GOLD TO RISE
The Daily Reckoning
Paris, France
Friday, 24 January 2003
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*** Consumers...up, down...getting a lesson from Mr. Market?
*** Happy birthday to the California Gold rush...Gold Up, Dollar Down...GUDD, the trend of the decade...
*** President's pick-me-up may not be enough...if the housing bubble bursts...Where are the pigeons? (They are all around us...)
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What to make it?
Building permits hit a record high in December.
But now a "plunge in consumer mood" (Atlanta Journal- Constitution) causes sharp "dip in mortgage applications" (Reuters).
Investors are fed up after 3 years of falling stock prices...still, more than 50% of households own stocks, according to yesterday's news. And Wall Street strategists are as bullish as they've ever been, recommending near- record levels of stock market exposure.
Investors no longer believe the hallucinations of the bubble period. They no longer think that they'll get rich quickly and easily just by being "in the market".
Now they think they'll get rich over a longer period of time by more carefully selecting their investments.
The first illusion was knocked out of them when the stock bubble deflated. Beginning in 2000, business borrowing and capital spending absolutely caved in. By the 3rd quarter of 2002, business borrowing was running at an annual rate of just $10.7 billion - down from $400 billion in 2000. Profits plunged and the smart money realized right away that it was time to get out.
The new lumpeninvestoriat who had been lured into stocks during the boom had no idea what was going on. The poor schmucks believed all the nonsense from Wall Street...and thought they could just hold for the long term. Stocks always go up in the long run...right? Heh heh...
Now, Mr. Market, dressed in black and leaning over the pulpit with an accusatory glare, is delivering a long and painful lecture. He's warning that nothing goes up forever...that neither an individual nor an economy can expect to prosper without saving, discipline, forbearance and hard work...and that Wall Street's real function is moral, not financial; it makes investors poorer, but wiser.
The little guys don't want to believe it. They can't admit to themselves that they've been the market's patsies. "This year, stocks have to go up...they never go down 4 years in a row," they whisper to themselves. "Nothing beats stocks over the long term,' they chant, "even if there are some 'soft patches' along the way."
And so the second illusion will have to be beaten out of them, too, for now it's the consumer sector's turn to be de-leveraged. Since the '60s, the consumer has added to his debts...first, cautiously in the '70s...and then recklessly in the in '90s. While GDP rose 283% during this period, consumer debt shot up much faster - by 473%.
"You can't do that forever," says Mr. Market. "Sooner or later, you have to straighten up, stop spending so much and save a little."
"The profitless, consumption economy is on the verge of ruin," adds Kurt Richebächer, crying from the wilderness of the French Riviera.
In the front pews, America's 79 million baby boomers look down at their hands...or gaze nervously at the window. They squirm in their seats. Maybe they're not quite ready to change their habits...but they can't help thinking about it. Retirement is too close. Instinctively, the boomer knows Mr. Market is right. He's old enough to want to start saving tin foil...and paper bags...and Christmas wrapping paper - the instinct dates to the time his race had fur. Why fight it? Glory hallelujah...and so he makes up his mind to save a few bucks next week...and waits for the next sermon...
Eric...what fire and brimstone is Mr. Market sending down upon us?
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Eric Fry, reporting from New York...
- GOLD! GOLD! GOLD! Like a Presidential sex scandal, the yellow metal's surprising ascent is front-page news day after day, at least on the front page of the business section...Or maybe just on the front page of the Daily Reckoning. Yesterday, the gold price jumped $4.80 to $364.70 - that's up more than $110 from the low of $253.85 that gold hit nearly one year ago. The 'barbarous relic' is conducting a very civilized bull market.
- In other news, bonds fell, stocks rose and the dollar fell. The Dow gained 51 points to 8,369, while the Nasdaq popped about 2% to 1,388.
- Most folks hope and believe that the President's nifty $687 billion stimulus plan will be a perfect little pick- me-up, like the first cup of coffee in the morning. We think the plan is more like the tenth cup of coffee on the night before final exams - that's the cup that speeds the heartbeat, while causing indigestion, failing to increase productivity one whit and preventing sound sleep.
- "The [President's] proposed pick-me-up, even if passed intact, is too weak," says James Grant. "That's because] state and local governments are biting bullets even as the federal government is shooting them off." Most states in the Union are facing severe budget shortfalls and are rapidly reining in their spending. That's not good news, given the fact that the 50 state governments combined are much bigger spenders than Uncle Sam - and that dude knows how to throw money around! The expenditures of the state and local governments - equal to 12.2% of GDP - are nearly double those of the Federal government. "In short," says Grant, "the actions of the state and local governments will be an offsetting drag to any federal stimulus."
- Nor should we look for much stimulating spending out of the private sector. Neither corporations nor consumers are in much of a position to step up their borrowing and spending...Didn't they do that already?
- "There's no question that we have a debt bomb," says Morgan Stanley economist Stephen Roach, "but I'm not sure how long the fuse will turn out to be." Nor do we. But we are fairly sure that the fuse is glowing brightly and getting shorter by the day.
- "If the U.S. debt bomb ever explodes, the detonator probably will be the residential mortgage market," asserts Barron's Jonathan R. Laing. "Home prices have nearly double the impact on consumer spending than does the 'wealth effect' from rising or falling stock prices. And home prices have been on a tear, rising nearly 50% nationwide over the past six years...Consumers have tapped this surging equity value through wave after wave of cash-out mortgage refinancings, transforming homes into ATMs."
- Because homeowners have been withdrawing cash from their homes like so many $20 bills, they are sucking the equity out of their homes even faster than the red-hot housing market is adding to it. Thus, the housing wealth effect is more vulnerable to reversal than ever. If, heaven forbid, home prices should fall rather than rise, we might finally hear the miserable "Boom!" that Laing anticipates.
- "Gary Shilling calculates that 39% of U.S. homes are owned free and clear," writes Laing, "and that the remaining homeowners have debt burdens exceeding 80% of the value of their homes. In other words, many Americans have little margin of safety should home prices level off or should they fall as much as 20%, as they did in many overheated areas in the late Eighties."
- Last year, Americans sucked about $250 billion worth of equity out of their homes that they did NOT reinvest in real estate. A sliver of this quarter-of-a-trillion dollar pile of cash found its way into savings accounts. But most of it was spent on stuff like yoga classes, Disneyworld vacations and Eminem concerts. The memories remain, but the money does not.
- In other words, a big portion of the refinancing proceeds has gone to money heaven. And now that refinancings are slowing down, what other cash-flow rabbits could we possibly pull out our macroeconomic hat? The President's "pick-me-up" cannot begin to compensate for the dwindling refinance activity.
- "If the housing bubble bursts, instead of gently deflating, the nation's economy could be in for a major meltdown," Laing concludes. "In essence, then, the American home is a bulwark for the economy. As long as housing values stay high, the nation is sheltered from a detonation of the debt bomb."
- If the bomb does detonate, we should expect numerous secondary explosions throughout the U.S. financial markets. |
