A “Palinized” Nation – No Direction, No Leadership, No Clue
Palinize:
“To avoid giving any substantial answer to a factual question, by means of cobbling together meaningless platitudes; to attempt to fool listeners and distract their attention by pandering to their prejudices and using one’s charm or attractiveness.”
America is being palinized by total lack of leadership and responsibility from both political parties on Capitol Hill. The discussion of whether the US should default on our government debt if Congress is unable to pass a budget compromise and raise the debt ceiling by August 2nd, 2011 is absurd. The result of the impasse is a gradual erosion of trust by individuals, corporations, and foreign debt holders. How did we arrive at this point of lunacy, where our leaders are actually talking about the USA defaulting on our debts? Luke 23:34: “Father, forgive them for they know not what they do.”
I think the following quotes pretty well summarize the issue at hand:
• “We’re not for increasing revenue” (no new taxes) – House Majority Leader Eric Cantor, July 6
• “No benefit cuts in Medicare and/or Social Security” (no spending decrease) – House Minority Leader Nancy Pelosi, July 7
• “Everything is on the table” (really, everything?) – President Obama, July 7
The polarization of our leaders in Congress and their willingness to substitute politics for policies has the world’s mouth agape. No one can comprehend why the richest nation in the world, with the strongest economy, and holder of the world’s reserve currency, is actually discussing default on its debt. Do we have a revenue (tax) problem, or do we have a spending problem? Clearly it is both. The following chart demonstrates taxes as a percentage of GDP and whether our government ran a trade surplus or deficit, from post-WWII to present. It does not take a rocket scientist to understand that we have a
revenue issue, in that taxes, as a percentage of GDP, are at 16.5% today, which is well below the 60-year average of 18%. Republicans who campaigned on the promise of attacking spending without any new taxes remember all too well why George Herbert Walker Bush lost re-election in 1992: his broken promise of the 1988 election, “Read My Lips, No New Taxes,” which he put aside for the good of the country in 1990.
For those who adhere to the notion we can “grow” our way out of the deficit issue by lowering taxes, I contend that you are not being realistic. Consider the following from Fault Lines: How Hidden Fractures Still Threaten the World Economy, by Raghuram G. Rajan:
“The top 1 percent of households accounted for only 8.9 percent of the income in 1976, but this share grew to 23.5 percent of the total income generated in the United States in 2007. Put differently, of every dollar of real income growth that was generated between 1976 and 2007, 58 cents went to the top 1 percent of households.”
But before the liberal spenders point too big a finger, we also clearly have a spending problem, as evidenced by the next chart.
The persistent expansion of deficit spending is irrational, short-sighted, and unsustainable. Deficit-reduction gridlock and continued default talk only encourages further flight from the dollar and diminishes global confidence in the world’s reserve currency. The inability of the President and Congress to effectively lead the country and a lack of fiscal responsibility as it relates to spending have created a high level of uncertainty in the financial markets and board rooms of corporations. The fact that corporate America is holding more than $1.9 trillion in cash/cash equivalents is evidence that we will not see reinvestment and spending by businesses until the political landscape changes.
In my opinion, the investment world has endured past performances of this sort by the US leadership but overall remains optimistic that they are going to resolve the issue of the debt limit one way or another prior to the August 2nd deadline. As Winston Churchill once remarked, “America will always do the right thing but only after exhausting all other options”. The discussions and fears of default are, in my opinion, overstated; but the markets will continue to be skittish until a resolution is found. At Excelsia, we are maintaining an allocation to cash on the off chance that Congress does nothing prior to the default deadline. Default would cause dislocations in the credit markets on a global scale, and we stand ready to take advantage of emotional markets should the opportunity present itself. As Mark Twain said, “Necessity is the mother of ‘taking chances’”. In this case, Congress makes it necessary to hold some cash.
Our government needs to resolve the budget impasse and give the investment world a sign that Congress recognizes we have a serious problem. Investors, businesspeople, risk takers, entrepreneurs, and corporations need a signal that action steps are being taken to resolve our country’s budget woes and restore the confidence that promotes investment and growth. As I stated in last quarter’s newsletter, “Financial Jabberwocky,” the Bowles-Simpson panel submitted to the President a bipartisan plan to reduce the deficit to 3% of GDP by 2015, last December. We simply need to find a leader willing to take the plan off the shelf and put it into action. Until then, the deficit hangover will continue to dampen corporate spending, keep the consumer cautious, and nudge unemployment closer to double digits.
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“I’m Back”
Just when I thought Helicopter Ben Bernanke was landing the money-printing machine, his comments before Congress on Tuesday clearly showed that the turbines are still turning and it is only a matter of time before the Fed showers the US economy with another round of stimulus dollars. In our last newsletter, where the focus was on the consequences of the Federal Reserve ending QE2, I commented:
The balance here for the Fed is to create an environment for positive returns and lower unemployment while not incurring a rising interest rate that would surely sink our country’s budget ship. This will require further market intervention, whether it is called QE3 or Stealth Bernanke.
I think the future actions of the Fed will be reactions to stock/bond market directions and our unemployment numbers. Whether the Fed calls the next intervention QE3 or simply disguises it by some other name, the Federal Reserve will not sit idle. I still believe that Bernanke and company are all in at the Keynesian game of Texas Spend ‘Em.
The economy appears to be hitting a soft patch, but corporate earnings remain robust, thus supporting equity valuations. Further stimulus by the Federal Reserve will keep our economy in a muddle through environment. On the good news front, individual households are reducing their debt load, as evidenced by the following.
From June, it appears consumer discretionary spending increased slightly, with retail sales rising 0.1%. Year-over-year, retail sales have risen 7.5%. According to Ned Davis Research, “Our measure of discretionary spending grew .4%, indicating a moderately healthy underlying consumer.”
Although financial markets have marched two steps forward, one step back since the beginning of the year, investor sentiment remains optimistic, based on NDR’s Crowd Sentiment Poll:
Markets
“Predictions are tough, especially about the future.“
– Yogi Berra
Our assumptions are relatively unchanged from my last commentary:
1. US GDP outlook remains at 2.5% – consumer spending and the weaker dollar that promotes exports remain in place.
2. Fed Reserve action was surprising in that Bernanke opened the door to further stimulus prior to Congress passing a budget. In doing so he jeopardizes further fallout of the dollar, as the world will perceive the US as having zero fiscal AND monetary restraint. However, short-term interest rates will remain low and the Federal Reserve stands ready to deal with any financial-solvency issues of the too- big-to-fail banks.
3. I still believe any euro crisis in the PIIGS countries will be diverted until 2012. Germany is firmly in control.
4. The election cycle continues to heat up. I am changing my position on government spending: it will increase in attempts to promote growth and get unemployment below the magical 8% number.
5. The Middle East remains the wild card over the next 9-12 months.
We will remain biased to commodity-driven companies and assets. I prefer some form of commodity-based currency to a fiat currency, given the propensity of central bankers to (a) keep their currencies low relative to everyone else and (b) continue to monetize their debt by printing more money.
Gold
From my January market newsletter, “Bubble Luscious”:
A brief comment on gold and its recent decline from a high of $1,421 an ounce on November 9, 2010 to $1,361 today. If you do not own gold, then take advantage of this correction to add or create a position in the metal. Why? The high for gold during its last bull market run was $850; and based on December 2010 CPI- adjusted dollars from 1980, gold would now be $2,395. If you were to use the pre- Clinton methodology for CPI calculation, then gold would now be $7,943 an ounce. Gold seems to perform whether we have inflation or deflation. If inflation runs too hot, or deflation runs too cold, the metal appreciates. The other outcome, of a “just right Goldilocks” economy, could be gold’s downside risk.
We are still long our gold position and added to it on price weakness during February, March, and April. From its July 1st low of 1482, gold has risen in a straight line to a July 13th high of 1585. This spectacular rise of 103 points, or 7% in two weeks, signals to me that gold is in need of a rest. However, as long as the Federal Reserve continues to debase the dollar and destroy purchasing power, gold and other commodities will continue to appreciate as investors seek a store of value.
The Holy Grail
“We want more from our investments than a reasonable balance between risk and return. We want to nurture hope for riches and banish fear of poverty. We want to win, be number one, and beat the market. We want to feel pride when our investments bring gains and avoid regret when they inflict losses. We want the status conveyed by hedge funds, the virtue conveyed by socially responsible funds, the patriotism conveyed by investing in our own country, and the loyalty conveyed by investing in the companies that employ us. We want financial markets to be fair, but we search for an edge that would let us win. We want to leave a legacy for our children when we are gone. And we want to leave nothing for the tax man.” – Dr. Meir Statman, “What Investors Really Want”
This profound statement from Dr. Statman reinforces the emotional conflicts investors endure in the financial markets. Every client of Excelsia retains a Written Statement of Investment Policy that is the governing document for evaluating success or failure. Rick Creasman, former president of the investment firm Lionel D. Edie and Company and long-time mentor, once asked me the question, “Cliff, how do you know when you’ve won in the investment business? There will always be someone who made more money than you. There will always be tomorrow and the risks of the unknown. So tell me, how do you know when you’ve won?” My answer: “When our clients sleep at night knowing their lifestyles are being protected and their investment objectives accomplished.” Here’s to your finding your sweet-sleep point in the ever-changing markets.
Cliff W. Draughn
President
“The fact that we are here today to debate raising America’s debt limit is a sign of leadership failure. It is a sign that the US Government cannot pay its own bills. It is a sign that we now depend on ongoing financial assistance from foreign countries to finance our Government’s reckless fiscal policies. Increasing America’s debt weakens us domestically and internationally. Leadership means that ‘the buck stops here.’ Instead, Washington is shifting the burden of bad choices today onto the backs of our children and grandchildren. America has a debt problem and a failure of leadership. Americans deserve better.”
– Senator Barack Obama – Senate Floor Speech on Public Debt March 16, 2006
IMPORTANT DISCLOSURE INFORMATION
Please remember that past performance may not be indicative of future results. Different types of investments involve varying degrees of risk, and there can be no
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