Wednesday, December 31, 2008

Deflation and Debt Destruction

Good Morning Folks!

This will be my last post of the year. I hope everyone has fun celebrating tonight. Be safe and have a Happy New Year! I am sure many of you are glad 2008 is over from an investment standpoint! Lets hope 2009 isn't as painful.

The markets are up mildly this morning. Jobless claims for the shortened holiday week were still close to 500,000. A startlingly bad number but what else is new right?

I want to highlight an excellent interview around deflation that I caught on the Market Oracle last night. This is one of those interviews that sends chills down your spine and keeps you up at night. The interview is between the famed economist Martin Weiss and his currency expert Jack Crooks.

I will put up the charts from the interview followed by a few comments and highlights from the interview. In my opinion, these two have it 100% totally right. This has been my thesis for about 2 years. The deflation we are seeing is breathtaking and getting worse, and the Fed is powerless to stop it.

Here are the charts followed by a few comments below:

First of all we have seen a massive destruction in wealth that totals $7.7 trillion:

Mortgage debt is completely collapsing as the the number of new mortgages in total dollars is being dwarfed by the number of mortgage dollars that are defaulting:

The Fed and the TARP are powerless to overcome this massive loss of wealth:

My Take:
I want to highlight a few critical exchanges in this interview. I love how they put the economic stimulus in perspective. Ben Bernanke and Bubblevision are constantly touting that this isn't Japan or the Depression all over again because we are flooding the system with money. As you can see by this exchange, this is flat out wrong and it will not work:
"Jack: But many people believe the 1930s Depression was caused by the failure of the federal government to fight the decline. This time, they say, the government is doing precisely the opposite.

Martin: In reality, America's First Great Depression wasn't caused by what the government failed to do to stop it. Rather, it was largely caused by all the wild things the government did do to create the superboom in the Roaring '20s that preceded it. They dished out money to banks like candy. They let banks loan money to brokers without restraint. And they encouraged brokers to hand it off to stock market speculators with 10% margin.

But if you want to see what happens when a government intervenes aggressively after a bust, just look at Japan since 1990. Japan lowered interest rates to zero, just like the Fed is doing today. Japan bailed out banks, brokerage firms and insurance companies, much like the Fed is doing here. Japan embarked on massive public works projects, much like President-elect Obama is proposing now.
But it did not end the deflation. And it did not prevent their stock market from making brand-new lows this year."
This is an absolute perfect answer as to why this is a bunch of bullshit.
Critical Point #2!
Here is another highlighted exchange about how the $ 8.5 trillion dollars in bailouts promised by the government is a bunch of smoke and mirrors:
"Jack: Still, most people think the government can just print more money at will. They're now talking about a total bill of $8.5 trillion. Your numbers don't seem to account for that.

Martin: Because those bigger numbers are almost entirely guarantees and swaps — not net new money added to the economy. Plus, please bear in mind one more thing: The wealth destruction we've been discussing today does not include the losses by financial institutions, corporations and governments."
100% right again. These are guarantees and do nothing to help the economy.
Bottom Line:
I would advise everyone to read this article in full. Their advice on getting through this debacle? Raise cash. Dollars will become much more valuable as this debt destruction continues. Your dollars will allow you to buy more and more as deflation destroys the value of all assets. Look at how much more gas you can get now versus a year ago with a dollar!
I could have written 5 pages on this because its the best piece of research I have seen to date. Things are going to get real tough, and this interview really helped put things in perspective. This is all falling apart at a much faster pace than I anticipated folks.
2009 looks pretty hopless in my view. We continue to party on for now in the markets. Up 1% as I speak. Play the tape!
Have a great holiday and safe New Years Eve!


Minton Mckarkquey said...

Jeff - I think your research paints a very clear picture of what's going on versus what the government is telling everyone. As much as I'd like to think we'll turn a corner in 2009, I think the next 12 months (and maybe 5 years) are going to be very, very tough.

Since it's New Year's Eve, I'd just like to thank you for a great year of posts. This blog has been one of my most talked-about topics of 2008 (much to the bore of my friends, and I've taken credit for being right all the time :-)). Keep it going next year!

I wish you and your family a very happy 2009 - safe investing too!

Joey said...


Thank you for your dedication to the blog. I've learned a ton from your analysis.

Looking forward to next year.

Have a safe, healthy and happy New Year (this applies to everyone).

Jeff said...


Sadly, I agree with your predictions.

Thanks for the kind words. I will do my best to keep the posts coming in 2009. The Time Bomb will be cranking as we head into this downturn.

I appreciate all of your great comments this year. I have learned a lot from you all as well!

Hopefully we can all continue to share our thoughts and help each other get through this financial downturn.

You have a safe and Happy New Year as well.

Jeff said...


Thanks for the kind words.

Lets hope we find some ways to make some money in 2009.

I am glad my research has helped you(and everyone else).

Thanks for the comments and your support on THTB.

Happy New Year!


Jeff said...

SRS briefly dropped into the 40's..Ouch!

Profit taking time going into the close.

Got out of my SSO.

CLose looks violent

Joey said...


I'm very encouraged next year will be very profitable (though troublesome).

Re:SRS, I don't think it's the stock but rather the leverage associated. After the past fall, it has become a dead fish. I'm sure another one will come along soon.

Joey said...

EDIT: the ETF itself has become a dead fish.

Good article on levered ETFs

Jeff said...


Great piece

These ETF's have been a learning experience for me.

These should be used mainly for one day holds. The inverse is calculated daily. Its essentially a one day swap which can really hurt you if you hold long term.

Growler made a great point earlier this week. Short UYG if you want to go after commercial real estate.

I am leaning more towards PUTS/CALLS on SPY for the S&P 500 and the Q's for tech.

I talked to a friend who is a financial planner today. He said that the dividend accounting change was a big deal for the REIT's.

He also explained that the REIT's are using this cash that they saved from their dividend to buy commercial bonds at a 30% discount.

He didn't have time to explain the whole thing to me but basically the REIT's have found a way to profit from this because their bonds are so undervalued.

It sounded like nothing that could last long term but it may also help explain the drop in SRS.

Jeff said...

Ooops typo above!

USe IYR PUTS to short commercial not UYG.

Happy New Year to all.

Avl Guy said...

Jeff, thanks for the well wishes for the New Year and for sharing your insights and views and creating a forum for others to do likewise.
Have a Great New Year. BTW, did I mention there's been a rash of marriage proposals and/or birth announcements here? Can it be that some folks are responding to this debt crisis in ways that show appreciation for the non-material aspects of living and loving?

FYI, I posted a comment (#10) to ur reply on your old CRE Bailout post; it’s regarding a problematic delta in creditworthiness; let me know your thoughts. I think my comment sheds some light on why it is inevitable that the debt destruction U highlighted today will find fresh fuel in CRE debt for years to come, and it also challenges the notion of a 'good' CRE project with a forward-looking performing loan.

Jeff said...


Thanks and you have a great holiday as well.

I went back and read your post and I totally agree with you.

I guess we need to ask ourselves: Is any commercial loan going forward performing? The haircuts must be taken as you described. Your thoughts on a total bailout may be the only answer if they want to "kick the can down the road" and play smoke and mirrors like they are with the banks.

The size and scope of the whole lending problem and the amount of total debt in general is much larger than I realized.

I have to admit I had a hard time sleeping last night after reading the Weiss interview.

Its becoming very clear to me that the Fed has a zero chance to re inflate this bubble.

$8 trillion of wealth has been wiped out and we are only a year into this, and this doesn't include the losses that are sitting on the banks balance sheet!
Imagine what the losses would be if you included the subprime "sh*t" sandwhiches that now sit in level 3 assets.

HAircuts will be taken everywhere once the Fed realizes they can't re inflate this. Once "reality" hits and the reinflation fails, I think the treasury market is going to go to hell and the Fed will batten down the hatches and ring fence what they need to in order to keep things orderly.

2009 really scares me Avl. I really hope we are both wrong.

John Maynes said...

Happy New Year!

Joey said...


The levered ETFs took many by surprise. I couldn't figure out why many of them were idle or declining when clearly they should have been heading up. I too lost a little douhg before figuring out TA means absolutely nothing with levered ETFs.

Anyhow, here's to a profitable 2009.

Joey (a.k.a Growler....or "His name is Robert Paulson" a' la Fight Club) : )

Jeff said...


Thanks for that link it really helped.

The good thing now is the VIX is dropping so PUTS and CALLS are getting much attractive!

Jeff said...

I'll be back tomorrow everyone!

I am busy watching my Nittany Lions get slaughtered by USC(sigh).