Our most important post EVER

Just to elaborate more on our twit from May 2nd on the 10 year bond http://twitpic.com/1kbg6d. When many commentators, including Pimco’s head Bill Gross, were calling for rates going above 4% we suspected that there would be one more “flight to quality” as thing once again got “more bad”. Again, the reasons why this happened are obvious now after the event.

Sometimes an Elliott Wave count can give you much more market insight without ever looking or listening to news. This is why we also recommend that client avoid news when making trading decisions if they are unable to distinguish between what is important from the noise.

If you had listened to the biggest bond trader in the world you would be down 20% since the yield was at 4%. Our Elliott Wave count was that the first major wave up began in Jan. ’09 and ended in April. We expected a wave Two, ABC correction to take place and last for a few months as indicated in the above twitpic. Our target levels were between 2.75% and 3.25 % (basic Fibonacci retracement levels). It now looks like we could get to below the 3% even though this looked like an unlikely event only a few weeks ago.

We then go into the most impulsive wave and this is where the meltdown will occur. First the media will say a rise in rate is due to the economy become “less bad” and there is again a demand for risky assets. However the real reason will be that investor realised they jumped out of the frying pan and into the fire. Nobody will want the long end of the US curve and what happened in Greece is just a precursor to how quick and impulsive wave 3 can be.

Heaven knows what interventions Governments will try so it may be difficult to make money on this demise. Of course if you own this product at these yields get the hell out. However, most are held by institutions in our hard earned pension funds. This is where “Joe Public” really gets ripped asunder.

Rates on T-bill MAY remain low as the second last flight to quality. It won’t take much of this bond money to drive the price of gold and silver into the mania bubble phase we discussed here http://vimtrading.blogspot.com/2009/06/compare-gold-in-1970s-to-2000s.html and here http://twitpic.com/1oy34q.

It’s not a pretty picture but now is the time to batten down the hatches and stop listening to all those “experts” and “economists”.

When Credit is Flowing

Here we will try to show the facts that the Global Financial Crisis was due to monetary and credit expansion gone mad and dispel the idea that it is the savings of other nations that has caused it. In our previous blog “Get Credit Flowing” http://vimtrading.blogspot.com/2010/04/get-credit-flowing.html we claimed that LOANS CREATE DEPOSITS WHICH CREATE LOANS WHICH CREATE DEPOSITS. Figure one shows just how much this expansion has happened. Whether we look at just the paper money in circulation or broad credit the expansion has been between 6.8% P.A. and 8.8% P.A. Exactly how this happens is not as important as to what the consequences are. We got to keep in mind that the ECB has a target for inflation of under 3% and this inflation figure (CPI in Ireland & HICP in Euro Zone) is what is used to calculated wage and pension increases and now decreases.

Figure 1. Euro Money Supply in Billions of Euro

Figures from www.ecb.int/pub/mb/html/index.en.html
M0: Currency in circulation
M1: Currency in circulation + overnight deposits M2: M1 + Deposits with an agreed maturity up to 2 years + Deposits redeemable at a period of notice up to 3 months M3: M2 + Repurchase agreements + Money market fund (MMF) shares/units + Debt securities up to 2 years

To keep this as simple as possible we will look at M0 which is all the Euro currency in circulation. From the beginning of the Euro in 1999 there was €343.8 billion in circulation and 11 years later there was €806.2 billion which is an increase of €462.4 billion or 8% per annum. If it had increased by just 3% PA the total amount would be €475.9 billion.

So we will say wages increased by 3% PA in line with CPI or a total compound increase of 38% over 11 years but the amount of Money in circulation increased over 3 times faster. Some may argue that we need more money in circulation because the euro zone has expanded and has a larger population. This may be true but the population has only expanded by 13 percent. The per capita increase of currency in circulation has been 108%. So for ever €100 you were earning in 1999 you should be getting €208 just to be keeping up with per capita currency printing. This does not include that one has 11 years more experience under their belt.

By just looking at figure 1. and reflecting on ones own situation it is easy to see that something just doesn’t add up. For most the thought may be “the amount of money per capita has gone up by 108% but I am not getting my share.” Also, if I’m not getting it, who is? We have answered some of the question one may have in previous blogs.

Henry Ford stated “It is well enough that people of the nation do not understand our banking and monetary system, for if they did, I believe there would be a revolution before tomorrow morning.” This system can only work with continuous expansion. By allowing write off of debts the above figures would contract. While it looks bad for Governments to bail out the main culprits they know the alternative of a total collapse would lead to revolution. In simple it is a pyramid scheme and the majority of us are on the bottom leg. Because not enough of the money has fallen to the bottom we can’t sustain the scheme and government will try to “get credit flowing”. Bailout may work this time, but in the end it will go the way of all pyramid schemes.

GET CREDIT FLOWING

It has been three years since the Celtic Tiger party topped out. Since, we have the same discussion and blame game with the same commentators who are offering nothing new and are not highlighting the real cause and effect. The public are getting tired and sadly with all this coverage are feeling more confused.

We will go back to the analogy of a big party that many use to describe the Celtic Tiger. We went on a massive CREDIT bender and in mid 2007 the party stopped. When we woke up with this killer hangover to the shame of the thing we got up to during this party we were left with many options. To name a few, we could take the pain with the knowledge that we would come out the other side stronger and wiser. We could take the easier option and go for “the hair of the dog” which had often eased the pain before. Of course there are also loads of quack solutions to ease a hangover but what is important to remember is that is was doing the dog at the party that caused the problem.

It is widely discussed that Credit was the drug of choice at this party however what is not widely understood is that this was a synthetic credit. Economist would have you believe that this credit was money borrowed from the saving of thrifty Germans. This is only mildly true as their saving may have been the base for this credit. In the fractional reserve, central bank controlled fiat money system that exists LOANS CREATE DEPOSITS WHICH CREATE LOANS WHICH CREATE DEPOSITS and so on until the credit expanded faster that the wages that are used to pay back the principle and the loan. In a world where language is used to confuse rather than enlighten this is loosely called INFLATION. In a nutshell investment banking is a licence to print money. Again money and credits are interchangeable term that experts have difficulty in drawing the line between.

This system is CREDITISM. Like Capitalism and Socialism this ideology works well on paper. If you have a steady growth of this credit, say up to 3% P.A. it can go on for ever and a little morning after stimulus cure will work ok for the minor excesses. However since the introduction of the Euro there has been over 8% monetary and credit expansion P.A. which came to an abrupt halt and now Governments and Central Bankers are trying to get this party started.

See ECB Monthly Reports www.ecb.int/pub/mb/html/index.en.html

Diagnoses and Cures
Governments and the financial industry know the illness is self inflicted creditism but are disclosing it as free market capitalism gone mad due to lack of regulation and enforcement. Their cure is stimulus of synthetic credit and more regulation which is seen to be vigorously enforced. Many main stream economists also mistake Creditism for Capitalism. The difference being, Capitalism requires savings and a natural outcome of a society being more productive is a reduced price of goods. Creditism also allows for productive gains however due to an increase supply of credit it takes more and more money to acquire goods.

If we were to take the cure for excesses and poor investments in Capitalism and apply them to Creditism you would get a total wipe-out of deposits and a total inability for those indebted to pay down their debts. The idea of just protecting deposits is not a Capitalist solution. As was highlighted earlier, many if not all deposits are created from loans. For example if a dump site in Dublin was sold for €450 million, the buyer puts up €50 million of their savings and borrows €400 million. This €400 million loan is created by increasing the broad money supply (it is not the saving of thrifty Germans). The seller of the site now gets their €450 million which they put in their deposit account known as M1. The broad money supply increases by €400 million as does the amount of money on deposit. Should the seller not also lose out if this system breakdown? This is the bulk of deposits while the saving from earnings that is used as a case against this radial cure is just pittance. As the debts are wrote down or wrote off there would be a dramatic reduction in the money supply. Some of the outcomes of using a Capitalist cure for Creditism problem in the Euro Zone would be a strengthening of this currency against other pairs that chooses a stimulus route (why? because less Euro will exist). Also bonds rates would go up and countries as well as corporations would find it difficult to roll over debt and issue new debt at reasonable rates. All goods and services including public services wages would collapse. Ideologies would quickly move from the centre to the extremes. The happy medium that we have experiences since WWII would be over. Knowing this the wise Politicians that we call thick are going to do all in their power to “GET CREDIT FLOWING”. In Ireland changing government is pointless as other main parties’ ideology is also in the spectrum between Corporatism and Creditism. The rest are in extremes that have already proved themselves as utter failure.

The key is to understand that the problem is not the use of credit but the reckless expansion of monetary and credit supply. Now that this has blown up we need to see why there is a massive effort to “GET CREDIT FLOWING”. With this knowledge the debate can move to what are really the best solutions to the problem and how best to prevent it from happening again.