Friday, January 25, 2008


It has seemed like we have been walking through a wild rose thicket in recent weeks. It has not been a pretty trip and the thorns have stuck. Suddenly the roses seem to be blooming. Well, why not? fertilizer has been applied and applied again.

In this case the fertilizer has been multiple decreases in interest rates and the new shock of nitrogen is the stimulus package. The stimulus package is the least effective of the two but it will come on top of the interest rate deductions.

The federal government will borrow about 150 Billion so that it can write a check of $300 to those who make between $3,000 and $75,000 per year. The check is up-sized to include spouse and children. The Bush Econ. Counsel estimates that the stimulus will raise the GDP by as much as one half of one percent. That is probably almost true for about one quarter, then, it is also true that the GDP will be depressed by an equal amount once the business tax on depreciation goes back up and when the payback of the loan becomes more of a drag than the remaining stimulus from the spending.

In the mean time, MSFT, CAT and other companies are announcing "WHAT RECESSION"? Earnings and growth has remained strong in many areas of the business economy and the retailing stocks have taken off, saying "Good times are ahead for consumer spending". Retail stocks traditionally do well after a down turn and this time will be no exception.


The big cuts in interest rates produce the big effect. When a consumer discovers that he can buy a house with a monthly payment that has been reduced by hundreds of dollars for 360 payments, he is apt to cause the construction of a new house. The current over hang of housing inventory has fallen for three months in a row. New construction died but it will be revived when the rest of the over hang quickly disappears. The disappearance will be rapid as soon as those who have been waiting out of fear begin to fear they have missed the bottom. A number of bottoms have already come and gone. For example, way back in November the refi index jumped 92%! To make sure you didn't miss that statement, I am going to write it again. The November numbers show that refinancing applications jumped 92% from November of 2006 to November of 2007. It continues to be falsely reported that credit is not available for home loans. Credit is available but one can no longer borrow 100% of the price of a home on a variable rate, interest only loan.

Of course, during the "prosperity" phase of the business cycle, it will be big business that borrows and spends to take the economy up another notch. As I wrote a few days ago, Commercial and Industrial Loans have finally passed the old peak. In other words, the current situation is similar to the situation after the mid cycle turn early in 1996. BOY, IF THE MARKETS WILL BE HALF AS GOOD AS THEN, IT WILL BE A SWEET RIDE.


In a number of situations, time is running out. For example, the airlines need high oil prices as part of the rational for consolidation. If times are too good, Congress may fight consolidation. It has been rumored that NWA unions are ready to go along with a merger. The talk is still that DAL will buy NWA but NWA could always run to CAL if a better deal could be struck. UAUA is ready to fall into the arms of DAL or CAL once the NWA matter is settled. UAUA continues to cut money losing routes. After years and years and years of cut throat competition, it really seems strange for airlines to have reached the maturity to cut loses. CAL is one of the members of the Standard and Poors 4 star portfolio. S&P has a $35 one year price target which is the S&P forecast of earnings times a PE of 8.8. My belief is that S&P will prove to be low in its earnings forecast and low on the market PE. As soon as it is clear that we are in the prosperity phase of the business cycle, the sentiment will reverse and the PE will rise to double 8.8 or even more. A 21 PE is consistent with the history of airline PE's during the prosperity phase.

Time is running out on the government stimulus package. It will take at least a couple of months for the checks to be sent and if they are not sent soon then it will be all the more apparent to the American people that the checks are just a vote buying scheme. I checked the sentiment of my bible study group and found that to a man they understand that the stimulus package is a political stimulus package. I am not suggesting that we will go from bad news to all good news over night. Indeed, the trillions of dollars the public has piled up in money market accounts will only come back into the market at much higher prices. Still, those who follow the markets will know that the stimulus package if it comes too late and time is running out quickly. Checks in April and May may be timed well but if checks do not arrive until June they could arrive after the economy is obviously very strong.


Google Health has been talked about for a very long time. I see great potential for improving the health of Americans through better sharing of information. Although the Google Health site is not up and running yet, there is an introductory page up and running. It does not allow one to sign up yet but it should be available soon. Consumers, doctors, insurance companies and pharmacist will soon have a great new way of maintaining and sharing records efficiently and Google will have built one more huge market for advertising space. GOOGLE STOCK IS DOWN BUT THE BUSINESS STILL HAS POTENTIAL TO GROW IN MORE WAYS THAN WE KNOW!


Did you know that more than 160,000 lives were saved in 2005 as a result of lower mortality rates from coronary heart disease and stroke? Times are good, progress is wonderful, the life of the average man is changing for the better. Many more will be saved once better data is easily available.


I will never get over reading time and again the great discoveries that are being made by the "global warming crowd". A big headline in Science Daily yesterday was that Carbon Dioxide is boosting the growth of trees! WOW! It took a big subsidized study of highly paid and brilliant scientist to discover that trees benefit from C02! The details of the report include that in addition to growing faster, that the leaves stay green a little longer. Here again, I must say that by the the fifth grade, students are well trained that people breath out C02 for the benefits of plants and the plants provide us with our oxygen. Sure, it takes a masters degree in biology and chemistry to begin to have a full understanding of how many acids there are that react with how many bases to "regulate" the health of our planet, but the basic knowledge that higher levels of C02 will automatically increase the production of oxygen should be an "understood".

Some nice work has been reported in regard to Diatoms. It takes 30 of these little fellows lined up in a row to equal the width of a human hair but together they consume more C02 than all the trees combined! After these little fellows do their job, they fall to the ocean floor where more CO2 is sequestered than in all the plant life on the earth. Once again, man keeps trying to make himself bigger than he really is. As a result, we waste trillions of hours of time that could be spent solving the real problems. I certainly believe in scientific discovery and I support pure research but almost everyone else does as well. When an issue is demagogued to the point where trillions of dollars are being spent in harmful ways, it is time for resistance and ratio. NO MORE CORN ETHANOL SUBSIDES!

By the way, did you know that the population of the heartland keeps falling while more and more money is spent to subsidize corn farmers? A site worth seeing is rows of super sized GPS guided tractors driving themselves through 40,000 hectare farms. Yes, big money has been made by those who collect the subsidies and more and more corn is being grown at lower and lower costs. The bubble has to be ready to break because record levels of corn are being produced while it has become more widely understood that corn oil in car engines was never a very good idea. Avoid investments in agricultural land, farm equipment and fertilizer producers. Even companies that produce wonderful new seeds have been hyped to extremes. The TURN IS HERE -- AVOIDING CERTAIN INVESTMENTS WILL BE GOOD FOR YOUR FINANCIAL HEALTH!


Many technologies are possible today only because "systems" are in place. For example, in mass quantities, it will cost just a small amount of money to build "dirty bomb" detectors into cell phones. Vision for a moment a well dressed person carrying an over sized brief case that contains a radioactive "dirty bomb". Right now, this person could wonder down almost any street in America undetected. On the other hand, what if every cell phone included a radiation censor and automatically sent detections of radiation to a central database? Suddenly the dirty bomb briefcase would have no where to hide. Of course, cell phones could also monitor air quality, help us all avoid the most congested streets, and report locations of vehicles and people.


Yes, the US economy will grow at a slower rate this quarter than last. No surprise in that because last quarter was a boom, boom, boom quarter. It is typical for GDP to bounce around a little from quarter to quarter. The invisible hand of Adam Smith is working 24/7 and it makes trillions of adjustments daily. The slow down in home construction is creating untold and unlimited opportunities around the world. The slowdown in construction has curtailed the demand and lowered the price of materials and money. The cost of money is the great economic transportation vehicle. Who knows what invention will surface as a result of the lower cost of money? The "new stuff" coming down the pike is taking on all shapes and sizes. In Winston-Salem a new business will hire 72 people to take used microwaves, toasters, vacuums, computers and other small appliances and electronic devices apart so that these used parts can be reassembled into "new stuff". Wow! That is the kind of recycling that we can all support. I am not aware if a government subsidy is required to make this business work. If subsidy is not required then the laws of economics tell us that this recycling is worth the time and effort.

The bottom line is that big money is going to be made over the next several years. Most of the big money will be made by mature businesses. Companies like MSFT that are selling huge quantities of already invented products will make incredible profits as businesses around the world expand the use of computers. Many of the "exciting new discoveries" will take decades to produce products. It is exciting to think that solar panels will someday replace coal fired electricity plants but it is realistic to understand that 49 coal fired plants will be constructed in the US in the next several years. GE will sell massive "engines" for these plants. At the same time, it will only be a relatively few and mostly subsidized solar panels placed. The growth rate of solar panel use is high but it would take an explosion of sales year after year for a long time for total sales to come close to the total money involved in the construction of these 49 plants.


Last night, McCain served up Huckabee a fat pitch. McCain reported that at every town meeting he sees people wearing FairTax t-shirts. He said the enthusiasm seems to be contagious and he wondered if Huckabee could tell him why? Of course, Huckabee hit the soft pitch out of the park. What was this soft pitch all about?

Well, of course, McCain, Rudy and Huck all want to counter the massive spending of Romney. In several cases, it was clear that the candidates tried to be supportive of the guy that would most likely take votes from their most feared opponent. Romney, for example, played nice with Rudy because McCain and Romney are in a dead heat and Romney believes that if Rudy's numbers go up, McCain's will go down. Still, there might have been more that short term tactics involved in the the question from McCain to Huckabee.

A number of pundits have repeatedly suggested that Huckabee has been running to win the vice-presidency. In particular, it has been suggested that McCain might choose Huck. Neither McCain or Huck are a part of the "old money" crowd. McCain married a big chunk of "old money" but he is not a wall street insider. While McCain has previously answered no, when asked if he supports the FairTax, he has said time and again that he is for a flatter, fairer, easier tax. His question was not framed as being an attack on the FairTax. It was more of a question of curiosity, as if he were saying I have heard some good things and would be willing to take another look.

I have often said that McCain would make an excellent secretary of defense. Right now, his odds of winning the republican nomination are probable the highest. Romney has the money and a slight delegate lead but his constant change of heart on issue after issue was hammered last night in subtle ways and by direct confrontation. It is interesting that the direct confrontation came mostly from the moderators. The subtle stuff came mostly from the other candidates. Rudy talked about the way Hillary was for the war in Iraq when the polls showed 60 percent support and how she turned against the war when the polls showed 60% against. McCain made similar points about being consistently for winning the war on terrorism and not being poll driven and Huckabee responded to a question about faith by saying that he does not have to wake up each morning and read the polls to know what he thinks about an issue. The series of answers stood out as demonstrating that Romney is poll driven and the point was driven home when Huck asked Romney a question about his alleged support of the second amendment combined with his support for gun controls. This pointed question was in stark contrast to the "make nice questions" asked of the other candidates. (Ron Paul's question was an exception but Paul's support comes from the anti war crowd and his question was addressed to McCain. Attacking McCain on a military question is a losing strategy.

Since Rudy and Romney are card carrying members of the Wall Street crowd, it would seem that Romney will pick up a good share of Rudy votes if it becomes more clear that Rudy cannot win. On the other hand, a number of "big money" conservatives, who once supported Thompson, are now behind McCain.

When Tim Russert asked Huck how he would solve the social security shortfall, Huck responded that the problem will be solved by the adoption of the FairTax. Huck was ready to explain how when Russert interrupted. Russert wanted to know how Huck would solve the problem without adopting the FairTax because "the experts" say that passage is unlikely. Huck said he was tired of Americans being told what they cannot do. He went on to explain that the FairTax would do away with the payroll tax and it would fund Social Security out of one understandable and "unified budget" without changing the benefits as promised.


Jobs are created when capital is available for investment. It is a mistake to tax capital or labor. This is where the income tax is so upside down and harmful. The laws of economics are just as pure as other laws of science. One of the fundamental laws is that if you tax something you get less of it. We currently tax returns on capital and returns from work. Democrats want to raise the tax on capital, in order to be more fair to the "little people". What they do not understand is that higher taxes on capital reduces the number of jobs and the average pay available for labor. After introducing the FairTax to regular readers, a common response is in regard to no tax on dividends or capital gains. It seems so foreign to think that there would be no tax on capital. All the people who ever want to get a good job should support the concept of no tax on capital. Again, if you want fewer people to smoke, you put a tax on cigarettes and if you want fewer people to work, you put a tax on capital and labor.

Romney deserves credit for his proposal to eliminate the tax on capital for all who earn less than $200,000 per year. This is a great attempt at compromise and a proposal that could win the support of democrats. It would be a big step in the right direction but it fails to address the basic fundamental that all capital should not be taxed. One of the problems with the proposal is that it leaves power in the hands of politicians and thus it leaves the system of "lobby, lobby, lobby for goodies" in place. Two of the big battles that would be fought time and again would be to adjust the $200,000 level up or down and to adjust the tax rate on earnings above $200,000. The republican argument would be if the tax rate is zero up to $200,000 that 15% or less would be reasonable on the excess.

Combining a flat income tax with the Romney proposal produces a tax plan very similar to the FairTax but it leaves the huge income tax "industry" still in place. The better plan is to eliminate the hassles and politics involved in maintaining the income tax. Keep in mind that a person who spends 100% of what he makes pays the same under a flat income tax as he does under a flat consumption tax. The big differences are in the incentives offered for the creation of more capital and jobs and the elimination of the filling of an income tax return.

Again, maybe I read too much into a couple of questions but I can envision a McCain-Huckabee ticket that included support for the FairTax. Such a ticket would be attractive to those who want the country to be secure from terrorist attack. It would also attract the support of the great many who perceive the current system as being top heavy for the rich. The result would be a strong and fair America.


Oil has once again bounced. After failing to cross the century mark, oil fell quickly to $87 but has since bounced back to $91. CAL, for the third time in three weeks just doubled its fuel surcharge. This one is likely to stick. The airlines are determined to make money in 2008 no matter what happens to the price of oil.

CAL pilots are preparing for merger. They will insist on having input to the decision. The irony is that the power of the unions will increase after the mergers take place. On the other hand, the unions will not regain the power they had during the regulated days before 1979.

Another irony is that the job of these highly paid people is in ultimate jeopardy. It seems far fetched but how many years ago would it have seemed far fetched for tractors to be driven by GPS connected computers. Just a few years ago, who would have expected US forces in Iraq to be supported at every turn by remotely piloted drones. Thousands of drones have been deployed in Iraq and more are on the way. The "pilots" sit at consoles in various locations, including even bases in Florida and the "heartland states". It is rumored that if a terrorist were to take over an American plane, that the controls would be remotely disabled and the plane would be flown remotely. Of course, if the terrorist had a bomb on board, they might explode the plain but they would not be able to crash the plane into other targets.

Of course, pilots will be in the cockpit for many years to come. For more than 20 years, express trains carrying fruits from Florida to New York have had the ability to make the trip without having a human on board. We still pay a few people to go along for the ride but the railroads have successfully ended the worst of the feather bedding practices of old. In the old days, an engineer got a full days pay for each 100 miles traveled. The trip from Florida gave several people 12 days pay for one long ride.


With "good economic news all around", the odds of another cut in the fed funds rate has been reduced. There is no recession. Earnings are going to continue to be stronger than forecast. The public will soon realize that some in the liberal media have done it again. As I recall the worst offender has predicted 21 out of the last 1 recessions.

Sure, another "shoe" may drop. No matter, the market is likely to be much higher in 6 to 12 months.


ron said...

Do you expect the Lehman Aggregate Bond index to be in positive territory this year and if it will do better than a money market fund?

Jack Miller said...


Bonds have appreciated dramatically over the past several months. Bonds are priced almost as high as at the peak in June of 2003. The run they have been on is a 28 year run and we have moved into the part of the business cycle where hundreds of power plants dozens of refineries and all sorts of manufacturing facilities will be built. The demand for capital will be high and interest rates will climb.

I must admit that I did not believe the 10 year note would trade below 3.5% during this mid cycle correction. Many if not most market observers have underestimated the power of massive substitutions that are occurring day by day. Every day, businesses are cutting labor cost by substituting a cell phone call or a text message for a task that would have other wise consumed much more time and effort.

Bond rates have been able to move to very low levels because nominal GDP is almost the equivalent of real GDP after adjusting for the tremendous productivity that is not fully captured in price indexes such as the CPI.

ron said...

so a 2.75 to 3% CD or money market are safest for this year

Jack Miller said...

Safety is a misused word. One can be safe in the short run only lot lose big in the long run. To put it another way, for the first time in a long time, the average big stock offers a higher after tax yield than does a money market account. Big companies are safer bets in many ways than banks. One can earn a tax advantaged dividend and enjoy the increase in company value that will happen over time.