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Bailout Crisis - What Happens Next

Politics / Credit Crisis Bailouts Sep 25, 2008 - 04:06 PM GMT

By: Justice_Litle

Politics

Best Financial Markets Analysis ArticleWithout further ado, here's a quick tour of the five things you should know...

1) The bailout is one of staggeringly massive proportions.
As I write to you in the wee hours of Monday morning, prior to my transatlantic flight, the number being bandied about for the size of the bailout is $700 billion. Keep in mind, too, that this is an opening number. It doesn't necessarily include relief for upside-down homeowners, strapped consumers, foreign banks or many other potential “extras” that could be added to the tally.
And yet, all by itself, $700 billion is a breathtaking number. How breathtaking, you ask?


  • $700 billion is more than four times the cost of the Savings & Loan bailout in the late ‘80s and early ‘90s.
  • As Dan Herszenhorn of the New York Times points out, $700 billion is “more than $2,000 for every man, woman child in the United States.”
  • The bailout is roughly equal to what has been spent (so far) on the Iraq war and more than a year's annual budget for the Pentagon.

What's worse, the terms of the bailout give the Fed and Treasury unprecedented power. In a single stroke, America has trashed its reputation as a bastion of free-market principles... possibly beyond repair.

It is so bad, in fact, that the finance minister of Italy is making fun of us.

“Greenspan was considered a master,” Italian moneyman Giulio Tremonti says. “Now we must ask ourselves whether he is not, after bin Laden, the man who hurt America the most. … It is clear that what is happening is a disease. It is not the failure of a bank, but the failure of a system.”

2) You will still be able to go short.

A lot of questions have been swirling around the shorting ban proposed by multiple countries.
The UK has banned shorting until January. Australia has banned shorting entirely. The SEC in the U.S. has temporarily banned shorting on nearly 800 financial stocks. Other countries are getting in the act, too.

This knee-jerk reaction to the crisis is utterly stupid and pig-headed. But rather than go on a rant and risk missing my plane, here's what you need to know: You will still be able to go short via the use of options.

In America at least, many stocks are still shortable outright. And even for those on the “banned list,” they haven't outlawed the purchase of put options -- option contracts that allow an investor to profit when a stock goes down. So don't worry about that aspect of things. In spite of the ferocious rally we saw late last week, versatility will still be a virtue in this market. You'll still be able to go short.

3) Global growth is still the place to be (as opposed to U.S. exposure).

If you thought last week's rally in the Dow and the S&P was impressive, you didn't catch an eyeful of what happened in emerging markets.

It was the biggest move in 20 years for many markets, with Russia and Brazil leading the way. While the Dow booked gains in the neighborhood of 3%, a number of other indexes (like Brazil's Bovespa) picked up triple that.

The long and short of it is, global growth is still the place to be. The U.S. still has to deal with a belt-tightening consumer, even if the beleaguered and battered banks have now gotten a free pass from Uncle Sam... But with coordinated central bank efforts and new cash flooding into markets all over the globe, it's much more likely to be “back in the pool” global growth stocks.

We've seen evidence of this, too, in Safe Haven Investor , the newsletter I recently took over as editor. On Monday I recommended a high-quality South American growth stock with a fat dividend yield. That pick is up more than 10% from our buy price in less than 10 days.

4) Savers will be punished.

The sad fact is, this bailout is all about saving borrowers from themselves and punishing risk takers in the process. If you were leveraged up to the eyeballs and loaded to the gills with debt, then the Paulson-Bernanke plan is a godsend... like a helicopter coming to pull you off the roof of your house as the floodwaters sucked at your ankles.

But if you actually avoided this whole mess by shunning excess risk and keeping a good amount of cash in the bank, then guess what -- it's upstanding citizens like you who get to pay for the whole thing. The money to make the bailout happen will ultimately come from one place: the pockets of the American taxpayer.

Some will say it's not necessarily a given that the taxpayers will lose money on this bailout deal... that it's possible everything works out and that the $700 billion doesn't go up in smoke. Maybe we'll get our money back, or at least a portion of it.

But the people who say that are also the ones who never thought we would get here in the first place. And it's hard to see the difference, in principle, between a Bear Stearns or a Lehman Brothers assuring me I'll get my money back vs. Uncle Sam doing the same thing. Shouldn't it be up to you and me to decide who we write checks to?

As the dollar craters in the coming months, and the cost of living rises, savers will continue to be punished. Money in a mattress is decidedly no good at this juncture. Cash is most definitely NOT king, in the sense that paper money just gets more and more worthless when the printing press is chugging away like there's no tomorrow. That's what it's doing now.

5) Invest or go broke.

“Invest or go broke” might be a harsh way to put things, but these are harsh times in more ways than one.

By pledging to crank up the printing press and bail out everyone in sight, Paulson and Bernanke have ginned up a paper tornado of sorts. Think of the crazy action we saw last week, with the markets down hundreds of points and then flying sky-high on news of the bailout.

There is an old saying, “In a tornado even the turkeys will fly” -- meaning even lousy stocks will go up in the right market conditions. Right now we could be headed into a scenario where everything but the kitchen sink catches a bid, with paper asset inflation swamping all other conditions.

This is a very dangerous environment to be in for holders of cash and money market funds. Costs of living go through the roof, too, and the meager returns on interest bearing accounts can't keep pace. This is the type of environment Marc Faber talked about when he said (paraphrase) “Sure the Dow can go to 20,000... But if that happens, gold will go to $6,000.”

When the turkeys are flying and paper asset inflation is roaring, you almost have to be in the game -- and invested in the right things -- just to keep the inflation monster from eating everything you own.

That's all for now. Time for me to make my mad dash for the airport. Let me know your thoughts, and maybe together we can map out a course for what to do next: justice@taipandaily.com

By Justice Litle
http://www.taipanpublishinggroup.com/

Copyright © 2008, Taipan Publishing Group

Justice Litle is editorial director for Taipan Publishing Group. He is also a regular contributor to Taipan Daily, a free investing and trading e-letter, and editor of Taipan's Safe Haven Investor, which helps guide readers to new global investment frontiers and safe harbors.

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