routinely thrown out, and negotiate gifts of surplus food from sympathetic stores and restaurants.

They dress in castoff clothes and furnish their homes with items found on the street; at freecycle.com, where users post unwanted items; and at so-called freemeets, flea markets where no money is exchanged. Some claim to hold themselves to rigorous standards. “If a person chooses to live an ethical lifestyle it's not enough to be vegan, they need to absent themselves from capitalism,” said Adam Weissman, 29, who started freegan.info four years ago and is the movement's de facto spokesman.

Freeganism dates to the mid-'90s, and grew out of the antiglobalization and environmental movements, as well as groups like Food Not Bombs, a network of small organizations that serve free vegetarian and vegan food to the hungry, much of it salvaged from food market trash. It also has echoes of groups like the Diggers, an anarchist street theater troupe based in Haight-Ashbury in San Francisco in the 1960's, which gave away food and social services.

According to Bob Torres, a sociology professor at St. Lawrence University in Canton, N.Y., who is writing a book about the animal rights movement — which shares many ideological positions with freeganism — the freegan movement has become much more visible and increasingly popular over the past year, in part as a result of growing frustrations with mainstream environmentalism.

Environmentalism, Mr. Torres said, “is becoming this issue of, consume the right set of green goods and you're green,” regardless of how much in the way of natural resources those goods require to manufacture and distribute.

“If you ask the average person what can you do to reduce global warming, they'd say buy a Prius,” he added.

There are freegans all over the world, in countries as far afield as Sweden, Brazil, South Korea, Estonia and England (where much has been made of what The Sun recently called the “wacky new food craze” of trash-bin eating), and across the United States as well .

In Southern California, for example, “you can find just about anything in the trash, and on a consistent basis, too,” said Marko Manriquez, 28, who has just graduated from the University of California at San Diego with a bachelor's degree in media studies and is the creator of “Freegan Kitchen,” a video blog that shows gourmet meals being made from trash-bin ingredients. “This is how I got my futon, chair, table, shelves. And I'm not talking about beat-up stuff. I mean it's not Design Within Reach, but it's nice.”

But New York City in particular — the financial capital of the world's richest country — has emerged as a hub of freegan activity, thanks largely to Mr. Weissman's zeal for the cause and the considerable free time he has to devote to it. (He doesn't work and lives at home in Teaneck, N.J., with his father and elderly grandparents.)

Freegan.info sponsors organize Trash Tours that typically attract a dozen or more people, as well as feasts at which groups of about 20 people gather in apartments around the city to share food and talk politics.

In the last year or so, Mr. Weissman said, the site has increased the number and variety of its events, which have begun attracting many more first-time participants. Many of those who have taken part in one new program, called Wild Foraging Walks — workshops that teach people to identify edible plants in the wilderness — have been newcomers, he said.

The success of the movement in New York may also be due to the quantity and quality of New York trash. As of 2005, individuals, businesses and institutions in the United States produced more than 245 million tons of municipal solid waste, according to the E.P.A. That means about 4.5 pounds per person per day. The comparable figure for New York City, meanwhile, is about 6.1 pounds, according to statistics from the city's Sanitation Department.

“We have a lot of wealthy people, and rich people throw out more trash than poor people do,” said Elizabeth Royte, whose book “Garbage Land” (Little, Brown, 2005) traced the route her trash takes through the city. “Rich people are also more likely to throw things out based on style obsolescence — like changing the towels when you're tired of the color.”

At the N.Y.U. Dorm Dive, as the event was billed, the consensus was that this year's spoils weren't as impressive as those in years past. Still, almost anything needed to decorate and run a household — a TV cart, a pillow, a file cabinet, a half-finished bottle of Jägermeister — was there for the taking, even if those who took them were risking health, safety and a $100 fine from the Sanitation Department.

Ms. Brewster and her mother, who had come from New Jersey, loaded two area rugs into their cart. Her mother, who declined to give her name, seemed to be on a search for laundry detergent, and was overjoyed to discover a couple of half-empty bottles of Trader Joe's organic brand. (Free and organic is a double bonus). Nearby, a woman munched on a found bag of Nature's Promise veggie fries.

As people stuffed their backpacks, Ms. Kalish, who organized the event (Mr. Weissman arrived later), demonstrated the cooperative spirit of freeganism, asking the divers to pass items down to people on the sidewalk and announcing her finds for anyone in need of, say, a Hoover Shop-Vac.

“Sometimes people will swoop in and grab something, especially when you see a half-used bottle of Tide detergent,” she said. “Who wouldn't want it? But most people realize there's plenty to go around.” She rooted around in the trash bin and found several half-eaten jars of peanut butter. “It's a never-ending supply,” she said.

Many freegans are predictably young and far to the left politically, like Ms. Elia, the 17-year-old, who lives with her father in Manhattan. She said she became a freegan both for environmental reasons and because “I'm not down with capitalism.”

There are also older freegans, like Ms. Kalish, who hold jobs and appear in some ways to lead middle-class lives. A high school Spanish teacher, Ms. Kalish owns a car and a two-family house in Queens, renting half of it as a “capitalist landlord,” she joked. Still, like most freegans, she seems attuned to the ecological effects of her actions. In her house, for example, she has laid down a mosaic of freegan carpet parcels instead of replacing her aging wooden floor because, she said, “I'd have to take trees from the forest.”

Not buying any new manufactured products while living in the United States is, of course, basically impossible, as is avoiding everything that requires natural resources to create, distribute or operate. Don't freegans use gas or electricity to cook, for example, or commercial products to brush their teeth?

“Once in a while I may buy a box of baking soda for toothpaste,” Mr. Weissman said. “And, sure, getting that to market has negative impacts, like everything.” But, he said, parsing the point, a box of baking soda is more ecologically friendly than a tube of toothpaste, because its cardboard container is biodegradable.

These contradictions and others have led some people to suggest that freegans are hypocritical, making use of the capitalist system even as they rail against it. And even Mr. Weissman, who is often doctrinaire about the movement, acknowledges when pushed that absolute freeganism is an impossible dream.

Mr. Torres said: “I think there's a conscious recognition among freegans that you can never live perfectly.” He added that generally freegans “try to reduce the impact.”

It's not that freeganism doesn't require serious commitment. For freegans, who believe that the production and transport of every product contributes to economic and social injustice, usually in multiple ways, any interaction with the marketplace is fraught. And for some freegans in particular — for instance, Madeline Nelson, who until recently was living an upper-middle-class Manhattan life with all the attendant conveniences and focus on luxury goods — choosing this way of life involves a considerable, even radical, transformation.

Ms. Nelson, who is 51, spent her 20s working in restaurants and living in communal houses, but by 2003 she was earning a six-figure salary as a communications director for Barnes & Noble. That year, while demonstrating against the Iraq war, she began to feel hypocritical, she said, explaining: “I thought, isn't this safe? Here I am in my corporate job, going to protests every once in a while. And part of my job was to motivate the sales force to sell more stuff.”

After a year of progressively scaling back — no more shopping at Eileen Fisher, no more commuting by means other than a bike — Ms. Nelson, who had a two-bedroom apartment with a mortgage in Greenwich Village, quit her job in 2005 to devote herself full-time to political activism and freeganism.

She sold her apartment, put some money into savings, and bought a one-bedroom in Flatbush, Brooklyn, that she owns outright.

“My whole point is not to be paying into corporate America, and I hated paying a big loan to a bank,” she said while fixing lunch in her kitchen one recent afternoon. The meal — potato and watercress soup and crackers and cheese — had been made entirely from refuse left outside various grocery stores in Manhattan and Brooklyn.

The bright and airy prewar apartment Ms. Nelson shares with two cats doesn't look like the home of someone who spends her evenings rooting through the garbage. But after some time in the apartment, a visitor begins to see the signs of Ms. Nelson's anticonsumerist way of life.

An old lampshade in the living room has been trimmed with fabric to cover its fraying parts, leaving a one-inch gap where the material ran out. The ficus tree near the window came not from a florist, Ms. Nelson said, but from the trash, as did the CD rack. A 1920s loveseat belonged to her grandmother, and an 18th-century, Louis XVI-style armoire in the bedroom is a vestige of her corporate life.

The kitchen cabinets and refrigerator are stuffed with provisions — cornmeal, Pirouline cookies, vegetarian cage-free eggs — appropriate for a passionate cook who entertains often. All were free.

She longs for a springform pan in which to make cheesecakes, but is waiting for one to come up on freecycle.com. There are no new titles on the bookshelves; she hasn't bought a new book in six months. “Books were my impulse buy,” said Ms. Nelson, whose short brown hair and glasses frame a youthful face. Now she logs onto bookcrossing.com, where readers share used books, or goes to the public library.

But isn't she depriving herself unnecessarily? And what's so bad about buying books, anyway? “I do have some mixed feelings,” Ms. Nelson said. “It's always hard to give up class privilege. But freegans would argue that the capitalist system is not sustainable. You're exploiting resources.” She added, “Most people work 40-plus hours a week at jobs they don't like to buy things they don't need.”

Since becoming a freegan, Ms. Nelson has spent her time posting calendar items and other information online and doing paralegal work on behalf of bicyclists arrested at Critical Mass anticar rallies. “I'm not sitting in the house eating bonbons,” she said. “I'm working. I'm just not working for money.”

She is also spending a lot of time making rounds for food and supplies at night, and has come to know the cycles of the city's trash. She has learned that fruit tends to get thrown out more often in the summer (she freezes it and makes sorbet), and that businesses are a source for envelopes. A reliable spot to get bread is Le Pain Quotidien, a chain of bakery-restaurants that tosses out six or seven loaves a night. But Ms. Nelson doesn't stockpile. “The sad fact is you don't need to,” she said. “More trash will be there tomorrow.”

By and large, she said, her friends have been understanding, if not exactly enthusiastic about adopting freeganism for themselves. “When she told me she was doing this I wasn't really surprised — Madeline is a free spirit,” said Eileen Dolan, a librarian at a Manhattan law firm who has known Ms. Nelson since their college days at Stony Brook. But while Ms. Dolan agrees that society is wasteful, she said that going freegan is not something she would ever do. “It's a huge time commitment,” she said.

ONE evening a week after the Dorm Dive, a group of about 20 freegans gathered in a sparely furnished, harshly lit basement apartment in Bushwick, Brooklyn, to hold a feast. It was an egalitarian affair with no one officially in charge, but Mr. Weissman projected authority, his blue custodian-style work pants and fuzzy black beard giving him the air of a Latin American revolutionary as he wandered around, trailed by a Korean television crew.

Ms. Kalish stood over the sink, slicing vegetables for a stir-fry with a knife she had found in a trash bin at N.Y.U. A pot of potatoes simmered on the stove. These, like much of the rest of the meal, had been gathered two nights earlier, when Mr. Weissman, Ms. Kalish and others had met in front of a Food Emporium in Manhattan and rummaged through the store's clear garbage bags.

The haul had been astonishing in its variety: sealed bags of organic vegetable medley, bagged salad, heirloom tomatoes, key limes, three packaged strawberries-and-chocolate-dip kits, carrots, asparagus, grapes, a carton of organic soy milk (expiration date: July 9), grapefruit, mushrooms and, for those willing to partake, vacuum-packed herb turkey breast. (Some freegans who avoid meat will nevertheless eat it rather than see it go to waste.)

As operatic music played on a radio, people mingled and pitched in. One woman diced onions, rescuing pieces that fell on floor. Another, who goes by the name Petal, emptied bags of salad into a pan. As rigorous and radical as the freegan world view can be, there is also something quaint about the movement, at least the version that Mr. Weissman promotes, with its embrace of hippie-ish communal activities and its household get-togethers that rely for diversion on conversation rather electronic entertainment.

Making things last is part of the ethos. Christian Gutierrez, a 33-year-old former model and investment banker, sat at the small kitchen table, chatting. Mr. Gutierrez, who quit his banking job at Matthews Morris & Company in 2004 to pursue filmmaking, became a freegan last year, and opened a free workshop on West 36th Street in Manhattan to teach bicycle repair. He plans to add lessons in fixing home computers in the near future.

Mr. Gutierrez's lifestyle, like Ms. Nelson's, became gradually more constricted in the absence of a steady income. He lived in a Midtown loft until last year, when, he said, he got into a legal battle with his landlord over a rent increase — a relationship “ruined by greed,” he said. After that, he lived in his van for a while, then found an illegal squat in SoHo, which he shares with two others. Mr. Gutierrez had a middle-class upbringing in Dallas, and he said he initially found freeganism off-putting. But now he is steadfastly devoted to the way of life.

As people began to load plates of food, he leaned in and offered a few words of wisdom: “Opening that first bag of trash,” he said, “is the biggest step.”

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Market Ticker - housing dog crap.

Market Ticker: "Permits and housing starts came in like dogcrap, as expected. My shorts on the builders continue to look good, and I continue to ride that wave downward. In potentially very ominous news the western region of the nation showed the biggest decline in permits and starts; the western region has held up the best so far in the housing downturn. If we are now seeing this roll through to the west, we may be now seeing 'reality' intrude into the 'teflon' part of the nation, which bodes ill for future trends in this sector for the next six to twelve months.

On the goofy news page WaMu is losing some of its gains from yesterday on the clearly bogus buyout rumors. This sort of thing is getting to be so commonplace that I have to wonder if the companies are actually starting or participating in these rumors on their own! That, of course, could be highly illegal - but the pattern here, now going on for months, has to lead one to wonder.......

Potentially big, the 10 has broken the trading channel to the downside on yield. But it has also decoupled from equities - this sort of move a few days ago would have resulted in a monster rally in equities - its not happening now, with all the indices ignoring it today. As a consequence we have to take the 10 off the list of 'market movers' for the time being. The next few days are 'do or die' in terms of "

BAD NEWS BEAR By RODDY BOYD - Business News | Financial | Business and Money

BAD NEWS BEAR By RODDY BOYD - Business News | Financial | Business and Money: "June 20, 2007 -- The end came yesterday for a Bear Stearns hedge fund that had been teetering on the edge of solvency for a week, when Merrill Lynch announced that an $850 million auction designed to recoup some of its loans to the fund was back on.

The fate of Bear's High- Grade Structured Credit Strategies Enhanced Leverage fund - forced to suspend redemptions after reporting a 23 percent loss - had been the focus of intense negotiations between Bear and its biggest rivals. While sporting $600 million under management, the Bear fund was massively levered, bringing its portfolio size to over $6 billion.

On Monday, Merrill delayed an auction in order to give Bear and its adviser Blackstone a chance to put together a bailout plan. Bear's plan, presented yesterday afternoon, had too many strings attached for the fund's lenders. The firm offered to pump $1.5 billion in life-saving cash into the fund, but only if its creditors agreed to hold off on margin calls and chip in another $500 million.

A Bear spokesman declined comment.

The bond market's most battered players - the hedge funds and trading desks specializing in mortgage-backed securities - now have to handle a total of $2 billion or more hitting a market that is still licking its wounds from the f"

Commodities Are for Crafy Investors" by Dudley Baker

FSU Editorial: "Commodities Are for Crafy Not Crazy Investors" by Dudley Baker 06/20/2007: "First, contrary to all the real experts, I can't predict the future of the economy and financial markets with any degree of certainty. I especially can't time anything that would make sense on which to base trading decisions. Equally I can't compete with the smart guys, the institutions with all their specialized people, formulas, software and money to do everything top drawer. Nor can I beat them to the trigger or the exits. So attempts to time the market, alter my portfolio balance between sectors, investment vehicles and geographic regions is pretty much hopeless for me. I therefore do not trade, rather I attempt to invest.

When I take a position it pretty much stays in place with a little pruning now and then, here and there. What I look for is capital preservation before growth. I look for risk minimization rather than making the big score. I come to my conclusions mainly by informing myself of economic and political fundamentals. Hence technical charts used by traders tend to be of marginal value to me, but are nonetheless a serious curiosity.

What I do know are some very large and unassailable global economic realities...such as peak oil and permanently high energy prices, the power of environmentalists and the man made CO2 boogeyman on public policy and politicians, the time horizons of public policy decision makers being the length of time to the next election, that inflation begins with money supply and credit that is in excess of real economic growth, that the conflict between pluralist and secularist cultures with Islamic fundamentalism is only beginning and will present huge problems for the foreseeable future, that Asia in particular is increasingly driving the fundamentals of the global economy with huge internal demand for infrastructure and internal consumer growth, that the demand driven by that growth has placed the resource/commodities sector in a long term secular growth mode which has more than several years yet to run, that both agricultural commodities and most minerals fit into this category, that subsidizing of corn based ethanol is an agribusiness and political wet dream, a huge technological bummer, does nothing for energy self sufficiency, doesn't add any net energy to world supply and will cause the price of animal feed and human food to dramatically escalate in price. I also add governmental budgetary and trade deficits, debt and huge magnitudes of unfunded liabilities coupled with highly leveraged private sector debt, much of which is unregulated and not even understood....... Enough of this, but I can add many more and discuss the implications of each at a later date.

What I conclude is that our infamous Goldilocks economy of the past and present cannot last forever when we have "givens" of the kind noted above.

Therefore I protect my equity with precious metals in their various forms and grow it with key commodities such as those with tight supply/demand fundamentals. Energy and in particular oil, uranium and natural gas head the list. Certain base metals critical to the production of infrastructure which use copious quantities of steel and ancillary products top my list of growth potential. While I haven't taken a position, I think certain agricultural commodities must also be on one's "must have" list.

Summary? Carefully select key commodities and investment products and companies from locations with stable politics and currency growth that reflects economic growth - read Canada and Australia. Sit tight and watch the inevitable. What is that? Clearly currencies growing at 3+ X the rate of their economies create conditions for future price inflation and perhaps hyperinflation given the growing concerns over declining values of the currencies of those countries. I look to the future where serious crises will be currency and interest rate driven emanating from reckless financial policies and practices. In the meantime I carry on with life convinced of the merits of my analysis and not at all worried about the short term rhythms of the S&P, DOW, NASDAQ or bonds. To me their machinations are nothing more than background noise which deflects one from the key issues.

I am currently fully invested, confident in my analyses as outlined above, and sitting back enjoying life to the fullest...good wine, good friends and good times - as my choice of commodities continue to escalate in value. Yes, as someone once said 'I am crazy like a fox' and laughing all the way to the bank!"

Wednesday, June 20, 2007

KPMG warned of ‘death spiral’ in tax shelter fraud case-Business-Industry Sectors-Banking & Finance-TimesOnline

KPMG warned of ‘death spiral’ in tax shelter fraud case-Business-Industry Sectors-Banking & Finance-TimesOnline: "KPMG, the accountancy firm, told the US Justice Department that it would unleash a “nuclear bomb” that would leave more than 1,000 companies without an auditor, if it indicted the firm for selling fraudulent tax shelters, according to newly released internal documents.

The Justice Department began to investigate KPMG in 2004 for allegedly helping wealthy clients to save money by setting up illegal tax shelters. The investigation came after Arthur Andersen’s indictment in 2002 for obstructing the US Government’s inquiry into Enron.

Roger Bennett, KPMG’s lawyer, argued that his client’s indictment could wipe out one of the four remaining large accounting groups, as the Enron inquiry had eradicated Andersen.

Mr Bennett told prosecutors at a meeting on March 22, 2005, that “a death spiral is going to start, and KPMG will be out of business”."

Droughts here and coming

Winter (Economic & Market) Watch » Droughts: "The Treasury International Capital Flows for April showed some major shifts in allocation. Net capital flows into the US were a whopping $111.8 billion for the month of April. That was in comparison to $30.1 for March. It is interesting to note here that foreign buys of US Treasuries were almost non-existent. They came in at a mere $376 million or a year low. That was in comparison to $30.51 billion for March and $18.57 billion for February. China actually decreased their treasury holdings to $414 billion from $419.8 billion last month.


Actually we can take this a step further using Fed custodial data and see that since April 5th, FCBs have liquidated $6.3 billion in Treasuries but have bought a stunning $58.3 billion in housing agencies. I have been arguing that it is this activity that is distorting markets and keeping yields or risk premiums artificially low on mortgages, right as credit conditions in housing are worsening."

Tuesday, June 19, 2007

Got to agree with Edmund here..

Edmund M. McCarthy is President and CEO of Financial Risk Management Advisors Company. This piece was originally published in his newsletter.
Prudent Bear
Five Years Of Supposed Prosperity! Cost? Possibly The End Of About A Century Of Hegemony Inducing Growth?

China buys a piece of Blackstone, a company being perhaps the ultimate in capitalistic finance. When the Yellow Peril/Communists start buying the private equity players, something has certainly changed. Not too long after the gang in Beijing joined the rush to have their investments complemented by participation in leveraged buyout players, global interest rates started a significant climb. Coincidence? Time will tell but there has to be a suspicion that there is some congruity.

If you are a Kudlow and Co. disciple, the natural reaction is to continue to embrace “goldilocks” and utter or mutter, the old Mad comic’s character, Alfred E. Neuman’s” phrase, “What! Me Worry?”

If ridiculously Big numbers, comprising monstrous aggregations of capital/liquidity alarm you, the new acronym, SWF or Sovereign Wealth Funds comes very much to mind. Global reserve assets, including the pitiful $78 billion in the U.S., now total (Another Monstrous number), about $5.4 TRILLION. Of that total, approximately $2.5 Trillion are in or headed for one of these SWF creations. The purpose of having such an instrument for the sovereign creator is to enhance return on the pile. This isn’t done by continuing to sit in U.S. Treasuries where the return has been denuded by the crowded trade already in there with you.

We had the dotcom/telecom etc. bubble succeeded by the GSE induced residential bubble, succeeded by the structured finance/financial engineering residential bubble, succeeded by the CRE/financial engineering bubble, succeeded by the private equity/leveraged buyout/return of the conglomerateurs/no covenant, no guarantee bubble, and they were all looking a bit exhausted. Are we now to witness the SWF buys all of the foregoing bubble? Since the total amount of reserves available for growth and movement into these SWF’s is more or less the annual amount of the United States Current Account Deficit of $1 Trillion, on top of the aforementioned $2.5 Trillion approximately already thrown in, this could be an incredible self-sustaining bubble if only viewed from the aspect of resources and liquidity. In some of the more obscure financial publications, there has recently been some cognizance of this possibility. All this in aid of finding the next bubble since our past thoughts that we would run out of big enough new bubbles to keep the game humming have obviously been in error. It is also worthy of note that a requisite of a successor bubble is to have resource and leverage sufficient to equal or exceed its fading predecessor. Also, for the last five years or so, beneficent interest rates globally have been, at a minimum, a strong aid, perhaps an inherent necessity to this leverage addicted wealth creation methodology.

Most of the liquidity/inflation generated by the massive $1 Trillion+ U.S. annual foreign deficit has, so far, been channeled into: first U.S. Treasuries and Agencies, and then corporate or other debt, with the local currency generated to purchase the $ going, until recently, into residential or commercial real estate and/or local equity markets. Neither the ROW (Rest of the World as it is called in the Federal Reserve Z1 report), nor the bubble blower (The United States) has had terribly painful domestic inflation at the consumer level. In fact, asset inflation in houses and investment indexes has been a pleasant trend for all of these nations.

As the ability to extend asset inflation bubbles reaches or exceeds market possibility, the inflation increasingly spills over into the more visible parts of the consumption economy. Central banks are increasingly forced to recognize the Hydra-headed monster they have accommodated, and raise rates/tighten liquidity. Some such as Kuwait and Syria have been so extreme as to sever their link to the $. New Zealand shocked the markets with an 8% short term rate. Euro rates and other global rates are up and/or rising and, it can be argued, are pushing up U.S. rates concomitantly. This is the counter force that we would argue will constrain the potential glee in the markets in anticipation of the Petro states, and The BRIC (Brazil, Russia, India and China) nations, as well as reserve rich others, such as Korea, Taiwan, maybe even Japan, from all buying their very own Blackstones. Obviously, should they be such buyers, with the leverage the Blackstone’s can employ, the limits to an SWF bubble are imponderable but truly immense.

Another restraint to this emerging new global bubble is the question of to whom do these reserve rich players sell their enormous holdings of U.S.$ Treasuries and Agencies, purchased, at the best, at breakeven yields today, with much of the portfolio surely underwater with Greenspan rates in effect for many of the last five years.

With the U.S creating well over a $Trillion of new sovereign paper in recent years, obligating the buyers thereof to create the equivalent in local currency and find a home for the dollars bought, the merry-go-round has been continuously working with the recycling of those dollars back into the sovereign or near sovereign (Agencies) debt of the U.S. There was thus a natural purchaser as the dollars issued by the U.S. Treasury. The SWF’s can be a disturbance on the merry-go-round as they look for Yale Endowment yields.

Yet another potential problem for those embracing “goldilocks” (Particularly for those surveying the global scene from behind the diaphanous blur of the United States knowledge screen) is the perhaps invidious state of the longstanding global reserve currency, the United States $. For going on a century, Seigneurage privileges (globally accepted) have enabled the U.S. to print money to pay global debts. This is a rare historic privilege accorded few sovereign entities. Even more rare is the status accorded the currency on emergence from World War II; that of sole hegemonic issuer. More rare still was continuing global acceptance when “Guns and Butter” Nixonian policies severed the currency’s last link to outside control of issuance, the supposed redemption availability in bullion. Basically, at that point, the global reserve currency stands on “The full faith and credit” of the U.S. Government. We forswear politics in these ramblings but would not be surprised if “some of the people, some of the time” are not as completely convinced of the value of such full faith and credit.

After a series of successes from the 1987 dip onward at thwarting any economic downturn with lowered rates and tsunami’s of liquidity, the Fedheads really went to an extreme with their 1% interest rates more than 5 years ago, ushering in the most massive global debt bubble, arguably, in the history of mankind. This crescendo of debt permits the globe to have simultaneously expanding economies virtually everywhere, a couple of exceptions such as Lebanon and Zimbabwe out there to be noticed by the few still thinking that a debt culture must eventually be constrained. As noted above, deluging liquidity everywhere has enabled simultaneous global expansion, unusual phenomena in the history of mankind.

A couple of thoughts here. The U.S. expansion, driven by the Fed cuts, and largely centered in 1.Real estate of all varieties 2. Buy-out/M&A/Leveraged lending. 3. Financial Engineering/Structured Finance creation, distribution and fee administration and investment and 4. The massive expenditures on Defense related and Security related to prosecute the ever-expanding utilization of militant activities. The cuts of interest rates by the Fed bought this going. (Oh, we have forgotten the “saving” temporarily of such industries as “auto” with low interest rates.) There are signs of satiation and aggravating credit risk in the credit sensitive areas of these sectors. Oh, by the way, do any readers actually give credence to the Commerce Dept. consumer inflation statistics (If so, read John Williams’ “Shadow Government Statistics” to find the 10.2% REAL consumer inflation rate in the U.S.) In any event, the reported (not the nonsensical core) rates last week were demonstrating that lifestyle is being negatively impacted in the U.S. by dripover inflation.

The foreign central banks largely followed ours into the trough of rates. And their expansion started a little later. Asset inflation, as in the U.S., took over first. The two culprits in the U.S. stand out in the foreign markets: residential real estate and equity markets.

Nevertheless, the inevitable occurs; housing bubbles, affordability problems, equity bubbles that produce P/E’s that are untoward and, finally, lifestyle inflation that impinges on the central banks. As an example, the ECB, a central bank that actually has an inflation containment mandate in its constitution, is raising rates and warning of probable necessity to do more. A rising rate currency looks attractive to a stable one, possibly accounting for some $ defection in the recent past.

I met a young entrepreneur who opened and expanded a bikini factory in Brazil some years ago. The enterprise was/is a success, however, the climbing real is rendering him non-competitive. His solution: sell out to one or another of the private equity guys currently soliciting and go into the wealth management business. Such examples and the potential consequences are seldom seen in the U.S. media.

The Belief In Our Own Worldview Is Our Own Most Powerful Intellectual Imperative!

Here we hearken back to what we believe to be the consensus “worldview” in the U.S.; most particularly in the financial sectors thereof. Obviously not universal and imbued with the author’s prejudices, a construct thereof follows:

The U.S. economy is emerging from a “soft” landing. Although occasioned by the residential bubble in significant part, particularly sub-prime, that area is contained without widespread contagion and employment, production, efficiencies through privatization, growing exports and technological breakthroughs will lead to a new, burgeoning expansion.

Accompanying this renewal of “Goldilocks” seems to be a guiding belief that once out of the trough, another expansion similar to the pleasant 2002-2006 will follow as night follows day as has occurred for approximately 20 years.

This worldview, predicated on the Universal Empire the U. S. was at the beginning of the new millennia, is not a worldview shared by the ROW!
1. This 5-year period of prosperity, kicked off by the massively excessive Fed rate cuts and ensuing global liquidity started from a pitiful foreign reserve assets number globally (Much of which had been accumulated by Japan as it sought to recover from the bubble we taught them). The budget surpluses in the U.S. more than offset the then midget trade deficit, and the currency stood on a pinnacle. With the aforementioned exception of Japan and the inscrutable Swiss, the reserves and currencies of most of the rest of the world ranged from pitiful to disastrous. Argentina went on to a sovereign default and theft from creditors, Brazil devalued, Russia defaulted etc.,etc.

Five years later, the players have the aforementioned $5.4 Trillion in reserves and the U.S. currency is held aloft on generosity after an average fall in the 30% range. The domestic economy, driven by the afore-mentioned continuous bubble machines, has exhausted a debt laden U. S. consumer to continue to propel the machine. Foreclosures and defaults are hitting new records, not at the bottom of a recession but with record low unemployment rates. The only game still running at breakneck speed is the leveraged private equity play, still battening on low relative rates and tax advantages. The press of ROW, by and large, see and present this worldview in contrast to Bubblevision and Goldilocks.
2. We normally eschew the “It’s Different this time” approach as an exegesis for a thesis but find it necessary when confronted by the unprecedented.

Five years ago, the financial sector, both within the U.S. and globally, while having small entries into some of the following fields of risk and finance, was struggling to recover from the blows of the Asian debacle, the Russian default, 9/11 (although it actually served as an economic expansion ignition.), the 2000/2001 U.S. Recession and the afore-mentioned Latin imbroglios. True, the U.S. banking system had been hit by some, many or all of these, depending on the institution. Frankly, this opened the door for the previously intermediary giant Broker and Universal banks to vault into the new world of Financial Engineering/Structured Finance on a global basis.

Five years later, world finance has significantly and nearly totally changed. As an example, Fed NY Governor Corrigan only had to hit the rolodex for a dozen and a half names to suck up $4 Billion to stop the panic about LTCM. Today he admits that the number affected by a systemic event could go into very large numbers.

There really is no infrastructure in place to deal with a contagional systemic financial crisis! One has not yet occurred in the era of RMBS’S, ABS’S, CDO’S, CLO’S, SYNTHETIC CDO’, ‘S’S and the legions of forms of CDS’S and their progeny, CPDO’S, CPPS’S etc.

I recently looked at an 190 page report on this “market” which has enough other gibberish in it to confound any but the math ph’d’s who create, manipulate sell, buy and, occasionally run from this stuff. It is mindboggling. In previous efforts, we have described how BBB- securities can be transformed into 80% AAA. The weekend WSJ described how a fund of some of this stuff is coming unglued. One of the players, Merrill, has seized and is auctioning some of the collateral, impolitely screwing up “rescue” loans and other attempts to salvage. Mixed in will be some of the insurers, in front of the pension funds, endowments, foundations etc. presumably the ultimate owners of this smoldering wreck. Remember, we are at the beginning of the problem in residential real estate with still record unemployment! There is only some $7 Billion directly and peripherally mixed up in this Bear Stern’s directed vehicle, but it could serve as a eye-opening lesson as it burns on the way to sinking.

3. We mentioned the insurers above. At the beginning of the decade and in the early stages of the post 2000 downturn, these two entities guaranteed and/or absorbed into portfolios hundreds of billions per year in mortgages and mortgage-backed securities. Then it became apparent that the Financial results reported by these entities were suspect, that Management possessed less integrity and they were clueless as to the risks they were assuming. Investigations, Resignations and ability to provide limitless buying strength for the mortgage origination world disappeared!

The world of Financial Engineering/Structured Finance has largely operated without the two prior foremost liquidity providers, Fannie and Freddie, as they languished in Congressional hearings on their fraudulent or incompetent doings. They have recently re-emerged as large players as investigations came to a close, reparations were determined and some semblance of financial reporting was re-instated. The recent return of the yield curve to a positive slope has also been a tremendous help to these inveterate players of this type of curve with their Congress-given subsidy and their willingness to make noises about the alleviation of the Brokers sub-prime default and foreclosure-laden results to years of Financial Engineering/Structured Finance garbage.

In order to perform the legerdemain necessary to take less than investment grade and other slightly unsavory assets to the public type buyers described above, they had to throw in some sauce. This came, in the absence of the GSE’s from the private world of insurance, the AMBAC’s, MBIA’s, MGIC’s, RADIAN’s etc. Functioning in a not dissimilar way to the rating Agencies, these worthies would look a prospective issue over and then insure the higher rated tranches. Much like a GSE guarantee, such insurance would serve to make the issue palatable to the institutional buyer as all the due diligence necessary.

We were recently privileged to read an in depth credit review of the Insurer group with particular emphasis on the Ambac and MBIA numbers. We remember a scholarly look at MBIA a couple of years ago which would have given pause to thoughtful analysts except for coincidence with the Greenspan rush to Zero rate structure. The insurers have responded to slow times in the low rate environment by diving headlong into the Structured Finance world. The thing about insuring munis is that you either have taxing power (full faith and credit) or revenue generating capability (toll roads, airports) etc. It is not clear that these worthies fully understood that, in the absence of the appreciation which appeared to happen inevitably to houses in the immediate period in which they leapt headlong into insuring CDO’s composed of BBB- or equivalent to get them to AAA, that houses don’t mystically create debt service revenue, they eat it!

The leverage these critters have taken on historically may have been speculative when they were playing muni’s but it is outright outlandish in the game of Structured Finance. 900 to 1 leverage makes LTCM look cautious. Equity and Reserves are infinitesimal and not growing in proportion to the non-muni game they are playing.

The afore-mentioned analysis asks: “Who is holding the bag?” In the game, and points to the insurers. Since a 10% drop in house prices wipes out their equity, we agree with the analysis that they are too slender a reed to support the ratings they carry and that there is going to be tremendous disillusionment when the axe falls. We would then repeat the question, Who is holding the bag? The ultimate buyers of these things are the ultimate bag holders, pension funds, the equivalent of Orange Counties all over the country, university endowments trying to emulate Yale, maybe the Gates Foundation but certainly the foundation industry and others seeking the yield in alternative investments that will pay for their commitments.

Not to be forgotten are the latter day monopolists, the rating agencies, Moody’s S&P, Finch etc. Their revenue streams went ballistic when Wall Street created the Age Of Structured Finance. They get paid for rating. Isn’t there a conflict in here somewhere? In my days as a practicing credit guy, the watchword was that the rating agencies were a lagging indicator. I will never forget classifying a then fabled Texas bank substandard after a merger in the ‘80’s, only to have a giant argument with headquarters when Moody’s gave them a AA rating. They failed. Put all of this together and maybe this time it Is Different! Only not the kind of different I want to be a creditor of!

4. What else has happened while the United States happily built houses, bought cars and remodeled for the last five years as the Financial sector, particularly Wall Street emerged as the most significant earnings stream in the S&P? Well, going back to that word used before, “worldview,” the U.S. convinced itself that the most important problem internationally was something called “The War on Terror. Hey, I’m against terror too. I just think it’s necessary to know and be sure who it is we need to go to war with. We don’t seem to have done too good a job on that front. It has been expensive but not effective. In a different “worldview”, the costs might have been ascertained in advance. The swing from a Federal surplus to a deficit, the curtailment of a current account deficit before it headed into dangerous territory, the maintenance of a sound currency, the maintenance of world/global respect and, at least, reasonably cordial relations with sovereign states all have a value to be measured, before lost, in pursuit of consumption and the War On Terror.


During this semi decade, the ROW, on its proverbial back when we began this crusade, reinvigorated. A possible “worldview” NOW must encompass a China with $1.3 Trillion in reserves and an industrial/manufacturing base of unbelievable proportions. Courtesy of Chian Kai Shek, their WW2 leader, they sit on the Security Council and are in a position to permit Iran to become what it wishes. Five years ago would have been a more propitious time for being bellicose about Iran. On the same Council is a Russia with $400 Billion in reserves, risen from the defaulting dead.

I don’t know a thing about Putin’s “soul” but I do know he and his Administration are ex-KGB, jingoistic about their nation, loaded with petroleum and still a powerhouse in terms of weaponry. We probably could have bought the weapons five years ago with a fraction of the funds since gone in the aforementioned War and its counterpart, the War on Drugs.

Net net, in the opinion of the writer, there is a very real danger that our worldview for the last five years has risked a century long hegemony as the reserve currency nation as well as creating a Credit Bubble, largely Unregulated, that has expanded far beyond the worst nightmares of the writer. It is also our opinion, as a long time credit troglodyte, that this bubble is leaking air and is in danger of bursting. With no infrastructure to deal with the first truly global bubble, we have an interesting time in front of us.

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Cognitive Biases: A Short List

The Big Picture | Cognitive Biases: A Short List: "# Bandwagon effect - the tendency to do (or believe) things because many other people do (or believe) the same. Related to groupthink, herd behaviour, and manias. Carl Jung pioneered the idea of the collective unconscious which is considered by Jungian psychologists to be responsible for this cognitive bias.
# Bias blind spot - the tendency not to compensate for one’s own cognitive biases.
# Choice-supportive bias - the tendency to remember one’s choices as better than they actually were.
# Confirmation bias - the tendency to search for or interpret information in a way that confirms one’s preconceptions.
# Congruence bias - the tendency to test hypotheses exclusively through direct testing.
# Contrast effect - the enhancement or diminishment of a weight or other measurement when compared with recently observed contrasting object.
# Déformation professionnelle - the tendency to look at things according to the conventions of one’s own profession, forgetting any broader point of view.
# Disconfirmation bias - the tendency for people to extend critical scrutiny to information which contradicts their prior beliefs and uncritically accept information that is congruent with their prior beliefs.
# Endowment effect - the tendency for people to value something more as soon as they own it.
# Focusing effect - prediction bias occurring when people place too much importance on one aspect of an event; causes error in accurately predicting the utility of a future outcome.
# Hyperbolic discounting - the tendency for people to have a stronger preference for more immediate payoffs relative to later payoffs, the closer to the present both payoffs are.
# Illusion of control - the tendency for human beings to believe they can control or at least influence outcomes which they clearly cannot.
# Impact bias - the tendency for people to overestimate the length or the intensity of the impact of future feeling states.
# Information bias - the tendency to seek information even when it cannot affect action.
# Loss aversion - the tendency for people to strongly prefer avoiding losses over acquiring gains (see also sunk cost effects)
# Neglect of probability - the tendency to completely disregard probability when making a decision under uncertainty.
# Mere exposure effect - the tendency for people to express undue liking for things merely because they are familiar with them.
# Omission bias - The tendency to judge harmful actions as worse, or less moral, than equally harmful omissions (inactions).
# Outcome bias - the tendency to judge a decision by its eventual outcome instead of based on the quality of the decision at the time it was made.
# Planning fallacy - the tendency to underestimate task-completion times.
# Post-purchase rationalization - the tendency to persuade oneself through rational argument that a purchase was a good value.
# Pseudocertainty effect - the tendency to make risk-averse choices if the expected outcome is positive, but make risk-seeking choices to avoid negative outcomes.
# Selective perception - the tendency for expectations to affect perception.
# Status quo bias - the tendency for people to like things to stay relatively the same.
# Von Restorff effect - the tendency for an item that “stands out like a sore thumb” to be more likely to be remembered than other items.
# Zero-risk bias - preference for reducing a small risk to zero over a greater reduction in a larger risk.

Monday, June 18, 2007

Technology Review: Ultraefficient Photovoltaics

Technology Review: Ultraefficient Photovoltaics: "A solar cell more than twice as efficient as typical rooftop solar panels has been developed by Spectrolab, a Boeing subsidiary based in Sylmar, CA. It makes use of a highly customizable and virtually unexplored class of materials that could lead to further jumps in efficiency over the next decade, making solar power less expensive than grid electricity in much of the country.

The cell, which employs new 'metamorphic' materials, is designed for photovoltaic systems that use lenses and mirrors to concentrate the sun's rays onto small, high-efficiency solar cells, thereby requiring far less semiconductor material than conventional solar panels. Last month Spectrolab published in the journal Applied Physics Letters the first details on its record-setting cell, initially disclosed in December, which converts 40.7 percent of incoming light into electricity at 240-fold solar concentration--a healthy 1.4 percent increase over the company's previous world-record cell. Other groups are developing promising cells based on the new type of materials, including researchers at the Department of Energy's National Renewable Energy Laboratory (NREL), in Golden, CO. The NREL researchers will soon publish results in the same journal showing that their NREL's designs are tracking Spectrolab's, improving from 37.9 percent efficiency in early 2005 to 38.9 percent efficiency today."

Money for Nothin’ and Your Chicks for Free

Winter (Economic & Market) Watch » Money for Nothin’ and Your Chicks for Free: "The fees for arranging loans are as alluring for the commercial banks as they were for subprime lenders. “It’s like crack cocaine for them,” says the unnamed private equity partner. In LBO deals, “the banks don’t care any more about the [quality of] credit. As long as they can sell it all, they’re fine.

Why do bond investors put up with this? “They don’t really have much choice…..if you’re managing a high-yield bond fund, there’s really not an option of going to 25 per cent cash. So you have to invest in the best deals that you can find. And because there’s so much money out there, the issuers can say, ‘You want to argue about covenants? The deal’s oversubscribed 3 to 1. See you on the next one”…..

If that strategy explodes in their faces because they end up holding some worthless junk debt, so be it. For as long as it lasts, it’s an easy route to profits. Hedge funds get into trouble and are forced to close shop all the time, but no one ever asks them to return their fees. “Why would you not just take the highest possible risk with other people’s money? If there’s literally no downside, it’s the rational thing for you to do…"

speculative credit excess

Bears' Chat - Welcome: "In a foreword to the report, Crispin Odey, CEO of Odey Asset Management, says: 'Not only does he [Chancellor] make a cogent and persuasive case that current trends are unsustainable, but his unique knowledge of the hinterland of previous periods of speculative credit excess also illuminates the range of potential outcomes...There is no question that financial markets are not priced for the sorts of risks that Chancellor identifies.'

Well, Chancellor's latest: Inefficient Market: Blackstone Letter, may indeed prove prescient. It was posted here earlier, and presents what to me is a plausible outcome to the financial madness so rampant today. Once again, the salient points:

'Looking back over this difficult period, most of our problems can be ascribed to deteriorating economic conditions; extraordinary convulsions in the credit markets; a worsening political and legal environment for the buyout industry; and the consequences of what is now commonly referred to as the 'private equity bubble.' I will briefly examine each of these issues in turn.'

1. The Macro-Economic Climate: When Blackstone came to the market in the summer of 2007, economic conditions were remarkably benign. Most economists agree that the decision by Congress to impose punitive tariffs on Chinese imports during the "

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Suddenly, the bees are simply vanishing - Los Angeles Times

Suddenly, the bees are simply vanishing - Los Angeles Times: "The dead bees under Dennis vanEngelsdorp's microscope were like none he had ever seen.

He had expected to see mites or amoebas, perennial pests of bees. Instead, he found internal organs swollen with debris and strangely blackened. The bees' intestinal tracts were scarred, and their rectums were abnormally full of what appeared to be partly digested pollen. Dark marks on the sting glands were telltale signs of infection.

'The more you looked, the more you found,' said VanEngelsdorp, the acting apiarist for the state of Pennsylvania. 'Each thing was a surprise.'

VanEngelsdorp's examination of the bees in November was one of the first scientific glimpses of a mysterious honeybee die-off that has launched an intense search for a cure.

The puzzling phenomenon, known as Colony Collapse Disorder, or CCD, has been reported in 35 states, five Canadian provinces and several European countries. The die-off has cost U.S. beekeepers about $150 million in losses and an uncertain amount for farmers scrambling to find bees to pollinate their crops.

Scientists have scoured the country, finding eerily abandoned hives in which the bees seem to have simply left their honey and broods of baby bees."

Global Grain Production Falls Behind Demand

Global Grain Production Falls Behind Demand: "SASKATOON, Sask.-Today, the United States Department of Agriculture (USDA) released its first projections of world grain supply and demand for the coming crop year: 2007/08. USDA predicts supplies will plunge to a 53-day equivalent-their lowest level in the 47-year period for which data exists.

'The USDA projects global grain supplies will drop to their lowest levels on record. Further, it is likely that, outside of wartime, global grain supplies have not been this low in a century, perhaps longer,' said NFU Director of Research Darrin Qualman.

Most important, 2007/08 will mark the seventh year out of the past eight in which global grain production has fallen short of demand. This consistent shortfall has cut supplies in half-down from a 115-day supply in 1999/00 to the current level of 53 days. 'The world is consistently failing to produce as much grain as it uses,' said Qualman. He continued: 'The current low supply levels are not the result of a transient weather event or an isolated production problem: low supplies are the result of a persistent drawdown trend.'"

The Life of the Chinese Gold Farmer

Looking for online gold.
By JULIAN DIBBELL

It was an hour before midnight, three hours into the night shift with nine more to go. At his workstation in a small, fluorescent-lighted office space in Nanjing, China, Li Qiwen sat shirtless and chain-smoking, gazing purposefully at the online computer game in front of him. The screen showed a lightly wooded mountain terrain, studded with castle ruins and grazing deer, in which warrior monks milled about. Li, or rather his staff-wielding wizard character, had been slaying the enemy monks since 8 p.m., mouse-clicking on one corpse after another, each time gathering a few dozen virtual coins — and maybe a magic weapon or two — into an increasingly laden backpack.

Twelve hours a night, seven nights a week, with only two or three nights off per month, this is what Li does — for a living. On this summer night in 2006, the game on his screen was, as always, World of Warcraft, an online fantasy title in which players, in the guise of self-created avatars — night-elf wizards, warrior orcs and other Tolkienesque characters — battle their way through the mythical realm of Azeroth, earning points for every monster slain and rising, over many months, from the game's lowest level of death-dealing power (1) to the highest (70). More than eight million people around the world play World of Warcraft — approximately one in every thousand on the planet — and whenever Li is logged on, thousands of other players are, too. They share the game's vast, virtual world with him, converging in its towns to trade their loot or turning up from time to time in Li's own wooded corner of it, looking for enemies to kill and coins to gather. Every World of Warcraft player needs those coins, and mostly for one reason: to pay for the virtual gear to fight the monsters to earn the points to reach the next level. And there are only two ways players can get as much of this virtual money as the game requires: they can spend hours collecting it or they can pay someone real money to do it for them.

At the end of each shift, Li reports the night's haul to his supervisor, and at the end of the week, he, like his nine co-workers, will be paid in full. For every 100 gold coins he gathers, Li makes 10 yuan, or about $1.25, earning an effective wage of 30 cents an hour, more or less. The boss, in turn, receives $3 or more when he sells those same coins to an online retailer, who will sell them to the final customer (an American or European player) for as much as $20. The small commercial space Li and his colleagues work in — two rooms, one for the workers and another for the supervisor — along with a rudimentary workers' dorm, a half-hour's bus ride away, are the entire physical plant of this modest $80,000-a-year business. It is estimated that there are thousands of businesses like it all over China, neither owned nor operated by the game companies from which they make their money. Collectively they employ an estimated 100,000 workers, who produce the bulk of all the goods in what has become a $1.8 billion worldwide trade in virtual items. The polite name for these operations is youxi gongzuoshi, or gaming workshops, but to gamers throughout the world, they are better known as gold farms. While the Internet has produced some strange new job descriptions over the years, it is hard to think of any more surreal than that of the Chinese gold farmer.

The market for massively multiplayer online role-playing games, known as M.M.O.'s, is a fast-growing one, with no fewer than 80 current titles and many more under development, all targeted at a player population that totals around 30 million worldwide. World of Warcraft, produced in Irvine, Calif., by Blizzard Entertainment, is one of the most profitable computer games in history, earning close to $1 billion a year in monthly subscriptions and other revenue. In a typical M.M.O., as in a classic predigital role-playing game like Dungeons & Dragons, each player leads his fantasy character on a life of combat and adventure that may last for months or even years of play. As has also been true since D. & D., however, the romance of this imaginary life stands in sharp contrast to the plodding, mathematical precision with which it proceeds.

Players of M.M.O.'s are notoriously obsessive gamers, not infrequently dedicating more time to the make-believe careers of their characters than to their own real jobs. Indeed, it is no mere conceit to say that M.M.O.'s are just as much economies as games. In every one of them, there is some form of money, the getting and spending of which invariably demands a lot of attention: in World of Warcraft, it is the generic gold coin; in Korea's popular Lineage II, it is the “adena”; in the Japanese hit Final Fantasy XI, it is called “gil.” And in all of these games, it takes a lot of this virtual local currency to buy the gear and other battle aids a player needs to even contemplate a run at the monsters worth fighting. To get it, players have a range of virtual income-generating activities to choose from: they can collect loot from dead monsters, of course, but they can also make weapons, potions and similarly useful items to sell to other players or even gather the herbs and hides and other resources that are the crafters' raw materials. Repetitive and time-intensive by design, these pursuits and others like them are known collectively as “the grind.”

For players lacking time or patience for the grind, there has always been another means of acquiring virtual loot: real money. From the earliest days of M.M.O.'s, players have been willing to trade their hard-earned legal tender — dollars, euros, yen, pounds sterling — for the fruits of other players' grinding. And despite strict rules against the practice in the most popular online games, there have always been players willing to sell. The phenomenon of selling virtual goods for real money is called real-money trading, or R.M.T., and it first flourished in the late 1990s on eBay. M.M.O. players looking to sell their virtual armor, weapons, gold and other items would post them for auction and then, when all the bids were in and payment was made, arrange with the highest bidder to meet inside the game world and transfer the goods from the seller's account to the buyer's.

Until very recently, in fact, eBay was a major clearinghouse for commodities from every virtual economy known to gaming — from venerable sword-and-sorcery stalwarts EverQuest and Ultima Online to up-and-comers like the Machiavellian space adventure Eve Online and the free-form social sandbox Second Life. That all came to an official end this January, when eBay announced a ban on R.M.T. sales, citing, among other concerns, the customer-service issues involved in facilitating transactions that are prohibited by the gaming companies. But by then the market had long since outgrown the tag-sale economics of online auctions. For years now, the vast majority of virtual goods has been brought to retail not by players selling the product of their own gaming but by high-volume online specialty sites like the virtual-money superstores IGE, BroGame and Massive Online Gaming Sales — multimillion-dollar businesses offering one-stop, one-click shopping and instant delivery of in-game cash. These are the Wal-Marts and Targets of this decidedly gray market, and the same economic logic that leads conventional megaretailers to China in search of cheap toys and textiles takes their virtual counterparts to China's gold farms.

Indeed, on the surface, there is little to distinguish gold farming from toy production or textile manufacture or any of the other industries that have mushroomed across China to feed the desires of the Western consumer. The wages, the margins, the worker housing, the long shifts and endless workweeks — all of these are standard practice. Like many workers in China today, most gold farmers are migrants. Li, for example, came to Nanjing, in the country's industry-heavy coastal region, from less prosperous parts. At 30, he is old for the job and feels it. He says he hopes to marry and start a family, he told me, but doesn't see it happening on his current wages, which are not much better than what he made at his last job, fixing cars. The free company housing means his expenses aren't high — food, cigarettes, bus fare, connection fees at the local wang ba (or Internet cafe) where he goes to relax — but even so, Li said, it is difficult to set aside savings. “You can do it,” he said, “but you have to economize a lot.”

This is the quick-sketch picture of the job, however, and it misses much. To sit at Li's side for an hour or two, amid the dreary, functional surroundings of his workplace, as he navigates the Technicolor fantasy world he earns his living in, is to understand that gold farming isn't just another outsourced job.

When the night shift ends and the sun comes up, Li and his co-workers know it only by the slivers of daylight that slip in at the edges of the plastic sheeting taped to the windows against the glare. As Li clocks out, another worker takes his seat, takes control of his avatar and carries on with the same grim routines amid the warrior monks of Azeroth. On most days Li's replacement is 22-year-old Wang Huachen, who has been at this gold farm for a year, ever since he completed his university course in law. Soon, Wang told me, he will take the test for his certificate to practice, but he seems in no particular hurry to.

“I will miss this job,” he said. “It can be boring, but I still have sometimes a playful attitude. So I think I will miss this feeling.”

Two workstations away, Wang's co-worker Zhou Xiaoguang, who is 24, also spends the day shift massacring monks. To watch his face as he plays, you wouldn't guess there was anything like fun involved in this job, and perhaps “fun” isn't exactly the word. As anyone who has spent much time among video-gamers knows, the look on a person's face as he or she plays can be a curiously serious one, reflective of the absorbing rigors of many contemporary games. It is hard, in any case, for Zhou to say where the line between work and play falls in a gold farmer's daily routines. “I am here the full 12 hours every day,” he told me, offhandedly killing a passing deer with a single crushing blow. “It's not all work. But there's not a big difference between play and work.”

I turned to Wang Huachen, who remained intent on manipulating an arsenal of combat spells, and asked again how it was possible that in these circumstances anybody could, as he put it, “have sometimes a playful attitude”?

He didn't even look up from his screen. “I cannot explain,” he said. “It just feels that way.”

In 2001, Edward Castronova, an economist at the University of Indiana and at the time an EverQuest player, published a paper in which he documented the rate at which his fellow players accumulated virtual goods, then used the current R.M.T. prices of those goods to calculate the total annual wealth generated by all that in-game activity. The figure he arrived at, $135 million, was roughly 25 times the size of EverQuest's R.M.T. market at the time. Updated and more broadly applied, Castronova's results suggest an aggregate gross domestic product for today's virtual economies of anywhere from $7 billion to $12 billion, a range that puts the economic output of the online gamer population in the company of Bolivia's, Albania's and Nepal's.

Not quite the big time, no, but the implications are bigger, perhaps, than the numbers themselves. Castronova's estimate of EverQuest's G.D.P. showed that online games — even when there is no exchange of actual money — can produce actual wealth. And in doing so Castronova also showed that something curious has happened to the classic economic distinction between play and production: in certain corners of the world, it has melted away. Play has begun to do real work.

This development has not been universally welcomed. In the eyes of many gamers, in fact, real-money trading is essentially a scam — a form of cheating only slightly more refined than, say, offering 20 actual dollars for another player's Boardwalk and Park Place in Monopoly. Some players, and quite a few game designers, see the problem in more systemic terms. Real-money trading harms the game, they argue, because the overheated productivity of gold farms and other profit-seeking operations makes it harder for beginning players to get ahead. Either way, the sense of a certain economic injustice at work breeds resentment. In theory this resentment would be aimed at every link in the R.M.T. chain, from the buyers to the retailers to the gold-farm bosses. And, indeed, late last month American WoW players filed a class-action suit against the dominant virtual-gold retailer, IGE, the first of its kind.

But as a matter of everyday practice, it is the farmers who catch it in the face. Consider, for example, a typical interlude in the workday of the 21-year-old gold farmer Min Qinghai. Min spends most of his time within the confines of a former manufacturing space 200 miles south of Nanjing in the midsize city of Jinhua. He works two floors below the plywood bunks of the workers' dorm where he sleeps. In two years of 84-hour farming weeks, he has rarely stepped outside for longer than it takes to eat a meal. But he has died more times than he can count. And last September on a warm afternoon, halfway between his lunch and dinner breaks, it was happening again.

The World of Warcraft monsters he faces down — ferocious, gray-furred warriors of the Timbermaw clan of bearmen — are no match for his high-level characters, but they do fight back and sometimes they get the better of him. And so it appeared they had just done. Distracted from his post for a moment, Min returned to find his hunter-class character at the brink of death, the scene before him a flurry of computer-animated weapon blows. It wasn't until the fight had run its course and the hunter lay dead that Min could make out exactly what had happened. The game's chat window displayed a textual record of the blows landed and the cost to Min in damage points. The record was clear: the monsters hadn't acted alone. In the middle of the fight another player happened by, sneaked up on Min and brought him down.

Min leaned back and stretched, then set about the tedious business of resurrecting his character, a drawn-out sequence of operations that can put a player out of action for as long as 10 minutes. In farms with daily production quotas, too much time spent dead instead of farming gold can put the worker's job at risk. And in shops where daily wages are tied to daily harvests, every minute lost to death is money taken from the farmer's pocket. But there are times when death is more than just an economic setback for a gold farmer, and this was one of them. As Min returned to his corpse — checking to make sure his attacker wasn't waiting around to fall on him again the moment he resurrected — what hurt more than the death itself was how it happened, or more precisely, what made it happen: another player.

It isn't that WoW players don't frequently kill other players for fun and kill points. They do. But there is usually more to it when the kill in question is a gold farmer. In part because gold farmers' hunting patterns are so repetitive, they are easy to spot, making them ready targets for pent-up anti-R.M.T. hostility, expressed in everything from private sarcastic messages to gratuitous ambushes that can stop a farmer's harvesting in its tracks. In homemade World of Warcraft video clips that circulate on YouTube or GameTrailers, with titles like “Chinese Gold Farmers Must Die” and “Chinese Farmer Extermination,” players document their farmer-killing expeditions through that same Timbermaw-ridden patch of WoW in which Min does his farming — a place so popular with farmers that Western players sometimes call it China Town. Nick Yee, an M.M.O. scholar based at Stanford, has noted the unsettling parallels (the recurrence of words like “vermin,” “rats” and “extermination”) between contemporary anti-gold-farmer rhetoric and 19th-century U.S. literature on immigrant Chinese laundry workers.

Min's English is not good enough to grasp in all its richness the hatred aimed his way. But he gets the idea. He feels a little embarrassed around regular players and sometimes says he thinks about how he might explain himself to those who believe he has no place among them, if only he could speak their language. “I have this idea in mind that regular players should understand that people do different things in the game,” he said. “They are playing. And we are making a living.”

It is a distinction that game companies understand all too well. Like the majority of M.M.O. companies, Blizzard has chosen to align itself with the customers who abhor R.M.T. rather than the ones who use it. A year ago, Blizzard announced it had identified and banned more than 50,000 World of Warcraft accounts belonging to farmers. It was the opening salvo in a continuing eradication campaign that has effectively swept millions in farmed gold from the market, sending the exchange rate rocketing from a low of 6 cents per gold coin last spring to a high of 35 cents in January.

Of course, nobody expected the farmers' equally rule-breaking customers to be punished too. Among players, the R.M.T. debate may revolve around questions of fairness, but among game companies, the only question seems to be what is good for business. Cracking down on R.M.T. buyers makes poorer marketing sense than cracking down on sellers, in much the same way that cracking down on illegal drug suppliers is a better political move than cracking down on users. (Only a few companies have found a way to make R.M.T. part of their business model. Sony Online Entertainment, which publishes EverQuest, has started earning respectable revenues from an experimental in-game auction system that charges players a small transaction fee for real-money trades.) As Mark Jacobs, vice president at Electronic Arts and creator of the classic M.M.O. Dark Age of Camelot, put it: “Are you going to get more sympathy from busting 50,000 Chinese farmers or from busting 10,000 Americans that are buying? It's not a racial thing at all. If you bust the buyers, you're busting the guys who are paying to play your game, who you want to keep as customers and who will then go on the forums and say really nasty things about your company and your game.”

The cost to farmers of being expelled from WoW can be steep. At the very least, it means a temporary drop in productivity, because the character has to be to built up all over again, as well as the loss of all the loot accumulated in that character's account. Given the stakes, some Chinese gold farms have found that the best way to get around their farmers' pursuers is to make it hard to distinguish professionals from players in the first place. One business that specializes in doing just that is located a few blocks from the gold farm where Min Qinghai works. The shop floor is about the same size, with about the same number of computers in the same neat rows, but you can tell just walking through the place that it is a more serious operation. For one thing, there are a lot more workers: typically 25 on the day shift, 25 on the night shift, each crew punching in and out at a time clock just inside the entrance. Nobody works without a shirt here; quite a few, in fact, wear a standard-issue white polo shirt with the company initials on it. There is also a crimson version of the shirt, reserved for management and worn at all times by the shift supervisor, who, when he isn't prowling the floor, sits at his desk before a broad white wall emblazoned with foot-high Chinese characters in red that spell: unity, collaboration, integrity, efficiency.

The name of the business is Donghua Networks, and its specialty is what gamers call “power leveling.” Like regular gold farming, power leveling offers customers an end run around the World of Warcraft grind — except that instead of providing money and other items, the power leveler simply does the work for you. Hand over your account name, password and about $300, and get on with your real life for a while: in a marathon of round-the-clock monster-bashing, a team of power levelers will raise your character from the lowest level to the highest, accomplishing in four weeks or less what at a normal rate of play would take at least four months.

For Donghua's owners — 26-year-old Fei Jianfeng and 36-year-old Bao Donghua, both former gold-farm wage workers themselves — moving the business out of farming and into leveling was an easy call. Among other advantages, they say, power leveling means fewer banned accounts. Because the only game accounts used are the customers' own, there is much less risk of losing access to the virtual work site. For their workers, however, the advantages are mixed. Though there is a greater variety of quests and quarries to pursue, the pay isn't any better, and some workers chafe at the constraints of playing a stranger's character, preferring the relative autonomy of farming gold.

As one Donghua power leveler said of his old gold-farming job, “I had more room to play for myself.”

It may seem strange that a wage-working loot farmer would still care about the freedom to play. But it is not half as strange as the scene that unfolded one evening at 9 o'clock in the Internet cafe on the ground floor of the building where Donghua has its offices. Scattered around the stifling, dim wang ba, 10 power levelers just off the day shift were merrily gaming away. Not all of them were playing World of Warcraft. A big, silent lug named Mao sat mesmerized by a very pink-and-purple Japanese schoolgirls' game, in which doe-eyed characters square off in dancing contests with other online players. But the rest had chosen, to a man, to log into their personal World of Warcraft accounts and spend these precious free hours right back where they had spent every other hour of the day: in Azeroth.

Such scenes are not at all unusual. At the end of almost any working day or night in a Chinese gaming workshop, workers can be found playing the same game they have been playing for the last 12 hours, and to some extent gold-farm operators depend on it. The game is too complex for the bosses to learn it all themselves; they need their workers to be players — to find out all the tricks and shortcuts, to train themselves and to train one another. “When I was a worker,” Fan Yangwen, who is now 21 and in Donghua's main office providing technical support, told me, “I loved to play because when I was playing, I was learning.” But learning to play or learning to work? I asked. Fan shrugged. “Both.”

Fan himself is a striking case of how off-hours play can serve as a kind of unpaid R. and D. lab for the farming industry. He is that rarest of World of Warcraft obsessives, a Chinese gold farmer who has actually bought farmed gold. (“Sure, I bought 10,000 once,” he said, “I don't have time to farm all that!”) When Fan shows up at the wang ba after work, it is a minor event; the other Donghua workers pull their chairs over to watch him play — his top-level warlock character is an unbelievable powerhouse that no amount of money, real or virtual, can buy.

What makes Fan's dominance so impressive to his peers is that he achieved it in regions of the game that are all but inaccessible to the working gold farmer or power leveler. Therein lies what is known as the end game, the phase of epic challenges that begins only when the player has accumulated the maximum experience points and can level up no more. The rewards for meeting these challenges are phenomenal: rare weapons and armor pieces loaded with massive power boosts and showy graphics. And the greatest cannot be traded or given away; they can only be acquired by venturing into the game's most difficult dungeons. That requires becoming part of a tightly coordinated “raid” group of as many as 40 other players (any fewer than that, and the entire group will almost certainly “wipe” — or die en masse without killing any monsters of note). Each player has a shot at the best items when they drop, and players must negotiate among themselves for the top prizes. These end-game hurdles have some subtle but significant effects. For one thing, they force the growth of “guilds” — teams of dozens, sometimes hundreds, of players who join together to hit high-end dungeons on a regular basis. For another, they shut farmers out from an entire class of virtual goods — the most marketable in the game if only they could be traded.

For a long time the Donghua bosses, Fei and Bao (known even to employees as Little Bai and Brother Bao), could do no more than nurse their envy of the raiding guilds' access to the end game. But Fan's prowess pointed to another way of looking at it: raiding guilds weren't the competition, they realized; they were the solution. Donghua would put together a team of 40 employees. They would train the team in all the hardest dungeons. And then, for a few hundred dollars, the team would escort any customer into the dungeon of his or her choice. And when the customer's longed-for item dropped, the team would stand aside and let the customer take it, no questions asked. Thus would the supposedly unmarketable end-game treasures find their way into the R.M.T. market. And thus would gold farming, of a sort, find its way at last into the end game.

hen Brother Bao and Little Bai put their team together in April of last year, Min Qinghai, a veteran Donghua employee at the time, was among the first to make the roster.

“Before I joined the raiding team, I'd never worked together with so many people,” Min told me. They were 40 young men in three adjoining office spaces, and it was chaotic at first. Two or three supervisors moved among them, calling out orders like generals. A dungeon raid is always a puzzle: figuring out which tactics to use to kill each boss is the main challenge; doing so while coordinating 40 players can be dizzying. But members of the team raided just as diligently as they had power-leveled: 12 hours a day, 7 days a week, making their way through the complexities of a different dungeon every day.

There was a lot of shouting involved, at least in the beginning. Besides the orders called out by the supervisors, there were loud attempts at coordination among the team members themselves. “But then we developed a sense of cooperation, and the shouting grew rarer,” Min said. “By the end, nothing needed to be said.” They moved through the dungeons in silent harmony, 40 intricately interdependent players, each the master of his part. For every fight in every dungeon, the hunters knew without asking exactly when to shoot and at what range; the priests had their healing spells down to a rhythm; wizards knew just how much damage to put in their combat spells.

And Min's role? The translator struggled for a moment to find the word in English, and when I hazarded a guess, Min turned directly to me and repeated it, the only English I ever heard him speak. “Tank,” he said, breaking into a rare, slow smile, and why wouldn't he? The tank — the heavily armored warrior character who holds the attention of the most powerful enemy in the fight, taking all its blows — is the linchpin of any raid. If the tank dies, everybody else will soon die too, as a rule.

“Working together, playing together, it felt nice,” Min said. “Very . . . shuang.” The word means “open, clear, exhilarating.” “You would go in, knowing that you were fighting the bosses that all the guilds in the world dream of fighting; there was a sense of achievement.”

The end arrived without warning. One day word came down from the bosses that the 40-man raids were suspended indefinitely for lack of customers. In the meantime, team members would go back to gold farming, gathering loot in five-man dungeons that once might have thrilled Min but now presented no challenge whatsoever. “We no longer went to fight the big boss monsters,” Min said. “We were ordered to stay in one place doing the same thing again and again. Everyday I was looking at the same thing. I could not stand it.”

Min quit and took the farming job he works at still. The new job, with its rote Timbermaw whacking, could hardly be less exciting. But it is more relaxed than Donghua was, less wearying — “Working 12 hours there was like working 24 here” — and he couldn't have stayed on in any case, surrounded by reminders of the broken promise of tanking for what might have been the greatest guild on Earth.

In the meantime, Min is doing his best to forget that his work has anything at all to do with play or that he ever let himself believe otherwise. But even with a job as monotonous as this one, it isn't easy. On his usual hunt one day, he accidentally backed into combat with a higher-level monster. Losing life fast, he grabbed his mouse and started to flee. He hunched over his keyboard, leaning into his flight, flushed now by the chase. His boss, 26-year-old Liu Haibin, an inveterate gamer himself, wandered by and began to cheer him on: “Yeah, yeah, yeah . . . go!”

Finally the monster quit the chase, and Min got away with no consequence more untoward than having to explain himself. “It's instinctual — you can't help it,” he said. “You want to play.”

Julian Dibbell is the author, most recently, of “Play Money: Or How I Quit My Day Job and Made Millions Trading Virtual Loot.” This is his first article for the magazine.

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Sunday, June 17, 2007

Problems in the subprime Bond world

Bears' Chat - Welcome: "'A friend of mine works as a Portfolio Manager for a $2.2b CDO pool of subprime loans. I spoke to him today for an hour. Asked how he is doing, he says 'nothing'. I ask what do u mean nothing, i hear all these stories about CDO's and losses (Bear Stearns for example), he shrugs and says nothing will happen until the Rating agencies do something. Asked about losses, he says they are there but he doesn't have to mark to market his portfolio until someone discovers it or the Rating agencies force his hand. So his plan is to lie low and collect the management fees and pretend as if there are no losses. Asked about management fees, he laughs and says it's a low 50 bips. On $2.2b, that's a cool $10m yearly which he and his four colleagues have to split up at the end of the yr. He says he has the best job in the world and says there is really no work to every day. Just wait and hope that the rating agencies don't downgrade his CDO pool and voila, at the end of the yr, he and his partners can split the $10m spoils (minus the expenses for one Park Avenue office, and a secretary). I am amazed that no body (regulators, investors, the public) hasn't beseeched the Rating agencies to review all the Subprime CDO's by now given the headlines and the incredible losses hidden there."

Severe recession - Commentary - California Housing Forecast by The Berkland Group

Severe recession - Commentary - California Housing Forecast by The Berkland Group: "Just a reminder: we are headed into a severe recession, and you will not get any advance warning from any economists or our government. Our government officials have never warned us of a recession, as their job is to instill confidence. Even if they knew we would have a recession, they will never come out and say so.

Economists are no better at forecasting than the government. In September 2000, a 'Blue Chip' top 50 forecaster projection polled 50 economist, and not even one of them predicted the recession of 2000-2001. Their average outlook was for a 2.4% growth rate.
Instead, look to these reliable historic indicators which are now all flashing red alerts, as explained here

In the past recessions have occurred under the following circumstances:

1) Whenever GDP growth was below 3% annualized for 5 consecutive quarters.

2) When the Fed tightened monetary policy (8 of the last 10 times).

3) When the yield curve was inverted (6 of the last 7 times).

4) When the Conference Board Leading Indicators were 0.5% or more below a year earlier (9 of the last 10 times).

5) When new building permits were 25% or more below a "

Saturday, June 16, 2007

TraderFeed: Trade Like a Scientist - Part One

TraderFeed: Trade Like a Scientist - Part One: "A theme I emphasize with new traders is that it is important to trade like a scientist. The scientific mindset is one that can be rehearsed and cultivated--and eventually internalized.

What do scientists do? First, they observe regularities in nature. They look for patterns: repeated sequences of events and commonalities among structures. Those regularities differentiate what is meaningful from what is random.

After observing regularities, scientists attempt to explain these. Explanation is the role of theory. The theory is the scientist's way of making sense of the world. Theory is not truth; it is a first approximation at truth.

Scientists gain confidence in their explanations by testing them. If a theory is meaningful and accurate, we should be able to use it to generate future observations. These predictions are hypotheses for the scientist. By testing hypotheses, we keep an open mind with respect to our observations and explanations.

Finally, once empirical tests provide fresh observations, scientists revise their explanations of nature and use these to generate further hypotheses, observations, and revisions. Knowledge, for a true scientist, is always provisional: that is what separates science from dogma."

Friday, June 15, 2007

It’s Official: The Crash of the U.S. Economy has begun

It’s Official: The Crash of the U.S. Economy has begun: "Pearlstein’s column was titled, “The Takeover Boom, About to Go Bust” and concerned the extraordinary amount of debt vs. operating profits of companies currently subject to leveraged buyouts.

In language remarkably alarmist for the usually ultra-bland pages of the Post, Pearlstein wrote, “It is impossible to predict when the magic moment will be reached and everyone finally realizes that the prices being paid for these companies, and the debt taken on to support the acquisitions, are unsustainable. When that happens, it won't be pretty. Across the board, stock prices and company valuations will fall. Banks will announce painful write-offs, some hedge funds will close their doors, and private-equity funds will report disappointing returns. Some companies will be forced into bankruptcy or restructuring.”

Further, “Falling stock prices will cause companies to reduce their hiring and capital spending while governments will be forced to raise taxes or reduce services, as revenue from capital gains taxes declines. And the combination of reduced wealth and higher interest rates will finally cause consumers to pull back on their debt-financed consumption. It happened after the junk-bond and savings-and-loan collapses of the late 1980s. It happened after the tech and telecom bust of the late '90s. And it will happ"

Wednesday, June 13, 2007

Shenzhen Confidential

Asia Sentinel - Shenzhen Confidential: "Hello, I'm Amy Jiang. On the surface, I could be a poster woman for the face of modern China. I am a mostly successful 20-something, savvy English-fluent woman with international business experience as a buyer and translator. But the truth is that I'm currently working for shady Russian businessmen posing as legitimate buyers in Shenzhen and Hong Kong. And while much of Shenzhen seems occupied with smuggling counterfeit handbags and shoes to the west, Sacha and Bogdan, as we will call them, are preoccupied with smuggling more serious stuff. Like buses, among other things."

IT'S GREEK TO ME:

Open University: "rue, Shorris also accuses the Bush gang of lacking the Christian virtues of hope and charity. They are possessed, however, of an excess of the third virtue, faith, with which they have given themselves permission to commit evil acts. Faith, unlike hope and charity, being the distinguishing virtue of Christianity, it seems fair to read Shorris' essay as mostly about the loss of classical virtue and the overabundance of faith.

A similar theme infuses Christopher Hitchens' best-selling book, God Is Not Great. At the end of 250 pages of point-by-point explication of the follies and dangers of revelation based moralities, Hitchens finally finds someone he can trust: Socrates. 'From Socrates,' Hitchens says, the very tone of his prose shifting markedly, 'we can learn how to argue two things that are of the highest importance. The first is that conscience is innate. The second is that the dogmatic faithful can easily be outpointed and satirized ... In essence the argument with faith begins and ends with Socrates.'

Looking for moral revival after the Bush years, frightened of people who talk to god, malnourished by the formalistic prescriptions of liberalism, it is not surprising that the rich tradition of classical philosophy calls."

ProgressiveHistorians:: Hadrian's Forum: Roman Dictator Subverted the Constitution and Set an Example

ProgressiveHistorians:: Hadrian's Forum: Roman Dictator Subverted the Constitution and Set an Example: "There are not too many parallels between Sulla and Bush, other than one: both attempted to subvert the constitution, but for one reason or another, neither could. Sulla didn't because he didn't want to subvert the constitution, although he could have. Bush hasn't been able to, because he doesn't have the intellect or the political skill.

However, just a few decades later, Julius Caesar would rise up, following Sulla's example. He would also wage war against fellow Romans, seize absolute power, and become dictator for life. Rome wasn't as lucky with Caesar, because Caesar wouldn't give up his powers so easily. Caesar's habit of granting clemency to his enemies gave him a following with the common people that Sulla's proscriptions didn't. But because of Caesar following Sulla's example, and the fact that Caesar's adopted son and heir, Gaius Octavius, followed Caesar's example, the republic was ruined.

This is what I fear about the example Bush has set, and those who may attempt to follow his example in the future. Only any future president wishing to follow in Bush's example may not be as much of an intellectual lightweight, or as politically reckless. A future such president may subvert the constitution and the republic in ways that Bush will not be able to."

Subprime-Loan Risk Reaches Record, Derivatives Show

Bloomberg.com: Bonds: "June 12 (Bloomberg) -- The perceived risk of owning low- rated subprime-mortgage bonds created in the second half of 2006 rose to a record as loan delinquencies and mortgage rates climb, according to an index of credit derivatives.

An index of credit-default swaps linked to 20 bonds rated BBB- fell 2.9 percent to 62.12, according to Markit Group Ltd. The ABX-HE-BBB- 07-1 index's previous low of 62.25 came on Feb. 27. An ABX index linked to 20 similar securities from the first half of 2006 remains about 10 percent off a low hit in February.

Improved investor sentiment in May and early June about subprime-mortgage bonds and related collateralized debt obligations may have represented an ``eye of the storm,'' Louis Lucido, group managing director at Los Angeles-based money manager TCW Group Inc., said at a conference in New York last week sponsored by industry group American Securitization Forum.

Yields on 10-year Treasury notes, which mortgage rates generally track, have increased about 0.37 percentage points this month to 5.26 percent, amid bond buyer speculation that concerns about inflation will keep the Federal Reserve from lowering its target rate to boost a slumping housing market.

Higher mortgage rates lessen the chances that subprime borrowers will be able to refinance into new loans when their initial ``teaser'' rates end after two"

tice on bloomberg: Profoundly bearish

Bloomberg media

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A technical view of the market

TradingTheCharts.com :: View topic - week of 6/11 outlook- * Current Week*: "For new members, I start the Weekly Maps here on Saturday with my big picture view of where we might be at within the Financial markets. I cover many markets and time frames. It is how members at TTC begin to plan for the next week. It’s like me delivering a financial paper full of charts to your desktop. Some markets make
no sense at first to look at, but you will see that they all play a role in the big picture. They also play a huge role for the member that is trying to trade his pension fund account or grandkids account, instead of what many of us crazy traders do all week, trade like maniacs. Bottom line is they have a place for everyone here one way or another."

Global dollar crisis dead ahead

The financial and stock exchange players are now focusing on a single indicator, the evolution of the interest rates fixed by the central banks, and in particular that of the American Federal Reserve. Indeed, because of the United States central role in the world financial system, they play the part of the catalyst of hopes and fears; and their financial authorities will, during this phase II, accelerate the crisis. The US government and Federal Reserve have indeed led their economy and the whole of the financial markets towards a total dead end. The return of inflation has led to an increase in interest rates everywhere in the world, and the loss of confidence in the real American economy (with the background, the general loss of confidence in the United States) imposes a dramatic choice between two solutions with painful consequences:

. Solution 1 - towards stagflation: to raise of the US interest rate to fight against inflation and to preserve the credibility of the Dollar (since it is only the differential in the interest rate with the EU and Japan that now maintains its relative value), but to accelerate the collapse of the growth of the United States economy, by making the real estate bubble (which is already deflating quickly) explode, and by disrupting up household consumption (on which the essence of the US growth has rested for 5 years). Inflation, high interest rates and growth at half-mast, even recession, this is a well-known situation which prevailed during the Seventies: stagflation [1].



. Solution 2 - towards hyperinflation: stability of the US interest rates (and thus a drop of their relative value compared to the EU and Japan) to try (without guarantee, given the current state of the US economy [9]) to maintain the American internal growth and cause a collapse of the Dollar whose value “only just holds” on this differential, leading to the brutal interruption of the financing by the rest of the world of the American deficit (commercial and public) and thus a total financial crisis. This decision of course leaves the space open to inflation by trying to privilege growth, but it opens a period of generalized loss of confidence which reinforces, with the collapse of the Dollar, a very strong inflationary pressure in the United States which could lead to hyperinflation [10].

LEAP/E2020 believes that the US Reserve Federal, whose shareholders are large banks [11], will choose Solution 1 because in the second case the Federal Reserve is itself marginalized and loses the possibility of using one of its main instruments of action (interest rates). In addition, the current president of the Federal Reserve is convinced that parallel to a rise of the interest rates, an additional contribution of liquidity [12] to the economy will make it possible for the latter to set out again on the path towards growth [13]

For the team of LEAP/E2020, neither of the two solutions open to the American authorities can cure the total systemic crisis, their choice will be in fact primordial in determining the form and the extent of phase III of the total systemic crisis, the phase known as “impact phase”. The rest of the world will indeed not be affected the same way if the American authorities choose solution 1 or solution 2.

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Stocks to correct 15% by year end

If there is a single salient truth about the U.S. stock market, it
is that 2007 is a record setting year from almost every aspect.
While there are a few rare exceptions that place either 1929 or 2000
in the spotlight instead, our overall impression is that the mania
for stocks appears to be at least as emphatic now as it has ever
been. We have repeatedly illustrated margin debt extremes and the
historically low mutual fund cash-to-assets ratio as evidence, but
the best picture of the continuing mania for stocks remains the
sheer volume of trading. Not only is the volume of trading at a
historic high, the velocity of transactions have exceeded the
previous highs with such ease that one's only choice is the
assumption that a veritable mania is still in progress, and in fact,
never really ended. Apparently, the collapse and bear market that
endured from March 2000 to March 2003 was only a corrective phase to
the greatest stock market mania of all time.
We make the distinction of a "corrective phase" rather than a bear
market due to the observable fact that we cannot find one instance
of back-to-back stock manias in the past. Perhaps the semantics and
definitions do not work for some, but nevertheless, we find it
extremely difficult to dispute that the mania never really ended.
Even at the nadir in 2002, Dollar Trading Volume was still at a
level that equated to a 18.3% rate of growth in velocity from 1995,
when we posit the mania actually commenced. This seven year path
would have been extraordinary sans the final manic peak and
subsequent collapse!

As it now stands, DTV has grown 18.1% from last year's record total
and exceeds the fateful year of 2000 by 28.1%. Compared with Gross
domestic Product and total stock market capitalization, we are close
enough to record extremes to posit the possibility that a similar
outcome to 1929 and 2000 should eventually be at hand.
DTV is more than three times the size of GDP
for only the second time in history.
DTV versus market capitalization is 223%, only nominally lower than
the 228% registered in the Roaring Twenties.
If there is only one salient truth about the stock market today, it
is that the mania remains largely unrecognized by professionals and
the public, who blithely continue without concern, taking larger
risks with greater exposures than ever before, while denying
investments in favor of trading, per se.

We define Speculative Fervor as the one-year differential in DTV
compared with the level of GDP. A market that trades an additional
$2 trillion while GDP rises by 3% is more speculative than a market
that trades an additional $1 trillion while GDP rises the same 3%.
Although Speculative Fervor has not reached the levels registered in
1999 and 2000, this indicator has remained at "Roaring Twenties"
levels for four full years. It is easy to posit that recent high
levels have reinforced the notion that stocks can do no wrong, hence
the game is still played to the hilt. We believe it is imperative
to note that Speculative Fervor remained between +15% to -10% for a
stretch of 64 years (!!!) from 1933 to 1996, equating to the
historic norm. A return to these levels will result in a huge
dénouement for traders and investors. In our view, this outcome is
inevitable. We do not
expect an identical collapse such as occurred
from 2000 to 2003, but an initial shock followed by a consistent and
steady disenchantment with the inability of stocks to recover over
the long term.

Stocks are overowned and clearly, overtraded.

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Tuesday, June 12, 2007

Get gold asap, clearly

In a recent article as important for its source as its content, the Director of International Economics at the Council on Foreign Relations adapted a metaphor first employed by Jacques Rueff to describe the "absurdity" of the Bretton Woods post-war international monetary monetary system a few years before its collapse. B. Steil, "The End of National Currency," Foreign Affairs (Vol. 86, No. 3, May/June 2007), pp. 83-96. Rueff had compared the chronic balance-of-payments deficit then being run by the United States to buying from a tailor who, whatever you paid him for a suit, would loan the money back to you the very next day. Bringing the metaphor current, Mr. Steil writes (at p. 93):

With the U.S. current account deficit running at an enormous 6.6 percent of GDP ... , the United States is in the fortunate position of the suit buyer with a Chinese tailor who instantaneously returns his payments in the form of loans -- generally, in the U.S. case, as purchases of U.S. Treasury bonds. The current account deficit is partially fueled by the budget deficit ... , which will soar in the next decade in the absence of reforms to curtail federal "entitlement" spending on medical care and retirement benefits for a longer-living population. The United States -- and, indeed, its Chinese tailor -- must therefore be concerned with the sustainability of what Rueff called an "absurdity." In the absence of long-term fiscal prudence, the United States risks undermining the faith foreigners have placed in its management of the dollar -- that is, their belief that the U.S government can continue to sustain low inflation without having to resort to growth-crushing interest-rate hikes as a means of ensuring continued high capital inflows.

The rising nervousness of America's Chinese tailor is reflected in its recent efforts to redeploy a portion of its mammoth foreign exchange reserves, mostly held in U.S. dollars, into other investments. See, e.g., F. Gimbel, Trickle of money could become investment flood, FT.com (May 21, 2007) (alternate link).

Mr. Steil's preference (at p. 95) is for a world in which governments "replace national currencies with the dollar, the euro or, in the case of Asia, collaborate to produce a new multinational currency over a comparably large and economically diversified area." Of course, as he freely admits, this solution requires the United States to get its fiscal house in order and the European Union to deal effectively with similar fiscal concerns. "It is," he concludes (at p. 96), "the market that made the dollar into global money -- and what the market giveth, the market can taketh away. If the tailors balk and the dollar fails, the market may privatize money on its own (emphasis supplied)."

When Mr. Steil talks about privatizing money, he pulls no punches. He asks (at p. 94): "So what about gold?" And he answers:

A revived gold standard is out of the question. In the nineteenth century, governments spent less than ten percent of national income in a given year. Today, they routinely spend half or more, and so they would never subordinate spending to the stringent requirements of sustaining a commodity-based monetary system. But private gold banks already exist, allowing account holders to make international payments in the form of shares in actual gold bars. Although clearly a niche business at present, gold banking has grown dramatically in recent years, in tandem with the dollar's decline. A new gold-based international monetary system surely sounds farfetched. But so, in 1900, did a monetary system without gold. Modern technology makes a revival of gold money, through private gold banks, possible even without government support.

So there it is, straight from the Council on Foreign Relations: James Turk's GoldMoney and other digital gold payments systems could supplant the dollar and the euro in international trade if the United States and the members of the European Union cannot bring their structural budget deficits under control. What is more, a nudge or misstep from America's Chinese tailor could accelerate the dollar's fall and rapidly plunge the international payments system into crisis.

source

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Brighter future awaits Laos -- and Oxiana

Laos, a mountainous land-locked nation of about six million people, is making the transition to a market economy in the same manner that Vietnam followed the path laid even earlier by China.
Although it has been among the poorest nations in the world, the Lao Peoples’ Democratic Republic, as it is known, has made great headway in the battle to reduce the grinding poverty that afflict so many of its citizens.
Despite the relatively low starting point in per capita incomes, the Asian Development Bank expects Laos to be able to meet its Millennium Development Goals in income poverty reduction.
“However, some non-income targets related to basic education, maternal health, child nutrition and access to clean drinking water may be beyond reach,” it noted in a recent country review.
At the heart of the double-digit industry growth has been exports from the copper-gold mine owned by Australian-listed Oxiana, which is presently expanding output at its two mines in the country.
Oxiana expects to produce about 60,000 tonnes of copper and about 120,000 ounces of gold from its Sepon mine in Laos this year.
Mineral exports commenced at US$58 million in 2004 and had risen to US$216 million in 2005.
Economic growth accelerated to 7.3% last year to take average growth over the past five years to 6.5%.
“Robust growth over the period is largely attributable to industry, particularly to the development of hydropower projects and gold and copper mining,” according to the ADB.
Industry expanded by 13% last year to account for 31% of the economy, a gain of 10% in the past decade. Services grew by 5.5% and agriculture by 3.3%.
Foreign direct investment last year increased by 30% to US$650 million, driven by large investments such as the Nam Theung 2 hydroelectric project and mining.
The government’s 6th Socio-economic Development Plan (2006-2010) aims to attain annual GDP growth of 7.5% to 8% annually during the period with industry growing by about 14% annually.
As in PNG, about 80% of Laotians are farmers although arable land in the landlocked 236,800 sq km country – nearly half the size of PNG – only amounts to 4% of the landmass.
Nevertheless, agriculture and forestry is anticipated in the current five-year plan to grow by more than 3% annually with the services sector experiencing 8% growth.
Data from the World Bank showed that per capita income in Laos has risen from a mere US$280 in 2000 to US$430 in 2005.
The Laotian government is planning for per capita GDP to increase to between US$700 and US$750 by 2010.
By the end of the decade, average income levels in Laos would overtake PNG, even though the Laotian starting base at the start of the decade was around half the level in PNG.
On current plans the Laotian government is on track for its goal of graduating from the ranks of least developed countries to a middle income developing country by 2020.
One sign of the rapidly improving socio-economic situation is access to fixed line and mobile telephones, which has risen 12-fold from 10.1 subscribers per 1,000 people to 120.4 in a mere five-year period.
Life expectancy at birth for the average Laotian is only 55.7, slightly better than Papua New Guinea’s 56.4 years but well below the Asia-Pacific average of 70 years.
In the case of both Laos and PNG, life expectancy has increased by about two years in the past five years.
One of the prime keys to rapid economic growth has been the construction of the 1,070MW Nam Theung 2 hydroelectric project in central Laos.
Work commenced in 2004 with financial assistance from the World Bank and Asian Development Bank and the US$1.45 billion (K4.4 billion) project remains on schedule for completion in 2009.
The vital reservoir impoundment stage will take place in June next year.
About 93% of electricity will be exported to neighbouring Thailand with the remainder going to local consumers.
ADB estimates suggest that the hydroelectric project will generate about US$1.9 billion (K5.8 billion) in revenue for the government over a 25-year operating period.
It will generate US$30 million (K91.9 million) a year in the first 10 years, during which time project debt is paid down, and rise to around US$110 million (K337 million) a year from 2020 to 2034.
The project is being undertaken on a build-own-operate-transfer basis by a consortium owned by Electricte de France International (35%), Electricity Generating Public Company of Thailand (25%), Italian Thai Development Public Co of Thailand (15%) and the Laotian government (25%).
Following the concession period of 31 years, the project will be transferred free-of-charge to the Laos government.
The ADB said the project “has been designed with a suite of environmental and social mitigation measures to ensure that living standards of people affected by the project improve and that the largest biodiversity area in mainland Southeast Asia is better protected and preserved.”

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Monday, June 11, 2007

Tsunami Survivor at Munich Re Warns of Intense Hurricane Season

Warm Seas

``The current warm phase of sea-surface temperatures, which started in 1995, is still the most important driver behind higher hurricane intensity and frequency,'' Hoeppe said in an interview last week at Munich Re's headquarters. ``We will remain in this phase for at least another 10 years.''

His research guides Munich Re's management board and underwriters in deciding how much risk to take and at what price. ``We need to know what burdens we would have to bear if the worst came to the worst,'' said Heike Trilovszky, the head of Munich Re's underwriting department.

Munich Re almost doubled rates for property and casualty reinsurance in hurricane-affected areas after Katrina. Prices for coverage of oil rigs in the Gulf of Mexico jumped as much as 400 percent. The company said it further raised rates for storm-prone regions this January.

The 127-year-old Munich-based company and larger rival Swiss Reinsurance Co., based in Zurich, help insurers such as American International Group Inc. and Allstate Corp. shoulder risks for clients.

Climate Change

``The trend clearly points toward more frequent and more expensive natural disasters,'' said Ernst Konrad, the Munich- based head of equities at Bayern-Invest, which manages about $35 billion and owns shares of Munich Re and Swiss Re. ``That's good for reinsurers as it will drive demand and prices.''

Munich Re's net income rose for the past three years, reaching a record 3.4 billion euros ($4.6 billion) in 2006. Shares of Munich Re rose 32 percent in the past year, topping the 24 percent gain of the Bloomberg Europe 500 Insurance Index.

Hoeppe expects human-driven global warming to trigger more severe natural disasters.

This winter he predicted a major storm in Europe after noting that warmer-than-usual weather left less snow cover in the region. In mid-January, winter storm Kyrill swept through Britain, France and Germany, resulting in more than 40 deaths. Climate models indicate winter storms in Europe will become more intense and less frequent, Hoeppe said.

He reckons the 2007 hurricane season will be worse than usual because of the likely absence of El Nino, a warming of the Pacific Ocean that occurs every few years, and Saharan sandstorms that diminished the impact of last year's storms.

$100 Billion Storm

Hoeppe and most of his team work from the reinsurer's five- story complex in the Schwabing district of Munich, where a glass- encased mock-tornado machine whips up a cloud of mist to greet visitors. They analyze loss reports connected with major catastrophes since 1975, and have archives stretching back to the eruption of Mount Vesuvius in 79 AD.

Other forecasters concur on the likelihood of more big storms. Colorado State University's Philip Klotzbach and William Gray last month predicted five major hurricanes, or those with winds of at least 111 miles (179 kilometers) per hour, will form from the 17 hurricanes expected this season.

Hoeppe foresees a storm resulting in insured damages of $100 billion within the next 20 years. Climate change may eventually bring hotter summers to Europe, hurricanes to Lisbon and bigger storms in the Mediterranean, he said.

Cyclone Gonu, the worst to hit the Arabian Peninsula in more than 60 years, over the past two days pummelled coastal areas of Oman and Iran, including oil shipping lanes around the Strait of Hormuz. Earlier in the week Gonu was a Category 5 storm, the strongest on the Saffir-Simpson scale, as it churned across the northern Arabian Sea.

`Relatively Lucky'

Down the hall from Hoeppe's office, past maps showing ocean currents and storm systems, a computer model pinpoints the oil rigs in the Gulf of Mexico that are reinsured by Munich Re.

``With Hurricane Katrina we were relatively lucky that it didn't hit New Orleans with full force and that it didn't cross the areas most densely used by oil rigs,'' Hoeppe said, pointing to the storm's path colored in red and green.

One mouse click and Lorenz Dolezalek, the department's geoinformatics expert, shows a hurricane path moving through the Gulf toward the Houston-Galveston area. That represents one of Munich Re's worst-case scenarios because such a hurricane ``would hit an awful lot of drilling rigs,'' Hoeppe said.

Galveston, Houston

The region around Galveston is vulnerable because it ``has open access to the Gulf and therefore the sea could be pushed all the way into Houston,'' Hoeppe said. ``This would be a similar scenario to New Orleans, however not as severe since New Orleans is located in part below sea level.''

Losses from hurricanes could be surpassed by earthquakes in Los Angeles, San Francisco or Tokyo, events that are much harder to predict. ``Geologic risks like earthquakes, volcanoes and tsunamis don't show real trends,'' he said. ``Atmospheric events like hurricanes and winter storms do.''

Hoeppe, a native of the Bavarian town of Hassfurt, had little experience outside academia when he joined Munich Re. A year later he replaced Gerhard Berz, who tracked and forecast natural disasters there for 30 years.

``Berz was a famous personality in the international research community,'' said Robert Muir-Wood, chief research officer at Newark, California-based risk-modeler Risk Management Solutions Inc. ``Hoeppe is well on the way to establishing a similar reputation.''

One in 100

An adjunct professor at Ludwig-Maximilians-University, Hoeppe also lectures at the Geneva-based World Health Organization and World Meteorological Organization, and the Paris-based Organization for Economic Cooperation and Development.

The tsunami caught Hoeppe off-guard on Dec. 26, 2004.

``We felt an earthquake about 2 1/2-hours earlier, but I didn't expect that to result in a tsunami because that only happens in about one out of 100 quakes,'' Hoeppe said.

He fled with other guests to a higher point on the atoll, which was submerged under hip-deep water for several minutes. Reefs surrounding the island where he was staying diminished the waves' surge, he said.

more

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Foreign central banks net sellers of U.S. debt-Fed

NEW YORK, June 7 (Reuters) - Foreign central banks were net sellers of U.S. Treasuries last week, Federal Reserve data showed on Thursday.

The Fed said its holdings of Treasury and agency debt kept for overseas central banks fell $12.5 billion in the week ended June 6, to stand at a total of $1.950 trillion.

The breakdown of custody holdings showed overseas central banks sold $9.769 billion in Treasury debt to stand at a total of $1.225 trillion.

The foreign institutions also sold securities from government-sponsored agencies like Fannie Mae (FNM.N: Quote, Profile , Research) and Freddie Mac (FRE.N: Quote, Profile , Research), subtracting $2.727 billion from their holdings, to stand at $725.21 billion.


fed report

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Friday, June 08, 2007

What you call a bearish analysis

It’s easy. The markets are just responding to the growth in the money supply which is in double-digits just about everywhere around the world. When there are more dollars chasing the same number of assets---stocks go up. It’s just that simple. What we’re seeing isn’t the result of investor confidence or industrial output. Heck no! Stocks are rising because our $800 billion current account deficit is recycling into the stock market. What we are really seeing is the first signs of inflation---galloping inflation which will soon spill over into the broader economy.

If we eliminate the “frothy” exuberance of America’s trade deficit, then the stock market would be sucking air through a tube right now. And, you can bet that as soon as our foreign creditors wise-up and start raising interest rates the Dow Jones will quickly become the Dow Doldrums and the economy will nosedive into a 1929-type Depression.

Does that sound overly pessimistic?

At present, the “don’t worry, be happy” crowd still thinks the good times will roll on forever. They don’t see that the US consumer is running out of gas and won’t be able to sustain his gluttonous spending spree much longer. He’s already stopped siphoning the equity out of his home ($600 billion last year) and now he’s has started to max-out his credit cards. (Credit card debt increased 9.2% last month alone!) Now, US consumers are facing a blizzard of bad economic news---rising prices at the gas pump, a 6.7% increase in food prices, and a sickly dollar that keeps losing ground on the currency exchange. (Kuwait is the latest country to announce they will be dumping the dollar for a basket of currencies)

Currently, the US gobbles up two-thirds of the world’s credit each year with no conceivable way of paying it back. That won’t last much longer. Central banks around the world are increasingly hesitant to accept are our flaccid greenbacks and the Chinese are the only ones who are still buying our Treasuries. That’s mainly because it gives them power over political decision-making in Washington. The truth is the Chinese are planning to send the US into receivership and take over as the world’s bank. With dollar-backed reserves of $1.3 trillion, their plan appears to be going “full-steam ahead”.

The bottom line is that we are buried beneath a $9 trillion mountain of debt and there’s no way to dig out. If there’s a break in the liquidity-flows to our stock market---stocks will crash, unemployment will soar, and we’ll be pulled into a deflationary downspin.

Economic soothsayer Elaine Supkis puts it like this:

“World wealth isn't growing, world DEBTS are growing and the place they are growing the fastest is the US which is the sole terminus of world trade at this point. The biggest growth industry today is selling debt instruments. The entire existence of hedge funds, for example, is to funnel profits from uneven trade with the US back into the US via dumping debts onto the backs of any corporations that can run up more debts!” (http://elainemeinelsupkis.typepad.com/money_matters/)

Get it? It’s all just recycled dollars---debt piled on debt piled on debt piled on debt-- repeat ad infinitum. America’s equities portfolio = 1% assets, 99% pure helium.

This may explain why Treasury Secretary Hank Paulson has been frantically beating the bushes for “foreign investment” to keep the stock market bubble afloat. He has no interest in rebuilding America’s industries or increasing our competitiveness. No way. What he’s looking for is a quick liquidity-fix to keep the over-bloated stock market sputtering along while more wealth is shifted to mega-rich corporations. In fact, no one in Washington is even talking about renovating America’s battered manufacturing sector. What do they care if we turn into a nation of busboys and bed-pan cleaners? They’re just hanging around long enough to sell off whatever’s left of our national assets then it’s “off to new markets in the Far East”.

And, they are doing a great job, too! The United States is handing over 1.5% of its national wealth every year to foreign investors while the American public continues to snooze away.

We’re having a giant garage sale and everything must go---roads, water, mineral rights, natural gas etc. We’re getting “picked clean” and no one seems to care.

The boys in Washington and Wall Street don’t work for you and me. They’re destroying the currency and selling everything that isn’t bolted to the floor. Then, they’ll pack-off to Asia and Europe where they can begin the scavenging-cycle all over again.

How bad will it get in the USA?

Consider these comments from Princeton University economist Alan Blinder, who recently attended the business summit at Davos, Switzerland: (summarized by Rep. Ron Paul)

“Word has it that there may be plans yet again to “outsource” highly skilled American jobs to other countries. Approximately 40-million American jobs could be at stake and yet US workers have not been told or consulted about it, until now. Just to put the number of 40 million into perspective, that is more than twice the amount of people that are employed in manufacturing. (According to Alan Blinder) The ‘choice’ jobs of skilled Americans could be lost and given to foreign countries within the next decade or two.”

40 million high-paying US jobs will be outsourced to lower-wage countries within the decade?!?

This is a blueprint for the economic destruction of America!

Maybe this will finally convince the dozy American public that the corporatists who run Washington are a disloyal gaggle of traitorous swine. “Globalization” is public relations swindle designed to steal jobs, plunder the economy, and shift wealth to ruling elites.

The name of the game now is to keep the stock market flying-high for as long as possible while the transfer of wealth continues unabated. That means the hucksters on Wall Street will have to devise even better scams for expanding debt---increasing margin limits, escalating derivatives trading, loosening accounting standards, inflating the booming hedge fund industry, and---the new darling of Wall Street---increasing the mega-mergers, the biggest swindle of all.

These over-leveraged mergers create boatloads of new credit, but add nothing to GDP. They reflect the basic disconnect between the stock market and the real economy. May is on track to be the biggest month for global mergers ever recorded. Marketwatch reports:

“For the year to date, companies have announced at least $2.2 trillion in deals worldwide. Of these, US companies have engaged in $830 billion”.

But look at the figures---Do they sound familiar?

Once again, the insightful Elaine Supkis makes this observation:

“Note that the 'deals' roughly equal our trade deficit. This isn't accidental. They are one and the same! And I will never see this fact stated so baldly in our media. No one dares say it in public.”

Wow; she’s right. Our trade deficit is being concealed by these gargantuan mega-deals in the markets.

And there’s something else we need consider about these mergers; they’re not producing growth in the economy. In fact, GDP keeps falling while stocks keep going higher.

Why?

Because the mergers do not increase productivity; they’re an indication of “asset inflation”. As Thorsten Polleit says, “the government-controlled paper money systems have decoupled credit expansion from the from the economy’s productive capacities.” The link between the stock market and GDP has been broken by inflation.

Henry C K Liu explains it like this in his article “Liquidity Boom and Looming Crisis” in the Asia Times:

“The five-year global growth boom and four-year secular bull market may simple run out of steam, or become oversaturated by too many late-coming imitators entering a very specialized and exotic market of high-risk, high-leverage arbitrage. The liquidity boom has been delivering strong growth through asset inflation (property, credit spreads, commodities, and emerging-market stocks) WITHOUT ADDING COMMENSURATE SUBSTANTIVE EXPANSION OF THE REAL ECONOMY. Unlike real physical assets, virtual financial mirages that arise out of thin air can evaporate again into thin air without warning. As inflation picks up, the liquidity boom and asset inflation will draw to a close, leaving a hollowed economy devoid of substance. …A global financial crisis is inevitable”.

Liu’s right. There’s no “expansion in the real economy”—no increase in output; no boost in GDP. It’s all recycled credit which will “evaporate” at the first sign of trouble.

Greenspan’s low interest rates and currency deregulation have set us up for “global liquidity crisis”.

The basic problem is that credit growth has been outpacing GDP for some time now. That means that debt has been building up faster than the rate of growth in the economy. Eventually those imbalances will have to work themselves out by way of a steep recession or perhaps another Great Depression. There’s a price to pay for low interest rates and, inevitably, we will end up paying it.

Thorsten Polleit of the Mises Institute explains it like this in his article “The Dark Side of the Credit Boom”:

“Today's government-controlled paper-money systems have decoupled credit expansion from the economies' productive capacities: "circulation credit" feeds a "credit boom" that is doomed to end in severe economic, social and political crisis. Austrian economists of the Mises Institute fear that the collapse of the credit boom will lead to the destruction of the currency through a deliberate policy of (hyper-)inflation, destroying the free-market order.”

“Destruction of the currency”; is that too strong?

No. In fact, the United Nations issued this gloomy statement just last week:

“The United States dollar is facing IMMINENT COLLAPSE in the face of an unsustainable debt”. America’s current account deficit is now a matter of international concern.

Polleit says that “the increase in debt-to-GDP ratios ….can actually be observed in all major currency areas, not only in the United States”. This is true. Most of the industrial countries in the world have increased their money supplies to dangerous levels to avoid strengthening against the dollar. It is a prescription for disaster.

If the Fed chooses to lower interest rates now; (to ease the slumping housing market) they will only aggravate “existing disequilibria”. In fact lowering of interest rates will only perpetuate “the fateful expansion of circulation credit that must end in a collapse of the monetary system”.

So, why would the Fed engage in such reckless behavior when it violates fundamental laws of economics? According to Polleit, “the ongoing lowering of interest rates and the accompanying rise in circulation credit and debt-to-GDP ratios — the characteristic features of today's state-controlled paper-money systems — is driven by a deep-seated anti-capitalist ideology.”

This is also true. The serial “bubble-makers” at the Federal Reserve secretly hate the free market system; that’s why they are engaged in plutocratic social engineering. They're using interest rates as a means for shifting wealth from one class to another and creating a centrally-controlled economy. There actions are essentially anti-free market and “anti-capitalist” as Polleit says. We can see this trend even more clearly in US foreign policy where the pretense of “free markets” has been abandoned altogether and America is securing its resources with gunboats and missiles rather than with a checkbook.

The current credit bubble is bigger than anything we’ve ever seen before. For example “The total market volume of credit derivatives outstanding was an estimated US $20.2 trillion in 2006, amounting to around 1.5 times annual nominal US GDP….The market is expected to grow further to US$33.1 trillion until 2008. In fact, the credit derivative market has become the biggest market segment of the international banking business already. The problem, however, is that the “credit derivative markets have emerged on the back of a government-controlled credit and money supply system. And as the latter is assumed to be crisis prone, credit derivative markets might be seen as a multiplier of the crisis potential inherent in today's monetary system”.

In other words, the whole $20 trillion derivative’s market is at risk because it is built on a shaky foundation of hyper-inflated currency. Once again, if money supply exceeds GDP there’ll eventually be a day of reckoning. We expect that derivatives and hedge funds will get hammered once the huge imbalances begin rumble through the markets.

So, what should we be looking for now?

Any break in the liquidity chain will send markets into downward spiral. The likely catalyst for such a crash could be contagion from the housing bubble creeping into the stock market, a sudden downturn in the Shanghai stock market, (which is up nearly 300% in just 2 years) or an increase in Japan’s interest rates. Any one of these could potentially trigger a massive sell-off on Wall Street.

Today’s stock market needs a steady flow of cheap capital to stay aright. That’s why Paulson is desperately looking for new investors. But there’s a basic problem which the markets cannot escape. Inflation is surfacing in all the countries where the stock markets are soaring because of their increases in the money supply. When the central banks are finally forced to raise interest rates; money will tighten up, it’ll be harder for creditors to make their payments or for banks to issue additional loans. As credit dries up more people will default on their loans, demand will drop off for consumer goods, prices will fall, and we will go into deep recession.

Once this process begins, speculators will be forced to abandon their positions, liquidity will continue to evaporate and the market will go into freefall.

Markets are self-correcting. Eventually the overleveraged debt-instruments, which pushed the Dow to historic highs, will be expelled from the system, but not without considerable pain for everyone involved.

Here’s an excerpt from Paul Lamont’s excellent article “Credit Collapse—May 10” which provides a compelling description of what happens a credit bubble begins to unwind:

“On May 10, 1837, the banks of New York suspended gold and silver payments for their notes. Fear of a bank run spread throughout the United States. The young country fell into a 7 year depression. How could two decades of prosperity end so suddenly? According to America: A Narrative History: “monetary inflation had fueled an era of speculation in real estate, canals, and railroad stocks.” Cracks in the dam were visible much earlier, as the stock market peaked in inflation-adjusted value three years prior. According to Rolf Nef, debt levels in the private sector rose to 150% of GDP. In late 1836, the Bank of England concerned with inflation raised interest rates. As rates rose in England, credit tightened, and U.S. asset prices began to fall.

On May 10, investors panicked and scrambled for cash. “By the fall of 1837 one third of the work force was jobless, and those still fortunate to have jobs saw their wages fall 30-50% within 2 years. At the same time, prices for food and clothing soared.”

We can expect a similar scenario in the very near future. When interest rates are kept below the rate of inflation for an extended period of time; enormous equity bubbles arise and threaten the entire system. The stock market is undergoing a period of asset inflation. It has broken free from the real economy and is headed for a crash. As Edward Chancellor, author of “Devil Take the Hindmost: A History of Financial Speculation” says: “The growth of credit has created an illusory prosperity while producing profound imbalances” in the American economy….At some point the system will have to adjust “to face a new reality. The process of adjustment is likely to be painful. It may well end in either an extraordinary deflation...or an extraordinary inflation."

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Sydney defaults hidden away

THE number of home repossessions around the nation is up to four times higher than reported figures because lenders are disguising the nature of forced sales to prop up property prices.

Australia's biggest private debt collector, Prushka, yesterday said about three-quarters of sales forced by bank and non-bank lenders were co-ordinated with the consent of home owners, meaning they were not recorded in court repossession figures.

"By far the most popular way for lenders is to sell the property with the consent of the borrower to avoid advertising the property as a forced sale," Prushka chief executive Roger Mendelson said.

"The idea is to work with the seller because if they sell the property as a mortgagee in possession that will slaughter the price because you're going to attract the bargain hunters."

Mr Mendelson said statements by Peter Costello yesterday that Australia had a low home loan "default rate" - where borrowers can't meet mortgage repayments - failed to address the impact of increasing unreported levels of repossessions.

During a discussion about US default rates hitting an all-time high in the first quarter of 2007, the Treasurer had told Macquarie Regional Radio: "The default rate in Australia is much, much lower than it is in the US ... in fact, we have one of the lowest default rates in the world."

Experts said rising interest rates, coupled with the prevalence of low-documentation loans that do not force borrowers to disclose their income, had caused a spike in mortgage defaults in Australia.

Ian Graham, chief executive of PMI Mortgage Insurance, which insures about one million home loans, said Australia had no register for compiling total home repossessions.

"We would like to see a register introduced - I think the Reserve Bank would be one body in particular that would benefit from more complete data," Mr Graham said.

State "writs of possession" registers record only sales where lenders are forced to apply for repossession orders.

Sydney's outer western suburbs are being hardest hit by the surge in repossessions.

In NSW, 5363 writs of possession were issued last year - up 10 per cent on 2005.

Figures from the Victorian Supreme Court show there were 2791 repossession claims lodged last year, up from 2578 in 2005. The figure has more than doubled since 2003, when there were 1225.

"In southwest, west and northwest Sydney, property prices are weakest and in forced-sale situations property price declines of between 20 and 25 per cent are not unusual," Mr Graham said.

Dara Dhillon, principal of Dhillon Real Estate in Ingleburn in Sydney's outer southwest, said 90 per cent of properties coming to the market were forced sales, and the number of homes hitting the market was rising.

"It's actually getting worse by the month - in one family I was working with, the elderly mother had to return to work to keep a roof over their heads," he said.

But he said that with high employment and healthy wages growth, it was last year's interest rate rises and lax lending policies of non-bank lenders - especially "low-doc" loans where borrowers are not required to prove their income - that were to blame for the current fallout.

"It's a joke - if it was my money I wouldn't lend it but I believe lenders are still doing it," he said. "Low-doc, no-doc, whatever doc - doc doesn't even come into the picture."

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Roubini at the AEI- the trouble is here, finally.

Desmond Lachman (summing up): … that we’re in for a pretty rough ride, and I’d be as bold as to say that I think that this issue is going to be the issue in the 2008 election campaign.

Alex Pollock [0:22:36]: Thank-you Desmond. I thought issues were floated on Wall Street, not bodies. … ah, Nouriel …

Nouriel Roubini [0:22:43]: Thanks. Like Desmond I’d like to actually discuss how the fallout of the subprime meltdown is going to have some implication for the economy. I think that’s one of the crucial things because right now there is this debate ongoing between the consensus that says that the economy is going to experience a soft landing and the alternative view that it might actually experience a hard landing in the form of either a growth recession or actual recession. I’m certainly of the latter view.

I’m a little bit curious that we’re talking only about subprime mortgages because if you think about it, we are literally in a subprime economy, and I’m not talking about it just metaphorically, but think of it, we have dozens of millions of, for example, subprime credit cards, and even before you default on your subprime mortgage you’re going to default on your credit cards, there are dozens of millions of subprime auto loans. And today there was a report [2] on Bloomberg that S&P says that autoloans, subprime auto loans are sharply increasing in terms of default rates. And there was another piece today,[3] I actually thought it was interesting that suggested, you know, that twenty percent plus of all the loans that financed the purchase of a Harley-Davidson’s hogs are also subprime and the default rate for today, the delinquencies has gone, since last year, from two and a half percent to five percent today.

[24:06]: So the point is we’re talking about subprime mortgages, but it’s auto loans, it’s credit cards, it’s all sorts of other things. There’s a whole economy that is subprime, and as I’ll point out also, it’s not just subprime, the spillovers are going to all other parts of the mortgage market and all other parts of consumer credit, and also to corporate creditors.

I think that, you know, the consensus view again, I think has been that somehow felt since last summer, because a bunch of people were worried about the housing recession and its deepening, about the subprime mortgages and the trouble coming of it, and the risk of a hard landing … The consensus was wrong then, then they discovered there was a subprime problem, and now what they’re telling you is that it’s just a niche problem and there’s no contagion from housing for the rest of the economy and no contagion from subprime to [???] mortgages and so on, so I’d like to address some of these consensus views and make some points on why they were wrong then and they’re going to be wrong again now.

[0:24:58]: First point. Consensus tells us since last fall that the housing recession is bottoming out. I have a long paper [4] that was distributed around … I’m not going to be able to go into details of it. Essentially it says that we’re nowhere near close to the bottom of the housing recession. In the typical housing recession housing starts fall by fifty percent approximately. And in some of the deeper ones over sixty percent. We’re down only thirty percent. There’s a long way to go. And any indicator you have right now from the housing market, whether it is building permits, whether it is the housing starts, whether it’s construction, whether it’s completions, where is the demand for new homes, it’s just heading south. The glut of existing and new homes is becoming worse by any standard — unprecedented. The price pressure is downwards.

[0:25:45]: The official numbers are not showing it all to you. The Case-Shiller number came out yesterday, now showing falling prices, but a lot of it is actually seller side incentives that are not measured. You know when you get a forty thousand dollar free swimming pool when you buy a four hundred thousand dollar home, that’s a ten percent price cut that doesn’t show up in any one of the official numbers. So home prices are already falling today. At the rate it’s closer to ten percent, even if the official number is telling you otherwise.

So if you look at any indicator of the housing market, before we even talk about subprime or mortgages, it’s a disaster. This is going to be the worst housing recession we’re going to have since 1960. That’s my view of it. And I cannot flesh out the details of it right now.

[0:26:25]: Second point. The consensus now says — OK, yeah now we are in a subprime problem — now everybody just, whenever they say the words "subprime" they attach to it the term "meltdown" or "carnage." It’s just become almost automatic, when three months ago they were not even talking about the problem, but now the consensus is that it’s just a niche problem, it’s only subprime, it’s not the rest of the mortgages. But think about the reckless lending practices that were essentially being used for the last four or five years. You have zero downpayments, no documentation of assets or income, what people refer to as "liar loans." Interest only mortgages. Teaser rates. Negative amortization. Option ARMs. Was it only subprime? Look at the numbers — was subprime, was Alt-A, was piggyback loans, was home equity, was also a good chunk of the option ARMs. Subprime, near-prime, prime. If you look carefully, the numbers, I would argue that about fifty percent if not more of all originational mortgages for the last couple of years would be things I would consider as reckless — as just toxic waste.

[0:27:31]: So that’s what’s happening. Of course the rate at which Alt-A and other stuff is going to defaulting and get in trouble is going to be later. It’s going to start with subprime and going to go to all the other stuff. But the idea that this is just a niche, that subprime is only ten percent of the stock of mortgages and therefore it’s not a problem is just nonsense. OK.

Additional point. Now people are recognizing, where there’s a total mess in subprime, there’s also a credit crunch in subprime (guess what, about thirty of the lenders have already gone bankrupt [5] in the last three months), but again the problem they say is only a niche problem, it’s going to be a mini credit crunch only for the subprime section, and so on.

The reality is otherwise. When you look at the whole series of indicators and the chart [6] that Desmond showed about … now loan officers are getting more worried by tightening stardards. They’re not tightening standards only for subprime. They’re doing it across the board.

[0:28:19]: The borrowers now are facing a credit crunch, regulators are now, they were asleep at the wheel for six years, under the ideology they should not regulate markets … they let this thing fester and grow. So now they’re cranking on the other side. We’ve seen it every time before. Where we’ve seen all this sort of boom and then bust. And then there was a nasty credit crunch, and we got a recession in 1990.

This time around it’s going to spread — it’s going to spread from subprime to other mortgages, it’s going to spread to consumer credit, first subprime, and it [most problem??] among consumer credit, and to the rest of the economy.

[0:28:52]: Fourth point. People say, you know, the residential mortgage backed security market is still kind of OK. So, as long as it’s OK, then there’s going to be financing and all the rest. I think there’s already evidence that actually, that there have been massive losses in the CDO [7] market, and in a recent study [8] by Rosner and Mason show [9] that if you’re going to have a significant interruption in the CDO market then the whole financing base for the residential MBS market is, figure about 1.33 trillion dollars of issues of new residential mortgage based securities last year, is going to essentially falter. So that’s the kind of thing we’re facing.

Securitization helped the growth of this credit boom and bubble, and this squeeze now on the other side is going to create a mess on the other side around.

[0:29:35]: Additional point. People say there is no contagion to corporate credit risk. You know, those spreads are still relatively low. We’ve seen actually ripple effects and guess what, in a matter of two weeks the CDS speads for firms such as Goldman Sacks, Merrill Lynch, Morgan Stanley, went from triple-A to near junk rate. You have effects on CDX spreads,[10] on Itracks, on CMBX [??], the commercial mortgage backed securities, and so on. If you look at the numbers, and there is a study that has been done by my colleague at Stern, Ed Altman, [11] who is the world leading expert of corporate defaults, based on firms and economic fundamental default rates for corporates today should be around two and a half percent, historically they are around two and a half percent. Last year they were only around point six percent — twenty percent of what they should be given current fundamentals. Why? Well there’s just a massive amount of liquidity coming from Private Equity, levered institution, lots of firms that are under distress are being refinanced out of court, they don’t go through Chapter 11, but under serious distress there is tons of junk that is being issued right now.

[00:30:38]: Once the party is over, and I would say the party is going to be over soon, corporate profitability will be shrinking, all these problems are going to be coming to the surface. You’re going to be seeing massive increases in corporate defaults (back to normal and worse) and then the spreads are going to go through the roof. You’re going to see the contagion is going to take a few months.

Additional observation. Until now, people said, this is just a housing recession. It’s not effecting the rest of the economy. That’s actually incorrect. We don’t have just a housing recession, it’s getting worse. we have an auto sector recession, we have a manufacturing recession, we have every single component of investment that has been falling since Q4. Residential investment was falling twenty percent, but in Q4 investment in equipment and software by corporations has been falling, and given the numbers on capital goods order, last month the ones that came out this morning, it’s getting worse in Q1. People said, yes maybe the construction / residential sector’s doing terrible, but the non-residential construction’s doing great. Yeah, it was growing twenty percent in Q2. Then it went from twenty percent in Q2 annualized growth rate to fourteen percent in Q3, and it became negative in Q4. And now it’s getting even worse. So the idea of there being a decoupling between real estate, residential and the rest of the construction sector was also nonsense.

[0:31:56]: You know Janet Yellen, President of the Federal Reserve Bank of San Francisco said [12] that whole bunch of ghost towns out in the West.[13] So if you have a bunch of ghost towns in the West, why would you want to build shopping centers, offices there. Obviously, with a delay of a quarter or two, there is going to be a link between a collapse of residential and the rest of the construction sector, always happens, so why would there be a decoupling this time around.

[0:32:17]: Now so we have a housing recession, we have an auto recession, we have a manufacturing recession, we have every single component of investment — residential, non-residential, equipment, inventory is collapsing — and people said, we’re not going to have a hard landing until the consumer is faltering, and consumption is seventy percent of GDP, and the consumer is resilient. Trouble is that consumption depends on four things:

it depends on job generation / income generation,
depends on interest rates,
depends on wealth, and
depends on debt servicing ratios.
We are already seeing massive losses of jobs, is going to accelerate in housing, in manufacturing, that’s going to slow down job and income generation. There’s right now interest rates on official mortgages don’t mean anything, you have now a credit crunch, and once there is a credit crunch there is adverse selection … so the price doesn’t go up, what cuts is the quantity, so you don’t see it on the price, it’s on the quantity of credit shrinking, so what houses are facing right now — a credit crunch.

[0:33:13]: Until now the households were consuming more than their income, negative savings, because they were using their homes as their ATM machine. As long as home prices were going up, you could keep up with this party. Right now home prices are falling, and home equity withdrawl was at a 700 billion dollar annual rate in 2005, Q4 it is down to 270. In the meanwhile debt servicing ratio is going up. This year alone you are going to have one trillion of ARMs that are coming to maturity and being reset at much higher interest rates.

So the issue is the consumer is on the ropes, is being squeezed, and now we have two consecutive months of retail sales that is pretty much flat. So that’s what we are facing right now.

[0:33:51]: So the point is that this argument that it is just a small housing recession, mostly a small subprime problem, doesn’t have any basis. What we’re facing right now is a serious situation which the economy is spinning into a recession; a good chunk of the economy is already in recession, the rest of it is going to enter it by next quarter. And the Fed is telling us, like the consensus, we’re going to have two and a half percent growth, this quarter and next (first half of the year) and three percent in the second half of the year. We went from a growth of 5.6 in Q1 lst year to 2.6 to 2 percent to 2.2 in the fourth quarter. Now the consensus has it this quarter has at least two and a half percent, but how could it be? I mean, that 2.2 percent number for Q4 was before the subprime collapse, before we had the lousy number of consumption, before we had the collapse of capital spending and investment by firms. How could the consensus tell you that the growth rate this quarter is going to be better than last quarter? It just doesn’t add up in no way or form.

[0:34:49]: Now will the Fed come to the rescue? In spite of what they say? They’ll try to come to the rescue. Is it going to make a difference? No difference at all. Once you have a glut of capital goods, what the Fed does doesn’t make any difference. In 2000 the Fed was behind the curve — they worried until November of 2000 about inflation rather than growth, like today there was a tightening bias, then from November to December they went from tightening to easing and two weeks later on January 3rd they announced that open after New Year had collapsed, and they cut rates in between meetings. And they slashed rates very aggressively.

[0:35:24]: Did they avoid the recession? No, they put a floor under it. And the simple reason why is that, you know, the Fed rate went from six and a half to one, long rates fell six hundred basis points. And real investment fell by four percentage points, as share of GDP, between 2001 and 2004, why? once you have a glut of capital goods and tech goods, this time around housing and consumer goods, what the Fed does doesn’t make any difference. It puts a floor, of course, on the recession, but the idea that you could just stimulate the economy that way doesn’t make sense. You know, once until you work out this glut and it’s going to take years to work out the glut of housing, the same way it took five years to work out the glut of tech, we’re not going to see a recovery. So the Fed is going to cut rate … are we going to avoid a hard landing? My answer is no. So, I think that’s the problem we’re facing today. [0:36:11]

Alex Pollock: Thank-you, Nouriel, I think thank-you, uh, for that incisive outlook. The co-author of the paper [8] you cited, Josh Rosner is with us today, Josh, thanks for coming. Good to have you. Let’s go on to Chris. …



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Notes and References

[1]: "Mortgage Credit and Subprime Lending: Implications of a Deflating Bubble", Event, American Enterprise Institute & Professional Risk Managers’ International Association, March 28, 2007.

[2]: "Subprime Defaults May Spread to Auto Bonds, S&P Says", by Mark Pittman, Bloomberg, March 26, 2007.

Bonds backed by automobile loans may be hurt by rising subprime mortgage defaults as people with poor credit struggle with their household debt, according to Standard & Poor’s.

Capital One Financial Corp., Wachovia Corp., Wells Fargo & Co., and other lenders have lent more funds to people with bad credit scores in the past few years to sustain growth, S&P said today in a report by analysts led by Mark Risi. The loans are also for longer terms, increasing the probability of default, the analysts said. About 68 percent of 2006 subprime auto loans were due in five years or more, Risi said.

“There could be some fallout from subprime in auto loans,'’ Risi said in an interview. “We don’t have much data yet. We’re still in collection mode. It’s probably going to be hard to say for a while.'’



[3]: "The Subprime Economy: Subprime Meltdown Spreading from Mortgages to Subprime Credit Cards, Subprime Auto Loans and Harley Davidson’s Hog Loans", Nouriel Roubini, RGEMonitor blog, March 29, 2007.

[4]: "The US Housing Recession is Still Far from Bottoming Out", by Nouriel Roubini and Christian Menegatti, March 2007. PDF, available as "Roubini-Menegatti Paper" at [1].

[5]: Like so many others, Roubini is citing Aaron Krowne’s The Mortgage Lender Implode-O-Meter without attribution.

[6]: "Mortgage Credit and Sub-prime Lending: Implications of a Deflating Bubble", by Desmond Lachman, PPT deck, available as " Lachman Presentation" at [1]. Roubini may be referring to Slide 17 - Rising Delinquencies

[7]: Collateralized Debt Obligation (CDO).

[8]: "Where Did the Risk Go? How Misapplied Bond Ratings Cause Mortgage Backed Securities and Collateralized Debt Obligation Market Disruptions", by Joseph R. Mason and Joshua Rosner, Draft paper. From site page of "Where Did the Risk Go", Hudson Institute Event held May 3, 2007. The earlier draft Roubini is mentioning would be the one at this Feb 15, 2007 Hudson event.

[9]: "Subprime shakeout could hurt CDOs: Complex structures helped fuel mortgage boom, but may suffer losses", by Alistair Barr, MarketWatch, March 13, 2007.

These complex structures, which are similar to a mutual fund that buys bonds, helped fuel the U.S. mortgage boom in recent years by purchasing some of the riskier parts of MBS that other investors didn’t want.

They could now do the reverse, according to a recent study by Joseph Mason, an associate finance professor at Drexel University’s business school, and Joshua Rosner, a managing director at research firm Graham Fisher & Co.



[10]: "Credit Derivatives Primer (PPT slide deck in PDF)", by Aaron Brown, Association for Financial Professionals, 2005. I hope this helps

[11]: "Conference Call Today with Ed Altman, Leading Expert on Corporate Distress and Default", Nouriel Roubini, RGE Monitor blog, February 13, 2007.

Ed Altman, a colleague of mine at Stern, is recognized as the leading world academic expert on corporate defaults and distress. His papers and books were the seminal work on the determinants of corporate distress and default, and recovery rates given default.



[12]: "Housing slowdown creating ‘ghost towns’: Fed president says some effects of rate hikes still in the pipeline", by Alistar Barr, MarketWatch, October 16, 2006.

[13]: Twist was way out ahead on this story. See her August 16, 2006 post "Welcome to the Empty Streets of Vacantville".

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Thursday, June 07, 2007

Hedge Funds versus Bear Stearns

NEW YORK, June 7 (Reuters) - Hedge fund managers are accusing Bear Stearns Cos. (BSC.N: Quote, Profile , Research) of trying to manipulate the market in securities based on subprime mortgages, the Wall Street Journal reported in its online edition.

The confrontation provides a rare look into the complex trading in the mammoth U.S. mortgage market, which played a critical role in financing the housing boom, and the complicated relationships between hedge funds and investment banks, the paper said.

Hedge funds that had sold short such securities made profits when an index tied to a basket of subprime bonds was falling. But the index has recovered in recent weeks, leading to howls of protest from hedge funds, according to the report.

The chief critic, John Paulson of Paulson & Co., a $12 billion fund, says Bear Stearns wanted to prop up faltering mortgages-backed securities by purchasing individual mortgages that were rapidly losing value to avoid doling out billions in swap payments, the Journal reported.

Bear Stearns is one of Wall Street's largest players in the market for credit default swaps. By selling swaps, Bear bet the subprime home loan market would improve or at least turn out to be healthier than expected.

Neither Bear Stearns not Paulson & Co. immediately returned calls seeking comment. The head of Bear's mortgage business denied the allegations, according to the report.

A downturn in the U.S. housing market this year has led to rising defaults in the subprime mortgage market, which caters to borrowers with weak credit histories. More than two dozen subprime lenders have collapsed, while others have tightened their lending standards

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China's energy blackhole: Buildings

Buildings account for nearly 30 percent of China’s energy use and are responsible for about a quarter of the nation’s greenhouse gas emissions, according to the latest assessment on China’s energy development. The report, the 2007 China Energy Blue Book, concludes that inefficient buildings and homes waste a tremendous amount of energy each year.

The report notes that nearly 95 percent of existing buildings in China are energy intensive, while more than 80 percent of new buildings built each year—covering some 2 billion square meters in area—fail to meet efficiency rules. China typically spends two or three times as much energy per unit of building area as most industrialized countries.

In 2005, energy required for heating, cooling, ventilating, and lighting China’s 40 billion square meters of buildings accounted for nearly a third of the nation’s total energy consumption, up from roughly 10 percent in the 1970s. Heating and cooling systems alone use nearly 55 percent of this total. As much as 30 percent of the heat generated from conventional heating systems is lost directly, while another 7 percent leaks out through windows opened by residents who are unable to control room temperatures themselves.

Most Chinese buildings are also water inefficient, with sanitary facilities requiring 30 percent more water than those in industrialized countries. Each year, some 20 percent of the water carried via municipal supply networks is lost to leaks, representing almost 10 billion cubic meters of wasted tap water each year, or more than is currently targeted for delivery under China’s massive new south-to-north water transfer project [1].

Office buildings in China use 10 times as much energy as most residential buildings. Government buildings, in particular, waste significant amounts of energy in the absence of consistent government standards on energy use, the report says. Electricity consumed by Chinese government departments and agencies accounts for 5 percent of the nation’s total use.

The report suggests that some 135 million tons of standard coal could be saved each year if all existing and new buildings in China were renovated or designed to meet 50-percent energy savings standards.

Jianqiang Liu is a senior investigative journalist with China Southern Weekend and a visiting scholar at Peking University. Outside contributions to China Watch reflect the views of the author and are not necessarily the views of the Worldwatch Institute.

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Iraqi unions fight to keep oil out of corporate hands

By David Bacon
San Jose Mercury News
Article Launched:06/06/2007 01:32:14 AM PDT

The Bush administration calls the Iraq occupation an exercise in democracy building. Yet from the beginning, many of the Iraqis who want democracy most are treated as its enemies - Iraq's unions.

Iraq has a long labor history. Union activists, banned and jailed under the British and its puppet monarchy, organized a labor movement that was the admiration of the Arab world when Iraq became independent after 1958. Saddam Hussein later drove its leaders underground, killing and jailing the ones he could catch.

When Saddam fell, Iraqi unionists came out of prison, up from underground and back from exile, determined to rebuild their labor movement. Miraculously, in the midst of war and bombings, they did. The oil workers union in the south is now one of the largest organizations in Iraq, with thousands of members on the rigs, pipelines and refineries. The electrical workers union is the first national labor organization headed by a woman, Hashmeya Muhsin Hussein.

Together with other unions in railroads, hotels, ports, schools and factories, they've gone on strike, held elections, won wage increases, and made democracy a living reality. Yet the Bush administration, and the Baghdad government it controls, has outlawed collective bargaining, impounded union funds and turned its back (or worse) on a wave of assassinations of Iraqi union leaders.

President Bush doesn't believe what he preaches. He says he wants democracy, yet he will not accept the one political demand that unites Iraqis above all others: They want the country's oil "

Shadow Government Statistics: May 2007 Edition

Shadow Government Statistics: May 2007 Edition: "The Federal Reserve has been in a long-term liquidity trap, where pumping up of the money supply generally has not stimulated normal economic growth in the post-1987 era. Excessive liquidity did help to build stock-market and housing bubbles, which helped boost economic growth from the standpoint of a perceived wealth effect and extraordinary debt expansion.

The Fed's pushing on string, however, never addressed the underlying structural collapse in economic activity, the long-term decline in inflation-adjusted household income, with a meaningful portion of the U.S. manufacturing base moving offshore. Therein lies the heart of the current economic crisis. Without a new gimmick from the Fed aimed at somehow buying more time, the economy is foundering based on negative fundamentals that cannot be turned quickly (as in decades), and certainly not with excessive money supply pumping. Without sustainable real income growth there can be no sustainable economic growth.

The Fed can hide whatever numbers it chooses, the government can massage its economic statistics as much as it wants, but the underlying reality of a deteriorating inflationary recession remains in place. What the politicians are missing is that Main Street U.S.A., which tends to vote its pocketbook, does not believe the gimmicked data and has an amazingly good sense as to what is going on. The reference there was to Main Street not Wall Street. "

Solazyme selling algal oil feedstock

In answer to a public challenge six months ago, biotech company Solazyme is to announce a deal today to start supplying oil derived from algae feedstock to biodiesel maker Imperium Renewables.

Solazyme has entered into a biodiesel feedstock development agreement under which Solazyme is to generate algal oil for Imperium’s biodiesel production process.

Under the agreement, Solazyme is to grow proprietary strains of microalgae, extract the oil, and deliver it to Imperium, which then intends to convert it into fuel.

Industry observers haven't expected any company to be in a position to provide meaningful commercial quantities of algal oils in the near future, given difficulties in cultivating the right strains of algae and the challenge of extracting oil from it cost-effectively.

But Solazyme co-founder Jonathan Wolfson, president and chief operating office, told Inside Greentech that his traditionally "media-shy" company is farther along than many might think.

"Our technology is advanced enough that we're producing the kinds of quantities that were interesting to do a deal with. We'll be delivering agreed-upon quantities [to Imperium] this year."

Wolfson wouldn't clarify exactly what those quantities would be, however.

He did say that beyond the Imperium relationship, Solazyme expected to hold public demonstration projects this year, showing fuel made from its algal oil powering an internal combustion engine.

Speaking at an event last December with companies pursuing algae oil for biofuels, Imperium CEO Martin Tobias said, in front of hundreds of investors, that he'd "buy 1,000,000 gallons of algae oil today if anyone here on the panel can deliver it." (see Inside Greentech's Biofuel from algae on horizon, say experts.)

At that time, nobody on the panel, which included leading algae companies LiveFuels and GreenFuel Technologies, made commitments.

Why not? Getting oil out of algae cost effectively has turned out to be difficult.

Government researchers experimenting with algae oil extraction have been using centrifuges, which have been expensive and scale poorly. Front-running well funded commercial developers—which, in addition to LiveFuels and GreenFuel, also include Solix Biofuels and Aurora BioFuels—are investigating other techniques.

When asked about Solazyme's extraction process, Wolfson was coy.

"I think we're probably going to keep that under wraps for a while. This is a pretty competitive space. There's certainly money going in, as you know. You can file for intellectual property six ways to Sunday, but there are some things that you should keep private as long as possible."

"I can tell you we've spent a couple of years developing technology around extraction."

Wolfson made it clear that Solazyme does not feel it is at commercialization economics with the technology yet, but said the company is a lot closer than many people believe algae is currently.

"I won't tell you that the economics of extraction are exactly where we want them to be in the long run, but we've made giant strides to get a point where we now feel comfortable that we'll be able to get to the extraction price per gallon that we think is appropriate."

Imperium Renewables has submitted an S-1 filing to the Securities and Exchange Commission, announcing its intention to become publicly traded, and, as a result, is now in a quiet period.

Founded in 2003 and headquartered in South San Francisco, Solazyme is focused on the engineering and optimization of algae for production of biofuels and health and wellness materials. In March, the company raised a $8m+ Series B, plus $2m of debt. The Roda Group led the financing, with participation from Harris & Harris and other undisclosed investors (see Inside Greentech's Another week, another three Khosla biofuel investments.)

Imperium Renewables currently operates a 5 million gallon per year biodiesel production facility, but is constructing a 100 million gallon per year facility in Grays Harbor, Washington, scheduled to open next month.

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Make way for the Chinese giant

By Walter T Molano

The emergence of China as a global superpower occurred much faster than anyone imagined. China is the new giant on the block, with enormous resources at its disposal. An exporting powerhouse, China displaced the United States last year as the largest exporter to the European Union.

Chinese exports to the EU jumped 21% year on year in 2006, reaching 255 billion euros (US$336 billion), versus an 8% year-on-year increase in US exports, which totaled 176 billion euros. Chinese exports continue to expand aggressively, driving up



shipping prices around the world. The Dry Freight Index on the Baltic Exchange was up 41% year-to-date, with no end in sight. The earnings from trade are becoming a headache for the Chinese central bank. International reserves recently passed the $1.3 trillion mark. China's current-account surplus is expected to reach $400 billion this year - representing 12.8% of gross domestic product (GDP). The heady expansion of the Chinese economy is putting it in a leadership position, allowing it to move to center stage in the global arena.

China is having a positive effect on the global economy, which in 2006 grew 5.4% year on year. Developed countries expanded 3.1% year on year, while non-Japan Asia grew more than twice as much - expanding 7.9%. China's GDP growth was 10.7% year on year and India expanded 9.2%. The Chinese effect on the developing world was remarkable. The former member states of the Soviet Union surged 7.7% year on year, sub-Sahara Africa expanded 5.7% and Latin America grew 5.5%.

The commodity boom is changing the economic landscape across the developing world. The volume of global trade rose 9.2% year on year in 2006, and emerging-market countries increased their international reserves by $738 billion. This explains the emerging-market boom. This is not a fad or a reflection of global liquidity. The $256 billion of net private inflows into the emerging markets reflect the credit strength of these economies and their ability to grow.

At the same time, the United States is withering away under the weight of its enormous debt load and various asset bubbles. The US economy grew an anemic 1.3% year on year during the first quarter of 2007. Unemployment is picking up and the dollar is collapsing. The unemployment rate in the US increased to 4.5% in April. Indeed, April saw the weakest pace of job creation in two years. The impact of the housing slowdown is starting to appear in the employment data. The tightening of lending standards is reducing the availability of mortgages, forcing further slowdowns in the construction sector.

The economic slowdown in the US is accompanied by serious concerns about the health of the financial sector. With more than $700 trillion in derivative contracts floating in the marketplace, and much of it tied to the mortgage market, an accident is definitely on the way. Some analysts attribute the steady rise in gold prices to concerns about a looming crisis in the US financial sector.

The changes in the global economic order are also realigning the planet's geopolitical structure. China is starting to set the tempo in the international arena. It has the indisputable lead in Africa, committing $20 billion over the course of the next three years to develop infrastructure and trade. It is shepherding the reconciliation between North and South Korea, easing tensions on its eastern flank.

The growing irrelevance of the multilateral institutions, such as the World Bank, International Monetary Fund and World Trade Organization, is providing a greater opportunity for China to exert a more prominent role without appearing to be a usurper of power. Fortunately, the changes are for the better, at least for most emerging-market countries. China's insatiable appetite for commodities is breathing new life across the developing world.

Last of all, China is providing a bonanza of cheap manufactured goods to developing nations - fueling an unprecedented consumer frenzy. The Chinese behemoth is rapidly displacing the US as the world's main source of capital, manufacturing and commodity demand, leading to a decoupling of the waning North American giant from the rest of the marketplace.

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Morgan Stanley issues triple sell warning

By Ambrose Evans-Pritchard
06/06/2007

Morgan Stanley has advised clients to slash exposure to the stock
market after its three key warning indicators began flashing a "Full
House" sell signal for the first time since the dotcom bust.

Teun Draaisma, chief of European equities strategist for the US
investment bank, said the triple warning was a "very powerful"
signal that had been triggered just five times since 1980.

"Interest rates are rising and reaching critical levels. This
matters more than growth for equities, so we think the mid-cycle
rally is over. Our model is forecasting a 14pc correction over the
next six months, but it could be more serious," he said. Mr Draaisma
said the MSCI index of 600 European and British equities had dropped
by an average of 15.2pc over six months after each "Full House"
signal, with falls of 25.2pc after September 1987 and 26.2pc after
April 2002. "We prefer to be on the right side of these odds," he
said.

The first of the three signals Morgan Stanley monitors is
a "composite valuation indicator" that divides the price/earnings
ratio on stocks by bond yields. It measures "median" share prices
that capture the froth of the merger boom, rather than relying on a
handful of big companies on the major indexes.

"If you look at all shares, the p/e ratio is at an all-time high of
20," he said.

The other two gauges measure fundamentals such as growth and
inflation, as well as risk appetite. "Investors are taking far too
much comfort from global liquidity. Markets always return to
fundamental value, so people could be in for a rude awakening. This
is the greater fool theory," he said. "The trigger may be rate rises
by the Bank of Japan, or a widening of credit spreads. There are
lots of little triggers."

Morgan Stanley is not predicting a recession, believing bond yields
will fall during a correction and act as an "automatic stabiliser"
for the world economy. Once the market shakes off the latest
excesses, it's back to the races.

Tuesday, June 05, 2007

Iran Vows Large-Scale Retaliation if U.S. Attacks

If U.S. forces strike Iranian nuclear facilities, Iranian officials say Tehran will respond by triggering all-out regional war.
“Ballistic missiles would be fired in masses against targets in Arab gulf states and Israel,” one Foreign Ministry official said. “The objective would be to overwhelm U.S. missile defense systems with dozens and maybe hundreds of missiles fired simultaneously at specific targets.”
Tehran’s primary targets would be U.S. military installations and strategic targets in U.S.-allied Arabian Gulf states, including oil depots, refineries, power plants and desalination facilities. U.S. warships would also face waves of surface-to-surface cruise missiles sent to overwhelm their countermeasures, said several senior Iranian officials whose comments reflect the official line but who could not obtain permission to speak on the record at short notice.
“The name of the game is simply to saturate strategic targets with missile firepower in order to render the Patriots and other defenses useless,” said Hassan Fahs, a journalist and political analyst based here.
One Iranian official with knowledge of the leadership’s national-security discussions said his country’s leaders anticipate that U.S. forces will strike with no warning against the military’s command-and-control network, and have ordered ballistic- and cruise-missile battery crews to launch the retaliation plan within an hour after a U.S. attack begins.
“The U.S. will be as surprised with Iranian military capabilities as the Israelis were with Hizbollah in last summer’s war in Lebanon,” he said. “Most of our people are confident we would give the Americans hell and likely emerge victorious.”
Special targets would include Arabian Gulf states that help Washington to justify a strike, said Adm. Ali Shamkhani, a former Iranian defense minister. Sham-khani runs the Center of Strategic Studies, a think tank comprised of former senior foreign, defense and interior ministers who advise Ayatollah Ali Khameni, the country’s supreme leader.
“Allegations by some Arab gulf states that the Iranian nuclear program poses an environmental threat to the area and that it would spark a nuclear arms race are aimed at helping the U.S. establish legitimacy for its anticipated aggression against Iran,” Shamkhani said.
U.S. military action threatens Iran’s existence, he said, “but most of those who speak about the war option are well aware that Iran has the capability to face this choice.”
Tehran would also allow al-Qaida and other Islamic terrorist groups free passage across its borders from Afghanistan and Asia into the Middle East, Iranian officials said.
“Iran will open a freeway for terrorists from Afghanistan all the way to Lebanon, enabling the terrorists to strike in almost every country in the Middle East,” said the official with knowledge of national-security discussions. He added that Iran currently bans such transits from Afghanistan, forcing them to take longer routes and risk capture in other countries. “This positive action would not continue if Iran is attacked by the U.S.”
One Kuwaiti analyst said Iran-backed terror attacks are expected if war breaks out.
“Most Arab gulf states expect to face a series of terrorist attacks in their major cities carried out by either Iranian sleeper cells or al-Qaida members in case of a war with Iran,” said Sami Al-Faraj, head of the Kuwait Center for Strategic Studies.
All this tough talk makes some Iranian analysts nervous.
“Iran regards itself as a regional superpower who is conducting a Cold War-style confrontation with the U.S.,” said one. “The risks involved in playing such a dangerous game with a world superpower are so big that many Iranian officials are anxious about the hardline policies of the current leadership in Tehran, and are pressing for political engagement and de-escalation of tension with the U.S.”
Info Campaign
Iranian military officials are providing data to local think tanks and journalists to show that leaders, aware of U.S. intentions and capabilities, are prepared to overpower them.
“The Iranian street is now more aware of the threat of war than it used to be a year ago, but authorities here are raising the morale and assuring the people by showing they were a step ahead of the Americans,” Fahs said.
In the past few months, the Iranian Revolutionary Guards has shown off new weapons in testing or deployment: ballistic missiles such as Scud variants and the Shihab-3, anti-ship cruise missiles such as the Chinese C-802 and Silkworm, a new high-speed torpedo and spying drones. Guards troops displayed several of the weapons in war games in the past few months, and broadcast on local TV channels and some government-run Web sites what it called UAV-shot footage of the USS Eisenhower aircraft carrier.
“This was to tell the Iranian people that we know where the Americans are and what they are up to, and we can strike them any time,” Fahs said.
The public release of information is a marked change for the often secretive Iranian military, which has widely distributed claims that it has put a spy satellite in orbit, acquired advanced S-300 high-altitude anti-aircraft missiles from Russia, built stealth drones that cannot be picked up on American radars, and deployed missiles that cannot be defeated by the U.S. Navy.
Shamkhani said Tehran has blocked U.S. moves in many parts of the region, boosting Iran’s regional influence, especially in relatively unstable Afghanistan, Iraq, Lebanon and the occupied Palestinian territories.
This puts “Iran today in control of about 70 percent of the U.S. game in the region,” he said.
Iranian officials held talks with U.S. officials in Baghdad on May 28 on the security situation there and offered to help reduce tension in Lebanon.
Shamkhani and other Iranian officials denied U.S. charges Iran is building nuclear weapons and inciting sectarian violence in Iraq.
“All the talk about a Sunni-Shiite divide and Iranian expansionist or hegemonic ambitions are lies spread by the U.S. and Israel to rally regional support and justify a military attack on Iran,” he said. “All the troubles in the region are caused by the U.S. military presence and Israel.” •
E-mail: rkahwaji@defensenews.com.

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Saturday, June 02, 2007

Jeremy Warner's Outlook: Sir Fred's euro-superjumbo takes flight - Independent Online Edition > Business Comment

Jeremy Warner's Outlook: Sir Fred's euro-superjumbo takes flight - Independent Online Edition > Business Comment: "Consequences of dirham shake-up

I cannot recall ever having written about the dirham, the currency of the United Arab Emirates, but it seems this is a situation now worth watching. Despite official denials, the markets are convinced that the currency is about to abandon its dollar peg.

Kuwait has already taken the plunge. Speculation is rife that the UAE will shortly be following suit. The only thing standing in the way would seem to be regional efforts to forge a currency union, a project dear to the heart of Dubai's ruling Sheikh Mohammed bin Rashid Al Maktoum. Floating exchange rates would plainly not be helpful to these efforts.

Yet local banks are so convinced that it will eventually happen, resulting in a substantial appreciation against the dollar, that they are already imposing constraints on large transactions at current exchange rates, resulting in growing paralysis in one of the region's biggest trading centres. The artificially depressed state of the currency is causing severe inflationary pressures in the region - most of its imports come from Europe and Asia - as well as depressing the UAE's buying power abroad. The logical thing would be either to float, or establish a new peg against a basket of currencies more representative of the region's trading patt"

Friday, June 01, 2007

KNOC confirms huge oil

KNOC confirms huge oil field off Russia's Kamchatka penisula

A South Korean consortium led by state-run Korea National Oil Corp. has
confirmed its field in Russia's Kamchatka has an estimated 10 billion barrels
of crude reserves, company officials said Thursday.
The consortium has a 40% stake in the field off the Kamchatka peninsula,
while the remaining 60% interest is controlled by Russia's state-run oil
company Rosneft.
"The estimated oil reserves are much bigger than previously expected," a
KNOC official said. The field was previously estimated to hold up to 3.7
billion barrels of crude.
The size of the deposit was confirmed by an internationally accredited
petroleum exploration company, the official said.
KNOC controls a 50% stake in the South Korean consortium that also
includes state-run Korea Gas Corp. with a 10% interest, GS-Caltex Corp with a
10% stake, SK Corp. with a 10% stake and Daewoo International Corp. with a 10%
interest. Kumho Petrochemical and Hyundai Corp. has a 5% stake, respectively.
KNOC signed a memorandum of understanding on joint development of the
block in Kamchatka in September 2004 when President Roh Moo-Hyun made a state
visit to Russia. In February 2005, KNOC signed an interim finance agreement
for the project, and the consortium acquired the stake ten months later.
KNOC is spearheading upstream oil projects abroad for South Korea. The
country imports all of its crude oil requirements overseas, with more than 80%
of the supplies comes from the Middle East. The state oil company has
designated Kamchatka as the upstream oil development hub in Northeast Asia.
The South Korean government has provided benefits to local companies
involved upstream oil projects in countries other than the Middle East, in an
effort to diversify oil supply sources.

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Calvin on bond prices

It may be of some value – for serious players here - to stop arguing around quite different sets of factors that can cause the movements in bond prices as if there were only one set of variables to look at.

The bond price (interest rate) equation is a differential equation with multiple variables.

One analogy might be to consider a large body of water such as a big lake or a small sea: the total volume of water in the lake might increase, in which case the waves upon the shore beat more vigorously compared to when the total water body was less.

Or, the speed of the tide might merely be at its peak (although the total water body volume remains the same) so that the waves upon the shore beat AS VIGOROUSLY AS THE CASE ABOVE. In other words, there might be two completely different causes of the same wave force or wave rate outcome.

Thus it is possible for interest rates pressure to decline because of lack of demand for cash (low velocity circulation), or for interest rates pressure to decline because of rapidly decreasing total volume of cash.

And, the equation can get much more complex still.

In theory it is possible for a low relative force (pressure) over a time series distribution - of demands for cash – to be exhibited as high nominal interest rates where the economy is not smoothly or perfectly distributed. This would be the situation in which there is a strong and clear disparity between the risk models for credit, of say a monopoly in a business sector, compared to another sector in which there is high competition. Applied interest rates at which the monopoly would consider borrowing money would be totally different to the interest rates at which the competitive businesses would be prepared to take up credit.

Demand for money is not completely symmetrical in respect to risk factors across an entire economy, nor is it totally homogeneous with regard to pure demand in any case.

The total average of all the prices of money throughout an entire economy might come out as a particular figure – and mostly this is expressed as the catchall benchmark prime rate or the benchmark average on Ten Year Government Bonds – but this in itself can hide the asymmetrical topology of credit transactions in an economy. Hence the very reason there is such a thing as capital formation policy led by Central Banks, or fiscal policy led by political government ideologies that people vote about at main elections.

My personal view of the current situation tends towards the idea that there is a very large body of ‘water' (liquidity, or money!) on issue as currency and as government obligations on financial paper, and, that there is a highly controlled set of channels into which this money is helped to ‘run.' Quite obviously, one of these channels is mortgage lending (real estate). Here, there is a rapidly declining total volume of liquidity (falling real estate prices, rising defaults) paired with a very high supply of real estate ‘stock' (properties). On the other hand, there is an extremely low supply of companies in the general equities market with high earnings, paired with a relatively very high historical participation rate of share buyers whether through 401k plans or direct share buying and especially, through virtually globally incoming foreign demand and derivatives.

Risk of liquidity loss and loss of substantial capital value when investing in real estate may well be very high at present, whereas risk of total capital loss in the share market assuming an investor is trying to control their TRADING profits via hedged derivatives only, might be relatively small. The whole big difference between real estate and the share market is namely that it is possible to trade an entire company ‘brick by brick' as it were in ‘shares,' whereas it is impossible to trade a house mortgage brick by brick.

When assuming or trying to assume that major realized losses in real estate will necessarily translate into losses in the general share market Indexes because of the need to liquidate positions held in order to get cash or to pay for debts, it is important to consider if or whether credit channeled into the real estate market happened in quite the same way as money was channeled into the rising prices of equities.

General retail banks and mortgage providers were the sources of the real estate credit boom, whereas investment banks, who were also issuers and ultimately free-carried shareholders of shares were the source of the share market boom. Moreover, the building boom carried with it the seeds of an upside in velocity flows of money in sectors such as building materials and transport. The ultimate owners of shares are the investment bank issuers themselves, whereas the ultimate owners of real estate stock will be the mortgages. These mortgages need to foreclose to gain control of the asset base as fully owned capital; until they do that they only ‘own' the credit contracts (in o0ther words they are ledger short cash). The investment banks do not need to do anything to own their capital base and they are not ledger short cash because in theory, if they were prudent, they would not have been lending cash out in order for the market to buy their shares.

Investment banks indeed should have been the recipients of the cash value of the helocs from mortgage providers.

It is unlikely, in my view, that the major equities Indexes can fall substantially at this stage if this assumption were to be based only on the negative effects of the real estate crash currently being experienced.

Because of this differential equation spoken of at the beginning of this essay, it is unlikely, in my view, that there should be an equities market crash because of sudden hitherto unforeseen fluctuations in interest rates springing from a platform of around 5% ANNUAL at the benchmark. This is a relatively LOW rate of interest if it is used to take short-term hedged derivative positions in equities.

However it is absolutely possible for there to be a huge equities market crash. And, there is no question in my mind that it is possible to accurately pinpoint when this is to occur. The whole point about being a professional bear, is about being correct about when to put your shorts in. And that aspect of the differential equation comes under the Time component, and also whether you think the absolute Volume of realizable Money is vastly in, or out of kilter with the market value of equities, or whether you think the Velocity of the available Volume is vastly higher, or lower, than would substantiate and support equity prices.


Calvin J. Bear

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