Friday, April 13, 2007

4/13 When Leading Fund Mgr Talks, Do People Listen: “biggest housing price decline since the Great Depression”

Apr 13 (Econotech FHPN)--“The one thing they [investors] shouldn’t go anywhere near is a CDO or residential mortgage-backed securities rated triple-A by Moody’s and S&P because these securities are going to get downgraded by the hundreds of billions because they are secured by sub-prime and Alt-A mortgages where there’s going to be massive defaults … most of them appear to have been sold to hedge funds and foreigners and pension funds. Interviewer: Who owns them? Heebner: No one wants to talk about it … They [hedge funds] buy a pool of mortgages that yield 8%, and they borrow against the yen and pay 3% [a yen carry trade], and they lever it ten to one, and so you have a lucrative profit. The hedge fund that you’re running, the manager gets 20% of the gain. So even if you go a year before you go broke in the hedge fund, you get rich until the thing gets shut down. So there’s a huge incentive to gamble recklessly here in the hedge fund business … They [largest investment banks] created, they invented this machine. They’re the ones that came up with the idea of securitization. They know the products are toxic. I don’t think they’re going to suffer losses. They simply passed them on to everybody else ... The only impact [on the i-banks] this will have when it shuts down is that the profits flow from it will get less … So, they know the product is toxic; they’re not going to get caught [financially]. Interviewer: And basically you think they’ve disposed of all the risk. They created it, they made their fees, and they got rid of the risk. Heebner: That’s right.” Kenneth Heebner, manager, CGM Realty Fund, Bloomberg video, Apr 12, my transcription

“They [investment banks] know the [mortgage securities] product is toxic; they're not going to get caught,” Kenneth Heebner, Co-Founder, Capital Growth Management

Heebner, a very experienced mutual fund manager, is one of the tiny handful of the absolute best out of many thousands. According to the Bloomberg video, his CGM Realty Fund had a 5-year cagr of 30%. CGM as a whole manages more than $6 billion, so this is real money, not economists’ forecasts.

I.e., when Heebner talks, serious financial people listen. He’s not a permabear. In fact, despite his strong views on the residential real estate market that I quote in the next section below, he said he currently doesn’t think this will lead to a U.S. recession.

“Heebner, manager of the top-performing real-estate fund over the past decade … co-founded Capital Growth Management in 1990 … known for making concentrated investments in a few industries. He sold homebuilders after owning them from 2001 to 2005, record years for home sales. He bet against technology and telephone stocks in 2000, correctly timing their collapse.” Bloomberg , Apr 12

On April 4 I posted an article titled “When Citibank Chief Exec Talks, Do People Listen: ‘A market correction is coming, this time for real’” link. Likewise, Heebner also has very important comments on real estate prices, which follow in the next section.

I chose to lead with the above quote because I wanted to focus first on the issue of the hyper-speculative nature of global capital markets, who wins, who loses, a major theme of my web site link. That issue is also taken up below with respect to private equity.

Heebner says that the creators of the “toxic” mortgage products, the largest investment banks, i.e. the Goldmans and Lehmans of the world, will not be the losers. They almost never are. Their motto for the rest of the world could be the proverbial, "Heads I win, tails you lose."

"would estimate that housing prices in '07 will decline at least 20% in a lot of markets from where they are today ,” Kenneth Heebner, Co-Founder, Capital Growth Management

"I think it’s not only sub-prime, I think the Alt-A mortgages are going to default on a huge scale also … As we get a large amount of these two and half trillion of mortgages going into default … You’re going to see foreclosed houses dumped onto an already weak market where homebuilders are struggling to sell their spec houses. And so the price declines that have started will continue and maybe even accelerate in some of the hotter markets. I would estimate that housing prices in '07 will decline at least 20% in a lot of markets from where they are today … What you’re going to see is the biggest housing price decline since the Great Depression … The consequence of this is going to be a big decline in housing prices … … housing prices in the inflated markets, that’s California, Arizona, Nevada, Florida, and parts of the northeast, they have to decline a lot before it’s attractive to buy rather than rent … They’re [mortgage losses] going to dwarf those [Resolution Trust – S & L crisis of the early 190s] losses … It could easily approach a trillion dollars. That dwarfs anything that has happened. Enron was a hundred billion dollar loss, this is going to be far greater than that.” Kenneth Heebner, manager, CGM Realty Fund, Bloomberg video, Apr 12, my transcription

“a new Bloomberg/Los Angeles Times poll … Most Americans remain sanguine about home prices, the poll showed, with more than half expecting homes in their neighborhood to hold their value over the next six months. Twice as many respondents said home prices will increase as those who predicted a decline. A majority said slowing home sales nationwide will hurt the economy.” Bloomberg, Apr 11

Here's the link to the full Heebner Bloomberg video, a short ad appears first, and at times it has been unavailable.

“The overarching question is why public companies can't do the same things [as private equity] to create the most value,” Michael Mauboussin, Legg Mason strategist

In addition to mortgage-backed securities, CDO’s, etc, that Heebner discusses above, private equity and m&a continue to be key issues in the global financial markets, with m&a reaching $1 trillion in the first quarter, a record on pace to top last year’s nearly $4 trillion.

Here is a recent comment on private equity from Michael Mauboussin, the highly regarded strategist for Legg Mason (e.g., see reviews of his books on Amazon at link and link):

“The overarching question is why public companies can't do the same things [as private equity] to create the most value. That hasn't been satisfactorily answered by many executives. If there are ways to create value, why aren't they doing those as public companies? Why do they need to be private? Those are concerns that should weigh on public shareholders … That's the right word: incentive. Two things in particular make these transactions attractive to an executive. First, often the ownership stake or equity stake of the executives can rise quite a bit. They're more leveraged to the success of the operation, so they stand to do better financially. Second, there may be corporate actions, asset sales, downsizing or other capital allocation decisions that managers may feel are truly in the best interests of the value creation for the company, but there's a perception that making those moves as a public company would be unpopular. That's a perception, not a reality, but perception is important. So when you go to an executive and say the prospects are for you to have more skin in the game and do very well financially if this works out, and to have more latitude to make tough decisions, that's the one-two combination that draws executives.” Legg Mason strategist Michael Mauboussin, printed interview, MarketWatch, Apr 4

Mauboussin’s points seem somewhat similar, though more polite, than those I made in my Dec 19 article, “World Needs Better ‘Face of American Capitalism’ than Private Equity, Goldman Sachs” link. In short, private equity is a leading symptom of massive under-investment in real innovation and productive capital:

“my main criticism of private equity and the rest of the global hyper-speculators, such as hedge funds and investment banks like Goldman Sachs (mainly a very large hedge and private equity fund), is the economically unproductive ways in which they “earn” their extraordinarily high returns on leveraged legal looting (ROLLL) … If all this shareholder value enhancing was supposedly done by CEOs already, then after two decades of it, what could possibly be the role of private equity in now supposedly greatly providing even more of the same? However, if public companies haven’t enhanced shareholder value by such draconian actions and now need to be wholesale taken over by private equity, then the whole system of “free capital markets” and corporate governance that the ex-Goldman Sachs U.S. officials mentioned above are trying to persuade China and the rest of the world to adopt was perpetrated for the benefit of the very few who have become unfathomably rich. Even if the day of reckoning of the current immense wave of private equity deals were continued to be postponed another year or two, this unproductive use of capital already has greatly distorted global capital market flows, corporate incentives, and thus corporate allocation of scarce and critical resources, especially all-important human talent.”

“Income inequality grew significantly in 2005, with the top 1 percent of Americans … receiving their largest share of national income since 1928, analysis of newly released tax data shows … The new data also shows that the top 300,000 Americans collectively enjoyed almost as much income as the bottom 150 million Americans.” NYT, Mar 29

I doubt this enormous concentration of income and wealth in the top 1/10th of 1 percent can be adequately explained by educational levels without significantly accounting for the effects of unprecedented unproductive global hyperspeculation.

Of course, love him or hate him, Jim Cramer can be counted on to be brutally frank and honest, more so than any other recognized name on Wall Street. Here’s his recent take on private equity:

"They [private equity firm Cerebus Capital Management] have to break the union. The key strategy behind everything they’re doing is to crush the unions. That has to happen … the Goodyear model is the model for Cerebus … Cerebus is a very smart company. The lynchpin of the strategy, I believe, is to break the union … I’m pro-union, I’m against manipulation." Jim Cramer, "Wall Street Confidential" video, Mar 29, my transcription, on Cerebus' strategy in the U.S. auto sector.

This is a very old story, several decades old, that’s almost finished, union busting came into vogue at least as early as one of Pres Reagan’s very first acts as president in breaking the air traffic controllers strike (emulating the City of London's Margaret Thatcher).

Very Brief Update on Global Financial Markets: Risk of "Volatility Shock"

In my Apr 4 article link, I noted: “each [global major index] etf has rebounded from the decline that started at the end of Feb and is now nearing or at its previous high. Should they take out those highs, especially EEM [emerging markets], perhaps in another manic run along with rising commodities like last April, this might then trigger another sharp decline, like last May-June.”

For now, that scenario seems to playing out, especially in the continued enormous speculation in China’s equity markets, now up more than 50% this year, and any commodity that feeds into China’s economy. I also noted the recent loss in relative strength in India’s equity market as a possible cause for concern, and that also continues.

I also noted there that updated data plugged, by a major investment bank, into a leading economic indicator developed by a Fed researcher, while not yet signaling recession, was well on the way to doing so. Since 1962, on six of the seven occasions when it has reached the March level, it then went on to continue moving up through the signal threshold and correctly forecast a recession (when the indicator was at this level in early 1984, the threshold was reached but not breached, hence the indicator has correctly forecast 6 of 6 recessions, with no false signals).

I would like to add two things regarding this. First, as I’ve discussed elsewhere (e.g. the section "Why I Like Charts and Leading Indicators" in my Sep 26 article, "Global Markets Hope 'Mid-Cycle' 'Soft Landing,'" link) while I greatly prefer leading economic indicators to economic model forecasts, since the latter usually miss the turns, I much prefer charts to both, trying as best I can to stay aligned with their main trends, as I’ve mentioned several times before.

Second, I have a great deal of respect for the work of perhaps the top provider of leading economic indicators, Economic Cycle Research Institute (link). While ECRI stopped posting a chart of its Weekly Leading Index (WLI) on its web site a few years ago, it still does post media comments, such as follows:

“”We’re hitting bottom on the economic growth and we should expect more positive surprises as the year progresses,” said Lakshman Achuthan, managing director at the Economic Cycle Research Institute … Achuthan says it’s normal to have “a lot of confusion” during this time. “We don’t have any recession here, I think those fears are largely being laid to rest by a lot of the data coming out,” he said. “But we’re still having of [sic] what seems to be a cyclical bottoming in the growth rate in the economy, and when you’re at a turning point like that, you’re going to get mixed data.”” CNBC, Apr 9

Just look at how confused Wall Street is as it flip-flops almost daily, indicated by futures contracts, on its what is the Fed going to do guessing game. My advice for a "big picture" is to follow leading indicators (e.g. Conference Board and OECD provide others), but most especially key longer-term market charts as closely as you can.

And critically, especially in periods like this with extremely low but slightly increasing financial market volatility, do NOT underestimate the very real possibility of financial “volatility shocks” mentioned here by the IMF, which markets and forecasters always underestimate (in part due to human psychological nature, part to huge vested interests), but which can do great damage to capital preservation:

“Against the backdrop of continued global growth, none of the individually identified risks by themselves threaten financial stability. However, with volatility across asset classes close to historic lows and spreads on a variety of credit instruments tight, investors may not have adequately factored in the possibility that a “volatility shock” may be amplified given the increased linkages across products and markets. Institutions may well be acting in accordance with their own incentives, but collectively their behavior may cause a buildup of investment positions in certain markets, possibly resulting in a disorderly correction when conditions change. For instance, the rapid growth of some innovative instruments, the rise in leverage in parts of the financial system, and the growth of carry trades suggest that market participants are expecting a continuation of the low volatility environment and that a sustained rise in volatility could perturb a wide range of markets” “Summary” section, “Global Financial Stability” semi-annual report, April 2007, IMF

What Private Equity, I-Banks and Hedge Funds Taketh Away, Can Philanthropy Give Back?

“Wealthy philanthropists have the potential to do more than the Group of Eight leading nations to lift Africa out of poverty, according to Jeff Sachs, special adviser to the United Nations secretary-general … "There are 950 billionaires whose wealth is estimated at $3.5 trillion [$3,500bn]. An annual 5 per cent 'foundation' payout would be $175bn per year - that would do it. Then we don't need the G8 but 950 people on the Forbes list," said Mr Sachs. "Maybe private philanthropists will champion solutions to individual problems rather than the G8," he said. He was speaking as the OECD reported last week that aid from rich countries to Africa remained static last year even though G8 leaders promised in 2005 to spend $50bn more each year to 2010 on aid, with half the rise going to sub-Saharan Africa. The so-called Gleneagles commitments were championed by Tony Blair, the prime minister, and Gordon Brown, the chancellor.” Lead article, FT, Apr 9

I have enormous respect for the almost super-human efforts of Sachs in this area, along with incredible philanthropy such as that of the Gates’ and Buffet. That said, my take on this in my April 4 article, “When Citibank Chief Exec Talks,” link:

“Rajan [ex IMF economic counselor] does make a key point that I have tried to make far less well several times on my web site, i.e. low interest rates are not mainly the result of a so-called “savings glut,” a la Bernanke, but rather also due to under-investment (I would argue massively so) in real productive assets, in my formulation to meet the needs of most of the world’s population, resulting in what Rajan calls a “financing glut,” what I consistently label global hyperspeculation. And, btw, the unprecedented amount of philanthropy directed at these needs by Gates, Buffett, etc, which is incredibly worthwhile and extremely admirable, is not enough, what I would argue is that what the philanthropists consider to be a "market failure" itself ultimately must be directly addressed as such and changed.”

Once Again, Whither China?

Since Goldman Sachs and other i-banks, private equity, hedge funds, etc, have long ago captured the global capital markets in the "developed" world, that battle is mainly being fought in "emerging" markets, most particularly China:

“Carlyle Group's bid to buy part of Chongqing City Commercial Bank will be rejected as China stiffens opposition to buyout firms, especially in the $5.6 trillion banking industry, three people familiar with the matter said …The regulator is also mulling plans to make it harder for private equity companies to purchase stakes in banks. It is the latest setback in China for Washington-based Carlyle, which was forced last month to scale back a planned takeover of Xugong Group Construction Machinery Co. The Chinese government is concerned that buyout firms seek short-term profits and don't improve companies they buy enough, the people said.” Bloomberg, April 4.

As I put it in my Dec 19 “World Needs Better “Face of American Capitalism” link:

“China is in the midst of a multi-year effort to try to reform its financial system. The U.S., led by ex-Goldman chief Treasury Secretary Paulson, is strongly trying to influence it in the direction of the American-Anglo “free market” model, rather than perhaps the more traditional Asian one of state dominated banking systems that produced remarkable results in the industrial rise first of Japan then later S. Korea, both under authoritarian regimes. China going from the huge problems of its own state-dominated banking system to the Wall St-City of London hyper-speculative “free capital markets” model would be somewhat like jumping from the frying pan into the fire, but that limited choice is the way the issue is always framed.”

And in my “Whither China?” section of my Oct 27 article “Global Strategic Bargain” link:

“Thus, with very limited domestic and international opposition, that basically leaves China and Russia left standing in the way of total global domination by the hyper-speculators, two states which the U.S. government can not currently strongly influence, to the obvious chagrin and anger of those pushing U.S. hegemony in the current hyper-speculative version of globalization (there is a good version), hence the trotting out of Paulson's and Rice's current “soft cop” approach to China. The U.S. is not really interested in “free trade," it no longer has much that countries like China seem to want to buy, except Boeings and soybeans, since as noted above U.S. industry has long since been hollowed out, as opposed to Japan's and the EU's, which are more slowly getting there, to their great dismay. Rather, what the U.S. mainly wants from China, and everywhere else, is unlimited capital mobility for its mega- global financial institutions, so it can ROLLL (again, return on leveraged legal looting) over them as they have the rest of the world. Both China and Russia seem aware of this, and their elites are playing a fascinating game with the global hyper speculators … One of the most important areas to focus on is control of the financial sector. Huge Western financial institutions have made significant investments on very favorable terms in China’s four main banks, but China is clearly reticent to give up too much control of its key financial institutions and its nascent capital markets, as with Citigroup's efforts to take a stake in Guangdong Development Bank … As it did with its industrial state-owned enterprises, China is using the club of foreign competition to do much of the politically unattractive dirty work, so to speak, to shake up its four large banks and the financial sector. In the long term, the Goldman’s will ultimately need China far more than China needs the Goldman’s. China is at the center of East Asian production networks that generate real savings/capital, which the U.S. currently does not. It is critical that China continue to channel its capital where it is needed, into China’s internal development, not into very low-yielding U.S. securities, it holds $1 trillion in foreign exchange reserves, that are just being printed up in massive amounts to control and confiscate real wealth. “

Wednesday, April 04, 2007

4/4 When Citibank Chief Exec Talks, Do People Listen: “A market correction is coming, this time for real”

Apr 4 (Econotech FHPN)--“much of the good news has come as a result of extraordinary levels of liquidity pouring into opportunities around the globe. To a large extent this is due to the Federal Reserve's expansionary monetary policies early in the decade and the US administration's fiscal stimulus. The yen carry trade has also facilitated the buoyant expansion of investments and leverage evident everywhere today. The low spreads, the tremendous build-up of liquidity, the reach for yield and the lack of differentiation among borrowers have stimulated both dynamic growth and some real concerns. Pockets of excess are becoming harder to ignore … As lenders and investors inevitably become more discriminating, liquidity will recede and a number of problems will surface … I believe that over the next 12 months a market correction will occur and this time it will be a real correction … Market developments in the past few weeks should be seen as a warning … what is clear to me is that in the next year a material correction in the markets will occur … Today, hedge funds, private equity and those involved in credit derivatives play important, and as yet largely untested, roles. The primary worry of many who make or regulate the market is not inflation or growth or interest rates, but instead the coming adjustment and the possible destabilising effect these new players could have on the functioning of international markets as liquidity recedes.” “A market correction is coming, this time for real,” Mar 29, "Financial Times" op-ed, by William Rhodes, senior vice-chairman of Citigroup, and chairman, president and chief executive of Citibank [bold emphasis added]

Is the Global Bull Market Still Intact, or Should I Sell Now?

This is the chief executive of Citibank, one of the world's largest, saying "in the next year a material correction in the markets will occur." Not some blogger, permabear, the IMF, or Morgan Stanley's Stephen Roach. (Just kidding on the last one, I greatly respect Roach's intellectual integrity, honesty, and professional courage.)

Given such authority, Rhodes' article certainly got the attention of those to whom I've shown it, followed by the understandable practical question, so, should I sell now? That’s always a difficult question, especially for longer term investors.

My web site link does not focus on and does NOT intend to give investment advice. Given that constraint, this is how I can reply here.

Throughout this 2002-07 bull market cycle, two simple basic assumptions of mine have been that, first, global market uptrends, though perhaps now increasingly vulnerable, remain still intact until clearly broken (e.g. I made that point in a number of articles in 2006, starting in my June 2 article, "Did May's Sharp Global Market Sell-off Signal a Major Trend Change," link that noted at the time that the uptrend still seemed intact), and second, that usually a major change in trend occurs with a change in market leadership.

The sharp correction last May-June was triggered by concern about rising inflation, currently market concern is about slowing U.S. growth combined with stubborn inflation. In both instances, the rising prices of gold and industrial commodities have been a good inflation concern indicator, so I watch them for clues. For signs of sluggish growth, I focus on such things as the homebuilding, retail and other cyclical stock indexes and etfs. I will discuss a few key charts later in this article.

Shorter term, meaning the next six months or so, based upon a current update of a very accurate recession predictor model developed by a Fed researcher, which I will post here if I can figure out how to cut and paste it (for the original model, see Jonathan Wright, “The Yield Curve and Predicting Recessions,” Feb 2006, pdf link), I believe that global markets are currently underestimating the chances of a U.S. recession. E.g., recently reported weakness in durable goods orders did not bode well for those hoping for U.S. capital spending strength, in case the resilient American consumer should, finally, falter.

The big risk, of course, is that should the economy, and thus job and income growth, perform worse than consensus currently expects, then real estate markets and their fragile psychology will get a much larger shock than the subprime-arm reset forecasts of 1-2 million foreclosures anticipate, and more neighborhoods will start to feel a palpable physical "contagion" of unsold and abandoned homes.

Worse yet, should the economy ever fall into that sinkhole, then it is hard to see another asset class of the same size and importance as real estate that could be massively reflated to pull it out. Off the top of my head, only a huge revamping of the economy for more efficient, cleaner energy production and consumption might do the trick. And/or perhaps an even much larger increase in military production.

Longer term, after of course the all-important preservation of inflation-adjusted capital, an important objective for many U.S. investors is to try to become diversified internationally and stay that way, since most of the growth in the world is in the emerging markets. The difficulty at this time is that emerging markets have already had huge moves, and can be very volatile to the downside, as most recently shown last May-June and this late Feb and early March.

Since this bull market has been led by emerging markets, in line with one of my key assumptions mentioned above, I closely watch EEM, the emerging markets etf, for clues. In the first quarter it became more volatile and range-bound in a consolidation of huge previous gains in the fourth quarter of 2006. Increased volatility without increased returns is always a warning flag that catches my attention very quickly.

EEM has now recovered to its previous high following the “Shanghai” sell-off that started in late Feb link . If it doesn't break out to meaningful new highs soon, then I would guess markets might become more concerned about this key uptrend.

India and some eastern European countries have nascent over-heating inflation and/or current account issues that have typically derailed emerging markets in the past. India is a key growth story, including from a U.S. geopolitical perspective. Its stock index has been lagging recently following the recent correction, and thus bears close watching as a possible negative catalyst for the broad emerging market asset class.

While China doesn't have these same economic issues, its stock market remains very extended, making new highs after a couple of very short declines earlier this year. Investors seem to remain convinced that China’s government won’t take away the proverbial “punch bowl” before the party (pun intended) congress this fall and next year’s Olympics. Despite recent top-level official Chinese policy statements in favor of more balanced, equitable, energy efficient, environmentally sensitive growth, the risks that come with a very strong export-led investment boom continue.

Comparison of Key Global Stock Market Indexes

The following points are based on the 4-year daily chart right below, courtesy of (left click once on it to expand), comparing etfs based on five key market indices, three domestic, SPY (black, S&P 500), QQQQ (blue, Nasdaq 100), IWM (red, Russell 2000); and two international, EFA (green, MSCI World ex US, i.e. developed markets) and EEM (purple, MSCI emerging markets).

First, all five etfs are still in uptrends according to the most basic definition of higher highs and higher lows. I've drawn in two straight uptrend lines (in brown) just to help visualize this.

Again, until these indexes seem to flatten out, break their uptrend lines, and turn down, the most basic technical rule of thumb is to give the benefit of the doubt to the ongoing uptrends continuing, as I mentioned above, but with a very large caveat, which I will state shortly.

Second, the two international etfs have greatly outperformed the two large cap domestic ones, with only U.S. small caps being in the same league.

EEM, the emerging market etf, has increased about 260% in the past four years, outperforming both SPY and QQQQ by about 4 times. And that is just the broadest index, many national emerging markets have gone up far more, not to mention the even larger gains in individual international stocks.

Third, each etf has rebounded from the decline that started at the end of Feb and is now nearing or at its previous high.

Should they take out those highs, especially EEM, perhaps in another manic run along with rising commodities like last April, this might then trigger another sharp decline, like last May-June.

Here's the very important caveat re market uptrends. Conversely, failure to signficantly take out these recent highs might lead, at minimum, to continued volatility until the global economic/financial picture hopefully becomes clearer.

Or there is a "real," using Rhodes' term, possibility that this failure would mark the onset of a major market correction that he discusses above in the opening quote. Or even, at maximum, perhaps something currently unthinkable by most but quite worse, given the huge leverage and complacency in the global financial system.

I apologize to those wanting a more definitive answer. I don't have it, I don't believe anyone does when it comes to market timing, and even if I did, I couldn't share it here, sorry.

Basic Fundamental Issues in the Current Market Environment

What are some of the key issues currently in the fundamental economic/financial picture?

Here are five of them, leaving out geopolitical stuff, which daily swings between continued poor news and some slightly encouraging positive progress (see my Feb 28 article, link "Is U.S. Slightly Inching Toward My Oct 'Global Strategic Bargain'"? and my long article last Oct 27, "Global Strategic Bargain," link).

First, the impact of the global real estate boom/bubble. This factor has dominated the U.S. financial media, so I won't dwell on it here, with the surprises continuing to be negative in recent weeks and months.

The S&P homebuilder stock index shown below, a 3-year daily chart courtesy of (left click once on it to expand), which peaked in July 2005 along with the housing market, is now well below its falling 200-day moving average (red line), testing its previous lows. Needless to say, failure to hold those lows might get the market's attention, I would guess.

Second, emerging market economic growth. Right now this is still a positive factor, once again being revised upward recently in China and developing Asia, to around 7.6% for 2007 (e.g., see Table 1.1.1. on page 8 of the new Asian Development Bank "Outlook 2007", I was not able to cut and paste it, the full 388 page report is here, sometimes a long download link) and one which financial markets have some difficulty accurately assessing because clearly this is now a much different global economy.

E.g., using the IMF's purchasing power parity weights, China accounted for 31% of world economic growth in 2005 (I don't have 2006), India 10%, and East Europe 9%, for a total of 50%, vs U.S. 15%, Eurozone 4% and Japan 4%. That is a dramatically different world than the one most American portfolio managers have spent their careers in.

In the most recent week, U.S. domestic steel production is running at a 100 million ton annual rate. China's is 475 million tons. Leaving aside economic and energy efficiency issues, there is an almost insatiable demand from China and other emerging markets for raw materials, energy, etc. Furthermore, light sweet crude oil has been getting much harder to find for more than four decades now (helping uranium stocks, which have been one of the biggest winners since 2000).

Even Europe is getting in on the act recently. According to the lead story in the Apr 3 FT headlined “European bourses eclipse US markets by value,” “the last time Europe eclipsed the US in market capitalization was likely to have been before the first world war.”

Btw, as a very broad generalization, most American fund managers, especially private equity and hedge, under 50 simply have no practical conception of an industrializing, or even an industrial, global economy, it's completely alien to their professional experience and deeply entrenched personal biases, which not surprisingly tend to view economic wealth creation through the distorted lens of massively unproductive paper asset inflation.

Third, private equity and m&a deals. While I consider these to be, both economically and morally (two sides of the same issue), incredibly wasteful high ROLLL (return on leveraged legal looting, see my previous articles, e.g. Dec 19 "World Needs Better 'Face of American Capitalism' than Private Equity," link), global financial markets view them as a huge positive factor. Global m&a deals reached $1 trillion in the first quarter, a record, and there seems to be no sign of slowing down.

Fourth, ultra-low long-term interest rates and credit spreads continue. This has been the support of everything above, global real estate, private equity and m&a deals, emerging market and all other valuation issues, etc. The failure to come to grips with this has been a major problem for bears.

Fifth, earnings growth. This very important fundamental factor often almost seems a secondary issue in the media compared with some of the others I just mentioned. In the U.S.., consensus earnings growth estimates are now projected in the mid-low single digits in the first and second quarters, after a string of 14 consecutive quarters of double-digit growth. Moreover, recently all S&P 500 earnings growth has been accounted for by the financial sector (again ROLLL, return on leveraged legal looting).

It is the global capital market's focus on ROLLL in this cycle, rather than on anemic real productive spending for global development that has been the big missed opportunity (see my recent Mar 5 article, link, "Potential Larger Implications of Volatile Financial Markets").

U.S.-Centric and Global World Views

Rhodes says in his op-ed quoted in my intro to this article, “During the last big adjustment that started in July 1997 in Thailand and spread to a number of Asian economies including South Korea, followed by Russia in 1998 - and led ultimately to the bail-out of Long Term Capital Management, the US hedge fund - a number of today's large market operators were not yet in the mix.”

This comment may strike many American investors as anomalous, since Rhodes skips over the huge 2000-2002 bear market, in which many lost a great deal of money, with the S&P 500 declining -48% and Nasdaq -78% (it is still more than 50% below the peak).

I don't know why Rhodes omitted this. Regardless, most Americans simply have no idea how devastating the so-called Asian financial crisis that Rhodes alludes to was to those countries, and the sea change in their view of western financial institutions that resulted from it, nor how close the global financial system came to a meltdown in the Sep-Oct 1998 LTCM hedge fund fiasco.

That is mainly because at the time the U.S. mass media was pre-occupied with the GOP impeachment of Pres Clinton over lying about sex during that critical period, all Clinton, all the time, for or against.

Now the roles of the two major parties have been reversed, and the issues discussed often more substantive. Now it's all Bush, all the time, for or against. Nevertheless, for the rest of the world, the key issues seemingly do not revolve predominantly around Iraq, Iran, Israel/Palestine, etc., as important as they may be, almost to the exclusion of everything else, as one might believe from the American mass media news.

For the developing nations, the issues seem to revolve more around the ones discussed in Rhodes’ article. Major financial players intensely focused on where the growth is in the global economy know that.

As a parallel to the current media pre-occupation with Iraq and Iran, as I’ve mentioned before, back in the early 1970s, the American mass media and hence public was pre-occupied with getting out of Vietnam and Watergate. Meanwhile, the “Bretton Woods” monetary system was dramatically changed with huge historic consequences that all but a microscopic handful of financial experts were aware of at the time.

By focusing so exclusively on what is happening in the Middle East, a critical region to be sure, the American mass media is subordinating the story of perhaps the greatest economic transformation, in terms of sheer scale, scope, and speed, in human history going on in China, India and elsewhere. And the American public is missing out on some tremendously uplifting Asian success stories, compared to the steady stream of depressing news coming out of the Middle East.

On "Charlie Rose" on PBS, a show I greatly enjoy, the Israel-Palestine conflict, a century-old tragedy which now directly impacts about 10-15 million people including Palestinian refugees, gets far more coverage than China and India, with a combined 2.4 billion, around 200 times as many.

If the tv show “Are You Smarter Than a Fifth Grader” were simply to ask for the names of the current leaders of China and India, which together soon will comprise almost 40% of the world’s population, out of 100 Americans, excluding Asian Americans, global business people and academics, how many would know? In comparison, how many urban middle-class in China and India, with incomes still far below the U.S average, could name the American leaders?

Again, my point is NOT to minimize issues critical to U.S. national security nor the strategic importance of the Middle East, but rather to place them in the context of the profound historic changes in the global economy. Perhaps looking back a few decades from now, that will be clearer.

A Few Closing Quotes With Ideas that May Be Linked

I will close with a few more recent quotes, with minimal comment, that I may take up in a future article.

“Carlyle Group's bid to buy part of Chongqing City Commercial Bank will be rejected as China stiffens opposition to buyout firms, especially in the $5.6 trillion banking industry, three people familiar with the matter said …The regulator is also mulling plans to make it harder for private equity companies to purchase stakes in banks. It is the latest setback in China for Washington-based Carlyle, which was forced last month to scale back a planned takeover of Xugong Group Construction Machinery Co. The Chinese government is concerned that buyout firms seek short-term profits and don't improve companies they buy enough, the people said.” Bloomberg, April 4.

"They [private equity firm Cerebus Capital Management] have to break the union. The key strategy behind everything they’re doing is to crush the unions. That has to happen … the Goodyear model is the model for Cerebus … Cerebus is a very smart company. The lynchpin of the strategy, I believe, is to break the union … I’m pro-union, I’m against manipulation." Jim Cramer, "Wall Street Confidential" video, Mar 29, my transcription, on Cerebus' strategy in the U.S. auto sector.

“Income inequality grew significantly in 2005, with the top 1 percent of Americans — those with incomes that year of more than $348,000 — receiving their largest share of national income since 1928, analysis of newly released tax data shows … While total reported income in the United States increased almost 9 percent in 2005, the most recent year for which such [tax] data is available, average incomes for those in the bottom 90 percent dipped slightly compared with the year before, dropping $172, or 0.6 percent. The gains went largely to the top 1 percent, whose incomes rose to an average of more than $1.1 million each, an increase of more than $139,000, or about 14 percent. The new data also shows that the top 300,000 Americans collectively enjoyed almost as much income as the bottom 150 million Americans. Per person, the top group received 440 times as much as the average person in the bottom half earned, nearly doubling the gap from 1980 … The disparities may be even greater for another reason. The Internal Revenue Service estimates that it is able to accurately tax 99 percent of wage income but that it captures only about 70 percent of business and investment income, most of which flows to upper-income individuals, because not everybody accurately reports such figures. ” NYT, Mar 29

"Venture capitalists in Silicon Valley have been searching for the next big thing in high-tech for years, but now many have switched to greener pursuits -- finding technology to help cut global warming." Reuters, Apr 3.

A little pet peeve of mine is Wall Street's labelling of "technology" to mean a very narrow, if important, sub-segment, information and communication tech. E.g., if you look at "Full Coverage: Technology," in the widely used Yahoo! News, that's all you see link.

This is not to pick on Yahoo! News, which I use a great deal. And I'm using Google's to write this. Rather, it's just to point out a mindset that is endemic on Wall Street. That's why Wall Street and Silicon Valley often think the answers to global development and poverty are cell phones, laptops and entertainment downloading.

“Almost half, or 48 percent, [of Americans in a new Newsweek poll] said they reject the scientific theory of evolution, while 34 percent of college graduates said they accept the Biblical account of creation as fact.” Bloomberg, Mar 31 (Please don't read this as anti-religious, it is NOT intended that way, but rather as pro-science.)

“Sales for a top-selling classical recording in the West number merely in the thousands instead of the tens of thousands 25 years ago. More profoundly, classical music executives say that the art form is being increasingly marginalized in a sea of popular culture and new media. Fewer young American listeners find their way to classical music, largely because of the lack of the music education that was widespread in public schools two generations ago. As a result many orchestras and opera houses struggle to fill halls. China, with an estimated 30 million piano students and 10 million violin students, is on an opposite trajectory. Comprehensive tests to enter the top conservatories now attract nearly 200,000 students a year, compared with a few thousand annually in the 1980s, according to the Chinese Musicians Association.” NYT, Apr 3