A bull sign for banking turning around

If the fundamentals for financial banking shows signs for the followings, its time to consider a long position for the next bull;

• Valuations are idiotically compelling.

• Inflows of new problem loans, especially mortgages, appear to be declining.

• Delinquency roll rates are declining, as well.

• Lenders have begun to liquidate their foreclosed properties in an orderly fashion.

• The outlook for the companies, post-crash, is startlingly strong.

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I.O.U.S.A - The Movie

A documentary film exploring the rapidly growing federal debt and its implication for the United States and its citizens. America is faced with the challenges of an ever-expanding government and military, increased foreign competition, and obligations it is finding more and more difficult to honor. As the Baby Boomer generation prepares to retire and begin collecting benefits from America's over-extended entitlement programs, an economic disaster of epic proportions awaits.

Everyone are encourage to see it, especially investors, because the problems it highlights truly are scary and we all should focus more on them as investors and just plain citizens. It specifically suggests that the U.S. is now on the brink of meeting the same fates as the Roman and British empires partly because of fiscal irresponsibility.

The hard content features an historical review of how our national debt became engorged going back to the Founding Fathers. It notes our generally consistent practice of promoting savings and repaying national debts that were required by military crises, once the crisis is resolved - until recent times. It pounds on the foolish idea of Ronald Reagan (abetted by the now discredited “Laffer Curve”) and particularly Bush 43 that lowering tax rates would actually raise government revenues. (Fact: it reduces government revenues as common sense tells us it would.) The film gives what seemed to me to be grudging credit to the fine work of the Clinton administration in balancing the budgets and creating surpluses. All of that information is presented is as non-partisan a fashion as the facts could possibly permit.

Two aspects of the film particularly noteworthy.

First, it highlights the role of unfunded off-balance-sheet liabilities as key to the U.S. debt problem. On a near-term basis, social security surpluses have been offsetting budget imbalances to a major degree during the past 25 years. But social security is starting to provide less cushion every year and will cross over to cash flow negative in 2015, just seven years from now. When the even larger looming problems of Medicare and Medicaid are added the projected national deficit and debt, the numbers begin to look truly horrific.

Second, the astounding part of the film is its lack of virtually any reference to oil as a problem, other than in general terms as contributing toward the trade deficit. But there is no mention of the impending Peak Oil problem. The fact that at the same time that Social Security turns cash flow negative in 2015 the country will also be fighting the gigantic problems caused by Peak Oil (which looks to be here sometime in the 2010 - 2012 time frame) is perhaps too much reality even for this film to contemplate. But for those of us who are focused on the impact of Peak Oil, the meaning of Peterson’s film is even more trenchant.

The film makes a stab at trying to impress the audience with the danger of massive debt owed to foreign countries, but it could have done a better job, I thought. The key to that concept is that a county’s currency value is a function of both trade and financial flows. That is, when a country begins to run a trade deficit, the consequent reduced value of its currency tends to correct trade imbalance by making its goods more affordable to foreigners and making foreign goods less affordable to be imported.

But when a country runs massive trade deficits for many years, as the U.S. has been doing, a large amount of currency in the hands of foreign governments can stop the trade deficit re-balancing from righting the currency value because foreign holders of the currency may lose confidence and begin to reject increased levels or even current levels of ownership of the currency. That creates more sellers of the currency among government and financial institutions that can more than offset a better trade balance among buyers and sellers of real goods.

In fact, this is exactly what seems to have been happening to the U.S. dollar recently. We are starting to see a reversal of the trade imbalance as more goods are starting to be made in the U.S. and fewer goods imported, due to the fallen value of the dollar (and the high price of oil which makes transporting goods more expensive). Nonetheless, there are so many dollars in the hands of the Chinese, Japanese and oil exporters that those countries may continue to sell dollars, driving down the currency, even as the actual supply and demand for products begins to favor U.S. domestic producers. Thus, financial flows can overwhelm trade flows to distort the value of a currency far in excess of what “purchasing power parity” would suggest is the “right” level.

The problem of too many dollars in foreign hands is exacerbated greatly by the high price of oil given America’s need to import about 14 million barrels of the stuff every single day. In fact, oil could cause a vicious cycle of selling the U.S. dollar to occur. That would happen if the price of oil goes higher and keeps growing. At some point there will be so many dollars held by oil exporting countries that some of them may try to lower their dollar exposure regardless of the value of the dollar. That would tend to drive the dollar lower, which would raise the price of oil (which is denominated in dollars), thus putting even more dollars in foreign hands and thus creating even more desire on the part of foreigners to sell their dollars…which would lower the value of the dollar further and increase the dollar value of oil further, etc., etc.

Bottom line for an oil investor

The perilous condition of U.S. fiscal imbalances is likely to push the value of oil in dollar terms higher over time, which tends to generate stagflation in the U.S. As it does so, the risks to owners of U.S. stocks as an asset class become greater. Eventually, with a high enough price of oil, a general stock market crash seems likely. We are already seeing a tendency for stocks to rise or fall in inverse relationship to the movement in the price of oil.

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Berkshire Hathaway Inc. a long term core holding

Berkshire Hathaway Inc. with Warren Buffett at the helm has one of the greatest financial combinations investors have ever seen. The shares of the once-wheezing textile-maker-turned-investment-vehicle doubled over the past 10 years while the broad Standard & Poor’s 500 Index returned only 18% during the same period. In the process, Buffett became the richest man on the planet, with a net worth of about $62 billion, Forbes magazine reported back in March.

Since then, however, Berkshire Hathaway’s shares have plunged 23% - the “Class A” shares closed Friday 22 Aug 2008, at $116,650 each, down from their 52-week high of $151,650 (the “Class B” shares represent 1/30th of the Class A shares). And Berkshire Hathaway recently reported a slight drop in its year-to-year earnings due to some weaknesses in its operating businesses, as well as some market losses in long-term derivative positions that ultimately will almost surely be very profitable.

But the long-term track record of Buffett is indisputable. His fame is such that many make a living of playing the “WWWBN Game” - “What Will Warren Buy Next.”

Some analysts argue that Buffett has lost his magic touch. We dismiss this out of hand. His most-recent decisions to add into railroads, to buy shares in leading steelmaker Posco Ltd. and 19 other South Korean companies, buying the leading Israeli industrial company and taking profits in his China holdings just before that market lost half its value all were brilliant moves and will more than compensate for any mistakes he made in timing the U.S. dollar’s weakness the year before or more recently in taking some mark-to-market losses in credit default swaps, where he eventually should end up making very good money.

More recently, Buffett’s Berkshire has added either directly or indirectly holdings in such companies as Kraft Foods Inc., making it the foodmaker’s biggest shareholder, and GlaxoSmithKline PLC, Europe’s largest drugmaker. Berkshire also was involved in a buyout deal for chewing gum icon Wm. Wrigley Jr. Company.

And we’ll be filing periodic updates on some of his other, more recent moves.

The bottom line is that under Buffett stewardship, Berkshire Hathaway is a like an astute and disciplined kid in a candy store.

It’s very clear that Buffett’s investment philosophy that capitalizing on value situations in companies that enjoy strong, sustainable competitive advantages in secular growth markets, and that will perform very well over the long term has worked much more often than not. And most of the “mistakes” that some analysts point to are actually linked overwhelmingly to short-term market movements that could easily reverse.

For instance, let’s take a look at Berkshire’s second-quarter earnings and the performance in its “troubled” insurance businesses.

For the second quarter, Berkshire’s net income declined 8% to $2.88 billion. Operating earnings declined 10% to $2.27 billion. The per-share operating earnings of $1,465 on the Class A shares actually topped Wall Street’s estimate of $1,370.

Berkshire typically derives about half of its revenue and profits from its insurance businesses. Its underwriting profit came in at $360 million, a drop of about 43%, and Berkshire said it anticipates that price competition in most of its insurance markets will reduce underwriting profits for the rest of the year.

However, Berkshire was able to post an increase in its insurance investment income to $884 million, up 3% from the $862 million reported in the year-ago quarter. That’s something that rival American International Group was unable to accomplish.

Berkshire Hathaway’s operating profit from its non-insurance businesses advanced 4%, reaching $1.086 billion.

Some observers contend that Buffett has become too distracted with too much ukulele-playing at Berkshire Hathaway’s investor gatherings and catching the public eye with trips to China, shown live on financial cable channel CNBC. Buffet is now also intent on saving the United States from “itself” and the mountain of debt it has amassed, which is the reason for his participation (and stellar performance) in the financial documentary “I.O.U.S.A.”

And yet some argue that Buffett’s advancing age (77) brings the uncertainties of succession to the forefront and that Berkshire Hathaway, with a huge pile of cash and its massive size, is too big to find enough profitable opportunities. Think again.

The evidence is very clear that when it comes to selecting the right companies for the long haul - the process developed by Buffett and his longtime partner in managing Berkshire, Charles T. Munger (age 84) - is solidly in place, until proven different, rather than the opposite. And while succession is a valid question, the list of capable individuals to carry on with this process inside this organization is long. And the Berkshire portfolio is very sound.

In terms of the decline in Berkshire’s share price, most of it can be attributed to the general slowdown of the U.S. economy.

While such key Berkshire holdings as American Express Co., Wells Fargo & Co. and its insurance units are temporarily suffering in different degrees from the real estate crisis and global credit downturns, these conditions will eventually abate and reverse strongly. And since stock prices have, in many cases, been pushed down much more than was warranted, this reversal could be very strong, indeed.

This is a high-quality investment portfolio. Once it contained the very best companies in the U.S. market - such flagship brand names as The Coca-Cola Co. But Buffett has changed with the times, recognizing the powerful opportunities that globalization has brought and will continue to bring for decades to come. In addition to the afore-mentioned move into Korea, Berkshire is engineering forays into such promising but undervalued markets as Germany.

Against this current market backdrop, cash is clearly king. Berkshire’s ready access to investment capital, and the shortage of investing liquidity are ready made for Buffett to exercise his well-known stock-picking prowess while creating still greater profit opportunities for Berkshire Hathaway down the road.

On conclusion, the short-term weakness in the U.S. economy which is reflected in the weakness of Berkshire’s stock price, makes Berkshire a bargain itself right now. And with Buffett at the helm, Berkshire will continue to be one of the most-profitable investments you’ll be able to find anywhere in the world.

But this is not a short-term play or a stock for trading. It’s a long-term core holding and indeed, one of the best you’ll find.

Federal Reserve comments on inflation

Federal Reserve Chairman Ben Bernanke said on 22 Aug 2008, "Slow economic growth will likely keep inflation at bay into 2009, but markets likely have not yet experienced the full fallout from the "financial storm" that began roughly a year ago."

Bernanke also noted that the inflation outlook is "highly uncertain." If commodity prices continue to soften, it would be good news for inflation, which has reached the highest level in decades for consumers and producers alike. However, Bernanke noted that part of the reason oil and other commodities have become cheaper is that the market believes that economic growth is "likely to fall short of potential for a time."

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Is your bank's web site secure for your financial transaction?

A study from the University of Michigan have found that from the 214 U.S. financial institution web sites that were analyzed, 76% of them had at least one design flaw which could compromise your financial data.

The vulnerabilities of the coding of the Web sites, where hackers may be able to gain access to information, there are also design flaws of the banks' sites that made it easier for users to be tricked into giving up private information such as phishing. These flaws includes;

1. placing log-in boxes and contact information on insecure web pages (47% of banks),
2. putting contact information and security advice on insecure pages (55% of banks),
3. redirecting customers to a site outside the bank's domain for certain transactions without warning (30% of banks),
4. emailing security-sensitive information insecurely (31% of banks), and
5. allowing easy-to-guess user IDs and passwords such as Social Security numbers or email addresses.

Before you place any financial information into a banking web site, you should look for a number of visual clues, to make sure that you are on the actual web page that you think you are. These visual clues will help you avoid giving sensitive personal finance information when the page is not deemed safe and secure:

Green address bar: If you are on a secure page, the web address bar and the company's name should be highlighted in green (as opposed to the standard white) at the top of the browser. The green highlights are confirmation that the web site has undergone extensive identity authentication so that you can be confident you are on the correct web site and not a fraudulent web site made to look like the real one.

URL starting with https://: Most web addresses (or URLs) begin with "http://." If the site's web address begins with an "s" after the "p" (https://), that means that the information you share on that page is encrypted, making it difficult for anyone to see what has been entered into the page. If the URL doesn't have the extra "s," it means that the page is not encrypted, and it's quite easy for someone with the know-how to gain access to the information.

You want to avoid entering any information that could be used to steal your identity (such as credit card numbers, your social security number or your mother's maiden name) into any web page that doesn't begin with "https."

The padlock icon: Another way to confirm that you are on a secure and encrypted page is to look for a padlock icon somewhere in the browser you are using. All major browsers come with the padlock feature when displaying a secure page. When looking for the padlock, be sure that it is located in the browser interface and not within the content on the page itself. Those who are trying to trick you into giving up financial information sometimes place a padlock into the content on the page in hopes that this will make you believe that you are on a secure page, when you really aren't.

The correct Web address: Pay special attention to the Web site address you're on. Many fraudulent sites will do their best to make the address look similar to the real Web site's address in order to trick unsuspecting victims into thinking they're on the real site. Be suspicious of any site that includes an unknown domain in addition to the bank's name, either before or after it. www.yourbankname.someurl.com or "www.someurl.com/yourbankname" are both examples of Web addresses that should make you suspicious.

Trust marks: Bank Web sites will often contain popular "trust marks" which can indicate important information about that online business. Leading trust marks include the VeriSign Secured Seal (online security and verified site identity), eTRUST (customer data privacy), and the Better Business Bureau (business practices). If you look for these marks and understand what they represent, you will have a better indication of the trustworthiness of the Web site.

In addition to looking for the above visual clues, another simple but effective habit to get into is to never follow a link within an email to a financial institution. Even if it is truly from your bank, getting into the habit of always placing the bank's URL into your address bar rather than following an email link will ensure that you are not being tricked into going to a fraudulent Web site.

Understanding the differences between a secure and nonsecure page will ensure that you don't input sensitive personal finance information into Web pages where others may have access to the information.

Identity theft protection is ultimately your responsibility, so it's important to know when you are and are not on a page you can trust.

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