For the past few days, I’ve been asking you all to send me your questions about everything I’ve been writing about.
Q: You’ve written a lot about the pressures that the market is up against for the coming months and perhaps years. I’ve read all of it and sometimes wonder how CEOs and money managers are prepared for the looming catastrophes. They’ve had time and plenty of warning. Would their preparations have a minimizing or limiting effect on the worst-case market scenario? Usually, fearful money ends up in precious metals or some kind of resource holdings, and that’s not happening. Why aren’t the big-money people fearful? Or if they are fearful how are they hedged?
A: Michael, as far as CEOs are concerned, if they’re heads of non-trading companies, in any business, be they a service business, retailing, manufacturing, any business that doesn’t “trade” in any markets, their CEOs don’t hedge in the markets and generally don’t prepare for “looming catastrophes.”
That’s not their job – it’s not in their “portfolio” of duties.
The best, or most, some CEOs can do is to stockpile cash, reduce inventories, pare back on personnel and do whatever they feel they have to in order to “prepare.” But, the truth is, their job isn’t about preparing for anything “looming” in the markets. Their job is to run their businesses in spite of what markets do.
The only CEOs that do any hedging are those with business elements exposed directly to markets. In other words, importers and exporters that have to exchange currencies to do business around the globe. They might hedge their currency exposure to some degree.
But CEOs who dabble in the markets to prepare for anything looming and get it wrong will lose their job pretty quickly, because their job isn’t about speculation in any markets.
Money managers, on the other hand, sometimes do try to prepare for looming catastrophes. But no one has a crystal ball. And if you’re managing any pool of assets – and you’re a “long only” manager, which by far and away most are – and you “prepare” and what’s “looming” doesn’t come, you’ve wasted assets “speculating” on your fears.
The long and short of it is, most money managers DO NOT prepare, and as a result, when the dirt hits the fan they all choke on what the markets throw at them. (Most hedge funds play any and all sides of markets. But they’re the exception.) Therefore, when trouble hits, market disruptions can quickly manifest themselves through companies and the economy.
Big-money people are probably very fearful. But anyone who has been fearful since 2009 and consistently hedged themselves fully, or been sidelined out of fear, has paid a devastating price in the face of this raging bull market. And that’s why most money managers and hedge funds, no matter how fearful they are, are still long this market. The great bottom line for them all is that the Federal Reserve is here, and they expect it to continue to be there.
However, markets don’t follow every script that’s written for them. The Fed has boosted the markets, and central banks around the world have done their part. But there are still cracks all over the place. And some of them, the ones that have been evident all along, are getting a bit wider, in spite of central bank stimulus and liquidity pandering.
Mr. Market has a mind of his own. He is like the dog that goes mad. He’s been your best friend, but for no apparent reason, one day he bites you, hard, or attacks you to kill you. Maybe he has a bad gene. Maybe he snapped from some mental illness you never knew he had. Maybe it’s because he descends from wolves, and no matter how domesticated you believe him to be, it’s just the nature of the beast.
Q: We have heard a great deal about how we got here and the demons that surround us (thank you for contributing to this enlightenment). But place yourself as one of the top decision makers just prior to all begins to unravel and put on your best “save the situation before it happens” cap. Now tell us what you see. What would you be doing to prevent the events (not how would you react to them occurring? What are the signposts along the way – the action steps that you expect to happen in sequence? What steps are already in place that will be activated, and when in the sequence will they be activated? If the outcome is as probable as everyone seems to think, I’m sure the leaders of this nation have created a “what-if” sequence of events and reactions. What is yours?
A: Wow, Jim, that’s quite a challenge. I’ve never actually thought that all through before. Let’s assume everything is as it is now and there’s nothing about the past, even yesterday, that I could have changed. Here’s what I see. And here are the actions that, I believe, would get us out of harm’s way, which is right where we’re headed.
We need to “unwind” the Federal Reserve over a period of five years or so and eliminate it altogether. We need to break up all the too-big-to-fail banks at the same time by spreading them out into regional powerhouses with “local” branches that understand and serve local markets.
There should be some kind of “collectivization” of big regionals so they can easily syndicate big loans to huge borrowers in order to effectively compete globally, but still have limited exposure to any one borrower, industry or group of counterparties. All banks should have higher reserve requirements, probably in the 20% to 25% range, and much lower leverage rations, probably half what they are now.
Why not make banks more like utilities?
We need term limits and to eliminate all the special exceptions and advantages that members of Congress have legislated for themselves. They shouldn’t have a single perk that the public doesn’t have.
We need to throw out the tax code and go to a flat consumption tax. I like a progressive flat tax on income based on gross. Something like up to $50,000 you pay 15%; for every $10,000 after that up to $1 million you pay an additional one-tenth of 1 percent. So, at $1 million your flat tax rate would be 24.5%. Over $1 million, maybe the increments change to $100,000 from $10,000. So, if you made $5 million, you get taxed at 28.5%, and so on up to a maximum of 35%.
Corporate taxes would be flattened, too. But I’d have to do a lot of work to come up with what they should be.
Markets would be remade to be free, fair, orderly and 100% transparent. There should be position limits that trigger additional margin on a scaled basis.
Those changes would change the course of the United States for the better, for everyone. But none of that is in the works.
As far as what actions are unfolding now, we all can see what’s happening. No one is preparing for the direction we’re headed in. Our government representatives are blinded by their own greed. They don’t see how they are undermining America’s future.
So, I’m not hopeful. In fact, I’m afraid that the path we’ve been put on will send us into a hole from which we might only ascend by some sort of revolution… really.
Q: What key legislative changes would you implement to get the U.S. economy growing and improving? And yes, I expect this plan to be long and to take at least two years to bear fruit and another five to seven to really get the economy “humming.”
A: In addition to what I just proposed to Jim above, I would like to revisit the U.S. healthcare system through the prism of insurance company policies and profits.
I’m a free-market capitalist. But I also believe healthcare and banking need to be more like utilities than other industries. That’s because they are the two most important industries in our lives. They speak to our health and prospects for a better life.
There’s plenty of money to be made in healthcare insurance without destroying peoples’ lives making it. Why not limit the profits insurance companies make? Why not “force-manage” insurance companies to make healthcare affordable – as in cheap. Why shouldn’t we be the beneficiaries of healthcare and not corporations? It can be done. Obamacare‘s biggest flaw, and there are many, is that it is a gift to insurance companies.
As far as board compensation and executive pay, like I said, I’m a free-market guy. I don’t think there should be limits. What I do think there should be is accountability and the ability of shareholders to claw back compensation from board members and executives. Shareholders should be able to easily sue (with the corporation paying shareholders’ legal bills) boards.
Q: I am trying to reconcile the building worldwide financial threats, the “overdue” market correction, and the election cycle. From what I understand, election years are usually very positive for stockholdings between October and January. Being a new investor this year, I don’t have much margin for error (my stop losses too often are being calculated from my original purchase).
A: Election cycles do affect markets, but I generally don’t follow election-cycle market trends or trade against them based on past patterns. There are patterns because a lot of basic economic issues subject to political forces are themselves cyclical. Because you don’t have much margin for error, Patricia, I wouldn’t make bets on what the market might do based on election-cycle analysis or prognostication.
That said, if you believe the Republicans are going to come out winners and Republican policies are better for businesses and the economy, then maybe you should consider riding this bull market higher. Just keep a sharp eye on your stops. That’s how I would play it.
Of course, I also am worried about market-valuation metrics, cracks in Europe and China, and what could happen to emerging markets if U.S. interest rates rise beyond the Fed’s ability to control them.
I love a bull market, but they all come to an end. I believe this market will correct to get the excesses out, which means it will correct hard. Then, I think we’re going to see a global recovery, after all the excesses are wrenched out, that will be beyond anything the world has ever seen.
Q: If the dollar crashes, how long do you think it would take for things to stabilize? I’m a teacher. What impact do you think these events would have on public education? Do you think states would still be able to pay retirement benefits?
If the dollar crashes – as in an uncontrolled devastating crash (losing 25% to 50% of its value relative to other currencies) – it would take years and maybe decades to recover. But depending on the speed of any crash, stability would probably return at some lower level of valuation within a couple of quarters after a crash.
Currency markets adjust quickly. The devastation would be there, but markets would digest the damage and stabilize in due course. Education wouldn’t be affected much because it’s “domestic.” Pensions, on the other hand, would be devastated.
Inflation would follow a rapid deflation, and grossly reduced buying power would crush retirement funds. Let’s hope any decline in the dollar is gradual and controlled. Unfortunately, I see it happening in the years ahead, but not anytime soon. Maybe in another 5 to 10 years it may start.
Q: In light of the obvious destruction of our economy, how do we preserve our assets to be able to continue the “good fight” for America, freedom and economic stability? You have suggested a few foreign currency bonds, but how do we actually protect real estate and the rest of our “stuff”? I think this is most of your audience’s No. 1 concern.
A: In a meltdown, hard assets are the only assets that matter. I wouldn’t trust foreign bonds. And I wouldn’t want to own any stocks or have any money in any markets that would be disrupted or subject to banking, counterparty or clearinghouse failures.
If anything, I’d park whatever cash I had in U.S. government bonds. But, if I knew there was an economic meltdown coming, I’d want to have hard assets that I own outright (not mortgaged or margined assets) and at least enough cash in a safe place (in a safe) to continue to pay any outstanding mortgages so as to not lose the equity I’ve built up.
Finally, to protect ourselves, we should always have stops to get out of the way of falling markets.
Q: I enjoy your brave and eloquent commentary on Wall Street banks, etc. With respect to the issue of so many bullets being ordered, a simple way to determine the legitimacy of such orders is to examine whether similar amounts had been ordered by these departments in recent years or is this something unprecedented. Perhaps some research or Freedom of Information Act requests to the various departments can clarify whether this is something sinister or routine?
A: Some of the orders are seriously unprecedented. That’s why red flags are being raised. Some others from data that I’ve seen seem large, but aren’t out of line with past orders or relatively large when divided up between the actual number of “persons” in some of the forces buying ammo.
No government departments or officials would ever tell us if they are worried about civil unrest, an invasion or anything sinister in our midst that they are part of. Call me paranoid if you want, but there’s just something not right about some of it.
Thanks, to all of you, for your great questions. I plan to answer more of them next week.
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