The Daily Reckoning - The Grandest Larceny

verfasst von Firmian, 23.08.2003, 22:18

-->The Grandest Larceny

The Daily Reckoning

Ouzilly, France

Friday, 22 August 2003

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*** Gold falls... but it is still a bull market

*** Stocks rise... but it is still a bear market

*** The euro is down... Abby is up... Bezos is lost in
space... Is America lost in the desert?

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"Factors Align in Gold's Favor," says TheStreet.

Yesterday, gold fell heavily - by $5.20 an ounce, to $361.
This is good news to us because we want to buy more of it.
But it must make most investors wonder what 'factors'
TheStreet is talking about.

Isn't the stock market booming? Aren't we recovering from the
slump? Doesn't the U.S. have the world's most robust economy?

People are still buying things they don't need with money
they don't have... they're still buying houses (the median
house in Orange County now sells for $428,000... which is
especially amazing considering that the median house in
Southern California is a charmless carton stuck in the middle
of a desert)... and they're still fattening up on those
delicious Krispy CrÅ me doughnuts.

But what's this? Krispy Kreme disappointed investors
yesterday. The stock fell 3% after being up 35% so far this
year. Even after yesterday's decline, however, a share still
costs 78 times earnings and 6 times sales.

How likely is it that people will eat so many Krispy Kreme
doughnuts... at a reasonable profit margin... that investors
will be able to get a decent return on their money? How much
more likely is it that the price will fall to the point where
earnings justify the price - say, by about 70%?

How likely is it, on the other hand, that gold will fall by
70%? Well, there you have it - one of the factors that
TheStreet may not have thought about. Gold is just coming out
of a 20-year bear market. Stocks, most likely, are just going
into one.

Another factor that seems to weigh on gold's scales is that
while dollars are being created by the trillions, gold
production is actually going down! TheStreet notes that
production is expected to fall by about 3% per year through
2007.

Beyond that, says TheStreet, gold rises"when investors lose
confidence in paper money."

As far as we can tell, investors still have much more
confidence in the dollar than it deserves. Which means this
bull market in gold has a long, long way to go. As of
yesterday, a shareholder could take 8 shares of Krispy Kreme
and trade them for more than an ounce of gold. By the time
this cycle is finally finished, years from now, he'll wish he
had. (More on this and other things... below... )

Eric, what else is happening in the Big Apple?

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Eric Fry in New York City...

- The Dow Jones Industrial Average added 26 points to 9,424,
a fresh 14-month high, while the Nasdaq Composite soared 1%
to 1,777. Stocks seemed to gain strength from a potent
cocktail of favorable economic reports and bullish blather
from Wall Street strategists.

- The Daily Reckoning's favorite bullishly blathering
strategist, Abby Joseph Cohen, raised her 2003 and 2004
earnings estimates on the S&P 500. The perpetually positive
Goldman strategist upped her estimates to $49 from $46 for
2003 and to $53 from $51 for 2004. Based upon Cohen's new and
improved estimates, the S&P 500 trades for a little more than
20 times earnings. That's not obscenely expensive perhaps,
but 20 times earnings is hardly 'deep value' territory.

- So it seems that investors now embrace the '2004 recovery
trade' as wholeheartedly and passionately as they embraced
the 'deflation trade' last April and May. Recall that during
the breezy days of spring numerous Fed officials and Wall
Street economists worried aloud about the looming threat of
deflation.

- The lumpeninvestoriat trembled with fear at the prospect
and rushed to buy bonds. The lumps came to believe that long-
term bonds offered a terrific investment opportunity, no
matter how miserly the available yields might be."In
deflationary times, stocks are risky," bleated the lumps, as
they poured billions of dollars into bond mutual funds.

- But the anticipated deflation failed to appear, and failed
therefore to deliver the legions of hopeful bond investors
into the Promised Land of milk, honey and capital gains.
Instead, bond prices collapsed at the very moment most
investors expected it to rise...

- But now, late spring has given way to late summer, and
likewise the threat of deflation has given way to the near-
universal hope of economic recovery and 'benign inflation.'
As 'markets make opinions,' nearly everyone now holds the
opinion that the deflation scare was overdone - a kind of
unintentional hoax, just like the Millennium bug scare. So
now the lumps are unwinding their ill-fated bond investments
in order to initiate ill-fated stock investments.

- Folks now know that the economy is recovering. They also
know that a 'small' rise in the inflation rate and therefore,
in bond yields, is nothing to fear. 'So sell your overvalued
bonds and buy stocks,' says the conventional wisdom,
'especially richly valued growth stocks and cyclicals.'

- Perhaps this nationwide portfolio shift from bonds to
stocks will succeed much better than the preceding
catastrophic shift from stocks to bonds... but we wouldn't bet
on it.

- The stock market's feverish anticipation of robust economic
growth does not make robust growth a fait accompli. As
pleasant as a months-long stock market rally might be, its
curative powers are limited. A stock market rally cannot, for
example, cure the common cold, nor can it cause the
spontaneous disappearance of spouses... and a stock market
rally certainly cannot eliminate the residual effects of a
stock market bubble-gone-bust.

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Bill Bonner, still out in the country...

*** Amazon.com... our favorite River-of-No-Returns stock has
found a new way to lose money. Business Week reports that CEO
and Founder Jeff Bezos is investing the firm's money in a
start-up that will make space travel available to the common
man.

*** The euro fell to $1.09. This may be the best chance to
get out of the dollar for a long, long while.

*** The IMF is pulling out of Iraq... along with private
companies and other international organizations. For all its
high-tech military hardware, the U.S. cannot guarantee
foreigners' safety in its new fiefdom.

Oh reader, we stand back in awe and wonder. Could life really
be so elegantly perverse? The Bush Administration faced no
serious enemies when the 21st century began. No conventional
army could stand against it. So, what did it do? Did it do
the one and only thing that might ruin it... and re-establish
a balance of power in the world?

Lacking a conventional enemy, the Bush team created an
unconventional one. It pinned its army down in a hostile
environment and invited guerrilla attacks, against which its
computerized military machine had no defense."Bring them
on," boasted the president of the world's biggest debtor
nation. Now, they are coming on... and the greatest superpower
the world has ever seen wastes its great advantage on a fight
it cannot win... against an opponent it cannot find... in a
part of the world no American really cares about. Little by
little it leaks away... like blood into the desert sand.

More below... sort of...

------------------------

The Daily Reckoning PRESENTS: An intriguing mystery... What
was the crime? Theft? Fraud? Counterfeiting? First, Bill
Bonner with a review of the clues...


THE GRANDEST LARCENY
by Bill Bonner

Behind every big financial headline is a crime, we wrote
earlier in the week.

Today, we open the police ledger and follow up.

August, 1971 is the date on the top of the file. It is the
date the administration of Richard Milhous Nixon did
something extraordinary; it crossed the Rubicon in monetary
history. Henceforth, foreign governments would not be able to
redeem their surplus dollars for gold.

Mention the late president's name and the average person
recalls the crime with which he is so often associated: B&E
at the Watergate.

But while the public's attention was distracted by the
breaking and entering of Nixon's fumbling sidekicks, another
team of Nixon goons was pulling off the biggest bank heist of
all time.

A lumpen investor, a university economist, or a Federal
Reserve governor might have read the headlines of the last 30
years without noticing how they tucked together. He might
have seen the boom in gold of the '70s... or the bubble in
Japan in the '80s... or the subsequent bubbles throughout the
rest of Asia... as events as independent of each other as a
stolen hubcap in New Orleans and a stolen kiss in Boston.

He might also have looked upon the boom and bubble in the
U.S. as unrelated... and mistaken the run-up in stock prices
as a consequence of the New Era wonder-age... or of the new
productivity of information age technology... or of the
newfound wisdom of the guiding hands at the Federal Reserve.
He may even have referred to the 'productivity miracle' as
the source of such a wonderful thing. Never, on the other
hand, would he have imagined that all the great economic and
market events of the past 3 decades found their inspiration
in the same sordid place and time: at the hands of Nixon's
henchmen in the early '70s.

What was their crime? Breach of contract? Theft? Fraud?
Counterfeiting? Weren't they the ones who began the practice
of printing up Federal Reserve Notes by the trillions - and
passing them off as real money? And had they not breached the
promise of the U.S. government to settle its debts in gold?
And did they not set in motion a pattern of robbery -
stealing away the value of every dollar-based asset in the
entire world?

Imagine an investor who bought a 30-year U.S. Treasury bond
in 1970. Did he not have a right to expect to receive a
dollar back for every dollar lent? And shouldn't he have been
able to expect that each of those dollars he received - in
the year 2000 - would be worth about as much as those he had
given up?

We can measure the damages by looking at the price of gold.
In 1970, each dollar would buy an investor 1/34th of an ounce
of gold. Thirty-three years later, Mr. Market, sitting as
judge and jury, tells us that a dollar is worth less than
1/10 as much, or 1/360th of an ounce of gold.

Even so, our guess is that Mr. Market has more punishment in
store.

Investors, taking the U.S. government at its word, have lost
trillions. Still, so subtle was the theft that the victims
have practically applauded the crime for the last 20 years;
they seemed to think it was making them rich!

Printing up trillions of dollars worth of new money was bound
to have an effect. After the initial shock and adjustment in
the '70s, most investors smiled; the effect was quite
pleasant. Cash and credit flooded out upon the world;
everywhere it gushed, asset prices sprouted and economies
turned green. The year after Nixon 'closed the gold window,'
commencing the Dollar Standard era, the Dow rose over 1,000
for the first time in its history. This began what Richard
Duncan describes as the"Great End-of-the-century Stock-
market bubble." By the time it was over, the Dow has risen
11-fold. It was absurd, even grotesque. But who traces crime
leads when no one complains?

Of course, this was not the first time America had felt the
effects of a flood of extra money. Nor was it the only
country to benefit. Richard Duncan describes the process in
his book, The Dollar Crisis, which we strongly recommend:

"The breakdown of the classical gold standard at the outbreak
of World War I set off a chain of events remarkably similar
to that which occurred following the collapse of the Bretton
Woods system. Once the discipline inherent in the gold
standard was removed, trade imbalances swelled and
international credit skyrocketed. The result was
prosperity... followed by depression."

When war came in 1914, France, Germany and England were in
positions not so different from that of Richard Nixon in 1971
- their backs were to the wall. Cornered... trapped... they
erred and strayed from the classical gold standard and
reneged, as Nixon later did, on their promises to pay for
what they bought in currency backed at a fixed rate by gold.
At the time, the American economy was much like the Japanese
economy of 1980; it was growing quickly and ready to sell to
the war-mongers anything they wanted to buy. Orders rushed
into American companies. Soon, the country was awash in with
commercial activity... and then with foreign currency and
gold. This tide of new money, says Duncan, did for the
American economy of the '20s about what the flood of dollars
did to the Japanese economy of the '80s - it caused a boom,
which turned into a bubble, which then blew up and was
resolved in a long recession/depression.

Now the process is being repeated. Japan boomed and busted,
then Thailand, now China. But the real crime was committed in
America, and it cannot escape punishment, says Duncan.
The 'boomerang currency' leaves the U.S. to buy goods -
causing booms and busts wherever it goes - but it comes back
home. What can the foreigners do with their dollars except
buy U.S. stocks and bonds... and hope the dollar doesn't fall?

And now the biggest boom in the world... in the U.S....is
about to turn into the world's biggest bust. We have been
predicting it here for the last 4 years. We have harped on
it. We have bored readers and ourselves with it. But it is
inevitable and inescapable -- a kind of divine justice that
no rate cut or fiscal stimulus can avoid.

Since 1971, the U.S. has added trillions to the world's
supply of dollars and credit. During this same time, only
about 58,000 metric tonnes of gold have been brought from the
ground. Many are the calculations showing how much the dollar
should fall. All we know is that it should fall a lot... which
would effectively end the Dollar Standard period, lower
standards of living in the U.S., bankrupt 20 million
Americans, put an end to the U.S. consumer-driven growth,
collapse stock and bond prices, and send America and most of
the world into a long slump from which it might not emerge
for another 10 to 20 years.

Some adjustment is irresistible. Every crime gets punished,
somehow, and because there is no way the U.S. can continue
adding to its trade deficit at the rate of $1 million per
minute, it's misconduct will be no exception.

"Balance of payments deficits of an unprecedented magnitude
have resulted in credit-induced economic overheating on a
global scale," explains Duncan."The foundations for
sustainable economic growth will not be restored until this
flaw is corrected and the U.S. trade deficit ceases to flood
the world with U.S. dollar liquidity.

"Now," he continues,"the engine of global growth is flooded
and beginning to stall. Too much credit has been extended
that can't be repaid. Businesses have baldly misallocated
capital, and consumers have grown accustomed to living beyond
their means. Bankruptcies are soaring as share prices plunge.
The U.S. economy is coming in for a hard landing... perhaps
even a crash landing..."

Of course, it hasn't happened yet. Investors are tempted to
look out their windows, see the sun shining, and think the
good times will last forever. They have no interest in the
financial crimes of the Disco Age... nor in the balance of
trade during the reign of Bush the Younger.

They might be tempted, says Duncan, to reply to our worry
like Caesar to the soothsayer."Beware the Ides of March,"
the seer warned. Later in the day, spotting the soothsayer,
Caesar pointed out that the day had come and all was well.

"Yes, the Ides has arrived," the soothsayer replied,"but it
has not yet passed."


Bill Bonner

P.S. More than just foreign central banks are getting in on
the act. Consumers, too, have been borrowing more than ever
before. From 1997 to 2002, Americans added $10,464.9 billion
to their debt, while GDP grew a modest $2,127.8 billion.

In other words, it took 4.9 dollars of debt to create one
additional dollar of GDP growth.

Overall, credit expands at a rate of some $1,500 billion
annually. And every single dollar has to be paid back. When
Americans realize how much they owe, their spending is going
to come to a screaming halt. But they won't have enough money
to pay off their debts. If the Fed wants to avoid a tidal wave
of bankruptcies, it will have no choice but to devalue the
dollar.

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• The Daily Reckoning - The Grandest Larceny - Firmian, 23.08.2003, 22:18