The economy isn’t always the stock market‘s primary driver.

Part of the fun in making forecasts is being WRONG AS HELL and looking back on the experience and learning a thing or two.

Recently, I have been way off mark. I expected all hell to break loose in February and, well, it didn’t.

I did expect there to be a bump up – post the passing of the Health Care Bomb, ( I always believed that this monstrosity would pass ) but I didn’t see the recent 40 and 50 point Dow-Jones gains of the past few weeks. I would have bet the ranch and all my critters that we would have been 300 or more points below where we were Monday, March 20, 2010

What I learned is that the economy isn’t always the stock market‘s primary driver.

In the long run, economic development and — especially — corporate earnings are the main drivers of stock market performance. But this relationship is very loose. It becomes tight only if your time horizon is measured in decades.

Shorter term, economic development and corporate earnings are often relatively inconsequential for the stock market. Why? Economic changes are superimposed by changes in the fundamental valuation of the stock market. That means investors' perceptions and their willingness to pay for risk and income streams. Over time, investors are paying very different prices for the same earnings.

Fundamental Valuations Are Fluctuating Wildly

One needs to step back and evaluate Price – Earnings Ratios (PER). This is not unlike seeing the trees rather than the forest to decide on the relative value of the forest. During the stock market bubble of the late 1990s ( the great Reagan Bull Market that was decapitated by the Great Dot Com crash or AKA – the 1st time I went broke ) the PER even rose to more than 40.

Obviously investors came to the conclusion that the dramatic slump in corporate earnings, especially in the financial sector, was an extreme outlier (an observation that is statistically way out of line with the bulk of similar data) an irrelevancy, which should not be taken into account to value the stock market.

These severe fluctuations mean that dividends, earnings, and cash flows are fetching very different price tags in different times and are relative to the PER of the time in question.

Does this example of “market value relativity“make clear how relevant the economic background noise and even corporate earnings are to analyze and evaluate the stock market and that the rule is to pain staking analyze the Price – Earning Ratio of individual equities? If this is the rule, there is one major exception to this rule: Recession.

You Better See Recessions Coming

Every recession has been accompanied by a severe stock bear market. Not understanding the Price – Earning Ratio, failing to constantly watch the leading economic indicators, reacting instead to the background noise, is why I did NOT predict the recession of 2001, and almost lost my shirt. Learning to do so, but I accurately foresaw the 2007-2009 recession. Not that it was such a bid help to see the freight train coming as getting out of its way isn’t all that easy.

Right now the PER and other indicators do not yet forecast an imminent recession. Hence, in the current situation it is ideal to painstakingly analyze the latest economic data release du jour. It may be fun to do so for those inclined. But it doesn't help you in forecasting the stock market. I rate this regular data release ballyhoo as noise you can easily ignore.

That doesn't mean I do not follow economic development. But I am only interested in deciding whether the incoming data is starting to point to the end of the current economic rebound or not. Everything else is inconsequential.

We are living in a post bubble world. History tells us that the economy is very vulnerable to a renewed and relatively swift turn for the worse in this environment.

It follows that this rebound is dubious and fragile. But even in this scenario the leading economic indicators will pick up some deterioration before the next down wave gets started. Currently, they are doing nothing of the sort, despite the bad background noise because the PER is there on those stocks currently driving the wave and the global markets are otherwise weak. As risky as the Dow currently appears, it may be not only the best short term game around, but the ONLY game.

After all, this rebound is the result of massive governmental stimulus, bail outs and market manipulation by the Fed. Do not ignore the man behind the curtain in this rally and be prepared to bail.

Omar P. Bounds III

Is China spoiling for a showdown with the USA?

The long-simmering clash between the world's two great powers is coming to a head, with dangerous implications for the international monetary system.

Photo: Obama & Chinese ambassador to America Zhou Wenzhong on the Great Wall of China from Reuters

China is succumbing to hubris. It has mistaken Obama’s soft diplomacy, some say absence of diplomacy for weakness, mistaken the US credit crisis for decline, and mistaken its own mercantilist bubble for true global ascendancy. There are many historical echoes of nations badly misjudging the strategic balance of power and over-playing its hand on both sides of this exchange.


Within a month, the US Treasury must rule whether or not China is a "currency manipulator", triggering sanctions under US law. This has been finessed before, but we are in a new world now with America's U6 unemployment at 16.8pc.

Quoting liberal Keynesian Paul Krugman, this year's Nobel economist. "It's going to be really hard for them yet again to fudge on the obvious fact that China is manipulating. Without a credible threat, we're not going to get anywhere." While I do not often agree with Krugman, it’s hard to disagree with that statement, despite the potential out come.

Conversely, China's premier Wen Jiabao is defiant.

From an interview published by Bloomberg, "I don’t think the Yuan is undervalued. We oppose countries pointing fingers at each other and even forcing a country to appreciate its currency." Once again he demanded that the US takes "concrete steps to reassure investors" over the safety of US assets. "Some say China has got more arrogant and tough. Some put forward the theory of China's so-called 'triumphalism'. My conscience is untainted despite slanders from outside," he said

Days earlier the State Council of China accused America of serial villainy. "In the US, civil and political rights of citizens are severely restricted and violated by the government. Workers' rights are seriously violated," it said. "The US, with its strong military power, has pursued hegemony in the world, trampling upon the sovereignty of other countries and trespassing their human rights," it said. "At a time when the world is suffering a serious human rights disaster caused by the US subprime crisis-induced global financial crisis, the US government revels in accusing other countries." And so forth.

Obviously, the Chinese are in denial about is own part in the global imbalances behind the credit crisis, specifically by running trade surpluses, and driving down long rates through dollar and euro bond purchases. While the US treasury, Bond St. the EU Central bank & Wall St. have all made a shambles of markets, this Chinese view of events is twisted to the point of delusional.

What interests me is Beijing's willingness to up the ante. In addition to a drawback in US Treasury bond purchases, it has vowed sanctions against any US firm that takes part in a $6.4bn weapons contract for Taiwan, a threat to ban Boeing from China, Beijing's hardball stance with google and a new level of escalation in the Taiwan dispute.

At the recent Copenhagen “Hot Air Conference”, Wen Jiabao sent an underling to negotiate with Obama in what was obviously intended to be a humiliation. The Obamanator put his foot down, saying: "I don't want to mess around with this anymore." Does that sums up White House feelings towards China today?

We have talked ourselves into believing that China is already a hyper-power. It is on the path and may become one: perhaps THE ONE, but it is not one yet. China is ringed by states - Japan, S. Korea, Vietnam, and India - that are American allies when push comes to shove. It faces a prickly Russia on its 4,000km border. Emerging Asia, Brazil, Europe and many Arab trading states are all irked by China's Yuan-rigged export dumping. Not that they are to be counted upon in a fight, but they are many voices at the UN and represent great market capacity themselves.

Contrary to common belief here at home, Michael Pettis, ( visiting Professor of Economics, at Beijing University) argues that China's reserves of $2.4 trillion - arguably $3 trillion - are a sign of weakness, not strength. (source, seekingalpha.com ) He points out that only twice before in modern history has a country amassed such a stash equal to 5%-6% of global GDP: the US in the 1920s, and Japan in the 1980s, and each example preceded major depressions.

His argument goes on to make the case that these reserves cannot be used internally to support China's economy and that they are dead weight, well beyond any level needed for macro-credibility. Indeed, they may be the ultimate indictment of China's dysfunctional strategy, which is to buy tens of billions of foreign bonds every month to hold down the Yuan, preventing their economy's adjustment to trade realities.

The result is over-investment in manufacturer in capacity that is flooding the world with goods at wafer-thin export margins.  As an example, China's over-capacity in steel is now greater than Europe's entire output!

Another source of concern is the stretch of credit limits of China's local governments, mostly linked to massive infrastructure projects, such as the largest dam in global history across the Yangtze. A whitepaper recently published by Professor Victor Shuh from Northwestern University and published by the Economist, warns that the over 8,000 financing vehicles China has put in place has built up debts and commitments of $3.5 trillion, He says Chinese banks may require a bail-out nearing half a trillion dollars.

Just as in the West, debt is catching up to the Chinese.

As America's single largest creditor; holding of some $1.4 trillion of US Treasuries, agency bonds, and other US instruments - China can certainly exert major leverage upon this administration, but this need not be as dire as it seems. If the Chinese Politburo deploys this illusory power, Washington can pull the plug on China's export economy instantly by shutting down trade markets.

Who holds whom ransom?

Any action by China that sets off a run on US Bonds could rebound against China. While an extreme measure, it could be stopped by capital controls. Barack Obama has never exalted free trade, has no love of  free markets and in theory is all about controled markets, regardless the pain, he has shown no stomach for confrontation with the Chinese. While his top economic adviser Larry Summers let drop at the Davos conference that free-trade arguments no longer hold when dealing with "mercantilist" powers, summers is a proven incompetent, who lost billions for his past client, The Harvard Endowment.

In such a trade war, there would be a disruption of supply, which could prove to be inflationary over a short term and reap devastation on American holdings abroad. ( Not that this administration would care about the distruction of American business capital when an ideology is at stake)  But, large manufacturing capacity for goods does exist outside China and would be made up over time by others. We can live without flat screen TV’s for a while, and history shows that such things have happened.

China's transformation has been remarkable since Deng Xiaoping unleashed capitalism, but as ex-diplomat George Walden writes in China: a Wolf in the World?; no one can feel at ease with a regime that still covers up Mao's murderous nihilism. China has never forgiven the humiliations inflicted by the West when the two civilizations collided in the 19th Century, and intends to exact revenge. They have no concept of property or human rights. We must handle them with extreme care.

The China-US relationship is no doubt symbiotic, but a clash might not be the "mutual assured destruction", as often claimed. Washington could win IF we had the right players on the field.

Obama is the least experienced man in any room he walks into and is guided by blind, leftist ideology. His economic team has a strong track record of incompetency. Neither have shown the slightest concern for American jobs or capital invenstment. I for one am afraid. Be very, very afraid.

We could easily lose a confrontation that we should easily win.

Omar P Bounds III A.A.R.E., C.E.S., G.P.P.A.
The Bounds Auction Company

When an opening bid isn't.

Used by permission of the author.

The Opening Bid …


Auctions are all about getting bids … from bidders. Yet, it hardly takes any effort these days to find an auction where the auctioneer is advertising an “opening bid of $500″ on an item possibly worth tens of thousands of dollars.

National Public Radio (NPR) recently conducted a radio show from an auction where bank owned homes were being offered to the public at auction. This was a reserve auction, where the seller (the bank) can accept or reject any offer, and/or withdraw the property up until the auctioneer announces “Sold!”

Most all these same homes had “opening bids” of $500, $1,000, or other such trivial amounts. Yet, many did not sell even with bids far in excess of these opening bids. Let’s explore a few issues regarding this practice with some of the actual facts from the particular auction NPR covered:

• Any type of “bid” is normally offered by a bidder. For anything to be sold at auction with an “opening bid” advertised prior would suggest that this is the minimum amount acceptable as a bid. If this is indeed the case, better, more clear wording could be used, such as “minimum opening bid,” or the like. However, if an opening bid or minimum opening bid is denoted, this should be an amount the seller will accept if no other bids are offered. To suggest you might buy a house for $500 and bid up to $87,500 and are still turned down by the seller is nothing short of deceptive.

• Some auctioneers argue that this “opening bid” is merely a number to kick off the auction — and informs bidders that “We’re not starting the bidding at $1.00 or any such number on any of these houses today.” Well sure, we understand the convenience of a starting bid in that regard. Yet, what is the strategy, outside of deception, to start the bidding at $500 when a bid of 175-times that is not acceptable? If a house has to bring 80-some-thousand dollars in order to sell, why not tell the public the starting bid (or opening bid) is just that?

• Does an opening bid of $500 or other such amount on a $87,500 house really save a lot of time and add convenience? If I’m the auctioneer, and asking for bids on a house worth $87,500, would it be unlikely that someone might just blurt out “I’ll give you $500 for it!” even with no published minimum bid at all? Of course. In fact, the actual opening bid would almost assuredly be much more than $500. It seems clear the printed “opening bid” isn’t to ensure a reasonable starting bid at the auction, but rather to entice bidders to think they might get an $87,500 house for $500.

I have not been privy to any such conversations, but can tell you I know this is how some auctioneers handle pre-auction inquiries using this tactic:

Caller: “Hi, I’m interested in one of the houses upcoming at your auction.”

Auct: “How can I help you?”

Caller: “I’m interested in 542 Locke Street, and the opening bid is $500?”

Auct: “Yes, that’s right.”

Caller: “So, I show up, register, and then bid on the house?”

Auct: “Right, these are great opportunities …”

How might a better, more honest, forthcoming inquiry be handled?

Caller: “Hi, I’m interested in one of the houses upcoming at your auction.”

Auct: “How can I help you?”

Caller: “I’m interested in 542 Locke Street, and the opening bid is $500?”

Auct: “Well, that $500 is only the starting point, our client isn’t accepting those low starting bids on any of their houses.”

Caller: “So, I’m not getting that house for $500?”

Auct: “No you’re not … I would expect to pay $85,000 or even more on that one.”

In every state in the United States, auctioneers are charged to properly represent their clients (typically the seller). This auction, and many like it with these deceptive opening bids, are no exception. Still, as then the buyers are not clients, but rather customers, certain duties are commanded by many laws and precedent including many consumer protection regulations (and as outlined in my blog: What do auctioneers owe their customers?:

• Honesty

• Integrity

• Fair Dealing

In fact, the National Auctioneers Association has written as much as part of their code of ethics:

ARTICLE 2 (in part)

Members must, in conducting an auction, deal with customers in a manner exhibiting the highest standards of professionalism and respect. Members owe the customer the duties of honesty, integrity and fair dealing at all times.

ARTICLE 11 (in part)

Members shall avoid misrepresentation or concealment of pertinent facts. There is an affirmative obligation to disclose adverse factors of which they have personal knowledge.

The more we see deceptive practices used in the auction profession, the more it damages the reputations of all auctioneers and the auction business overall. Without the confidence of the general public that we uphold a high standard of practice, our industry will suffer.

And, one more observation: How likely is this bidder, thinking he might buy a house for $500, to ever attend another auction, tell his friends what a positive experience he had, or ever hire an auctioneer?

Mike Brandly, Auctioneer, CAI, AARE has been an auctioneer and certified appraiser for over 30 years. His company’s auctions are located at: Mike Brandly, Auctioneer, Keller Williams Auctions and Goodwill Columbus Car Auction. His Facebook page is: www.face book.com/mbauctioneer. He is Executive Director of The Ohio Auction School.

The Perfect Storm Underway in the UK.

I have had the good fortune to spend an extended period of time in both the UK and many counties of the EU. I have many friends there and have developed the bad (good?) habit of paying attention to the BBC. Also, I am a habitual exchange rate/ bond rate and in general a currency watcher.


Boy are things getting ugly in the U.K. The pound is getting crushed. The price of long-term British debt securities, called gilts, is plummeting, and the cost of default insurance on the country's debt is rising steadily. We have another " perfect storm".

My takeaway: This is but a preview of what's to come here in the U.S.

Why the Crisis Is Coming To a Head in the U.K.

Britain's finances are in shambles. The country's budget deficit is running at more than 12 percent of GDP, roughly the same as in Greece. According to Bloomberg reports, for the first time, the UK recorded a whopping $6.7 billion deficit in January, much worse than the $3.9 billion SURPLUS UK economists were expecting. Why they were expecting a surplus at the rate at which they are printing currency, I can’t imagine, but that is what is reported.

The U.K. government is planning to sell $349 billion in debt this year, the most ever, to cover this deficit. But, not unlike many sovereign debt backed bonds, demand is flagging, with foreign investors dumping the most U.K. sovereign debt in nine months in January and yields generally rising. As with the US, China and the Oil Kingdoms are the largest holders of Her Majesties’ bonds.

Then a few days ago, the crisis came to a head. The catalyst: New polling data that threw the British political outlook into chaos. Polls showed that the Conservative Party's lead over the Labor Party shrunk to its lowest level in more than two years. Mr. Brown’s shenanigans are coming home to roost. Growing unhappiness with failing social programs, healthcare scandals, rapidly rising unemployment, rising taxation and expanding EU influence over the labor parties’ leadership on such issues as global carbon taxation are taking a high toll on the British Fabian Socialist rooted labor party.

Many Brits are looking to return to the prosperity of the Thatcher days – or even the relative prosperity of the Blair regime, when the labor party at least recognized the need for an open relationship with the free markets.

It now appears that neither party could come out of spring elections with a clear majority, leaving the U.K. with a "hung" parliament. That would make it much more difficult for the government to reduce the nation's debts and deficits.

With all of that, it's no wonder...

• The British pound plunged six days in a row, its longest series of declines since October 2008.

• The yield on 10-year U.K. government debt recently hit 4.27 percent, compared with a low last fall of 3.44 percent.

• The cost of protecting against a British debt default in the credit default swap market surged to more than 101 basis points, or $101,000 per $10 million of debt. That's up from around 44 bps in the fall.

Striking Similarities to the US

You don't need a Ph.D. in economics to see the striking similarities between the situation in the U.K. and the situation here in the U.S.

• Our debt situation is totally out of control, with the national debt on track to double over the next decade to almost $19 trillion.

• Our budget picture is a mess, with $8.5 trillion in deficits projected over the next 10 years.

• Our foreign creditors are starting to sell our bonds, with China alone dumping $34.2 billion of Treasuries in December, the most ever.

And politically, we're facing the same gridlock and inaction as the U.K.

Just look at the deficit commission nonsense...

President Obama had to create an 18-member panel by executive order because Congress voted down an earlier proposal. Since it's a presidential commission, Congress can just ignore any findings. And those findings won't even be released until December 1, for purely political reasons (that's after the mid-term Congressional elections).

Lastly, just like the U.K., we have bailed out, backstopped, or otherwise taken over so many institutions and segments of the capital markets that our own balance sheet is getting shakier and shakier.

PIMCO "bond guru" Bill Gross just noted in a monthly commentary:

"If core sovereigns such as the U.S., Germany, U.K., and Japan 'absorb' more and more credit risk, then the credit spreads and yields of these sovereigns should look more and more like the markets that they guarantee. The Kings, in other words, in the process of increasingly shedding their clothes, begin to look more and more like their subjects. Kings and serfs begin to share the same castle."

"The sovereign debt crisis is subprime all over again." — Bill Gross, manager of the world's largest mutual fund.

Bottom line: We're running this country's finances off the rails. And just like in Greece ... Ireland ... Spain ... and now the U.K., it's going to come back to haunt us.

Omar P Bounds III
The Bounds Auction Company