Southwest Ranch Financial, LLC
August 2008 Update
The S&P500 is at 1267 on 31-July-2008

This page can be linked to at   ( www.swranch.net/emails/2008-08.htm ).

The Southwest Ranch Financial Market Alert Timing Model is out of the stock market. 

Year to date, the S&P500 index is down 12.7% and the SWR Balanced Portfolio is down -3.2% (with half the stock market risk.)

Here’s the year to date performance of the SWR Balanced Portfolio by asset class.

As of 7/31/08

Market Alert Model
The SWR core model is out of the stock market.

Year Ahead Timing Model
The YAT model is used to indicate periods of buy opportunities within the Market Alert Model’s timing cycle. The SWR Market Alert Model always trumps the YAT model. The YAT model is neutral.

Interest Rate Model
The SWR Interest Rate model is negative on interest rates and long bonds.  

Gold Model
The SWR Gold Model is positive on gold.

When to Get Back Into Stocks
The stock market will revive eventually but at much lower levels. You must be careful at choosing an entry point.The government has to first accomplish two key tasks. First, it must monetize the debt of the financial sector. The second step is to boost the household income of the consumer sector. Only when the debt burden is greatly reduced and the consumer has a growing income can stocks go back up. Until this is accomplished, the government will do whatever it must to prevent a financial collapse and total loss of consumer confidence.

In step one they take over bad mortgage debt and the other obligations of the major financial firms. This bails out Wall Street and shifts the debts to the federal balance sheet where they simply print money out of thin air. This bailout process will eventually spread to credit card debt, student loans and whatever other crap the banks are carrying. This process is just getting started. Concurrent with this effort it's essential that the stock market does not fall because that would cause an even more severe outcome with pension funds. Let me explain.

Cities and states are already suffering a large drop in tax revenue. People aren't spending as much at the casinos and they aren't buying cars they can't afford. It takes hard times to bring some people to their senses. Even Starbucks is closing stores as people realize that $4/day on lattes may not be a good idea. Thus, sales tax revenues are falling as people cut back on discretionary spending. Lower sales taxes means less public services and also activities like road repair jobs being delayed. But that's not the biggest problem. The major expense of most municipalities is payroll - they employ a lot of people. If the stock market declines then the state pension funds must assess a larger payroll deduction for pension fund contributions. Most of this is paid by the employer. The lower stocks go, the more local governments must contribute. If contribution rates continue to go up then at some point cities will just stop paying, declare bankruptcy, and will turn the pension fund over to the federal Pension Guarantee Corporation. Therefore, the feds must keep stock prices as high as possible to prevent a pension fund conflagration. It's also essential that unemployment doesn't get out of hand because this also puts pension funds at risk when there are then less people paying in.

Local governments have taxing authority and can raise revenues by raising property taxes and sales taxes up to a point. They can also reduce services. The private sector can't do that. When they get squeezed they lay off workers. Private pension fund assets are enormous and if corporate profits fall for a long time then some firms won't be able to make their pension payments. One by one these pension plans will be given to the feds.

So, the feds can tackle the private banking debt problem by monetizing the debts of the banks but how do they protect the local governments and the private pension funds? Answer: Keep the public spending by whatever means possible and don't let unemployment get out of control. This is exactly what they will do. That's why they mailed out all those stimulus checks. More checks will follow.

As you can see, if the debt ball is allowed to roll backwards it will crush local governments, the consumer and pension plans. Unless the government props up consumer spending and employment, falling spending will crush corporate profits. This is what happens in an economic depression. It's a death spiral of debt and falling spending and this must not be allowed to happen. But, can the feds prevent it?

Yes and no. As I explained last month, due to Debt, Depletion, and Demographics a depression is very possible. They can prevent a decline in dollar total spending, i.e. nominal dollar amounts can be increased. They can't prevent a decline as measured by inflation adjusted dollars. Unproductive spending results in inflation and inflation is the price that must be paid to prevent falling prices. This will be accomplished by government taking over the debts of business and increasingly using treasury money to expand spending to keep people employed. The private debt burden will be gradually reduced by inducing inflation. Debts will be paid off with cheaper money. However, in real money terms, people will get poorer as purchasing power declines.

The biggest losers will be savers if they don't recognize what's coming. People who did the right thing and saved and didn't spend recklessly are now in a much better position than those with no money. It's essential to understand the government's game plan so those saved dollars don't become worth less as time goes by.

The American Model and Oil
America has a triple-A bond rating because of relatively low inflation and the certainty the debt will be repaid. America is the key intermediary in the flow of dollars and oil. Oil and other commodities are priced in dollars everywhere in the world. Everyone needs dollars to buy oil. The US uses its enormous military might to protect the oil producing dictators of OPEC. In exchange, they get trillions of dollars for their oil and recycle those dollars back in to US government bonds. The US controls the World Bank and gives or lends dollars to poor nations so they can buy oil thus keeping the peace. Some of those dollars eventually end up in US bonds too. The beneficiaries of the game are US allies and those with lots of dollars. Anything that threatens this petrodollar recycling system is a direct threat to the US and it's allies because it undermines the whole system. The Iraq war came about because Saddam Hussein said he would not accept dollars for oil. Iran also will not accept dollars for oil and is being threatened with war. Why would these nations want to break away from the system? Because they are rich in natural resources. They can make more money receiving payment in a currency that's not declining in value. Iraq didn't have WMD and Iran is not building nuclear weapons - that's a fact. Iran is a threat to the financial system and not a military threat. Iran, and Iraq before it, are also an obstacle to planned gas pipelines.

The world economy has expanded greatly under this petrodollar system and America, for the most part, has been a generous master. America engages in a form of colonialism except its based on economic hegemony and not territorial acquisition. The semi-vassal states of Europe have done very well with the American Model along with many other nations. The system works because America encourages democratic rule and local sovereignty unless a nation starts turning genocidal against segments of its population. Dictatorships are allowed if they don't get uppity or too abusive. Saddam got cocky and was crushed. That was a lesson for all those watching.

Fact is, the civilized world needs a benign master like America or believes it does in order to keep the peace. In eastern Europe and other parts of the globe there exists severe racial and ethnic tensions. Whole populations would murder each other unless a superpower intervened and started hanging aberrant leaderships. That's a fact. In general, the world doesn't want to see the American Model decline because it has provided prosperity and safeguarded, to some extent, many people who would otherwise have been exterminated in religious and ethnic cleansings.

The core threat to the American Model is oil depletion. The massive oil fields of the Middle Eastern vassal states of Kuwait and Saudi Arabia are in decline. This threatens the whole economic system because a switch away from petroleum to natural gas and alternative energies weakens the petrodollar. Major oil and natural gas supplies exist to the north of Iran in nations around the Caspian Sea. The US wants to build major pipelines but is having a difficult time with competing Russian and Chinese interests. The US needs a compliant Iraq, Iran and Afghanistan because the pipelines could go through these territories and into US protected oil terminals. If Russia or China controlled too much of this oil and gas it could weaken the dollar recycling business. The US is installing a key missile shield base in this area and greatly angering the Russians who see it as a threat and rightly so.

"I cannot think of a time when we have had a region emerge as suddenly to become as strategically significant as the Caspian." But the oil and gas there is worthless until it is moved. The only route which makes both political and economic sense is through Afghanistan. - Dick Cheney as CEO of Haliburton, 1998

".... build a pipeline south from Central Asia to the Indian Ocean. One obvious route south would cross Iran, but this is foreclosed for American companies because of U.S. sanctions legislation. The only other possible route is across Afghanistan, which has of course its own unique challenges. The country has been involved in bitter warfare for almost two decades, and is still divided by civil war. From the outset, we have made it clear that construction of the pipeline we have proposed across Afghanistan could not begin until a recognized government is in place that has the confidence of governments, lenders, and our company." - John J. Maresca, Unicol Corporation 1998

Source for these quotes

America's occupation in Iraq and Afghanistan won't be ending if Obama is elected. The stakes are much too high.

So far, Europe has largely sat on its thumbs and let America handle the fight for energy. Europe can get natural gas from Russia via pipelines through the old Soviet Block nations. However, they are fearful that without competing energy sources the Russians can bleed them to death and that fear is well founded. Europe needs to get some courage and stand beside America in the battle to provide various access routes to energy or become a victim of its traditional complacency. The whole American Model is at risk and if it fails then world war becomes a great possibility.

Some commentators say the Peak Oil theory is erroneous and there's plenty of oil. Oil prices have fallen from $140 to $125 thus proving, they say, that high prices are caused by lack of refineries, etc. If that's the case then why all this political tension in nations around the Caspian Sea? The oil in this region is high sulfur and hard to refine although natural gas is plentiful. If there were long term abundant supplies of light sweet crude then the Caspian region would be uncompetitive. That's clearly not the case. So, oil depletion is real and higher prices are likely. Read this BBC article from 2004 predicting today's high oil prices and why they should and must go higher.

The failure of the American Model would plunge the world into a dangerous period. The Russians may be a bit ruthless but they don't hold a candle to the Chinese if they got the upper hand. Life is cheap in southeast Asia and a rising China with its current leadership is no boon to world safety in my opinion.

Misinformation and Conspiracies
It's just too bad that George Bush screwed things up so badly and lost the confidence of people around the globe. The Bush administration deceived Americans about the reason for the wars hoping they'd be short conflicts and finished before anyone figured out the real motivations. However, the Iraqis decided to fight rather than rollover and some nations in the Caspian area refused to cooperate with America's pipeline plans. Gradually, the truth worked its way out through Internet blogs bypassing the gigantic and increasingly irrelevant corporate news outlets. Even respected PBS talked around the oil issue. The net result was a total loss of confidence in Bush and polls show 80% of Americans now don't trust him on Iraq, the economy or anything else that leaves his lips.

Truth on the Internet is sometimes served up with wild conspiracy theories and some real breaking news. The Internet had Bill Clinton involved in murder and drug running via blogger stories planted by right wingers. An estimated 40% of Americans now believe Dick Cheney was behind 9/11. Many web sites printed a story that Bush had bought 99,000 acres of land in Paraguay so he could avoid war crimes extradition. The stories became so prevalant that the US Department of State had to issue a denial.

"Ambassador Towell has confirmed that he does not administer any land in Paraguay on behalf of either former President George H.W. Bush or current President George W. Bush." - Source unsinfo.state.gov

The lesson for politicians is that times have changed and a large swath of the public refuses to be spoon fed misinformation planted by the government and delivered via the corporate news media.

Killing Two Birds With One Stone or How the Feds Will Pump Money Into the Economy
The way to prevent a financial bubble from deflating is to induce another bubble. The 1960s and 70s were a period of high inflation caused by guns and butter spending courtesy of Lyndon Johnson and the Democrats. Ronald Reagan told Paul Volcker to stop the inflation and he did by raising interest rates into the teens. It worked. Reagan never cut spending. He simply shifted from printing money to issuing debt in the form of government bonds. It accomplished the same thing. Debt works as long as people and foreign governments are willing to buy the bonds. They've done so for 35 years and interest rates remain low. George Bush has pushed debt to extremes by doubling the national debt in 7 years. Still, the game continues.

In the present environment, expanding federal debt is causing a lot of worry. It would seem that we've squeezed everything possible out of the debt expansion scenario. In addition money printing is causing prices to rise for oil and food. So, how can they deal with all this debt without causing inflation? They can't. They can, however induce another bubble to support stock prices and prevent a pension fund implosion.

The most likely approach in the future will be to acknowledge oil depletion and print massive amounts of money to spend on a new energy infrastructure of solar, wind and natural gas. This may be enough to cause a boom albeit with inflation which will serve to pay down the debts with cheapened money. It's essential that the inflation gets pushed into wages. Government subsidized public works with corporations as the money funnel could do the trick. It would be a very spotty boom though. High energy prices will harm vast swaths of the economy while targeted areas do well.

This strategy could work if the world continues to denominate commodities in dollars and if implemented before another currency becomes competitive.

We must not become so negative on the debt and deflation problems that we ignore an incipient boom should one gather steam. It hasn't started yet but might start after 2009. The convergence of oil depletion and an impending depression will cause the government to spend at levels that are incomprehensible to us today. Get ready. It's not possible to say with certainly that such a plan won't succeed. There isn't another large world economy that can take over the US role and don't forget that the world's financial system is dollar based for a reason. Trust. Despite its many flaws, America has been an aggressive champion of many positive initiatives and a leader in technology and human rights. It's very possible the world financial system will morph into some new form that shares dominance with America rather than take a chance on a more risky path. Don't rule this possibility out.

The War on Gold
The feds need the stock market not to fall. They've lowered the fed funds rate to about 2% and have let inflation rise above 5%. In this environment, small investors lose if they save money in CDs and other traditional safe saving vehicles. The feds want people to place money in stocks and negative interest rates provide an incentive. Gold is a target for the money manipulators. It is the anti-fiat currency and its rise causes a loss of confidence in the dollar. The gold market is easy to manipulate because it's so thin and I have no doubt world governments are trying to hold down gold. This is a great time to be a buyer. I'd buy at any time gold is close to its 200 day moving average - like right now. Here's the link. GLD 200 Day Moving Average

The best way to own gold is with gold coins in your possession and secured in a safe deposit box. Buy from an established local coin dealer with a cashiers check or cash. The markup for US Eagles is about 3-4% over the spot price. They usually buy coins back at the spot price.

Gold has a great future. The gov't will keep interest rates below inflation for years to prop up stock prices. Yes, they'll eventually have to raise rates but inflation will be rising too so we'll still have negative real interest rates. I've written on this before and have shown charts displaying the correlation of negative rates with rising gold prices.

This chart shows the year over year return on gold (vertical axis) compared to real interest rates. When real interest rates (horizontal axis) are above the rate of inflation, gold does poorly. When real rates are below 2% gold does very well. Real rates are now negative -3% (+5% inflation minus the Fed Funds rate of 2.25%). There has never been a more positive environment to own gold. The return on gold since December 2007 has been about 12%. This is a bull market in gold and the feds are holding down the price for you.

The 401K Dilemma
Many small investors save money in a company sponsored 401k plan. The big problem is these plans usually have very limited investment options. They offer some stock and bond funds and perhaps an index fund. The plans have high fees and big penalties for withdrawing money early. Most offer no ability to have a brokerage account. You can't buy gold or effective inflation hedges. You can't buy PRPFX or build the LifeBoat Portfolio I suggested last month. What should people do who are stuck in these things? There are two options as I see it.

You could simply stop contributing to your plan. Pay the tax and save in a Roth IRA up to the maximum. If your employer matches 401k contributions then the decision becomes harder. You could continue to put money in but place it in a money market fund. If you leave your employer, roll the money into a rollover IRA and get a brokerage account. A financial planner can help you with this.

Another option is to keep the 401k and time the markets using the SWR models to avoid steep losses. Market timing and asset allocation are the way to go. My subscriber "J" sent me a link to a market timing method using moving averages and asset allocation. This has has a lower risk profile than plain asset allocation because it protects somewhat against severe declines. You can view the white paper here.

The 10 month moving average system, like all MA systems, has the problem of frequent price whipsaws. It does protect against severe market declines but at a price. It may not be suitable for a 401k plan since many mutual funds now charge a 1% fee if you take the money out of a fund sooner than 6 months or 1 year. This effectively kills market timing using MA because the costs add up so fast. ETFs are a better product to use but most plans won't let you buy them.

The SWR models are more effective because they seldom trade and perform much better. Still, I'm a believer in studying different methods so read the white paper and get some ideas.

Wall Street Isn't Your Friend and Neither is Congress
My focus in these eltters is on preserving and growing the assets of everyday people. I don't care a twit about politicians or right or left ideology. For me, there's common sense and fair play. Our financial system is in decline because our politicians abandoned critical thought and common sense and gave Wall Street's greed whatever they wanted and ignored basic regulation.

For example, the SEC recently said that naked short selling of stock in major financial firms will be prosecuted. It's already illegal. Naked short selling is selling a stock short without borrowing or controlling the underlying shares. The big banks, now failing, have engaged in illegal short sales for years and profited by market manipulation of other firms stock. They make huge amounts of money harming other firms but the SEC says now that doing it to the banks will get you sent to jail.

Look at what these banks have done to people. They lend money on credit cards to people who shouldn't be able to borrow and then charge them 24% interest. You may say, so what; these people had it coming. The average person knows very little about money management and needs protection from abusive lenders. Many people simply aren't very smart. Poor regulation and a lack of good judgment got us into the subprime mess and mortgage debacle. The executives received huge payouts while damaging the nation immeasurably. These banks morpheded into vampires. They viewed the public as feed stock for fee generation. Bush and Paulson are now bailing them out with public money. Next the public will be bailing out the banks on their bad credit card debt. I say let them fail and good riddance. Maybe the next bank will be more careful. No chance. They'll be bailed out regardless of what I think because Wall Street is the biggest contributor to Congress.

Our federal government has evolved into a monstrosity and lost touch with the roots of this country. Criticizing our corrupted politicians is not disloyalty. In fact, it's the most honest and loyal thing you can do if we're to turn around the mess we're in. The core problem is the private funding of federal elections. Big business owns Congress and controls it with donation dollars.

The US financial system is run by Wall Street for their personal benefit. They tell small investors to "buy and hold"; "stay the course". Of course that's what they'll say. They collect a fixed fee on your assets as long as your invested and regardless if the market falls.

In November we'll have a new president. Little will change for the better. Obama is talking about taxing the oil companies and giving the money away to everyone in the country. He has a bill in the Senate to give away 1% of US GDP each year to poor countries. This guy is clearly in favor of meddling in markets and punishing and rewarding people based on his perception of right and wrong. I'm afraid his election would precipitate a rapid move away from the dollar and capital controls.

It's easy to become inured to the bad news about failing banks and government bailouts and just go about your business. I'm telling you, what's going on in the financial areas is extremely dangerous and unprecedented in US history. The just signed housing bill is terrible legislation that essentially socializes all mortgages and shifts the debt to the general public. Why would they do this? Because, if the feds don't guarantee all the mortgage loans, foreigners would stop buying US bonds. Guess who is the biggest holder of Fannie and Freddie debt -- China.

Dumb Advice
Here's an example of institutional claptrap that I just received in an email from the president of a mutual fund. He's telling investors to ignore fear and stay the course.

In the email, he says:

"The point is, whether you're 22 or 62, you're a long-term investor. We don't invest to retirement. We invest through retirement. Stocks can go through weak patches, sometimes lasting a decade or more. But financial theory and the empirical evidence suggest that they're our best chance at long-term growth."

Financial theory says its all gonna be ok. That's reassuring. Tell that to a Japanese retiree invested in stocks in the 1980s and 1990s or an American from 1900 through 1920 or 1966 to 1982. Or 2000 to 20?? - whoa, that's now. Ok, how about a 55 year old, laid off GM worker after a few drinks.

If you make regular contributions (such as through a 401(k) plan), periods of market downturn can be beneficial in the long run, even though they can be very painful in the short run. Why? Because you're buying investments at cheaper prices—a large benefit if, in the long term, the stock market rises in value."

That's good to know. The downturn is beneficial because I can buy lower priced shares? By that logic, if it goes down for 10 years then every year just gets better for me. I guess that would make a depression financial heaven on earth. Even if true, which it isn't, that statement only makes sense if inflation is low. Otherwise, your buy-in price erodes every year. Note: Inflation is rising.

These institutional platitudes only makes sense over very long periods. It is disaster for someone at age 50. Most people can't start saving until their mid 30's. Most don't live for three decades in retirement. I don't understand why anyone would trust leaving their future to chance and simply hope it will all work out. This is an example of the well intentioned, rose colored eyeglass drivel spewed out in shareholder PR. It never dawns on these folks to discuss what might happen if things go the other way.

Your best chance at long term growth is proper asset allocation, infrequent trading and avoiding specific asset classes in market downturns.

Stay the Course
That means stay out of stocks for now. I've been warning on stocks for 9 months and I've been right.

The stock slump has spread worldwide and it is growing. Now is not a good time to buy equities. The world economy will take many years to adjust to oil depletion. Higher costs will strain consumers and corporate profits. We cannot grow our way out of our debt situation so we'll inflate our way out. In the short term oil could go lower but it will approach $200 soon enough.

Housing is not at the bottom and stock markets are going lower. Keep your capital safe. Hold cash and some gold or a properly balanced portfolio like I suggested last month. All stock indexes are in danger. Some advisors suggest owning foreign dividend stocks as a dollar hedge. I'm not comfortable with that but can't say it's wrong. Foreign markets have performed worse than the US this year.

America's financial systems are failing. The petrodollar system is failing. US debt is growing exponentially with most of it hidden off budget. The government is not being truthful about the inflation rate or the true deficits. Deception is always a precursor to abusive controls. A wise person will recognize the danger and take action. You can't wait around to read about things in the newspaper. It will then be too late to preserve your savings. Your objective for now should be to preserve purchasing power.

The dollar won't collapse unless oil is no longer priced in dollars. If you hear that a currency switch is under discussion then you'll have to quickly exit the dollar. For now, there's not a good trade currency alternative to the dollar. It's a good idea though to hedge the dollar by owning some foreign currencies. You could buy some gold or open a savings account in Canada or take other actions to place your savings into different pots. Consider it an insurance policy that you may never need. If your confused, talk to a financial advisor. Don't panic and do something extreme like cash out of your 401k or sell the house and buy bullion bars. The best approach is one of balance where you recognize potential dangers but admit you could be wrong.

People have hedged like this in every age. To this day farmers still discover huge caches of ancient coins in Europe and Asia. People hid their money in times of political upheaval. The discovered caches indicate that the people who hid the coins were displaced or killed because the coins were never recovered by them. Bad things can happen even in America. All I can say is observe what's going down, listen for deceptions and trust your senses. The news media is afraid to speak the truth. Events can change very quickly and you must be prepared ahead of time.

Best Regards,
Southwest Ranch Financial, LLC    (www.swranch.net)
Tom Gleason, Manager & Researcher

Author of: How To Invest If You Can't Afford To Lose
Tom Gleason has degrees in finance and information systems. He's worked as a bullion dealer, fraud investigator, real estate appraiser and financial analyst.

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