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Newsletter - Edition 155 - 30 November 2008
By Christopher Laird

http://www.prudentsquirrel.com

* Our investing perception problems today
* Living in the past
* It�s a noise problem
* Our expectations for the future are probably wrong at this time
* People generally cannot believe in huge change in advance
* Living in the recent past
* Example of the commodity bubble and its recent fall, as a perception problem
* Markets rally on really bad data?
* Big crashes are multiyear events
* Where we are now, and what is next?
* USD situation why the rally and what after into 09
* Buffett gets nailed this year
* USD situation � T bonds etc, prospects into 09.
* Currency crises coming
* The prognosis is not an easy one to say the least
* Scale of world bailouts as of now
* Is there a safe haven country?
* Food complex updates



Our investing perception problems today

We are going to have a general discussion about perception and then get into the USD later�I think that one of the biggest issues for anyone is to be aware of how they are thinking, and then after that, to try and do something about the present situation. Maybe you won�t know all how you think, but to be aware of the �mindset� issue is a big step in the right direction. If things were more stable in the world economy, then the perception problem is not as serious because the basic beliefs the majority of people and institutions hold are more or less in tune with reality.

With all the financial chaos, losses, and damage in the last year and a half (Since July/Aug 07 roughly) I think it�s important to understand a large change occurred in market psychology. This is part of what I call our time horizon problem. Right now the markets� time horizons are too short, too impatient, and also �out of it� as far as what�s going to happen in two years.

In a nutshell, which we will elaborate on in a moment, there have been two/several huge changes in our world since roughly 1990. One is the internet and massive proliferation of computers and information. The other is that the entire world economic system, driven by the West (to include Japan and Asia as western offshoots) has changed radically and is about to drastically continue changing. Hell, it already has changed. We have just not seen all the aspects revealed yet.
Living in the past

One thing we all have a problem with is imagining the world changing radically. We all sort of live in the past, it�s just natural. We think that things will go on the way they have been. We tend to think that markets will always rally eventually, for example. I call that mentality blindly optimistic. That viewpoint is that the �US/West always overcomes�, �the good wins out� and so on.

Then, when history presents our world with once in a century changes, world altering ones, most people are blindsided.

But the fact is, history is full of examples of entire civilizations having huge changes, depressions, wars, etc (plagues). The truth is that the relatively placid life the world enjoyed since the end of WW2 is not the norm in history. The relatively predictable world we grew up with in the West, EU, US, Canada, Australia, and even non China Asia is changing radically right now. The actual personal effects are the next to manifest to each of us. In a significant sense, what is happening in the West is quite similar to what happened when England lost its empire status and fortunes collected from 200 years of dominating world commerce in the 17 and 1800s after WW1 ended. Visualizing/anticipating the changes that wrought was impossible then.

Getting back to the time horizon problem. If you look at the financial media today, they are always calling for some market bottom for example. Markets are so volatile today that every week appears to be another new situation. The instant media everyone is addicted to makes us unable to look ahead very far, and the media is so instant gratification oriented to their audience that everyone has no real sense of what is happening, or more importantly, of the near future. The markets only react now, they are reactive to each new financial event on a weekly basis, not proactive. So are most people and nations at the present time.

In tracking the evolution of the credit crisis from around August 07 to now, I am absolutely stunned at the scope of what is happening, and how fast it�s happening. Every week, there is a whole new story and crisis it seems.
It�s a noise problem

So, the point is, it is critically important for all of you to keep in mind these perception problems. Otherwise you will always be reacting, and living in the past, but the times we live in are all about big change. So much is happening, and with the internet and electronic media in spades today, it�s a noise problem, it�s all just a big DIN.

Our present time horizon problem is that we think/expect things must happen right away now. We expect instant market rationalization of the latest financial developments. As soon as some reaction appears to have manifested the day of the latest mess, new and hugely significant information presents itself the next day or week. Then we expect markets are digesting that too. Well, let me tell you, markets are NOT digesting the news, they are behind the next developments. Markets are merely reacting and are NOT pricing in the future right now.
Our normal expectations for markets to rally, for example, are too short. Sure, people know the idea of a bear market rally and such, but the entire structure of our electronic information world is so busy that we all don�t even realize how influenced we are by overly short term expectations and thinking. The superficial media analysis certainly does not help, nor does the huge flow of new data we all immerse our consciousnesses in. I have friends who are retired investors who live on CNBC almost 24 hours a day, it�s even blaring in the background when we talk on the phone�They even go to sleep with that show on in the background.

I am not going to say CNBC for example is bad. I am saying however that the pace they seem to project is way too short sighted. I am not sure it�s anyone�s fault either. But information is so fast now that it�s just a big problem, not only filtering it, but trying to look ahead. One of the worst jobs today must be to be a CNBC regular analyst/anchor. They seem to run long hours and a fast pace, and frankly many of them look tired.

The advent of the computer information explosion is a key part of the problem. While I certainly like the rich nature of the information out there now, and its great accessibility, I also realize that it�s now even easier to lose sight of the forest for all the trees and little bushes constantly popping into view.

And then, as I said, we all need to remind ourselves that we are witnessing a world changing financial crisis, but perhaps many of us still think most things will continue to be like they were in recent decades. I believe that thinking like that is dangerous in these times. Do I know everything about it and the dangers? No. But I see this perception problem as serious for anyone today, and I point this out here.

Of course, to many of you, much of this is probably obvious. The question on all our minds is what the hell do we do about all these ill omened changes developing on the near horizon? Of course.
Our expectations for the future are probably wrong at this time

Well, firstly, we need to realize that our expectations of things remaining much like the recent decades is wrong. Many of the aspects of our economic and political life, and personal home life, will be changing significantly in the next handful of years.

So, at least be expecting big changes, and try not to get caught flatfooted � as a mindset. One of the things I have noticed in casual conversations with investor friends about the markets is this tendency to be in denial. People really can be disturbed when they hear someone like me talk about the risk to their retirement accounts they built up for a lifetime, or that the USD is in big trouble and nearing its end. That is understandable.

But being in denial of the risks, and doing nothing, is not understandable� Just a thought. Stopping up one�s ears, getting tired after a mere 10 minutes conversation about the financial risks out there is, frankly, lazy and dangerous. I know it�s unpleasant to think about dangers, but there it is. It�s a terrible thing that people who worked their entire life saving for retirement have to deal with the many aspects of this financial crisis that threatens to wipe out their savings. But this is the reality at this time. 4 decades ago, maybe people would worry about a recession, but not a USD collapse or world banking collapse, etetera.

For example, at times I talk to various professionals, even investors casually, and it�s clear to me that they cannot imagine what would happen in a real US dollar crisis. They certainly cannot imagine what foreign exchange controls will do to them. They also cannot imagine/conceive of a world where the USD is not more or less stable. That same inability to conceive of what would happen should the USD collapse is prevalent in our trade partners too, not just with local investors and savers.

They will listen (briefly) to my points that it might be a good idea to pay off their home, if they intend to stay there, and use some of those tax deferred accounts to do that. But, having spent so many years building that 401k or whatever, a week later, the thought leaves their mind. The point is, since the chaos has not really become dead bang in front of their eyes, they don�t act. Why is that?
People generally cannot believe in huge change in advance

Because they don�t believe, or cannot believe, that the USD for example, will indeed collapse. They cannot imagine prices of everything going up ten times, and the only way to get anything would be in some black market�And it�s not only the US here, it would be much of the world if the USD let go because the rest of the world all predicated their entire economies on exporting with the US/EU/West for the last 60 years.

These types of people are complacent in my opinion. I am not sure they can be blamed either. But, if you follow the present credit crisis at all, it�s quite clear that the entire world financial structure is having a heart attack. But, unless these people�s actual banks close on them, they simply won�t act. Well, over 90 % of all people, well educated or not, are like this.
Living in the recent past

So what am I saying here? Again, I am saying that most people are still living in the past. They more or less expect things to be as they were in the world since the end of WW2, or recent decades. It is not necessarily their fault, but it�s a serious problem that they cannot bring themselves to act or prepare or make changes or imagine what a living in a collapsed economy is like.

And they will be caught flat footed when the huge crises finally break out (the crises are only beginning to show but have not resulted in world bank holidays, or shortages of everyday things - yet). And I am also saying the huge proliferation of information on TV and the internet does not make getting it right (not flat footed) any easier. All that does is risk mesmerizing us with information overload, like literally falling asleep listening to CNBC world or whatever.
Example of the commodity bubble and its recent fall, as a perception problem

Let me give you a perfect example. There was a huge commodity bubble since 2002 roughly, which coincided with a very commodity hungry world housing and economic boom. But, as recently as March of this year, every news commentator, every hedge fund interviewee, market guru said we are in the middle of a world commodity boom, which has another 5 years to run minimum. But the fact was, we were 5 years into the world commodity bubble, and since the USD was about to rally, that commodity bubble was about to turn. The point is, everyone seemed caught in the recent past thinking the commodity bubble would go on for many more years�.

Maybe this all seems obvious now, but I would like to point out that we were some of the first ones to say a USD rally was coming and that would hit the general commodity sector in April 08. That the commodity sector was infected with speculators, and when they realized the USD was to rally, they would flee.

And also, we all know that the ongoing credit crisis forced a lot of general deleveraging too. And, it�s causing severe economic slowing. Everything got caught up in it, even oil. Gold too, but not as badly, although the gold stocks took quite the hit because of all the funds liquidating everything. This situation continues too. The deleveraging is not near done overall, although there are breaks in it with some short market rallies.
Markets rally on really bad data?

But, as we speak, in spite of horrible US economic data this week, the US markets rallied this last week. There is absolutely no rationale for markets to rally right now, with the increasingly worse economic statistics in the US, EU, Asia and commodity economies. But they do rally at times in spite of that, or out of pure hopefulness.

The fact is, going into 09, the world economic news is going to be so bad, that the world stocks cannot rally for long. Eventually, the bad news, the layoffs (coming strong now) etc will take their cumulative toll on market sentiments, and another big world financial sell off will ensue again in 09.
Big crashes are multiyear events

And again, I point out that big economic crashes happen over a period of several years, before everyone realizes the jig is up. Eventually, in the kind of market deleveraging we are presently witnessing, markets end down 90% after several years of this. The US markets are down maybe 40Pct and the world markets down much more. And the unsettling winds of currency crises are starting to pop up in diverse places from Asia to the US to Russia, and so on. This is only a preliminary beginning of what we expect to come, which is a real world currency crisis started by the final decent of the USD and all the damage that would do to everyone else�s economies and currencies. I repeat, we are only in the beginning stages of this situation, and that is something we need to remember. It takes years of market declines to convince people that a 60 year world boom is ended. That boom is embedded in their psyche.

So, the point is not to think the storm is breaking with the recent rallies, because at the very least, all we might be getting is the eye of the Hurricane, and the worst is yet to come. But, people tend to want to be optimistic, and most of them won�t be ready for the next wave of crises into 09. You need to be careful about wanting to believe something. And what concerns me is the next stages of the credit crisis will be world currency crises all over the place.
Where we are now, and what is next?

So far, we have credit crisis leading to economic contraction in a big way since October of 08, and now maybe in a year, world currency instability. Oct 07, credit meltdown and banking crisis worldwide. Oct 08, economic collapse worldwide, now clearly appearing. Oct 09, world currency crises next?

And one thing that worries me the most is a USD crisis. That is certainly on the horizon, and a near one at that, too. The USD situation affects the entire world, not just the US, which will suffer tremendously. Canada, for example, is one of the US� major trade partners, and is kind of economically joined at the hip with the US. So are our other major trade partners. Like it or not, they have all designed their economies to sail in tune with the West since 1945.
USD situation why the rally and what after into 09

Maybe it sounds contradictory for me to say the USD is rallying now and why it is, and then to say there is an imminent USD crisis around the corner in a year or two. But that is not really contradictory.

What is happening now is a flight to cash and deleveraging, and the USD is the main beneficiary at the moment. But, as the US continues bailouts (and the EU and even China at the same or even bigger scale compared to their GDP) the US and world will run ruinous fiscal deficits. They also are going to fail reflating the world deleveraging. The governments simply cannot replace the world economy. They don�t have the money to do it, and every government in the world, except China perhaps, is already badly debt laden. Historically so.
Buffett gets nailed this year

Before we continue, let me say that the major goal all of us should have is wealth preservation now, and not to seek more returns (or make that very secondary since everything is deleveraging). To do otherwise is to take more risk than you likely think at the present time, and this goes for the next several years. To give you an example, Warren Buffett, and some of the other most astute investors are all getting creamed this year. Why? Because of the reasons I listed in the first part of this newsletter, that they are all still caught in the past, and making bets and losing their shirts. How can the world�s most astute investors get it that wrong? Answer: they are suffering from what I described in the beginning of this newsletter �ie living in the past. When things are changing fast and hard, living in the past is very dangerous. That is why I pointed this out in this newsletter. Most people will be caught flat footed, and I guess, that is the nature of huge world change. People and governments get caught flat footed, and suffer the worst of the changes.
USD situation � T bonds etc, prospects into 09.

Once the USD starts to let go, there will be world currency instability. One of the only havens then will be to own real assets outright with no debt on them. We will get into that in a moment.

As we said, the USD is presently rallying. We expect that, by mid 09, trouble will start to appear with the USD. Depending on how much our trade partners wish to keep things going, they will make large attempts to shore up the USD. They also are living in the past. In fact, all the bailouts clearly show the world governments are living in the past. They will attempt to stave off a serious USD collapse.

But they won�t succeed for long. At some point, the huge rally in US Treasury bonds will flag. There will be some fateful decision, or realization by one of the usual buyers of US Treasuries that its all letting go, and they will let go.

Within a month or two from that point, a general realization will develop that the US Treasuries are in danger. US interest rates will skyrocket. Depending on how severe the perception is, the USD might rally for a bit initially for several months. But, when the second phase of starts and US Treasuries start to fall (rates rise dramatically) then the USD will have its first big devaluation. It will probably lose half or a third of its value in two months. This can all happen later in 09. (Not saying it must happen that soon, but it can).

There will be concurrent world currency crises and chaos. Other victims will emerge and be dragged down with the USD. As I said, it�s very hard to predict who might win out. I certainly think the Yen (considered a USD alternate) will suffer big at some point. The Japanese have some of the highest public debt in the world.
China and resource nations will have big problems, and likely their currencies will suffer too, like the Ruble presently is. In short, as we said, it will be very hard to find havens in the currency crises concurrent with a USD crisis.

China is in worse condition in many respects. They are already having labor strife with the 100,000 factories closing so far this year� They will have some big political instability when the USD and US economy finally collapses, taking down everything tied to it.

The EU is also not likely to fare well. Nor the Euro. The EU has lots of big public debt and political division. They are just not likely to weather this kind of economic crisis well.

Of course, some other major currency will emerge, and eventually the world economy will rise from the ashes of a post USD world economy. The issue is how to get there without being wiped out�the same problems will affect every major economy in the world.

We have previously stated that the USD has 2 to 4 years left. But, I point out that its demise can come sooner. It�s possible. This is why I offered the mid 09 USD crisis scenario here. It�s a possibility, not a certainty. In 4 years, I would say a major USD crisis and US default and Treasury bond collapse is almost a certainty.

One of the key indicators of an impending USD crisis will be US Treasuries. If they start to fall significantly in value (higher rates) that is a key sign. Hopefully, we can anticipate it. Right now they are at record highs (low rates because everyone wants them � for now). Mark Faber said it�s the last �bubble� ie US treasuries. In fact, when you get done reading the NL take a look at this great interview of him late Oct 08.
Faber October interview

Again, I believe that the precious metals and their stocks will rally into/by mid 09 in anticipation of the coming world currency crises. There will eventually be more flight into the precious metals in general, and their stocks, when these things with a USD crisis start to manifest. In fact, depending on how soon the USD starts to tremble, the precious metals should anticipate it by at least several months.

For the moment, the USD should continue strong into the end of 08. There is general flight to cash, and end of year cash hoarding worldwide. I would be wary of any stock rally, as basically an end of year thing at the moment. In any case, the cash hoarding to year end is not stock friendly anyway.
Currency crises coming

But if you think the credit crisis is bad, and it is, again the next big shoe to drop will be currency crises, and in a few years time�We are already seeing some big trouble, with the British Pound, the Ruble, the Won (Korea)� and the big one will be the USD. The edifice that kept the entire world currency machine liquid was credit, and that has been dealt a fatal blow. All that has happened in the last year and a half was about well over $10 trillion of combined world central bank interventions. We hear that it�s a few $trillions worth, but they aren�t really telling the true scale, it�s over $10 trillion by my rough accounting since August of 07, if you add all the central bank efforts together, the US, EU, China, Russia, Korea, Japan, IMF, World Bank, Argentina, Brazil, everywhere. � It�s a total world effort.

Now, the US, and others are talking about taking control of everybody�s tax deferred retirement accounts to �protect them�. Argentina is the first that actually did it, whilst the US Congress is having �discussions� about the issue. Argentina said they did it initially to �protect� those retirement accounts. What it is really being perceived as is a confiscation. (So much for tax �deferral�. All they have to do is raise the taxes when they do it, after all, your 401ks or whatever are pre tax�if they have not yet been taxed, the tax can be increased no? If these come under government management, they tell you what you can take out, and what the tax will be. This goes for every tax deferred account in the world I would say. I am getting more and more dubious about these tax deferred accounts, particularly in national economic crises, and especially in currency crises).
The prognosis is not an easy one to say the least

I would suspect all this sounds scary, and I don�t like talking this way either. But this stuff IS happening right now. The 2009 prognosis is not good.
Scale of world bailouts as of now

To give an idea of the scale of these public attempts at bailouts � it�s said that in big banking and currency collapses of recent decades, in any one country, it took about 20% of a nations GDP to bail out the banking sectors.

Presently, world GDP is maybe $50 trillion, and so far over $10 trillion or 20% of world GDP, has been thrown at the problem to try to stop the deleveraging in world markets in the last year and a half. The problem is, this is a simultaneous world credit/banking/deleveraging crisis, and unless there is another healthy economy to carry growth, which there is not now, the efforts so far will fail and are failing. This time, a world deflation and depression will not be denied. And the next shoes to drop are the world currencies, and, as I said, it�s hard to say which currency might be a haven. Even the Swiss Franc has problems as they really don�t have lots of foreign reserves�

From all that I have learned, the only haven is paid off real assets of whatever type. Basically, ownership of real things, while the currencies take a bath. Maybe you can buy some real assets when they drop in prices, which they are, and save some wealth. And this is the same solution for no matter how much money you have, $50 k worth, or $500 million worth � in whatever currency. We have subscribers with many millions of dollars or more, or access to that�and many with $50k too; the same solution applies to all according to my view.
Is there a safe haven country?

And to make this work, you still need some liquid cash type assets to live on and pay taxes through the mess�.and a safe place to live. Merely moving to another country is not necessarily a solution either. There are no silver bullet currencies, nor sure haven countries that I know of. It�s a stand and survive issue that is building up. As I said, one major financial newsletter writer was promoting Argentina several years ago as a haven and they are having their private pension funds nationalized now, and food shortages, all in a rich agricultural nation!

I would say however, that to rule out one thing would be big concentrated cities. Smaller towns are probably the best. Mid sized cities like 100,000 are getting to be a problem if supply lines are breaking down. Living in the total boondocks away from any people means you are totally on your own. In many survival stories I saw in great economic crises, in Russia, Argentina, and the US Great Depression in the 1930s, I noticed that people near small towns did the best often. They suffered, but survived and kept together. Having a few people around is not a liability.

If you are looking for a country to locate to, pick one that has a decent agricultural base. Food at least should be available. Of course, even that is not a guarantee of anything, as for example Argentina, who used their huge agricultural base to gain foreign currency when their own native currency collapsed in the early 2000�s, and the locals were second in line!

But moving to another country has big drawbacks. First, you won�t be a native. Second, you won�t have your family around, or friends, or familiar surroundings. You have to relearn everything. If you are not a native you are a second class legal status. Etcetera. Do you want to do all that at the same time of trying to survive a world economic collapse? Maybe the really practical option at this stage is survival in place, if it�s relatively safe, all things considered. Moving to another country merely adds huge potential problems.
Food complex updates

There is interesting news out how presently falling food prices are leading to a big drop in lots of agriculture output. I think in 09 we might have a repeat of the food price spikes. Again, I am reminded of the one year periodicity of major economic developments in the last year and a half. Possibly the food and oil situations are similar? If that is true, then 09 will again have a major food price spike� this is only a guess. In any case, the world can barely feed itself at this time, we saw this earlier this year. Also, although I offer this analysis, I do NOT suggest speculating in food. This is more a warning of getting your own food supply at home organized.

I know for a fact that the US corn harvest is having some issue about not getting in dry enough this year, and there are propane shortages (for drying corn that is way wetter than usual from the rains this year) where they are trying to get the stuff in and stored before Winter� etc, it�s all rather chaotic. They literally cannot get the propane there because of big supply bottlenecks, which mean that lots of corn is probably going to be left to rot.

And, much of the US wheat crop is getting severely under fertilized because the fertilizer contracts were locked in at high prices this year, and so they are using 10% of normal fertilizer� and so on. Falling fuel prices have not worked into the next harvest costs as of yet. So we have one more harvest to go before any improvements happen, and in the mean time, they are all farming at a loss due to falling grain prices, etc.

And then, I find out that some of the biggest crop insurers are going bankrupt because of our severe winter here in the US, which means they are not paying off on crop losses, which means those farms are shutting down their production� into 09.

And, livestock producers are culling herds because the feed prices are still too high, and then add on to that the fact that people are reducing meat consumption and won�t tolerate higher prices, and so meat consumption/production is falling in chicken, pork and beef, whereas the meat producers were hoping they could get higher prices, but aren�t because the economy is imploding.

Of course, I was focusing here on US agriculture in 09 but other countries are in much of the same situation. Ultimately in 09 this should all add up to another world food shortage.

So, I guess to wrap up, try and be ready for a tough 2009.

[RJjr]

That's the best article I've read in a long time, as it's one of the very few that touches on the most important issue of all: food.

All the mainstream media wants to talk about is how consumers can't get loans. They never talk about producers being affected by the credit crunch. Aside from fewer acres being planted, I think fertilizer is one area where a lot of farmers will cutting back.

Another concern is how much of American agriculture is in the hands of corporations. During the Irish Famine, people starved to death while food, more than enough to feed everyone, was exported to people who could pay more. With AIG partying with the tax dollars of Americans losing their homes, you better believe other corporations look at Americans the same way.

These articles show how more and more Americans are already having a hard time affording food:

http://www.usatoday.com/news/nation/2008-11-25-foodbanks_N.htm

This one is a lot more shocking: http://io9.com/5098767/40000-hungry-people-descend-on-colorado-farm-seeking-free-food To put in perspective how many people 40,000 are, this arena http://www.kentuckybasketballcd.com/rupp.jpg holds 23,500 people. The photo shows probably 20,000 of the seats, so the number of the people in that photo times two showed up to pick food on 600 acres!

I'm going to be growing a lot of food this year and don't want my crop picked uninvited or my home invaded over food. I'll gladly give to those in need, but crime is so bad here and the entitlement mentality is so strong that it's worrisome. I'm thinking about writing an anonymous letter to the local newspaper encouraging everyone to stock up on canned food and to also buy some seeds to grow a "victory garden." If all Americans would stock up on food and grow as much of their own as possible, things would be great, but sadly I think there are food riots in our future even though it's completely 100% avoidable.