the recovery that isn't

Wall Street got ahead of itself on Friday. Thinking -wishing that is, the most common form of Wall Street "thinking"- that the recovery was at hand, the Dow moved into positive territory for the year. Unfortunately, today's news added a serious dose of reality, showing that not only is the recovery not there, we are most likely nowhere near the bottom yet.

The housing crisis that started it all is far from over. More foreclosures are waiting in the wings. A large number of these are part of the original problem, i.e. homeowners borrowing more than they could afford to pay for houses that sold for more than they were worth. Has anyone forgotten the 5 year rule? The 2004, 2005, and 2006 mortgages are just now starting to reach the end of their 5 year grace period. Then they will reset by 10X or more! How's that for a nasty surprise?

These mortgages were written near the top of the bubble, when home prices were highest and values most out of whack. Furthermore, they were the most "creative" ideas originating from the enormous pool of "talent" that Wall Street accumulated. That means they are by far the most problematic ones. These are the ones people will walk away from.

In the meantime the high rate of unemployment is adding substantial numbers of additional foreclosures, which will lead to a further crash in home prices.

I predict home values will decline another 25-35% before it is all over. "Fake" unemployment (the number the US government uses that does not include everyone who stopped looking for a job, who is working part time, etc. ) will rise well above 12%, with real unemployment closer to 20%. The dollar will continue to slide and we will start seeing obvious signs of deflation.

Deflation is already happening, and if you are paying full price for anything these days, you are paying too much. But so far deflation has been largely hidden or it was covered up by "sales" and "deals." Pretty soon that will go away too and people will see prices drop everywhere.

I stick to my recommendation, buy gold. Real gold that is. You may need it some day in the not too distant future.

numbers that matter

Forget about can-do spirit, yankee ingenuity, free markets, democracy, and other reasons often invoked to explain economic prosperity. Take a look at the real data. When Europeans arrived in North America, they found a continent that was virtually empty -it wasn't really but the diseases they imported quickly made that happen- full of goodies that the locals were unable to exploit.

North America was a continent where conditions were rather unfavorable for those living there, but very favorable for new intruders with more advanced technology. North America was by far the most favorable continent for exploitation. Africa, while closer to Europe, had too many nasty diseases and other competition, and even today Europeans have a hard time surviving in Africa. Australia, was simply too extreme and the landscape cannot support large numbers of people regardless of their technology.

Such geologic, ecologic, and other basic facts can explain most of the variability associated with a population's success or failure. This premise is not new, and Jared Diamond has based his best-selling novels, "Guns, germs, and steel," and "Collapse," on it. 

Population data can also be used on a smaller scale to explain otherwise curious events. The current economic downturn for example is mainly due to demographics. So was the preceding expansion and the series of bubbles that followed. But now things are changing. Here is some change you can believe in, my friends.

With an aging baby-boomer generation, and not enough young people to replace them, the economy of 21st century America is in for some serious downturns. The process has already started and it is very likely not going to end before 2025. There may be brief upswings, but overall the trend is down and down we go.

The baby-boomers grew up in good times. Their net worth is higher than that of their parents. They never experienced a serious downturn or a major war. Consequently, they did not save. With more money to spend, times were wild. Now those same baby-boomers are deeply in debt but they still have many years to live.

First they spent their cash, and then they borrowed more. All of it went into luxury goods, travel, McMansions, spas, V-8 cars, trucks, boats, jetskis, etc. Now those baby boomers are getting older. They can no longer afford their life-styles, either because they overspent or because their old age limits what they can do. There are excess oversized houses on the market and no buyers. The rush to monetize assets to cover debt is leading to a huge deflation of value. There are not enough young buyers and too many elderly owners.

It is a disaster that can be postponed, but ultimately the reckoning will come.

As for the current crisis, I stick to my prediction, made weeks ago, that the Dow won't hit bottom until we hit 7,000 or less. Despite a recent drop in gold prices, I still think gold is the best way to go to weather the upcoming storm.

no great depression (yet)

The financial news is split these days. On the one hand there are the headlines and front page stories telling us how bad it is and how we need to do something. On the other hand, there are the editorials and reviews reassuring us that this is not the Great Depression revisited.

To give credit where credit is due, the optimists and reviewers have more data to support their cause. But just how good is that data? We are told that during the Great Depression, unemployment stood at 25% and thousands of banks failed. In the Spring of 1929, 300 banks failed. That was almost six months before the stock market crash. In 1930, a thousand banks closed. By 1932, the Dow had lost 90% from its peak in 1929. Surely we are nowhere near these numbers.

That was at a time with no unemployment compensation, no FDIC to ensure deposits, and no stiff drinks to soften the blows. Nobody would even acknowledge that there was a problem and according to the WSJ, Herbert Hoover insisted that the "fundamental business of the country.. is on a sound and prosperous basis." Where have I heard that recently?

Surely, we must have learned something from the Great Depression? And according to Richard Quest of CNN London, we did. We did and we can rest assured that we won't make the same mistakes again. "We'll just make different mistakes," he quipped last night when the Japanese market tanked.

Let me go on record now. Our problems are much worse than they seem. The housing crisis is in full swing. One in six Californians is "under water" with their mortgage. At the time when most of the option ARMs are still in their five year honeymoon phase, where you can pay as much as you please. Well before the real crash so to speak.

Every day the headlines correct earlier estimates, and label them "too rosy." Everyday new revelations are made and all are bad to very bad. Unemployment may only be at 7% but you have to go past 7 to get to 25. If we learned anything in recent weeks, it is how incredibly fast we can move from seemingly innocuous difficulties to outright collapses.

The constant flow of information we are exposed to is not helping either. It is undermining our confidence. Many are already suffering from information overload paralysis. A lack of confidence is the key enemy of the American economy. That economy rests on consumer spending. In other words, it is unsustainable. But I would much prefer if it wound down gently instead of failing catastrophically as now seems more likely.

If half the population can no longer afford to spend money, and the other half prefers not to because they don't feel confident, then we are on a very slippery slope indeed.

I've said it before, time to buy gold. Cash is just paper, and when confidence is lost paper has no residual value.