2-2-09

  PLAN B

  My thanks for all the kind feedback about last week's piece, A Blessing in Disguise.

It's good to know that our readers appreciate a broad spectrum of analysis that includes the philosophical variety. It's also good to know that our subscribers are hoping for the best. This week, I'd like to pick up on that and perhaps give it some balance as well as try to make sense of what's going on out there...

   I'm adopting the following maxim:

"Live life to the max, but be prepared to live it to the minimum."

Unfortunately, hope and faith in any government to make everything right again just isn't enough. More to the point, it's simply unfair on governments to ask them achieve this (especially on poor President Obama, though he's doing his best, bless him). Lest we not forget, the place we are at now came about under the direction of governments (if banks were allowed to get out of control, then the government should have done its job and governed them).

Sure, be positive. Have faith that everything will be fine (and ultimately, it will be again). BUT, it is clearly unwise to not be prepared should things get worse. A good portfolio reflects this- it plays on both teams. Always remember: "When it comes to making money, there is no good side or bad side, only the right side."

You MUST have a plan B.

Right now, things don't look much different. I see people bobbing in and out of Starbucks with their $5 coffees (by the way, if you want great Starbucks style coffee but want to cut back, get a Nespresso machine. No hassle espresso), preening themselves outside cigar bars and buying crap in malls. To most people, it's other people who are losing jobs and homes. It hasn't really affected them yet.

And maybe it won't. There are those who believe all this is a blip before things start racing up again. I hope they're right.

But what if they're wrong?

If they are indeed wrong, you won't be able to shout out: "Not fair!" It won't do you any good.

Enough on that. What's happening out there? Are there any clues in the crystal ball??

It's more of the same. The stock market still has no buyers to keep it up and has drifted down of its own weight. Any advance is immediately subject to profit-taking as hedge funds struggle to return clients their money and elsewhere, everybody expects any rally to be a false dawn aka 1930.

In the very near term, I think it likely that the market tests November lows (7500). What might save it is the imminent government announcement of the creation of an aggregate bank, also referred to as the 'bad bank'.

Basically, the idea is that this bad bank is funded by taxpayer/counterfeit money and with that cash it is going to buy all the bad assets from the troubled banks, thus improving their balance sheets so they can lend again.

Pure genius, right?

I for one wish I could do that with all the mistakes I've made in life!

So let's get this straight: the banks make bad loans and the taxpayer buys them and saves the banks.

You don't need me to tell you that this is effectively a free lunch and you know the saying about free lunches.

Secondly, the plan will indeed improve banks' balance sheets so they may lend more. BUT, who wants to borrow now? You?

The only certain thing this can achieve is further devaluation of the dollar.

In any case, if the market takes this news well, the banks could stage a rally that leads the rest of the market up. We will not have a powerful rally though until everyone starts to believe that a genuine recovery is under way. I'll let you know when I see that happening, but it sure ain't now.

If there is a pattern emerging, it's this: you can virtually guarantee the market will do the exact opposite of what you feel it 'should' do at any given time. Hey, maybe that's a good trading system right there- just do the opposite of whatever it was you were about to do!

Gold. The yellow metal took a quick break before flying up through the $900 mark recently. Gold is now attracting big, institutional money; large investment banks are snapping up gold mining stocks (I've written at length about this in past issues). The GDX (a proxy for gold miners you can buy) has risen by almost 50% since I first mentioned it here. In the near term, I still think gold is going to back and file and possibly have a strong but healthy correction, creating more opportunity to get on board, but I think that might be the last chance before the fireworks.

Oil. The December 2010 contract goes for over $60 a barrel compared to the $40ish price now. The market knows what I've been telling you here (that oil is too cheap), but it doesn't expect it to be worth much more in the short term. I think the market is wrong and we see $60 THIS year, not next. The traders have fixated on demand and supply issues based purely on the recession when there are other factors such as war, civil unrest and supply disruption which are currently not present.

US Treasury Bonds. A few weeks back I explained how I thought these were in a bubble (overbought) and that you could profit from the burst by short selling 'TLT' (a Treasury bond fund). Back then it was at $122 and it is now $103 so this was proven correct. I think there's more money to be made here though as the fall has just started.

Wheat. Still going strong and the Financial Times recently reports the factors supporting this.

If I had to point to other opportunities I would say we witness a fall in the value of the Euro this year- it's quite overvalued.

Bigger picture view: there are some disturbing noises on the political arena. Namely, protectionism. This happens when politicians answer the cries of the masses to save American jobs by giving preferential treatment to domestic corporations. This can be done by heavily taxing imports and giving special incentives to our own companies.

On the surface of it, this seems to make sense in a situation like this. Trouble is, other countries will retaliate and our exporters get hurt and yes, they have to pay people off. The result of such a trade war will be a bad situation getting far, far worse.

How do I know this?

History explicitly tells me. The Smoot-Hawley act did this back in the 1930s and many economists argue that it was this that made a recession a depression. World War II followed. Indeed, it was war that ended the Great Depression. A military build-up would also end this recession (China has begun building an ocean-class carrier fleet).

Unfortunately, most people don't know this. Governments around the world are pursuing a course of protectionism regardless of this- they have no choice or the masses will riot in the streets.

Thus, I urge you to have a Plan B.

Companies that rely on exporting and retailing face a tough time. Companies that are commodity-rich and supply domestic markets should do well, especially if a military build-up ensues.

We hope for the best, we endeavor to profit massively, but we are also prepared for any outcome. Take what fear you have and transform that energy into positive activity. The League of Power motto is translated as: "The stag at bay becomes a lion."

Until next time,

Mark Edwards.

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