[Concerned]

$this->bbcode_second_pass_quote('drew', 'I') think we'll have a recession long before PO hits which will be deflationary with regard to commodity and real estate prices. This will be driven by a decrease in investment, consumer, and business spending. Oil demand will plummet

What happens when PO does hit though is another matter. I can't see how we won't have massive inflation. For instance you are building a new home; you need natural gas for the production of the cement and drywall as well as electricity and diesel. Natural gas for the brick kilns, crude oil for the shingles. Diesel and gasoline for the lumberjacks, electricity for the sawmill. You get the picture, everything has expensive energy inputs.

[BigTex]

RE real estate value, if you look at where the U.S. bubble is, it's really in a limited number of large U.S. cities. The real estate market in medium sized cities and small towns isn't in a bubble and farmland is probably going to see good appreciation in coming years, as it has in recent years.

RE gold, I think that the way it has followed stocks up and down this year suggests that the gold ETFs may have fundamentally changed the gold market so that when people get spooked out of stocks they may get just as easily spooked out of gold (or at least a gold ETF).

[IslandCrow]

Re: MrBill's comments on inflation/deflation. The more I read on this the more unclear I am of how this will play out. However, I am sure that we will see a 'relative' realigning of prices of goods vs labour: relative inflation in manufacturing goods and relative deflation in labour costs (in such things as services and handicraft goods) when compared to each other.

In the 1980s I lived in a poor 'developing' country. As a rough and ready rule I assumed that imported manufactured goods would cost about 4 times what I was used to from Europe, whereas local hand made produces were about a quarter of the price. This scale of changes was of such a high rate (16 x when compounded) that I frankly had difficulty getting my head around it.

Some day-to-day examples of what the above meant. 1) Butter was cheaper by far than margarine. 2) We had fresh mangos, pears, apples, pineapples etc in session (peach session was only two weeks), but no canned fruit. 3) It was cheaper to have a home help to do the laundry than buying a washing machine. 4) Clothes were dried in the sun - no clothes drying machines were needed. 5) It was a good investment to buy some of those lovely hand-knotted carpets

On the energy front it meant that there were frequent power cuts. To get somewhat close to western standards of living alternative energy sources had to be used, the chief of these was solar water heaters (easy to manufacture in a small one roomed workshop).

[drew]

As many here know there was some unpleasant job news friday down south and of course a 250 pt sell off. Now to continue the fun I've got a link to the asia/pacific markets from yahoo finance:[web]http://finance.yahoo.com/intlindices?e=asia[/web]

Drew

[MrBill]

Sorry, still not back in the swing of things and scurrying to secure all my funding needs ahead of the Fed decision on Sept. 18th. Just to update, so far the ECB and the BOJ have done nothing, so all eyes are on the Fed to move first. Money markets have discounted a 25 basis point move as a given, while many are now betting on a rate cut of up to 50 basis points already. It may or may not be needed to avoid a US recession, or one may occur in any case, but it is none the less both inflationary and bad for the US dollar.

I think given a time lag that tighter credit and higher interest rates, that is spreads over treasuries that central banks cannot manipulate, will mean Asia and the rest of the world will not escape the fallout from credit problems in the USA and elsewhere. In other words, no decoupling from the USA for the world economy. But the effect will be six months to a year down the road.

$this->bbcode_second_pass_quote('', ' ')
Energy Weekly

Third-quarter inventory declines suggest winter price increases

Third-quarter draw likely Oil prices surged again this week, rising back near $77/bbl as the fundamental picture continued to tighten. We estimate that total hydrocarbon inventories at the end of August are likely down at least 12 million barrels from the end of June, making it increasingly likely that the market will see
an overall hydrocarbon draw in the third quarter. According to the IEA, the market has only seen three third-quarter inventory draws since 1986: in 1990, 1999, and 2002.

The similarities between 1999, 2002, and 2007-draws, backwardation, and price spikes

There are strong parallels between the third-quarter draws of 1999, 2002, and today. These three third-quarter draws followed OPEC production cuts in the face of rising inventories and weakening prices. Further, in each case by the time OPEC increased production it was usually too late, leaving the market unprepared for the sharp seasonal rise in demand during the fourth quarter, leading to lower inventory levels and significant price spikes through increased backwardation.

Macroeconomic concerns do create downside risk but do not significantly change the outlook

Our view on oil prices is more of a supply-side call than a demand-side call. However, demand growth for energy has been the best it has been since 2004 as energy price inflation, even at the retail level, has been at the lowest level in three years. This has stimulated demand growth, particularly in the US and China despite a weaker US economic outlook, as price effects have
dominated income effects. It is important to emphasize that oil demand growth in the US and China missed out on the expansion in 2005/06 due to massive price inflation, which created a significant drag on demand growth.

[pup55]

Hi, Mr. Bill:

At current levels (1485) you are indeed talking about a 25% car wreck between now and the end of the year in the S and P. In Dow terms, this means you are looking at something around 9850, in roughly 90 days.

The two questions I have are: what stops it at 25%, and how do you know it has hit bottom?

A check of the historical price charts suggests that in '87 it took a couple of months for the market to stabilize, so to speak, and a couple of years before it resumed its upward trajectory.

In 1929, it is famously reported that it took about three years for it to hit bottom, and did not recover until 1955.

So what was the difference? Maybe in 1987 the market got to its underlying value, which was about 75% of its nominal value, and then quit going down. So the question is; What is the underlying value of the market at this point,? How much of the market is "water", as Benjamin Graham called it, and how much is real? (ironically, in Graham's time, water was not considered to be particularly valuable, unlike today.)

The Clintons may be ahead of the game on this, having cashed out in the spring and sitting on T-bills waiting for bearmageddon.

[MrBill]

Pup, I have gotten it miserably wrong this past few weeks. When the S&P Energy Index (GSPE) dipped to 485, and the Fed dropped the discount rate, I started buying looking for a 10% move to the topside. Unfortunately, I got spooked out of my position when we dropped below 520 and I sold near the lows of the past two weeks. Now at 550 we are well above where I thought we would be. Stocks like SLB are up 59% YTD, 84% YOY, so those were the lucky ones to be still holding. I am not complaining, but I am coming clean about my lack of performance in this past few weeks. I am almost starting to doubt myself!

Now having said that I think we really are going to dip in the broader market with or without a drop in rates from the Fed. 5.00% or even 4.75% is not going to solve the subprime mess or credit crunch. All it will do is undermine support for the USD and fan inflation. So the question may be is it really a stock market rally if it is really a US dollar devaluation at the same time? Hmm?

My levels are 1371, 1255 and 1165 for the S&P 500. We were down to 1371 and I think would be much lower today had the Fed not done a U-turn and dropped the discount rate. It is hard to trade rationally when you're being second guessed by the central bank. I expected 1255 on the post-September 18th correction when everyone wakes up and discovers that 4.75% is not going to solve the US financial woes or correct global imbalances anymore than Hilary in 2008 is going to change the face of America. It ain't gonna happen. Then I expected 1165 by year-end. God and Bernanke willing that is.

I, of course, have no inside information that this will be the bottom. Those are just my Fibonacci retracements as guidelines to say even if you're in an uptrend overall, say a return to non-inflationary trend growth, that those are your minimum retracements starting at lows in 2002. The 1165 level is approximately 25% lower than the peak at 1558. But Merrill Lynch just raised their end of the year forecast to 1650 for the S&P 500, so that is just my opinion.

An aside: There is a run on a bank in London right now. Oh, how nice. I love Fridays! Apparently it is Northern Rock? Anyone know it?

There have been several articles this week indicating that US consumers are using plastic to maintain spending now that their homes are no longer available as ATMs. That is some $800-900 billion in spending funded at 13-14% interest compared to home loans at say 8-9%. Is that sustainable? I think it is the last gasp of a dying man. It is also ironical as some may say, 'well, if I am going down, I may as well enjoy the last hurrah!'

The way I see it is that Q2'07 results showed the economy to be very resiliant and corporate profits very high. So why then did we have a subprime blow-up if everything was so rosy? Do not the market fundamentals always look the best at the peak? This leads to some very dangerous complacency. Don't worry about a little subprime debt in the US because China and Europe are still growing strong aren't they? Well yes, but with a time lag of 6 months to one year those same higher interest rates, tighter lending criteria and credit problems will be infecting other countries as evidenced by some banking scares in Germany (and now London it appears).

Why are 10-year bond yields just 4.41% versus over 5% a month ago? Well, the central bank cannot manipulate those long yields can they? Therefore, despite a dearth of short-term liquidity in the money market where 3-month yields are 5.65% (up from 5.34% several weeks ago) there seems to be too much liquidity that needs to flow somewhere and that is into the 10-year UST. So I am not sure how lower rates are going to address that issue if banks and other lending institutes are re-pricing risk and refusing to lend to poor quality borrowers (at any price). As I said, I think it is a mirage. All that will happen is that foreigners will dump the US dollar and use that cheaper funding (if they can get it) to buy non-US dollar assets. I think the US is having a Japan moment.

So yes, I may be wrong. I think a recession is in the cards by the time this is all over. That may or may not mean I am correct on my S&P 500 at 1255 or 1165. If the US dollar slides and if exports continue to rise as well as foreign earned income for US exporters then the market may very well rise based on 12-month estimates.

However, Paulson did say yesterday that the US' credit problems were worse than the Asian currency or Tequila crises. Like you I went back and wanted to see how long those markets took to recover from peak to trough to peak and I came up with an average of two to three years. Malaysia for one took almost 10-years to recover if I just use the stock market as a guage. And not to forget that those recoveries took place rather rapidly because of booming Asian exports to the USA and world trade that outpaced growth by almost two to one. Who is The Consumer of Last Resort this time? We had better hope that all those sovereign wealth funds are feeling generous and willing to step in to fund that gap.

But let's use two to three years. It is as good as any time frame. That means you can basically write-off 2008 and 2009 for the real economy. That is going to expose a lot of other rocks under the surface as well. Unfunded future liabilities like spiralling healthcare costs for example? HilaryCare indeed. She better. Many of the States and local governments are going to be grappling with falling revenue at a time when unemployment spikes and lower taxes from declining house prices. At what point do those that can stop spending and start saving what they can? Rising incomes and employment have not lead to any meaningful increase in savings, maybe a crunch will help?

Well, maybe that is all too negative? The market makes fools of us all. There is no getting around it. Hero today, zero tomorrow. But my baseline scenario is worse before better. However, I had no idea in 1999 that the busting of the dot con bubble in 2000 would stimulate a huge worldwide housing boom as central bankers rushed to slash rates. Fooled once, but you cannot always trade looking backwards. I think Greenspan got lucky and then he pushed his luck too far. Now Bernanke will have to likely pay for those mistakes. But betting against central banks is a mug's game.

I am actually going to do something productive right now like go to a meeting to discuss funding the island's strategic petroleum reserve. I am kind of excited about that project. Have a nice weekend. Cheers.

[firestarter]

Mr. Bill,

When you sound like a bear then I begin to fear.

Glad you're back posting again.

PS: you didn't mention anything about $80 oil and where you think it's going from here.

[seahorse2]

Mr. Bill predicting falling gov't revenues in the US? Spot on, at least in my part of the country. For the last 9 months in a row, the sales taxes for the county I live in have dropped. That is also true for state wide sales tax revenues, which have dropped for the last 6 months I believe. The state recently attributed the drop in sales tax revenues, to among other things, the housing downturn.

Now, what's the practical effect of reduced sales tax revenues? Police and fire find it hard to budge for increasing fuel costs, trouble giving pay raises, etc. Further, our city just past a $50 million bond issue to build a minor league baseball stadium, all to be repaid with sales tax revenues that are falling. Ha.

[nth]

Just a reminder that Euro central bank is still injecting lots of Euro. This will preven the USD from dropping too much. Remember all those debt securities are US denominated, so any Euro bank selling or having margin call on these securities will lead to a temp push up of USD.

[seahorse2]

I guess they are paying us, the U.S. back for WWII, so we can all call it even now. Somehow, fighting Hitler seems a lot simpler than fighting this invisible credit crisis.

[BigTex]

The ground feels pretty solid at the moment, but I am still thinking bull trap.

The wild card, to me, is the extent to which foreign investors might come bargain hunting in a big market decline when the U.S. dollar is especially weak. One school of thought, I suppose, is that the U.S. dollar will bottom at some point, and if you can buy U.S. equities while they are cheap AND the dollar is cheap, that might be a good long term play. I don't see it that way myself, but I can see that kind of scenario providing support in a big decline.

[drew]

I, like you guys, think things are getting bad.

I don't know if any here have read any of the Daily Reckoning stuff, but I got one of their books last year, "Empire of Debt". It is essentially about the Greenspan inflation and the housing bubble. Excellent stuff, and, Mr. Bill, the authors are fully gold bugs to boot!

Anyways, I gave my copy to two coworkers one of whom is sitting on 250K in GIC's and the other who is 'all in' in this market.

The worry wart with 250K, who has been in GIC's for two years now has been talking about the housing bubble bursting for a long time and has made no money aside from the interest on the GIC's. (To his credit he did get out of tech about a month before it imploded in 99/2000)

He tells me the other guy is a gambler, as in the addictive type, which explains a lot. Apparently his spouse is not too happy with hsi latest foray into the markets.

I'm cringing for this guy, it is his life savings we're talking about, what can I say?

Drew

[MrBill]

$this->bbcode_second_pass_quote('firestarter', 'M')r. Bill,

When you sound like a bear then I begin to fear.

Glad you're back posting again.

PS: you didn't mention anything about $80 oil and where you think it's going from here.

[MrBill]

$this->bbcode_second_pass_quote('seahorse2', 'M')r. Bill predicting falling gov't revenues in the US? Spot on, at least in my part of the country. For the last 9 months in a row, the sales taxes for the county I live in have dropped. That is also true for state wide sales tax revenues, which have dropped for the last 6 months I believe. The state recently attributed the drop in sales tax revenues, to among other things, the housing downturn.

Now, what's the practical effect of reduced sales tax revenues? Police and fire find it hard to budge for increasing fuel costs, trouble giving pay raises, etc. Further, our city just past a $50 million bond issue to build a minor league baseball stadium, all to be repaid with sales tax revenues that are falling. Ha.

[seahorse2]

Mr. Bill,

For what its worth, here's what mining stocks I have (very small investments):

(1) BHP Billiton - couldn't afford to buy it now, but bought it in 2004 when it was affordable;

(2) Coal companies - ACI and Peabody Energy (BTU?);

(3) CDE - silver mining company, French. I did read a good argument the other day that the price of silver may drop below $9 an ounce next year due to reduced demand by big users like Kodak etc. However, if the dollar drops significantly, maybe the dollar price will go up. I don't know. Simply a hedge for me.

[MOCKBA]

$this->bbcode_second_pass_quote('seahorse2', '
')(1) BHP Billiton - couldn't afford to buy it now, but bought it in 2004 when it was affordable;

[rostov]

BHP?

After it's annual report came out with it's balance sheet and cashflow statements, members of ASF (Australian Stock Forums) attempted to have opinions about it. Only 1 member (ducati916) attempted to read through and raise concerns about its profits reported and its nearly current asset:liabilities nearly 1:1 . There are a few folks who argue that the "value" of BHP is not compromised, but I see less facts from the rest compared to ducati916. The discussion is here and starts from page 55, after 4 weeks of corrections since July 27th on the ASX (BHP trades in Australia), and after an ANN released. Note my entry on page 56 using Graham's litmus.

His blog with search string "BHP" is here. Of interest is how he rated BHP as a bond with OZ's discount rate (government bond rate) at 6.98+%, with a high premium of 54.8%. Anyway extracts of page 55 in ASF is taken from 3 posts down his blog (search=BHP)

I'm still working on expected rates of return at 15% (I'm a long term holder), so frankly I've not come up with how much the maximum price should be paid to obtain that. However, intrinsic value is around AUD$61. Parameters:
* Price now = $38.79
* Holding period = 10 years
* EPS growth rate = 14.80% (pessimistic, but may not be realistic enough given present year returns and accounting counter-claims)
* Discount rate = 7.25% (pessimistic)
* 1st 10 years EPS total = $34.9
* Value after 10 years = $76
* Debt per share = $15 (given debt per equity is at 39.6%)

Note : if EPS growth rate is 11%, intrinsic value drops to current price. I will be watching their 1/2 year ANN very very carefully.

[opinion]This is one company I have recently put into the "pass it to the back for now" cabinet. There are many other companies (ASX, non mining though) that I see better returns based on their business stability[/opinion]

Criticisms welcomed.

MrBill, what are the factors within a mining company that you are on the watch for (numerical and non-numerical factors)?

[truecougarblue]

"CDE - silver mining company, French."

CDE is COEUR D ALENE, as in Idaho.

Mines in NV, ID, and SA.

I have in the past liked the way this one responds to swings in spot prices of PMs, but lately it's been booring.

I own some though...

[MrBill]

Thanks for the comments on miners. More on that later. Today is the much talked about FOMC rate cut decision. And WTI (not Brent) hit a fresh high (again).

GS for the most part has gotten this year right with regards to energy and commodity prices. They have been more accurate than forecasters at MS for example who called for much lower crude prices than we saw last year. That of course did not materialize despite any revisions to their forecasts since.
$this->bbcode_second_pass_quote('', '
')Commodity Watch

More commodity upside remains despite recent gains

We are raising our forecast for year-ahead S&P GSCITM total returns to 12.3% from 6.4% primarily on upward revisions to our energy returns forecast. We continue to recommend an overweight toward energy despite recent gains.

Supportive fundamentals have led to a strong commodity rebound

S&P GSCITM total returns moved substantially lower in August as volatility in financial markets and concerns over implications for economic growth prompted sizeable investor liquidation of tactical long commodity positions. However, these declines have reversed sharply in recent weeks in line with still strong commodity fundamentals.

Opportunities remain for upside, especially in energy

Although recent strong gains driven by short-term supply disruptions such as wheat will likely reverse and the potential for a severe economic slowdown continues to present downside risk to commodity returns, we maintain that barring an extreme economic event, fundamentals across much of the commodity complex will remain supportive. We therefore believe that several
opportunities remain for substantial upside from commodity investments, particularly in the energy complex.

Prices reflect rather than cause fundamental shifts

The behavior of commodity forward curves over the past year - with crude oil curves shifting into backwardation on tighter fundamentals and metals curves flattening at times on softer fundamentals - underscore that prices do not cause fundamental shifts but rather reflect fundamental shifts.