FDIC Goes Broke, Investing in GDP, Peak Gold and More!

by Addison Wiggin & Ian Mathias

September 30, 2009

  • FDIC in trouble, but refuses taxpayer help… what that means for banks, and markets
  • GDP revised up, growth appears imminent… Chris Mayer on stock implications (or lack thereof)
  • Housing still hurting… Fed gov suggests government assistance waning
  • You know Peak Oil, but Peak Gold? Byron King explains below


  It’s official: The FDIC is broke, again.

Not without a sense of irony, FDIC chair Sheila Bair announced late yesterday that the deposit insurance fund — the fund that backstops all our savings accounts — will be running at a deficit today for the first time since the S&L crisis in 1991. As we forecast in August, the 120 bank failures (and counting) over the last two years have stripped the fund of over $52 billion — its entire war chest. Under current FDIC projections, it’ll be another $48 billion before this is all said and done.

To remedy this ailment, Bair proposed yesterday that the FDIC should force banks to prepay insurance fees through 2013, which would raise the government arm a cool $45 billion. That’s nice, as it would give the taxpayer’s checkbook a break. But we’re sure American banks — which reported just $1.8 billion in income in the first half of 2009 — can’t wait for a bill this size. Heh.

  “Changing rules to avoid a crisis has the unintended drawback of perverting the simplistic process of cause and effect,” notes Eric Fry. “And if you change the rules often enough, nobody wants to play anymore. The participants either figure out ways to cheat, or they refuse to play the game at all… and search for some other game where the participants ‘play fair.’

“A buyer of common stocks, for example, might begin to prefer Russian securities over the American variety. After all, if neither jurisdiction will reliably and equitably apply securities laws, why not invest in the Russian issues that carry much lower valuations and much higher growth prospects? Or to put it another way, if both jurisdictions will behave capriciously — handing out favors to cronies, while bending long-standing laws and regulations in the name of expedience — why pay a premium for American equities?

“Similarly, the buyer of global sovereign bonds might begin to ask himself why he should prefer a low-yielding U.S. Treasury bond to a higher-yielding bond from an issuer like Brazil. This bond buyer might begin wondering why he should continue investing in the dollar-denominated securities of a government that is on track to pile up a massive $2 trillion deficit this year, rather then investing in the real-denominated securities of a government that is running a primary budget SURPLUS.”

  But never fear, GDP is on the mend! The American economy contracted only 0.7% in the second quarter, the government finalized today. That’s down from its previous projection of 1% and practically seals the deal for a positive GDP number when Uncle Sam gives his initial third-quarter guess in late October.

Still, this is the fourth consecutive official drop in GDP — the longest U.S. economic losing streak since records began in 1947. The economy has contracted 3.8% since then, the deepest pullback since the Great Depression.

Paging through the fine print, there’s only one outlier — one segment of blockbuster growth while the rest of the economy muddles through, at best: federal government spending, up 11.4%.

  “In some ways, the whole GDP discussion is irrelevant,” says Chris Mayer. “As investors, we care about markets, and not GDP growth. There is a great fallacy out there that if the economy does well, stocks should do well (or if the economy does poorly, stocks should do poorly). Hence, too many so-called investors waste an inordinate amount of time talking about recovery, or lack thereof.

“It’s possible that GDP does expand strongly. But investors could still lose. We have one glaring historical example: From 1964-1981, GDP grew 370%. And the sales of the Fortune 500 more than sextupled. Yet the Dow Jones industrial average went from 874 on Dec. 31, 1964, to 875 on Dec. 31, 1981.

“As Warren Buffett once wrote: ‘Now, I’m known as a long-term investor and a patient guy, but that is not my idea of a big move.’

“For investors, it is all about the price paid. The really relevant question is not one of whether or not the economic recovery is real. The question is are stocks cheap enough? To answer that, you have to look at stocks and compare them with the alternatives.

“My answer is some stocks are cheap and some are not. It is hard to generalize. In my view, investing is a craft of the specific. It is in the picking of the trees in which investing skills pay off the most, not in assessing the forest. There are, undoubtedly, specific stocks that will prove nice investments over the next few years. Finding them is what we are all about.”

Want Chris’ help finding ’em? In terms of bang for your buck, there’s no better deal than Capital & Crisis, especially considering this limited-time bundle offer.

  Nevertheless, it’s hard for traders to find fault in a higher-than-expected GDP, so the S&P opened up 0.2%. And that’s as high as it’ll get today:

  ADP claims private companies shed 254,000 jobs last month. That’s 54,000 more jobs than the Street expected and not the best omen for Friday’s jobs report… though both are a mess of statistical fudging and margins of error.

  American manufacturing could be back into contraction. The September Chicago PMI reading scored 46.1, a hefty fall from August’s score of 50 — the precise level that differentiates expansion and contraction.

While Chicago can’t speak for the rest of the U.S., stock traders aren’t taking any chances… the S&P plunged to a 1% loss within moments of this announcement. We’ll follow up on this tomorrow after the dust has settled.

  One more curious data point today, if you don’t mind: Mortgage applications fell another 2.8% last week and are down 44% over the last year, says the Mortgage Bankers Association.

That’s especially interesting, given that government housing manipulation and mortgage lending rates are pushing potential buyers into the market harder then ever. Bankrate says the national average rate on a 30-year fixed is 5.1%, down 10bps from last week and over 100bps from October 2008. Then there’s the $8,000 first-time homebuyer credit… extra support from the FHA… the Fed’s purchases of Fannie and Freddie paper and U.S. Treasuries… and the government still can’t cajole a rise in mortgage applications? Not the best sign for housing.

  What’s more, “There is, in my opinion, a limit to the [housing] life support that can be provided by either the Federal Reserve on the monetary front or the Congress on the fiscal front,” said Federal Reserve Bank of Dallas President Richard Fisher yesterday. “The market for housing will not become truly robust until market forces replace the prostheses of government support.”

Clearly, that ain’t happenin’.

  The dollar is a bit of a mixed bag so far this week. Despite a big rise yesterday and a good fall this morning, thanks in part to the U.S. stock market, the dollar index is just below 77 as we write… right about where it started on Monday.

  Bouncing between $66-67 a barrel, oil’s had a relatively boring week too.

  Gold is decidedly higher so far this week, but not by much. Trading around $990 an ounce most of this week, the spot price shot above $1,000 this morning.

  “We’re in a world that appears to have encountered Peak Gold as well as Peak Oil,” notes Byron King in a recent interview with The Gold Report. “If you look at historical production, worldwide gold output reached a top right around the year 2000-2001. Overall output has declined and we’re not replacing output from the big mines of the past. Despite discoveries here and there, miners have to dig deeper and deeper into the reserves. In a big mining country such as South Africa, for example, some of the deepest mines now are at 4,000 meters. That’s 13,000 feet…

“More and more dollars are chasing less and less gold. You’re piling the monetary inflation coming out of Washington, D.C., on top of the dwindling production coming out of the mines of the whole world. Beyond that, a lot of what kept gold prices down and the dollar strong for years was the impression that the United States had its act together and would pull through over the long term, despite all of its various flaws and faults. In the eyes of the world, we’ve somehow managed to blow off a lot of that impression and I don’t know what it will take to recover it. It took winning World War II the last time.”

Bryon tells us that combination of gold scarcity and dollar abundance could push the spot price as high as $2,000… or even higher. Check out his latest special report for the full forecast — including one way you can score some gold for less than one penny per ounce.

  “In response to the economic realities of recession,” a reader writes, referring to our discussion on law schools, “‘Big Law’ has reduced the size of recruitment classes, delayed the start date for many recently recruited graduates and reduced starting salaries from about $160,000 to $120,000 on average. For those lucky enough to be among the graduates recruited, these ‘hardships’ mean the time required to payback student loans is extended and the return on the tuition investment is correspondingly less attractive…

“As a college senior, I rather impulsively changed majors from pre-med to pre-law. At Christmas dinner, I announced that I had already been granted an early acceptance and would be attending law school in the fall. I expected the news to be my lawyer father’s greatest present. I never saw old man so mad. He couldn’t believe I’d done something that stupid.

“40 years later, I’m still proving him right. Legal training is not, in and of itself, a bad thing; but law school is grueling and expensive. Few can afford to abandon the investment of time and money when they discover that life in the criminal courts is not as glamorous as Perry Mason portrayed it. As a financial investment, law school truly sucks. Had I taken the money spent on just the first year’s room, board and tuition and bought stock in virtually any of America’s great large-cap companies and simply forgotten about it, I wouldn’t be a lawyer today. I’d be a retiree.”

  “That picture in yesterday’s 5 was taken literally one block from my house,” a reader writes, referring to our bit on the water and infrastructure crisis in California. “No water damage to us, thank goodness.

“This picture encapsulates, better than 5,000 words could, the state of the California economy. Along with everything you mentioned in your paragraph, throw in California’s new ‘tax’: a fine of $460 for running a red light, even a rolling stop while turning on a red, thanks to the nifty new cameras being set up all over town. As I get IOUs in the mail instead of tax rebates, other poor folks are getting nice snapshots that you are forced to purchase for a cool $460 — sweet deal!!!

“Lately, I am forced to bite my tongue when someone I know makes a new home purchase sure that it’s reached it’s lowest and is poised to shoot back up to the moon. I tried to warn people in the past that we aren’t out of the woods yet, about shadow inventories, etc., but to no avail. I don’t like to be right when it comes to dire predictions, but I’m certainly not running around trying to snatch up LA real estate, either. Wonder how the homes on this street will hold their value following the incident above?”

“Keep up the great work — really enjoy your newsletter and research!”

The 5: It’s our pleasure.

Thanks for reading,

Ian Mathias

The 5 Min. Forecast

P.S. In just 10 days, $5,000 turned into $15,000. It took readers 17 days to turn another five grand into $28,467. Those are just two of Options Hotline’s 37 winner trades last year… get the full details of this impressive winning streak, right here.



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