Earnings Falling -- Time to Buy Stocks

In 1982, when company earnings were falling rapidly, it was time to buy stocks. In 1991, when ... In 2002, when ... You get the drill.


It was not time to buy MEI stocks (Materials, Energy or Industrials) but the insuing strength of the other stuff was so strong that the market averages soared.


The S&P 500 total earnings is falling like a rock. Just like it did before the market took off in 82, 91, 02 and at other times in the past.

Will Obama be another Roosevelt, Carter or Clinton?

Brian Wesbury, one of my favorite economists, has nailed our current political situation. Politics and economics are like Siamese Twins who somehow temporary get unhitched, they must reconnect or they die. Here is a link to his article.


http://www.ftportfolios.com/Commentary/EconomicResearch/2008/11/13/roosevelt,_carter,_or_clinton?


What Brian did not mention is the irony of the "union election win". Obama, Pelosi, Reid and others received millions of dollars from auto workers and other union members. It is only common sense for auto workers, whose total compensation is about $73 per hour, to protect their gravy train. Factory work is hard and the average factory worker in the USA makes $58,000 annually, all-in. Auto workers have a sweet deal at an average all-in pay of $151,000 per year. Obama was careful to make his attack the rich taxes neutral for his highly paid union friends. The socialist-democrat ideal would be for all citizens to make $151,000 per year. Yeah, right!



The irony is that the auto workers won the election too late to save their collective skins. The American people are simply no longer willing to buy a car with $1,500 worth of worker health care benefits added-on when they can buy an American made Honda, Nissan or Toyota with only $110 of auto worker heath care benefits added-on. The auto health worker accessory is one that many had just as soon leave off, since it is not as efficient as simply paying a fair wage. Those who think they want government mandated health care are (unconsciously?) at least partially rebelling against the unfairness created by our unwillingness to let the free market be free.


A coalition of west coast and east coast liberals, environmental extremist, union members, trial lawyers and minorities have taken the great majority of white voters out to the wood shed. According to George Will, 90% of voters in the Jimmy Carter election were white. The percentage of white voters has fallen in each election since. Bush won the support of more blacks than the average republican and he did very well with Hispanic voters. In the most recent election, something like 76% of voters were white and, if I recall correctly, McCain won a majority of them. It has been estimated that as early as 2042 whites will be in the minority. The next coalition of politically successful conservatives will have to adhere to principle, for example it must not spend money like drunken sailors on leave, and it must include conservative members of minority groups.


My point is not a racist point. I, like Brian, voted for Jimmy Carter. I, like Brian, was quickly disillusioned by the ineffectiveness of Carter. Reagan was such a relief because he attacked problems with force. Reagan opened the flood gates to let the free market do what it does best.


The bail out bill passed by congress does not give Hank Paulson a mandate to bail out the auto sector. Hank and Bush have properly thrown the auto mess back into the lap of congress. If there is to be a government bail out of private manufacturing businesses, there must be a vote to do so. Congress does not have the votes. The previously authorized $25 Billion Dollar loan might be reallocated but a new bail out bill is not likely.


Again, the unions won the election but the people are tired of paying aircraft pilot wages to assembly line workers. In the old days, many people bought American name plates out of loyalty. Today much of the content of all brands is foreign made. Few Americans are willing to discriminate against Honda, Nissan and Toyota because most of these "foreign cars" are made in America. Today, when an American buys an imported car, there is no stigma, very few people know the difference. This is as it should be. American consumers should get the benefit of buying from low cost producers and American producers should get the benefit of large world markets.


The logical way to "fix" GM and Ford is to allow them, if necessary, to file bankruptcy. Thousands of outdated rules and restrictions, yes laws, can be legally nullified through bankruptcy. GM and Ford have already negotiated dramatic reductions in employee count. It is totally false that the bankruptcy of these companies will reduce employment in America. Just as an artificially high minimum wage reduces jobs, an artificially high auto worker wage reduces jobs. The total number of Americans working will increase when American businesses are allowed to pay fair wages.


A couple of years ago, Ford built the most highly automated auto plant in the history of the world. It built the plant in Brazil. Like agricultural jobs, manufacturing jobs have been on the decline and they will continue to decline as a percentage of total jobs. The real inflation adjusted price of an auto is at its all time record low price because competition has crept back into this market. The people of the world benefit when there is productivity growth. Union rules hampered US auto company productivity growth for too long, now the piper has to be paid. To survive, US companies must be freed.


THE CALVARY IS ON THE WAY


The sound of the bugle blows from across the big pond. The yield on 5-year British Guilts are as low as they have been since the great depression --- and still not low enough! The British Pound has fallen 29% against the US dollar in just a few months and, even now, 5-year rates in England have not been reduced below 5-year rates in America.


The whole of Europe does not appear to be falling into as deep a recession as is the UK but Euro Bund rates are following UK rates down. Average rates today are close to where they were at the stock market jump off in late 2002.


The number one indicator of future growth, the yield curve, is as steep in the UK for as far back as my records go! While my foreign yield curve charts do not go as far back as my American charts, the current curve is very steep and probably at a new post depression high.


DON'T FIGHT INTEREST RATES (THE YIELD CURVE)!


Back in 2007, I was "too busy" to keep my eye on the yield curve. The world came though a mild 2001 recession, one in which three of the big four English speaking countries, Canada, UK and Australia, stayed strong. I was lulled to sleep and my focus wandered. In hind sight, it is very easy to see that month after month, from June of 2006 until July of 2007, the yield curve was forecasting a recession. The longer the curve stayed tight, the bigger the recession forecasted.


Starting in July of 2007 and moving with pace by August of 2007, the yield curve began to reverse itself. By January of 2008, the US had reached a very positive curve. The longer the curve stays so positive, the greater the rebound will be.


The US yield curve said a year ago; US growth is going to pick up. Sure enough, it did, largely because of dramatic export growth. The US GDP was weak the first quarter this year but it bounced up by the second quarter. The US has been dealing with two big problems: 1) US growth had to drag a dramatically over built housing market along for the ride and 2) yield curves in Australia, India, China, the UK, the EU and many other nations were holding back demand for US goods.


Of course, the prospects for faster growth in the US caused the US dollar to do a 180. The US dollar has soared. The Japanese, who rely even more heavily on imported oil than does the US, has seen the Yen soar even faster than the dollar. As a result, US markets and Japanese markets are showing great strength relative to emerging markets; markets that depend on the sale of commodities or on the conversion of commodities into low priced goods for their incomes. In other words, be thankful that you have not been invested heavily in the BRICs, Brazil, Russia, India or China.


It is going to take great skill for Obama to succeed. He must walk a narrow path. I wish him the best.


To succeed, he must be pragmatic. He was elected by ideologues, but he must govern as a centrist (to the left of center perhaps, but a long way to the right of congressional leaders). He needs a strong economy to support his desired spending programs. Most of his big programs will require the support of Mitch McConnell and friends.


In 2001, US markets were rapidly healing themselves when we were attacked on 9/11. It took a year for US markets to absorb the hit. Yield curves were forecasting strong growth when the attack was made. Today, yield curves are forecasting strong growth and clearly public sentiment is at market bottom levels. Consumers who are holding off on the purchase of new cars are seeing rapid improvements to their balance sheets. Those who were living beyond their means by using expanding home equity lines to occasionally pay down credit card debt are caught in a squeeze; they are, per force, living a more frugal life while paying down old debts. When that old five year old car is paid off, that money can go to pay off other debts.


This process has been going on for about three years. Stocks will go up before the process is over. Millions of people, those who were highly levered and those who were not, are enjoying the lowest real prices in years. The affordability of almost any good has changed dramatically over the past couple of years. The price of the average home has fallen, the interest cost to buy a house has fallen and the average income has risen. Homes are the most affordable they have been in many years.


The great majority of Americans believe Obama's planned economic policies will hurt rich US businesses. Our economy has prepared for the worst. The reality is that Obama has the option to pull another Roosevelt and prolong the tough times for over a decade, to pull a Jimmy Carter and do little to help cure what ails us or he can do a Clinton 180 and support sound economic policies. Obama cannot do a 180 the first week in office but he does not have to kill the US to save it.


Conditions are ripe for a dramatic move into early cycle stocks. Companies which provide services to or that make or sell goods to consumers (including home town banks that make loans to consumers) will do very well. If the Obama $1,000 checks from the sky program materializes, it will add a little to the consumer boom while taking away a little due to slightly higher interest rates. It will not hold a candle to stimulus provided by declining real prices of goods.


Everyone is convinced that it will take at least another year before the economy recovers and thus it is too early to buy stocks. A TV pundit yesterday suggested that all seniors should sell all stocks. He was pushing the sale of high fee insurance annuities. Yes, the market move will catch us by surprise. Yesterday, just as it looked like the bottom of the water bucket had been breached, there was a dramatic recovery. Was it because Paulson has given credit card debtors hope of relief? Maybe. Was it part of the bottoming process? Yes. Because energy stocks jumped 11% in one day, those hoping for a return to $147 per barrel of oil have found temporary reason for optimism.


Finally, the last irony I will throw out this morning is that the 30-year inflation protected yields spiked last week and they have since fallen rapidly. This means that instead of heading to zero inflation, the bond market is now projecting a little inflation. This is the best dose of medicine we have had in some time. The world is returning to normal!

YES the Healing Process is Working!

It seems that all is lost, but the healing process is having success after success. The economic patient is sick but recovering.


For weeks on end, US companies were not able to issue commercial paper; no one would buy it. The money that would have been used to buy commercial paper was dumped into short term treasuries, causing those to yield as little as .09%! Thus we have had a spike in investment grade bonds to almost 10% over the 90 day t-bill rate. This spread is higher than the one reached in 1982, when 30 year treasury bonds yielded 15%! As noted yesterday, when the spread spiked to 9% in August of 1982, before the month ended, the spread collapsed and stocks soared in value, virtually uninterrupted for the next 9 months. Many a stock jumped 100% or more in value.


TWO WEEKS OF GOOD NEWS


For two weeks in a row, borrowing at the Fed Discount window has declined and for two weeks in a row the dollar amount of commercial paper being issued has climbed. Companies that can issue commercial paper at today's very low short term rates will save a bundle over other financing methods. The profit margins at these companies will increase due to the lower cost of funds. The markets are rapidly healing. Bond markets in the EU and in the US are forecasting a strong economic recovery. Remember, the cycle is lower commodity prices (including the cost of money) leads to higher bond yields and then to rising stock prices.


Yes, consumer sentiment is about as bad as it has ever been. People who own shares are being pounded day after day and people at many businesses are concerned about the health of their company and the safety of their jobs. As a result, consumers are saving all they can, indeed, they are saving too much! The more they save the less they spend and the less they spend the lower the sales of the next guy and the more compelled he is to save. In the short run, this is a positive feedback loop that seems to have no end; but it does.


Take a look at what is happening at Wal-Mart; the same thing that is happening at your local gasoline station. The wholesale price of gasoline is down to $1.25, implying that $1.85 is a fair price. The gasoline stations are enjoying, for as long as they can, an extra spread. Eventually the market will force the retail price down, but the gasoline stations that were hammered last year are witnessing the miraculous healing of their balance sheets. In like manner, Wal-Mart can hardly keep up with the falling price of its imports. The old saw is that when the US sneezes the rest of the developed world gets sick and a third world country goes into intensive care. Third world economies that rely on manufacturing are hurting for certain. There are too many --- you name it, in the world, too many cars, too many toys, too many houses. To make and sell a car or a toy or a house, you must be the lowest cost producer. The high cost producers must go out of business while the survivors battle to be competitive. Sooner or latter there is "Joy in Mudville". Consumers realize how many bargains are available to be scooped up and a year or two latter the successful competitors hire the laid off workers of the failed companies.


The banks, which have little incentive to lend, have cut available credit lines on everything from credit cards to home equity loans. However, in the long run, banks make their money by lending. In the short run, why would a bank make a prime plus 1 loan to a solid customer when the bank can buy an investment grade bond and lock in a 9% margin? In the short run, banks are not lending because they have capital requirements to meet and because there are more profitable alternatives. However, now that companies are once again able to issue commercial paper (back-stopped by the Fed and evidenced by solid growth the past two weeks), the rates on corporate bonds will soon fall dramatically. Money that is currently flowing out of stocks and into corporate bonds will soon start to flow the other way and stocks will do very well.


The opposing argument is that more companies will experience weak sales and corporate rates will even go higher, but this argument cannot possibly be a long term argument. The failure of the weakest of players will grant higher sales to the remaining competitors. The argument is being made by those who see a great depression on the horizon. Lest we forget, the foolish policies that caused and fed the great depression included, sharp restrictions on international trade, government restriction of money supply growth, higher taxes, and more higher taxes used to support many wasteful government programs. Even though Obama's platform included restrictions to imports, higher taxes and more higher taxes to support government programs, the fear may be greater than the reality.


So far, our government and the governments around the globe, have not certainly not made the mistake of tightening the money supply or raising taxes. Mitch McConnell has 43 votes in his pocket to stop the most silly of left wing proposals. To make the major reforms, such as the reform of health care, that Obama wants to make, he will need to meet McConnell more than half way between the left and the center. George Will is correct that democrats will be able to peal away a few republican votes now and then (of course these votes will include bipartisan shares of pork) but no one is in the mood to raise taxes out the roof during these tough times.


History shows that, with the exception of the great depression, sharp spikes in corporate bond rates have been short lived events. Stocks have historically moved up just when most people believed the worst. I have been wrong consistently wrong about the extremes of this cycle. For two years, I said that oil prices were on the verge of a major collapse. Once the prices started falling, I believed the worst of the real estate recession was over. I am just as confident in the coming economic boom as I was of the ultimate decline in oil prices. Most people were on the other side of the oil question and now most people are on the other side of the coming boom. One of the economic truths is that in economic matters the majority is always wrong. At some point, the auto pilot takes over. When people believe that their jobs are at risk, they work harder. When people believe in economic collapse they save more (short term dramatic increases in savings are bad but in the long run we must have savings).


The average Baa to T-Bill spread since 1970 has been 3.65%, the current spread of 10% is enough to make professional money managers, not sure of which stocks to own, to sell stocks to buy bonds. Other professional money managers are still convinced that high inflation is just around the corner. These managers have fallen lock stock and barrel for the belief that the world is over heated and running out of resources. Everyone seems to know we are in a deep real estate recession, but few are willing or able to buy real estate at these low prices. Most of those who know that small cap stocks, retailers, banks and consumers goods stocks will lead the way out of the recession are not willing to buy. The majority will pay down debt when they should be aggressive and they will resume their borrowing some years from now when they should be saving.


The healing process is underway but most people will not feel comfortable about the patients health until he is out running laps.

Ouch! Double Ouch! 54% down 54%

Back in 2002, before the real estate boom, a table in the Economist Magazine reported that the developed world had assets as follows:


Residential Real Estate $48 Trillion
Commercial Real Estate $14 Trillion
Equities $20 Trillion
Government Bonds $20 Trillion
Corporate Bonds $13 Trillion
Total $115 Trillion


We know that 2002 was the year of a major market bottom, just before a tremendous boom in real estate asset values. The Big Picture Blog reports that just financial assets had grown to $140 Trillion by 2005 and using the same ratio of financial to real we can guess that total assets were $260 Trillion in 2005, probably much more. It would take time to find current numbers but the above numbers show a number of things, including the relative size of the housing market. When the US Treasury proposed a $700 Billion Bail Out, the number sounded huge. It is; however, when compared to the size of the assets involved it is not big. It is less than 1% of the sum of US households assets and just slightly more than 1% of US households net worth. The bail out is a misuse of our treasury because it was done in a way to allow the powerful to pick winners and losers but not big relative to the problem. It is small relative to the size of the flood of dollars pouring in from the private sector. Much is made of the fact that a lot of homes are being sold through foreclosure but no one seems to consider who is buying all these foreclosed homes.



The Dow Jones Global REIT Index is currently trading 54% below its 52 week peak and 68% below its all time peak. The numbers above show that real estate was 54% of the developed worlds assets in 2002. Ouch! Double Ouch! Fifty four percent of the worlds assets fell 54% in 52 weeks.


The average individual owns more real estate than anything else. In 2002, the average guy held 54% of his assets in real estate. A family with assets of $115,000 averaged holding $48,000 in residential real estate and $20,000 in equities.


Of course, there is no average guy. The worlds assets have never been and never will be equally distributed. While much was made during the election of the fact that the US consumes 25% of the worlds oil consumption, the reality is much "worse" than what was implied. In terms of assets, the top 2% of the people of the world own half of everything! The bottom 50% own less than 1%! This is the 80/20 rule on steroids. The median family has assets of about $2,000. If the middle is $2,000, how would you like to be on the end?


Over the past 30 years the poor have benefited from the opening of trade by Richard Nixon and by policies encouraged by Ronald Reagan and Margaret Thatcher. Nixon was a democrat in republican clothes but he did get an important ball rolling. Sine the Reagan/Thatcher reforms, the rich have paid an increasing share of taxes and as can be seen at gapminder.org, the poor have made huge gains. The distribution curve of income and wealth is still lopsided but free and open markets have been a huge blessing for the poor. Free trade is the best way to help the poor. In one of the great ironies of ethical living, we help the poor when we help ourselves to their low cost products.


By blocking free trade agreements, democrats help rich union members, rich lobbyist and rich politicians. The workers at GM could not "earn" an average compensation of $73 per hour without the crushing of the poor done through trade restrictions. The average US car includes about $1,500 in health care expenses compared to the average Toyota car which includes $110 of health care expenses. By blocking the free market, the congress permits union workers to make 260% of the average American compensation while allowing poor people to go hungry. Because union workers are so dramatically overpaid, US car companies have spent more heavily than necessary on industrial robots. We have substituted too much capital for too much labor instead of accomplishing the same work while feeding the working poor. I object to democratic strategies to help the "middle class" because their policies are specifically designed to help the rich; it is hypocritical to throw poor man out of work by spending money to "help the middle class".


Just a few months ago, the public had been brain washed into believing oil supplies were running out. A couple of years ago, the public was brainwashed into believing man is over heating the earth (the earths temperature has fallen from a sun induced peak 10 years ago). During this election cycle, the public was brainwashed into believing that 95% of the people will receive tax cuts with the attached implication that they will not pay a portion of the planned tax increases on the most profitable of employees and businesses. Who said that the most insidious tax increase of all is the inflation tax?


The average real estate investment cycle is 18.3 years long. At the bottom of the real estate cycle, the world is always in pain. The world is currently in a lot of pain. In the last year, the results have been the same as if a world wide fire burned down half the houses. Over three years, the fire burned three out of four! The Dow Jones World REIT index was down around 75% at the bottom. It is still down 68%.


The good news is that the fire department is and has been on the scene, putting out the fires. These fires are being put out by a flood of money. My only complaint about the governments portion of the flood of money is that winners and losers are being selected by those in power. On the other hand, the biggest flood of government money has been more fairly distributed by the FOMC which has increased its balance sheet by about 1 Trillion Dollars over the past few months! The UK and EU fire departments were late to arrive but the fire chiefs are catching up quickly. There should be several more interest rate cuts in the days and weeks ahead. Australia has only sent a couple of fire trucks so far but more should be coming soon.


The remaining areas of tight money are fading fast. The US Treasury bond rate has bounced back above 2007 levels in terms of the Australian Dollar but in terms of the average world currency the rate has fallen from 3.52% in June of 2007 to 2.87 as of November 7, 2008. The reduction in money costs is far more powerful than all the other floods of money. The rents available from real estate are being discounted at lower and lower rates, the values ready to start a 15 year climb.


The Baa to T-Bill spread has jumped well above the levels reached in August of 1982. August of 1982 was the jumping off point after the worst manufacturing recessions the world has seen. The Baa to T-Bill spread is currently above 9%. Such as spread is a measure of extreme fear in the market place (buy on fear). After 9/11, on October 10, 2002, and during the great depression years of 1934 and 1936 this measure hit 6.5%. Only in 1982 and in 2008 has this indicator gone higher. It spiked to 8% in August of 1982 and it spiked to 9% last week.


When the poor old stock broker asked the wealthy pig farmer his secret to success, he answer, "Buy low and sell high". A broad index of the worlds real estate fell 54% in the past 52 weeks, the maximum draw down was about 75% and the index is currently 68% off its peak. The index has made a bottom and bounced.


At today's prices, the world's accounted for real estate is priced about 70 Trillion Dollars below its peak value. Seventy Trillion Dollars sounds like a lot of money but it is not. It is only $10,700 per person. But how many of the 6.5 Billion people will buy while prices are low? Probably less than one half of one percent. The few who buy will net 99.95% of the gains on the way back up. One half of one percent of the people will share in 70 Trillion Dollars of gains. Will you get your share?


I suspect the wealthy pig farmer is buying. Ouch! Double ouch!

Another Dr. Don Letter

Republican's and Democrats are issuing government checks right and left. When will they ever learn? The following is another good letter from Professor Donald J. Boudreaux.

Andrew Wilson is right: the New Deal did not end the Great Depression ("Five Myths About the Great Depression," November 4). No less an authority than FDR's Treasury secretary and close friend, Henry Morganthau, conceded this fact to Congressional Democrats in May 1939: "We have tried spending money. We are spending more than we have ever spent before and it does not work. And I have just one interest, and if I am wrong ... somebody else can have my job. I want to see this country prosperous. I want to see people get a job. I want to see people get enough to eat. We have never made good on our promises ... I say after eight years of this Administration we have just as much unemployment as when we started ... And an enormous debt to boot!"*

Indeed, FDR's market-suffocating policies are almost surely what put the "Great" in "Great Depression."

Sincerely,
Donald J. Boudreaux

"It was the best of times, it was the worst of times..."

It was the best of times, it was the worst of times, it was the age of wisdom, it was the age of foolishness, it was the epoch of belief, it was the epoch of incredulity, it was the season of Light, it was the season of Darkness, it was the spring of hope, it was the winter of despair, we had everything before us, we had nothing before us, we were all going direct to heaven, we were all going direct the other way - in short, the period was so far like the present period, that some of its noisiest authorities insisted on its being received, for good or for evil, in the superlative degree of comparison only.

Charles Dickens, A Tale of Two Cities
English novelist (1812 - 1870)


Dickens noted the hype in his day; it is equally present today. I have been justifiably accused of hype and of wearing rose colored glasses. I often see the glass as being half full and I am excited about the wonderful innovations coming that will make life easier and longer.


Besides, the current economic conditions are absolutely great for a very large number of people. Those who have steady incomes through pension and social security checks and those with job security. Under the current circumstances these folk are enjoying the best of times. If these same folk have a lot of assets, such as real estate and stocks, they have suffered severe financial hits to their net worth but on a cash flow basis they are most likely starting to have the time of their life. The cost of most everything is falling fast.



The people of Japan are enjoying the decline the most, because they are seeing an even bigger decline than the people of the US. The people of Europe are seeing a smaller decline in prices. Of course, there are people in Saudi Arabia, Brazil and Russia who are not enjoying the massive price declines in the goods they produce.


From the peak, crude oil has declined 40% in AU Dollars, 49% in Euros, 54% in SDRs, 58.5% in US Dollars and 61% in Japanese Yen. From the peak, the price of copper has fallen 51% in AU Dollars, 57% in Euros, 56% in SDRs, 62% in US Dollars and 63% in Yen. From the peak, 30-year Treasury Bond Yields have fallen 12.5% in AU Dollars, 17.5% in Euros, 19% in SDRs, 22% in US Dollars and 24% in Japanese Yen. All numbers are approximations made by eyeballing charts posted at ShareLynx.


Prices have fallen the most in countries that are most developed and the most resource import dependent. I used Australia as the best proxy available for Saudi Arabia, Russia and Brazil; obviously these countries have "enjoyed" the price declines much less than Australia.


Prices are coming down and the cycle is rolling forward. As expected, commodities show a greater fall than bond yields but the study above was of US 30-year rates. In recent days there have been huge declines in bond rates around the world. The momentum is shifting. Oil prices were in free fall from $147 to $60 but there has been support at $60 and the price has bounced back to the $70's more than once. This does not mean that the decline in oil prices is over but that the cycle is moving forward. The overlapping declines will continue but the bond rates will fall relatively more than commodities as the cycle moves forward and the rise in bond values will be accompanied by a rise in stock prices. The cycle has the look of backing up when oil prices bounce but this is way the big money has to trade. All the worlds commodities cannot trade hands at the very top or the very bottom.


It is the best of times for a young working couple to buy a home, buy a car, or buy a stock. It just does not get a lot better than this. Times are good.


OUR GOVERNMENT DOES NOT KNOW HOW TO RUN A RAILROAD


A few decades ago, the railroads in the USA were generally broke or close to it. They were burdened with ridiculous rules and regulations. Many of the rules had been negotiated by very powerful unions. Coal trains that needed only an engineer to operate were required by union rules to be staffed with four people. In the old days, going 100 miles in a day by train was an accomplishment. Trains stopped at every small station along the way, often dictated by rules imposed by politicians. By the 60's, freight trains were rationally allowed express status. Trains loaded with crops from Florida traveled to New York overnight. The employees made a full days pay for each 100 miles traveled. Similar situations existed up and down the Mississippi river, out of coal mines in Wyoming and to, from and through California. On the route from Florida to New York, the employees made about 12 days pay each way. A three day trip cost the railroad and the consumers of vegetables 24 days pay for several workers.


Anyone could see that the system had gotten out of whack but special interest voted against change until the railroads were all but busted. When a couple of big rails failed, congress was forced to act. Special interest agreed to rules changes, if and only the government would operate a new company called Amtrak. Amtrak was supposed to become self sufficient but last year the budgeted US subsidy was 1.3 Billion Dollars. The total subsidy was more. Cities and states also subsidize Amtrak. Little old ladies surviving off social security are subsidizing the transportation expenses of New York Investment Brokers who earn millions annually.


The good news is that the rest of the railroad industry was released from the prison of goofy regulation. As a result, investors have made billions and consumers have saved trillions. Many Trillions of Dollars worth of goods have moved to markets as a result of deregulation, producers of goods have seen the size of their markets expand and consumers of goods have paid significantly lower prices.


Woe is me! The total compensation for the average auto worker is $73.20 per hour. The average for all goods producing workers $31.59 per hour and the average for all workers is $28.48 (numbers provided by Carpe Diem). The average auto worker is making about the same as the average airline pilot. He is making 257% of the wages of average workers.


Back in the days when railroads were being rationalized, the congress bailed out Chrysler. Dumb! Dumb! Dumb! Instead of forcing Chrysler to "take the cure" in 1982, Americans paid a very steep price. Today, thousands of auto workers receive $73.20 per hour even though their jobs have been eliminated and the "middle class" keeps paying through the nose to own a decent auto. Nancy Pelosi, Harry Reid and Barak Obama have no interest in learning from history, but only want to payoff their union friends; the ones who routinely spend millions to elect their friends every two years.


During a time when consumers across America and around the world are hurting, how does it make you feel for the US government to spend more and more of your dollars so that union workers can keep "earning" $73.20 per hour? Consumers who purchase a $20,000 car are paying $3,000 or so too much. Each time an American buys a car from GM, Ford or Chrysler, he is paying these salaries and sending a significant check to the campaign coffers of various politicians. These are the worst of times, because the people have not learned from the mistakes made in the past.


The important thing for investors to understand is that the negative effects are very long, unintended consequences, effects. The economic cycle is going forward and several great years await. The silly stuff passed during the late 60's under Johnson did not hit us really hard until the Carter years.


During the great depression, FDR raised taxes several times in order to finance all the more government programs. The people loved FDR and re-elected him 3 times because they saw the short term benefits of the government programs, however, the economic downturn was extended again and again by the actions of the government. Ironically, economically, we must be thankful for WWII when billions of dollars worth of goods were produced just so they could be blown to kingdom come.


Obama is not likely to make all the same mistakes as FDR, at least in the next couple of years. Obama has already implied that he will not go through with his massive tax increase package while the economy is hurting. Any fool should know that it is not wise to raise taxes during a recession. Obama has indicated that he wants to go forward with the his Keynesian $1,000 cuts to "the middle class". The key is for the government not to do too much as market rebates will be much, much larger than the governments rebate. The average savings per household will be an almost unbelievable $12,000 in 2009. In other ways the markets are quickly starting to get over the shocks they have received. Houses were over built due to government mandate and subsidy but the excess is being absorbed. Substitutions are being found for overpriced goods. Innovations after innovations are coming to market.


The most recent spike in the unemployment rate is another government creation. By extending unemployment benefits, 13 weeks once and another 13 weeks latter, a large number of retired folk are still "looking for work". Having taught a few classes in recent months, I have been tempted to file for unemployment. I could probably "look for work" for the next 6 months and collect a lot of benefits. It is the worst of times.


It is politically necessary to extend benefits during this recession and it is important to help those in true need. Those given an easy way to take advantage are being taught damaging lessons for themselves and for the rest of us, but we have to weigh the good and the bad and do the best we can.


Is it the best of times or the worst of times? It all depends on your attitude. There is pain in our midst but there are certainly huge opportunities available!

Another Big Surprise?

THE LARGEST DECLINE ON RECORD!


As a result of falling input costs, including falling fuel costs and falling interest costs, factory output costs fell last month. Factory output prices fell by 1% while factory input costs fell by 5.6%, the largest decline on record. Oh what a surprise! The quarter after oil prices and industrial metals prices fell from 55 to 95%, factory input costs fell by at a record pace.


Gasoline companies are slowly adjusting retail pump prices to input prices, putting consumers in the same boat as factory managers. Seeing the lower wholesale prices, gives us confidence that further price declines are on the way. As prices fall, we know that ultimately we will enjoy higher real incomes.



The formulas are simple: input prices down by more than output prices equals increasing profit margins; lower output prices encourage sales; flat or increasing sales times fatter margins equals increasing profits; higher profits discounted at lower interest rates equals higher stock prices.


This morning, the futures markets have reacted positively to the 500 Billion Dollar stimulus package announced by China. If enough governments pump-in enough money in enough places, there will be "reflation", but that does not mean that commodity prices are going to soar relative to the price of consumers goods. The price of metals and oil bounced this morning but retail prices have not caught up with the previous declines in wholesale prices. Even if the wholesale price of gasoline were to bounce 20 cents, the retail price would still trend down because there is currently an above average spread between the wholesale price and the retail price. Commodity input prices will come down more in the months ahead. This morning UK markets are up 3% with the biggest gains in basic materials but most sectors are rising.


A flood of liquidity, supplied by governments, is not going to convince consumers to go back to buying monster houses or monster cars. Rising incomes will be spent on other things and it is in other things where the opportunities for great profits lie.


New CAFE standards will dramatically limit the available supply of new monster cars. Auto makers are required by law to sell higher mileage fleets. The easiest way to achieve this goal is to reduce the average weight of fleets. The easiest way to reduce weight is to sell smaller cars. The second easiest way is to use lighter materials.


Once auto makers retool to use graphite parts in place of steel, the relative use of steel will forever be lowered. The 500 Billion stimulus package in China will not be spent trying to make the same heavy cars that were being made during the last boom. During boom times, consumers have tons of money and even more tons of credit. They buy to keeping up with the Jones family. During tight times, the brag from the Jones Family is the payoff of a credit card.


We are currently dealing with the Paradox of Saving. Stimulus packages such as the $600 checks sent out earlier this year are considered Keynesian stimulus packages, but Keynes was well aware of the Paradox of Saving, which is that recessions are largely the result of an increased propensity to save. Give the public a rebate check right now and he is likely to use it to reduce his debts. Once again, there is a big difference in short term results and long term results. In the long term, savings are necessary for economic growth, but in the short run a rise in savings results in slower economic growth.


The great news is that new products are in the marketplace and there is pent up demand. The Wii has been a huge success but it is just now coming out of the early adoption phase. The Kindle has been a huge success but it is just coming out of the early adoption phase. Knee replacements have been a huge success but the baby boom generation is just reaching the peak demand phase. The real per seat mile cost of airline tickets is at 50 year lows just as the retiring baby boom generation is ready to travel.


Having mentioned the Kindle, I must say again that Billions of Trees and Trillions of Dollars of other resources are going to be saved now that an excellent mobile reader has been developed. Last week, US News and World Report announced that its content is being moved to the Internet. Over the next several years, you should expect a massive move away from the printed page. The world wide resource savings will be more stimulative than all the government bailouts combined.


Thousands of free books are available. Thousands of bloggers will go mobile. Trillions of dollars will be earned by millions of people who published books in the past. Billions of bloggers will enjoy getting paid for their work.

Anne Coulter has sold millions of books by calling democrats dumb. Democrats politicians are smart. The blocking actions of Senate Majority Leader Harry Reid cost our short term economy dearly in many areas, but exit polls showed that 30% of the people who voted democratic did not know who Harry Reid is. Politically smart blocking actions helped Obama win, even though these actions hurt the economy. Obama is likely to govern far to the right of Harry Reid; still left of center. Obama's new chief of staff is a partisan bully but his economic philosophy is far to the right of Harry Reid's philosophy. We will learn a lot when we see the next stimulus package. A "good package" will encourage investment.


Using Larry Kudlow's analogy, mustard seeds are being sown. The decline in fuel and other commodity prices are providing more stimulus than all the government programs combined. The natural cycle is stronger than government. All the stimulus packages of all the governments cannot stop the relative decline in commodity prices. Sometimes it seems that the government would try to stop the fall of leaves from trees.


Martin Pring breaks the economic cycle into six phases: 1) stocks up 2) commodities up 3) bonds down 4) stocks down 5) commodities down and 6) bonds up. These 6 phases can be drawn by placing them as points on a wheel or as three smooth but out of sync sine waves. In other words, there are overlaps, during the early expansion phase of the economic cycle, bonds are still going up when stocks begin to climb but by the middle expansion phase commodity prices start to rise soon before or soon after bond prices begin to fall.


There is always "noise". Outside events happen. While the economic cycles are not as smooth as our weather cycles, they are just as certain and nearly as uncontrollable.


The more commodity prices go down, the more likely the price of bonds will go up and the more bonds go up, the more likely the price of stocks will go up. Last week, the value of the 5-year UK bond made one of the largest price climbs ever.


Number 6 in the cycle is bonds up and number 1 is stocks up. Just as winter follows fall, stocks will go up after bonds go up. No surprise here!