Thursday, June 10, 2010

Tax Break on Mortgage Interest May Disappear

Came across this doozy as I made my rounds tonight:

"The popular tax break for mortgage interest, once considered untouchable, is falling under the scrutiny of policymakers and economic experts seeking ways to close huge deficits.

Although Congress last year rejected the White House’s proposed cut to the amount wealthier taxpayers can deduct for home mortgage interest payments, the administration included it again in its 2010 budget — saying it could save $208 billion over the next decade.

And now that sentiment has turned against all the federal red ink — and cost-cutting is in vogue — Democrats on President Barack Obama’s financial commission are considering the wisdom of permanent tax breaks such as the mortgage deduction and corporate deferral. Calling them “tax entitlements,” senior Democratic lawmakers have argued they should be on the table for reform just like traditional entitlement programs Medicare, Social Security and Medicaid.

The new spotlight on the mortgage deduction and other tax expenditures comes as the Obama administration and Congress consider ways to reduce deficits the Congressional Budget Office (CBO) expects will average nearly $1 trillion over the next decade."

My Take:

If this goes through you can basically kiss housing goodbye. There is no demand for housing as it it. The mortgage write off was one of housing's strongest selling points.

I am happy to see Obama looking at various ways to reduce the budget but OUCH!....This one is gonna hurt if it gets passed.

This type of taxation pain is unavoidable as we sober up after our spending binge and realize that we now have to pay the money back.

Get used to this type of stuff folks. The taxation will be coming at you in waves like you have never seen before moving forward. The VAT's(value added taxes) will be next. These are the type of consequences that you suffer when the you spend so irresponsibly.

Aren't you just thrilled now that you bailed out Wall St? The pigmen were saved on your dime and they left you with the trillion dollar tab. This near meltdown has also left us with the worst economy 80 years.

As a result, millions of Americans are suffering as unemployment and foreclosures soar.

Bbbut Wall St suffered too didn't they?

Yeah riiiiight...With the ability to borrow at practically nothing thanks to a 0 Fed funds rate, Wall St proceeded to have one of its most profitable years in history. So how did Wall St thank us for the bailout after having such a great year in 2009? They paid themselves billions in bonuses.

Ain't Capitalism grand?

Wednesday, June 9, 2010

Remembering 1932: Deficits DO Matter!

What a day. Like that reversal? I wanted to go back in time today. Before i do that I wanted to talk about our current deficits and the market.

One of the keys of the bull thesis that triggered the rally in 2009 was that the budget deficits caused by bailouts didn't matter because the economy would turnaround as a result of the stimulus. As a result, the thinking was that we would then grow out of the deficits just like we had in the previous recessions seen since 1982.

I have consistently preached on here that Wall St has consistently underestimated the damage of the economic collapse of 2008. The above thesis was destined to fail becase the math didn't work this time aroundbecause the hole we dug ourselves into was simply too overwhelming from a debt perspective.

As stocks began to drop as a result of the 2007/08 collpase, the playbook of the previous recessions seen since 1982 was then predictably executed by the Fed and just about every financial advisor. The playbook was the usual: Lower interest rates as stocks drop and then buy your brains out once the market finds a bottom.

They also used another classic play out of recession playbook: Chase yields after the Fed lowers rates by gobbling up munies and high yielding bond funds thinking that "the worst is behind us".

Before you knew it, financial advisors were back in "buy and hold" mode after putting their clients "all in" into stocks and other risky investments.

This looked great back in 2009. Since then? Ummmm......Not so good!

In the previous 12 months this hasn't worked out so well. Stocks are essentially flat since last summer following the recent correction.

Financial advisors are now predictably beginning to panic. They don't know what to do because the majority of them have never seen a market this bad. The playbook doesn't tell them waht to do when their brilliant "buy and hold" strategy fails. Chaos then predictably ensues.


You know it amazes me that any schlep with a college degree can get a job as a financial advisor by simply passing a test.

Is it just me that believes that it should require 6-8 years of business/economics schooling in order to become a financial advisor?

I mean shouldn't you at least have a masters degree in order to manage someones life savings? I mean Christ it takes a 6 year degree to become a licensed speech therapist. Grrrr...I will save this topic for another day.

Anyways back to my point:

I think the reason the volatility has been so high recently is because there is no "playbook" for what we are now witnessing in the markets. As a result, we are seeing wild swings in the market. A solid green day can become a red day in the blink of an eye. Today was a good example.

The biggest issue we have right now is there is nowhere safe to hide. I mean look at your two key options:

- Stocks? Yeah riiiiight....The P/E's are insane.

- Bonds? Deficits anyone? Look below.

"June 8 (Reuters) - The U.S. debt will top $13.6 trillion this year and climb to an estimated $19.6 trillion by 2015, according to a Treasury Department report to Congress.


The report that was sent to lawmakers Friday night with no fanfare said the ratio of debt to the gross domestic product would rise to 102 percent by 2015 from 93 percent this year."

My Take

Yeah OK that's sustainable(NOT!). 20 TRILLION? Is that all?(scarcasm off).

What I think we are about to see moving forward is something that we saw back in 1932 where there was no confidence in the safety of either stocks or bonds:

As you can see above, as stocks collapsed money flowed into bonds for the short term as investors flocked to safety. Bonds asa result did well for a period of time after the stock market collapsed.

However, as the economy collapsed and our deficits soared, investors decided that even bonds were not a safe place to be! The rest of course is history as The Great Depression gripped the nation for most of the rest of the decade.

Many decided that the best place for cash during this period was the mattress. Now I am not saying you should sleep on top of your money at this point. However, you know what they say about history.

The Bottom Line

Investors are scared and confused because they have never seen a crisis like this before. Even the pros are struggling with a market like this.

As a result, rallies are often sold into and volatility reigns supreme. This market is not for the faint of heart. My advice to all of you is to avoid getting involved. Buy a little gold and stay liquid.

I believe that it's time to also have some cash socked away at home. Nothing crazy: Maybe like 1-2k. I say this because things are extremely unstable in the European banking system. Because the world's banks are all so interconnected it means we are at risk.

I wouldn't be surprised to see an announcement of some type of "banking holiday" at some point so that the central bankers work everything out. Could this be next month or a year from now? Who knows? The risk nonetheless is there which is why I think you should be prepared with a little cash on the sidelines.

Hold on tight folks and please be careful. Things are bad and getting worse.

Disclosure: No new positions at the time of publication

Tuesday, June 8, 2010

PIIGS Yields Soar to New Highs as the ECB Bailout Fails

Hmmm....Now this is interesting. From the FT: It appears the 750 billion Euro bailout is beginning to fail:

Some excerpts from the article:

"In the past week – with the exception of Germany – yields of eurozone countries have risen sharply, with some analysts warning that the euro itself may not survive the Continent’s public debt crisis.

The jump in yields has sparked growing criticism of the ECB for its apparent lack of conviction over purchasing government bonds.

Last week, it bought only €5.5bn in bonds, which many investors say explains why yields are moving higher again.

This compares with the €16.5bn, €10bn and €8.5bn bought in the first three weeks of the programme.

The ECB has bought a total of €40.5bn.

Harvinder Sian, senior European rates strategist at Royal Bank of Scotland, says: “The ECB is not buying enough bonds, its governing council appears to be split over the programme while the debt problems of Greece, Spain and Portugal are far from resolved.

“Beyond that, European policymakers in Germany appear reluctant to show their complete support for the peripheral markets.

“This has led to more instability in the eurozone and more questions about whether the euro as a project can survive.”

Ralf Preusser, head of European rates research at BofA Merrill Lynch Global Research, adds: “We are at a critical stage for the eurozone. There are very few buyers of eurozone bonds, except for the most liquid markets."

My Take:

The outlook in Europe continues to rapidly deteriorate. Folks, this is getting ugly and extremely political which is making matters worse.

The way I see it, the ECB is buying less and less debt each week because the prudent countries like Germany resent the hell out of being forced to bailout the PIIGS.

The large majority of the people in Germany also feel the same way. This puts tremendous political pressure on the policitians in Germany to back away from this bailout.

As you can see above, it appears that the ECB seems to be backing away from this program. Perhaps we just saw a central bank actually listen to the people for once?

If you look at the numbers the answer is yes: The ECB only bought $5 billion in debt last week which was the fourth consecutive weekly drop in ECB debt purchases.

As a result, yields on some of the PIIGS like Italy and Spain are now higher than they were BEFORE the ECB announced the bailout.

Traders are now screaming for the ECB to pick up their purchase rates and the ECB has responded by moving in the opposite direction.

This trend has obviously totally spooked the bond markets, and they have responded by not wanting to touch any of the PIIG debt which is why yields are now soaring once again.

Can you blame them for backing away?

I mean all of these countries are insolvent and on the brink of default. The consequences of 30 years of debt can kicking that was done while everyone fed off the government teet are now coming home to roost.

The Bottom Line

I don't see how Europe can stop this debt contagion. The political will to step up and throw money out of helicopters via QE appears to not be there.

Word is Germany basically told Geithner and Bernanke to go pound sand at the G-20 when they advised Germany to spend like drunken sailors via QE/Bailouts. Europe obviously sees that this isn't a long term solution.

Unlike our narcissists that run the Fed, the ECB realizes the only real solution is to pay down debt or default on it and take the medicine that we refuse to accept.

With the ECB apparently unwilling to go along with this charade I see no reason why any potential buyer would touch the PIIGS debt.

Who on earth would risk buying any PIIG debt knowing that the ECB is not fully committed to backing the program?

The bottom line is here is at the end of the day there will be no buyers without a complete reversal in policy by the ECB. The chances of this happening are between slim and none.

The situation appears to be unfixable and the Euro is in serious jeopardy as a result.

Keep an eye on the rapidly spreading debt contagion, and get out of equity positions if we see a bounce here.

You know its time to sell when the CNBC puppets start raising cash:

Monday, June 7, 2010

The Bond Market's Dilemma

I realize this hit the blogosphere yesterday via Bloomberg but I wanted to share it in case some of you missed it:

My Take:

Bloomberg reported that our public debt should equal 100% of GDP by 2012 at the rate in which we are spending.

If you were to add our private debt onto the debt number it would now exceed 370% which dwarfs any other credit bubble ever seen in this country including The Great Depression as seen below:

My Take:

As you can see above The Great Depression was a walk in the park when you compare to the mess we have gotten ourselves into this time.

The trillion dollar question I have is what does the bond market do now in response to such massive deficits?

There are essentially two scenarios regarding treasuries that the bond market is predicting as the world wide debt contagion continues to get legs.

Scenario #1 is the 10 year yield collapses under 2% as we sink into a deflationary collapse ala Japan in the 1990's.

Scenario #2 is the 10 year yield soars to near double digits as the bond market pulls a "Greece" on us and take yields higher until we massively reign in spending.

We have seen a milder version of scenario #2 as recently as the early 1990's during the Clinton presidency when he tried to implement an extremely costly version of national healthcare at a time where our deficits were already high as a result of cleaning up the remnants of a housing bubble....Gee does that sound familiar?

The bond market took yields up to over 6% at the time in response to the Clinton spending binge. Everyone then freaked out because it put the housing recovery at risk as a result of rising mortgage rates.

Clinton then decided to run away from his spending agenda faster than he did from Hillary after she out there was a blue dress floating around Washington DC with a white stain on it.

So will it be Scenario #1 or Scenario #2?

I think it's too early to tell. I think the bond market has an extremely tough decision to make here. One of the top bond funds just announced that they are selling all of their treasuries now that our debt levels have now just about equaled our GDP.

On the flip side you have Europe and the primary dealers running into bonds because nothing looks safe.

Edit: As I type I just noticed the market is falling once again and the 10 year is rising so the flight to safety into bonds still appears to be on. Gold is also up sharply as well so there plenty of scared money also flowing into the metals. Market is selling off sharply into the close.

Back to my point: The question is will there be a "Come to Jesus" moment where everyone realizes our paper is no better than anyone elses because our debt levels are just as bad?

Another question to ask is are the bond vigilantes concerned that if they take rates higher they blow themselves up in the process? It's a fair question for them to ask themselves because the economic system will be at serious risk of collapse if lending rates soar.

The Bottom Line

This is the most dangerous market I have ever encountered. Play small and stay mostly in cash.

If you are curious as to what my holdings are right now I am long GLD and SLV. Short the S&P with a small position of SDS. Short treasuries via TBT. All of these positions are small except for my gold holdings which are still small considering it consists of less than 10% of my total portfolio.

I stand mostly in cash and I have about a 25% position in bonds. PIMCO's (PTTRX) is by far my largest bond holding. Bill Gross is the best bond guy on Wall St as far as I am concerned.

As for which way the 10 year moves going forward I think the jury is still out. I could see either of the two scenarios playing out.

If Europe's debt contagion continues to spread like wildfire its going to eventually force a selloff in treasuries. However, I think we will be the last ones to fall so bonds coud rise in the near term.

I am short some US treasuries simply as a hedge to my longer bond holdings.

The risk of a complete meltdown in the bond market where yields soar to over 10% is also a real threat in my view. As we saw in Greece it can happen in a matter of days so be careful if you hold a lot of treasuries.

On the flip side, a Japan style collapse in the bond market where yields collapse under 2% is also a possibility and cannot be ruled out either as the velocity of money comes to a complete halt.

The best analogy that I can relate this market to is to compere it to a pilot that is trying to land a plane in severe cross winds. The wind could turn on a dime when he least expects it and the result would be a catastrophic crash. This is why you need to stay diversified and protect yourself for either scenario.

The reality is we may see both scenarios over the long term as this thing plays out. We saw both deflationary and inflationary panics in the late 1970's/early '80's crisis. Gold would move $50 in both directions on any given day as Wall St tried to interpret what was happening in the markets.

Several investment banks went belly up in the early 1980's as they bet the house on borrowing at low rates on the short end and then buying the long bond. Volker ended up taking them down when he raised the interest rates on the short end in order to reign in inflation.

These banks that went down were not hedged enough and got addicted to cheap money. I am sure the same thing is happening now as banks borrow from the Fed at zero and then buy high yielding investments.

It will be interesting to see what the bond market does moving forward. What will be interesting this go around is it will be the bond market not the Fed that takes rates higher IMO. This adds a wrinkle into how this scenario plays out.

If the vigilantes come out of hiding and take rates higher there will be many banks that are caught on the wrong side of the trade and will be immediately insolvent.

The scary thing is it will be the primary dealers that will be in the most trouble because they are the ones that are up to their eyeballs in treasuries. The (too big to fails) will immediately become(too big to save) if treasuries yields soar.

A few things before I go:

If you are looking for ideas as to where you should sit in cash, I personally prefer money markets and FDIC reserve deposit sweeps myself as long as they are under the guaranteed limits. Fidelity's sweep puts you in 3 different banks in order to spread out your risk which is a nice option.

The DOW ended up with another triple digit loss today. We now sit at 1050 on the S&P. 1040 is a key resistance area. If we break that area of resistance there is nothing but air until we get down to the 900 area.

If we test 1040 and don't hold expect to see some significant selling pressures which will put the S&P into triple digits.

Be careful out there. This bear market is starting to growl once again as it begins to dig its claws into the heart of the bull market.

Disclosure: Long GLD and SLV. Short SDS. Long TBT and PTTRX.