The Death Tax, A Small Cap Indicator, Banks in Danger, Middle Eastern Airplanes and More!

by Addison Wiggin & Ian Mathias

  • Government affirms three of life’s certainties: Taxes, death, and then one more tax
  • Small stocks often lead market rallies… Greg Guenthner suggests they might be leading us back down
  • Dan Amoss reveals “the most important driver” behind recent stock surges
  • Which banks are the least likely to repay TARP funds… if they can even make it through 2010
  • Chris Mayer with an investment opportunity “most Americans would be surprised to learn”


  For the foreseeable future, you are free to die in America without penalty… so long as you aren’t rich.

The U.S. House of Representatives voted to extend the estate tax late last week — indefinitely. In a time when everyone could use an extra dollar — and, in fact, hundreds of billions of dollars are being handed out while trillions more are being printed — the state opted to extend the “death tax,” which was set for a one-year repeal in 2010. Instead of a year of tax leniency, for every dollar beyond $3.5 million that you bestow upon your departure, the government will take 45 cents (should this bill become law).

Why start today’s forecast with this news? We couldn’t think of a more fitting sign of the times… punish those who found success (and already paid their taxes once) and reward the weak (in this case the U.S. government, arguably the greatest spendthrift in history).

Here’s the best part: They’ll spin it so it sounds like Uncle Sam is doing you a favor. “This bill gives our nation’s wealthiest families the ability to know exactly what their obligation to the nation that fostered their wealth will be,” Rep. Jared Polis so eloquently noted. You see, you not only have some kind of “obligation” to give the state nearly half of your life’s work, but by keeping this tax continuous, Rep. Polis will offer that sleep-easy assurance that the estate tax will surely outlive you. What a relief.

Of course, there are myriad ways to get out of it (thus further complicating our overcomplicated tax laws), but the current estate tax is still a huge profit center for the U.S. government.

By the way, David Galland added some more layers to this matter in the latest Whiskey & Gunpowder article… you should check it out.

  But since this is the status quo, such taxes are of little concern to the market today. Major indexes opened flat this morning after Friday’s employment-induced rally.

  “Are small stocks breaking down?” asks our microcap man Greg Guenthner.

“We were looking over some small-cap stock charts earlier this week with a few other analysts in the office. It’s difficult to estimate how many stock charts pass across our monitors every week — but it’s safe to say the number is significant.

“The smallest companies we research on the Nasdaq or Amex are all beginning to act in a very similar fashion. The charts all look like a variation of this:

*The company name and share price have been redacted

“Some are less dramatic — but the idea is the same. The smallest issues — with a few exceptions — peaked sometime in October. It’s becoming more obvious that the Nasdaq flagships — Apple, Google and the like — are keeping the index from pulling back.

“Sure, the evidence is anecdotal. Nevertheless, it’s worth mentioning. We’ve said time and again that the smaller stocks have historically led the market out of recessions. And right now, we aren’t exactly thrilled where Wall Street’s smallest denizens are leading us.

“However, now’s not the time to be hitting the panic button. It will take a much broader downturn to engulf our pennies. We just need to be ready to act if necessary.”

Are some small stocks more vulnerable than others? Of course… look here for the few Greg thinks can weather the storm (and would be worth buying on the dips).

  The Federal Reserve might be behind today’s stock market lull. That surprisingly positive jobs report from Friday has traders waiting to hear from Ben Bernanke, who is speaking at the Economic Club of Washington today at noon EST. Now that employment has turned the corner, or so we’re told, the market wants the latest scoop on interest rates. We’ll fill you in tomorrow.

  “The outlook for Fed policy has become the most important driver of the stock market in recent weeks,” adds Dan Amoss. “Fiscal and monetary policy is about as extended as it can get without the risking destruction of confidence in the U.S. dollar. Like a general that’s overstretched his supply lines into enemy territory, the policy ‘solutions’ for dealing with the fallout of an epic bubble in private credit have gone about as far as they can go. Credit losses are embedded throughout the banking system, and they must be taken sooner or later.

“The gold market is sending the signal to central banks that there are limits to monetary expansion. And the political tide has turned dramatically against further deficit spending by the federal government. In the near term, I expect the Fed to back off from its extremely aggressive policy guidance, in a bid to restore the market’s confidence in the integrity of the U.S. dollar. This should lead to a correction in risky assets, which have floated ever higher on the idea that ‘cash is trash.’ But in the longer term, I expect another wave of stimulus programs and Fed money printing in reaction to a rejuvenated ‘deflation’ scare.”

  “Monetary policy is not fully neutral from a financial stability perspective,” reads the conclusion of a study released today by the Bank for International Settlements. Heh, only a group of very smart people could arrive at this conclusion: Too low interest rates for too long causes bubbles. (Eureka!)

“It is important that monetary authorities learn how to factor in the effect of their policies on risk taking,” the bank added. The studies found that when interest rates are kept below a historic benchmark for more than 10 quarters (as they are now), the odds of default for an “average bank” subject to those rates increases 3.3%.

  The U.S. government’s TARP program will lose “just” $341 billion, the Treasury proudly announced yesterday. That’s $200 billion less than they originally forecast, mostly thanks to better-than-expected TARP repayments. Banks have so far repaid $71 billion, and by Tim Geithner’s recent estimation, they’ll cough up another $100 billion more by the end of 2010.

  Regional banks will be less likely to repay TARP funds and stay out of trouble, says a study from Bloomberg this morning. Why? Three words: Commercial real estate.

“Among 35 of the biggest regional lenders that retain TARP funds,” reads the Bloomie report, “commercial real estate and construction loans average 37% of total loans, compared with 9.5% at Citigroup Inc. and Wells Fargo & Co., the two biggest U.S. banks that haven’t announced plans to repay the government.”

Those 35 banks hold about $36 billion in TARP funding… we’ll be keeping an eye on the big ones like Zions, Synovus and Regions. A Bloomberg survey expects none of those three to turn a profit in 2010.

  Another six banks failed over the weekend, bringing the yearly total to 130. That’ll take another $2.3 billion out of the FDIC’s war chest… a sad little coffer that’s been empty for months.

  The recent gold sell-off has stabilized for the moment. After retreating over $70 an ounce over the last 72 hours, the spot price has found support around $1,140.

  Conversely, the dollar index is up a full point from Friday’s low, to 75.8

  Oil has suffered from that dollar strength, too. A barrel is a good three bucks cheaper today than Friday, at $74 a pop.

  “Most Americans would be surprised to learn,” writes Chris Mayer, with an investment opportunity in hand, “that the Middle East is such an important market for new jets.

“The Gulf’s leading airlines — Emirates (out of Dubai), Etihad (out of Abu Dhabi) and Qatar Airways have been become big reasons why Boeing and Airbus make any money. These outfits are still buying planes and will need more. After doing not much of anything earlier in the year, passenger growth is growing again in the Middle East. As Airbus CEO Tom Enders put it: ‘The Middle East is still the hub of aviation growth.’

“There are different guesses out there as to just how many planes the region will need. The ranges are impressive in any case. The Middle East should buy 1,400-1,700 planes, at a cost of $240-300 billion over the next 20 years. These planes will support passenger growth of nearly 5% annually over that time.

“The growth in aviation is a kind of sidecar to the great emerging market story. Maybe it is less obvious than some other ideas, but it is as real as any of them. If you look at Airbus and Boeing, it’s fascinating to see where some of their new large orders are coming from. Airbus just signed a $1.8 billion deal with Vietnam Airlines for four A380 superjumbos and two A350s. Ethiopian Airlines recently put in an order for 12 A350s, at a cost of $3 billion. These are just two examples.

“The Asia-Pacific region, despite the impressive growth out of the Middle East, is still the largest buyer of aircraft. Over the next 20 years, for instance, the Asia-Pacific region will require close to 9,000 planes, at a cost of over $1 trillion.

“New routes, more passengers… as this ‘Great Convergence’ continues its work, the aviation industry should feel the benefits. It’s no different, historically speaking, than the expanding trade routes across Asia that we know as the Silk Road.”

Chris offered his Capital & Crisis readers a nice play into this opportunity… one with a healthy distance from the notorious woes of the aviation industry. It’ll make a nice addition to the C&C portfolio, which you can learn more about here.

  “I wonder,” a reader writes. “Might the — apparently cause for rejoicing, but obviously suspect — nonfarm payroll numbers, the mighty turnaround in the U.S. dollar and the $50-plus drop in the gold price have anything at all to do with the timing of Chairman Bernanke’s contentious reconfirmation hearings?

“Nah, obviously totally coincidental.”

The 5: Also a huge coincidence that this blockbuster jobs report comes the day after the much-hyped White House “Jobs Summit.” There’s no real evidence to support any of these events are anything beyond happenstance, but if you’ve ever read John Williams’ primer on the BLS jobs report, you might get the impression the results are a bit… “flexible.”

Be well,

Ian Mathias

The 5 Min. Forecast

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