The Risks to the Global Financial System in 2012

The 'Helicopter Economics Investing Guide' is meant to help educate people on how to make profitable investing choices in the current economic environment. We have coined this term to describe the current monetary and fiscal policies of the U.S. government, which involve unprecedented money printing. This is the official blog of the New York Investing meetup.   
As 2012 begins, markets are rallying as they did at the beginning of 2011 -- a year when the S&P 500 closed flat after many huge moves up and down. The problems in Europe that rattled markets in 2011 have not been resolved and new problems are or will be emerging in China and Japan. At the very least, investors should expect another rocky ride in the upcoming year.

The debt crisis in the EU is far from over. It is simply being momentarily contained by another short-term solution that will hold things together for a while until the crisis erupts again. The mid-December LTRO (long term purchase operations) announced by the ECB excited the markets as any money-printing scheme would. This new "solution" to the debt crisis is essentially an attempt to handle a problem of too much debt with more debt. Already close-to-insolvent EU banks are able to hold fewer assets for collateral in exchange for cheap funding from the ECB, which can in turn be used to buy questionable sovereign debt from the PIIGS. While this will keep Italy, Spain, Portugal and Ireland financially afloat for a longer period of time, it may collapse troubled EU banks sooner (the real epicenter of the debt crisis). 

Half way across the globe, problems are emerging in China. It is estimated that there are between 10 and 65 million empty housing units in the country that investors have purchased with the hope of selling at higher prices. There are in fact entire "ghost districts" there that are filled with new buildings and no residents. Prices have become so high that by last spring the typical Beijing resident would have to have worked 36 years to pay for an average-priced home. The pressure appears to be coming off though with new home prices dropping 35% in November. Beijing builders still have 22 months of unsold inventory and Shanghai builders 21 months. In the peripheral areas, existing home sales have plummeted -- down 50% year on year in Shenzhen, 57% in Tianjin, and 79% in Changsha. Investors should take note that the Chinese real estate bubble is far worse than the U.S. one that brought the global financial system to its knees at the end of 2008.

Twenty years ago, Japan had a massive real estate bubble and it is possible that prices have finally bottomed there, but that doesn't mean that they are ready to go up. Japan has had two decades of economic stagnation (and is heading toward a third, if it is lucky) because of the collapse of its real estate and stock market bubbles. Massive borrowing by the government has prevented the situation from getting worse. The debt to GDP ratio in Japan is now estimated to be 229% (well above the just over 100% in the U.S.).  More people are leaving the workforce there than entering it and this bodes ill for tax receipts. The aging population is using up its savings instead of adding to them. This is a potentially serious problem because the massive debt the Japanese government has incurred has been funded mostly internally by the savings of the Japanese people. A lot of old debt has to be rolled over in 2012 and additional debt is still being incurred. Where the money will come from is not clear.

None of the problems that could strain the global financial system originated in 2011. They have been building up for years and even decades. The first major blow up was the Credit Crisis in 2008. In every case, that problem was "solved" by more debt and money printing. This approach has of course only postponed the inevitable since taking on more debt only creates a bigger debt problem down the road and you can't create something of value out of thin air by printing money (although you will ultimately create a lot of inflation). The markets have already spent most of 2011 in an unstable state. It looks like continuing and even bigger crises await investors in 2012.
Disclosure: None
Daryl Montgomery
Author: "Inflation Investing - A Guide for the 2010s"
Organizer, New York Investing meetup
http://investing.meetup.com/21

This posting is editorial opinion. There is no intention to endorse the purchase or sale of any security

Central Banks Pump Money to Prop Up Europe

The 'Helicopter Economics Investing Guide' is meant to help educate people on how to make profitable investing choices in the current economic environment. We have coined this term to describe the current monetary and fiscal policies of the U.S. government, which involve unprecedented money printing. This is the official blog of the New York Investing meetup.

Exactly three years after Lehman Brothers filed for bankruptcy and almost brought down the global financial system, central banks in North America, Europe and Asia engaged in a coordinated money pumping operation to prevent the EU banking system from stalling. The move created a sharp stock market rally, especially in financial shares, just as was the case when similar actions took place during the 2008 Credit Crisis.

Involved in Thursday's action were the U.S. Federal Reserve, the ECB, the Bank of England, the Swiss National Bank and the Bank of Japan.  The purpose was to improve dollar liquidity among  European banks struggling because of the Greek debt crisis. The credit markets have frozen up, just as they did after the Lehman bankruptcy, and U.S. banks have been unwilling to lend dollars to European banks. The ECB will now be able to access dollars by swapping assets with the Federal Reserve. It wasn't stated in the announcement what assets were involved, but obviously they are substandard ones that wouldn't be accepted  in free market trading. This operation also increases exposure of the U.S. financial system to the new credit crisis in Europe.

Such coordinated money-pumping operations are a sign of desperation on the part of the authorities. They were commonplace after Lehman's bankruptcy on September 15, 2008. They created significant volatility in the stock market back then as they did yesterday. Both the German DAX and the French CAC-40 closed up more than 3%. Troubled banks had huge rallies, with Lloyd's Banking Group up over 7%. In 2008, even greater volatility took place, but the rallies proved time and again to be only temporary. The market ultimately nosedived.

The Friday before the Lehman bankruptcy, the S&P 500 closed at 1251.70. Lehman declared bankruptcy on Monday. At the end of the week, the S&P 500 closed at 1255.00. The day before however, the S&P rallied off of its intraday low of 1133.50 to a close of 1206.51 (that's a 6.4% intraday rally -- an enormous move for an index like the S&P). So, the first week after Lehman's bankruptcy it looked like the market wouldn't be impacted that much. It turned out that the actions of central banks provided investors with a false sense of security however.

By the end of September 2008, the S&P 500 closed at 1166.36. Then at the end of October it was down to 968.75. At the end of November, it had dropped to 896.24. It actually closed higher the last day of December at 903.25, before falling to 825.88 at the end of January. By the close of February, the S&P was trading at 735.08. It finally bottomed at 666.79 on March 6, 2009. All along the way, there were big moves up that coincided with the latest money injections of the central banks.

While mainstream media reports tend to portray the central bank actions and the big rallies they cause as good news for the market, they are actually an indication that more trouble is on the way. All investors have to do is remember what happened just three years ago. Yesterday's central bank action indicates that more volatility and lower stock prices are in our future. 

Disclosure: None

Daryl Montgomery
Author: "Inflation Investing - A Guide for the 2010s"
Organizer, New York Investing meetup
http://investing.meetup.com/21

This posting is editorial opinion. There is no intention to endorse the purchase or sale of any security.

Dow Testing Low, Gold Testing High

The 'Helicopter Economics Investing Guide' is meant to help educate people on how to make profitable investing choices in the current economic environment. In addition to the term helicopter economics, we have also coined the term, helicopternomics, to describe the current monetary and fiscal policies of the U.S. government and to update the old-fashioned term wheelbarrow economics.

Our Video Related to this Blog:

So far today the Dow has fallen as low as 7553 and is closing in on its November low just under 7400. It is inevitable that it will test it and possibly the slightly lower 7200 area, which was the bottom in 2002/2003. Financial stocks are the culprits that are tanking the market today, with the sell off starting in Europe because of weakness in Eastern European banks. The tech heavy Nasdaq is still well above its November bottom. Gold has hit a 7-month high and oil looks like it has made a double bottom.

The U.S. stock market was actually in very good shape technically and breakouts were taking place until Treasury Secretary Geithner gave his talk on how he plans to deal with the ailing American banking system. The talk came across as Geithner fiddling around while the U.S financial system burned. Wall Street reacted with a sharp sell off and the incipient rally turned into a route for stocks. With friends like Geithner, the American investor doesn't need enemies.

While stocks are falling apart, gold and silver are breaking out through one point of resistance after another. Gold so far today has reached as high as 970 in futures trading and is closing in on its all time high in the 1000 area. Silver has broken above its 200-day moving average, but still needs to do some more work before it establishes a solid bullish pattern. Meanwhile, oil looks like it made a double bottom last Thursday when in fell into the 33's, just as it did on December 19th. Press stories about excessive supplies of oil are greatly exaggerated and are being generated by the big money interests that are short the market - don't believe them.

Problems with the global banking system are serious and are not likely to be solved for years to come. The market shouldn't be surprised by this anymore, but it is and will continue to be. The solution for all the major players will be money printing, more money printing and more money printing. Commodities will be the beneficiaries, while stocks decline or languish.

NEXT: SEC Discovers Fraud Exists/Smart Money Buys Gold

Daryl Montgomery
Organizer,New York Investing meetup
http://investing.meetup.com/21

This posting is editorial opinion. Like all other postings for this blog, there is no intention to endorse the purchase or sale of any security.