Russian (World) Roulette

"According to the Wall Street Journal, economic experts now fear there may be a second recession: A second recession? When did the first one end?" -- Jay Leno (he must have become a subscriber of mine?)

"It ain't what you don't know that gets you into trouble. It's what you think you know for sure that just ain't so" -- Mark Twain

AN OLD CONUNDRUM

Even though Greece is being referred to as the next Lehman, most have no idea why the Lehman bankruptcy caused the financial disaster that it did. Then as now, the media aren't really delving into the situation because they don't really understand it. There is talk of a "Lehman moment" without a good description of what makes it possible. With more than $600 billion in assets involved, the Lehman bankruptcy was one of the largest in history. And yet it was not the size of the bankruptcy that caused the problem. In fact, I am almost certain that Hank Paulson (Treasury Secretary) thought that letting Lehman fail was the right thing to do. Within 24 hours of Lehman's demise, Paulson and Bernanke realized they had made a terrible mistake (exactly the same one as the FED did - letting the Bank of America fail in 1930).

"COMPLEXITY"

What made the Lehman failure a disaster of catastrophic proportions was the tangle of complex aftershocks that followed, such as the freezing of all Lehman assets in London, which in turn froze all the hedge funds, money management firms, brokers and banks that had assets with Lehman when they could not liquidate, cut their losses, take profits or get at their funds. Then Lehman was also saddled with 100s of billions of dollars of derivatives (the dangers of which I had been warning about for years) with funds, banks and traders all over the world. All of a sudden everybody trusted nobody and wondered who would be next to go under. It was the FEAR of the possible consequences of out-of-control complexity unleashed by Lehman's failure that brought the crisis to a head.

Getting back to Greece and the rest of the "PIIGS", the generally understood fear is that a Greek default could lead to a "domino chain" of other defaults. If Greece goes down, so will Portugal, Ireland, Spain and maybe Italy and what about all the interlocking banks and brokers - this could make it "game over" for the Euro Zone. But that is not the only way disaster can strike. What is frightening is that, just as with Lehman, there are other ways the whole financial system can melt down - like "Credit Default Swap" (CDS), which is a form of insurance against a debt obligation going bad. It was the indiscriminate selling of CDSs that blew up AIG. Today, just as with AIG then, American banks have sold hundreds of billions in CDS insurance to the European banks on their bond holdings of Greece and the rest of the PIIGS. Should Greece or any one of the other Euro Zone countries default, American banks could fail as well. Would the U.S. taxpayers then have to bail them out again? More importantly, could the government muster the votes to bail them out?

But it's even more complicated than that. In a desperate attempt to avoid the domino chain effect, France, Germany and the ECB (European Central Bank) are trying to engineer a "default without a default." They are hoping to pull a legal trick on the markets by getting private creditors to "voluntarily" roll over their Greek debt so that the conditions of a default are technically not triggered. The trouble is, even if they succeed in this ruse, the financial system could blow up anyway. Would the European banks that bought the insurance that suddenly becomes worthless -- canceled out by a legal trick - accept this ruse lying down? Would it not then cause a "run on the banks" just as Greek banks are now beginning to experience? American banks could then see their troubles mount when their aggressive CDS sales to Europe -much like AIG'S -- comes to light. Now you may understand why the banks have not participated in the latest rally and why they are not lending. Their balance sheets are not credible.

Last, but not least in the complexity department, there are the multiple parties that would ALL have to agree to any solution no matter what happens. Alongside the Greek government, one must now factor in the Greek populace as well as France, Germany, the European Central Bank, the International Monetary Fund and the ratings agencies. And of course, the International Swaps and Derivatives Association (ISDA), which is the official ruling body who determines what a "default" is or isn't -- deciding whether a CDS contract is payable or not.

With every step Europe takes, the situation seems to grow more complicated and the stakes are getting bigger, not smaller. The intercontinental snarl of complexity again puts the world financial system at risk because the wrong disagreement at the wrong time threatens to unleash new waves of chaos and confusion, which in turn could hurtle the American and European banking systems and perhaps the whole world into a complete lockdown. Anyone for Gold?

Unfortunately I don't see any short term resolutions Every time there is a celebration of another episode of "kicking the can down the road," the tangled web just gets bigger. If Greece jumps through the proper hurdles to get its next bailout check, the stakes will be even higher come the following round (in 3 months or so). The same ultimately applies to Portugal, Ireland and the like. "Delay and Denial" simply build toward an even more explosive conclusion.

It is my guess that at best "There will be blood in the streets" in Europe resulting in violent upheavals, and currency movements in the streets and in politics.

Will Greece soon start killing its citizens? Everybody is in revolt since nobody wants to pay the price that one way or another must be paid. The only question is by whom? My belief is that the Europeans will all kick in a little money and delay any tough decisions for a couple of months, solving nothing and the whole thing will start again. That is the trouble with a Godless Socialist Society; they have no one to pray to.

More and more policemen are coming to the square along with ever increasing numbers of protesters who keep throwing things and yelling at them. "We shall not stop until this government listens to our concerns." But their concerns are well known throughout Europe. No one wants to pay for their free ride.

The main problem is that every government in the West, in their desire to get re-elected, has been giving in to its unions and citizen's demands for more and more "FREEBIES" to the point that what little remains of Free Market Capitalism can no longer pay for all the incestuous largesse granted to their employees and supporters. This is all a sign of things to come throughout western Democratic Socialist economies. Eventually the "Kicked Can" finally comes to the end of the road.

Yet the majority of Analysts/Economists are all still uber bullish, thinking that each stopgap measure is a solution - BUT WE KNOW BETTER.

QE TO INFINITY

Quantitative Easing will continue for obvious reasons. Many were outlined in my last two articles. In one way or another, QE2 will continue seamlessly, extending beyond the June 30th deadline. It probably will not be called QE3 or anything else. The Fed will just keep buying Treasuries and the Treasury will just keep printing, but is likely to eventually include Municipal Bonds. Later, the entire financial initiatives will morph into a Global QE since all major central banks will face the same plight. For a time, they will all purchase US Treasury Bonds in order to avoid a world wide financial collapse. The credibility of the US Federal Reserve has undergone major damage - shortly to be totally destroyed. The factor ignored by many analysts is that the US Fed's balance sheet has expanded recklessly and galloping inflation is its unavoidable end game.

TAKE HEART

Although Europe's problems will soon jump the ocean and show up on America's shores, the US itself is, for a time, "too big to fail." Even though we are a major debtor to the world, especially China, for a time we are still the issuer of the world's only reserve currency.

If one country owes another country 2 or 3 or more trillion dollars, which country is truly over a barrel?

Meanwhile, a rift has grown between Germany and the European Central Bank (ECB). Germany, fed up with the endless "kick the can down the road" games, wants some sort of debt restructuring. But why is Germany willing to risk systemic default with its aggressive stance for what, on the surface, appears to be a small amount in the big scheme of things? Because they know that the fiasco will never end -- unless someone makes it end. If a line is not drawn in the sand with Greece, then the same troubles will come up with Portugal, then Ireland and eventually Spain and Italy. The public is refusing to keep paying for the PIIGS' lack of responsibility and excessive spending. Most important is the desire to get re-elected and the German, like the American taxpayers will not go along with any more bailouts.

The REAL problem is Socialism and nobody wants to admit that they have so weakened Capitalism over the last 75 years that it has been bled dry. We may have reached Socialism's inevitable end of the road.

THERE IS NO SUCH THING AS A FREE LUNCH: That, along with the Laws of Supply and Demand are the first things that we're supposed to have been taught in 1st semester economics. But the few who took economics were too busy exercising their new found freedoms and chasing the opposite sex, to have learned these two most important laws of life. So until someone says, "Nein", nothing will get better. I have re-read my 1st year's economics text book. Let this come to a head here and now so we can fix it properly before the world degenerates into WORLD WAR III.

It is not just Europe that is staring into the jaws of crisis. In the United States, the speed and severity of the housing bust has recently been confirmed to be "worse than during the Great Depression". Jobless claims remain high and rising. Various economic indicators have come in at disastrously low levels. And most egregious of all, the absurdities of both political and union benefits are making headlines just as the government's piggy banks are stuffed with IOU.

WHAT TO DO NOW?

A CNBC poll of 17,000 people asked if they had confidence in Ben Bernanke. Ninety-eight percent (98%) answered they had no confidence. The real economy is in a tailspin and the stimulus is being revealed for what I have been telling you it always was; a smoke and mirrors mirage. It has left legions of bullish investors holding a portfolio full of overvalued stocks bought with RECORD AMOUNTS of MARGIN, in a market that is potentially 40% overvalued. Nevertheless, look to "Sell" your long positions into the next 200 to 300 point rally and get into cash and buy Gold and Silver and their stocks into any further weakness.

CHINA

Don't be looking for salvation from China. Over in China, things are not much better. Riots and protests are picking up. Food inflation and wage demands are becoming increasingly violent and the Chinese property market is showing signs of topping. China's epic boom is now in the same place, roughly speaking, as America's grand boom was in late 1920's. For America, things got so hot that the Federal Reserve had to slam on the brakes. Rates were hiked sharply again and again to quell America's roaring 20s speculation -- just as the Chinese government is seeking to do now. Quell all the massive speculation that low rates and easy credit always creates.

World War I helped America to become stuffed with surplus cash, just as the American CREDIT spending spree flooded China with greenbacks today. Just like the US in 1928-29 tried to control massive speculation (10% margin on stock), brought on the '29 crash... the same thing is happening in China today. In spite of all the massive socialist programs, the '29 crash happened anyway -- as it will in China.

To add insult to injury, the U.S. financial industry is leveraged to both China and Europe in ways that are reckless and appalling. In leveraged purchases from equities to commodities, money managers are betting heavily that China and the Emerging Market's unprecedented boom will continue. And word is that American banks have sold hundreds of billions worth of CDS (credit default swaps) exposure to European banks at inflated prices -- not realizing who the true sucker will end up being. Will it once again be the American taxpayer?

It is no great comfort to me that events thus far are playing out pretty much as expected. That's because I expect things to get much, much worse. The great Spring 2011 precious metals consolidation is coming to an end. But in no way is the Quantitative Easing program coming to an end any time soon; otherwise known as hyper monetary inflation. Printed money is being abused to cover bank insolvency and to redeem toxic bank assets.

I APOLOGIZE

Because of my Economist background and my over zealous concentration on the ever worsening fundamentals, I completely overlooked the OVERIDING long and Intermediate Cycles of Economy and especially the Stock and Bond Markets. Every Bull and Bear Market must run its course and I became just as blind as all the analysts I was criticizing. "This time it's different" was not different for them nor was it different for me either. Markets must be allowed to play themselves out; both as to time and amplitude. The market should have broken down months ago, but it didn't. Market sentiment and the general level of FEAR turned from record bullish levels to near record bearish levels in less than 5 weeks, which is not good if you expect a continuation of the BEAR. It seems that the markets still have a ways to go both as to time and amplitude. And the band keeps on playing (Titanic?)

SOMETHING IS DEFINITELY WRONG

The long and medium TERM cycles must play themselves out. I was hoping the DJII would have one more 200 to 300 point selloff, giving us a chance to take some profits (in the meantime we kept our stops tight). It looks like we are headed for that one more breakout rally, both as to time and price, maybe to as high as 1500 on the S&P 500 lasting into October - December to complete this cyclical bull market and snap the jaws shut on thismulti century Bull Trap market top.

In April 2011, when our latest cyclical bull hit its best levels, the SPX was only at 1364. This was almost 10% under its average secular resistance level, not quite enough to kill a major cyclical bull. Stated another way, price should rise from its latest April peak, maybe another 10% to hit its maximum overbought target of S&P 500, 1500 and time wise to November 2011 to January 2012 to reach this Cyclical Bull's major long term terminal TOP. Hitting such a major termination resistance would almost certainly signal the resumption of the Secular Bear, which would be only Wave 3 down leg to the Secular Bear Market that we are in. As you all know Wave 3's are never the shortest and are usually the strongest. To make matters worse, this time around, I will be looking for a multi-generational 80 year Bull Market Top.

HOW NOW DOW

Friday's decline may have been strong as far as points go, but it was not commensurate as far as the internals go. The 10 Day Average Advance/Decline Line actually increased for both the Russell 2000 and the NYSE: New 52 Week NYSE Highs rose sharply from 28 to 49 and were larger than New Lows. Plus the decline came on lower volume. To top off my fear that it is still too early to expect a substantial selloff, we are facing a downside bullish non-confirmation between the Industrials and Trannies.

I now believe that six weeks down seems to have been enough to put in a significant bottom and a multi-week rally has begun, with a S&P target in the 1,400 to 1,500 range, which should be enough to Snap Shut the Bull Trap of the Millennium. Stay Tuned.

Corrections bottom just when everyone expects a new Bear has begun. Having been stopped out of all my shorts for the umpteenth time, I am a little shell shocked. So I am reluctant to tell you to go long now, even though intellectually I know it's the right thing to do.

If the rally has started, it will be strong enough to suck in the last of the buyers including the shell shocked bears. It will not be led by the previous darlings, like GOOG, AAPL, AMZN, etc. It is most likely the time for the deeply oversold quality dividend paying stocks. But I am not willing to play this last Rally or to make buy stock recommendations For the time being, I am using my money to accumulate oversold and under valued Gold and Silver stocks as well as Bullion with the full confidence that it is just a matter of time for us to be right.

GOLD

We are being presented with a gift horse to beat all gift horses. The shenanigans going on in Europe and here in the US are nothing but a sham, which solves absolutely nothing while exacerbating the problems every time it's done. If you listen to the Wall Street Analysts and Media, they can't seem to see past their own noses as the problems spread around the world. We have all witnessed the riots that "austerity" generates both in Greece and here at home. Just wait and see what happens when REAL austerity is forced upon the workers.

The Bank of England looks increasingly likely to maintain its ultra accommodative monetary policies. Interest rates may continue to remain at multi century lows and the BoE will once again be forced to PRINT more money to buy government debt. I wonder what Soros is doing about that?

The European investors are clearly flocking to Swiss banks and their pursuit of Gold is enormous. Euro Zone Central Banks have been Net Buyers of Gold in 2011 for first time since the inception of the Euro - while global Central Bank demand for GOLD has increased by over 43% so far in 2011. Rest assured, the Gold price will rise and break out soon enough. My long term targets still remain $6,250 by 2017 and $1,750 by the end of this year or early 2012.

I will be sending out my PM shopping list this weekend.

GOOD LUCK AND GOD BLESS

If you need cogent analysis and clear reasoning; if your time matters as much as your investments, then UNCOMMON COMMON SENSE is the service for you. My job is to find you the best of the best, making sure your radar is pointed at the critical issues and weeding out all the noise so that you can make an informed decision.

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UNCOMMON COMMON SENSE
Aubie Baltin CFA, CTA, CFP, PhD.
2078 Bonisle Circle
Palm Beach Gardens FL. 33418
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