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Goldilocks & Conundrum

March 8, 2005

Sometimes I fret foolishly that a monthly newsletter might not be so easy to continue, from lack of ideas and fresh topics to discuss. In the last several months, fears have been brushed aside, as events overwhelm the markets. Our government & banking leaders make enormous mistakes on a regular basis. They are often inept, politically motivated, and corrupt. The latest absurdity is the claim that we have reached yet another "Goldilocks" environment of tepid price inflation accompanied by sustainable economic job growth. Statistical lies help to promote such a picture. Well, Goldilocks has a new friend, not the three bears, but the conundrum.

Price inflation is rampant in assets and the entire broad-based cost structure, as costs rise twice as fast as wages. Half the new jobs created appear from the fallacious Birth-Death model employed by the Bureau of Labor Statistics, and the real new jobs stink on ice with few fringe benefits. Productivity is more likely running negative, as in we are producing less with what we have, if you remove the amplified silly hedonic lifts which support the claim of economic growth. Hedonic adjustments are a clever device to double count output, once from the output itself, and twice from the greater device speeds that produce the output. It is like saying Michael Jordan beat Joe Sixpack on the basketball court by 80 points, 20 points from the game, but multiplied by 4 times since MJ jumps four times as high as J6P. How absurd on its face!!! The savings rate is running negative if you remove the absurd self-paid rent from homeowners ($800 billion per year) and the self-paid bank check service ($400 billion per year). The capital requirements of $1.8 billion per day testify to lack of savings. Over half the supposed economic growth (GDP) comes from hedonic lift adjustments to information technology spending. The other half comes from under-stating price inflation itself, calling it growth. Growth spurts like 3Q2004 occurred as fiction, since that quarter had the biggest jump in energy prices, almost completely unremoved from the economic statistics. Sorry, but little Goldilocks is neither a cute darling nor blonde at all. She is a balding hag with warts and acne.

Opportunities abound. A great opportunity exists to profit from my favorite stock, an energy company with strong trading liquidity which came down in price after a huge 280% rise since last summer. It should easily gain 50% from here by late summer. Subscribers have made outsized profits on a few energy stocks, especially those who took my hint in early January that charts indicated strongly a giant move in energy stocks relative to gold miner stocks. See the public article "Oil to Prevail over Gold" which was spot on. Now it is the turn for miners again, even as energy will rise perpetually with fits & starts.

In the remainder of this year, the staggering cash amounts on energy company balance sheets will light a giant fire of mergers & acquisitions in pursuit of small and mid-sized energy firms. Large firms are amazingly cutting back on exploration, as they see few prospects. The large firms will replace spent reserves by purchasing the small and mid-sized firms. These same large firms have declared stock buybacks and granted stock dividends in the past year, which is neither corrupt nor unwise. The practice helped to lift energy stocks to their proper value in an age of scarcity. Their next move is to go on acquisition shopping sprees, being the lazy lumbering giants that they are. Exxon Mobil has $25 billion in cash, and is getting the urge to go shopping. Get your stock portfolio aligned. It is not an exaggeration to claim energy stocks will rise perpetually, well, until China goes quiet, goes dark, or is relocated onto an asteroid. World energy demand is growing significantly. World energy supply is severely limited for growth, and is in fact, loaded with risk of decline. The Hat Trick Letter discusses how and why. Furthermore, new trends in the energy world are outlined for profit potential which do not center on oil or natural gas. The USA will soon discover uranium again and nuclear power generation. Be sure however, that the USA will discover the nuclear option last!!! The crisis in energy will be multi-faceted.

The latest incredible development in the financial world is the Greenspan "conundrum" speech where the Fed Chairman actually admitted his confusion as to why long-term interest rates have failed to respond to his six short-term rate hikes. An over-arching problem faces our wise fool Secy of Inflation. He is attempting to stimulate the economy and financial markets. But his main method is to add liquidity by purchasing bonds, well advertised and quite transparent. Given the forces itemized below, his job to end the Fed Reflation initiative project is made almost impossible, especially given the under-estimated awesome power of the secular deflation trend. That powerful headwind has been with us since the great stock bust in 2000. Look for the long bond yields to remain low, and perhaps head even lower, as the USDollar goes into its next decline. The only way that long-term interest rates will climb with sustained vigor is if the USDollar collapses without any attempt by central bankers to stop it, nor any available Asian trade surplus to support it !!! Giant hedge funds might have trumped the Fed Chairman's plan to tighten interest rates and reverse the stimulus program. The long-term bond bull market has not really ended since its inception in the 1980 decade, despite the lack of recognition.

Three giant forces have eluded incompetent view of Greenspan. He is the Bob Uecker (a hack) of baseball fame, treated like Willy Mays (a superstar). No, he is Mr Magoo for sure, blind as a driver of the monetary station wagon. In future years, his wreckage will be more clear.

1) The hedge fund community has between $800 billion and a cool $1 trillion to invest and speculate with. One of their most reliable and favorite instruments is the yen carry trade, which capitalizes on the 3% difference in interest rates between the USA and Japan. Apply some leverage, put several dozen billion on the one-way street to profits, and poof, the US Treasury 10-yr bond is supported in a huge way. Giant machinery is in place to pull the long-term US rates toward convergence with those of Japan, where a bond bubble has lingered for over a decade. Poor Greenspan (Mr Magoo) appears not to see this.

2) The easy money to borrow at absurd cheap rates has helped to generate some price inflation, but it is in all the wrong places. Investment in commodities (like metals and energy) has made for everything to cost more in our economy, both business and household. The falling USDollar started the process, and investors jumped onboard to accelerate it. Given the presence of China, and noting they will not go away, we have little ability to raise prices or raise wages. China controls pricing power. It all combines to make for a constant drag on the economy, which helps to keep long-term interest rates down. Bankruptcies and layoffs continue unabated. Poor Greenspan (Mr Magoo) appears not to see this.

3) The US Economy is overloaded with the consumption of things. Whether it be Wal-Mart, KMart, Circuit City, Best Buy, Staples, Office Depot, Home Depot, or Lowe's, our stores are stocked with products made in Asia. The USA manufacturing sector is dominated by car makers, electricity generation, gasoline refinery, and drug makers. These industries are very limited for export growth to correct the trade deficit. As a result, our trade gap continues to hemorrhage money, and in its wake, shed valuable jobs. Asian central banks recycle their vast trade surpluses totaling over $320 billion annually into US Treasurys, which directly forces long-term interest rates down. Poor Greenspan (Mr Magoo) appears not to see this.

A recent dire signal is the gradual collapse of Fanny Mae. It is in the news every other month for fraud. Soon it will feature criminal prosecutions. It is bankrupt, kept afloat by the Dept of Treasury. The risk to housing mortgage finance is monumental, and thus housing prices. As housing gives off gas in the future, and bonds are seen as kept in bubble land by government central banks, gold and energy (commodities generally) will be seen as THE PLACES TO BE for investments. The day is nigh where Agency mortgage bonds are regarded as garbage bonds. Their yield will not be high like the standard issue junk bonds. Instead, their price will be inflated to reflect their over-value. In time, only central banks will hold our mortgage garbage bonds. Little do Americans realize, that the USA is traveling down a similar path to Japan, whereby we engineer our entire mortgage banking system to be tied to over-priced housing. The Japanese banking system went insolvent. The US mortgage finance industry will be localized in its damage with Fanny Mae, Freddy Mac, and the other federal mortgage enterprises. Japan keeps their bond market inflated by force feeding them with legally required government pension fund infusions. The US keeps our bond market inflated by monetization and coerced foreign central bank interventions.

The stock market celebrates what they stupidly judge to be a Goldilocks Economy without benefit of opening their eyes to numerous warning signs. Energy prices are near record highs again (crude oil hit $55 again). Gold is on the move again (it creased the $440 mark). The commodity price index hit a multi-year high with the CRB hitting 300 (higher supply costs). The US Treasury yield spread is a flat 0.7% to 0.8% differential (typical recession signal). The US trade gap is staggering and not reducing at over $50 billion each month (import flood and job loss). We now have trade gaps in agricultural products and technology, our supposed strengths. The federal budget deficit is staggering and not reducing at over $600 billion when fully counted (foreign capital dependence). What the heck makes this Goldilocks??? Spin, lies, sales pitch !!!

In the Hat Trick Letter issue to be posted this weekend, a fuller explanation is offered on why the Treasury yield curve is flattening. An analysis is given in detail on the three above points. An explanation is given as to how the USA creates enormous monetary inflation, exports it to Asia, where factories are built (probably over-built), only to have the enormous round trip hit the US shores in the form of a flood of cheap Asian products. We as a nation export inflation, only to suffer from the import of deflation. The more we inflate, the more we depend upon Asian output, the more deflation we suffer ironically. A brief discussion is offered on both China and Japan, with my favorite indicators displayed which give us lead time to see what might happen next in big changes.


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Jim Willie CB is a statistical analyst in marketing research and retail forecasting. He holds a PhD in Statistics. His career has stretched over 23 years. He aspires to thrive in the financial editor world, unencumbered by the limitations of economic credentials. Visit his free website to find articles from topflight authors at

Jim Willie

Jim Willie

Jim Willie CB, also known as the “Golden Jackass”, is an insightful and forward-thinking writer and analyst of today's events, the economy and markets. In 2004 he launched the popular website that offers his articles of original “out of the box” thinking as well as content from top analysts and authors. He also has a popular and affordable subscription-based newsletter service, The Hat Trick Letter, which you can learn more about here.  

Jim Willie Background

Jim Willie has experience in three fields of statistical practice during 23 industry years after earning a Statistics PhD at Carnegie Mellon University. The career began at Digital Equipment Corp in Metro Boston, where two positions involved quality control procedures used worldwide and marketing research for the computer industry. An engineering spec was authored, and my group worked through a transition with UNIX. The next post was at Staples HQ in Metro Boston, where work focused on forecasting and sales analysis for their retail business amidst tremendous growth.

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