Monday, August 3, 2009

The Dollar Showdown

Rally On!

Whoa! The speculators had a field day today. Stocks soared once again today as investors continued to chase the rally. I have said this 100 times but I will say it again: There is really no fundemental reason for this rally. However, no one on Wall St seems to care!

This is one of those hold your nose and buy moments if you are a bull. The mutual funds can't afford to not participate as stocks continue to surge because they risk trailing their competitors. At the same time, retail investors start jumping back in again thinking the bull is back! At this point IMO, jumping in now seems pretty foolish after a 50% move because you missed it.

If you are conservative(like myself) and jumped the sidelines when the DOW touched 14,000, you need to put this move into perspective. You are still looking down and laughing at the bulls because they still trail you by 30% even after this move. 9+K is a long ways from 14K. You are still way ahead even if you got out at 11,000!

The Dollar, The Bond Vigalantes, and the Big Showdown

This is scary folks. Take a look at the dollar collapse over the last few days:

My Take:

I have been thinking a lot about the bond market and deficits lately, and after reading a great piece on this topic by The Daily Reckoning, my thoughts around what I think is going on became much more clear.

What I found interesting in the TDR piece was understanding who the real bond vigilantes are in this cycle: It's the Chinese and their massive treasury holdings.

We are headed for a huge showdown folks. A very smart influential Wall St executive friend of mine has always told me that the next war will be a financial one versus a war fought on the battleground. His biggest fear has always been China. He believed that a financial war was brewing between the US and China, and the result would decide which country would be the kings of the world financial markets moving forward.

I wasn't so sure about this idea when he shared it with me at the time, but I am starting to believe that he was right.

I believe the plummeting dollar is about to force a financial showdown between China and the US. A falling dollar will eventually lead to catastrophic inflation(look at oil and the commodities the last few days) if the US doesn't stop the spending and shrink its deficits.

China has consistently told our government that they will not tolerate inflation via a crashing US currency because it destroys the value of their massive US treasuries holdings. The US on the other hand is willing to tolerate inflation because they believe they MUST keep spending and bailing because they believe(foolishly so) that this will eventually result in an economic recovery.

If the US keeps spending and creating inflation, China may go tell them to pound sand and stop buying treasuries. This would then unravel any hopes for a US recovery because treasury yields would soar, and our ability to borrow would sharlply shrink unless we printed.

This tense situation basically puts both countries on a collision course with each other with the financial system hanging in the balance!

The Bottom Line:

The US has promised to reduce their deficits once a recovery begins. The problem is we are not recovering fast enough and this is putting massive pressure on the dollar. IMO, there is no possible way for us to recover fast enough to the point where we could start paying back these deficits without putting the economy in the crapper again because there is no catalyst for future growth!

The idea that the US thinks it can grow itself out of a $14 trillion deficit before inflation hits is ridiculous. This is now being reflected in the dollar and commodities. You can guarantee that China is not happy with what is going on with the shrinking dollar.

Making matters worse is the fact that tax revenues are collapsing which further reduces our ability to pay down debt. This was just released a few monutes ago by the AP:

"WASHINGTON (AP) -- The recession is starving the government of tax revenue, just as the president and Congress are piling a major expansion of health care and other programs on the nation's plate and struggling to find money to pay the tab.

The numbers could hardly be more stark: Tax receipts are on pace to drop 18 percent this year, the biggest single-year decline since the Great Depression, while the federal deficit balloons to a record $1.8 trillion.

Other figures in an Associated Press analysis underscore the recession's impact: Individual income tax receipts are down 22 percent from a year ago. Corporate income taxes are down 57 percent. Social Security tax receipts could drop for only the second time since 1940, and Medicare taxes are on pace to drop for only the third time ever.

The last time the government's revenues were this bleak, the year was 1932 in the midst of the Depression."


Take a look at our debt versus tax revenue that we have to pay it back:

Back to the Bottom Line:

As unemployment rises, our 70% consumer based consumption economy will not turn around because the consumer barely has a pulse. People do not have the ability to spend like they once did because their access to credit has evaporated. They are also saving more in order to both pay off their debts and ride out this nasty recession/depression.

There is no way we can create a recovery in time to please the Chinese when you look at how dire the USA's balance sheet is. This means the Fed doesn't have the ability to make good on their promises to China to reduce the defecit unless they decide to end the stimulus in order to control inflation.

The problem with this solution folks is this likely puts us in a deeper deflationary depression then the one we saw in the 1930's.

If we ignore the Chinese and keep spending(the most likely scenario in my view) then the dollar will continue to collapse and inflation will eventually cripple the economy.

Get ready for $150 oil, its right around the corner if the US doesn't back down from China.

Stay Tuned!


Anonymous said...

Really makes you wonder how would things look right now had we not printed billions to bailout the banks, autos and everyone in between. I personally think the pain would have been more sharp but we would have been in a country with a much stronger balance sheet. Recessions are a normal part of the economic cycle, let them happen. The cash for clunkers really has me stirring, give more bailout money to the auto makers in hopes of gaining back the money already spent to bail them out. The only positive I have heard is that people that don't qualify are still going ahead with thier purchase. I just think this program is a smaller version of the overall bailouts. Hey look! The autos are blowing their numbers, things are all better. B.S.!! It takes the government giving people money to artificially prop up a dying U.S. industry.

Anonymous said...

Breathing heavily through the black mask, a voice was heard "Jeff, join the dark side...". Come on buddy, it is time to go long on financial stocks. ;)

Anonymous said...

Come on buddy, it is time to go long on financial stocks. ;)

I think jeff's right. Its too late. Then again, Jeff's bearish position always puts him on that conservative side of the trade.

Me? The longest of the longs, I have made exactly 2 moves in my life. Got out at 12,500 (Apr 07) as the market was way too euphoric and didnt take seriously Alt A - so scared I was looking halfway seriously at emigrating to another english speaking country (before I realized the world got caught up in this too).

Got back in in at 7500 (Feb 09) as the market seems to have been in a panic, way too worried about the prospect of deflation. Scared the hell out of me to ride it down to 6400 or whatever, but now im glad as hell I did it.

getyourselfconnected said...

Holy Moly! Are we on the same page or what!

I concur and discuss the dollar issues and the out of control spending the US is doing. I argue the "sucess" of "Cash for Clunkers" will embolden a scared Congress into many copy cat "Cash for BLANK" programs, compounding our spending problems.

Add to this they are going to extend unemployemnt benefits, probably forever and there is another cash drain.

Great article.

Jeff said...

Anon 1

You are so right.

I listened to CNBC in the car today and I had to turn it off because 30 minutes of every hour bus spent gloating about how successful the clunker program has been.

They act as if this is the next tech bubble that will save the economy.

When put in perspective its a measly $3 billion dollar stimulus program! Meanwhile we spend $100 billion bailing out AIG and counting.

The whole spin job makes me insane.

I am going to go take a run because its all so frustrating to me. Maybe I need to start kicboxing!

Jeff said...

Anon 2


I am pissed I missed that move. Too late now!

Kudos if you caught it.

Jeff said...

Anon 3

Nicely played.

It took a lot of balls to jump in at 7500. GLad you got out when the market was on the toppy side.

I got out in '06 after the credit markets blew up and my father's company in commercial evaporated 30days afterwards.

Once I heard how bad it was from straight from someone who experienced the blowup was all I needed to know.

BTW talked to him today and there are still no credit markets despite what CNBC says. Anything not government guaranteed isn't getting done.

You gonna sell now after a 50% move or do you plan on staying long?

GL either way!

Jeff said...


Great post.

Wow we are on the same page. Great minds think

China scares me here. The whole frickin market is a mess!

getyourselfconnected said...

I have always believed we will have to abandon Taiwan to placate China in this funding scheme. I always wondered why bother with a trillion plus in dollar holdngs? It is what you can exchange them for that counts. Is 2 trillion a fair price for Taiwan? We may find out.

PS I left a comment and link about Bill Gross on my site you may or may not find amusing.

Anonymous said...

print money - dollar goes down - assets go up
thats pretty much it. All other analysis does not really add anyting to it. Nor to the final conclusion - buy stocks.

CT-Hilltopper said...


I think you have hit the nail firmly on the head with this post. This is what we're up against, and unfortunately for us, this is what our government hasn't been able to face.

China is not going to allow them to do their "business as usual" crap anymore. They sent out a signal loud and clear when they refused to participate in the bond auctions last week. That was a warning. You and I, being level headed people, see it as such. Our government doesn't...and that's why in the end, everything is going to end up in epic fail.

I recommend Tang Soo Do. Nothing beats working out your frustrations on a bag hanging from a chain in your basement. A spinning back kick can rock that sucker, and relieve much stress. As can a roundhouse kick.

Heh...I read a lot of internet blogs, but I don't post on a lot of them. I post very infrequently on Zero Hedge, but most of my wit and wisdom I tend to save for you.

Don't you feel special???? LOL

Where else can we discuss the collapse of the economy, music, Tang Soo Do...? hmmmmmmm???

CT-Hilltopper said...


Abandoning Taiwan will be one of the few things that we might have to do to placate China.

Hell, we're already doing things to placate China. Has anyone heard anything about human rights violations recently?

This isn't only a battle as to who is to be big dog in the financial markets. This is going to be a battle as to who is going to be big dog in other issues also, as in issues of current affairs and world issues. If we lose one thing, we lose it all.

We could end up holding our collective noses and doing a lot more than swallowing having to abandon Taiwan. There are a LOT of other issues at play too.

Just look at the BRIC talks and all of the talk of a new world currency, most of which has been done with other countries without our participation.

Jeff said...



I do feel

I need to start kicking something. I just ran 3 miles and I must admit I feel a lot better.


As for China. Lets bee honest they hold all the cards.

They have our balls cupped in their hands and we gotta cough whenever they ask us

Great point on Taiwan but not sure thats gonna cut it.

I think if they "say stop the bailouts and the resulting inflation or we will no longer buy more treasuries" we will be forced to pull the liquidity.

We have no other funders so we will have no choice.

If that happens, the deflation trade needs to be on. For now the inflation trade is working nicely.

Jeff said...


That print buy stocks trade works to a point.

When the people begin to suffer and starve, The Fed will pull a Volker and take rates higher in order to control inflatio. The economy will then be dead for a few years and stocks will freefall.

getyourselfconnected said...

When I think about this kind of thing i think about this:
The USSR "lost" the cold war because of runaway spending backed by nothing. I think China learned a lesson there, and has baited us into the same trap. People forget that communism is a zero sum ideaology, either they win or they go down in flames so burning us would not bother them one bit.

I used to be boxer in a former life (golden gloves and club tournaments) and I can attest to the value of working a heavy bag, though knocking out an opponent is more fun. If you can work a bag for 3 minutes, 1 minute rest, for 3 cycles that is a great workout.

jeff said...

I can't but think of capitalism here is self destructing just like communism did in Russia.

How ironic that such different ideologies could both go by the wayside when taken to an extreme.

Futes down a couple points. I am sure that will be fixed by the morning!

Anonymous said...

"Jeff said...

You gonna sell now after a 50% move or do you plan on staying long?"

Likely to stay long. My rationale for getting out at 12500 and back in at 7500 was that even if it kept going down (which I thought it would - didnt think any rally was possible til this summer) at least I avoided a serious chunk of the downside.

Again, I am a mostly sideline observer for the last 16 years. I never thought I could time the market, just dollar cost average in perpetuity. The exception was the only time in my life when I truly felt fearful as I did in 07, and then much more sanguine in 09.

Even though I am 2-0 in lifetrades, and many friends now think I am some sort of genius, I think I am going to quit while I am ahead. The moment I start thinking I "can" time this thing is when I am very likely to miss something and make a serious mistake (upside or downside).

Jeff said...


Great approach.

Once someone thinks they have this market figured out is when they usually get slaughtered.

I think thats why moving forward for me personally, I will never have my portfolio mostly in stocks.

I prefer fixed income. The market has gotten too speculative at this point.

I will always allocate some of my retirement towards stocks when things settle down but I will consider this piece of my portfolio to be a high risk and specualative.

The buy and hold strataegy worked for 25 years from '82-'07. However, I think this secular bull market is over.

The next 10 years or so will be a time to play defense. I am thinking fixed income returns may outpace stocks for the next decade or so once interest rates rise.

Yields are up again on T's today.

GL with your portfolio.