From Guru To Fallen Buffoon — Jeremy Grantham

Hardship and fear make people reveal their true self. Unfortunately for Grantham, it reveals his complete lack of understanding of the fundamentals and origins of the United States of America, his ignorance of economic forces, and his socialist penchant — with all the danger that this brings: love for taxation, big government, and so forth.

Here are some quotes from his July and August reports where he shares his position against capitalism and against free markets. I am gutted and amazed by such ignorance and — let's call a spade a spade — utter stupidity.

[...] Capitalism does not address these very long-term issues easily or well. It seems to me that capitalism’s effectiveness moves along the spectrum of time horizons, brilliant at the short end but lost, irrelevant, and even plain dangerous at the very long end.

[...] This is a severe, perhaps even fatal, flaw in traditional free-market capitalism, and there are others that relate to this general topic: capitalism has not easily handled the finiteness of our resources. This topic – deficiencies in capitalism – is a big one and I will try to do it justice next quarter.

It is a well known fact that corporations existence is to spend their cash in hiring employees they won't need, in order to have social justice. Right? WRONG!

Corporations are set up to make profit by selling products or services. If they do not want to invest their cash, it's their decision, their money, their private property. They have no purpose beside making money for their shareholders. If hiring helps them increase their profits, then, they will hire. If they do not see opportunities for higher profits by hiring more, they will not do so, understandably and obviously to anyone except to the socialists:

President Hoover bitterly railed at senior businessmen in 1930 and 1931 for sitting on their cash. President Obama would have felt sympathetic. Corporations today are doing very little hiring despite unusually high cash reserves. [...]

Justice — or more precisely, social justice! — is the typical goal of the socialists. Of course, this just a dream, an chimera, that cannot happen in the real world, but it won't prevent socialists to aim for it promote this beautiful, but in the end quite silly ideal. Let's also criticise those greedy bastards who dared to set up a company and employ people, giving them bread, butter, shelter by doing so. It's unacceptable. We should share those resources, and take away their money!

Ah, justice! There never was – and perhaps, with luck, never will be again – such a terrible comparison between the economic well-being of corporations and their officers and the economic ill-being of their ordinary employees.

David Rosenberg turns Bullish ?!

In April 2010, just before the biggest decline in the biggest bear market rally since the Great Depression, Jeremy Grantham, a very well respected portfolio manager, wrote in his quarterly letter that — in summary — no matter what, markets will keep on rising, and he had reverted his bearish stance to post this over bullish report, and showing that he is capitulating with the trend. I spotted this at that time as a great contrarian opportunity — and it turned out to be one.

Just a few days ago, a long term bear — probably the longest term bear ever, excluding Robert Prechter — turned his head upside down to become a bull. Here's another Bull, disguised in a Bear costume, pretending that there are fundamental and technical reasons for his bullish standpoint.

To be honest, I believe that he had to do this as his firm needs to make money, and that having a bear as a chief strategist is not very profitable indeed. But then one would have to question his integrity, and I would certainly not be that person.

The deflationalist has also given up on the US dollar, and joins the 99% person of the crowd who believes that this poorly managed, highly despised currency will collapse soon.

CNBC — If the bull market will end when the last grizzled bear comes out of his den and comes to the table, then hold onto your portfolio, because it may well be dinnertime.

David Rosenberg, the curmudgeonly senior strategist and economist at Gluskin Sheff in Toronto, told clients Wednesday in his daily newsletter that he’s finally given up his long-held position that the market is heading for a thud, if not an all-out crash.

Even as the major averages have risen 90 percent off their March 2009 lows, Rosenberg hasn’t been convinced, arguing that the economy is still too weak and investor sentiment way too giddy to justify such a relentless rally.

No more.

“This is not about throwing in the towel,” he writes, “it is an acknowledgement of what the market internals are flashing at the current time from a purely tactical and technical standpoint.”

For more than two years now Rosenberg has been advising clients not to trust the rally, defending bonds against “inflationistas” and warning that deflation remains the far greater danger. 

But he now marvels—somewhat incredulously, to be sure—at how investors are dispelling concerns over downward GDP revisions, soaring commodity prices, supply disruptions after the Japan disaster and looming European debt default risks.

“The (US dollar) is on a one-way ticket south and so far has been orderly—will that be sustained is anyone’s guess,” he writes. “For now it is being viewed as fodder for the global liquidity and risk-on trades.”
[...]
But mostly, he sees the market trending toward an “important technical signpost” which he says is a “Holy Grail” that entails “new highs led by higher volume.”
[...]
These moments when major market bears give it up are often the signs of a peak in sentiment, but anyone so far who has tried to step in front of this rally has gotten crushed.

“Market internals are too strong to ignore right now—NYSE advancers beat decliners by a 3-to-1 ratio (Tuesday); the Dow transports soared 1.9%; and the small caps beat their major benchmarks,” Rosenberg says. “My overall macro concerns have not gone away, but these market facts on the ground are tough to ignore.”

I would side with Marc Faber on this one:

The markets may be giddy about stocks hitting new highs, but contrarian investor Marc Faber is having nothing of this. He is concerned that stocks will fall sharply in May and that the recent breakout in stocks will prove to be trap for the bulls. The markets are due for a correction and the technicals point to a weak market. In particular, Faber points to the decline in new 52 week highs as evidence of an unhealthy internal market.

Thanks to my friend SS who reported this.

Thoughts on QE 2: The Fed is digging its own grave with a bulldozer [Long Post]

It's been about two weeks that Ben Bernanke has announced his latest mad experiment: the QE 2.
I would like to share my thoughts now that it's not such a hot potato anymore and that the consequences on the markets are more certain.

Here's the statement from the Fed, announcing QE2:

On November 3, 2010, the Federal Open Market Committee (FOMC) decided to expand the Federal Reserve’s holdings of securities in the System Open Market Account (SOMA) to promote a stronger pace of economic recovery and to help ensure that inflation, over time, is at levels consistent with its mandate. In particular, the FOMC directed the Open Market Trading Desk (the Desk) at the Federal Reserve Bank of New York to purchase an additional $600 billion of longer-term Treasury securities by the end of the second quarter of 2011.

The FOMC also directed the Desk to continue to reinvest principal payments from agency debt and agency mortgage-backed securities into longer-term Treasury securities. Based on current estimates, the Desk expects to reinvest $250 to $300 billion over the same period, though the realized amount of reinvestment will depend on the evolution of actual principal payments.

Taken together, the Desk anticipates conducting $850 to $900 billion of purchases of longer-term Treasury securities through the end of the second quarter. This would result in an average purchase pace of roughly $110 billion per month, representing about $75 billion per month associated with additional purchases and roughly $35 billion per month associated with reinvestment purchases.

1- What is QE 2?
So, in order to clarify a bit, the Fed is not going to be printing outright. They are printing the new dollar bills in order to exchange federal reserve notes against government bonds.

These two are very big different matters, as if you consider inflation in the Austrian sense of the term, it is the increase in the quantity of credit and money. Here, the Fed is exchanging new Federal Reserve Notes against existing Treasury Notes and Bills. I am not sure it's inflationary.

2- What are the effects on financial markets?
So far, since the 3rd of November announcement, markets have had an initial rally of 1-2 days, quickly reserved, and as of today:

1. Equities are lower,
2. Commodities, including Oil, Gold, Silver are lower,
3. The US dollar is 3% higher,
4. Even treasuries are lower!

3- How has Bernanke's decision been received?

• Dissensions are high, even inside the Fed, and more and more Federal Reserve Banks are opposing Ben Bernanke's decision. Like Richard Fisher and Thomas Hoenig.
• Paul Volcker is opposing QE2
• Alan Greenspan — not that his opinion matters — is opposing Ben Bernanke
• South Korea, China, Hong Kong, Brazil Complain about Bernanke's QE Policy
• Germany calls Fed's action "clueless.
• Economists and prominent asset managers are opposing Bernanke:
• Jeremy Grantham — who is a Keynesian! — wrote a piece called the Night of the Living Fed, and went on TV to show his opposition.
• Jim Rogers 

Nov. 5 (Bloomberg) -- [...] “Many countries are worried about the impact of the policy on their economies,” Vice Foreign Minister Cui Tiankai said at a press briefing in Beijing today. “It would be appropriate for someone to step forward and give us an explanation, otherwise international confidence in the recovery and growth of the global economy might be hurt.”
[...]
“Even some advanced economies are worried and concerned about that policy,” Cui said. “I remember that the finance minister of an advanced economy said that if you print too much money that is an indirect manipulation of the exchange rate.”
[...]
“The Fed owes us some explanation about their recent decision on monetary policy,” Cui said. “We hope that as the main reserve currency-issuing country, that country will adopt a responsible position on this matter.”

Nov. 5 (Bloomberg) -- “Dr. Bernanke unfortunately does not understand economics, he does not understand currencies, he does not understand finance,” Rogers, 68, said in a lecture at Oxford University’s Balliol College yesterday. “All he understands is printing money.”
[...]
“It didn’t work the first time, it’s not going to work the second time,” he said in an interview with Bloomberg News. “It’s adding up staggering amounts of debt, staggering amounts of debased currencies. It’s going to cause more distortions, and we’re going to have more currency turmoil.”

The U.S. and U.K. governments’ taxpayer-sponsored bailouts of troubled banks were “unbelievable economics” and “terrible morality,” he said.

4- Where from here?
Well, (un)fortunately for the hyperinflationists, everything is so far rolling out exactly like Robert Prechter predicted. The debate he had last week with Peter Schiff is a very good starting point for those who want to learn about his thesis.

His stance is that no matter how mad and out of control Bernanke is, people are going to oppose him and prevent him for doing much more.

And we are already seeing exactly this happen:

• Ron Paul Questions Fed Authority, Vows Another "Audit the Fed" Effort
• Ron Paul Is About to Totally Revolutionize the House Monetary Policy Panel
• The new Republican senate came with a balanced-budget constitution amendment plan — this was totally unimaginable just 3-6 months ago!
• Open Letter to Bernanke from 23 Economists Complaining About QE II; GOP Lawmakers Call for Abandoning $600 Billion Bond Purchase

And yesterday, we saw another unbelievable event: Republicans Say Fed's Dual Mandate Has Failed, Focus Should Be on Prices. Who would have predicted this would happen? Just a few of us. But so quickly? Not even in our wildest dreams!

Nov. 16 (Bloomberg) -- Republican lawmakers in the U.S. House and Senate said they want to compel the Federal Reserve to focus solely on controlling inflation, upending a congressional mandate that’s shaped monetary policy for more than 30 years.

U.S. Representative Mike Pence, chairman of the House Republican Conference, said he plans to introduce a bill today requiring the Fed to promote price stability while no longer seeking maximum employment. Senator Bob Corker, a member of the Senate Banking Committee, backed a single mandate for the Fed, saying the Fed’s dual roles are “confusing to the market.”

The central bank is currently required by a 1977 amendment to the Federal Reserve Act to promote stable prices and full employment. The Fed’s Nov. 3 decision to buy $600 billion of Treasuries in a bid to reduce unemployment has spawned critics, including officials in China, Germany, and Brazil, and U.S. economists such as John Taylor and Michael Boskin.

Corker, who met with Fed Chairman Ben Bernanke yesterday, said in an interview today that the Fed’s dual role “can create sort of a bipolar mentality,” and that his proposal would not prevent the Fed from addressing any threat of deflation or its program to buy Treasuries.

Congress should consider setting a target for inflation because the Fed’s actions can cause “a lot of confusion for all concerned,” said Corker, from Tennessee.

“The Fed’s dual mandate has failed,” Pence, of Indiana, said in a statement yesterday. He wants the proposed legislation to be considered in Congress’s current lame-duck session, said Matt Lloyd, the conference’s communications director.

Pence joined critics yesterday after an open letter was sent by former Republican government officials and economists, asking Bernanke to halt the expansion of monetary stimulus.

“It’s time for the Fed to be solely focused on price stability and not the recently announced QE2,” said the 51- year-old lawmaker. Pence said the Fed’s second round of quantitative easing will monetize the U.S. government’s debt and ignite inflation. [...]

So basically, not only was QE2 a lot smaller than what I was expecting coming from someone mad enough to be called Helicopter Ben, but now, the Fed May Hesitate on More Easing After Critics Question Employment Mandate.

We know that QE 2 will be failure, we know markets will correct sooner rather than later — if the process hasn't started yet — and it seems like Bernanke and the Fed might be close see their ends. That day would be a tremendous victory for sound money and the freedom that it brings.

Appendices:

Here are quotes from various reports showing that opposition against the Fed is mounting.

Here's the open letter to Ben Bernanke as published by the WSJ (you can also read this other report on the WSJ):

We believe the Federal Reserve’s large-scale asset purchase plan (so-called “quantitative easing”) should be reconsidered and discontinued. We do not believe such a plan is necessary or advisable under current circumstances. The planned asset purchases risk currency debasement and inflation, and we do not think they will achieve the Fed’s objective of promoting employment.

We subscribe to your statement in the Washington Post on November 4 that “the Federal Reserve cannot solve all the economy’s problems on its own.” In this case, we think improvements in tax, spending and regulatory policies must take precedence in a national growth program, not further monetary stimulus.

We disagree with the view that inflation needs to be pushed higher, and worry that another round of asset purchases, with interest rates still near zero over a year into the recovery, will distort financial markets and greatly complicate future Fed efforts to normalize monetary policy.

The Fed’s purchase program has also met broad opposition from other central banks and we share their concerns that quantitative easing by the Fed is neither warranted nor helpful in addressing either U.S. or global economic problems.

Insane Fed Should Beware Unquantifiable Outcomes: Mark Gilbert

Oct. 28 (Bloomberg) -- Albert Einstein defined insanity as doing the same thing repeatedly and expecting different outcomes. The crazy gang at the Federal Reserve should heed those words when debating how much more market manipulation to inflict on the world of fixed income.

The worrisome thing about so-called quantitative easing -- a concept still novel enough to mean whatever the Humpty-Dumptys in central banking want it to -- is that its consequences remain unquantifiable, and the perceived need for more central-bank purchases of securities should make investors uneasy.

Fed Chairman Ben Bernanke said in an Oct. 15 speech that it’s difficult to work out the “appropriate quantity and pace of purchases and to communicate this policy response to the public.” He also said that “nonconventional policies have costs and limitations that must be taken into account in judging whether and how aggressively they should be used.”
[...]
“Nobody understands QE,” says Fred Goodwin, a strategist at Nomura International in London. “We have no idea how inflationary it really is. A patient juiced up on QE wants to party and it does not matter what anyone says. Don’t worry about what central banks are worried about; worry about unintended consequences.”

‘Dangerous Gamble’

Fed skeptic Thomas Hoenig of the U.S. central bank’s Kansas City branch called it “a very dangerous gamble” in a speech this week. “We risk the next crisis four or five years from now.” Mohamed A. El-Erian, chief executive officer at Pacific Investment Management Co., said the bond-buying program “will have costs and unintended consequences.”
[...]

Fed Risks Its Credibility on a Bowlful of Mush: Caroline Baum

Nov. 1 (Bloomberg) -- [...] Either the Fed is operating under a misconception about how QE2 will reduce unemployment and raise inflation, or it has failed to communicate the transmission mechanism to the public. Neither is a plus.


About the best thing anyone can say about the well- advertised and anticipated QE2 is that it won’t do much good. The worst thing is that it will inflate asset prices, which we don’t call inflation.

Because Fed chief Ben Bernanke has been unwilling to admit the role low interest rates played in puffing up the housing bubble, he sees little risk from further easing, according to Stephen Stanley, chief economist at Pierpont Securities LLC in Stamford, Connecticut.

At the same time, the Fed’s output gap models, which measure the difference between actual and potential growth and were “violently wrong in 2003 and 2004,” reinforce the majority view that deflation is the real threat, Stanley says.

Then there’s the Fed’s stated tactic of raising inflation expectations to lower real interest rates, a flawed concept even though it has succeeded splendidly in the short term.

In the two months since Bernanke first hinted at QE2 in his Jackson Hole, Wyoming, speech, five-year inflation expectations, the Fed’s preferred measure extrapolated from the yield differential between nominal and inflation-indexed Treasuries, have risen from about 2 percent to 3 percent.

So taken is the Fed with the notion that higher inflation expectations are the route to salvation that it has commissioned research on the subject. Last month, three Fed Board economists published a paper claiming that with overnight rates near zero, an oil price shock would be a plus for growth.

The “burst of inflation” from an increase in oil prices stimulates interest-rate sensitive sectors of the economy, the authors claim. (Aren’t higher oil prices a relative price increase unless the Fed prevents other prices from falling?) “In fact, if the increase in oil prices is gradual, the persistent rise in inflation can cause a GDP expansion,” they write.


Where are the speculators when you need them?

Ten years ago I wrote a column titled, “Fed Chairman Ali Naimi Has a Nice Ring to It,” referring to Saudi Arabia’s oil minister. The piece debunked the idea that oil prices can do the central bank’s job.

Maybe I was wrong. If you believe the research, we should be rooting for one of those old-fashioned oil shocks, circa 1973 and 1979, to fix what ails the U.S. economy!

Raising inflation expectations to lower real long-term rates has two flaws. First, it assumes nominal rates don’t move. (The nominal rate consists of a real rate plus a premium for expected inflation.) Nominal rates could easily rise in sync with inflation expectations, leaving real rates unchanged.

[...]
The good news is he’s got plenty of fuel. The bad news: His only rations are gruel.

Voice of Keynesian Clowns: Jeremy Grantham

I have been following Jeremy Grantham for about two years, and unfortunately, I have moved from deep respect in Octobre 2008 to hilarious yet sad deception last quarter. Well today, he dug himself still lower...

I knew Keynes was his Hero, as keep on writing it, but I thought the speculator in Keynes was his hero, not the economic central planner and the inflationist... So, quite surprised I was I started reading his quarterly letter published today:

The worrying news is that most European countries, led by Germany (not surprisingly in this case), are coming on more like Hoover than Keynes. More surprisingly, Britain and half of the U.S. Congress are acting sympathetically to that trend, which is to emphasize government debt reduction over economic stimulus. Yet, after a relatively strong initial recovery, the growth rates of most developed economies are already slowing, despite the immense previous stimulus. You don’t have to be a passionate follower of Keynes to realize that to rapidly reduce deficits at this point is at least to flirt with a severe economic decline. We can all agree that we had a financial crisis, a drop in asset values, and an economic decline, all three of which were global (although centered in the developed countries), and all three of which were the worst since the Great Depression. All three were destined to head a whole lot deeper into the pit without the greatest governmental help in history, also global. Yet despite this help, the economic recovery was merely adequate, unlike the stock market recovery, which was sensational and, as often happens, disproportionate to the fundamental recovery. But in the last three months, more or less universally in the developed world, there has been a disturbing slackening in the rate of economic recovery. (Perhaps Canada and Australia on their own look okay, propped up by raw materials and, so far, un-popped housing bubbles.)

First of all, Hoover was very much an interventionist and was only surpassed by FDR before our current ear. I would suggest he reads some history book, and specially Rothbard's America's Great Depression — the whole book is available online, and you can download the PDF for offline reading.

Almost as sad is his prediction stock returns for the next 7 years. See for yourself:

Annualized 2.9% over 7 years for US Large Caps? Annualized 7.3% of US High Quality? Aren't there the historical average returns?

I admit that from now on, I won't waste any more time reading his newsletters :-(

When even the bears get bullish

While optimism and bullishness get even more extreme than it was before... Jeremy Grantham publishes his latest quarterly letter, which under the cover of a rant against the Fed, Greenspan and Bernanke, shows extreme bullishness while claiming bearishness...

The Call/Put ratio is declining to the lowest levels of several years, and is now more than 2 standard deviations from its mean (read: quite extreme divergence).

The letter has been covered by several other bloggers, which I will ask you to refer to:

• Babak Trader's Narrative on Jeremy Grantham's letter
• ZeroHedge on Jeremy Grantham

 I'll cover this last bit that seems to have gone completely unnoticed:

And, briefly, let me give you my reasons why this rally running through next fall is not at all out of the question. In October we enter the third year of the Presidential Cycle, the year every Fed except, of course, Volcker’s, helped the incumbent administrations get re-elected. Since 1932, there has never been a serious decline in Year 3. Never! Even the unexpected Korean War caused only a 2% decline. Even when Greenspan ran amok and over-stimulated the first two years instead of cooling the system down – which he did twice, having not suffered enough the first time – he stimulated Year 3 as well. The result was that we entered Year 3 in October 1998 and Year 3 in October 2006 with horribly overpriced markets, and still the market went up, and by a lot. The overpricing in October 1998, by the way, was so bad that our 10-year forecast was down to -1.1%; in October 2006, by a nerve- wracking coincidence, our 7-year forecast was -1.0%. If the market is 1320 by this coming October (up 10% from today), our 7-year forecast will again be -1.0%. (Please hum the Jaws theme here.) Do not think for a second that a very stimulated market will go down in Year 3 just because it’s overpriced ... even badly overpriced. So far it has had 19 tries to go down since 1932 and has never pulled it off. We can, of course, hope that this time will be exceptional. Even in the best of times, though, overpricing is only a mild downward pull. Its virtue is that it never quits. Eventually it wears the market back down to fair value.

The general conclusion is that the line of least resistance is a market move in the next 18 months or so back to the old highs, say, 1500 to 1600 on the S&P, accompanied by an equivalent gain in most risk measures, followed once again by a very dangerous break.

Conclusion for the preceding quote: does anybody believe anymore that the market can go down at this point? Certainly not our "bearish" friend, Jeremy Grantham.

Even worse: He give probabilities to a few of economic outcomes (see capture below):

• Strong economy recovery: 30%
• No real market shocks etc. etc. until Oct 2011: 49%
• Markets fall: 21%

WOW! He gives 50% more likelihood to a strong recovery than for a market fall. I'm guessing his Keynesian backgrounds are showing up here...

All in all, I still think (and hope for) a top at these levels. Fingers crossed, seems like we're close...

Voice of Wisdom: Jeremy Grantham - pt4: the finance industry is a burden to society

Well, you might know that I think Jeremy Grantham is a great mind, and that I very often agree with him.
He is among the handful people following the Keynesian school of thought that manage to make sense, and still see some of the problems, through the veil of non-sense that this school represents (others are Roubini, maybe Hussman, etc.). They all have a tendency to see accurately the problem, but completely miss the solution.

So there are lots of things to disagree with in his latest report. I am not going to focus on those, but rather just mention a point he makes in the appendix of his quarterly report:

We squared off using the Oxford-style debate rules: 5-minute alternating presentations, 2 minutes each to rebut, 20-minutes of give and take with the audience, and 1 minute each to summarize. The audience voted at the beginning and again at the end of the debate. The opening poll from the 200 attendees (each of whom had forked over $1,500 to attend a special 2-day The Economist Magazine conference in November graced by Summers, Geithner, and other illuminati) was, not surprisingly, in favor of innovation to the tune of 80% to 20%.
[...]
Let’s start with the Investment Industry component. It is so obvious in this business that it’s a zero sum game. We collectively add nothing but costs. We produce no widgets; we merely shuffle the existing value of all stocks and all bonds in a cosmic poker game. At the end of each year, the investment community is behind the markets in total by about 1% costs and individuals by 2%.
[...]
As total fees in the past grew by 0.5%, we agents basically reached into the clients’ balance sheets, snatched the 0.5%, and turned it into income and GDP. Magic! But in doing so, we lowered the savings and investment rate by 0.5%. So, we got a short-term GDP kick at the expense of lower long-term growth.
[...]
From society’s point of view, this additional 4.5% burden works like looting or an earthquake. Both increase short term GDP through replacement effect, but chew up capital.
All of the extra financial workers might as well be retirees or children, in that they are supported by the rest of the workforce, but they are much, much more expensive.
[...]
I would have mentioned Paul Volcker’s opinion that the only financial innovation useful to the country in the last 20 years is the ATM, but at the time of this debate he hadn’t made that compelling point.

Interesting, PIMCO's Bill Gross says, in February Investment Outlook:

Investment management is a privileged profession — not just for being paid X-times what you're really worth to society, but from the standpoint of longevity. If you're good, and you at least give the impression that you still have most of your faculties, you can literally hang around forever.

Previous posts about Jeremy Grantham are available here.

Voice of Wisdom: Jeremy Grantham - pt3

Precisely 3 months ago, I made the second post about Jeremy Grantham and I think we'll make it a quarterly post, after each of this quarterly investment outlook letter.

Note: Jeremy Grantham is one of the very few Keynesians who can still think straight in many areas (along with Roubini and Stiglitz when it comes to spotting the problems). He even is against bailouts and stimulus packages to the extent where one might ask : why is Keynes his hero?

Here are some more words of wisdom from his Q3 newsletter:

Bernanke, the most passionate cheerleader of Greenspan’s follies, is picked as his replacement, partly, it seems, for his belief that U.S. house prices would never decline and that at their peak in late 2005 they largely just refl ected the unusual
strength of the U.S. economy. As well as missing on his very own this 3-sigma (100-year) event in housing, he was completely clueless as to the potential disastrous interactions among lower house prices, new opaque fi nancial instruments, heroically increased mortgages, lower lending standards, and internationally networked distribution. For these accumulated benefi ts to society, he was reappointed!

Larry Summers, with a Financial Times bully pulpit, had done little bullying and blown no warning whistles of impending doom back in 2006 and 2007. And, famously, in earlier years as Treasury Secretary he had encouraged (I hope inadvertently) wild and reckless fi nancial behavior by helping to beat back attempts to regulate some of the new and most dangerous instruments. Timothy Geithner, in turn, sat in the very engine room of the USS Disaster and helped steer her onto the rocks.
[...]
The more misguided or reckless the borrowers, the more determined the efforts to help them out, it appears, although it must be admitted these efforts had limited effect. In comparison, those who showed restraint and either under housed themselves or rented received not even a hint of help. Quite the reverse: the money the more prudent potential buyers held back from housing received an artificially low rate. In effect, the prudent are subsidizing the very same banks that insisted on dancing off the cliff [...]
we have decided to encourage even more home building by giving new house buyers $8,000 each. This cash comes partly from the pockets of prudent renters once again.
[...]
To celebrate the overwhelming consensus among economists that U.S. individuals have been dangerously overconsuming for the last 15 years, we have decided to encourage consumption and penalize savers.
[...]
Price/earnings ratios, adjusted for even normal margins, are also significantly above fair value after the rally. Fair value on the S&P is now about 860.
[...]
I believe we are well on the way to my “emerging emergingbubble” described 18 months ago (1Q 2008 Quarterly Letter). I would recommend to institutional investors, including my colleagues, to give emerging equities the benefi t of value doubts when you can.
[...]
I have some modest hopes for a collective sensible resistance to the current Fed plot to have us all borrow and speculate again. I would still guess (a well informed
guess, I hope) that before next year is out, the market will drop painfully from current levels. “Painfully” is arbitrarily deemed by me to start at -15%. My guess,
though, is that the U.S. market will drop below fair value, which is a 22% decline (from the S&P 500 level of 1098 on October 19).

And much much more. Please have a read at the full letter, it's definitely worth it.

Voice of Wisdom: Jeremy Grantham - pt2 [Updated]

Precisely 3 months ago, I made the first post about Jeremy Grantham and his quarterly letter and how crystal clear and realistic his views about the world were. So here we are again, his Q4 letter is again full of insights, with which I mostly agree, and even worse, I feel like he sometimes is writing exactly what I wish I had the time and the patience and the writing skills to write myself :-)

Two things I highly disagree with him, before I forget: Keynes is his hero (!!!) and he believes that the market has reached fair value.

[NOTE: I do not have time to add comments now, but I will update this post with additional info]

Here what some quotes [emphasis mine]:

In their desire for mathematical order and elegant models, the economic establishment played down the inconveniently large role of bad behavior, career risk management, and flat-out bursts of irrationality. The dominant economic theorists so valued orderliness and rationality that they actually grew to believe it, and this false conviction became increasingly dangerous. It was why Greenspan and Bernanke were not sure that bubbles – outbursts of serious irrationality – could even exist. It was why Bernanke, who had studied the bubble of 1929, could still not see it as proof of irrationality and could still view the Depression (à la Milton Friedman) as a mere consequence of incredibly bad, easily avoidable policy measures. Of more recent importance, it was why Bernanke could dismiss a dangerous 100-year bubble in U.S. housing as being nonexistent.

Indeed, I would recommend reading Bill Fleckenstein's book: Greenspan's Bubble - the Age of Ignorance at the Fed

[...]
But after exulting in Obama’s election, I couldn't even reach his inauguration before finding fault![...] But in the critical financial arena, he appears to have brought in Rubinesque retreads, “yes men,” or both, none of whom appeared to have seen the most obvious developing bubbles in the history of finance.
One can only admire Bob Rubin’s ability to retain influence and have his protégés in powerful positions. Rubin is the guy who was last seen exhorting Citibank to take more leverage and keep swinging. No, come to think of it, he was last seen paying a visit to Hank Paulson, his relatively recent underling at Goldman Sachs. He pleaded with his old chum, with brilliant success, for an unprecedented bailout. He was part of the establishment that failed to express early, loud concerns over slipping financial standards, and in fact helped to create an environment where prudence was a career risk and CEOs felt obliged to keep dancing.

His man Summers has proven he has some bite. Because he has written often for the Financial Times we at least know his public stance on matters financial. Well, let’s put it this way: he runs no risk of being on any of the many lists of people who gave clear warnings of potential financial disaster. And dozens did. Summers was emphatically not a whistleblower. He did not rail against falling financial standards. What he did, with his allies Greenspan and Rubin, was beat back a heroic attempt in late 1998 by Brooksley Born, then boss of the CFTC in Chicago, to supervise OTC derivatives. They held her off, presumably in the Greenspanian spirit of “the less regulation, the better.” Obama appointed Gary Gensler to lead the CFTC. Gensler has a good reputation, but was hired into Treasury by … you’ve guessed it … Robert Rubin.

And as for Tim Geithner! The FOMC minutes are available, so at least we know what he added to Greenspan’s and Bernanke’s meetings. Over the Greenspan years, there were a few cautionary words from other members – a very, very few from a rather spineless group – and we know from the records how they were greeted. A typically precise response from Greenspan was: “So, this seems like a good time to break for coffee,” or words to that effect. And we can study Geithner’s objections to the Fed’s long journey down the primrose path, but our study period will not be a long one, for he questioned nothing! He was, if anything, a cheerleader, and wrote in support of the new era of “Great Moderation.” He, however, was not picked by Rubin. No, he was picked by Summers, who was picked by Rubin. These guys are very, very loyal!

Mary Schapiro, appointed to head the SEC, has been greeted with great enthusiasm by the financial industry precisely because she has been a great supporter of the industry’s financial well-being during her career, which has included positions at the SEC and the CFTC. She is seen as one who poses no threat by way of introducing nasty, inconvenient new regulations. Where is Brooksley Born when we need her? (In the interest of space, this anti-Schapiro section is brief. To help out, on January 15, there was a detailed criticism of her for being a softy in The Wall Street Journal, of all newspapers. Bush would have been proud to hire her!)

What a missed opportunity this all is. Obama was given a mandate that could have included some serious bottom kicking. We could have quickly taken quite a few steps down the long road leading to a credible financial system deserving of respect. The time to do that was now.

Obviously, Obama is the same as his predecessors, the likes of Bush, Clinton, etc. who are just there to perpetrate the continuity of the current masquerade and rob the people blind. Those who believe in Obama will get a major disappointment...

This blog deals with these issues on a daily basis, but here are just a few related posts:

• The Conmen take over the US
• The Conmen take over the US - part 2
• Obama will not prosecute Bush and Cheney
• The SEC is a big failure, admits Chairman Cox
• The Government Bodies have no clue about what they are doing
  

[...]
So it would be very encouraging if there were someone included in Obama's appointments who had actually blown the whistle on the spiraling Ponzi scheme that our leveraged financial system had become (which is why the Madoff fiasco is such a fitting capstone to our troubles). If only there were someone with real toughness who could do unpopular things. Someone, say, like Volcker. Oh, wait a
minute. Didn't he get a job? Or was that only a game to get obstreperous characters like me on board with the program? Unfortunately, I have a sneaking misgiving that Volcker was indeed window dressing for the Presidential campaign. Dollars to donuts he has not been pestered around the clock for advice so far. And I'll tell you one thing. You don't have to know him well to know that he'll resign within a year if they don't get serious.
[...]

I am among the people who believe that Volcker will resign in a matter of months. Interestingly, I have also heard the same coming from Peter Schiff. I believe realists are getting this one right as well : Volcker has a great reputation and will not allow it to be tainted by the current establishment.

Most of our society got richer in the last 20 years, but there is not a hint of research that suggests we got happier, and plenty that suggests the reverse. In the process, we took some giant steps toward ruining the planet and had to live with the sight of many wealthy firms funding expensive PR programs that attempted to obscure the science and suggest that coal is clean and all is well.
[...]

Indeed, it's been 20 years that no real progress has been made on cleaner and more efficient energy sources as the big oil corporation, pretending to invest in these technologies are actually doing their best to divert investments from them (and themselves do not invest at all, prefering to pay off huge dividends and bonuses instead) or worse, destroying any new company that could emerge with a great solution (I don't have proof of this). It's also interesting to read John Perkin's Confessions of an Economic Hitman and its sequel The Secret Story of the American Empire.

First, Warren Buffett. At about 950 on the S&P on October 16, he announced that he was a personal buyer of U.S. stocks because they were cheap and their prices reflected widespread fear. This is not typical for him, but he certainly did it in 1974. When he said it back then, every stock in our portfolio at Batterymarch yielded almost 10%! The portfolio P/E was below 7.5x. Even with hindsight, if you value the market in 1974 using our current methodology, it was very much cheaper than it is today at 950, which is what we calculate as almost precisely fair value.

His recent announcement made the market seem so much more exciting than boring old fair value. So what are the possibilities? Was he performing a civic duty? Certainly, animal spirits are a critical component of any recovery, so encouragement to take risk from an authoritative source makes perfect sense. Does he believe that 1974- type cheapness can never return, or is very unlikely in this particular case? If that were the argument, we would disagree; we suspect that cheaper prices are not just possible but probable, although admittedly far from certain. Has he perhaps a tactical market timing model that produces his obvious excitement, despite these ordinary values? Most unlikely, given his style. Or are our numbers wrong? Perish the thought! In any case, it is all an interesting conundrum.

We have been several times over Buffett's course of action here:

• Warren Buffett's unhappy new year
  
• Loosing my Integrity - Warren Buffett's next book?
  

Voice of Wisdom: Jeremy Grantham

I have been reading Jeremy Grantham's letters for quite some time, and I share almost all his opinions. I found in his last letter many ideas and opinions that I have been having for some time now, but which I never had the time to write down. So I am really happy that he did! Here are some quotes that are more related to our world than to markets:

[...]
1. We had an extended period of excess increase in money supply, loan growth, leverage, and below normal interest rates.
2. This combined with a remarkably lucky global economic environment that we described as “near perfect” to produce a bubble in asset classes, as such a combination has done without exception according to our research. Since all these factors were global, the combination produced what we have called “the fi rst truly global bubble” in all assets everywhere with only a few modest exceptions.
3. While these asset bubbles were infl ating, facilitated by easy money, the authorities – the Fed, the SEC, the Treasury, and Congress – rather than tightening existing regulations, partially ismantled them.
[...]
4. The combination of favorable conditions and irrationally exuberant encouragement from the
authorities produced an even more poisonous bubble – that in risk-taking itself. Everybody, and I mean everybody, got the point that risk-taking was asymmetrical and reached to take more risk. The asymmetry here was that if things worked out badly they would help you out (this sounds very familiar!), but if all went well you were on your own, poor thing. Ah, the joys of pure capitalism!
[...]

We have had a bloated financial industry feeding off the real world and a breach of the social contract with the increasing maldistribution of income (encouraged by tax changes!) in favor of the very rich at the expense of ordinary people. We also had unnecessary fl aunting of this new great wealth. To cap it off, we had blinkered, narrow-minded leadership by the government and financial corporations. Well, much of this is ending. Some undesirable elements will disappear for a long time and some will just be moderated, but it is truly the end of an era and a rather disgusting one in my opinion[...]

We have collectively had a touching faith that capitalism – just because it’s the only effective driving force behind economic growth – is basically fl awless, and any controls are bound to be counter-productive. Pure Ayn Rand capitalism obviously cannot deal with social issues of the tragedy of the commons variety, such as climate change. It cannot turn corruptible and greedy types into the reasonable and honest types that our readers represent. It cannot begin to address social justice. [...]

Still at the meta level, I would like to bring up the hope that as a result of our current misfortunes we will re-examine how we pick our leaders. It would seem for starters that a lack of prejudicial bias would be helpful. If you’re looking for an open mind, why would you pick Robert Rubin or Hank Paulson for a job at Treasury that might, just might, involve decisions on the life and death of their beloved Goldman Sachs? And in the case of Paulson, why pick one of the fi ve leaders of fi nancial fi rms who lobbied hard at the SEC against increased reserves for investment banks? Why would you pick an Ayn Rand extremist like Alan Greenspan to be the Fed Boss when he openly deplored increased regulation in almost any form and thought untrammeled capitalism was the bee’s knees? Wouldn’t an open mind be better? Or Ben B, whose refl ex is so
clearly to believe in market effi ciency? He believes it so profoundly that he prejudged important data such as the very dangerous housing bubble of the last few years. He seemed to believe that since no such extreme ineffi ciency should exist, then it did not exist.[...]

And as for Alan! He had a proven record. It was proven for years that he was a very mediocre, lightweight commercial economist. He sat on a few politically connected committees, met the right people a lot, and, hey presto, had the second most important job in the land. Lower down on the pecking order, I think we have learned not to value CEOs so highly. We have seen their limitations when under novel stresses, and we have examined how their reward system was out of kilter with the ordinariness of their talents. The boss of Lehman did an honorable and long service in my opinion, and I have no doubt he tried hard. But frankly, Lehman even in its heyday was a B player and, in its last few months, a D player. It is probably unfair to weigh too heavily his lack of skill down the home stretch and the pain he infl icted on many by holding out too long. He was obviously very unlucky to be picked out as a sacrifi cial lamb. But even before the unraveling, did he really deserve to have accumulated a $650 million holding in Lehman – all wealth that would otherwise have accrued to stockholders – in addition to immense annual rewards for basically doing an average job?[...]

The research science world is no doubt sighing with relief at their silver lining: the prospect of once again recruiting some of the best PhDs who had been lining up to work for Goldman or a hedge fund (and even, I must admit, a few for GMO). There they designed the cleverly epackaged mortgage paper so admired by Greenspan, or developed quant equity models and “stat arb.” Now they will have to waste their time once again designing nuclear facilities and second generation biomass projects. Oh well. [...]

The fl ood of money also allowed for over-funding of fi rst-rate hedge funds and the start-up of
thousands of second-rate funds. Real investment talent has always been scarce, and does not jump out of the ground just because there’s a massive demand. Nuclear physicists do not immediately become investment talents even with IQs of 150. The hedge fund industry is just an extension of our larger zero sum game. It adds collectively no value, it just reshuffl es the existing pool of wealth minus the higher fees. Last year, in its prime, it offered mainly in place of real value added, or alpha, a simulated alpha that was dependent on rising asset prices, falling interest rates, or easy credit. All three in many cases.