My weekend in Belize
Last weekend, I went to a meeting of high-net-worth investors in Belize. An old friend of mine, a successful international asset protection lawyer, organized the meeting. The attendees were almost all Americans and were all either near or past retirement age. For the first time ever in my career, when I began talking about the huge fiscal problems facing America and the U.S. government, there was widespread recognition by the audience of the facts and the figures I was presenting. That's never happened before. Admittedly, this was a pretty sophisticated audience... but it was still a first.
Not everyone was worried. One younger attendee, the CEO of an interesting start-up company in Southern California, said: "I remember people talking about these same problems in the early 1990s, but then, like a year or two later, the government was actually running a surplus. There wasn't really a problem at all... so what's different now?"
When it comes to the level of U.S. government debt, I hope all of our subscribers pay attention to one key statistic: the amount of the government's revenues that must go towards paying interest. As everyone who has ever paid a mortgage knows, carrying debts can become prohibitively expensive. My concern is the U.S. already has more debt than it can afford, which puts it at an enormous risk of a debt and currency collapse. While I wish I were wrong, I've learned that when it comes to finance, the numbers rarely lie.
Here's what I told the audience in Belize... The big problem we face right now is the Treasury has moved more than half of our total debt into the very short end of the yield curve. It did this to minimize interest expense. But as a result, we'll have to "roll over" roughly $4 trillion in the next 30 months. That's in addition to funding another $3 trillion or so in additional annual deficits. It's an interesting question, whether or not we can actually do this. We cannot do it if China stops buying massive quantities of Treasury bonds.
And as of today, China is a net seller of Treasury debt. If we can't fund our debts in the bond market, the Federal Reserve will be forced to monetize our deficits by buying Treasury bonds. If that happens, inflation will soar and the price of gold will double or triple almost overnight.
The bigger problem, over the long term, is simply debt service. Right now, the federal government takes in roughly $1 trillion in income taxes and a much smaller amount of money in other fees, duties, etc. (The government takes in another $1 trillion from Social Security and Medicare taxes, but it spends more currently on these programs than it takes in. So as a result, this revenue can't factor into our analysis of debt service.) At the end of 2009, the federal government had $11.8 trillion in total outstanding debt. That's the official number.
Likewise, officially, the interest we paid last year made up 11% of the government's revenues – but that measure included all of the social insurance premiums as tax. More importantly, the current budget doesn't include a number of highly significant obligations that are actually the government's responsibility, but are held "off balance sheet."
Here's a small list of the government's off-balance-sheet obligations:
1. All of the government-sponsored entity debt. Fannie Mae and Freddie Mac are now completely controlled and majority-owned by the U.S. government. Combined, they owe more than $1.6 trillion. This doesn't include any of their mortgage guarantees, which could easily end up costing another $500 billion.
2. The looming FDIC shortfall. The U.S. now has more than 700 insolvent banks (at least). Assets of these banks total more than $400 billion. The FDIC has a negative balance of $20 billion. The FDIC is legally required to keep a reserve ratio of 1.15%. Thus, by the end of this year, the FDIC will need to borrow hundreds of billions of dollars. My estimate is $500 billion in funding by the end of 2011.
3. Federal Housing Administration (FHA) guarantees. Although you won't find these obligations on any federal ledger, the FHA – the wholly owned mortgage finance arm of the federal government – has now insured roughly $800 billion in subprime mortgages. Most of these loans required only a 3.5% down payment. And nearly half of the loans were originated after 2008. These loans will end up having the highest default rates of any loan pool. I estimate losses of near $500 billion.
Please keep in mind... These obligations aren't future promises to pay. This isn't Medicare spending projected out until 2040. These are all obligations that either have known maturities or will come due in the next two or three years. There isn't much guessing about the magnitude of any of these obligations.
Thus, by the end of OBAMA!'s first presidency (2013), I believe the U.S. will owe roughly: $17.8 trillion in federal debt, $2 trillion in GSE debt/guarantees, $500 billion in FDIC obligations, and $500 billion in FHA obligations. My only big assumption is $1.5 trillion in additional deficits each year, which is what the president's budget also predicts.
What's a reasonable rate of interest on these debts? Right now, it costs the U.S. government almost 5% to borrow for 30 years. Let's assume the blended borrowing cost goes to that amount – which is well below the government's average borrowing costs since 1980. That would equal $1 trillion in interest payments due, per year. That's 100% of all income taxes paid in 2009.
I hope I don't have to explain to you why this amount of debt isn't sustainable. I'm not the only person in the world who can do basic math and has access to the government's accounts. Says Felix Zulauf, one of Europe's top money managers, "Eventually the U.S. will arrive at the point where, as Marc Faber says, interest payments on government debt all of a sudden go to 20%, 25%, 30% of tax revenue. And once you go above 30%, you are done. You go into default or your currency breaks down and your system collapses."
Or perhaps you will recognize this name: Alan Greenspan. He says, there has always been "a large buffer between the level of our federal debt and our capacity to borrow," but that's disappearing now. "I'm finding it very difficult to look into the future and not worry about that."
Obviously, I can't know for certain what will happen to the U.S. dollar over the next three years. It is certainly possible for our economy to grow fast enough to support our soaring federal debt. The problem is, that's unlikely. Meanwhile, the growth of our debt and interest expenses is a mathematical certainty.
No one else is going to give you this stern of a warning. They're afraid they'll be wrong and end up being embarrassed. I'm not worried about that. I'd love to be wrong. I would much prefer to be embarrassed than to see my country's economic power destroyed and millions of people wiped out financially. So just look at the numbers. If I'm wrong about any of them, let me know. Otherwise, please... act now to protect yourself. If you wait until the last minute to get your assets out of the U.S., you'll never make it.
There's an investment adage that says, "Never buy the mutual fund, buy the manager." While the mutual fund shareholders will earn some capital gains, the managers earn all of the fees. And they earn those fees regardless of market performance. Take John Paulson, for example. His hedge-fund investors earned hundreds of percent when the market crashed, but Paulson took home $3 billion.
While you can't buy a chunk of Paulson's hedge fund, you can buy shares in the world's largest asset manager, BlackRock (BLK). The most recent issue of Vanity Fair includes a good article about Larry Fink, the founder and CEO of BlackRock. BlackRock has $12 trillion under management. And according to the article, it's even more in bed with the government than Goldman Sachs.
Today, through an array of government contracts, BlackRock has effectively become the leading manager of Washington's bailout of Wall Street. The firm oversees the $130 billion of toxic assets that the U.S. government took on as part of the Bear Stearns sale and the rescue of A.I.G.; it also monitors the balance sheets of Fannie Mae and Freddie Mac – which together amount to some $5 trillion – and provides daily risk evaluations to the New York Fed on the $1.2 trillion worth of mortgage-backed securities it has purchased in an effort to jump-start the country's housing market.
Fink's firm has been granted a privileged view into a broad swath of the financial markets, raising questions, says James Bianco, the C.E.O. of Bianco Research, about how it is handling possible conflicts of interest.
That BlackRock was awarded key contracts with no competitive bidding, in a process enveloped in secrecy, has also raised hackles in Congress and led to questions about Fink's long-standing relationships with senior government officials, particularly former Treasury secretary Henry Paulson and Geithner, his successor.
The firm manages hundreds of billions of dollars for the U.S. government (money it received without any bidding process) and tells the government what to do regarding Fannie and Freddie, AIG, and its massive mortgage-backed securities portfolio. There's even talk of Fink becoming the next Treasury secretary. Considering the government is the only growth industry left, owning BlackRock seems like a safe proposition. You can read the full article here.
The cover of the Vanity Fair mentioned above has Michael Douglas sitting in front of a wall of gold bars. The most recent Money magazine shows a gold coin winking and smiling at you. The two latest Smart Money issues have a golden bull pushing through the zero in "2010" and a golden pyramid, respectively. While it's not a golden bear slashing through the New York Stock Exchange on the cover of Newsweek – which Doug Casey has said will be the ultimate signal to sell gold – followers of the magazine-cover indicator may want to be cautious on gold.
Our editor in chief, Brian Hunt, says $1,050 is the "new bargain price for gold." And he's basing his opinion on technical analysis, not magazine covers. If you take a look at the chart below, you'll see gold has remained steady in the $1,150 to $1,050 range after hitting its high of $1,200 an ounce. If you're waiting for gold to break below $1,000 before loading up, you may never get that chance. You can read Brian's full article in DailyWealth.
New highs: Financial SPDR ETF (XLF).
In the mailbag... warnings from our readers. How have we let you down, dear subscriber? Let us know: feedback@stansberryresearch.com.
"Aren't the tea partiers bad enough? Must you refer to our president as 'Komrade' when you know it is not true. Why feed the flames whether you agree or disagree. We must at least respect the office and stop fanning the flames of all this hatred." – Paid-up subscriber Dolly
Porter comment: But I don't respect the office, nor any other part of our federal government. Based on extensive personal experience, I can tell you our federal government is made up of violent, greedy thugs, who have no interest in serving anyone except themselves or the special interests they've been paid to protect. The sooner more people realize this, the better. They aren't here to help. And they don't care about you or me. Try reading any number of good books written by people who were part of that system – such as Legacy of Ashes.
"I have been reading your newsletters for nearly two years and recently purchased your lifetime Alliance Membership. I value your advice and have benefited by selectively following the advice of you and your writers. Currently I am concerned that your aggressive and continuing verbal attacks of very powerful Government and private entities through your investment newsletter will result in the eventual demise of the Stansberry Group through either loss of your personal status or the loss of your writers as they move away from you to protect themselves.
"The recent decision by Google to drop your company from their advertising list would be troubling to me if I were one of your writers. My suggestion is that you tone down your writing style in your newsletter and focus your skills on providing your clients the best advice possible in a manner that will allow the continuing operation of your company for many years to come." – Paid-up subscriber Alex Morrison
Porter comment: As long as what I write is true, no one will be able to stop the growth of this business, and I will continue to have my pick of the world's best analysts. Few publishers or authors are willing to write about the world as they find it within the concerns you mention. I am one of them. I always have been. I always will be.
Regards,
Porter Stansberry & Sean Goldsmith
Baltimore, Maryland
March 29, 2010