As you know there is now a long line of countries diversifying out of the dollar. This does not bode well for the world’s reserve currency. The current account deficit continues to worsen as foreign buying of US denominated assets continues to lessen. It is not just the dollar; it is all currencies. It just happens that the dollar is the worst of all major currencies. All currencies have been down against gold for 1-1/2 years. Global free trade and globalization has created an interdependency, which will negatively affect all currencies. The move out of dollars began a few years ago when 76% of foreign exchange reserves were in dollars. Now that figure is 65.6%. Fifteen banks that we know of have cut dollar reserves. Central banks and some other investors are reaching for yields and as we have told you before you never, ever chase a yield. It is a losing proposition. Reasons given for cutting dollar reserves is the risks to its value and a higher return elsewhere. As China and Asia diversifies, the dollar has to go down. As we have said over and over again gold and silver are the answer and if you are going to trade currencies be sure you have a managed currency account. Do not, under any circumstances, try to trade currencies on your own. In the final analysis the only safe haven currency is gold.
Fed Chairman Ben Bernanke says, “If the housing sector begins to stabilize and if some of the inventory corrections that are still going on in manufacturing begin to be completed, there is a reasonable possibility of strengthening of the economy during the middle of the year.” That may be so, but what Ben doesn’t want to talk about is the pyramid of leverage in debt markets created by the Fed, commercial banks traders and speculators using cheap money from around the world, particularly from the yen carry trade and the 14% increase in money annually over the past four years. We are looking at contracting credit markets and some of these borrowers could get caught way offside.
When you see a market correction triggered by an untoward event like the break in the Chinese stock market it shows the markets throughout the world were very vulnerable. Credit was stretched like a rubber bank. Commodities and gold and silver normally go up when markets go down, that means in order to meet margin calls and reduce risks there was selling in all markets. Gold, silver and commodities will have to find support, but they should recover quickly, because they are in bull markets. The stock market will find temporary support and rally in the summer, but in the fall the markets will have a big correction. The reason for such a sharp correction in all markets is leverage spread all over the world. As we have pointed out before, some of these speculators are up to 50 times their actual capital. This has been a market where everyone is making the same bet. When the yen starts climbing, speculators start selling positions to buy yen. That is one of the reasons the yen rose 3%. Investors do not change risky behavior, they just insure against it with derivatives. Due to the markets the cost of insurance has just doubled or tripled. Derivative purchases were four times normal volume on 2/27 and 2/28. Due to derivatives we have a long way to go because the specs have not really begun to sell, they just bought more derivatives (insurance). In just those two days about $100 billion in derivatives were sold. We wonder how many of them were sold naked?
The same is happening in the junk bond markets. Banks with exposure to the risk that borrowers will default in larger-than-predicted numbers, are buying derivative insurance to protect against losses. Hedge funds and other banks and some insurance companies have been selling that coverage because they think the banks are overestimating the dangers of default. There you have it – a speculative merry-go-round. When the music stops there is going to be lots of grief.
Fed Chairman Ben Bernanke urged Congress to bolster regulation of mortgage giants Fannie Mae and Freddie Mac, suggesting limiting their massive holding to guard against any danger their debt poses to the overall economy. He said their holdings might be linked to a “measurable public purpose, such as the promotion of affordable housing.” Ben’s too late. We believe they are already on the brink of bankruptcy. Freddie Mac has already said it would no longer buy certain risky, subprime mortgages.
Georgia Gulf has disclosed a change related to the inventory of the building products segment could lead to a potential default under an existing loan agreement. It is seeking waivers from lenders to avoid default and to adjust the financial covenants going forward. S&P has them on credit watch. They have requested delay of their 10k with the SEC.
The Federal debt is now over $8.8 trillion and Congress will soon have to raise the dent ceiling again. The acceleration of debt is being complicated because Social Security surpluses are drying up ahead of previously predicted dates. For about two years Japan has bought few US Treasuries and now China says they will no longer purchase Treasuries. Readers our Treasury is headed for serious trouble.
Commerce Bank Corp is under investigation by the SEC. Neither party has divulged what the problem is, but we believe it could be self-dealing. Three years of financials have to be restated. We see a scam like this almost every day. Corporate America just can’t stay clean.