The System Goes Blank

March 26, 2013

  • “Blame China” is good business, continued: profiting from the Pentagon’s counterfeit parts scandal
  • The eurocrat you never heard of, and the truth he didn’t mean to tell
  • Why Cyprus reinforces Frank Holmes’ confidence in gold… with a chart to match
  • “The price has to go up”: Rick Rule makes his own case for platinum
  • Reader suggestions for our 3-D printer project… China’s latest currency gambit… and more!

  Imagine for a moment: You’re the pilot of a Navy helicopter. You’re on the hunt for an enemy submarine. It’s dark out. You’re depending on the copter’s night-vision system.

And suddenly, the system goes blank.

You’re the victim of counterfeit parts that originated in China.

Fortunately, this is a hypothetical scenario. But fake parts from China did end up in the Navy’s SH-60B helicopter. And they had the capacity to trash the night-vision system.

  Nor is the SH-60B an isolated incident. A Senate report issued nine months ago found much more…

  • Counterfeit parts, also from China, ended up in critical gauges and dials of C-130 and C-27 cargo planes
  • Used parts made to look new ended up in the P-8A — a Navy version of the Boeing 737 used for anti-submarine warfare. Once again, the parts were traced to China.

The Senate investigation uncovered 1,800 cases… involving more than 1 million suspected counterfeit parts that ended up in U.S. military aircraft.

Hearings were held. Outrage was expressed. Senators huffed and puffed.

“Our report outlines how this flood of counterfeit parts, overwhelmingly from China, threatens national security,” spewed Sen. Carl Levin, chairman of the Armed Services Committee.

“We can’t tolerate the risk of a ballistic missile interceptor failing to hit its target, a helicopter pilot unable to fire his missiles or any other mission failure because of a counterfeit part,” spat John McCain (R-Ariz.).

100  “The root cause of the problem is not China, but rather the U.S.,” counters a report from the University of Maryland’s Center for Advanced Life Cycle Engineering.

CALCE, as it’s known, is frequently asked to investigate counterfeit electronics.

“The responsibility for counterfeiting,” the report reads, “most often lies with unauthorized U.S. suppliers (distributors and other midtier suppliers), as well as the prime contractors who fail to properly vet their suppliers and ascertain the sources of the parts that they buy.

“These unscrupulous U.S. companies often commission the counterfeiting of parts from foreign suppliers in Vietnam, the Philippines, Thailand and China. Add to this mix the fact that the U.S. offshores its scrapped electronics to Chinese parts reclamation mills and you have a supply source of obsolete electronics components coveted by U.S. military suppliers.”

Amazingly, these facts are not lost on members of Congress. So when they drew up the current defense budget, they imposed new requirements on contractors aimed at keeping bogus parts out of the supply chain.

Chief among those requirements: Contractors’ computer chips must employ anti-counterfeiting methods that meet Pentagon standards. The standards are tight enough that only one method makes the cut. As we noted yesterday, the company that developed the method has a mere 26 employees right now.

That’s a lot of business to be funneled through one tiny company; the Pentagon’s chip purchases make up more than 1% of a $300 billion annual market.

“Through its words and deeds,” says our Patrick Cox, “the Pentagon is unequivocally promoting — and endorsing — what could easily prove to be the single most profitable investment opportunity of the year and quite possibly the next dozen years.”

Nor are the profit possibilities limited to the military sphere… as Patrick shows you right here.

  Stocks are recovering most of yesterday’s losses, and then some. The Dow is at 14,537, and the S&P is on the cusp of 1,560.

Among the numbers in traders’ sights today…

  • Case-Shiller home price index: up 1% month over month, 8.1% year over year. Phoenix leads the way, with prices recovering 23.2% in the last 12 months
  • New home sales: down 4.6% in February, according to the National Association of Realtors. But the year-over-year figure is up 12.3%
  • Durable goods: up 5.7% in February, according to the Census Bureau. Looks nice, but the number is skewed by civilian aircraft — a volatile figure up 100%.

  “Investors blissfully ignore the fallout from the Cyprus bank deposit grab,” says our macro strategist Dan Amoss.

The grab is a done deal, but terms are still being worked out. Deposits of more than 100,000 euros will get sheared by 25%. Or maybe it’s 40%. Banks that were supposed to reopen today won’t until (turning the Magic 8 Ball) Thursday. And when they do, limits on transfers and withdrawals — i.e., capital controls — will be in effect.

The whole affair has a make-it-up-as-they-go-along quality reminiscent of Treasury Secretary Hank Paulson in August and September 2008.

His bazooka turned out to be a popgun

  “Cyprus fallout came just hours after the final decision,” Dan writes, “in the form of an interview Dutch Finance Minister Jeroen Dijsselbloem gave to Reuters.

“Dijsselbloem, head of the Eurogroup of eurozone finance ministers, let slip an inconvenient truth: Endless bank bailouts are politically impossible.

“Depositors, bondholders and bank shareholders in Europe should pay close attention to the following statement from Dijsselbloem: ‘If there is a risk in a bank, our first question should be “OK, what are you in the bank going to do about that? What can you do to recapitalize yourself?” If the bank can’t do it, then we’ll talk to the shareholders and the bondholders, we’ll ask them to contribute in recapitalizing the bank, and if necessary the uninsured deposit holders.’

“In just a few sentences, Dijsselbloem may have undone all the eurozone hope Mario Draghi sparked with his ‘believe me’ comments from last summer.”

  “I believe poorly thought-out government policies hurt the formation of capital and destroy people’s trust in paper money,” writes U.S. Global Investors chief and Vancouver favorite Frank Holmes in today’s Daily Reckoning.

“Leaders may have good intentions, but some of their actions show disrespect for private property and individualism.”

  “This only re-emphasizes gold as an important asset class,” Frank adds.

“It may be apt timing for investors to become reacquainted with gold, as our oscillator chart shows that the yellow metal appears to be oversold. On a year-over-year basis, gold has fallen more than two standard deviations, an event that has rarely occurred over the past 10 years. As I’ve indicated before, following these extreme lows, gold has historically rallied.

“It’s only an event like Cyprus,” Frank concludes, “to prompt you to make sure your portfolio has a modest weighting of 5-10% in gold and gold stocks.”

  In the meantime, gold has slipped below $1,600 again. At last check, the bid was $1,598.

Silver’s down to $28.75. Platinum is the big loser of the day, down $18, to $1,563.

  “The price has to go up, and can go up,” says another Vancouver favorite, Rick Rule, about the platinum group metals.

We already know Byron King is keen on the PGMs. So is tech-metals guru Jack Lifton. As for Rick, our Chris Mayer recently caught up with him. “I’ve learned when Rick gets hot on an idea, it is worth listening to him. Last time I heard him this passionate about an idea was in 2010, and the subject was uranium.” [Readers of Mayer’s Special Situations subsequently bagged 70% on a uranium miner in about a year’s time.]

“What we discovered in about four weeks’ work,” said Rick, “is that the platinum and palladium mining industry as a whole does not earn its cost of capital. What that means is that either the prices of platinum and palladium go up or there is less and less of it going forward.”

About 90% of world supply comes from three countries… and supply is constrained in all of them.

  • South Africa: Production is down 19% in six years. And labor pressures are intense. “Workers’ wages have to go up,” says Rick. “But because the industry can’t earn its cost of capital, wages can’t go up”
  • Zimbabwe: “Zimbabwe had a viable platinum and palladium industry 10 years ago. Robert Mugabe took care of that”
  • Russia: “The ore bodies of Norilsk, which are the biggest PGM ore bodies in the world, are 80 years old. They are long in the tooth, started by Stalin. And as you get deeper and deeper, the concentration of palladium declines.”

Demand will remain high as long as people in developed countries appreciate good air quality made possible by catalytic converters in cars and trucks. “Unless the Western world goes off an economic cliff and vehicle sales get cut in half,” Chris sums up Rick’s position, “it is hard to imagine anything less than a 50-100% increase in price.”

  “See if you can make a copy of an automobile or house or office key and see if it will actually work,” writes a reader with the first of many suggestions about how we can use the snazzy new 3-D printer we’ve installed at Agora Financial HQ.

“I suggest 3-D copies of the Mona Lisa and other works of art,” says another. “Now, that would be cool!”

“A 30-round magazine,” says a third, who hasn’t forgotten about the Wiki Weapon project.

“It should be great for forensic work,” says a fourth. “Use it to duplicate fired bullets.”

“Can you make things using it with graphene?” adds a fifth. “The combo could be life-altering!”

The 5: Hmmm… Not sure if there are enough colors to make that work. It’s still early-stage tech…

  “The fate of the U.S. dollar,” writes a reader, shifting gears to Byron King’s Dragon’s Gold thesis, “is not dependent on what our government does. Rather, our fate lies in the hands of the Chinese.

“No other government has the ability or the will to depose the U.S. dollar as the world’s reserve currency. Only China can do that. First, China must complete its accumulation of gold by reaching a (generally agreed on) target of 10,000 tons of gold. Then they would be in a position to back their dollar (the renminbi) with gold. Next, they get the renminbi included as part of an international basket of currencies to replace the U.S. dollar for all international trade. Lastly, they can begin the slow process of increasing the percentage of renminbi in relation to the U.S. dollar in the currency basket.

“This step-by-step process avoids panic in the gold markets from upsetting their long-range plans. While it takes longer, the Chinese are aware they are taking on the monumental task of knocking the current king of the mountain off his lofty perch. During this entire process, the U.S. can do absolutely nothing but watch.

“Of course, we could reverse course, pay off our debts, balance our budget, back our dollar with gold and declare me King of the Universe. I consider each of these events to have the same probability of happening — fat chance.

“China has already enlisted several allies into barter or non-U.S.-dollar cash trades for oil and other commodities. It only remains for them to carry out the final stages of their plan.”

The 5: Only today comes word that the BRICS nations, led by China, are trying to come up with their own version of the World Bank and International Monetary Fund. Byron’s forecast is unfolding at breakneck speed.

Best regards,

Dave Gonigam
The 5 Min. Forecast

P.S. PRO-level readers can read on for an update on last week’s idea to seize the advantage from the Cyprus crisis. If you don’t have access to The 5 Min. Forecast PRO’s daily actionable guidance, you don’t know what you’re missing.

rspertzel

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