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Mark's Market Blog

12-14-14: Oil. Black gold. Texas tea.

By Mark Lawrence

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Stocks had a rough week due to fears about Greece, China, oil, and negotiations in the US to pass some kind of budget and avoid a government shut down.

S&P 500 June 22 2014 to December 12 2014

Our lame-duck government is currently trying to avoid a government shutdown. A new budget for 2015 was due last Thursday; we don't have one. A temporary spending bill was passed to keep the government running until Saturday; that's now not enough. The house passed a budget on Thursday which no one particularly likes. It weakens the rules on banks and allows more rich people to dump more money into politics. It funds the DHS and implicitly funds Obama's amnesty program through next February. Now the Senate has to pass a similar bill. Republicans are livid that they won the election but haven't taken their new seats yet so in their eyes this budget process is being driven by democrats. The stock market will continue to drop until these bozos get their act together and pass something. I expect a budget will pass sometime this coming week, then the market will recover quickly. And then all new budget fights in late January when the new republican majority takes their seats and is determined to cut off funding for Obama's immigration plans.

France is currently spiraling downwards into deflation. Core inflation, which has energy stripped out, is already negative at -0.2%. The version including energy costs is, of course, much more negative. Headline inflation is 0.3% but expected to go negative early next year. Italy is well into deflation. This means that their huge public debt must be repaid with future euros that are considerably more valuable than current euros - a recipe for bankruptcy. It's thought that Europe needs a massive QE program, 'cause, you know, it didn't work in Japan, it didn't work here, but it will definitely work in Europe. Germans are dragging their feet, but that must change if the euro is to hold together. A dangerous dynamic is setting in where high European unemployment is sapping demand, causing companies to cut prices to hold on to market share. This in turn leads to further pay cuts and layoffs and bankruptcies in a vicious cycle. It is exactly what happened in Japan.

Greece is having a major crisis. The legislature is trying to elect a new president; if they fail, which is likely, there will be general elections. These are likely to be won by the far left party Syriza, who wants to exit the EU bailout and force bond holders to take a haircut. In other words they want to rock Draghi's boat. Greek stocks dropped 25% this week on the news, and their 10 year bond interest rate went up nearly 30%. Short term bonds jumped up even higher - a yield curve inversion that indicates fears of recession or default. What does Syriza want? Free electricity and gas, free health care, food and rent subsidies. All paid for by debt issued by the Greek government and bought up by Super Mario and the ECB. While Greek voters might like the sound of this, I can guarantee you that Mr.Draghi is not on board with this at all. Syriza is also a proponent of the theory of "odious debt," the theory that debt built up by a previous regime for purposes that don't serve the people is not enforceable. I note in passing that the bond holders and Mr.Draghi take a different view of this issue.

Spain, tiring of depression level unemployment, has a new party "Podemos" which is a leftist cousin to Syriza. Podemos is growing in popularity, promising a right to a basic income, caps on executive salaries, and nationalization of telecommunications, utilities and banks. In France if elections were held today Marine Le Pen's National Front would likely win, a far-right party that wants limits on immigration, no Euro, no European common agricultural policy. In Sweden prospects for passing a budget are threatened by the emergence of another far right party. In Germany the Alternative for Germany party is gaining strength on their policies of no bailouts for other European nations. Basically the EU is continuing to split faster and faster into a south that expects a free ride and a north that refuses to pay for it.

Inflation is fairly hot in Russia, with food prices up 25% this year. This month prices were up 5% to 6% in one week. The price increases are being driven by the rouble which is down 40% on the year, raising the price of Russian food imports. Russians have seen this movie before; they're changing roubles into dollars as fast as they can and stashing them under their mattresses. The projection from here is pretty easy: on present trends Russia is just a few months away from hyper inflation followed by economic collapse. Meanwhile, while the USSR used to finance socialist and communist parties the world over, the new Russia is financing right-wing parties all over Europe. It's been said by many that there's a fine line between ultra far left and ultra far right, and Russia seems to have crossed over that line. Find a European party that's against the Euro, against unfettered immigration, against more central power in the EU and you'll almost certainly find a party that's pro-Russia and getting financial and other help from Russia.

Dubai's stock market has dropped 30% in the last week on falling oil. Kuwait's market has wiped out nearly two years of gains. You have to believe this is affecting our stock market: margin calls have to be forcing people to liquidate, including US market positions. No matter how healthy our economy, it's difficult for our markets to go up while everyone else is crashing.

The China stock market dropped 5.5% on Tuesday. Chinese imports have leveled off, indicating low or no growth in their economy. Chinese real estate prices continue to drop. So does Chinese consumer inflation, now at a five year low of 1.4%, bringing the threat of deflation into play. Oil continues to drop; The chief executive of Kuwait's national oil company on Monday said oil prices were likely to remain around $65 a barrel for the next six or seven months. The World Bank said that $65 oil means Russia's economy will shrink by 2% next year. 2015 is shaping up to be the year when the US is the world's only functional economy.

Oil continues to drop, falling this week to below $58. OPEC is forecasting a drop in world demand for oil to 2002 levels. As oil continues to drop more and more US fracking sites become uneconomic, raising questions about the bonds which support fracking. For the last several years Saudi Arabia has cut production as needed to keep oil over $100; those days are now gone. If we wanted to have the price of oil go back up, we would need some sort of production agreement between the US, Venezuela, Mexico, Russia, Canada. It would be hard to get those people in one room, much less to agree on anything. Meanwhile Obama is very happy about this development: US consumers hate high gas prices; many of the countries hurt by low oil prices - Russia, Venezuela, Iran, Syria - are on his naughty list; and the economic squeeze on Iran is coming at just the right time in the nuclear negotiations. Low oil prices should help Obama complete a toothless nuclear treaty which Iran will never respect. Which worthless treaty Obama can appropriately claim as the main accomplishment of his foreign policy.

Argentina's markets are down 13% in a week. I don't know why - on January 1st, the terms of their bonds change and they can wiggle out of this. They're nearly home free.

US consumer confidence came in at 93.8, the highest reading since 2007. Jobs are increasing, unemployment is down a bit, gas is cheap, prices are down all over, what's not to like?

Japan just had elections, and Shinzo Abe's party won big. He now has a massive mandate to print money, collapse the value of the yen, and try to put Japan back to work with inflation and exports. Abe is also interested in changing Japan's constitution and building up Japan's army. I've a feeling Abe is putting Japan on a collision course with China and Korea.

I've enjoyed harping on China's boondoggles like their airports where no plane lands. They're not alone in this. Europe has 80 relatively new airports that attract fewer than 1,000,000 passengers per year. One 3 year old airport in Spain has not yet had a single landing. Poland has received €616 million aid in the last six years for their airports which are highly under utilized. Polish spokespeople say the projects are a success because they created jobs, brought in tourists, and drove up investment in the regional economy. And they're going to need another €82 billion aid over the next three years to keep them operating. I don't see any corruption here: a businessman wants to see a ROI before making an investment like this. A government just wants to see jobs.

As we watch the rest of the world seem to slip towards recession and currency wars, we can ask what the consequences are for the US. Immediately we can imagine a "flight to safety" among foreign investors who would pour their money into the dollar and dollar denominated investments, which could drive the dollar up to nose-bleed territory. This would be great for consumers as prices on imports fall. It would be troublesome for the Fed as we would be importing deflation, precisely what they want to fight. And it would lead in time to higher unemployment as foreign countries would have far more attractive labor prices. I expect most of this to happen and I expect the result will be an end to our bull market in stocks. It will also lower US interest rates as money pours into treasury bonds. This happened last week with 30 year interest rates dropping almost 10% from 3% to 2.7%. Low interest rates, rising unemployment, threat of a US recession - it's also easy to predict what follows that. More deficit spending. Republicans, democrats, it makes no difference: they have to seem to be doing something.

Sales of high-end cars - cars which sell for over $50,000 - are on track to hit 1,000,000 in the US this year. This is a combination of luxury automobiles, top end sports cars and large SUVs. Two-thirds of these vehicles are being leased.

Generating one inch of top soil takes 1,000 years, and if current rates of degradation continue all of the world's top soil could be gone within 60 years. About a third of the world's soil has already been degraded said Maria-Helena Semedo of the UN Food and Agriculture Organization. The causes of soil destruction include chemical-heavy farming techniques and deforestation which increases erosion.

Credit company Transunion did a survey and found that 22% of those aged 50 to 64 expect to be in debt for the rest of their lives. 31% of those over 65 expect to be in debt forever. It's the new way to pay off your debt: die.

The South shall rise again: not bloody likely. The 2014 state health rankings are out, and the south and the rust belt are doing very poorly. There's a strong correlation between race and health: minorities are much more likely to be obese and have diabetes. And southerners are more likely to smoke. Your mother had it right 50 years ago: eat your vegetables.

Even paranoids have enemies: If you're interested in the new NSA data center, read this.

A couple hundred years ago if you got an infection you were in serious trouble. In the civil war they routinely amputated limbs that had been shot for just that reason. Then starting in 1928 we got antibiotics and infections were suddenly no big deal. Well, they are again. Last year 23,000 americans died from anitbiotic resistant infections and a similar number in europe. In India today half of all infection samples are resistant to our most powerful antibiotics, and 58,000 infants died last year of antibiotic resistant infections. How did this happen? Bacteria can share genes with each other. In much of Asia you can just walk into any pharmacy and buy any antibiotic you want - I've done it personally in Thailand. You take the wrong antibiotic in the wrong doses, your infection shares some genes with some other bacteria that's resistant, and pretty soon the resistance has transferred to a different bacteria - now a new superbug. In much of the world we dump antibiotics on livestock - in the US we put them in food for pigs, cattle, chickens; in asia they're grossly overused in fish farms. The British government says superbugs will soon lead to 10,000,000 deaths a year. Here in the US we have an FDA which has procedure that pretty much guarantee it takes ten years and a billion dollars worth of trials to bring a new drug to market; I think the drug companies are secretly happy with that because it's a huge barrier to entry and keep young smart companies from knocking them off. But there's little profit in antibiotics so no one is doing research into them, as no one is willing to dump a billion dollars on one if it looks promising.

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