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    Default TRANSPARENCY - February 2008 - Eric Hodges



    A Distilled Markets and Macroeconomic Letter
    February 2008

    Transparency Detail

    A The Whites of the Fed’s Eyes

    The Fed seems panicked. The .75% cut was unprecedented and the Fed cut 1.25% in eight days. The key question, in my mind, is will these actions help housing/mortgage lending, bank to bank lending, stock prices, etc? In my opinion, not much. Longer term we may see more damage done to the dollar and only temporary support of stock prices. I don’t think the Fed cuts will make any difference in home values.

    Next up is the Bush Administration’s effort to get consumers to continue spending via ~$145 billion tax rebates. Where will this money come from? Debt. Who has to pay off the debt? U.S. taxpayers. These tax rebates, in my opinion, are a band-aid move that will be very temporary and of highly questionable value both long and short term.

    Potentially much more important may be credit contraction, insolvency, derivatives, consumer spending, corporate profits, and housing:

    1. The banks don’t seem to want to lend to each other because they seem to be concerned about defaults. The write-downs continue and I think they will get worse.

    2. Many more mortgages could reset to higher rates causing more foreclosures and CDO/CDS derivative product defaults.

    3. Banks may also have serious problems with credit card and auto loan defaults. This could impede consumer spending.

    4. Corporate profit margins have been at record highs. I don’t think they will stay there and the market does not seem to be pricing this in. Read Hussman on this here.

    5. Housing is now a price/supply issue that can not be fixed by a renegotiation of mortgage terms. It seems clear, in my opinion, that prices need to move down to a point where people will buy. At some point I think there will be a capitulation in prices to much lower levels.

    A key article to read is Eric Janszen’s Peak Cheap Oil, Peak Dollar... on iTulip.com. I think Janszen is getting very interesting guests to interview that I’m not seeing elsewhere.

    Please send me email if you are reading this on iTulip.com and would like to read Transparency in its PDF version that I email each month.

    The Markets

    Stocks

    Fundamentals: In short, I feel that the market is overvalued on a historical basis. If we see higher inflation, the market may move higher in Dollar terms but could well remain challenged in terms of other currencies.

    Technical: Please see the SnapShot section below.

    Bonds
    I’m concerned that longer dated bonds (5 years to 30 years) may fall in value at some point.

    Gold
    Gold seems to be reacting to the Fed rate cuts and financial/economic weakness.

    Reminder: fiat currencies are not tied to anything of tangible value. They are only worth whatever the market, and the public, feels they are worth. As more fiat money is created the value of this paper money should go down. In my opinion, the U.S. is creating too much money and so are China, Japan, and Europe.

    Dollar | Currencies
    Long-term I’m still negative on the Dollar. The real story is the Dollar as measured against gold and oil etc., where the Dollar has lost a huge amount of value and may lose much more. I am watching the Yen for signs of the “carry trade unwind.”

    Oil
    Oil is at $87.07 (02/06/08). There is significant risk, in my opinion, that it may stay relatively high indefinitely. If oil prices move downward substantially, this may be pricing in a recession. A major concern with oil is the potential for a wider conflict in the Middle East, which could crimp supply. There are many other potential geopolitical risks to oil as well.

    The Economy
    The Fed
    See above.

    Housing
    See above.

    The Consumer
    I believe that many consumers have less home equity now than before because they have taken money out of their homes and spent those funds. Consumer savings rates are very low or negative. I believe that consumers are being gradually squeezed by high oil prices on one side and rising interest rates on another.

    Transparency Snapshot

    Stocks - Short Term - High Risk
    The market bounce from S&P 1270 hit resistance at S&P 1395 and then fell through previous support at ~1380. The VIX (volatility index or fear gauge) is at 28.97 (02/06/08).

    Stocks - Medium Term - Elevated Risk
    I believe that the risk is the market averages may have quite low returns for some time or potentially flat/negative returns when inflation is taken into account. The fundamental picture is bleak in my opinion. The credit/insolvency crisis seems to be getting worse.

    Bonds
    Treasury yields have moved down (again) and seem to be pricing in fear of recession etc. I’m still concerned about longer dated (5 year and longer) bonds loosing value.

    Gold
    Gold one month futures are at $903.80 (02/06/08). I’m watching Gold relative to stocks, Fed cuts, the Dollar, and other currencies.

    Oil - Staying High
    Oil is at $87.07 (02/06/08). If we have a slowdown or recession, oil might have a relatively steep sell-off. I think there is significant risk that with Fed rate cuts we could continue to see high/relatively high oil prices even with a slowdown/recession.

    The Economy
    The housing/credit/insolvency crisis continues to worsen. Home prices have fallen in many areas, some quite significantly. The Fed is worried and seems poised to cut rates further. I don’t think these cuts will have much of a positive impact on the economy.

    The USD is at 76.17 (02/06/08) (stockcharts.com ticker: $USD). I feel that Dollar based assets may be at risk in general, both near and longer term.

    Fed Funds are at 3.0%. I think the Fed will continue to cut rates if more bad news in the financial sector/economy/stocks/housing comes to light. I, of course, expect to see plenty of bad news.

    Transparency Strategy
    My concept is to bring you a the most transparent look possible on the economy/markets via a quick read with plain language. This letter is geared toward the busy executive/business owner. If you are really short on time just look at the Snapshot section where I keep everything as brief as possible. In the Detail section I try to give a little more insight into my thinking without delving so deep that I stifle the reader.

    When constructing portfolios, I take the client situation into consideration first and then combine that with the current economic/market factors presented in this letter along with well researched asset allocation strategies.

    If you have specific questions on where I see things, or would like to discuss your portfolio, please feel free to contact me.

    Eric Hodges
    Financial Advisor
    Stahlschmidt Financial Group

    ehodges@sfg-financial.com

    925 906 4600

    500 Ygnacio Valley Road
    Suite 150
    Walnut Creek CA 94596

    The information being provided is strictly as a courtesy. When you link to any of these web-sites provided herein, FSC Securities Corporation, makes no representation as to the completeness or accuracy of information provided at these sites. Nor is the company liable for any direct or indirect technical or system issues or any consequences arising out of your access to or your use of third-party technologies, sites, information and programs made available through this site.

    The information provided here is for general informational purposes only and should not be considered an individualized recommendation or personalized investment advice. The type of securities mentioned may not be suitable for everyone. Each investor needs to review a security transaction for his or her own particular situation. Investing involves risks including potential loss of principal.

    The price of gold is subject to substantial price fluctuations over short periods of time and may be affected by unpredictable international monetary and political policies.

    Fixed income investments are subject to various risks including changes in interest rates, credit quality, inflation risk, market valuations, prepayments, corporate events, tax ramifications and other factors. In General the bond market is volatile, bond prices rise when interest rates fall and vice versa. This effect is usually pronounced for longer-term securities. Any fixed income security sold or redeemed prior to maturity may be subject to a substantial gain or loss.

    The price of commodities is subject to substantial price fluctuations in short periods of time and may be affected by unpredictable international monetary and political policies. The market for commodities is widely unregulated and concentrated investing may lead to higher price volatility.

    The views expressed are not necessarily the opinion of FSC Securities Corporation, and should not be construed directly or indirectly, as an offer to buy or sell any securities mentioned herein. Investors should be aware that there are risks inherent in all investments, such as fluctuations in investment principal. With any investment vehicle, past performance is not a guarantee of future results.

    Data contained here is obtained from what are considered reliable sources; however, its accuracy, completeness of reliability cannot be guaranteed.

    Registered Representative offering securities and advisory services through FSC Securities Corporation, a registered broker-dealer member FINRA/SIPC & A SEC registered investment advisor.
    Last edited by FRED; 02-07-08 at 04:50 PM. Reason: Formatting

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