PPIP Starts to Stink that's why Gold is R.I.P.
Commodities / Gold & Silver 2009 Apr 30, 2009 - 01:03 PM GMTBy: Andrew_Butter
In Scotland the tradition is three days, in the Middle East it's one day; that's how long it takes for the deceased to start to stink.
PPIP died on 16th March 2009. That was the day that Bill Gross of PIMCO said on TV that he might (in principle) pay 80 cents on the dollar for stuff that was trading then for 30 cents (if you were lucky) http://seekingalpha.com/article/127597-geithner-s-master-stroke-the-official-end-of-the-credit-crunch; that gave the banks room to maneuver; the changes put out by FASB that allowed them to value the stuff themselves for the "stress tests" etc, without any external due diligence, did the rest.
Now the holders of those assets don't want to sell even at 80 cents and why should they, everyone knows that this is a terrible time to sell anything. And anyone investing in banks now is going in blind, there isn't enough information to assess their future earnings, the bet is (a) with the base rate so low and with people with good credit desperate to borrow, even an imbecile (and banks employ a lot of them) should be able to clean up (b) if they can hold onto the stuff that got written down, they will clean up too.
Only if the government doesn't force them to sell; the day that Secretary Geithner admits PPIP is dead, bank shares will soar.
Anyway they know that they don't have to sell; the government is not going to pull their licenses over a little argument about "how to do a valuation" particularly since they explicitly acknowledge they don't know how to do one (otherwise they would have used TARP to buy the stuff and they wouldn't have come up with the hopelessly complicated scheme to get "the market" to value them (here's a hit Mr. Geithner..IVS)). And there is no point holding a gun or a "stress test" to someone's head if you know it has no bullets in it, and more important...if you know that they know that you know.
And well, the vultures didn't do themselves any favors, OK they tried as hard as they could not to salivate on TV, but you could tell, there is something about animal greed that you just can't hide.
So bury the thing before it stinks the whole place out; it served its purpose - (it bought time and a modicum of confidence); it probably wouldn't have worked anyway, it was wide open to fraud, and the US taxpayers have paid enough to clean up this mess already. The question now is not "IF", it's "WHEN".
Moving on...
There is an argument that says that the "toxic assets" were part of the money supply in its broadest sense while they were liquid (http://seekingalpha.com/article/133838-the-two-gaping-holes-in-the-inflationist-argument). Now they are manifestly not liquid so they cannot be part of (M). That's deflationary, and lo-and-behold the prices of houses, cars, petrol, food, people to cut your lawn, and so on, are going through the floor. Could there be a connection? Hint...try joining up the dots.
There is no way anyone will buy or sell a mortgaged backed security until house-prices and commercial property start to rise, it's just too complicated to value them if you can't assume that prices will rise when you push the "RECALC" button (not that it's impossible it's just hard).
The other day I was leafing through an old manual on MBS put out by Nomura in 2006, it's about 100 pages, and there are pages and pages on what you do about the "problem of pre-payment", that's when people pay back their mortgages early which reduces the cash flow and the value (that's hardly something to keep you up at night these days), there is hardly anything about what you do to allow for the chance that some people might never pay back their mortgages.
Those things were designed for a time when prices always rose, whether you can make them work if that is not a "safe assumption", is debatable. Certainly no one ever did so far; so the "illiquidity" of all those assets is a pretty safe bet for some time; house prices won't bottom until end 2009 at the earliest - mark my words to market...15% still to go (http://www.marketoracle.co.uk/Article8126.html) (and by the way when I said 40% foreclosures that was a joke (I thought it was funny)).
So until the Fed and/or the Treasury finds some other way to shovel taxpayers money into some un-deserving pockets, the deflationary effect of freezing all that "liquidity", will be more deflation. Sure, expect to see a surge in inflation once they start to unfreeze, then perhaps Gold can have another rally, particularly if the Fed decides to repeat all the mistakes it made creating the last bubble (and which was why gold more than tripled in price from 2000), but that won't happen until next year, if it does.
Sometimes doing nothing is the hardest part
What fundamentally has to happen is that investors have to start to believe in the system again (and they were pretty foolish to believe in it before, at least since 2000), and that will take more than Secretary Paulson standing up in public and making a fool of himself like he did last July ..."The US Banking System is a SAFE and Sound One".
You can lose trust in a millisecond; it takes longer to build it. Investors have to believe in valuations put out by banks (and the performance of FASB is taking that process backwards not forwards (Hint IVS let the professionals do it for a change)), and the taxpayers have to believe that the government won't waste their money protecting criminal cartels in Wall Street and building bridges to nowhere - like what happened in Japan.
A good start to that would be to let ONE bank go down, and put at least ONE banker in jail, right now the elected sheriff in this small town looks suspiciously like he's in the pocket of the bad guys, perhaps what's needed is a little more "no more Mister Nice-Guy".
Where does the smart money go?
Until someone comes up with a plan for another mad helicopter drop, even if the dollar goes down, gold looks risky. Gold benefited from the inflation that resulted from increasing the money supply by creating "counterfeit" money - which is what toxic assets were.
Real money is either backed up by a promise to change the note into gold, or by a promise from the government to exchange the note for some unspecified goods or services at an unspecified place and at an unspecified time, which sounds risky but the government has the ability to tax the population so you trust it can honor it's obligations....eventually.
Those "toxic notes" were not backed by gold or by the government, they were backed by a collection of promises by ordinary Americans that they would pay their mortgages; that's something else and it is now abundantly clear that that promise was worth a lot less than gold or even a government promise (if that's possible).
Putting fake money into the system, (fake is something that isn't what it says it is on the box), is inflationary, so gold and house prices rocketed - both of those are protection against inflation, they are a liability in deflation, which is what happened when the realization dawns that half of the "money" in your retirement fund is fake.
Where then?
Looks to me that any company that has got a manageable level of debt and enough reserves to tide through the dramatic fall off in demand, is a steal right now; and forget about trailing P/E that's just a red-herring, the issue is the future, and forget about the crowd of short sellers and gold-bugs desperately trying to talk the market down. If I read another explanation by Nouriel Roubini or anyone on Seeking Alpha about how the mother of all crashes is just round the corner I think I'm going to vomit.
But don't expect a bull, for that to happen inflation has to come back, but even if the stock market just shuffles sideways, in deflation that's a winning bet. This isn't going to be a "trader's" market and good riddance, sure parasites have a value in the real world, but when they take over the body, you can get real sick; just "Buy in May and Go Away".
The only wild card is if the government decides to let one of the banks go down. That would certainly concentrate minds and clean things up, until then well PPIP is just an empty gun and a lot of hot air, and gold is on it's way down.
By Andrew Butter
Andrew Butter is managing partner of ABMC, an investment advisory firm, based in Dubai ( hbutter@eim.ae ), that he setup in 1999, and is has been involved advising on large scale real estate investments, mainly in Dubai.
© 2009 Copyright Andrew Butter- All Rights Reserved
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