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The
BIG Picture Transcript
JOHN: Well, here we are. Our first Big Picture of the year. And I know, Jim, that what you typically do during this time of the year is – I hate to use this analogy because when you talk about a bear, you know, a bear means a bear market, right? But you go climbing into your cave with as many things as you possibly can and when you come out, maybe it's more like a Hindu guru or something: “Oh, great guru, you have been working on this very long. What have you found out about the economy for the coming year?” JIM: The earth is round. JOHN: “Oh, very good. We are really ahead that you are telling me that. And what planet have you been living on?” Anyway… But so far if you notice – and this always bugs me – everything that I'm seeing out there so far is: “Happy, happy, joy, joy, the economy is great. This is going to be good, the price of oil is down.” Yada, yada, yada. This is bothering me – I don't know about you. But that's our kickoff theme, anyway. The forecast for 2007. What is the consensus out there? JIM: You know, it was amazing as I took a look. And you're right, John, at the beginning of the year, actually between the Christmas break and New Years, I kind of holed myself up in my study. I've got just about everything I can think of on forecast for the New Year, every BusinessWeek publication, all of the magazines out there. And what I was looking for is was there something different, is somebody taking a different approach, is somebody looking at this differently? And most of what you see when you see these forecasts for the following year, they tend to be linear extrapolations of what just happened in the last 12 months. If the economy was growing at 3 or 3 ½%, they'll extrapolate and say, “Ok, well, it's slowing down but here is an extrapolation of this trend going 12 months forward.” You know, I don't think I've ever seen at the beginning of the year, even during the down years, for example, 2000 and 2002 where Wall Street wasn't forecasting an increase in the stock market. So once again this year, if we look at economic growth rates, the consensus among 50 large economic consulting firms from Wall Street, to individual economists, is that the economy is going to grow at 2.6% this year, which is a pretty healthy growth rate if you consider European growth rates or Japanese growth rates; [but] not as good when you consider, for example, the growth rates in India of 7 to 8%, or China of 10 or 11%. But it’s pretty much an extrapolation of where we were in 2006 where we were strong the first quarter, and every quarter after that the economic growth rates came down. And on the high end, almost 20% of the economic forecasters were seeing economic growth rates of 3% all of the way up to as high as 3.7%. And only one forecaster had a rate that was so low that it was less than 1%. So the broad majority of economists on Wall Street, people in Washington, and economic consulting firms are in that 2 ½% to 3% range, and you get an average of about 2 ½%. [3:26] JOHN: Let's make the assumption that they are expecting the economy to grow. And I want to ask you something about the economy later on because it's so important between the economy as Wall Street sees it, and the economy as the little guy sees it there. But for the sake of argument here, let's say they were expecting the economy to grow. That would mean they are going to expect corporate profits to grow. We'll constantly hear reports of inflation being kept under control. It will be that rosy type of thing, the housing market will stay going, yada, yada. JIM: Yeah. If you take a look at the forecast on the economy, following through how that translates in to the stock market in terms of operating profits, the consensus is operating profits this year are only going to be up about 6%. So that's down considerably from terms of where it's been in the last couple of years because we've had 18 quarters now of double-digit profit growth. So naturally, if the economy slows down, operating profits are going to slow down with it – but they are still going to be up. They are forecasting an inflation rate somewhere around the neighborhood of 2 ½%. Nobody is forecasting the highest inflation number that I found which was about 3 ½%, which is pretty much where we were in the third and forth quarter of this year. Most of the economists expect that the inflation rates will come down as the year proceeds, corporate profits will moderate but they won't go into a tank. And of course, with that, you get all kinds of assumptions in terms of what's going to happen to interest rates. [4:59] JOHN: Yeah. But what do they say about interest rates? Obviously whatever the Fed does is going to be a driver for this whole thing. JIM: Well, if you take a look at the Federal Funds Rate at 5 ¼%, the consensus is they bring down the Federal Funds Rate to 4.9%. That's the consensus. You had on a couple of people who are anticipating rate hikes: you had Richard Yamarone of Argus Research who thinks the Fed will take interest rates to 5 1/2%; Donald Straszheim from Roth Capital Partners thinks the Federal Funds rate goes to 6%; Robert Melman, of JP Morgan Chase, thinks the Federal Funds rate goes to 5.65; and Barclay's Capital thinks the Federal Funds rate goes to 5.9; you've got Bear Stearns thinking the Federal Funds Rate goes to 5.8; Gail Fosler, too, of The Conference Board, sees a Federal Funds rate of around 6%. So you do have some people that are saying, “no, we've got rising inflation.” And of course, with this higher Federal Funds rate, these are also some of the same economists that are forecasting higher inflation rates, lower economic growth and lower operating profits – because obviously, rising inflation is going to impact the operating bottom lines of corporations since a lot of them would have trouble passing it through. But the consensus is most people anticipate that the Fed will be lowering interest rates. Now, whether they do that at the end of the second quarter, whether they do it in the second half of the year, if you take a look at the Friday unemployment numbers, that consensus is moving towards the second half of the year rather than the first half of the year. But the overall consensus is the Fed will be cutting interest rates this year and inflation will be coming lower. So what you have in the consensus forecast, overall, is what we call our goldilocks economy. The economy will slow down enough to still give us good economic growth – that's the 2.6% GDP number that's the consensus average. The inflation numbers will come down as the economy slows. And as that happens, the Fed will eventually lower interest rates, maybe one or two times in quarter point cuts. Maybe two quarter point cuts this year is what the markets are forecasting. [7:26] JOHN: If we look at the future from where we stand right now in the portal of 2007, what do you think the key economic issues of the year are going to be? JIM: I think number one on top of the agenda is going to be real estate, because this is the year where we know there is over $1 trillion in mortgage resets on these variable rate loans. How much of that is going to sink the market? Let's face it, you've got a lot of people that have gotten into adjustable rate loans that can barely squeeze getting into a house to begin with, but they were doing it on the idea that home will continue to appreciate: “Even though we're squeaking by, we'll make it up as our house appreciates.” Well, as we know, housing prices are coming down. They are not appreciating. And a lot of these people, now, are barely squeaking by. It's kind of like my Wheelers from my Day After Tomorrow. There's a certain segment of the housing market that – I mean these people are going to sink this year. Their homes are going to be foreclosed on. They are not going to be able to meet the higher interest payments. You already have subprime lenders that are going bankrupt. I think that is going to start to increase and accelerate as you move into the year. So the real key this year in my mind is going to be real estate, and whether the real estate recession is going to sink the rest of the economy. And I think a lot of that is going to get into this second key economic question this year: will or will the Fed not raise or lower interest rates? So what is the Fed going to do? The sooner the Fed begins to hyperinflate and lower interest rates, the better chance they have of staving off a recession and staving off a housing collapse. So what the Fed is going to do is going to be a second key economic issue. And of course, thirdly, is we've seen this wonderful wave of back-to-back, more than 4 years of consecutive quarterly double-digit profit growth. I think that's going to come to an end this year. It's just a matter of does it get down into the high single digits – which is still respectable. And if interest rates come down, you can see expanding PE multiples in the market. So the profit question of what happens as the economy slows down, how that's going to impact corporate profits. And then, I think, another issue is what happens to the rest of the world because in this global recovery, which has been synchronized globally, it's not just been the US, it's also been China and Asia that have been the economic drivers. China's industrialization, India's industrialization, the growing industrialization of Asia, of Vietnam, Korea, Indonesia – those countries are playing an ever increasing important role in terms of global economic growth. So if we begin to weaken, what happens over there? There are a lot of people saying Chinese economic growth is going to slow and have a hard landing. I don't buy that story. Maybe they don't grow their economy 11%, but maybe they grow their economy 9 or 10%. I certainly think India can grow their economy 7 or 8% this year. So what happens internationally to offset what is going on internally in the United States, I think that's another key driver. [10:54] JOHN: Let's make a jump here from the economy to the stock market. Here we are the first week in the year. The Dow Jones is down. The S&P is down. The only thing that's up right now is NASDAQ. So what are we looking for in 2007 as far as this goes? JIM: 2007, the consensus forecast is for a higher stock market, both for the Dow Jones Industrial Average, which will be setting a record, and also for the S&P. The consensus is the S&P will go higher. The real bullish people think that the S&P finally takes out the old record set back in 2000. Higher stock markets all the way across the board, John – a higher Dow, higher S&P and a higher NASDAQ. [11:38] JOHN: Ok. Obviously, everybody out there is giving their predictions and their prophesies right now. And if we have to say where the consensus falls – give it to me within one standard deviation, Ok – are they bullish? moderately bullish? bearish? What's the look? JIM: Well, you know, the consensus forecast is a Dow (that we ended on this Friday that we're having this show at 12,398, down for the year from the highs of last year) over 13,000. You've got people at the very top like Bernie Schaeffer who sees the Dow going to 14,400. You've got Ralph Acampora who thinks the Dow will be at 14,200; Elaine Garzarelli, 14,200; Ed Yardeni, 14,000. You've got a lot of people in the 14,000 camp. You've got a lot of people in the upper 13,000 camp. And maybe the broad majority, let's say the middle section of the forecast, is between 13,000 and 13,500. You even have a lot of people – about 5 or 6 – people that think the S&P 500 could take out its previous high setback in the year 2000. The NASDAQ, you know, it's got a long ways to go before it gets over 5000. Even the most bullish people that I saw on the NASDAQ, I think one was forecasting, I think, somewhere 3000 on the NASDAQ, which would take it from where it is today at around 2400. But not much more bullish than that. So if you look at the theme of what they think is going on in the market, definitely, the Blue Chips are going to be the main beneficiaries of the slowing global economy and a slowing US economy. So that's why if you look at these forecasts, they see a higher Dow – a record Dow, that is; and a possibility of a new record in the S&P. Certainly if we look at this decade, anything the S&P does this year could be record breaking, and especially if you're talking about the S&P going up from its current position of 1409 to a consensus position of 1500. I think the highest forecast for the S&P was, like, 1,619, which would end 1620. Those were sort of the two highest figures. But if you look at what people are saying: Blue Chips, the large cap growth stocks. And I happen to agree with that opinion, that's something we've held opinions on since last year when I forecast a new record on the Dow. So higher markets overall, John, and it's going to be primarily oriented toward the large cap growth stocks as the economy begins to slow down. [14:28] JOHN: Well, if people are expecting the market to go up, there obviously are going to be hot sectors. So where are the experts telling people they should be plopping their investment money right now? JIM: You know, it's rather interesting, and this is going to blow people away. If you take a look at the last three or four years and you look at performance by sectors, energy is up 100%. And if you take a look at technology and health care, probably up no more than 20%. So two of the sectors that I think are going to be hot for the year: technology and health care. Energy is going to be in there; consumer staples – especially in a slowing economy; and depending on how it slows down, in the industrial cyclicals. And I could probably make a case for two or three of these, which we'll do later on in the Big Picture. So, technology is at the top of the list. Health care is number two. Energy is number three. Consumer staples four. And industrial cyclicals number 5. [15:34] JOHN: So Jim, as we round out this end of the segment, why don't you summarize the whole forecast consensus. JIM: Economic growth rates slow down a bit, but not enough to take us into recession. Certainly a 2.6% rate would be respectable by other developed economy standards. So there will be a slowing economy but still a healthy growth rate; lower inflation rates, lower interest rates. The Fed cuts interest rates. And that translates into higher asset prices: higher stock market reflected both in the Dow, which will set new records; the S&P possibly will be setting a new record; and a higher NASDAQ. And very few clouds on the horizon. [16:16] JOHN: It is time to go to our Q-Line – our question line – which is open 24 hours a day for your call-in questions. You can find us toll-free from the US and Canada 1-800-794-6480. That is toll-free from the United States and Canada. It does work from the rest of the world, but you have to pay for the call. That's because we're too cheap to pay it for you. But when you call in – you think they'll believe that, Jim? I don't know. JIM: Good try, though. JOHN: Yeah. Good try. Anyway, when you call in please give us your first name, where you're calling from, and try to keep the questions brief. Sometimes people tend to run on, and it makes it more difficult for us to answer. So here we go. Hi. This is Darren calling from Toluca Lake, California. I don’t have a question, I just wanted to pat Mr. Puplava on the back again for predicting something that was going to happen. I just read an article on CNN about the mint and that they don't want people melting money. They’re implementing a rule about melting down pennies and nickels which at current metal prices could be worth more as metals than as currency. So this new regulation authorizes a fine up to $10,000 or imprisonment for up to 5 years, or both, against violators. The rule also bans the exportation of coins, beyond traveling with $5 worth and shipping up to $100 for legitimate purposes. How about that? Thanks. [17:51] JOHN: Now, this really reminds me. Remember the John Law experiment in France? JIM: Oh, yeah. Absolutely. You know: “you can't get rid of your paper and try to have access to real coins.” That should tell you about the inflation story going forward when your own government tells you that you can't melt the coins because the face value of the coins doesn't match up to its street value or industrial value. [18:16] JOHN: The next thing we're going to see are controls on copper and other metals used to manufacture the coinage (to mint the coinage) because some people could go ahead and do it anyway. It's really almost a bald face admission that something is radically wrong. Hi guys. I'm Peter, president of the West Coast chapter of NIMBA. Our motto is sue the auto companies, keep our coastal waters free of ugly oil derricks and keep the energy price down. We've got a website www.stuckonstupid.savethewhales. I just heard that the New York Stock Exchange is in China trying to get the Chinese oil or Chinese companies listed and if that happens, will that help to keep the stock market from falling apart maybe in the future? Thanks. JIM: Well, last year, Peter, my prediction was first the pain and then the gain. My prediction this year is the first thing that we're going to have is the pain. Hello. My name is Steven. I'm from New Jersey. My question is about nuclear energy. Despite the fact that France is using nuclear energy, there is a proven link between increased cancer rates in the area of Pennsylvania after the accident at Three Mile Island in 1979. The danger of super critical uranium is that it’s very unstable. It also has a half life of 4.5 billion years. So I'm asking, do you think there might be a safer way to meet our energy needs in the future? My second question is about China. They are projected to be using 515 million cars in the year 2050, thus increasing their oil needs dramatically. Do you think there's a chance that they are flexible enough to switch to electric cars? Thank you a lot. I really love the show. JIM: When we hit peak oil, Steven, we're going to be looking at anything that works. And the nuclear power plants have fail-safe systems. So you're talking about tremendous technological advances that we’ve made over the last three decades, so I think nuclear energy will still play a part of that. Maybe they won't be the big nuclear power plants that we dealt with in the past. They might be smaller. They might be out in more remote locations. So nuclear is still going to be there. I think we're also going to be moving onto the clean coal technology front. I think we'll be working on solar and developing that where it works well, and also wind power. Right now, there's a lot of opposition to all of these – outside of solar, which doesn't work everywhere. You can't put a wind turbine offshore on the ocean. Any time they try to do that, they stop it. You've got lawsuits going on in Texas right now against wind farms because people don't like looking at them. So I think we have to have a crisis first, and then we'll start moving more on the alternative front. In terms of your second question, in terms of China, are they going to be more flexible and switch to electric cars. They already have an electric car. It's a sports car. I can't think of the name of it. It starts with a T. It's about $80,000 or $90,000. It's capable of going a couple of hundred miles on a charge and is actually faster than most sport cars. I believe they will. And I think you're going to see that. They are working on it right now. And certainly China is smart enough to think that they cannot develop 515 million cars and hope to be energy independent – because that will just make them more dependent on everything else. I think they are flexible enough, and they are at an early enough stage that they can make that switch. [21:46] Hello, Jim and the gang. This is Rod from Canada. I have a question about investing in Vietnam. I'm having a hard time finding ways to do that. I haven't found any ETFs or CFs. And there are only, that I know of, maybe one or two mutual funds and they are not available to us here in Canada. I'm having a hard time finding Vietnamese stocks listed in the international markets. Would you please advise. Thank you so much and take care guys. Thank you for the wonderful show. JIM: Rod, I'm not aware of a Vietnam ETF, but if the market keeps developing long enough, I'm sure they'll come up with one. You might want to look at some of the larger mutual fund families that are internationally oriented like Templeton that have positions in these countries. So that's where I'd begin to look right now if you wanted to get specific, but you're probably not going to find one fund that puts all its assets in Vietnam. At least I'm not aware of an ETF that invests in Vietnam, but my guest next week will be Dr. Marc Faber. He's in that neck of the woods. That will be a question I ask him about. [22:59] Hi. This is John of Los Angeles. I have a question for Jim Puplava concerning retirement accounts. Most of my assets currently are in IRAs, and they are rollovers from 401(k) plans. And I'm a ways away from retirement. I have a large portion of my assets in resource stocks. However, I'm concerned about two things in the future: one is potential currency controls on money on retirement leaving the country; and two, the possibility of things gone really bad requiring investing a percentage of assets possibly into government paper or something. And then lastly, I'm considering retiring overseas. So all of that said, my question is: do you know somewhere I can go for advice or reading to learn about ways to diversify and protect my assets? What are the pros and cons of moving funds out of an IRA at this point to give myself more flexibility later, and not have all of my eggs in one basket? I apologize for the long question, but this has been haunting me forever and I appreciate any advice. Thanks a lot. JIM: Well, the first thing, John, I would tell you is that your concerns about capital controls, and also the government requiring that you invest your pension funds in government assets like zero coupon bounds, are dead on. I think that's a little ways away yet, but I think that's coming. The trick will be, if you keep your assets here, to be outside the country but inside the country. You know, I don't know what flexibility you have in your retirement programs. I mean if you are with a company and they have resource funds, you might take advantage of that. But for example, you can buy exchange traded funds that own foreign assets. So even though you own them here, they are foreign assets which are based outside of the country. They tend to move when the dollar depreciates. That would be one measure. And if you want to have greater flexibility, [by] moving all of your assets out of IRAs or rollovers, the time to do that is now, not way into the future when your IRA or 401(k) is much, much larger. And I believe tax rates are heading higher in the next 3 to 5 years. So if you're considering that move in order to give you the greater flexibility to invest, the time to do that is now, not 3 to 5 years from now when you have more assets and tax rates are higher, because at that point, they might be placing punitive penalties for trying to get out of the retirement system. [25:48] JOHN: Jim, we started out the Big Picture talking about the common consensus out there for the year 2007 and commenting on the fact that it is pretty rosy. Now, we haven't heard your opinion on that, but usually when people are coming out with great rosy scenarios, there's an old thing about Murphy's Law – “if it can it will go wrong in the worse possible way at the worse possible time” – and I always sort of anticipate that. So what could possibly go wrong with this whole scenario? It's based on a lot of predicated if-this-happens-then-it-will-be-rosy type of things. JIM: Well, if you take a look at the assumptions, the economy slows down, but it slow down to a respectable rate. It's that goldilocks economic growth rate. We have low inflation. I think one backfire could be that inflation remains stubbornly high. That creates problems for the Fed to lower interest rates, in fact possibly forcing them to actually raise interest rates further. So if the headline inflation numbers and the core inflation numbers stay higher than expected, that creates a problem, because the Fed is not going to be able to go on pause; it may even be forced to raise interest rates. When we looked at the consensus, if you picture a bell shaped curve, right in the middle of that curve, [within] one or two standard deviations, that was where the broad consensus was. But if you looked at the tails of the curve – those are the outliers – you had a few people out there (there were four or five firms) that were saying, “no, the Federal Funds rate is going to be at 6% by the time we get to the end of 2007.” And that would imply higher inflation rates. So headline inflation and core inflation, that could remain stubbornly high. That would create problems. So that's one thing that could go wrong. [27:57] JOHN: Yeah. I would think the geopolitical issue would be a big one. If there's one consensus, since we're using the term, that I see out there, a lot of things are moving toward instability in the Middle East and elsewhere. And I think these things would be the spanners in the works that are going to throw this current one way or the other, that people really just don't expect. JIM: Yeah. I think the Middle East is definitely at the forefront of geopolitical problems. What was it? The first day after Christmas the markets opened up, the rebels took out oil platforms in Nigeria. And MEND, the rebel group down there, their objective is to take Nigerian oil totally off the market. And you're talking about a couple of million barrels a day of light sweet crude, so there's geopolitical problems on the oil front. But I would say the Middle East has got to be at the top. You've got the two political groups, Hamas and the PLO, which are fighting against each other for leadership in that area. There's a problem that can escalate, and it can escalate between them, as well as Israel. You've got an issue right now where the US is building up its carrier battle groups in the Persian Gulf. The John C. Stennis is going to be joining the Dwight Eisenhower carrier battle groups. So you've got two carrier battle groups along with the Boxer strike force that's moving into the Persian Gulf. You've got more nuclear powered submarines moving into the area; and you also have 10 air squadrons, now submarines, and helicopter support groups. So I think something is going to happen with Iran this year. I just don't see, “Okay, we want you to stop developing your nuclear program.” And Iran basically saying, “Go fly a kite.” Then we go back and head a meeting at the UN and say: “Would you please stop it, we would just appreciate it.” I don't think that's the way that's going to eventually play out. Something's going to happen and I think that could happen this year. [29:54] JOHN: If you remember during our programs that we did at the end of the year, we did a review and there was an interesting comment from a forum that we took off of C-Span by Colonel Sam Gardiner, USAF retired. Now he's a consultant for one of these think tanks, and he was basically saying that the possibility of some kind of military action isn't just on the table, it's on the Vice-President's desk. And that things don't go the to Vice-President's desk if they are not going to be actionable items, if that is not going to be a plan that's already in process. So if you look at these issues, we're beginning to move carrier groups around, we're building up strategic oil reserves. I mean you would think that would be logical –right, Jim?, if you're going to go to war against something that could disrupt it. Now, he was talking about a series of limited punitive strikes, not a full blown invasion like Iraq, but that seems to be on the table at some time during the year, maybe even spring time. JIM: Yeah. Because definitely, we don't have the manpower, but we do have limited strike force capability – and especially if you take a look at what Sam Gardiner was talking about: B2 bombers and cruise missiles. So I think that Iran is on the table. The Middle East is definitely there as a political wild card. If that disrupts – in fact, I even read where somebody was already saying that one of the reasons they are hammering the oil market right now is to get the oil market down in advance of an attack. So if an attack happened…obviously, if we start dropping bombs on Iran, you would see oil, if it was at 65, it could go all of the way to 100, because [of] what Iran's response would be to that. So you're absolutely right – the Middle East, I think, is foremost in terms of wild cards of what goes wrong or could go wrong that could disrupt all of the this. [31:44] JOHN: That's one geopolitical issue, obviously a prominent one. What about others? That's like this movement clear across the chest board. JIM: Another one could be bad policy mistakes by not only central banks but also by governments. I mean, for example, if there's a proposal on the table to raise income taxes, that would take us into a recession. When the economy is weakening, the last thing you want to see is higher interest rates and higher taxes because that bleeds the economy. It's just like, remember, John, when they said they were going to cut income taxes, that was going to really cut tax revenues, and it turns out just the reverse happened and we had record tax revenues. So a tax increase, or a policy blunder. I've seen there's a proposal, we'll see that they want to tax the oil companies. I think that would be a bad policy mistake as we found out when they slapped windfall profits tax in the 70s. Even the Congressional Budget Office at the end of the eighties did a study of that and said we were worse off: our imports went up tremendously making us more dependent on foreign oil; and then another thing that happened as a result of that as well is oil production and oil investment fell precipitously here in the United States. So, you know, we can make some policy mistakes here that are very, very bad such as increasing regulation, or increasing taxation. There are a number of things we can do – or not just our central bank, but it could be other central banks, for example in Europe or Japan, that raise interest rates beyond what they should, and all of a sudden, that creates adverse effects on the economy. [33:22] JOHN: You know, Jim, you've written quite a bit about the content of a rogue wave usually being triggered by some kind of an unanticipated event. And since we are so levered in the market, I mean the market is so leveraged in all quadrants, what would cause it and what would the effects be, et cetera? JIM: That's another rogue wave that you could see a hit, or something that comes out of the blue. We've seen a couple subprime lenders already go under. If that begins to accelerate. Also, John, you've had a lot of these hedge funds, a lot of these kind of exotic derivatives where they are using credit default swaps. And the premiums on those credit default swaps have narrowed considerably. In other words, everybody is not expecting anything to happen. All of a sudden you get widening credit spreads. That dries up default swaps. You could have all kinds of financial carnage that comes in: with a hedge fund, subprime lender, a tremendous drop in the value of securities raising long term interest rates. So some kind of financial mishap is also out there right now. And I think that is a very, very real possibility here. Any time the Fed raises interest rates – and I've used this comment many times in the past – they keep raising the interest rates until something breaks. Either something breaks in the economy, something breaks in the financial markets, and sometimes you get a combination of both. So with the risk of a lot of leverage in the financial system, the prospects of a financial accident, I think, are increasing every single day, every week. And we're seeing some evidence of that. And especially as we get into the end of the first quarter, second quarter of the year, as more and more of these variable rate mortgages come up for renewal, some of these sub prime lenders are having a lot of difficulty selling their paper to even Wall Street. So some kind of financial mishap is definitely there at the top of the list. [35:20] JOHN: I think at some point along with the mishap, it would seem like consumer or public confidence begins to erode, because the disparity becomes greater between what they see or feel happening in their own pocket books versus what they are being told happening through the channels from on high. And you remember in Russia everybody knew that Pravda didn't tell the truth even though that was the name of the magazine or the newspaper. JIM: Well, we've got that today. I mean if you look at the economic statistics, I don't trust any of them. I don't trust the inflation rate, which is jerry-rigged. I don't trust the GDP rate, which is jerry-rigged by virtue of the way they construct the CPI and the various components they add to the GDP that virtually are nonexistent through hedonic indexing. Then you take a look at the productivity numbers. I don't trust any of that stuff. So we already have a situation like that today where the average person knows that based on their personal living costs, they are not operating by a core rate of, let's say, 2 1/2% or 2%. That's not the real word for most people on the street. And I also think, John, that what you're going to see here in the first quarter – and let me throw out another wild card here – and that is the Fed ends up panicking. And that's because the economic growth rates begin to really decelerate quite rapidly. I’m watching what's going to happen in retail sales because retail sales came out, it was weaker than expected for the Christmas season. Now, John, a lot of people bought things during Christmas. They put it on credit cards. And those credit card bills are coming due this month. And so they are going to be paying down those credit cards. And that's going to cut into consumer spending. At the same time, you're going to see less mortgage equity withdrawals in the next couple of months. And so I think you can see some decelerating numbers and economic growth that are far greater than most people are anticipating. And what really struck me, reading the minutes of the last Fed FOMC meeting is you had two or three governors that were saying, “you know what, our statement ought to be, instead of ‘we're concerned about inflation, and we'll have to take a look at the economic number’ but we could either raise rates or lower rates.” So you have two or three Fed governors that are saying, “no, just don't go out there and say our next policy initiative is we might raise interest rates, let's also throw in the caveat we may end up lowering interest rates.” That’s because this same group, and there are about two or three of them now within that community, are saying: “You know what, the housing market is beginning to decelerate, it's not looking good and neither has been the string of economic numbers.” If you look at a trend on a graph, that's not looking good, so we may be facing an economy that slows down a lot faster and a lot more rapidly than we anticipate. And I would expect that that is what we're going to see in the first half of the year. So an economic growth rate that decelerates much faster than people anticipate could end up causing the Fed to panic. [38:31] JOHN: Well, if we look at the overall picture and take a snap shot from a satellite, so to speak, the consensus is that the economy is going to be up, the stock market is going to be up, inflation will be held at a very containable rate. But at the same time, if we look around at what's really happening, we have a number of wild cards: in geopolitics out there, notably the Middle East; a policy mistake. We have less and less wiggle room for policy mistakes. That's a real possible thing. With all of the leverage that we see in the markets right now, just one financial mishap could create a domino effect; and also if growth is worse than expected. That’s because whenever people say all of these things, it's predicated on certain things happening. You even hear them coming out of the White House quite a bit, you know, or the Congress when they are talking about budgets. And it's all predicated upon a number of things happening, which no one ever goes back to notice it didn't happen. Well, the time is finally expired on that, so that's what we're going to be facing right now. It's going to be interesting. A lot of it is not predictable. You can only anticipate it. JOHN: And you're listening to the Financial Sense Newshour at www.financialsense.com. Our programs are posted every Saturday morning at 7:00 a.m., Greenwich Mean Time. You'll have to convert that to your local time zone. That works out to about 2:00 a.m. on the East Coast of the United States, and our site is iPod friendly at www.financialsense.com. Back to the Q-Line. Hi Jim and John. This is Mark in Salt Lake City. You frequently mention the low PE ratio of the major oil companies. And I'm just wondering if the market is starting to correctly realize that, since on aggregate the big oil companies can't really increase their reserves going forward, that maybe more and more they are just in the business of liquidating, so to speak, their underlying asset that values their stock. In other words, their prospects for growth aren't very good. Especially since by and large they wasted a lot of their profits on share buying at first instead of distributing meaningful dividends. So my question is: what's the best way to invest in oil if oil is going to go to $100 other than buying futures or oil services companies? JIM: Well, Mark, part of the reason for the low PEs on majors is that their growth prospects are somewhat limited. But even if you look at some of the mid cap companies, even if you look at the service companies that have no limited prospects, the low PE ratio, you find it all across the energy spectrum: small caps, mid caps, large caps service companies, drillers. So I think it's just an overall perception: more of oil being cyclical and therefore the economy slowing down, therefore oil earnings have peaked and therefore they are not accorded a higher PE ratio. So I think that's what you're seeing there. In terms of the best ways to invest in oil, I would look at companies – getting back to your question about growth prospects –that can grow their reserves and replace their reserves. I would look at NOCs because they are going to be immune from Congressional taxation. I would look at alternative energies, coal-gasification, and basically some of the alternatives that we're going to see. When you take a look at an oil, light sweet crude is being found in limited amounts, so you're going to see heavier crude. I think the refiners are a great way because we haven't built a refinery here in the United States in three decades. In fact, I was just reading an article in the Wall Street Journal this week where Boston and New York are trying to convince the Canadians in New Brunswick, the Irving family, to build a 300,000 barrel per day refinery there, because they don't want it in their own backyard. So I think refineries are going to be a good issue to take a look at in terms of what happens in the energy sector. [42:44] Hi, Jim, John. I'm Ned calling from Toronto. Love the show as always. I just listened to the interview with Ken Fisher – great interview. My question is that Jim at the end you seem to be very impressed with Ken Fisher's methodology, with his book instantly becoming one of your top 10s. So obviously his methodology is something you're impressed with. However, it seemed that in the context of what he was talking about, he seems to disagree with some of the conclusions that you're coming to. First off, he doesn't believe that the US economy is going to hell in a hand basket. And second of all, he seems to imply, maybe he didn't come right out and say this, but imply that oil prices may not go through the roof – that there was a scenario that could occur where oil prices would collapse. So my question is two parts. First off, am I correct in discerning that while you believe wholeheartedly in his method or his advice that he has come to drastically different conclusions than what you're coming to? And second of all, if that's true, how do you explain that? How would you justify that using a methodology that you think takes a lot of steps yet coming to conclusions that you would not agree with? JIM: In his methodology, if you look at his book Three Questions, I do agree with that concept and I try to do this. In fact, I do it at the beginning of the year, I look at the conclusions drawn by the experts. And I try to think – and this is his number one question – what is it that I know that nobody else knows. So you try to find that concept in the market: what's out there that everyone believes that you disagree with or don't believe in. And that kind of questioning methodology I agree with 100 percent. Now, he thinks that the economy is not going to hell in a hand basket in the sense that greater productivity, et cetera. I think we're going to see higher stock market values as Ken Fisher does, but these are going to be higher nominal values in the stock market that are going to be created as a result of the next reinflation. So I don't think he sees inflation from the same monetary perspective that I do, and I don't believe he is a believer in peak oil in the same way that I am. But his concept, and he's done very well, of asking and questioning the assumptions in the market, I think, are dead on. I think that kind of methodology and that kind of training, it's almost like a contrary thinking in a way. And you don't want to be a contrarian just to be a contrarian for contrarian's sake. But you do question the assumptions in the market and try to find out, okay, what is it that you come to a conclusion or something that you know that nobody else does because I think that's one of the keys to investment success. And that's one part of his methodology that I absolutely agree with. [45:45] My name is David calling from Minneapolis, Minnesota. My question is regard to Treasury bills, notes and bonds. I read and hear articles from other financial analysts (or from a number of financial analysts) and on occasion, I find some that recommend that investors put their money in T Bills, notes or bonds. And I believe as Jim has explained on the program about the inflation level, which I think he estimates or has heard that it is about 8 to 10%, and given the rates that they provide on T Bills, notes and bonds it seems to me, why would anybody, say a private investor, ever want to buy any of those? Are not the real rates of return negative? I can understand possibly why some countries such as China, whatever, might continue to do that for their other reasons. But as far as a private investor goes, it just baffles me. And I wonder, Jim, if on one of your programs sometime if you can just cover that: are there situations where or circumstances that a private investor would want to invest in these vehicles? I'd greatly appreciate it. JIM: David, you're exactly right. The real rate of return on bonds today, treasury notes and bonds, are actually negative when you compare it to the after tax return, and after inflation. The only way that I would probably be in Treasuries is if you would trade them in terms of rallies, let's say you're a very astute trader. For example, when interest rates peaked in May or early June at around 5 ¼, if you had been in long term Treasuries, as the rates on 10-year Treasuries came from 5 ¼ down to 4 ½ – that was a tradable rally. So you trade them. Add to that a little bit of leverage and that is what some of these big funds are doing. However, outside of that, the only thing I would ever be in is probably something like T bills as a temporary parking place if you're not sure in terms of where to place money. For example, right now, we're building our cash positions as I lay out my scenario of what I think is going to unfold here in this next segment of the program. But I'll get into that later on. But that would be the only reason as a temporary parking place. But outside of that I couldn't see it. [48:05] Hi. This is Patrick from Alabama. I love the show. And I have a question. On a recent show, you were explaining the inverted yield curve, and you stated that global markets would minimize the damage that would normally be caused by an inverted yield curve. And you gave the example that while a 10-year bond in the US might be 4 ½%, banks can turn to Europe and borrow money in the European market at 2.5%. My question is: Isn't this ignoring the effects of currency rate risks? Recent history has shown the dollar losing its value versus world currencies – I believe 10% against the Euro in the past year. And wouldn’t the funds borrowed in Europe have to be repaid in Europe and if repaid in the future, won't the bank see a loss as it will take a greater number of dollars to repay these loans. Therefore destroying the 2% gain obtained by borrowing overseas and actually causing a loss. Thanks a lot. I love the show. JIM: Pat, one of the things that people do when they borrow from overseas, they'll hedge that currency risk so they might go in the future markets and hedge the currency. But the other thing you have to take into consideration is all currencies are depreciating against each other. It's just a question of which currency depreciates the most. And if you take a look at one of the best places to borrow in the world today (and it has been for the last five or six years) is the Yen carry trade. And if you look at it today, you know, there's more Japanese yens than the dollar, so the Japanese currency has actually depreciated somewhat. So not only have you been able to borrow at a cheaper rate, but actually you've made money because the Yen has actually lost some ground against the dollar. But there's ways through hedging on currency risk that you can cover that. [49:41] Hi Jim and John. This is Dominic calling from London. I really enjoyed your show last week on the subject of inflation and government monetary policy. I've got a question for you. It's rather a big question, so please bear with me. But as far as conspiracy theories are concerned, I've always been a fan of the line ‘never ascribe to malice that which can be explained as incompetence.’ And that line has been attributed to Napoleon, William James, even Goethe. But in the case of the Fed or the Bank of England or whoever is implementing government monetary policy, the people in charge are usually intelligent, educated, sophisticated economists. They wouldn't be where they are if they weren't. They must have some idea of the terrible implication of what they are doing – from impoverishing people, to this move towards totalitarianism. Why are they doing this? Are they power crazy Machiavelli’s, or is it just about keeping the masses happy and duped? Why is nobody on the inside standing up and doing anything? Is it that they'll quickly lose their job if they do? I mean, without wishing to get carried away, surely what's happening is almost evil. Or are these people just desperately clinging onto a ship or a machine that whirls out of control, or do they simply not know? I'd be really grateful for your take on that. Sorry for such a long question, but the subject got me very excited. JIM: Well, Dominic, boy, we could do a whole show on that. I would say 75% of it is education, what you're brought up with. Imagine if you go to a government school from grade school to high school, to college (or you even go on to graduate school and get your masters and PhD). You were taught Keynesian and some form of monetary economics. So you're almost brainwashed in terms of how you think and how you view things. So I think a lot of that tends to go: “Well, if things are going wrong or if they go wrong, we have some adverse consequences, it's just because we didn't tinker enough.” One of the best examples I can give you in terms of what this thinking was is our current Fed chairman Ben Bernanke who, as an academic, wrote several papers on the Great Depression and came to the conclusion and he gave that conclusion at Milton Friedman's 90th birthday which we quoted in the show last week. And he said basically: “You know, you were right. We did cause the great depression. And we will never let that happen again.” So according to the Fed's own view, it was because they restrained the money supply and didn't immediately hit the impact of declining deflationary environment – deflation cleansing the system. Since they didn't respond to it immediately, they attribute that as one of the reasons we had the Great Depression. So I would say 75 to 80% of the people think that way through education because that's what they've been taught from the day they've opened up the school book. But I think there is a small minority, up at the top who know better. Alan Greenspan who was a student of Ayn Rand is one of them. But I think Greenspan was an astute politician and I think for political power he basically sold his soul on monetary policy. [53:10]
JOHN: Well, we have come to that point in the program where we look at the fact that we have seen the consensus: the rosy forecast for the year 2000. We have looked at the things that could possibly go wrong. And now, oh great Karnac, looking at your crystal ball, what do you think will happen this year? JIM: Last year the theme that I was taking a look at was first the gain then the pain. And what I think you’re going to see next is part of the pain – and especially in the first 6 months of the year. That pain is going to come in the form of 3 things. I think you’re going to see declining asset markets all across the board – we’re seeing it in oil, we’re seeing it in gold, we’re seeing it in copper. I think you’ll begin to see it in stocks and especially as the optimists on Wall Street all of a sudden come to the conclusion, “wait a minute, maybe the Fed is not going to cut interest rates in the first quarter.” So what I think we’re going to see now is pain. And that pain is going to come through further acceleration on the downside in real estate, especially as a lot of the adjustable rate mortgages negative amortization loans come due. And people (especially the marginal buyers, subprime lenders) are going to be in trouble, they’re doomed. There is nothing the government can do to fix that for them. A lot of these people are going to end up losing their homes, they’re going to go into foreclosure, that’s going to create problems in the sublending market. I think as that problem begins to accelerate you’re going to see widening credit spreads, you’re going to see the premiums on credit default swaps start to increase. And so a lot of this pain is going to start coming into play here in the 3 to 6 months. Does it happen next week, the week after? I don’t know but I think that is the thing you’re going to see in the first 6 months. So my overall theme this year, and the two words and what I’m going to be writing and sending a letter – a rather detailed one to my clients this year – our theme last year was ‘first the gain, then the pain’; my theme this year is ‘disinflation, then reinflation.’ [2:41] JOHN: Ok, hold on a second. Let’s dissect that first for just a bit. JIM: The reason I say disinflation is you’ve got an increase in global manufacturing capacity. And what that means is the more people you have making widgets around the world the price of widgets drop. And we certainly saw that during the Christmas season: you saw plasma screens coming down; I think some of the stores were selling laptops for $300-400. I bought a very expensive digital camera for my son who does a lot of traveling at almost 50% off the price. I about fell off. I actually negotiated with the store manager in terms of the price. The model I came in to buy they had sold out, and what he did is he gave me a better model for even a lower price. You’re going to have lower manufacturing costs which are not deflation. That’s just greater productivity. So you’re going to have this disinflation theme come into the marketplace where you have declining asset values, real estate commodities, stocks and then also declining manufacturing prices as manufacturers try to get rid of excess inventory. It’s not just the homebuilders that are sitting on excess inventory right now, it’s also manufacturers – manufacturers in Asia. You’re going to see that come into play. And what the Fed needs is the Fed needs to start cutting interest rates – they know that. But they need a deflationary type scare, or something to happen, before they can do that. Because if you had oil prices at $65 to $70 a barrel, if you had gold in the upper 600s or 700s an ounce, or copper over 300, you’re not going to be able to do that. That’s because those prices for those commodities are going to go work their way through the system as we’ve seen with producer prices and the price of intermediate goods. So they need a cover to do that. [4:52] JOHN: If you recall, Jim, the last time we were talking about this, we go back to 2000, the Fed slashed interested rates (dropped it all the way from 6 to 1%), why can’t they do that this time? Is there something different in the mix. JIM: Well, something that’s different in the mix, there’s a lot more inflation in the mix. I mean when we hit the recession of 2001, we had asset deflation that was taking place in the financial market. When you have the NASDAQ lose 78% that’s pretty serious asset deflation. But, unlike 2007, back in 2001 when we went into a recession we were in a bear market, we got hit by terrorist attacks on 9/11, we had oil prices between $18 and $20 a barrel, gold was back in the $250 range, copper was selling at around 60 cents a pound. So commodities themselves were at much, much lower rates. And the inflation that we got from all the money printing that took place, that really manifested itself in an asset bubble in the stock market. So Greenspan was much more free (and the Fed itself was much more free) to slash interest rates dramatically. Well, fast forward to where we are today, where you have gold prices at a little over 600, crude oil prices at 56, copper in the upper $2 range – they don’t have that same leeway. So what they need to do is they need to cover. And as I said last year, they needed to hammer the commodity markets and hit them hard before the Fed can go on pause. They need to do the same thing with the commodity markets: they need to hammer gold, they need to hammer energy, they need to take some of the base metals down and take that down. In fact, on the day you and I are talking, John, one of those Fed governors came out with the open mouth committee and said the very same thing. He said you’re not going to see headline inflation drop dramatically until we see oil prices drop further. And when you see these kind of events that take place: for example the day after Christmas, where they take out an oil platform, or Iran tells us to go fly a kite, and oil goes from being up a buck to being down $1.50; or the first day of the New Year you see two back to back days where they take the price of oil down $3 because people came to the conclusion, “oh, it’s warm outside in New York so I’m selling off.” You know, that’s surface noise. What they need to do is to take these commodity markets down, take out all the speculation; force people out of the markets, where you have hedge funds unloading their contracts, you have endowment funds unloading their contracts. This takes the commodity complex down. That is going to be a precursor in preparing the market for a disinflation-deflationary type environment that creates the cover for the Fed to begin lowering interest rates. So this kind of stuff where you see the oil markets trade on data that if you look at it and examine it closely…[8:14] JOHN: You know it would seem that the oil markets are trading on sort of a flaky speculation (which really isn’t the right word), but they’re trading on data like they take a look, “oh it’s warm in New York, global warming, everything’s ok, no worry about oil.” But you remember Evelyn Garriss was talking about in the first part of the Winter, through December would be pretty mild in most parts of the country, with a big hit coming up towards the end part of it. And it would seem like it we’re moving in that direction. And even that the markets are moving on this kind of flaky issue rather than looking at the whole global oil market – supply, demand and other related issues – this is really strange. JIM: Well, that’s background noise. That’s giving the cover in terms of what they’re doing. As I said last year, they needed to take the commodity markets down. The way they hit it hard between Christmas and the end of the year and the beginning of this year are two back-to-back days; and also, I figured they were going to hit the gold markets too as they were hitting the oil markets. That’s creating some of the prep work that we’re going to have. Because if you look at the fundamentals in oil, if you look at inventory levels they’re meaningless, a lot of the numbers are made up. The more important figure (as I brought up in the roundtable) is the days of inventory supply are down to about 21 days. That’s because you can’t just look at a gross inventory number today, you have to take a look at what that inventory buys us in terms of usage today versus what it did 5 or 6 years ago – and we’re consuming more oil in this country and we’ve done that every single year. So it takes a lot more oil, so those inventory figures are declining. Our US crude oil stocks are also declining; our domestic production is also declining. So if you take a look at all that…And you’re right, John, people are saying, “wow, it’s warm in New York,” and that’s what’s going to determine what the price of oil is globally? Granted, the United States consumes 25% of the world’s oil, but I don’t think warm weather in New York is affecting oil consumption demand in China, India, and in Asia right now. So these are all sort of the background noise of what is irrelevant that is often given sometimes: “Well, the price of oil is down. Why did it go down?” “Oh, it’s warm in New York.” “Ok, that makes sense.” That’s sort of the background stuff that doesn’t make sense. [10:42] JOHN: It also reflects the herd mentality you and I are always talking about: people rushing back and forth with the latest and greatest breaking news. JIM: And that’s the thing that you have to look at when you’re doing investment research. And I want to get back to Dominic’s question, and also the gentleman that asked the question about Ken Fisher: what is the one thing that you can find that the rest of the market knows? And the market would have you believe it’s going to be a warm Winter, and we know Evelyn Garriss forecasted a warm first half, and then finishing out with a cold second half for Winter. And what you have to look at are what are the underlying demand fundamentals in the market. And you have to take a look at that and say, what are the assumptions the markets are making today and what is true or what is false? And these assumptions about oil demand destruction, slower economy, we’re going to consume less oil, warmer weather – all those kind of things – are some of the assumptions I think the markets are making that are absolutely false. But it doesn’t matter, in the short term that’s what the markets are trading on. But in the long term this is what’s going to create some of the great opportunities. [11:54] JOHN: Well, last year you were talking about first the gain, and then the pain – which is really a bummer because a lot of times the people who get the gain are not the same ones that take the pain. But why don’t you summarize here what you think is going to happen? JIM: I think what we’re going to see in the first 6 months of the year are the disinflation theme. You’re going to see 3 things – and I think these 3 things all need to happen for the Fed to go on pause. Number one, you are going to see asset deflation across the board. You’re going to see the stock market go down, you’re going to see asset classes across all categories begin to go down; and that’s going to start creating deflationary fears. The second thing you’re going to see is a further acceleration in the real estate downturn as subprime lenders get into trouble, as the adjustable rate mortgages come up for resets here this year – because I think there’s a trillion dollars. So you see a further acceleration on the downside in real estate. The third thing that needs to happen is you need to see a rapid deceleration in economic growth. So you start seeing asset markets deflate, real estate, stock market etc.; you start seeing real estate begin to fall apart – as some of the Fed governors were concerned about in the last FOMC meeting. And then a further downward trend in these economic numbers, and they start coming and you start seeing corporate profits come in weaker in the first quarter. You start seeing some of the downward trends in the leading economic indicators – the ISM numbers really start to go into downturn. And then when these 3 things happen you then set the stage for what I call reinflation. So the Fed needs to have the financial market behind it when it goes to reinflate because if you didn’t, you would have the bond markets saying, “wait a minute, you’re saying there’s no inflation.” You have to have the bond market concerned about credit defaults, default swap premiums starting to increase, credit spreads starting to increase, and you have to scare the pajamas off the bond market. And when you have Paul McCulley go on CNBC and say, “Benny, Benny, Benny! Save us,” you will know we are getting ready for that turning point. And the second half of the year is going to be the great reinflation effort where the Fed begins cutting interest rates. The markets will respond and you will get asset nominal values of assets really start to increase. So this year, the first part of the year, is disinflation. Look for that theme to start coming out. I saw it in the Fed minutes from December when you had 2 or 3 Fed governors talking about how they were worried about the trends in economic growth – and I’m talking about trends, I’m not just talking about one weeks data or 2 weeks data. They were worried about what was going on in real estate, the way that was unfolding. So you already have about 3 Fed Governors (they wouldn’t mention them) that were concerned enough that they were saying, “hey, the language that we need to come out with accompanying this meeting is, hey, we could cut rates as well as raise rates depending on if these trends go forward.” But we know the Fed is creating inflation by keeping the money supply amply supplied to the financial system – they have to do that. [15:32] JOHN: So to look at the entire year as we may possibly go – first of all, we see at the beginning of this year, in reality we’re tailing out the prediction from last year (first gain, then pain). So, we get a little bit of pain. There’ll be disinflation, followed by another round of reinflation. If we were to take a time machine and go forward to December, take a snapshot of the way everything is, what would that picture look like? When we’re sitting there a year from now, what will we be seeing? JIM: Definitely a higher stock market in nominal terms. The Dow is definitely going higher by the end of the year – and I want to make that distinction. I think there is a very good possibility by the end of the year you could see the S&P 500 hit a new record, not so much for the NASDAQ. So I see higher nominal values in stock prices. I see higher oil prices from where we stand today; higher gold prices; higher silver prices. And I think the place to be besides that…And we’ll get into this in terms of investment themes (I’m going to bring a new investment theme to the forefront here that I think is going to unfold here in the next not only couple of years but I think you’re going to see this unfold over the next 10 years)…but the large cap growth stocks are going to be some of the places to be. I think we will, looking at GDP in nominal terms, avoid a recession in the sense that we may get down to a ½% economic growth, or maybe 1% economic growth by the 4th quarter. But when you consider in real terms the way they jerry-rig the inflation numbers we’ll be in a real recession but in nominal terms we will not be in a recession. [17:17] JOHN: I think you better explain that one, Jim. JIM: The way we measure GDP is we take the gross value of all the goods and services that are produced each year, but we also have to take out the inflation rates. So we come up with this inflation rate and we subtract the inflation rate from nominal GDP to get at real GDP growth. Well, the problem is we grossly understate the inflation rate. So if we were looking at what the real inflation rate is, which is probably 7 to 8% today, we’re already in a recession. We won’t report it as a recession in terms of the way we report GDP. So when I take a look at where we might be at the end of the year, we might be at ½% or 1% growth rate in the economy in terms of the way the government reports it, but in real terms on main street we’re going to be in a recession. [18:18] JOHN: And maybe that’s the difference that we need to explain to people. You know everyone’s saying the economy is doing so great, why isn’t it going so well for the little guy? That’s the dichotomy that people hear. It’s like talking two different languages. JIM: Yes, when you see these idiots that go on TV and talk about the core rate of inflation. I can’t find anybody out there that lives by the core rate of inflation. John, you’ve got a couple of kids in college, wouldn’t you love to pay the core rate of inflation on your tuition? JOHN: Yeah. JIM: You know, or your groceries or your when you’re visiting your doctor. That stuff is just propaganda. It’s stuff that we put out there and it’s not stuff that’s real on Main Street. And I think that was one of the things I personally misjudged last year when I was looking at the outcome of the political election. I don’t think that Democrats that won and took back both Houses of Congress did so strictly on the Iraq issue. I think suddenly underneath surface the average person out there is finding it harder and harder to make ends meet because inflation and taxation are eating into their real wages, and they’re having a harder time. They’re going deeper into debt to make things meet, whether it’s credit card debt or home equity extraction and those things. And I think those are some of the pocket book issues that were bubbling below the surface that nobody really wanted to talk about because you can’t have somebody come out and say, “you know, these CPI numbers aren’t real.” You don’t see that. [19:53] JOHN: I’d love to see that. It’s a fantasy of mine for someone to say, “this is garbage.” And we all know it’s garbage, and you guys keep talking about it. JIM: You know there’s only one time and this was regarding the Social Security Trust Fund, and it was in the November elections, and I think it was Brit Hume and they were talking about the Social Security issue because Bush had brought up Social Security. And somebody said, “the Trust Fund.” And I think it was Brit Hume, “well, everybody knows there is no Trust Fund.” And I thought, Wow! And my jaw just about dropped watching that. Finally, somebody is telling people the real truth out there. And like I said, I almost got lock jaw when I heard him say it. But you know it was quickly glanced over, and it was probably the only time I’ve ever seen it brought up in the media. [20:40] JOHN: Every once in a while it slips out. It goes out under the radar. JOHN: Now back to the Q-Line. 1-800 794-6480, it’s open 24 hours a day to take your calls. Hi Jim, this is Howard in New Orleans. I am trying to buy Fergusson’s book and I’m trying to buy Parrson’s book, and they’re both over $500. I was wondering if you had any interest in starting Financial Sense Publishing company. Maybe you could republish those books and you have all of us a captive audience. I’m pretty sure you would make a profit. Anyway, just an idea. JIM: Great idea. Gosh, I’ve got so many things going on, I wish I could. You know, keep going to the used book market. Every once in a while you’ll see those books out there. I forget what I paid for mine. I think I paid like 50 or $75. But keep looking, every once in a while you’ll see one of those books come out and you’ll get it at a cheaper price. [21:38] Hi Jim, this is David from Los Angeles. I just had to share with you a headline from the business section of the Los Angeles Times on Thursday, December 28th 2006, that made me laugh out loud: “wages are expected to rise 3.5%. The projected 2007 gain is likely to outpace inflation, but healthcare costs may blunt its effects.” Thought you might enjoy that ridiculous headline. Yeah, ridiculous headline. Wages up 3 ½% above inflation and of course, looking at the core rate of inflation, or even the headline inflation numbers, and according to that headline, hey 3 ½ is higher than the inflation rate, but then they talk of some real world things like healthcare. Great, great headline. [22:33] JIM: Plus if wages only go up 3.5%, you and I know the effective rate of inflation is 10%, therefore they’re behind already in real world figures. It’s just what we were talking about. Hey, Jim and company, really enjoying your program. I’m right there with you on everything but there is something that has come up that I think I actually say that I disagree with you on. and that is as far as taxing oil companies, I think the government has supported and subsidized oil companies a lot over many years, and that’s contributed to making oil and gas prices a lot lower which helps to continue the addiction that we have. And then there’s the fact that these queues are finite, and we’re running out of them, and are polluting – you know, they’re killing us with their pollution. So I think there should be some kind of penalty fee or tax on them to pay for or either the clean up of the pollution and/or the support of alternative energies. Plus, there’s the fact that I’m in that field and there’s no question in my mind that if we had even half of the amount of resources that has been put in to the support, subsidizing, build out of the infrastructure and everything else of the oil and gas industry that we would easily be running this country –everything – on alternative pollution free energies and paying about the same or even less than what we’re paying now, and saving huge amounts in everything from no pollution which would also contribute to lower healthcare costs – a huge domino effect. Another thing that you mentioned is one day we’re going to wake up and then there’s going to be chaos everywhere and I believe that day is coming as well. One thing that I haven’t heard you mention is that probably the best investment that everyone can make on a smaller incremental basis and that would be something that everybody needs and is probably going to go up in cost as much as anything, so it’s also a great investment, and that is food storage. There’ll probably be a day when things are getting tight, or as you say things could shut down for a short period of time, maybe a day or two, maybe even hours. So that is probably the best first most important thing everyone could be doing is having at least a few months to figure a supply of food. [24:30] JIM: Well, I’m going to disagree with you on taxing oil companies because they do need depletion allowance because they are depleting an asset. You may be surprised to find out on a gallon of gasoline, and I think it was BusinessWeek that did this story after Katrina and Rita – no, in fact it was Fortune, I think – but they took a gallon of gasoline and they took a look at how much the refiners made, how much the company that found the oil made, the transporters, the people at the gas station. The biggest profiteer on energy is government through taxation – various forms of taxes that they impose. You know, I’m going to disagree with you on that. In terms of alternative energy, I couldn’t agree with you more, I think we need to be doing more of it. But you know, you can’t do it: you can’t put up a wind farm in California, heaven forbid it might be unsightly, you might kill a bird. About the only thing we can do here is solar and I think we need a crisis before we get to the alternatives. I agree with you on the food storage concept. I was talking to my brother-in-law, who transports gas to Phoenix, and he was saying that Phoenix has a 7 day supply of gasoline – rather scary when you think about some of these inventory numbers. But the whole concept of peak oil, I don’t think people have thought that through in terms of what it does to transportation and also what it does to the production of goods. [25:54] Hey, Jim and John, this is Ed calling from Toronto. I’ve been listening for a couple of years and looking forward to probably another several years of listening. I’ve got a unique problem and wanted to get your input. I’m going to be in a situation where I’m going to have to take on about $300,000 of family money to invest. And I’ll have to pay the debt servicing on this money of 5-6% on it, and invest it. And I don’t know exactly what to do with the money. What asset class would you recommend? I would like the money to be able to pay for all or a significant portion, maybe not necessarily all initially, of the debt servicing fee. But I do have to place this money. I do see this as a long term investment. All the potential financial turmoil you’re predicting is a big concern of mine, so options are primarily in the Canadian market but I would look to the US markets as well, but you know, large caps, energy trusts, or even real estate – maybe a combination. So I’d like to get your take if you had this problem. How would you allocate the money? Ed, I don’t like the idea of borrowing money to invest. I don’t know you didn’t give me enough background on that situation, and I don’t know what your cost of borrowing is. Hopefully, it’s fixed, if this has already taken place. I’m not sure how this circumstance arose, but I would look at the Canadian energy trusts that are paying obviously more than what you would be paying for borrowed money. I would look at maybe some alternative energy plays; companies that have dividend yields that are equivalent or equal to what you’re paying in interest costs or, with companies that maybe are close to it that have a track record of increasing dividends so you’re going to get more income to cover your debt servicing costs. But generally, I’m opposed to borrowing money to invest. [27:59] Hi Jim, this is Andrew, I’m calling from Victoria in southern Australia. I have a question concerning the build up of copper inventories. I know that on the show you’re very fond of saying that there aren’t warehouses full of base metals out there, so there’s no reason why their prices shouldn’t continue to rise. This week the International Herald Tribune published an article concerning an increase in inventory which apparently has reached their highest levels since March 2004 on the LME. I’d appreciate your comments on this. JIM: You know there’s a story about copper where basically a lot of it was being taken off the market through hedge funds, and you’ve seen copper weakness here. I still see base metals going up longer term because if you look at the problem with base metals, and it’s structural, you have two things: you had mining companies that did not go out and explore for replacing what it was that they were producing through a two decade long bear market – that still exists today; you also have in terms of the demand side an industrializing developing world in Asia , China especially, and India – and that trend of that industrialization process is going to continue and that will mean consumption of metals. Will we get soft spots? Will we get pull backs along the way? Absolutely. And what I see right now is one of those pull back periods. But over the long term they haven’t found a lot of mines to replace. You’ve got deficits in a lot of the base metals – just take a look at zinc inventories which would be one that comes to mind; look at oil inventories – that comes to mind; and some of the other base metals that are very important for building infrastructure. [29:51] JOHN: And when we get to the part of the Big Picture every week, at least when it involves the topics we have covered this week on the program there is always the magic question: if I were Johnny Investor, where would I be putting my money right now? – Given the scenarios that we have outlined which will probably play out during the year 2007. JIM: Looking at one of the broader themes, and taking the theme of disinflation then reinflation, I think that as the economy begins to slow down, as the dollar eventually weakens, that’s going to play in favor of large growth comp |
