Wall Street has long been a street of myths, pretty much propelled by an overwhelming belief that the path of both the economy and the stock market is one directional--inevitably up. Tumultuous periods, such as the crash of 1987 and the dot.com bubble of the early 2000s, and the economic and stock market debacle of the past two years demonstrate that such thinking is hogwash.
Alexander Pope once wrote, "Some people will never learn anything because they understand everything too soon."
The way I figure it, those ivory tower financial experts, namely the heads-in-the-cloud members of the sunshine fraternity who would have you believe the economic freefall is unquestionably over and that a meaningful economic recovery will be in full force before year end, would surely fit Pope's description.
Here's some pause for thought. When even the super rich find it necessary to tighten their belts, you know things are a lot worse than the sunshine crowd would have you believe. Take, for example, New York City Mayor Michael Bloomberg, worth an estimated $16 billion. As recently reported, he's now renting out a house he owns in Florida and is cutting back on his help, no doubt to help finance his heavily advertised re-election campaign and to offset his more than $10 million in investment losses last year.
As one official in his media organization told some Florida contacts: "Bloomberg is talking and acting sometimes like he and New York are both going broke."
As we all know, a sound credit system--the ability to borrow and repay the lender in a timely fashion--is what makes an economy tick. But credit crises abound. And as former Merrill Lynch strategist, Bill Rhodes, recently told me: "Until they're fixed, the economy and the market are going nowhere."
Michael Larson, the associate editor of the Safe Money Report, a monthly newsletter out of Jupiter, Fla., that has been shouting fire, echoes such thinking. In a recent commentary to subscribers, he noted "credit losses were rising anywhere and everywhere," which means, he says, "avoid risk and batten down the hatches for a worsening economic storm."
Documenting the severity of the credit losses, he cited the following first quarter numbers just issued by the American Bankers Association:
On top of this, the default rate on junk bonds has almost quadrupled to 9.5% from 2.4% a year earlier, according to Fitch Ratings. Meanwhile a University of California economist just predicted that a whopping 20% of hotel development loans made in the U.S. may default over the next 18 months.
On another ominous note, Standard & Poor's has just said it's planning to slash ratings on more than $235 billion worth of commercial mortgage-backed securities. The problem here: Loose underwriting, falling asset prices, slumping rents and rising vacancy rates are wreaking havoc on the entire commercial real estate sector.
Pointing to the flood of excess borrowing during the halcyon days of the early to mid 2000s, Larson notes "we now have to deal with the consequences of a massive credit bubble."
As a result, on the investment front, he says he would stay away from sectors vulnerable to deteriorating credit quality, tighter lending standards, skidding home values and falling commercial property prices. That means, he says, shun banks, insurers, homebuilders and REITS (real estate investment trusts).
Against this background of credit chaos--which, it's feared, could kill the economic recovery--Administration officials are now holding out the possibility of a second stimulus package, basically a tacit admission that the $787 billion stimulus program enacted in February is failing to get the job done.
Larson strongly opposes a Stimulus 2, "We shouldn't do anything additional at this time," he says. "Our deficit ($977.4 billion year to date) is already spiraling out of control and we simply can't afford it. The reality is we have to let the economy heal on its own." Further, he concludes, "turning the U.S. into a sub-prime borrower in an effort to fight necessary deleveraging is just not sound fiscal policy."
As for a widely held view that if all else fails, Washington will ride to everyone's rescue, Larson responds: "Plug your ears and lash yourself to the mast! These guys didn't get the mortgage crisis right, and they sure as blazes ain't getting the economy right."
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