Horror Story

The economy burns while Washington fiddles—and what our chosen representatives and the administration are fiddling with is not the great American job machine, which, as June's downright putrid employment report demonstrated beyond cavil, badly needs cranking up. Instead, they are laboring unstintingly on how to plug the deficit gap by such smarmy tactics as changing the way inflation is reckoned to make it easier to stick it to the geezers.

Social Security and vets' disability payments are tied to the cost of living, and, in their infinite wisdom, the politicos have concluded that the current gauge overstates inflation. No less an authority—and we can't think of any less an authority—than Oklahoma Republican Sen. Tom Coburn is quoted by Bloomberg as saying: "There hasn't been any economist anywhere that says we shouldn't do that." The senator obviously needs to get out more.

For the life of us, we cannot remember any sober being in full possession of his faculties believing that the Bureau of Labor Statistics has ever overstated—and we must stress overstated—inflation. We have our reservations about the number crunchers, but none of them to our knowledge has exhibited an irrepressible urge to commit occupational suicide.

It's not the first time, of course, that Washington has sought to tackle the thorny issue of inflation by manipulating how the cost of living is calculated (elimination of food and energy when they were rising vigorously, remember, gave us "core inflation," which just happens to invariably lag behind plain old inflation).

Understand, we hold no brief for the particular yardstick Uncle Sam uses to measure the cost of living. Quite the opposite: With something approaching glee, we've passed along, from time to time, John Williams' blistering critiques of it from his perch at Shadow Government Statistics. However, John's take is that for decades, the rise in the cost of living has been greater than the official measurements indicate. It's just that we think such silly tinkering is symptomatic of how much at a remove Washington is from what's happening to the economy (and just about everything else, for that matter).

The atrocious June job numbers bring that disconnect into sharp relief. Although the incurable bulls strained to put a smiley face on the report, prattling on about a soft patch and trying to change the subject to the second half of this year, which they naturally envisioned as a period of quickening recovery, unimpeded by the absence of stimulus, the continuing drag of a bum housing market and a dismal job picture.

Give us a break. Which, come to think of it, is just what the bulls may get, but not, needless to say, the kind they're looking for.

THE STREET SOOTHSAYERS WERE A TAD OFF in their prognostications, anticipating a rise in payrolls to around 125,000. In fact, a grand total of 18,000 jobs were added. That was the feeblest increase since September of last year, in case you're keeping score. Moreover, the two previous months were revised downward, by 29,000 in May and 15,000 in April.

And if you add the 131,000 slots plucked pretty much out of the thin air by the BLS's birth/death computer models, what our friends Philippa Dunne and Doug Henwood at the Liscio Report dub "an unspinnably disappointing report" becomes even more disappointing. The private sector generated 57,000 jobs, while government at all levels subtracted an aggregate 39,000.

The unemployment rate edged up to 9.2% from May's 9.1%, and would have been a bit higher but for the shrinkage in the labor pool, which occurred likely as not because more folks without a job got discouraged and stopped looking for one. Even working stiffs had something tangible to beef about: Earnings in June fell a penny an hour, and the workweek contracted as well.

As Philippa and Doug comment, there were "no consolations in the household survey," which showed a loss of 445,000 jobs, and, even adjusting to match the payroll concept, was down a not-inconsiderable 401,000. They note with some dismay that the rise in unemployment was most emphatic "at the extremes of the duration spectrum, which includes those jobless five weeks or less at one end and people out of work for 99 weeks or more." They call the increase in the ranks of the newly unemployed especially "alarming."

What we find alarming as well is the rise in U-6, which includes both the unemployed and underemployed, to 16.2%, from 15.8%. This all-inclusive category hasn't been so high since back in December.

And while there are roughly 14 million people out of work by the usual count of unemployment, there are, uncomfortably, some 25 million by the U-6 measure.

That translates into an awful lot of unhappy people. And, if nothing else, we have a hunch that many of them may decide to vote come next year's election. Consider this a heads-up to any stray pol who can read the report without making his lips tired.

THE ESTIMABLE DAVE ROSENBERG, Gluskin Sheff's man about markets and economies, calls the employment report a "mega reality check." Like Philippa and Doug, he views the jobs tally as "horrible…not just the headline but also the details." And it casts severe doubt, he feels, on the popular notion among many economists and strategists that the lag in growth in the first half of the year can be blamed on myriad transitory factors.

Obviously, Dave says, last month's consumer-confidence surveys were so weak because of the crummy job market, which, we might add, somehow seemed to elude the ken of any number of economists and strategists. And the dismal employment situation reflects in no small way why the private sector is hiring so gingerly.


Pure and simple, business is jittery about the macroeconomic outlook, "especially with the Fed fading into the background and fiscal policies swinging from stimulus to restraint."

While, he allows, employment picked up some earlier this year, the uptick was largely in response "to the psychological effects of illusionary prosperity" inspired by the monetary and fiscal largess unleashed last fall. As it emerges, these stimuli gave the economy a "brief sugar high, with no lasting multiplier impact."

Now the policy cupboard is bare, and "we can see what the emperor looks like disrobed. It's not a pretty picture."

The economy, Dave goes on, is in a very fragile state. Which isn't all that surprising since it still bears the scars of the credit and market collapse and the Great Recession that accompanied it.

However, historically, such ugly episodes—and there are quite a few slumps and crashes in the postwar period—are not typically followed by recoveries as flaccid and as pathetic one has been.

Particularly rare is to see an economy that's supposedly well into recovery produce the likes of a puny 18,000 monthly job gain. For a recovery worthy of its name, Dave contends, celebrating its second anniversary you would expect employment to rise more on the order of 180,000. It's hard to overlook that missing zero in Friday's headlines.

Scanning the gory details of the data, Dave notes that the total of unemployed in June swelled by 173,000 and exceeded 14 million for the first time this year. Including discouraged workers, the pool of available labor soared by 483,000 to 20.6 million, which works out to seven people vying for every job opening. The normal ratio is close to three.

The logical question, he writes, is what are the prospects for a rebound in July? Not great, he says. In the June report, virtually all the tell-tale indicators of what's ahead—temp hiring, the decline in the workweek, since "hours tend to lead bodies," and the revisions, which have a habit of feeding on themselves—were negative.

In his summing up, Dave points out that: "Here we are, two years into an economic recovery, and the level of employment at 131 million is actually lower than it was in March 2000. At this stage of the cycle, what is normal is that payrolls are making new cyclical highs. This time around, barely 20% of the recession losses have been recouped."

He scoffs at the "myopic attention paid to a second-half revival," which he considers "a classic failure to look at the forest past the trees." The U.S. economy, "sadly enough, is saddled with numerous structural headwinds from excessive noncorporate debt, excessive housing inventories, excessive reliance on imported oil and excessive labor-market supply."

And he adds, facetiously, "Did we mention excessive denial?"

Dave, as our readers doubtless know, is given to morose musings about the economy and the markets.

But you disregard his cautions at your peril. He was indisputably on the money in plugging for bonds when just about everyone on this aching planet was bearish. And Dave has also been right as rain about gold.

One small absence in his list of excesses currently bedeviling the economy: He didn't comment on excess of blockheads in Washington—perhaps, we suspect, he believes that's a given.

Greece's Slippery Slope

For what seems like ages now but really dates back only a few highly regrettable years, Wall Street has been the butt of a relentless barrage of badmouthing, in the main, we must admit, richly deserved. But one thing that it can't justly be accused of is a lack of patriotism, especially when that noble impulse inadvertently happens to coincide with an opportunity to make a few extra bucks.

So it was with great verve and enthusiasm that it staged a rousing rally last week in anticipatory celebration of Independence Day. Even absent their actual presence, you could hear the music, see the flag.

Not that brokers and bankers and all the worthies who labor in the canyons of capitalism hadn't reason to celebrate, if only because bonuses were back, generous as ever, and gas prices had come down, which meant they make the trip to the Hamptons every Friday without borrowing from their kids' piggy banks.

Even more inspiriting, though, despite the bellowing importuning of the envious press, except for a few thorough rotters, they hadn't spent so much as two minutes in the slammer. And it hasn't been for lack of trying by the SEC, which does, however, seem to have trouble distinguishing a Ponzi scheme from an extra-large pizza.

The rally that the Street put on last week was a real nifty one. It came pretty much out of the blue, was well paced and widespread, ending the second quarter and starting the third on an upbeat. In its lack of any evident catalyst, apart from Greece's not going under—yet—(more of that below) it looks at this point more like a short-term bounce than a sustainable upswing.

But, so what? All investing is short-term these days, so if you're going to play the market, you might as well get used to it. The trick is to keep tuned to sentiment and be ready to buy when bearishness becomes epidemic, as it threatened to become a few weeks ago, and be willing to dump when bullishness is rampant, as it will be should this rally go on for a few weeks more.

And, of course, happy holiday!

GOLD, WE COULDN'T HELP NOTICING, has lost a bit of its glisten. It's had a wonderfully long run and is entitled to take a breather. But we couldn't resist passing along a note from Matthew Menken, a savvy reader, who reports from London that the first gold vending machine opened in London on Friday in a shopping mall. Supposedly no security guards are necessary because the operators claim "the most sophisticated" security is being used.

Prices are updated every 10 minutes. For buys greater than 2,500 British pounds you have to scan your passport.

We fervently hope for the sake of all those fluttering gold bugs that the introduction of a gold vending machine isn't a glittering negative indicator for the yellow metal.


HOW DO YOU SAY "WHEW!' IN GREEK? In whatever language the globe over, political movers and shakers, finance ministers, banksters, dabblers in precious metals, traders in virtually everything tradable and investors whatever their proclivities breathed a sigh of relief last week when Greece's Parliament voted to accept a no-nonsense regimen to put its acutely troubled fiscal affairs in order.

This splendid act of responsible governance was inspired by deep-rooted patriotism. Although we won't deny that the country was teetering on the edge of economic ruin, and unless it agreed to tread the straight and narrow it wouldn't get the 12 billion euros the European Union and the IMF were supposed to toss its way as an installment on the 110 billion-euro loan extended to it last year, which just might have played some modest role in persuading the lawmakers to give the proposal a thumbs-up.

Not all the citizens, it may shock you to learn, were overjoyed at the prospect of tightening their belts or losing their jobs, but then—sigh!—you can't please everyone. In sizable numbers, these disgruntled folks took their complaints to the streets turning the air blue with imprecation (you didn't need a translator; a glance at their horribly and venomously contorted faces was more than sufficiently eloquent).

And not a few of these unhappy souls sought to express their discontent more tangibly by heaving rocks at the Parliament building. Athens, of course, is the birthplace of democracy and it struck us we Americans might do worse than follow the lead of its inhabitants and, as the occasion warranted and if you happen to be in the D.C. vicinity, rain stones on the Capitol to encourage our slumbering representatives to bestir themselves or at least dream up some semblance of positive action.

We can't say, for that matter, that the European Union covered itself with glory as it bickered publicly and loudly over how to deal with Greece. But, then, every nation for itself—and there are 27 of them in the EU and 17 in the so-called euro zone—is the group's vaguely Darwinian modus operandi. As a result, its deliberations often resemble nothing so much as the haggling in a crowded fishmonger's shop over the catch of the day.

The irony in this instance is that Greece will have spent its 12 billion euros and have its tin cup out again before the snow falls (and that's an optimistic assumption). So if you happened not to be paying all that much attention to this recent chapter in the long-running Greek tragedy, don't fret—you're sure to get a chance to witness the sequel.

Better yet, a new "improved" financial package coughing up more euros and effectively stretching out the required payback schedule is in the works. Which means you needn't worry too much about missing this sequel, either, since you can rest assured you'll always be able catch the next one.


WHILE WORLD EQUITY MARKETS, most definitely including ours, took heart from the happy if temporary ending to this cliff-hanging episode, permitting Greece to escape the ignominy of defaulting on its sovereign debt, the response among professional economic and market kibitzers was not universally sanguine. Among the grumpiest was the irrepressible and inevitably iconoclastic Barry Ritholtz. From his perch at Fusion IQ, he notes the immediate tendency to "blame the profligate Greeks."

Barry has no illusions about the state of the Greek economy, citing, among other absurdities, the government's obscene spending, overly generous pension plans and similar sins. Too much of its populace, he thunders, are "tax scofflaws." In short, he agrees, Greece is a mess.

But, hey, he claims, as even a casual visitor can attest, none of Greece's financial shortcomings are a secret. So why the big surprise and feigned outrage that profligacy is among its weaknesses? For here as elsewhere, Barry firmly contends, the blame for lending to insolvent borrowers, be they individuals, institutions or countries, first and always belong to the lenders. If they can't independently determine who is creditworthy and who is not, for heaven's sake, what, he asks, is their role? They might as well "leave piles of money around," he snorts, "and ask borrowers to self-regulate their appropriate credit limits."

The invariably perceptive Michael Darda, of MKM Partners, whose take on markets and economies we've quoted from time to time, continues to view with undisguised and profound skepticism (which we share) what he calls the bailout/austerity/tight-money policy mix that the European Central Bank (ECB, for short) has chosen to deal with the Old World's fiscal woes. Nor does he hold with the notion that Greece's latest avoidance of default is "an inflection point in the euro-zone sovereign-debt crisis."

On that score, he points out that debt spreads in Ireland and Portugal are within spitting distance of all-time peaks, indicating both are leading candidates for another rescue. And although each of their economies is not very high on the euro-zone pecking order, together they're saddled with enough of a debt loan to create a real headache for the European banking system.

More worrying still by Michael's lights are Spain and Italy, which have much larger economies that are heavily laden with debt. Prices and wages in both countries, he feels, are too high compared with the rest of the euro zone, and a dose of deflation might be necessary if both are to remain part of the European Monetary Union. The ECB might, if it chose, lend a helping hand with a more accommodative monetary approach. Instead, alas, there are expectations that, perhaps as early as this week, the bank will tighten further.

Michael reiterates his conviction that the economically weaker sisters of the euro zone—Italy, Ireland, Portugal, Spain and, of course, Greece—cannot withstand higher funding rates and tighter liquidity, "yet the ECB continues to believe that bailouts/austerity can coexist with tighter money." As he comments wryly, the "events of the last year suggest otherwise."

Dipping into financial history, he notes the shivery similarity between our beloved Fed's misguided decision in 1936-37 to tighten monetary policy during a "savage fiscal austerity" and what the European Central Bank seems hell-bent on doing today. The Fed's action precipitated the 1937-38 "recession within the Depression," Michael recounts, and the ECB's version of that policy "is not likely to end well in the euro zone, either."

Or, as the quote by Albert Einstein atop Michael's commentary nicely summed up his point: "Insanity is doing the same thing over and over again and expecting different results." Poor old Albert obviously would never have made it as a central banker

Beware of Scarecasts

All you need is a string of negative reports on the economy, accompanied by a skein of messy down days in the stock market, to touch off a burst of scarecasts. We're not referring to the bearish predictions of chronic (critics would say clinical) pessimists like Société Générale's admirable Albert Edwards, whose lugubrious view of the global scene we often share.

Albert is both consistent and open about what he predicts, like the S&P 500 ultimately declining to 400, and why. In contrast, perpetrators of scarecasts, whose ranks have swelled in recent weeks, insist that their dire prognostications are not forecasts, although they sedulously avoid saying exactly what they are. Something a mean little bird told them? A revelation distilled from a bad dream occasioned by eating bean sprouts for dinner? But let's not quibble—we'll call them scarecasts.

Lest you think we've invented a special class of prognosticators for the sheer joy of jeering at them, we readily admit that would be a temptation we probably couldn't resist, but it happily wasn't necessary. Scarecasters abound, but we'll confine ourselves to a few notable examples of reasonably high repute: Robert Shiller and Jean-Claude Trichet.

Shiller, a Yale professor, gained fame and, we hope, ample fortune by timely foreseeing that the housing boom would go bust. Last Thursday, at a Standard & Poor's conference on housing (given the state of that industry, the powwow seems more suitable for archeologists than investors), in response to a query about how far home prices might still decline, he ventured 10% to 25% wouldn't surprise him and immediately insisted that was not a forecast.

In like vein, last week, Jean-Claude Trichet, top dog at the European Central Bank, warned, at his monthly confab with the press, that the bank might hike interest rates as early as next month, a possibility that caused the euro to wilt like a scoop of ice cream left at the mercy of an unforgiving summer sun.

Mr. Trichet's heart sank with the euro, eliciting from him the feeble disclaimer that, good heavens, he wasn't making a forecast. We've always assumed that if it sounds like a forecast and looks like a forecast…but, oh well, let's not quibble. Perhaps Mr. Trichet, apparently an intimidating type, merely was trying to throw enough of a scare into inflation by demonstrating his eternal vigilance against the monster so it wouldn't dare to even think about raising its ugly head.

Mind you, we're not taking issue with the bearish slant of these non-forecast forecasts, but the rather pusillanimous refusal to call a spade a spade. We should confess as a confirmed skeptic about the economy and the stock market (a stance that induced us, alas, to miss equities' spectacular rebound from the March '09 lows), we grow more than a little uneasy as the crowd of converts to the bearish side steadily increases.

For bull markets rarely go kaput when just about everyone pays at least lip service to the need for caution. Or, for that matter, when investor sentiment droops so unmistakably. On this score, the latest weekly reading by the American Association of Individual Investors shows 47.7% of its members negative on the market, 27.9% on the fence and a meager 24.4% bullish. That's the skimpiest tally of bulls in the polls since August 2010, when stocks pulled out of a prolonged funk.

Nor do we find the sentiment readings of the financial advisors by Investors Intelligence providing much comfort. The latest count showed the number of bulls among that normally optimistic bunch had shrunk to 40.9%, from 45.2% the previous week and down a bundle from the 57.3% high set in early April. The bearish contingent, which had been hovering below 16% a little over a month ago, weighed in at 22.6% in the latest reading.

There are, it goes almost without saying, no shortage of serious and tangible concerns confronting investors (and civilians as well), and we've spilled lot of words in recent months laying them out. The economy is about to lose one of its main stimulants—Uncle Sam's largess. The great inventory binge that has revived manufacturing is showing signs of fatigue. Housing undeniably is a shambles. Prices at the gas pump are still way too high, especially with consumer income stagnant, unemployment rife and hiring slackening.

Meanwhile, we're still mired in Afghanistan and, in some significant way, Iraq. The uprisings in the Middle East and North Africa may yield some more palatable governments, but increasingly it seems likely to produce some troublesome ones as well. Greece still teeters on the brink of default and, financially, Portugal, Spain, Ireland and even Italy are in deep do-do. China seems ripe for an economic shock or two that seem destined to ripple around the globe.

All of this, to one degree or another, merits grave worry. But, none of it is exactly a secret. Quite the opposite, indeed. Thanks to media attention, it has all forced its way into widespread public awareness. And just as bull markets rarely end when investors least expect them to, they also are not likely to turn tail when the caveats about the economy–ours and the world's–are so heavily advertised.

We're not suggesting you ignore this frightening array of red flags. The woes are real and most are not likely to vanish anytime soon. For stocks to do an about-face and suffer a prolonged plunge ending in a resounding crash requires, at least in our book, the surging momentum furnished only by surprise and panic. But surprise, whether economic or market-based, is conspicuously absent at the moment. And so we don't think the timing is right for the kind of umcompromising swoon that spelled finis to the dot-com boom or housing bubble.


HAVING UNBURDENED OURSELVES of this modest jeremiad against scarecasters, it's a pleasure to direct your attention to the cover story and the prophecies and piques of the truly knowledgeable and free-wheeling group who make up our midyear Roundtable. While the gang's crystal balls are not infallible (whose are?), their predictions are rendered unadorned by apology or hazy hedging. Thus, despite the reservations expressed by hordes of so many of their peers, though hardly insensitive to the investment climate, our guys and gals call it as they see it.

Abby Joseph Cohen, for example, hews to her usual upbeat outlook, even while allowing for some lessening of the economy's vigor. At the same time, Marc Faber is unabashedly bearish. Scott Black is still bullish on selected stocks, even though he's less than thrilled with the prospects for the economy as a whole.

Mario Gabelli is as ebullient as ever and aburst with stocks to buy. Our old buddy Archie MacAllaster, far from daunted by the dismal showing of one of his favorite sectors—financials—contends the group is now awash with long-term bargains, with equal stress on long-term and bargains. He picks as especially promising a 200-year-old insurer selling at less than six times next year's earnings.

Felix Zulauf offers his usual measured assessment of global markets, while Bill Gross reiterates why he's down on U.S. Treasuries. Oscar Schafer sees the market eking out a gain for the year as a whole and serves up some intriguing picks. Meryl Witmer finds some beguiling and diverse investment opportunities, and Fred Hickey puts in a plug for gold.

Our point is that there's no group-think on the Roundtable; it's every man and woman for themselves. That and the savvy of the people doing the talking makes it great reading. But see for yourself.


NOT THE LEAST NOTEWORTHY event last week was the get-together of the Organization of the Petroleum Exporting Countries, familiarly known as OPEC, in Vienna. It proved one of the rare times since this predatory bunch was formed half a century ago that it was unable to cook up some semblance of an agreement on what to do about production. Not that such agreements have ever been rigidly adhered to; quite the opposite, cheating, especially but not exclusively when petrol prices are going through the roof, is typically rampant.

Controlling something like 40% of global crude, the cartel still holds considerable sway over the market. The split last week pitted Saudi Arabia against the likes of Iran and Venezuela. The Saudis were for holding the line, fearful, among other things that richly priced crude might push any number of developed economies, including ours, into double-dip recession with dire consequences all around.

Iran and Venezuela, both in desperate need of more revenue, and, in any case, hardly concerned about the impact on such reviled enemies as the U.S. and the European Union, flat-out refused to go along with any production quotas. The Saudis pledged to fill the gap created by the effective halt of Libyan production and a smattering of frozen shipments from other beleaguered sources. In response, crude prices softened a tad, but remain quite elevated.

Comes now President Obama brandishing a big stick that has sparingly been used by some of his predecessors—the Strategic Petroleum Reserve. And Andy Laperriere and Roberto Perli, who put out Ed Hyman's always useful ISI policy report, believe Mr. Obama is serious about applying that stick.

They note that when previous administrations tapped the SPR, the effect on oil prices tended to be rather short-lived. However, they believe this administration may choose to make more than a symbolic draw on the reserve and thus exert more of an impact. They also suggest other nations might follow our lead, and a joint effort could do a much more meaningful number on oil prices.

And, more to the point, they point out, stingingly high gas prices are hurting consumers, the economy and the president's poll ratings. Too, we seem to recall, 2012 is an election year.

An Epidemic of Amnesia

Someone ought to gently nudge David Einhorn and tell the hedge-fund manager and wannabe baseball tycoon that Steve Ballmer doesn't play for the New York Mets. So firing Mr. Ballmer as Microsoft's boss will not enhance the fortunes of the hapless Mets that Mr. Einhorn is dickering to buy a piece of for a tidy $200 million. It's easy to forget who's on first while trying to tend to your day job managing a $7.8 billion portfolio.

Actually, the apparently well-intentioned Mr. Einhorn may simply be infected by a plague of forgetfulness that has afflicted our fair land. On this score, it strikes us as particularly strange, bordering on the paradoxical, that even as it pays proper deference to Memorial Day, the populace seems more inclined to amnesia than remembrance.

An odd lapse, indeed, since this proud country is actively engaged in not one but two wars. Admittedly, except for those doing the actual fighting and their families, the conflicts, unyielding as they are and taking as they continue to an enormous toll in blood and treasure, hardly impinge on the nation's consciousness. But on reflection, it's perhaps not all that surprising, since there are no overt, constant reminders as there were in earlier wars, such as the draft or a sharply greater tax bite.

This tendency toward forgetfulness is evident, too, amid the fuss and furor about deficits and spending that has the political parties at each other's throats. Folks appear to have plumb forgotten it wasn't all that long ago that the tally of federal income and outgo produced—we kid you not—a surplus. Americans by and large are optimists, and for good cause (we're blessed with natural bounty and, as Winston Churchill pointed out, ours is the worst form of government except for all the others), so it's not inconceivable that from time to time remaining upbeat requires a fuzzy memory of reasons for discontent.

Of course, politicians as a group are not renowned for their mental acuity. The Republicans seemed shocked by the rude discovery, courtesy of the recent election of a Democrat to a House seat in one of the most conservative districts in New York, that Jane and John Q. are enamored of Medicare, an inconvenient truth confirmed by every opinion poll taken by enquiring man.

The GOP's lament that the results were unforeseeable, skewed by a third party in the contest for the seat that had been comfortably occupied by a Republican for four decades, is pretty lame. After all, to find a precedent that might have helped avoid an embarrassing loss, they had only to hark back to the 1992 presidential election, when Ross Perot's presence on the ballot enabled Bill Clinton to edge out Bush the elder; the spoiler this time was the Tea Party.

As to the Democrats, against all odds, they managed to forget that the humble pocketbook commands more political clout than the grandest of promises. And when millions are out of work, their paramount, often their only, interest is jobs. Yet, more than two years into recovery, we're still laboring with a 9% unemployment rate, and more than 20 million people are underemployed or jobless.

It's not so much congenital optimism or chronic forgetfulness that's prevalent these days in Wall Street, the proximate cause of the horrors that so recently threatened to bury the economy and did such a fearsome number on the markets. It's quite the opposite, really—a highly selective memory that blanks out everything but the remarkable rebound of the markets from the depths of early 2009.

Restored to the living by a rich Uncle's unstinting generosity with your money and ours, the brokerages and banks tend to shrug off disturbing and even alarming signs of a faltering recovery and counsel courting risk with blithe assurances that the recent past will prove prologue. To us that seems like the perfect recipe for trouble.


WE HATE TO SOUND SO GLOOMY with a presumably three-day sunny weekend staring us in the face. And at the risk of being accused of reveling in someone else's misery to make our discomfort seem less imposing by comparison, we'd like to point out that things could be worse, a lot worse, and are in the weak sisters of the European Union. We're talking about Greece (the subject of our cover story this week), Portugal, Ireland, Spain and Italy. More than once, we've pointed out that to deliberately saddle these financially floundering countries with punitive austerity measures and higher interest rates in exchange for liquidity injections was similar to denying a drowning man a life preserver and insisting he learn to swim.

The insightful Michael Darda, who wears two hats at MKM Partners (chief economist and chief market strategist, but relax, he has only one head so far as we know) and whose views we've shared with you from time to time, happens to agree with us. His latest dispatch is ominously entitled "Why Bailouts and Austerity Are Failing in the Euro Zone."

In it, he points out that it's now over a year since the first bailout of Greece, followed last November by a bailout for Ireland and one for Portugal earlier this month. Yet, "debt-market spreads in peripheral Europe, which were supposed to ease as aggressive austerity took hold," are well above their year-ago levels, he notes. He contends that the bailout/austerity policy mix has failed.


The basic problem, Michael believes, is that those weak sisters are simply not competitive with the core nations: Their unit labor costs average some 22% more than France and Germany, while their prices run 8% higher than the European average. He traces this disparity back to the boom and bubble period during the mid-2000s, a stretch during which the periphery drew in capital and drove prices and wages higher than the slower-growing core euro-zone nations.

Absent a more accommodative stance by the European Central Bank (ECB, for short), the quintet named above, he fears, will have to suffer the pain of deflating nominal wages and prices. That translates into high unemployment, weak or declining gross domestic product and collapsing tax revenues, an ugly combo destined to "exacerbate debt burdens and render austerity fruitless."

Unless the ECB does a U-turn, Michael warns, "the entire periphery could be headed toward some form of default or restructuring." He expects the bank to eventually reverse course, but voices concern that the measures it has already imposed "create the potential for an increasingly disruptive series of events." To us, the moral of this little treatise is never underestimate the mischief the central bankers can wreak.

ALTHOUGH THE BULK OF THE LATEST communiqués from the economic front, including durable-goods orders, nondefense capital investment, consumer spending, pending home sales and new claims for unemployment insurance were disappointing or downright weak, not all the news, we're happy to report, was dispiriting. Consumer sentiment ticked up a bit in the latest survey, although it remains rather subdued.

One of the few things we've been consistently bullish on, thanks to the vagaries of the weather and, more specifically, a profusion of droughts globally, has been farmland. And we're indebted to the Federal Reserve Bank of Kansas City for affirming our preference. More specifically, it issued a recent report noting that farmland values are up a handsome 20% and credited strong demand from farmers and investors alike.

The rise in cropland values is all the more striking because, as we don't have to tell you, real estate in general is far from booming. And that goes in spades for residential real estate. As real-estate guru Mark Hanson, who has been pretty much on the money in assessing his chosen field, points out in a recent commentary, the prospects for an imminent housing recovery are anything but stellar.

He notes that Washington in its various incarnations appears to have thrown in the towel on reviving the industry after shelling out trillions via quantitative easing, tax credits and the like. And that doesn't exactly bode well for what he calls the "largest landlords in the world," namely the banks and servicers.

He lists the many woes that afflict the industry. High up among them is "effective negative equity," which he defines as the inability to pay off a mortgage, plus paying a real-estate broker 6% and coughing up 10% to 20% of the purchase price as down payment on a new purchase. Mark reckons that a majority of mortgages fall into that unenviable category rather than the 28% commonly estimated.

He also cites a humongous default, foreclosure and short-sale backlog overhanging the market. Since 2007, he relates, there have been only four million foreclosure completions and short-sale liquidations out of a probable 14 million to 18 million. That alone is enough to give you the willies.

Toss in unfavorable demographics, mounting energy costs, a miserable excuse for a mortgage market and inexorably declining home prices…well, you get the point. Housing is one of those festering sores on the economy that will be with us for quite a spell. And so long as it is, or until jobs grow more abundant and consumer income muscles up, the likelihood of a decent and sustained rebound for the industry seems a good piece off. And, we're afraid, the economy's recovery is apt to maintain its desultory pace.

Paradigm Shift

fraud and conspiracy he had been charged with. What did in this Raj was his irrepressible penchant for trading on inside information—bad enough, but, even worse, committing the unpardonable sin of indulging in his dirty dealings via the telephone, with, as it happens, the feds an appreciative, if mum, audience.

We say "once-billionaire," because his lawyers reportedly have already relieved him of millions, and the appeals have yet to begin. The reckoning is that the inside dope (and, the trial revealed, there were no end of dopes eager to supply him with material tidbits) enriched Raj by nearly $64 million, a tidy sum consisting mostly of winnings, but also gains from dumping losers ahead of the crowd. The penalty for his mischievous doings could mount to over $170 million and an extended stay -- oh, say, 15 years minimum -- in the slammer.

Our fervent hope and prayer is that the Raj's misfortune will teach an invaluable lesson to the golden hordes of hedge-fund kingpins, indeed, to all who labor in the rich vineyards of Wall Street. And that lesson: If you insist on making illicit trades on privileged information, for heaven's sake, forget the phone and e-mail, and take a crash course in signage.

For the stalwart, upstanding 9,500 or so hedge-fund stewards of some $2 trillion in assets who aren't in jail, we suggest they brace themselves for intense scrutiny. Thanks to batting 1,000 against the Raj, prosecutors (to shamelessly change the metaphor in midsentence) smell blood in the water and are apt to pursue with newfound vigor other likely perpetrators of such illegal activity, determined to see justice done and not unmindful, to be sure, of the potential political gain of their worthy endeavors.

While the stock market seemed to shrug off the possible negative implications of sharply stepped-up surveillance of hedge funds, we have a hunch that the absence of the market's customary brio last week and, in particular, its limp performance in the final session, was in part a reflection of the unease such concerns engendered among the hedgies and their easily spooked investors.

Rather dispiriting, too, was that even much of the ostensibly good news was tinged with disappointment. For example, while retail sales in April extended their winning streak to 10 months in a row with a 0.5% gain, they shrank to 0.1% if you X out gasoline and food -- and they compared with 0.9% in March. The big jump at the pump also helped fuel a 0.8% increase in the producer price index, stirring renewed fears of inflation.

In like vein, while new claims for unemployment insurance fell a hefty 44,000 from the previous week, they still weighed in at 434,000, a formidable figure this late in a recovery. Moreover, the four-week moving average rose to 436,750, from 432,250. And while the most recent survey showed that job openings were at their highest since September 2008, there still were 4.3 folks out of work for every job available.

Lest we seem xenophobic, we should also note that restraining investor enthusiasm was fresh anxiety about the financial viability of the weak sisters in the European Union, especially Greece, and the ramifications of sovereign default (not good, in case you're wondering).

At the other side of the world, China continued to wrestle inflation, largely with monetary tightening. So far, this approach has not been notably successful, but Beijing seems intent on slaying the dragon, and, should its efforts seriously curb growth, the consequences for the rest of the globe are not clear -- but, chances are, they won't be salutary. At least, that's the view of nervous investors here.

None of this suggests that we're in imminent danger of the economy's staging a double dip. But it does help explain the ebullient stock market's sudden lack of oomph. And just so you don't fret too much over the weekend, it does provide a bigger wall of worry for equities to climb, and the bulls insist this is very, well, bullish.

To that lugubrious list of unsettling influences on investor sentiment, we might well add remaining bad vibes from the big shakeout in commodities that all but rubbed the shine off silver, nicked gold, dealt some mean blows to oil and, all in all, did a number on just about every commodity known to trading man.

Helping to polish off silver futures was a boost in margin requirements, while energy's drubbing sprang in no small measure from the better tone to the dollar and overstocking of gasoline and even some indications of softening demand. But the primary reason for the exodus from commodities was that so many of them had come too far, too fast and were begging for that nice euphemism known as "a correction."


The blame for the flyaway price surge is easily laid at the door of Federal Reserve chief Ben Bernanke and his beloved policy of quantitative easing. But we don't buy it. Rather, we think the culprit is better identified by that simple but revelatory table below. It's the handiwork of the admirable Jeremy Grantham of GMO, whose unvarnished insights we've had the pleasure of passing along from time to time.

China's Share of World
Commodity Consumption
CHINA %
COMMODITY OF WORLD
Cement 53.2%
Iron Ore 47.7
Coal 46.9
Pigs 46.4
Steel 45.4
Lead 44.6
Zinc 41.3
Aluminum 40.6
Copper 38.9
Eggs 37.2
Nickel 36.3%
Rice 28.1
Soybeans 24.6
Wheat 16.6
Chickens 15.6
PPP* GDP 13.6
Oil 10.3
Cattle 9.5
GDP 9.4
*Purchasing power parity
Source: GMO
We've lifted it from Jeremy's quarterly letter to shareholders. And what it depicts we find astonishing: namely, China's outsized appetite for commodities, and just how big a share of each one it consumes. Actually, the table appears in Part 1 of the missive, that bears the exhortatory heading, "Time to Wake Up: Days of Abundant Resources and Falling Prices are Over Forever."

The piece is really an extraordinary job, and we can't do full justice to it in the confines of the space allotted to us. So we suggest that, if you get a chance, plug into GMO's Website and read it at your leisure. The essence of it is that the world is using up its natural resources at an alarming rate, and "this has caused a permanent shift in their value."

The rise in global population (fast approaching 7 billion, and a recently released United Nations report estimates that it'll top 10 billion by 2100), the increase in wealth in developed countries, and the current explosive growth in developing countries, Jeremy warns, "have eaten rapidly into our finite resource of hydrocarbons and metals, fertilizer, available land and water." Despite a massive increase in fertilizer use, the growth in crop yields per acre, he observes, has declined from 3.5% in the 1960s to 1.2% today.

After a stretch of a hundred years ending in 2002, during which the world enjoyed price declines averaging 70% for all important commodities except oil, Jeremy reports wonderingly, ballooning demand from developing countries, especially China, has caused an unprecedented shift, and prices are now rising. Indeed, in the last eight years, they've risen enough to wipe out the effects of a century of decline.

The market, he contends, is sending us "the mother of all price signals." Statistically, by his reckoning, most commodities are so far removed from their extended former downtrend as to makes it likely that the old trend is gone -- "that there is, in fact, a paradigm shift -- perhaps the most important economic event since the Industrial Revolution."

To Jeremy, this means we'd better get serious about resource planning, and quickly. To us, it means that whatever the day-to-day or even month-to-month dips and blips in commodity prices, if Jeremy's right, the long-term trend has no place to go but up.

PART TWO OF JEREMY'S MESSAGE to shareholders may not be as cosmic as Part One, but it may be at least as important. It's about the stock market -- toward which he has been a bit antsy, but mostly positive. His advice, pure and simple: lighten up on risk-taking rather than waiting, as he had previously recommended, for October. And he admits that he may be too early, but there are worse things, we might interject, as 2008-09 painfully demonstrated.

What disturbs him is that here are equities a stone's throw from the 1400 on the Standard & Poor's 500 that he had targeted as the lower part of the 1400-1600 range he had expected it to reach. But the stock market, he points out, has reached this elevated level as if the economy were humming along strongly, as if housing had started to regroup after two years of being dead to the world and, most importantly, as if we hadn't experienced special and exogenous shocks. Yet, he sighs, "all of those presumptions are at least partly wrong."

He worries, particularly, about the Tunisia-Egypt-Libya-Yemen-Syria shock, that can be summed up as "oil shock." An oil shock has the potential to inflict serious damage on the economy, and touch off a big decline in stocks. While, the market has bounced back smartly, Jeremy fears it's underestimating the potential for bad trouble.

He owns up to other reservations as well. But it all boils down to this: "The environment has become too risky to justify prudent investors hanging around, hoping to get lucky."

Look Out Below

Since we go to press Friday night, we can't obviously describe this year's annual stroll down Fifth Avenue known far and wide as the Easter Parade, where the swells and the not-so-posh proudly display their finery, crowned more often than not by some outrageously flamboyant headwear. Rumor has it, though, that the latest aspirant for the presidency of this fair land, Donald Trump, plans to join the preening multitudes, carefully ruffled locks and all, disguised as an industrial-strength mop, to publicize his hopes of making a clean sweep of the nominating field come 2012.

Mr. Trump has chosen an auspicious moment for his political debut, what with concerns growing about the nation's dangerous accretion of debt. For he's the only candidate able to boast more than passing experience with bankruptcy: As we recall, one of the hotel and casino entities bearing his name has been forced to seek that ignominious refuge not once but three times when the wolves (politely known as creditors) began howling at its door.

Moreover, if we understand him rightly (no easy chore in itself, given the din and roar of bombast that accompany virtually his every utterance), he has devised the ideal solution to one of those sticky conundrums confronting Washington that combines foreign and domestic problems. We're referring to the civil war in Libya, which has prompted NATO to try to quash the odious Gadhafi, and the shocking surge in gasoline prices that the shutdown of crude supplies from that benighted country has helped fuel here at home.

What Mr. Trump seemingly recommends (we're cribbing from a Fox News interview) is since we're spending $1 billion in the effort to dislodge Gadhafi (he doesn't bother to identify the source of that figure, but, hey, why be picayune about hundreds of millions of dollars more or less), we pressure the Saudis or maybe the Chinese to cough up the dough to cover the cost of our involvement. He's not clear on just what form such pressure or involvement would take, but alludes to our military as the only one that can do the job (whatever the job might be).

We can only assume that in one of those magical transmutations, Mr. Trump's suggestions would somehow result in the new American dream: lower gas prices. Come to think of it -- and admittedly we haven't run this one up the flagpole to see if Donald salutes -- we might make profitable use of the Trump Doctrine to place the oil fields of the United Arab Emirates and Kuwait in a kind of protective custody as well.

Why, before you know it, the world would be swimming in oil and prices at the pump would tank. Oddly enough, quite independent of Mr. Trump's urging, the Saudi oil minister, Ali al Naimi, complacently assured one and all last week that the world's loaded to the gills with oil. "Oversupplied" with oil is the way he put it, an interesting locution in light of the fact that crude has run up from less than $70 a barrel a year ago to over $112 today, and naifs like us always assumed that higher prices typically were caused by an excess of demand over supply. Our thanks to Mr. Naimi for setting us straight.

Not the least of the obstacles that Mr. Trump may encounter on his boisterous ride to the White House is paradoxically the runaway bull market and the generous fruits it has showered on investors. For in contrast to Mr. Trump, who trumpets the claim whenever the occasion arises (and frequently when it doesn't) that he's a billionaire several times over, not everyone who has invested with him has enjoyed a profusion of happy returns. Quite the opposite.

Just ask a bondholder in some of those casinos that went bankrupt. Or a stockholder in Trump Entertainment Resorts, whose shares in December 2008 skidded from $4 to 23 cents as the company missed a $53.1 million interest payment and also wound up in bankruptcy.

And no matter the old and rusted boilerplate warning that accompanies every recommendation a securities firm issues that prior performance is no guarantee of future gains, investors remain convinced it is. But if not a guarantee, it might still be a feasible guide. Regrettably, especially for someone running for high office, investors do tend to be sore losers and have been known to bear loud witness against anyone they perceive as responsible for their losses.

So word tends to get around, even to the multitudes at some considerable remove from Wall Street and to whom Donald Trump is just another familiar face (and sound) on TV.

AFTER A BAD OPENING-SESSION SHUDDER, the stock market shook off Standard & Poor's warning of a possible credit-rating downgrade if Washington fails to mend its feckless finances and spent the rest of the holiday-truncated week sailing merrily on to new highs in the averages. The swiftness with which S&P's stricture was dismissed and its impact evaporated was a clear register of the upbeat mood in the Street. It didn't hurt, either, that the agency's caution was carefully couched to convey it posed no immediate menace and, in any case, the worries it articulated, however valid, were hardly brand new.

Besides, as they have been for the better part of the past couple of years, investors remain living proof of the pithy axiom that nothing succeeds like excess, and they've been more than amply rewarded for that steadfast conviction. Until the market turns tail big-time, they're not apt to take up extended residence in the storm shelters.

There's this, too: As a shrewd investor observed to us, with inflation beginning to bite whatever the official protestations to the contrary, and Bernanke & Co. striving to keep a tight lid on yields, equities seem all the more attractive, if only because the alternatives are so darn uninviting.

View Full Image
.Moreover, for the moment, at least, the economy, however gradually and spottily, is getting better. Corporate earnings in particular have been flourishing, although with the upswing in commodities and consumer income lagging, margin erosion can't be far behind. And despite the improved tone, as the accompanying chart offers graphic testimony, there's still one huge gapping hole in the economy: housing.

The chart is the handwork of Yale economist Robert Shiller, and it plots an index (fittingly called the Case-Shiller Index) that depicts the trends of house values over the past 120 years. It has been updated for Barry Ritholtz's Big Picture blog by Steve Barry. So much for its provenance. More to the point, it provides a beautiful snapshot of the biggest housing bubble in history, which peaked in July 2008 and has been deflating at a murderous rate ever since.

And despite the occasional glint of better tidings, the outlook remains unwholesomely grim and prices continue their mournful descent. Not the least of the reasons for housing's dour prospects is that so many home owners are underwater. Just in case you're lucky enough not to have shared that sorry condition, "underwater" in this context simply means the value of their homes is less than they paid for them, and not infrequently these days a whole lot less.

The estimate by CoreLogic is that 11.1 million people with mortgages, or 23% of the total, are in that decidedly uncomfortable position. Zillow, a Seattle-based service, reckons that 27% may be closer to the mark.

Nor do such numbers, disquieting as they are, tell the whole sad story. For as Mark Hanson, a savvy professional observer of the real-estate scene points out, they fail to include what he calls effective negative equity. Effective negative equity, he explains, begins at the point at which the homeowner can't sell his house and buy another because he has to pay a real-estate broker 6% of the sale proceeds and then plunk down 10%-20%, depending on the type of loan needed.

There are in the neighborhood of 3.5 million previously owned homes on the market. And there are something approaching two million homes that are in foreclosure or whose owners have fallen behind in mortgage payments. The bad news is that the banks are back in the foreclosure mode after a relatively immobile interlude, and that means, by one knowledgeable estimate, that the shadow inventory of homes destined to hit the market may be as high as eight million.

The pause in bank and servicer foreclosures was inspired by a regulatory crackdown and lawsuits that followed revelations of sloppy bookkeeping, robot-signing of foreclosure notices and errant, inadequately trained personnel, those collective serious flaws that came to be known as Foreclosuregate.

As Mark Hanson points out, banks and servicers are back with a vengeance and cutting asking prices sharply "to blow out distressed inventory." Other price depressants he cites include unfavorable demographics, soaring energy costs and a broken mortgage market.

How low can home prices fall? The consensus is somewhere between 5% and 10%. But as the chart suggests, that may prove conservative given all that room on the downside before the bubble has completely burst.

Where did all the bears go?

Gosh, were we ever wrong. We were sure that the shut-the-government-down fiasco was due to be settled in a flash once the cry went up from an angry citizenry that if Uncle Sam was forced to hang out a "temporarily closed for business" shingle and paychecks would not be issued for nonessential federal employees, the withholding had better start with congressmen—or else. Man, you could see the pitchforks and the feathers and smell the tar.

If you can't depend on our chosen representatives to act like the greedy cowards they've proved themselves to be many a time and oft, invariably willing to chose principal over principle, what can a man count on? Yet here we are, the hours tick away, the deadline looms ever closer—and the squabble drags inexorably on.

Back at the end of February, we warned of the possibility that the government might be mothballed and pooh-poohed the comforting predictions by the sunshine crowd that it would never happen, and even if it did, the effect would be just about nil.

What was silly then is particularly ludicrous now, with the economy still fragile, the recovery powered largely by stimulus courtesy of Washington, the dollar weakening ignominiously, unemployment high and confidence shaky. Not to mention the enormous dislocation, confusion and concern sure to ensue should the government go AWOL.

Moreover, chances are that even a last-minute, Band-Aid agreement to keep the government operating for another week or two would only ensure a replay of the whole nasty wrangling and postpone the day of reckoning. As to the notion that a shutdown wouldn't affect Wall Street—tell that to the savvy folks who've been pushing the price of gold to all-time highs: they're pretty serious people and entitled to a chuckle or two.

WE'VE LONG FELT that had Sigmund Freud not been so obsessed with listening to his patients nestled on a couch telling him their woes, most of which they blamed on having chosen the wrong mom and pop and then compounding their grievous error by choosing the wrong spouse, he would have a been a great portfolio manager. For while it helps, we suppose, to be able to tell the difference between a balance sheet and an income statement and know what P/E stands for, nothing in the investment armamentarium beats an educated grasp of crowd psychology.

Granted, getting a handle on investor sentiment is not an automatic guarantee of making a killing on the Street. It's a contrarian indicator that has been around for a spell, and like a lot of venerable technical tools is a bit the worse for the wear. It's grounded in the logical assumption that when everyone's bullish, it implies that a lot of buying power has already been used up and, of course, when everyone's bearish, the opposite holds.

If not infallible (what is, as we've noted before, besides the pope and financial journalists?), it provides investors with a highly reliable litmus test when the market reaches extremes of optimism or pessimism. And, right now, bullishness is dangerously rampant.

Bulls in Command—for Now
The spread between bulls and bears is the highest since 2007.


For confirmation, just take a gander at that simple chart that enlivens this grim page, the handiwork of Investors Intelligence, which weekly tracks the view of those earnest souls, investment advisors, who tell you when, and often what, to buy and sell. It depicts the difference between the number of advisors who are upbeat and who are downbeat.

That awesome spread in favor of the bulls works out to 41.6%, the most lopsided since the October 2007 all-time market peak, when the comparable gap was 42.4% and set the stage for the beginnings—and forgive us for stirring painful memories—of the worst equity disasters of the past half century.

Nothing more graphically illustrates the panicky stampede for the exits by the bears than the shrinkage in the latest reported week in their ranks from 23.1% to 15.7% of the advisors surveyed. According to the folks at Bespoke Investment, in only 16 other weeks since 1975 have the bears thrown in the towel so precipitously.


And it isn't only the pros who are manifesting sharply rising exuberance: The investment masses, who've been more than a tad cautious of late, are venturing more boldly out of their cocoon. The latest report by the American Association of Individual Investors shows that 43.6% of its members were bulls, 28.8% bears and 27.6% on the fence. Barring a calamity that scares the dickens out of them, we'd expect many of those fence-sitters to clamber down to the bullish side just in time to catch the next market slide.

Richard Band, boss man at an advisory outfit called Profitable Investing, whom we don't know but stumbled upon via a quote while perusing the latest edition of Investors Intelligence, and who seems like a reasonable chap, offers investors some caveats beyond the preponderance of bulls, like extended valuations, insider selling and rather meager dividend yields, that are worth your mulling.

On overly generous valuations, he cites the Q Ratio, which compares a corporation's market cap with the replacement value of its assets. Currently, Band points out, except for a brief period at the end of the dot-com bubble, U.S. corporations are trading at a higher premium to the replacement value of their assets than at anytime in the past 110 years.

As to the stingy attitude managements have had toward sharing the piles of cash they've accumulated with shareholders, he notes that the present yield of 1.86% on the S&P 500 is only "an eyelash away from the 1.76% low set at the market top in 2007." Making him more than a little leery, too, is that, last time he looked, insider sales by the top dogs of Big Board and Amex companies were 10 times their purchases, prompting him to comment: "In my 30-odd years as an insider sleuth, I've never seen a figure that high."

All of which makes him think "the party is slowly winding down," though he reckons the bull market still has four to six months left before it goes kaput. Here we part company. We feel—you'll never guess, we're sure—he's too hopeful.

ALTHOUGH IT'S A CLOSE CALL, we do, as implied at the top of this screed, favor a dysfunctional government, with all its sins, over a non-functioning government. But suppose the choice is between a dysfunctional central bank versus a non-functioning central bank? Well, (and pace, Ben, this doesn't concern you) if we lived in the European Union, we'd choose the non-functioning version in a heartbeat.

What prompts this irascible judgment is last week's boost in the European Central Bank's benchmark interest rate by 0.25 of a percentage point. In itself, that's not the end of the world, but the scuttlebutt has it that it's only the first in a series of similar hikes. And perhaps the best guarantee that more of the same is in the offing is the denial by Jean-Claude Trichet, the ECB's president, that he and his cohorts have decided to become serial rate boosters.

The bank's switch to tightening presumably is occasioned by Trichet's concerns about inflation. Michael Darda, chief economist and market strategist at MKM Partners, isn't buying it, and neither are we. Or, at the very least, inflation doesn't stack up as all that immediately threatening. Of course, to judge by some of his past actions, Mr. Trichet doesn't possess a great nose for inflation. Back in July 2008 and after the recession hit the euro zone and just before Lehman did its swan dive, he raised rates. Exquisite timing.

And Trichet may yet regret hiking rates last week. Here, too, his timing may be more than a little off. Last week's increase, Michael observes, has inverted the spread between GDP and the ECB target rate, in the process "dramatically increasing the risk of more debt trauma in the periphery and a hard-landing scenario for the euro zone as a whole." Not a pretty prospect.

We don't want to pick on Trichet, but we will anyway. For he appears to be auditioning for the role of the Don Quixote of central bankers, attacking the phantom windmills of inflation. The irony of Trichet's move, in Michael's view, as expressed in a commentary bearing the headline of "Accommodation or Suffocation," is that the liquidity backdrop in Europe suggests monetary policy is much tighter than it was in the summer of 2008, despite the fact that real rates are lower. Indeed, the ECB's balance sheet is now contracting on a year-over-year basis, and broad money is growing at less than the rate of inflation.

"Sadly," Michael reflects, "the ECB appears to be headed down the path forged by the Bank of Japan over the better part of the last two decades: confusing low rates with easy money and blaming weakness in the monetary aggregates and nominal GDP on structural factors beyond its control."

Ah well, central bankers have a penchant for making bad things worse.

No Farewell for Euro-Zone woes

The Greeks have a word for it. Unfortunately, it can't be printed in a family magazine. Suffice to it say, the word in question is not complimentary. But then, how could it be, directed as it is at Moody's?

What occasioned the distinctly earthy expression of disapproval by the heirs of Socrates, Plato and Aristotle was that Moody's, ignoring the country's historic repute as the cradle of democracy, had the effrontery to slash Greece's credit rating three whole notches, thus casting its sovereign debt ever deeper into the Hades of junk bondage, and, adding insult to injury, warned a further cut was not outside the realm of possibility.

Not content with muttering imprecations, the powers-that-be in Greece also blamed the credit agencies with causing undue financial distress for their country and fired off a letter to the European Union demanding it induce Moody's, Standard & Poor's and Fitch to stop being so mean. Actually, we found the complaints by the finance minister and prime minister quite revelatory, since we were under the misimpression that feckless government borrowing and spending has something to do with the financial woes that the likes of Ireland, Portugal, Spain and Greece find themselves wallowing in. Live and learn, we guess.

Nothing daunted, and while it had its scalpel out, Moody's decided to demonstrate its sober impartiality when rendering judgment on the creditworthiness of nations by following its unkind cut to Greece with a downgrade of Spain three days later. No doubt, now that they've gotten into the swing of it, the lads and lassies at the credit-rating services will be paring ratings with some abandon, as it becomes increasingly apparent that the clutch of euro-zone members whose banks and economies are in deep doo-doo are not, as widely assumed, yesterday's worry.

As Harald Malmgren—boss man of the eponymous Malmgren Group, whose insightful observations on global markets we've had the pleasure of quoting on more than one occasion—puts it, "The Euro crisis is not over." Rather, he says, "European politicians have become practiced and effective in postponing problems and diverting market attention from underlying weaknesses."

Early on, it struck us that the insistence to impose austerity on euro-zone economies that were wobbly in the extreme and even nudging them to raise interest rates was like forcing a guy with a fractured leg to compete in a marathon—a sure-fire way to stifle any chance of incipient recovery. Comes now Michael Darda, chief economist of MKM Partners, with a piece titled, "Can the Euro Periphery Handle High Rates?" And his answer is as definitive as it is succinct: "Nope."

If occasionally given to an overly rosy view of domestic economic data, Michael has been pretty much on the money on the overall trend and, to his great credit, he has been right as rain on the stock market during its stunning two-year bull romp. He explains his negative take on the financial weak sisters in the euro zone this way:

"Bond yields have shot up to new highs as European debt markets have priced in a succession of European Central Bank rate hikes. With debt spreads wide (and widening), the generic euro-zone yield curve collapsing and broad-based weakness in the euro-area monetary aggregates, we believe the signal from these financial indicators is that an already-too-tight ECB monetary policy is about to get even tighter, with potentially devastating consequences. We do not believe the periphery [Greece, Italy, Spain, Portugal, Ireland] can withstand what appears to be an imminent series of ECB rate hikes."

Michael points out that the leading indicators of the Organization for Economic Cooperation and Development (tongue get tired saying that? Try OECD) for Spain peaked in April of last year, and for Italy in January 2010. Since Spain and Italy together are some five times the combined size of Greece, Portugal and Ireland, a credit-based shock via higher interest rates to Italy and Spain, he fears, "may be the match that lights the fuse."

Michael warns that money growth remains sluggish across the board in the euro zone, carrying it with the threat of enfeebled nominal GDP growth. The European Central Bank, he posits, ought to be more concerned about the rising risk of a Japanese-style "lost decade" than the "backward-looking inflation data" that has it all aflutter.

But, come on, Michael, central bankers—whether in Europe or Asia or the good old U.S.A. or Mars—wouldn't be central bankers if they knew what to worry about. Remember how surpluses in the federal budget kept Alan Greenspan tossing and turning all night long and how Ben Bernanke pooh-poohed the idea that a housing bubble might explode and take the economy with it?

TO BE FAIR, CENTRAL BANKERS aren't the only species with the knack of intuitively focusing on the wrong concern. European politicians, as Harald Malmgren noted, are masters at it and, lest we be accused of xenophobia, our own pols are no slouches in treating mountains as if they were molehills and molehills as if they were mountains.

For example, with the Middle East erupting, much of Europe experiencing financial distress and a still sorry-looking job picture here, Harry Reid of Nevada, the Senate majority leader, unexpectedly fixed his full attention on the brothels in his state. More specifically, he wants to change their status from legal to illegal, a worthy notion, perhaps, but we must be missing something since we can't quite grasp it as one of the burning issues of the day. Of course, his motivation could be more personal: Perhaps the dwelling next to his suddenly has been transformed into a house of ill repute, which obviously would create a terrible traffic nuisance.

In like vein (or is it in like vain?), the inimitable Newt Gingrich has resurfaced as a candidate for the presidency in 2012. Always eager for an interview, even more so now that he's in the running for the top job, Newt seized the recent opportunity to jabber away on the radio. But instead of pontificating on the uprisings in the Middle East or the ballooning deficit, he found himself ruminating on his extramarital romantic adventures. He served his first wife with divorce papers while she was in the hospital recovering from cancer surgery. He shed his second wife after 18 years and a diagnosis that she had multiple sclerosis and married No. 3, with whom he had been having an affair. His explanation was that he felt so passionate about the country that he worked too hard and did some things that were not "appropriate." That's what passion for your country will do to you every time, by golly.

In truth, we're not sure that either Harry or Newt, if their concerns weren't directed toward brothels and brides, would throw much light on the revolutionary wave rolling through the Middle East and North Africa, or the fierce earthquake and tsunami roiling Japan, or the financial fix Europe is in, or runaway prices at the pump, or the decline in consumer confidence or the spotty employment scene. All of which provided a panoply of reasons for the market to take a dive, as it dutifully did.

As share prices tumbled, market sages by and large stroked their chins and declared that stocks, after the sensational two-year run they've enjoyed, were looking for an excuse to go down. It'd be nice if just once those same sages told us that before the market took a header. Instead, they kept pointing to how corporate profits were booming and cash hoards mounting—brilliant discoveries, to be sure—which were supposed to be proof against stocks taking a real hit.

You have to say that the market showed considerable gumption in the face of all the negative news by winding up Friday with a nice bounce. Resilience has been its long suit in its march upward from the wintery depths of March '09. Trouble is, the bad stuff that put a dent in portfolios last week for the most part isn't likely to vanish anytime soon. Nobody can say for sure what happens in Libya or Yemen or even Saudi Arabia. But the region has unleashed a remarkable tide that can't be reversed. Which suggests to us that what seem like punishingly high oil prices and political turmoil in the region are here to stay as well. Reason enough, as we've said before, to buy gold, oil and, perhaps, if it suffers a further drop, natural gas.

Europe is not going down the tubes, but it'll take awhile to straighten itself out, maybe quite awhile, and our market remains vulnerable to any sudden bad vibes from the Old World. We wouldn't make too much of China's disappointing trade numbers, if only because we don't trust the numbers or believe it's all the fault of the Chinese New Year. We suspect it's Beijing's sleight of hand at work, hoping to ease the pressure to revalue the yuan.

What continues to bother us, with the implications for the economy and the stock market, are jobs—or, more precisely, the lack of them. While last month's employment gains might deserve a muted cheer, a close look at the latest weekly unemployment-insurance claims didn't rate much of a hurrah. On a seasonally adjusted basis, they totaled 397,000, an increase of 26,000 over the previous week. However, ex the seasonal adjustment, new claims weighed in at 406,096, a pretty hefty number this late in the upturn.

Moreover, as our pals at the Liscio Report, Philippa Dunne and Doug Henwood, report, the Job Openings and Labor Turnover Survey (JOLTS) for January "showed a distinct lack of dynamism." Net hiring—hires less separations—was a measly 0.1% of employment; openings dipped to 2.1% of employment, which just matches the 2010 average. January, Doug and Philippa sigh, "was not a sizzling month for employment." They can say that again.

Crude Awakening

While the world, very much including Wall Street, remained transfixed last week by the spreading revolutionary fever in the Middle East and North Africa, in the great state of Wisconsin the legislature was putting on an exciting show of its own worth the populace's attention. It was a variation -- we were about to say an adult version, until we remembered that nothing to do with state legislatures anywhere can be characterized as adult -- of hide and seek. The Democrats in the state senate were doing the hiding, and the Republicans the seeking.

At issue was the attempt by the Republicans to strip civil servants of bargaining rights and by the Democrats to keep the measure from coming to a vote by vamoosing to Illinois and other foreign turf to deny their antagonists a quorum. They play rough in Wisconsin, and the Republicans sicced the state troopers on the Dems to "persuade" them to get back to what passes for work by lawmakers, so far without success.

Lending wider interest to the tussle is that governors and legislatures are notorious copycats (to put it kindly, imagination isn't their long suit), and an overwhelming urge to kneecap the public unions has flared in a number of other states. Wisconsin is kind of a preliminary bout to the main event coming up shortly in Washington, as the two sterling parties go for the jugular on whether to shut the federal government down. Now that promises to be, shall we say, interesting, especially if by some chance we wake up Saturday morning to find the whole country's been furloughed.

The conventional wisdom is that it's never going to happen, that the disputatious parties may be silly, but they aren't that silly. Let's hope it's right, but no one ever got rich betting that politicians won't do a dumb thing. And the conventional wisdom's default position is that even if the government is shut down, it won't matter. We vividly remember that in the '90s grown men so testified to Congress and lived to regret it.

Given the still-shaky recovery -- its fugitive nature was underscored by the Commerce Department's revision of last year's fourth-quarter growth to 2.8%, down from its earlier reckoning of 3.2% (quick, spare the statistician but shoot the computer) -- were Uncle Sam forced to close up shop March 5 with the expiration of funding, the effect wouldn't be ugly -- it would be downright disastrous.

Not least of the baleful consequences would be a leap in concern as to our creditworthiness among already uneasy foreign creditors. Mothballing the government undeniably would cleanse the air over Washington, but otherwise the impact is apt to be malign enough to make folks yearn for when all they had to worry about were exploding gas prices.

That just about everyone thinks the very notion of shutting down the government is far-fetched only means that should it come to pass, the shock will be all the more profound. Hey, even the wild bulls on the Street might just possibly pay heed. And if Congress temporarily regains its sanity and votes a short-term (as short as two weeks) stop-gap measure to keep the government operating, it will merely assure a recurrence of the agonizing prospect before the snows melt.


BETTER THE DEVIL YOU KNOW THAN what comes after Gaddafi. That perverse sentiment seemed to be rife among easily spooked traders (or is that redundant?) for a spell on Thursday, as they dumped sizable chunks of their oil and gold positions on rumors -- that, alas, proved to be false -- that Libya's loony leader had been shot to death. The thinking, we suppose, was that so long as Gaddafi was on the loose, the world would remain on edge, as oil prices escalated (they had briefly topped $100 a barrel), and gold lured investors with the promise of a safe haven.

In any case, such fears subsided, thanks to the canny Saudis assuring one and all they'd take the sting out of any shortage created by Libya's woes and, indeed, have been stepping up their production by some 700,000 barrels a day to help fill the gap. Somehow we recall that it was not so very long ago that Saudi officials were talking of the need for $100-a-barrel oil because of the decline in the value of the dollar, but obviously they don't want it to happen when the whole world's watching.

Our own feeling is that gold and oil are a rare species of investments that ought to be bought on dips and, just to show how magnanimous we are, you can put farmland in that treasured category as well. If nothing else, the great rebellion sweeping through the Middle East and Africa shows no sign of burning itself out. Quite the contrary, its spread appears as inexorable as its consequences are unpredictable. But the stress and uncertainty accompanying the uprisings shape up as quite favorable for gold and oil.

As our friends at Barclays Capital point out in a recent commodities research report entitled "Libya's Abyss," that beleaguered nation's production, which they estimate at upward of a million barrels a day, won't be so easy to replace. It's the kind of petroleum known as short-haul light sweet crude, which we gather is highly desirable for, among other things, its relatively low sulfur content. For all practical purposes, Barclays says, Libya is out of the world market, and while tankers already loaded may be able to clear the ports, oil exports will evaporate at worst or be severely restricted at best.

That also means that global crude spare capacity -- which started the year at 4.5 million barrels and has been gradually shrinking anyway, due to strong demand -- could fall significantly under that level with the departure of Libya from the global petro scene. As Barclays puts it, "Libya alone in one swoop would narrow spare capacity by the same degree we expected over the year as a whole due to fundamental developments."

As to where crude prices are going, Barclays reckons they will average $91 per barrel this quarter, $86 for the second quarter, $92 for the third quarter, $97 for the fourth quarter and $106 next year. Our hunch is that Barclays lads and lassies are exercising the usual British restraint, and oil will continue to flirt with $100 a barrel for the rest of the year -- and we wouldn't rule out some kind of a spike in the not-distant future.

Even at current quotes, crude is manifestly not what the doctor ordered for this less-than-robust recovery. Dave Rosenberg, of Gluskin Sheff, figures $100 crude would cut a full percentage point off gross domestic product. And should the price shoot up to, say, $120 a barrel, that would mean another point bite out of GDP.

Did we hear someone out there groan?


THE STOCK MARKET SHOOK OFF its spell of vertigo and dutifully bounced in the final session as investors put aside their jitters and got back to doing what they've grown accustomed to doing -- buying stock. Part of it no doubt was simply a touch of sellers' fatigue and some of it was short covering. Despite their reputation for having fangs and a tail, short sellers act very much like long investors (which these days means holding a stock for at least 20 minutes) and fancy taking profits in advance of a weekend that may bring who knows what kind of news.

Moreover, there were some decent economic reports to bolster investors' confidence. Weekly unemployment claims for one. Although we'd advise against getting too excited about any single week's job performance because they do take strange and unaccountable dives and leaps, depending perhaps on what the compiler has been smoking.

And some of those reports unfortunately lose their shine on further inspection. A case very much in point was Thursday's release by the Commerce Dept. of January's durable goods orders and shipments. Demand for the big-ticket stuff was up a disappointing but not terribly disturbing 2.7%. When you clean your specs and peer closely, however, you discover that all of the increase and a whole lot more came from transportation, which has a natural tendency to swing rather wildly month to month.

The shocker came in the form of orders for capital goods that business needs to expand and modernize, including, of course, all the magical implements that tech provides as well as the big bulky things that rust in the rain. The usual definition of capital goods is things that are destined to last at least three years (which seems like a lifetime these days). Orders for those precious items, once you knock off the wayward defense and transportation orders, dropped a humongous 6.9% and did so across a broad slice of the economy.

As Dave Rosenberg points out, demand for these core capex items tells you a lot about the strength of industry. It was a prominent linchpin of 2010's 15% gain in capital spending, which, in turn, helped mightily to power the recovery such as it was. Last month's drop in orders was the worst since January 2009, when the economy was up to its nostrils in recession.

The consensus estimates for GDP, as Dave points out, "are well north of 3% for the second quarter" and that doesn't quite square with the minus 12.5% "build in core capex orders this quarter." It seems obvious -- except to the cheerful crew making those forecasts -- that absent a brisk rebound in demand, the outlook for capital spending in the second quarter is something less than bright.

Worse Than You Ever Dreamed

By any yardstick, last week measures up as chock full of exciting events. The Middle East continued to erupt in a half-dozen or so places. Iran decided it would like to take a look at the Suez Canal, so it sent a couple of warships to Syria via the canal, and Israel—who would have guessed?—didn't cotton to the idea. Egypt revived in a somewhat different context the old Abbott and Costello routine about who's on first (just leave out the "on").

President Obama unveiled his budget proposal, which drew tepid cheers from Democrats and screaming derision from knife-wielding Republicans, a splendid example of bipartisanship in action. Colorado banned welfare cards at strip clubs, which holds grave implications for naked shorts, one of Wall Street's favorite illicit sports. New York City found $2 billion it didn't know it had—somebody must have put it back.

Ben Bernanke flew off to Paris for a meeting of the Gang of 20 as much as anything to get away from his congressional tormentors, not a few of whom are after his scalp (they better hurry, the poor guy seems to be losing his hair fast). But wouldn't you know, no sooner did he set foot in Gay Paree than he was scolded by the gaggle of mucky-mucks from other nations in the G-20 about our nation's feckless financial ways. They couldn't wait to queue up to voice their complaint about QE1 and QE2 serving as a covert devaluation of the precious greenback.

Lest we give you the impression the week was filled with cacophony and uprisings and that sort of unsettling stuff, there were some quite positive happenings as well. We discovered that all the talk of America's decline, as evidenced in the apparent end of the nation's technological superiority, is just so bunk.

What opened our eyes to that bracing insight was a brochure we received from a company describing its ground-breaking invention: a video tombstone starring the deceased. It enables the viewer to see and hear him as he actually was while still alive. Literally—a voice from the grave and a face to go with it.

We've been saving the best for last: Equities extended their gaudy winning streak, blithely ignoring such trivia as disappointing retail sales and intimations that inflation's demise has been greatly exaggerated. This has been the most resilient market we've ever had the pleasure of witnessing. Enjoy it, by all means, as long as it lasts. You won't lack for company, as pros and the public are piling in, but keep in mind that an excess of bullishness, as manifestly exists today, has been know to lead to a fall.


PLEASE DON'T TELL WIKILEAKS, if only because they don't know how to keep a secret. It concerns housing. Everyone knows, of course, that it's in the pits. Considerably less well known is just how deep those pits really are.

Which explains our squeamishness about the news getting around, as it might temper—and we stress might—the irrational exuberance (the pithy phrase may be Alan Greenspan's most enduring legacy from his many years running the Fed) that has rocketed the stock market to 32-month highs and climbing.

Conceivably, the revelation we're about to share with you could put at least a temporary pall over hopes for the long-awaited and often prematurely heralded housing recovery, and the very last thing we want to do is make investors or plain old civilians unhappy. For most people, their house, be it ever so humble, is their largest single investment. (And all these years we've been suffering under the delusion that a house was, pure and simple, to live in. It came to wear an "investment" label during the wild years of the last decade, when it was viewed as an ATM and an asset that could only appreciate in value.)

As Stephanie Pomboy in her always lively MacroMavens dispatch points out, the acrid aftermath of the big bust in housing has failed to dissipate and adamantly hangs on. The average homeowner with a mortgage, she notes, has a scant 2.6% equity in his house, and the already towering delinquency and foreclosure rates seem headed for a new thrust upward, with interest rates creeping up and jobs remaining anything but easy to come by.

Hardly surprising, then, that demand for mortgages has sagged to a 27-month low, an evil omen for something even vaguely resembling a decent recovery in housing.

What's more, if CoreLogic is right, things are a heck of a lot worse than most of us dreamed. CoreLogic, in case you wondered, is a demon data collector of, among other things, property and mortgage info that it peddles to business and Uncle Sam. Last week, it released a report that expresses grave doubts as to the accuracy of the widely followed calculations of home sales and other critical items by the National Association of Realtors, claiming they are seriously flawed, tending to understate the bad news, while inflating not-so-bad by 15% to 20%.

By way of example, according to the Realtors' reckoning, existing-home sales last year declined 5%, to 4.9 million. By CoreLogic's count, however, existing-home sales totaled a meager 3.6 million, a drop of 12% from the '09 total. The disparity between the two is also graphically evident in their respective gauges of the size of the inventory of unsold houses. The Realtors figure the overhang is around nine months worth of supply, but CoreLogic counts the visible inventory of homes with a "for sale" out in the front yard at 16 months. Normal is six or seven months.

CoreLogic suggests the wide spread between itself and the Realtors is possibly explained by the difference in how the two gather the data and by out-of-date benchmarks (which the Realtors say they aim to recalibrate). The Realtors canvass multiple listing services and large brokerages. CoreLogic compiles its data from publicly available records stored in courthouses. Historically, CoreLogic adds, its survey pretty much agreed with 85% to 90% of the Realtors' count, but began to diverge in earnest about 2006, when the housing market was smoking.

Home prices, meanwhile, have been caught in another downward spiral, reflecting a lack of demand and a huge supply, the bitter fruit of the great bust that followed the wild and woolly boom and a prime victim of the jobless recovery in the economy at large. If current trends persist, those already sharply lower prices, CoreLogic predicts, by spring will be down more than 10% from last year's comparable stretch.

It's too early, perhaps years too early, to sound the all-clear for housing and obviously, the bedraggled home builders.

So far as we know, there never has been a vibrant economy that was saddled with the housing sector in extremis. Maybe this is the one time it's different.

But don't bet on it.


ONE BIG WINNER IN THE FIERCE RALLY of the last five months or so has been the chip companies. A peek at the chart of the Philadelphia Semiconductor Index shows an almost perpendicular rise, from around 300 in September to around 470 last we looked.

Sparking this brisk run, you won't be shocked to learn, is the flood of new electronic gadgets—smartphones, tablets and a whole roster of new and (to some people, exciting) products, all of which translate into demand for chips.

In his latest edition of the High-Tech Strategist, Fred Hickey, whose presence also graces the Roundtable, has some kind words for Intel (ticker: INTC), No. 1 in semiconductors. The company, he notes, reported a bang-up fourth quarter and strong guidance for the present three months.

Like Microsoft, he goes on, the stock remains unloved for reasons beyond his ken. Intel shares are selling at only 10.5 times earnings; the company has boosted its dividend and plans to increase its share-buyback program by $10 billion and this year's capital spending by a whopping $9 billion. As Fred drily remarks, "These are not actions typically taken by a management worried about its future."

He takes care to separate the wheat from the chaff among the chip companies. He also alludes to a surplus of inventory built up last year.

A research study released last week by IHS iSuppli, which specializes in tech services, warns swollen chip inventories could prove a problem. Global stocks of chips held by suppliers, it estimates, were at their highest level since the second quarter of 2008—just before the chip makers took gas.

IHS reckons semiconductor revenue growth of 5.6% in 2011, down sharply from last year's 31.8%, but thinks that if growth actually comes in as forecast, "the current inventory level should be manageable." Strikes us as an ambiguous attempt at reassurance, since it is unclear what "manageable" connotes.

Much less equivocal is what IHS sees as the consequences if growth is less than predicted. Then, those bloated inventories become a headache, are dumped on the market, causing chip prices to tumble faster than usual. This could "amplify the size and duration" of a downturn or even a significant slowdown in semiconductors.

Won't be great for their stocks, either.