Fed Halted a Financial Chernobyl?

That's what London's Daily Telegraph reported about the Fed and JPMorgan's recent bailout of Bear Stearns. Funny that we don't see this type of reporting in the American financial media.

"If the Fed had not stepped in, we would have had pandemonium," said James Melcher, president of the New York hedge fund Balestra Capital. There was the risk of a total meltdown at the beginning of last week. I don't think most people have any idea how bad this chain could have been, and I am still not sure the Fed can maintain the solvency of the US banking system."

"We've been worried for a long time there would be nobody to pay on the other side of our contracts, so we took profits early and got out of everything. The Greenspan policies that led to this have been the most irresponsible episode the world has ever seen."

That says it all for me. I don't claim to fully understand credit swaps and this 'daisy chain' of derivatives. But I know that bad things happen when you borrow, spend and speculate too much. It's bad for a household, company, and especially a country.

At all three levels, Americans are carrying a crushing debt load. It's just a matter of time before this house of credit cards, auto loans and ARMs comes tumbling down. If you're a savvy investor, and go into precious metals, put options on most American stocks (and call options on gold, silver and crude oil), and purchase physical gold and silver... you'll be fine.

If you listen to CNBC or your stock broker, and stay in stocks for the 'long-term,' you'll be in a world of hurt. Reduce your debt load, get financially literate, and learn to sell and market. I know I've said it before, but I can't overemphasize the importance of this advice. Job security today is a myth. I just talked with the father of a 40-something guy from my hometown who works for a big telcom company.

Been there for 17 years, but the company's in bad financial shape. He's worried about his job being next on the chopping block. Another friend of a friend works for an office supply company, who's in negotiations with another company about a buyout/merger. And he's concerned about his future with the company.

I hear these stories over and over again - and with intelligent, competent, hard-working folks. The 'safe, secure American job' with good benefits is pretty rare nowadays. Almost as big of a myth as Bigfoot or the Loch Ness Monster. That's why I preach over and over on the importance of reading (and understanding) what financial statements mean; and learning to sell and market effectively.

If you can sell in person or in print, you're VERY valuable to a potential employer. You also have an important skill to use if you want to start your own business. I hope everyone had a great Easter, keep your eye on the financial stocks. If you invest in these companies at all, I'd recommend longer-term put options as the only way to play them.

Client No. 9, Obama's Pastor, but no mention of Bear Stearns. Hmmm....

The news media had a field day Thursday and Friday talking about Eliot Spitzer's infidelities, and the preaching from Barack Obama's church. I think I heard the pastor's post-9/11 rantings at least 4 or 5 times.


But what I didn't hear that much about was more interesting: The financial problems with Bear Stearns, and the 45% haircut in the stock price. I realize the media and the American public can't get enough of a good, tawdry sex scandal. However, it was curious that we had to hear the fire-and-brimstone preachings of Pastor Jeremiah Wright over, and over... and over on all the talk radio stations in Denver.


This was probably done for two reasons:

1) The Establishment wants Hillary to win the Democratic nomination, so she can run roughshod over John McCain in November (If you believe he's got a shot of winning, I've got oceanfront property for sale in Iowa). They're a little disturbed that Obama is doing so well, and has a better-than-average chance of getting the nomination. This much ado about Obama's pastor is just a political football that's probably been saved up for just the right time. Is it an insight into his beliefs? Yes, but I'm not buying that it's the most important thing in this campaign since sliced bread.

I think most Americans (including yours truly) are tired of the "inside politics" back-and-forth, especially when we have a recession and a credit crisis still looming large over the American landscape. Not to mention increasing gas prices, and no real solutions being offered by either party in Washington. The second reason?

2) The government and Wall Street didn't want the Bear Stearns problems to be the center of attention, and cause further panic in the stock and other financial markets. I think Mish is right, and Bear Stearns is staring bankruptcy squre in the eye, and may cause a chain reaction of problems for other investment banks and brokers.

This just in: JP Morgan to Buy Bear for $2/Share.

I doubt it'll be enough to prevent an eventual collapse in Bear Stearn's stock price, but it's a stop-gap measure for now. When any stock loses almost half its value in a trading day, on over 15 times normal volume, that signals a larger decline ahead - barring divine or government intervention, that is.

Jim Rogers is right - go short on all financial firms, and long on commodities.

Ethanol: The Big Energy Hoax

Walter Williams has a great article at Townhall.com on the energy fraud that's being sold as the solution to imported Middle-Eastern oil.

Ethanol sounds good at first - a renewable source of energy that we grow plenty of here in the US. However, what you don't hear in the media is that it's heavily subsidized by Congress - about $1.05 to $1.38/gallon. The increased demand for corn to transform into ethanol is one reason why food prices have gone up (not to mention the Fed's juicing of the money supply).

Here's some key information from Williams' column:

"Ethanol contains water that distillation cannot remove. As such, it can cause major damage to automobile engines not specifically designed to burn ethanol. The water content of ethanol also risks pipeline corrosion and thus must be shipped by truck, rail car or barge. These shipping methods are far more expensive than pipelines.

"Ethanol is 20 to 30 percent less efficient than gasoline, making it more expensive per highway mile. It takes 450 pounds of corn to produce the ethanol to fill one SUV tank. That's enough corn to feed one person for a year. Plus, it takes more than one gallon of fossil fuel -- oil and natural gas -- to produce one gallon of ethanol. After all, corn must be grown, fertilized, harvested and trucked to ethanol producers -- all of which are fuel-using activities. And, it takes 1,700 gallons of water to produce one gallon of ethanol. On top of all this, if our total annual corn output were put to ethanol production, it would reduce gasoline consumption by 10 or 12 percent."

If this is the case, then why has ethanol been touted as America's energy solution? With anything that happens in Washington DC, always follow the money. The answer? Big Agra companies such as Archer Daniels Midland (ADM), who's the largest producer of ethanol in the US. Coincidentally, they're a big campaign contributor.

I grew up on a wheat farm in Kansas, and it's nice to see corn farmers get more money for their crop. But the way it's being done won't help our dependence on foreign oil, and could set America up for food shortages in the next several years.

This seemed almost impossible over the past few decades, but because of a Biblical-type drought in the Great Plains states and increased foreign demand, this could be a likely scenario. Congress should quit subsidizing ethanol, and let free-market alternatives fill in this energy gap. But in an election year, where corporations and households want guns and butter, I doubt it'll happen.

And it won't until we hit a crisis stage stage, where this action becomes politically and economically feasible.

Financials in a Funk

If you've followed the markets even in passing the last few months, this is already given data. Even with the Fed's $200 Billion "Booster Shot" today, Bear Stearns, Citigroup, Lehman Brothers and Merrill Lynch have all taken battleship-sized hits to their respective stock price over the past year.

That's because they listened to the Wall Street Whiz Kids, and invested in exotic (and stupid) bundled sub-prime and Alt-A mortgages. The only problem was enough of the toxic loans were mixed in with the good ones; and not even the sharpest accountant could tell what the true value of these bundled investments were (or are today).

Consequently, the financial firms have lost a lot of money on these toxic investments, and had to borrow from Sovereign Wealth Funds to shore up their cash positions. To folks on CNBC and Fox Business, it may not be a big deal. But to a former accountant like me, it's a VERY big deal.

When your company has to borrow billions of dollars from foreign investors, that's not a good thing. Firms have gotten away with it over the past few decades because the US Dollar was the world's reserve currency, credit was easy, and life was good. But today the USD has declined over 40% in world currency markets the past 7 years; lending standards across the board have tightened up considerably; and we're in danger of having these SWFs taking over some of our country's biggest banks and brokerage houses.

This isn't a good situation for our country. While government officials seem to be more concerned about Islamofascists halfway across the world, we're in an economic struggle here at home that's not going well. The Fed and Bush Administration look like the Keystone Cops grasping at straws to try to 'make things better.'

And like I've said before, what the government should do is what they won't do. And what they should do is to raise interest rates to defend the dollar on world markets; and forget implementing these stupid stumulus packages, which will have little to no effect on the economy... except maybe prolonging the financial agony even further.

I'll give 'em credit in this regard - the prolonged 'echo boom' in real estate and credit lasted longer than I thought it would. I was concerned during the 2004 and 2006 elections that we'd see a downturn then. But we can't avoid it in 2008. The government's stats say that technically we're not in a recession, and inflation is "contained," but John Williams of ShadowStats.com says different.

The Fed stopped reporting M3 money supply back in March 2006. That's important because M3 is the broadest (and most accurate measure) of monetary inflation. The Federal Reserve doesn't fight or 'maintain' inflation, it creates it through increasing the money supply. You have more dollars available to buy the same amount of goods; that's why you're seeing higher prices for food, energy and just about everything.

Not to mention tightening supplies of wheat and corn from America's ethanol insanity. All these factors come together for a toxic economic mix that won't bode well for the US in the next several years. These formerly 'blue-chip' financial firms look pretty tarnished right now. The only way I'd invest in them is to buy put options, sell them short (but only if you're an experienced trader and know what you're doing), or just sell the stock.

These financial companies (and our country's) financial statements look pretty bad. The only fix for them will be time, a commodity-based currency, and increased savings and investment. No more credit binges, excess borrowing or spending. It's tough medicine, but will have to be taken by Americans - and our government - sooner or later.

The John Galt Solution

Finally, a voice of common sense and reason when it comes to a good solution for our economic dilemmas. John Mauldin's Outside the Box column refers to Caroline Baum's article in Bloomberg about the best course of action our national policymakers should take.

Here's the crux of the article:

Galt, the hero of Ayn Rand's magnum opus "Atlas Shrugged," stops the world by going on strike. He and the "men of the mind" literally withdraw from the world after watching their wealth confiscated by the looters (the government).

Toward the end of Rand's 1,000-plus page novel (or polemic), the economy is in shambles. Desperate, the looters kidnap Galt and prod him to "tell us what to do."

Galt refuses, or rather tells them "to get out of the way."

And that's exactly what Bernanke, Paulson, and Bush should - and all they really can do: Get the heck out of the way, and let the financial hangover begin. There's no "easy button" to get rid of the excess borrowing, spending and stupidity over the last several years.

What needs to be done is to put the economic crack pipe down, and get back to more saving and producing - not borrowing and spending like drunken sailors on shore leave. In the meantime, get out of the stock market unless you really know what the heck you're doing. Invest in gold, silver, and other commodities; along with strong foreign currencies like the Swiss Franc.

Some people may think you're crazy to invest this way in the short-term, but they'll believe you in the long run - and you'll be better off financially. Remember, the herd is almost always running the wrong way. Do the opposite of what they do, and you'll be just fine.