FAS 167, Picking Gold Miners, Bernanke & the Dollar, Affording Our Wars and More!

by Addison Wiggin & Ian Mathias

  • One spark that could set Wall Street ablaze: Dan Amoss on FAS 167
  • Gold soars, but not all gold miners follow… Chris Mayer’s harsh truth for the gold diggin’ industry
  • Bernanke defies convention, talks up dollar… Chuck Butler on why the market isn’t buying it
  • Plus, quick hits on affording the wars abroad and how American banking is still clueless


  Here’s a new abbreviation to add to our crisis vernacular: FAS 167

That’s short for Federal Accounting Standards revision 167, effective Jan. 1, 2010. In essence, it’s a new accounting rule that will force financials to bring bad, off-balance sheet assets onto their books… thus a potential trigger for more Wall Street carnage.

“FAS 167 will be a larger and larger issue for the financial markets in the coming months,” explains Dan Amoss, our resident CFA, “and an emerging story in the financial media.


“In short, the banks with large off-balance sheet variable interest rate entity (VIE) exposures will have to hold more capital against these exposures. So they’re actively going to shrink the potential size of these VIEs, which are used to house things like credit card receivables.

“This coming consolidation of VIEs is likely one reason that banks have been hoarding cash and jacking rates on business credit cards — for creditworthy customers — up to 30% with no advance warning.


“This ultimately means slower formation of new credit, and in many cases — i.e., Citigroup — the outright shrinking of its balance sheet to a degree that starves a credit-addicted U.S. economy.”

Rest assured, Dan will have his Strategic Short Report readers well prepared for FAS 167… here’s how.

  And lest you think we’re making too big a fuss over FAS 167, check out these sound bites. The first is from Freddie Mac’s Q3 earnings report, the second from a Wells Fargo Q3 conference call.

“Under these accounting standards [SFAS 166 & 167], the company will record the underlying mortgage loans in these single-family PC trusts and some of its Structured Transactions on its balance sheet. These mortgage loans have an outstanding unpaid principal balance of approximately $1.8 trillion as of Sept. 30, 2009… While Freddie Mac continues to evaluate the impacts of adoption, the company expects that the adoption could have a significant negative impact on its net worth.”

“I want to update you on our most recent analysis of the impact of the application of FAS 166 and 167, which is expected to result in the consolidation of certain off-balance sheet assets currently not included in our financial statements. We provided a preliminary analysis in our second-quarter 10-Q. Based on our continued refinement of this analysis, we now expect approximately $55 billion in incremental GAAP assets to be brought on balance sheet, representing approximately $28 billion in incremental risk-weighted assets… we continue to explore the sale of certain interests we hold in securitized residential mortgage loans, which would further reduce the amount of incremental GAAP assets and incremental risk-weighted assets.”

  Just one of 11.9 trillion reasons to own some gold. The spot price climbed to another record high of $1,143 an ounce in after-hours trading yesterday and sells for about $10 less as we write.

  “A rising gold price, however, is no guarantee that gold stocks will rise,” notes Chris Mayer, highlighting a bitter reality to many long-term gold investors.

“If you look at the Amex Gold Bugs Index, for example, it’s pretty much where it was two years ago, even though gold has recently made a new all-time high. Gold miners as a group struggled with rapidly rising costs. So even though gold prices rose, they didn’t make much money. This only serves to highlight that there are other reasons to like gold stocks that have more to do with the economics of the businesses themselves and the price paid for them.

“Here’s one pictures that tells an important tale: A rising gold price means we should see more gold produced. That’s basic economics. In fact, miners have invested increasing amounts to gold exploration. But importantly, the number of new discoveries continues to fall, and is rather anemic.

 “This a familiar pattern in the resource world in recent years. It’s no different in the gold market. Big discoveries are rare — and more expensive. According to data from Sandfire Securities, a typical gold mine development might go like this:

“Exploration, three-seven years and $15-50 million. Evaluation may take another three-five years and another $20-30 million. Development could take another two-four years and from $50 million to over $1 billion in costs. Finally, you’re ready to operate the mine.”

Chris’ point: Nothing beats proven resources and existing gold production, especially when you can find ’em on the cheap. There are two such stocks in his Mayer’s Special Situations portfolio… currently accessible for just $1.

  Much of gold’s rise yesterday came on the heels of a falling dollar. And what put the ol’ greenback at another yearly low yesterday? Heh, this is a good one:

  “We are attentive to the implications of changes in the value of the dollar,” Ben Bernanke said yesterday in front of the Economic Club of New York, “and will continue to formulate policy to guard against risks to our dual mandate to foster both maximum employment and price stability.”

This was supposed to be a big deal. It is not the role of the Fed to talk up the dollar (that’s the Treasury’s job), but pundits thought Mr. Bernanke needed to “say something” in light of the recent attacks from his Chinese counterparts. So “say something” he did:

“Our commitment to our dual objectives, together with the underlying strengths of the U.S. economy, will help ensure that the dollar is strong…” How exactly? Ummm… the Fed will “continue to monitor these developments closely.”

  “Now, when he first uttered those words, the dollar got bought and the nondollar currencies were sold,” notes Chuck Butler, a veteran currency trader and Fed watcher. “But then, a few of us had this feeling… It was a feeling that we had heard all this before… And there… In the archives, circa June 2008… Bernanke said, ‘In collaboration with our colleagues at the Treasury, we continue to carefully monitor developments in foreign exchange markets.’ Wait! We won’t get fooled again!

“In June 2008, his statements spooked the markets into believing the Fed was really going to do something to bolster the dollar. But when nothing came along, the dollar REALLY got sold until the financial meltdown of August 2008. I mean… What has the Fed done in the past 1 1/2 years to ‘bolster the dollar’? Near zero interest rates that will remain in place for longer than they should… quantitative easing… A bloated balance sheet of toxic bonds.

“You could see the V-8 moments on traders’ faces when they realized, yesterday, that all this had been said before and nothing came of it, so… Meet the new boss… Same as the old boss… We won’t get fooled again! No, no!”

  With the recession/debt/dollar madness grabbing all the headlines at home, anyone recall that war on two fronts we’re fighting abroad? The latest Defense Department numbers suggest that adding 40,000 troops to Afghanistan — the latest “solution” to ending the war on terror — will require $40-54 billion more funds annually. That would bump the American military budget to $734 billion in 2010 — a 10% increase from the previous Bush administration peak. Seriously?

  A few new items in the data cupboard today. Here’s the quick and dirty:

  • Producer price inflation rose 0.3% in October, the Labor Department reports. Despite coming short of Wall Street expectations and falling 1.9% over the last year, it’s worth noting… prices are slowly inflating
  • Industrial production rose just 0.1% last month, also lower than anticipated. Year over year, production was down 7.1% in October
  • And one of our favorites, capacity utilization, edged up from 70.5% in September to 70.7% in October. As we’ve noted before, this continued rise — like it or not — is a classic sign that a recession has ended… for now, anyway.

  Last, further proof American banking is still clueless: Michael Carpenter was just named the new CEO of GMAC, the desperate financial arm of GM. When we read that headline this morning, we started optimistic — this company needs nothing more than a fresh set of eyes and an aggressive refocusing. Then we saw this guy’s rap sheet… another Harvard MBA, chairman and CEO of Citigroup Alternative Investments from 2002-2006 (that’s the branch that invests in real estate) and a board member of CIT Group right up until its demise. Oy… sounds like he’ll fit right in. 

  “The Bureau of the Public Debt (BPD) is one of the best places to work in the federal government,” reads a human resources page on the BPD Web site, which was brought to our attention by a reader on The 5 Min. blog.

“When you work for BPD, you’re a part of one of the federal government’s most dynamic agencies. When you work for BPD, you’ll be a part of a specialized agency within the Department of the Treasury. You will focus on one of the most important government functions: how the federal government borrows the money it needs to operate, and how it accounts for the resulting debt.”

The 5: Heh, could there be a more important function in keeping this empire afloat? If you’re looking for job security, this looks like the place to be!

  “Is the gold market a gigantic Ponzi scheme?” another reader asks. “At what price may gold find its tipping point — the point at which people with gold certificates ‘demand’ redemption and physical delivery? Will the certificate issuers have the physical gold and be able to deliver? What happens if we find out that there is no gold for certificates? At what point is it no longer profitable to mine gold, thus making stocks in gold mining companies worthless? If I have only food and you have only gold, do you think I’m going to swap?”

The 5: Maybe a bit extreme, but those are worthy questions. As we mentioned yesterday, our colleague and longtime numismatic Nick Bruyer is going to field a whole truckload of gold-related questions in an upcoming webinar — an exclusive for Agora Financial readers. Today will be the last day we’re taking questions for Nick, so if you haven’t sent yours yet, do it now.


Ian Mathias

The 5 Min. Forecast


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