Earlier this week, we wrote of the “Sinking Ship That Is Japan.”  Today, we’re going to take a look at what the bond market has to say about the Land of the Rising (or perhaps “Setting”?) Sun.

In an almost unfathomable vote of confidence in Japan’s credit worthiness given the county’s debt load and horrendous demographic picture, bond investors have priced the ten-year Japanese treasury at a yield of only 1.4%.  Investors are willing to accept a paltry return of less than a percent and a half from a borrower with the state finances of a banana republic — with government debt now closing in on 200% of GDP!

This prompts the question:  WHY?

The standard answer has been that,

1. Since Japan in experiencing deflation the real interest rate is higher, making the bonds more attractive, and
2. Japan’s domestic population, with its high savings rate, has a voracious appetite for “safe” fixed income, essentially willing to buy at any price.

Of course, for a lot of Japanese, the yield is not sufficient, and a fair number invest their savings in foreign stocks, bonds, and currencies.  They will almost certainly be happy that they did, as we view the likelihood of a full-blow currency crisis in the yen being very high within the next decade.

At any rate, international investors may not be as sanguine on Japan’s credit risk.   Consider the chart below, from Bloomberg Read the rest of this entry »

We rather liked the words that the Wall Street Journal used to describe the nascent economic recovery: “Tepid Economic Data Suggest a Sluggish Recovery.”  This is more or less in line with the theme we’ve been covering recently (See prior posts).  Yes, economic activity is starting to happen again, but no, it’s not happening at the rate that it did before the credit crisis, and it’s not likely to get there again any time soon.

One reason for this is offered by a separate Wall Street Journal article: “Sharp Drop in Start-Ups Bodes Ill for Jobs, Growth Outlook.”

The Journal writes,

But this recession is taking a particularly heavy toll on business creation, as sources of small-business funding dry up and would-be entrepreneurs become more risk-averse. When entrepreneurs do launch businesses, they are hiring fewer employees on average. The trends threaten to damp growth in jobs and economic output for years….

Banks are reluctant to lend, especially to companies with weak or no credit history. In a July survey of more than 53 loan officers by the Federal Reserve, more than one-third reported tightening terms for small-business loans in the prior three months, while only one reported easing terms.

Small businesses are the lifeblood of the economy.  But when they are starved of capital, that blood pumps a lot slower.  Bottom line: get used to the New Normal, and set reasonable expectations.

Charles Sizemore, CFA

Co-author of the recently-published Boom or Bust: Understanding and Profiting from a Changing Consumer Economy

The Wall Street Journal has a great interactive graphic that breaks down the string of bank failure since the onset of the crisis: WSJ graphic. The enormous bubble that engulfs the entire northwest corner of the US map is, of course, Washington Mutual — the biggest bank failure in US history with $188 billion in deposits. Luckily, JP Morgan Chase stepped in and took control, otherwise Wamu would have single-handedly wiped out the FDIC. According to the WSJ, the FDIC insurance fund has a whopping $10 billion…which doesn’t go too far when you’re insuring $6 trillion in deposits!

Meanwhile, the number of problem banks continues to rise. The WSJ writes, “The Federal Deposit Insurance Corp. said it had 416 banks on its “problem list” at the end of June, equivalent to about 5% of the nation’s banks, up from 305 at the end of March and 117 at the end of June 2008. Problem banks had a combined $299.8 billion of assets at the end of June, compared with $78.3 billion a year ago.”

So, while the economy does appear to be improving for now, the banking system remains in sorry shape. Ultimately, this will mean less credit creation and continued deflationary pressure, which should linger for years. We’re not out of the woods yet.

Charles Sizemore, CFA

Co-author of the recently-published Boom or Bust: Understanding and Profiting from a Changing Consumer Economy

For the last several months, every time I see/hear/read analysis about our economic crisis, from unemployment to profits to healthcare to tax receipts to tax rates, the shape of the conversation seems to centered around how things will look as the economy, measured by GDP growth, improves.  Will there be nagging unemployment?  Will Health care costs continue rising?  Will tax receipts rebound quickly or slowly?  and on and on… I’m ready for some sober, quality dialogue about how we will move forward if this is not the case.

For a few minutes,  think about the consequences if things go the other way. 

What if revenues do not grow? 

What if tax receipts at the state level, which are now running at a down 20% year over year don’t come back, but stay down or even get worse?

What if the mythical savings in a government run healthcare system fail to materialize and we are left with even higher costs while the greater economy sputters?

What if pensions, which are relying on fantasyland rates of return, simply go broke?

What then.  I believe we need some leadership that clearly puts forth what they see as the best course of action, but also ways to measure success or failure along the way, and corrective measures that would then be taken. 

What I do not need is yet another program or plan that is put forth simply because someone believes “we have to” or that we “have no choice.” 

Harry was on CNBC last night (8:05ish).  I still cannot get used to the fact that we are now the BEAR at the party!  For over a decade for me and two decades for Harry we have been considered perma-bulls and now we are the kill-joys.  Things change.

For all of the positive signs that people want to throw at us, there are still considerable  obstacles that are between us and a recovery, and they show no signs of abating anytime soon.  These problems - personal debt, unemployment, etc. - all stem from the same theme of a change in personal spending.  And yet almost no one will admit that this is THE determining factor. 

2/3’s (used to be 73%, now 65%) of our GDP is personal consumption.  As we consume less, businesses make less, so they employ less, so workers have less to spend…and therein lies the vicious circle we have entered. 

 The Boomers spent two decades spending more.  The last 5 years this spending created a debt-bubble that is currently being worked off, or de-leveraged.  It’s painful.  It’s no fun.  But it is necessary.  At the same time this group has firmly moved into the “save more” camp.  Also a good thing.   But it further slows spending, further increases the pain.

On the program last night there was a discussion of “pent-up demand”.  Really?  Lots of people are just dying to make even larger purchases, adding to their personal debt load in the face of job losses, mounting residential foreclosures, falling asset prices and steeper taxes? 

This morning JPMorgan announced great profits, but also increased loan-loss reserves for personal credit.  In the months ahead, it will be credit cards, prime loans, and then commercial real estate that cause setbacks. 

Being bullish is more fun, but helping readers protect themselves is more rewarding.  We’ll stick with our research and, for now, the kill-joy point of view. 

We’re not sure if this is a sign of things to come or if perhaps the extremes of the bear market might have caused temporary insanity, but a “group of wealthy pensioners has been accused of kidnapping and torturing a financial adviser who lost about $4 million of their savings,” according to the Sydney Morning Herald (”Zimmer frame gang ‘tortures adviser’ who lost $4 million“).

As the Herald continues, “The pensioners, nicknamed the “Geritol Gang” by German police after an arthritis drug, face up to 15 years in jail if found guilty of subjecting German-American James Amburn to the alleged four-day ordeal,” which included being chained to a chair, burned with cigarettes, beaten, hit with a chair leg, and having multiple ribs broken over the course of four days.   While not quite as disturbing as the torture scenes in Casino Royale or Reservoir Dogs, this is not a movie — this is real life! Read the rest of this entry »

George Soros, the famous hedge fund manager, has spent most of his career defending his “Theory of Reflexivity.”  Like ourselves, Soros is a staunch critic of the orthodox view of market efficiency, specifically the idea that the market reflects all currently available information (see our prior post “Stating the Obvious: Markets Are Not Rational“).

One of the key points of Soros’s Theory of Reflexivity is that market prices are not merely a reflection of investor views about economic fundamentals but rather that the prices and fundamentals play off of each other in a self-reinforcing cycle.   In other words, falling stock prices do not just anticipate sagging economic fundamentals; they can also cause them.

Read the rest of this entry »

We’ve heard a lot about “green shoots” in recent weeks.  After more than a year of bitter pessimism, many investors and economists are starting to see fragile signs of recovery.   We agree with this, to a limited extent.  But we also firmly believe that this recession is FAR from over.  

We continue to see anecdotal evidence that the economy and the financial sector remain very weak. Consider this headline from today’s Financial Times: “Spanish bank offers employees five-year work break on 30% pay.” 

Yes, Banco Bilbao Vizcaya Argentaria (BBVA) — one of the biggest banks in the world —  is offering some of its employees a five year holiday.  It appears that this financial giant sees business being slack for at least the next five years, and is letting some of its employees take what amounts to a leave of absence.  

So, if you are planning to take a vacation to sunny Spain any time soon, you might find the beach resorts and tapas bars a little more crowded.  Perhaps this is BBVA’s attempt to generate more rental business for vacation homeowners on the Spanish coast who happen to have mortgages with BBVA?   

We say this jokingly, of course.   But our original point remains:  ”green shoots” or not, this global recession is not over.

In a sign of how the process of globalization has interconnected the world’s markets, we now see weakness in areas we previously thought were…shall we say…outside of the economic mainstream.   The Wall Street Journal reports that “The Global Downturn Lands With a Zud on Mongolia’s Nomads,” “zud” being a Mongolian term meaning an exceptionally harsh winter.   We like the “winter” analogy, using it ourselves in various HS Dent publications. Read the rest of this entry »

It’s hard to believe, given the British reputation for liking a drunken good time, but pubs in the United Kingdom are having trouble paying their bills.  According to the Economist, British subjects consume an average of 12 liters of pure alcohol per capital per year–nearly 50% more than Americans.  Yet we read in the Wall Street Journal this morning that “As the recession prompts UK pub crawlers to drink at home more often, two of the country’s biggest pub owners are selling or closing hundreds of locations to pay the tab from a decade-long expansion.”  Recent statistics show that 39 pubs are closing every week.

Read the rest of this entry »