If you remember in October of 2008 I put forward the following:

The Truth is that we now require about $5 of debt to generate $1 of GDP. The Truth is that the reason you were not asked to approve $700 billion to capitalize 10 new banks, thereby creating seven trillion in lending capacity is that the economy cannot soak up that new lending capacity; each dollar of new debt generates almost no aggregate GDP.  If this were not true then that would be the logical and effective cure for the ‘credit crunch” – if the borrowing capacity and impact on GDP necessary to help existed.  They do not. The Truth is that you were lied to about the purpose of the TARP/EESA, because what you were sold was mathematically impossible.  It is supposed to be unlawful to lie to Congress.

As I pointed out at the time, the reason they didn’t create that $7 trillion in new credit issuance is that there was no more capacity to take on new debt in the private sector.

They knew it.

They lied about what “had to happen” for stability to be restored.

They lied because the alternative was that their friends – powerful friends – would have to go bankrupt.

But it gets worse.  Some of the other points:

The Truth is that the absolute worst thing you can do when “in the hole” like this is to spend even more on a deficit basis, thereby driving the debt ratio higher and return-per-dollar-of-debt in GDP lower.  The last eight years have been disastrous in this regard.

Yet that is exactly what we have done – we have replaced fully 10% of private GDP with public spending, and while the claim was made that this is “temporary” the CBO says it is not, Obama’s budget says it is not, and the credit contraction that is continuing in the private economy says it is not.

Bernanke and Paulson, and now Geithner, know that this attempted “reflation” won’t – and can’t – work.  They have put forward this path not because it is the right thing to do, but because the alternative means a lot of people with power and money will go bankrupt and the Government of The United States will have to change how it finances itself, removing the corrupt influences that have been used to “cook” the books – and outcomes – for the last 30 years.

We have blown three trillion dollars since these intentionally-wrong decisions were made, and we will continue to blow more and more money until the entire banking and economic system collapse unless we change course.

Nate has updated the debt-GDP contribution chart that I posted back in 2008 (and which was originally generated by Legg-Mason – it’s not difficult to generate it from the Federal Reserve Z1) and it shows exactly what I was predicting – and why the policies of the government and Fed not only haven’t but can’t work:

Now let’s be clear: Essentially all money is debt in our current system. As such attempting to “print” your way out, or attempting to “inflate” out, or attempting any act other than forcing the default of the bad debt in the system results in digging the hole deeper and deeper – that is, depressing private GDP further.

Government’s efforts have not helped, they have destroyed the four years we had before “zero hour” was reached.  Bernanke’s interference in the mortgage market didn’t “help” that market, he effectively entirely replaced the private market. The Government’s “interference” in the private markets by borrowing and spending $3 trillion over the last two years – more than 9% of GDP annualized – is an attempt to “paper over” the insolvency of private actors in the markets – both borrowers and creditors.

These acts of interference did lead to a huge stock market rally, but just as with all forms of cooking the books they are false dawns and false hopes. They present a picture of “solvency” that does not actually exist.  They present a picture of private demand in the economy that does not actually exist.

Since we are now below the “zero line” of GDP-contribution from further debt issuance we simply tighten the monetary flat spin by trying to further print or deficit spend.

The chart in the above link has been updated, of course.  It now looks like this:

Despite all the printing, despite all the borrow-and-spend politics each new dollar of currency is representing a decreasing monetary velocity multiplier – that is, we now get less than one dollar for each dollar – the real rate of return is now NEGATIVE.

As in a flat spin in an aircraft, you cannot pull up and live.  All pulling up does (printing or borrowing more money) is tighten the spiral.  I identified this crossover in December of 2008, and warned of it months earlier.

We have tried it Bernanke, Paulson and Geithner’s way and it has failed.

We will strike the ground unless immediate corrective action – that is, pushing forward on the stick – occurs.

Taking that corrective action will cause us to lose altitude faster for a while.  If we wait until the ground is “too close”, we will strike the ground and (economically) die.  The precise point where there is no longer enough time (altitude) is not known in advance, but that we have far less margin now, more than a year later, than we did in December of 2008 is a mathematical fact.

To halt this process we must take the following actions now:

1. All direct taxes must be scrapped immediately.  This means implementation of something like The Fair Tax.  I fully understand the political ramifications of thousands of lobbying firms and individuals losing their ability to game tax code, and why this sort of reform is unpopular with the political class.  Politics must give way to mathematics; the government must align its revenue with the promulgation of actual business success as measured by actual consumer final demand.  In addition such a change, while radical, would cause an immediate rush into America for the world’s business headquarter locations, and with those businesses would come high-paying executive, administrative and manufacturing jobs.  This proposal is an actual bill (HR. 25 / S. 296) which means it can be moved and passed.  We just need the political will to do so.
2. ALL government support for insoluble debt must be removed.  This means restoring mark-to-market, barring all off-balance-sheet activities and deeming that loans such as HELOCs behind underwater, non-performing firsts be written to recovery value (which in most cases is in fact zero.) I understand that this will expose the existing insolvency of some very large financial institutions.  I also understand this is very politically unpopular for obvious reasons.  It does not matter; this has to be done.
3. Banks must be required to hold Capital Reserves equal to 10% of their outstanding assets that are secured and 100% against all unsecured loans.  This will cause even more insolvencies, but it will instantly clean up the banking system.  Provide a six month time period for all institutions to come into compliance with (2) and (3), with no extensions, and mandate that any firm that does business in the US must comply – no exceptions.  Going forward the 10% capitalization level (for secured assets) must be monitored and maintained as a “warning level” and firms must be liquidated at 6%.  This will guarantee in the future that the FDIC will never a take a loss on the deposit insurance fund.
4. Treasury must then use the existing authority under The Constitution to issue non-debt-backed dollars.  This does not require new legislative authority – all existing coins are in fact not debt-backed!  Treasury can thus issue fiat, non-debt-backed currency under existing authority – it has simply refused to do so! This use should be restricted to funding FDIC pay-out requirements for the firms that become insolvent under this reform process.  This issuance – if limited to FDIC payout coverage - will not be inflationary as it will exactly balance the deflationary force of default on the debt caused by those insolvencies.
5. An expedited, one-time bankruptcy provision must be made available to consumers so they can enter and process against an expedited Chapter 7 liquidation.  It is essential that we permit consumers to de-leverage back to sustainable levels. Points #2-4 will insure that banks that fail as a consequence will have their depositors covered.
6. Credit-Default Swaps – or any other form of derivative - must be forbidden unless exchange-traded with a central clearing and margining counterparty that exposes all information to the market, including bid, offer, size and open interest. That counterparty must be the buyer for all sellers and the seller for all buyers, as is done today by the CFTC and OCC.  Those firms that cannot post cash margin against their open, underwater positions must tear them up within 180 days.  Speculation is fine – provided you can prove you can clear the trade!  Again, any firm that wishes to do business in The United States must comply in all markets, or be barred from our markets.  Once again this may produce insolvencies but point #4 will (again) guarantee that all depositor guarantees are covered.

Government is enacting “health care reform” today not to reform health care, not to provide health care, but rather to impose an immediate tax on all Americans to attempt to pull up even harder on the monetary stick. It won’t work folks.  It can’t work.  More than 18 months ago I identified the primary failure in the path that was being taken, and why.  We have tried it Bernanke, Paulson, Geithner, President Bush and President Obama’s way now for nearly three years, and yet there has been no resolution of the debt problem, no resolution of the housing market and no actual economic growth.  Instead we have papered over insolvency and lied about the health of both our banking and economic systems. Meanwhile the cracks in the dam continue to grow.  Greece is not just “one little problem” over in Europe.  Behind Greece is Spain, Portugal, Italy, Ireland and even Great Britain.  None of these nations have yet taken the actions necessary to resolve the problem, for the same reason we have not – it is politically very difficult to tell the entrenched banking interests “you must eat your own cooking – even if you choke on it.” We still have time to choose between bad and horrifically awful.  We can choose between recognizing the Depression we are already in (private GDP has contracted by more than 10% from the peak, which is the definition of economic Depression) or we can risk Zombieland or Mad Max becoming reality. Since Europe and the rest of the world show no desire or expectation to do the right thing, we must either firewall ourselves off from their collapse or we will inevitably go down the bowl with them. We are risking severe civil unrest and the possible destruction of our republic by our continued refusal to face the mathematical facts, not just a “double dip” recession.  What Greece and other nations are seeing now is nothing compared to what is on the horizon and will reach us if we do not act. Mathematics yield to no political desire or arrogance wielded by man or woman.  Those relationships described by mathematics inexorably come to pass, unless you change the equations.  In a debt-backed fiat currency world continuing to load debt into a system that has too much debt in it related to production is a futile and self-destructive act, just as is an alcoholic deciding to chug yet another bottle of whiskey. Economically we are facing liver failure and brain cancer unless we stop gorging on our drug of choice – debt.  Whether the consequence of ceasing to do so is politically expedient or not is, at this point, immaterial.  We are literally gambling with the ability of this nation to continue forward as a going and peaceful, civil concern. We still have time to act and do the right thing to halt what will befall us should we continue on our present path, but that time is running out.

Last Wednesday I sent out a report covering sector rotation comparing the price performance of these sectors from the January peak with last weeks price action. It was very interesting and it pointed to a sharp sell off Thursday or Friday

Here is last Wednesday’s report if you are interested: http://www.thegoldandoilguy.com/articles/28-day-sector-rotation-commodity-index-update/

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GLD Gold ETF Daily & 60 Minute Chart

Last week gold gap higher then traded sideways for a few days. I will admit it was very tempting to buy into the move but I stuck with my trading strategy which is to not chase moves which gap in my direction.

Gaps are known to get filled about 70% of the time. What that means in this situation is that the price will most likely sell back down to fill that gap before trying to move higher.

All that said the problem I see now on the daily chart is the possibility of the mini Head & Shoulders pattern breaking down. If gold moves any lower then I would expect a sharp pullback. The measured move would equal a pullback to the $104 area on the GLD chart and the $1070 level for spot gold.

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SLV Silver ETF Trading Chart

The silver chart looks much different than gold’s but in reality they are trading in a similar situation. If silver moves any lower then sellers will flood the market and take the price down to the next support level. But if we get a bounce then it should surge and rally almost a $1 per ounce from this point.

Only time will tell as we let this trade unfold with a stop at $16.52.

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Natural Gas – Weekly Trading Chart

Natural gas has been selling down for almost 2 months. The chart is starting to show a possible buy point if all goes well in the next few weeks.

What I like about this chart is that we saw a break of a support level and heavy selling which tells me the general herd is getting shaken of their long positions. This extended sell off is now entering a support zone and could provide us with a low risk setup in the next 2-3 weeks.

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Crude Oil – Weekly Trading Chart

Oil is trading similar to gold and silver. It is trading at a key pivot point and could go either way quickly. I will be keeping my eye on the daily and 60 minute charts for a possible low risk entry point.

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Weekend Stock & Commodity Trading Conclusion:

In short, the overall market is trading at level were there is not much to we can do. Day traders are able to take advantage of this price action but not swing traders.

I feel the major indexes have another 1-2 down day left in them before a bounce, but it’s more difficult to gauge the momentum with a cool down period in the middle of it all (the weekend).

The market is on the edge of some exciting moves as I can feel something brewing. With any luck there could be some great opportunities in the coming days.

If you would like to receive my Free Weekly Trading Reports checkout my website: www.GoldAndOilGuy.com

Chris Vermeulen

Free E-Mail Trading Course Here

Bill Luby at Vix and More

Truthfully, I have not surveyed our ursine friends this morning, so I really have no idea if they are emboldened by the low CBOE equity put to call ratio (CPCE), but they should be.

My preferred way of looking at the equity put to call ratio involves using an exponential 10 day moving average (EMA) as a smoothing factor. The 10 day EMA generates the dotted blue line in the chart below, which is now at a one month low, meaning that bullish investors are now likely to be speculating more aggressively with calls and are less concerned about managing risk with put protection. The chart shows that prior lows in August, September, October and January all preceded meaningful pullbacks. The history of put to call extremes suggests that another pullback is now in the offing.

Whether the bears are truly emboldened or even bother watching put to call ratios, this looks like an excellent time for longs to take some profits and go enjoy the vernal equinox.

For more on related subjects, readers are encouraged to check out:

• Put to Call Ratio and the Probability of a Downturn
• Put to Call Ratios and Volatility Predictions
• Put to Call Data at Extreme Levels
• CBOE Equity Put to Call Ratio Poised to Print Warning
• Chart of the Week: Total Put to Call Ratio

FREE SPY Trading Report Sent To Your In-Box

Yesterday was the 28th day of the rally out of the February 5th bottom. We are now in the trading band for the daily cycle in stocks to bottom. (The cycle rarely lasts much longer than 35-40 days.) So like I said in my last post we are due for a short breather any time now.

The consensus seems to be that the market will hang in till the end of the month. It may, but I tend to think we’ve probably seen about all the upside we are going to see at this point.

Clusterstock/Business Insider

The FHA is no longer the modest agency that helped make homes more affordable to generations of Americans.

It has issued hundreds of billions of dollars of mortgages in the last two years. It’s support for the housing market is expected to redouble once again, growing to $1.5 trillion over the next five years.

Along the way to becoming a behemoth, the FHA has radically transformed its business. Very few people seem to understand how thorough going this transformation has been. In many ways, the FHA is being run like a Ponzi scheme. And like all such schemes, it is likely to eventually fail.

A recent paper titled “Reassessing FHA Risk” may have escaped your notice. It is written in a such a sober and academic tone that it hasn’t attracted the attention it deserves. What it describes is truly horrifying: The FHA is unable to assess the risks it is taken and the losses it will face will be massive. Because it does not appreciate its own risk, it is not adequately taking steps to limit the losses.

Prior to our financial crisis, the overwhelming majority of FHA loans were eventually refinanced into non-FHA loans. The authors of the paper take a loan by loan look at FHA insured mortgaged in LA Country. From 2004 to 2006, as many as 80% of loan terminations that the paper studies in LA Country were refinancing into non-FHA supported loans. Basically, people were refinancing to take advantage of better terms available elsewhere or to monetize more of their home equity. For the FHA, these exit refinancings completely removed the FHA’s exposure to these mortgages.

The FHA developed a risk model that allowed for a three-way classification of FHA insured mortgages.

• “Good” – The mortgages that terminate with no claim on FHA insurance. Usually a prepayment of a loan on a house that is refinanced into a non-FHA mortgage.
• “Bad” – Loans that terminate with an claim on the FHA. These were defaults where the mortgage holder was able to get the FHA to pay up.
• “Ongoing” – Loans that were neither good nor bad.

Getting the mix of “Good” and “Bad” loans is important because it gave the FHA a view on what to expect for the “Ongoing” category. If too many loans guarantees wound up in the “Bad,” the FHA could adjust its risk accordingly. If it discovered that too few guarantees were “Bad,” it could decide that it was being too cautious and increase the amount of “Ongoing” loans it took on.

As the paper shows, the refinancing picture has completely changed. These days the vast majority of terminations are refinanced back into FHA mortgages. There’s a scary symmetry to the graphs, which show FHA-to-FHA refinancings growing to 80% of the total in LA County.

Unfortunately, the FHA’s risk models haven’t kept up with this change. The FHA-to-FHA refinancings are categorized as “Good.” Since this is 80% of the FHA’s terminations, the Good group is artificially inflated. This, in turn, means that the FHA would wind up predicting low future losses in the “Ongoing” group. In truth, all these loans are “Ongoing” and the FHA-to-FHA refinancings tell us nothing about whether or not the FHA should expect to pay out on these loans.

“The model would recover the prediction that all FHA mortgages terminate successfully, and the ongoing risks to FHA would be completely mis-specified. That is, the new FHA mortgages that are created by these streamline refinances would be predicted to have too high a probability of terminating in the Good group in the future,” the authors of the paper write.

That’s why we’re saying this resembles a Ponzi scheme. The health of the FHA portfolio is now entirely predicated on FHA loans being refinanced into new FHA loans.

Nationwide loan-to-loan data is not available. But the authors conclude that a similar pattern of Ponzi FHA-to-FHA refinancing continues on a nationwide scale.

“The Federal Housing Authority Now it has been turned into a loss-making machine,” Andrew Caplin, on of the reports’ authors, writes at his website. “While a recent actuarial review indicated that the FHA was not likely to need a taxpayer funded bail-out, this assessment turns out to be fatally flawed. Together with colleagues at the Federal Reserve Bank of New York and NYU, I have reassessed FHA risk, and found the situation to be even worse than we feared. FHA is unable even to assess the risks it is taking. Given this, losses will not only be massive, but also massively higher than they would have been with well-formulated mitigation strategies.”

As a result of the NDA approval for Silenor, SOMX will be required to make a $1.0 million milestone payment to its licensor for Silenor pursuant to its existing license agreement. SOMX had $5.2 million in cash, cash equivalents and marketable securities as of December 31 and said it has sufficient funds to operate through the second quarter of 2010.

Market Club has an interesting take on this big spike in SOMX. Click Here for a FREE analysis sent to your in-box. We see this as a buying opportunity near term with a longer term price target of $11.50. A break of $9.10 we should see the $11.50 mark rather quickly.

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The Market Ticker

Remember, Bernanke said under questioning the other day that “they hid it” in response to a question about whether or not The Fed knew about the Lehman “105″ repo arrangements, which appear to have been structured to intentionally mislead the public (and investors) about its liquidity position.

But in the deep of the night Financial Times published an article that resoundingly calls “BS” on that claim:

Securities and Exchange Commission and Federal Reserve officials were warned by a leading Wall Street rival that Lehman Brothers was incorrectly calculating a key measure of its financial health months before its collapse in 2008, people familiar with the matter say.

Former Merrill Lynch officials said they contacted regulators about the way Lehman measured its liquidity position for competitive reasons. The Merrill officials said they were coming under pressure from their trading partners and investors, who feared that Merrill was less ­liquid than Lehman.

Beyond the apparent perjury (which our Congress seems to ignore any time a “powerful” person commits it) there is the larger problem in that if the Chairman of  The Fed has lied about this, what else has he lied about?

Most critically, what about all those other banks out there with HELOC exposure behind underwater first mortgages that are not being paid on time?

The Market Ticker has reported on the wildly inaccurate and ridiculous treatment of firsts in this environment – people being “allowed” to remain in a home even though they haven’t made a payment in a year – and sometimes two, loans that are reported to credit bureaus as having payments made on them “by agreement” when the consumer is not only not paying but has never talked with the financial institution involved about it.  A quick look at the 10Qs and 10Ks filed by the big financial institutions discloses that these institutions have literal hundreds of billions of HELOCs and Second Lines on their balance sheets that are behind underwater first mortgages.  Each and every one of those loans is worth nothing if the first mortgage it is subordinate to fails to pay.

There is thus every reason to believe that not only did Lehman materially misstate its balance sheet position and financial strength but that this deception is ongoing right here and now.

Further, Diana Olick of CNBS has reported on what I have asserted repeatedly over the last three years:

If the banks really accounted for all the losses in the home loan market, they’d all be insolvent.

I have every reason to believe that not only is there a pattern of conduct here in deceiving the American People as to the “financial strength” of the banks and other financial institutions in this nation but that this deception is willful, ongoing, and reaches all the way to The Federal Reserve Chairman.

This Financial Times report, along with the report on Lehman Brothers (which asserts that The Federal Reserve Bank of NY had the information necessary to discern what Lehman was doing – whether it acted on it or not) makes a prima-facie case of willful and intentional regulatory blindness to balance sheet fraud and intentional misrepresentation of capital positions.

This is not the only regulator against which such charges have been lodged.  OTS appears to have intentionally permitted Indymac Bank to backdate deposits – and the firm subsequently failed.

This sort of regulatory malfeasance must not be allowed to stand.

These are not accidents, they are intentional acts.

When multiple people conspire together to break the law you have the very sort of act that the Racketeering Statutes were designed to prohibit – and punish.

The assertion by The Fed (and FDIC) that ”it lacks the authority” to resolve large failed institutions is a lie.  “Prompt Corrective Action” (Title 12, Chapyer 16, Sec 1831o) of US Code not only provides all the authority necessary to close a bank – any bank – that fails to meet statutory capital limits it mandates that action.

There is no discretion permitted in that statute and The Federal Reserve, as one of the Federal banking agencies, has no right to ignore this section of black-letter law.

Yet it, along with the FDIC, OTS and OCC all have.

The balance-sheet games and holding of loans that have no collateral and are behind non-performing firsts yet have not been written down to their recovery value, which as a matter of statutory law is zero, is an outrage.

We must not permit federal officials, including Bernanke, to come before Congress and thumb their nose at the rule of law, just as we must not permit so-called “federal regulators” to thumb their noses at the black-letter law that not only is more than sufficient to resolve these failed and failing institutions but mandates that these regulators do so.

We had on watch-list at the 200SMA at 38. Stock based right on the number (not what you want if you are looking for support reversal) broke through but hit secondary support and found footing. Entry is on a lift-off from that area (37.55-37.64 average fills) for a day-trade back into primary support as a target (38) for at least partial sale.

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