Financial Weapons of Mass Destruction

Early last week, we witnessed a market exhaustion, a big sell-off near the end of a major market correction. Since it was perceived as a crash and occurred in tandem with the downfall of major American financial institutions, the Fed has yet again flexed its muscle. After all, the US markets could have fallen a lot harder. In fact, the US has done very well this year compared to other major world indices:

- As China saw a slowdown in economic growth this year from 11% in 2006 to 8 % this year, the Shanghai Composite Index has fallen big time by a whopping 65% in just 11 months. Could you imagine the severity of the effects of a 65% decline on the Dow or Nasdaq? Moreover, could you imagine the measures that Congress and the Fed would have taken? They would be in pure panic mode. After the initial fallout of financial firm Bear Stearns last October, our markets have corrected only 25% in the same period of time. Yet, after the 65% correction, the Bank of China was much, much slower to intervene, leading us to wonder which one is truly the free market economy.

- On Tuesday, September 16, Moscow’s primary stock exchange, the MICEX fell by an astounding 17.5% in one day compared to the Dow’s mere 8% fall in 2 days.

As we’ve seen an economic slowdown, nothing has benefited more than the US dollar:

- As the Dow declined this summer and economic growth has slowed to near par, the dollar has rebounded from trading at $ 1.60 per euro to $ 1.40. The dollar versus the British Pound has improved from $ 2.02 per pound last year to about $ 1.81.

- Since mid July, oil prices have fallen from $ 145 to under $ 100, in addition to other commodities. Gas prices have fallen from a $ 4.50/gallon national average to under $ 3.50 in just a few months.

Market corrections should be seen as an opportunity whereas your currency buys more. If you took advantage of our recent correction and were following market cycles, you would have benefited tremendously in the last 3 trading days whereas the values of gold, silver, other commodities, and bank stocks soared.

Again and again, we have maintained that the banks are responsible for their own failures. Contrary to what John McCain, Barack Obama, and everyone on CNN, CNBC, etc. say have caused it, short sellers are not to blame. Perhaps smart money has finally figured out that these companies are operating on BS figures. Ellen Hodgson Brown attributes these write-downs to the troubled derivatives markets — the world’s largest financial markets. Per the Bank of International Settlements, the derivatives market was previously worth over $ 1 quadrillion — more than the value of all world economies combined. Derivatives are simply bets on investment estimates, not investments themselves. In 2003, Warren Buffet called them, “financial weapons of mass destruction” because they “generate reported earnings that are often wildly overstated and based on estimates whose inaccuracy may not be exposed for many years.”

Thus, Brown contends that the real reason for the injection of billions of dollars to help Freddie, Fannie, Lehman, and AIG was actually an effort to not only save the financial institutions, but the entire derivatives market from default.

Remember That Bank Run? Here It Is!

Originally posted on September 17, 2008 at www.argmaur.com

On Comedy Central’s the Daily Show, Jon Stewart said, “Remember all that money we’ve been giving to the banks all these years? Well they don’t have it.” It’s funny but true.

In a few previous commentaries we’ve been saying that the banks haven’t been giving good advice regarding precious metals investments. Now, it’s clear that they haven’t been making good investment decisions themselves. Bank of America, where most Americans keep their money not only has had over $ 50 B in write-downs over the past year, it has agreed to buy Merrill Lynch for yet another $ 50 B.

The printing presses are on full speed as cash is being injected into our financial system in order to save these failing banks. Within the past 2 days the following has occurred:

- Following a 48 B euro ($ 64 B) injection in August, the European Central Bank injected another $ 70 B euros ($ 100 B) today after Lehman’s collapse.

- The Federal Reserve injected nearly $ 70 B, the Bank of England added another 5 B pounds ($ 9 b), and the Bank of Japan pumped 2.5 T yen ($ 24 B).

- The Fed approved an $ 85 B loan for troubled insurer AIG, the largest bailout in history.

Bear in mind that Monday was a complete full moon and as we stated last week, it would mark a market low. On Monday, financial companies and nearly every major index fell hard in the largest downfall since September 11, 2007. In a promising divergence, precious metals and mining stocks were up slightly. Instead, yesterday metals and mining companies seemed to have settled near their cyclical lows. Today, the price of gold leaped from $ 777 to $ 842 so far and GLD (Gold StreetTracks ETF) was up more than 7% today in the largest single-day increase all year. Finally, after months and months of talking about a bank run, here’s the evidence. It’s also worth mentioning that our mining stock pick, RBY was up more than 7 % this morning as well. Expect the next 2 weeks to begin a consolidation phase leading up to the Chinese gold buying season near the end of the month or early October.

Summer Slump in Review

About 1 month ago, we suggested that a change in cyclical behavior was evident in previous precious metals and mining stocks prices. We labeled this change as a “disruption” caused by the solar eclipse that occurred on August 1, 2008. Now, it seems that we can confirm this behavior. Instead of seeing cyclical highs near a full moon, and lows near a new moon, the opposite occurred for the first time in nearly a year. During last month’s waning period from August 16th to 30th , RBY advanced from $1.10 to $1.90 and gold moved from $ 780 to $ 850. Then during this month’s waxing period, RBY and gold have been on the decline. Consequently we can expect sector highs around the new moon and lows near a full moon. As we approach a full moon on Monday, September 15, expect prices to settle at support levels.

With the exception of RBY, precious metals and mining stock prices are well into oversold territory – especially silver. Although physical commodities (specifically silver, gold, copper, and oil) demand is surpassing supply, we have to keep in mind that it’s no longer a physical market. Most silver and gold is traded on paper only, through futures contracts, and artificially inflates the market. In addition, the fall in commodities prices could easily be attributed to the following:

- Troubled banks and investment fund managers who needed to clean up balance sheets sold commodities contracts and ETFs earlier this year to raise cash. This has also benefited the dollar as demand for cash has grown significantly.

- A sudden decision by European Central Banks to sell nearly 40 tonnes of gold in July and August alone represents the largest amount sold in a 2-month period.

- China’s main bourse, the Shanghai Composite has dragged down world markets this year. It has descended by almost 60% since its 2007 high for 3 key reasons. For one, China’s strong economic growth rate of 8% is still a lot slower than the 11 % it witnessed from 2004-06. The second reason for the decline lies in the minds of Chinese investors who wrongly expect the government to prop up the markets. The final reason is that some 10% of Chinese GDP is invested in failing mortgage giants Fannie Mae and Freddie Mac.

- The US dollar has reached 52-week highs against the Euro, Canadian Dollar and a 2-year high against the British Pound as banks finances have been mired in write-downs and commodities took a tumble

We never fret when commodities prices fall because we can always take advantage through good trading strategies. When a downtrend is in effect, we can always short sell mining stocks and/or wait for a reversal before buying at a much lower price. As RBY recently reached new 52-week highs, it’s a good sign for the rest of the mining stock sector.

Over the weekend we also witnessed the US government assert its role in bailing out more and more banks when it announced the takeover of Washington, DC-based mortgage giants, Fannie Mae and Freddie Mac. Some still worry that the takeover will not benefit stockholders of either company and will not solve their financial problems. Firstly, the Washington Post noted that James B. Lockhart, the same Federal Housing Finance Agency regulator who witnessed the descent of the two lenders is now responsible for their revival. He was the same regulator who, in March, called a government bailout “nonsense.” Secondly, American taxpayers frown upon the notion of giving $200B to the private lenders for their bad financial decisions. Thirdly, many economists are questioning how the bailouts will help because there’s an underlying problem not just with Fannie and Freddie, but with the entire world financial (credit) system.

On Wednesday, Lehman Bros. announced a massive $3.9 B third-quarter loss, signaling that the bank troubles are far from over. This brings the total amount in write-downs for Lehman to over $8 B, but other institutions have fared worse in write-downs: Washington Mutual , $14 B; Wachovia, $ 22 B; UBS, $44 B; Merrill Lynch, $46 B; and Citigroup, $54 B.

Weeks earlier, we saw the closures of more and more small mortgage-oriented banks across the US. Atlanta area-based Integrity Bank became the 10th US bank failure this year. With so many bank troubles you can see why the US government has been quick to come to the rescue. It has to continue to avert bank runs. This summer, we have discussed the slow but ongoing bank run developing in the world as more and more account holders begin to distrust their banks. So far, confidence in the banking sector has been maintained, but it doesn’t take much for a massive withdrawal to take place. Should one occur, we’re again reiterating that precious metals and mining stock prices will soar.