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May 12, 2010 – BREAKFAST WITH DAVE
Why it’s disturbing is that it cites research showing that 12% of mortgage
defaults are now “strategic” and that somehow this is now okay on our What happened during this
increasingly hedonistic society. In fact, a law professor is quoted as lamenting recent round of intense
why people are “throwing their money away on a home in which they may never European-led volatility and
have equity.” Wow. Look how far we have progressed. We used to be told “why financial market weakness
throw your money away on rent? Why don't you own?” Now it’s “why throw your was that gold rallied even in
money away on a house?" Maybe because you signed a contract — now why U.S. dollar terms
should that matter.
GOLD GLITTERS
In the aftermath of the Lehman collapse, gold faltered as there was a huge
margin call everywhere and investors seeking liquidity sold off their winners.
The secular bull market for bullion did not end at the time, no long-term
trendline was violated, and gold did rise in non-U.S. dollars and far outperformed
other currencies. But what happened during this recent round of intense
European-led volatility and financial market weakness was that gold rallied even
in U.S. dollar terms, which is significant seeing as there were large-scale safe-
haven inflows into greenbacks. So this time, gold has managed to hit new highs
in all currencies, and gold rallied even with the overall commodity complex
slipping noticeably over the past few weeks.
This is a sign. Of what, you may ask? That gold is no longer trading just as part of
the resource sector but is now taking on the characteristics of a currency. While
the U.S. dollar has gained ground since late last year, there is no doubt that an
Administration that has a stated policy of doubling exports in the next five years to
“support” two million jobs absolutely craves a depreciating greenback.
So gold is no government’s liability and the shape and shift in its supply curve is
the shape would seem to be a little easier to make out than fiat currency. We
may end up being overly conservative on our peak gold price forecast of $3,000
an ounce.
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May 12, 2010 – BREAKFAST WITH DAVE
110
105
100
95
90
85
80
85 90 95 00 05
Alas, despite tremendous government stimulus, the current level of 90.6 is still
lower than the low we saw at the depths of the 2001, 1990 and 1981/82
recessions. In addition, the current level of the NFIB small business optimism We welcome any good news
index is still below the average of the recessions going back to 1975; the and the recent pop in the
average during recessions is 92.0. And, at 90.6, it is nowhere near what is NFIB index is a move in the
right direction. But the NFIB
deemed as an expansion (average during expansions is 100.2) or even the end
index, based on our
of a recession (average at the end of the recession is 96.9).
simulations, is consistent
with real GDP growth of 0%
We welcome any good news and the recent pop in the NFIB index is a move in
the right direction. But the NFIB index, based on our simulations, is consistent
with real GDP growth of 0%. We reiterate that outside of the lagged impact of
the bailout, fiscal and monetary stimulus, together with the arithmetic bounce
from the inventory component of the GDP accounts, the U.S. economy is still
contracting. The contraction in State and local government spending,
commercial construction and even housing three years into its meltdown are all
posing significant drags on the pace of overall economic activity.
To be sure, the coincident economic indicators have quite been firm, but the
leading indicators have already peaked out and rolled over. A second half
growth relapse similar to what we saw in 2002 cannot be ruled out — and the
market is as much priced for this prospect today as it was back then.
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May 12, 2010 – BREAKFAST WITH DAVE
We’ve said it before and we shall say it again, real final sales since output
bottomed in Q2 of last year has averaged a mere 1.38% at an annual rate. It By maintaining a policy of
does not get weaker than that in the context of a post-recession recovery. So, ensuring that risk assets get
remove the inventory contribution and the V-shaped bounce in the economy is mis-priced and that capital
nothing more than an illusion. gets mis-allocated, it is more
likely that deflation
IT’S STILL DEFLATION pressures will intensify
Throwing good money after bad, as the world’s governments are busy doing (this
will cost Ms. Merkel her job) does not create inflation. By maintaining a policy of
ensuring that risk assets get mis-priced and that capital gets mis-allocated, it is
more likely that deflation pressures will intensify.
If you haven’t noticed, real M2 is down YoY now for the first time in 15 years. A
reconstituted real M3 is deflating now YoY for the first time in 50 years.
35
30
25
20
15
10
5
85 90 95 00 05
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May 12, 2010 – BREAKFAST WITH DAVE
The labour force is only going up because benefits are starting to expire after 99
weeks on the dole. The really important, and unnoticed, data-point last Friday The U.S. labour force is only
was the 255k bulge in the ranks of the unemployed — and there are still 5.6 of going up because benefits
them vying for each job opening, a competitive pressure that is forcing the trend are starting to expire after
in wages down to historic lows. Governments around the world are in clear 99 weeks on the dole
bailout mode but as we saw in the 1930s, and again in Japan since its credit
collapse began in 1990, waging war against deflationary forces is no easy task.
5250
4500
3750
3000
2250
00 01 02 03 04 05 06 07 08 09
1
00 01 02 03 04 05 06 07 08 09
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May 12, 2010 – BREAKFAST WITH DAVE
4.0
3.6
3.2
2.8
2.4
2.0
1.6
07 08 09
Home prices WERE up eight months in a row, until the Case-Shiller 20-city index
decided to take a 0.1% MoM (seasonally adjusted) dip in March. And, on a raw
basis, prices were down 0.9% on the month and have actually been deflating
now each of the past five months (raw as in not seasonally adjusted — and the
CS officials have confirmed that the seasonal factors did give an upward skew to
the data in prior months).
The LoanPerformance national home price index is also down now for three
months running. The FHFA home prices series is also down three months in a
row. And, the total unsold housing inventory, when accurately calculated, is
running between 16 and 21 months’ supply, and it is this imbalance that is still
exerting downward pressure on residential real estate valuation in the U.S. If we
end up truly reverting to the mean this cycle, in classic Bob Farrell Rule #1
fashion, then there is 20% downside potential to home prices from here.
We had said that the two biggest risks to Mr. Market’s nirvana view of the world
was a reversal in both the unemployment rate and home values … and the latest
data do suggest that this is on track.
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May 12, 2010 – BREAKFAST WITH DAVE
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