The Big Picture

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• Corruption At The Top Leads To Lawlessness By The People
• The Real Reason the SEC Has Been Shredding Documents For Decades
• Investors: Think For Yourselves
• Bear Sell Offs, Bull Recoveries & Regaining 2007 Highs
• What Is The Internet Doing To Our Brains?
• The Idiot’s Guide to the S&P Credit Downgrade
• Governor Perry and Fed Independence
• Gold = Treasuries
• Hubble Stares Deep into Dust-Choked Galaxy
• US Markets Off 5%; 10 Year @ 1.97%

Corruption At The Top Leads To Lawlessness By The People Posted: 19 Aug 2011 12:00 AM PDT Corruption At The Top Leads To Lawlessness By The People Economist Noted 150 Years Ago That Corruption At the Top Leads to Lawlessness By The People I’ve repeatedly noted that corruption at the top leads to lawlessness by the people. William K. Black – Associate Professor of Economics and Law at the University of Missouri at Kansas City, and the former head S&L regulator – notes that conservative French economist Frédéric Bastiat said the same thing more than 150 years ago. Specifically, Bastiat said that corruption and “plunder” by government officials causes lawlessness among the people (skip to the second half of the following interview): Unfortunately, the lawlessness by those at the top will lead to lawlessness by the people. This will lead to the break down of the economy and the financial system … and society as a whole. Ron Paul “Just Think Of All Those Troops Spending All That Money Back At Home!” ~~~ Many economists have demonstrated that – contrary to commonly-accepted myth – war is actually bad for the economy. Ron Paul gives yet another reason to bring the troops home: Just think of all those troops spending all that money back at home! While those claiming that war stimulates the economy and creates jobs might say that bringing a bunch of unemployed veterans home would hurt the economy, the truth is that government stimulus money spent in the private sector stimulates more than money spent on the military.

The Real Reason the SEC Has Been Shredding Documents For Decades Posted: 18 Aug 2011 10:00 PM PDT The Real Reason the SEC Has Been Shredding Documents For Decades SEC Attorney Reveals that Agency Has Shredded Documents for Decades to Cover Up Wall Street Fraud What should we make of the new revelations by Securities and Exchange Commission attorney Darcy Flynn (background here, here and here) that the SEC has been shredding documents for decades? As many commentators have noted, the SEC did this to cover up fraud on Wall Street. The Entire Government Strategy Is To Cover Up Fraud William K. Black – professor of economics and law, and the senior regulator during the S & L crisis – says that that the government’s entire strategy now – as during the S&L crisis – is to cover up how bad things are: The entire strategy is to keep people from getting the facts. Top Government Officials Created the Conditions In Which Fraud Would Flourish I noted last year: It is not only a matter of covering up fraud that has already happened. The government also created an environment which greatly encouraged fraud. Here are just a few of many potential examples: The government-sponsored rating agencies committed massive fraud (and see this) The Treasury department allowed banks to “cook their books” Business Week wrote on May 23, 2006: “President George W. Bush has bestowed on his intelligence czar, John Negroponte, broad authority, in the name of national security, to excuse publicly traded companies from their usual accounting and securities-disclosure obligations.” Regulators knew of and allowed the use of debt-hiding accounting tricks by the big banks Tim Geithner was complicit in Lehman’s accounting fraud, (and see this), and pushed to pay AIG’s CDS counterparties at full value, and then to keep the deal secret. And as Robert Reich notes, Geithner was “very much in the center of the action” regarding the secret bail out of Bear Stearns without Congressional approval. William Black points out: “Mr. Geithner, as President of the Federal Reserve Bank of New York since October 2003, was one of those senior regulators who failed to take any effective regulatory action to prevent the crisis, but instead covered up its depth” The former chief accountant for the SEC says that Bernanke and Paulson broke the law and should be prosecuted Freddie and Fannie helped to create the epidemic of mortgage fraud The government knew about mortgage fraud a long time ago. For example, the FBI warned of an “epidemic” of mortgage fraud in 2004. However, the FBI, DOJ and other government agencies then stood down and did nothing. See this and this. For example, the Federal Reserve turned its cheek and allowed massive fraud, and the SEC has repeatedly ignored accounting fraud. Indeed, Alan Greenspan took the position that fraud could never happen Bernanke might have broken the law by letting unemployment rise in order to keep inflation low Paulson and Bernanke falsely stated that the big banks receiving Tarp money were healthy, when they were not Arguably, both the Bush and Obama administrations broke the law by refusing to close insolvent banks Congress may have covered up illegal tax breaks for the big banks Of course, deregulation by Larry Summers, Robert Rubin, Phil Gramm and many other high-level politicians and regulators also helped to grease the skids for fraud Economist James K. Galbraith wrote in the introduction to his father, John Kenneth Galbraith’s, definitive study of the Great Depression, The Great Crash, 1929: The main relevance of The Great Crash, 1929 to the great crisis of 2008 is surely here. In both cases, the government knew what it should do. Both times, it declined to do it. In the summer of 1929 a few stern words from on high, a rise in the discount rate, a tough investigation into the pyramid schemes of the day, and the house of cards on Wall Street would have tumbled before its fall destroyed the whole economy. In 2004, the FBI warned publicly of “an epidemic of mortgage fraud.” But the government did nothing, and less than nothing, delivering instead low interest rates, deregulation and clear signals that laws would not be enforced. The signals were not subtle: on one occasion the director of the Office of Thrift Supervision came to a conference with copies of the Federal Register and a chainsaw. There followed every manner of scheme to fleece the unsuspecting …. This was fraud, perpetrated in the first instance by the government on the population, and by the rich on the poor. *** The government that permits this to happen is complicit in a vast crime. In other words, the fraud started at the very top with Greenspan, Bush, Paulson, Negraponte, Bernanke, Geithner, Rubin, Summers and all of the rest of the boys. As William Black told me today: In criminology jargon: they created an intensely criminogenic environment. I have no knowledge whether the national security aspects played any role, but the anti-regulatory dogma was devastating. (Here’s the definition for criminogenic.) I noted last month: Fraud caused the Great Depression and it has caused the current financial crisis. But fraud is not not being prosecuted, and so it will occur again and again, and prevent a sustainable economic recovery. Numerous economists have been saying this for years. As I pointed out in March: Nobel prize winning economist George Akerlof has demonstrated that failure to punish white collar criminals – and instead bailing them out- creates incentives for more economic crimes and further destruction of the economy in the future. Indeed, William Black notes that we’ve known of this dynamic for “hundreds of years”. Now mainstream journalists are starting to catch on. Market Watch senior columnist Brett Arends writes: No one has been punished. Executives like Dick Fuld at Lehman Brothers and Angelo Mozilo at Countrywide, along with many others, cashed out hundreds of millions of dollars before the ship crashed into the rocks. Predatory lenders and crooked mortgage lenders walked away with millions in ill-gotten gains. But they aren't in jail. They aren't even under criminal prosecution. They got away scot-free. As a general rule, the worse you behaved from 2000 to 2008, the better you've been treated. And so the next crowd will do it again. Guaranteed. Gretchen Morgenson and Louise Story point out in the New York Times that: As the financial storm brewed in the summer of 2008 … Federal prosecutors officially adopted new guidelines about charging corporations with crimes — a softer approach that, longtime white-collar lawyers and former federal prosecutors say, helps explain the dearth of criminal cases despite a raft of inquiries into the financial crisis. Though little noticed outside legal circles, the guidelines were welcomed by firms representing banks. The Justice Department's directive, involving a process known as deferred prosecutions, signaled "an important step away from the more aggressive prosecutorial practices seen in some cases under their predecessors," Sullivan & Cromwell, a prominent Wall Street law firm, told clients in a memo that September. *** "If you do not punish crimes, there's really no reason they won't happen again," said Mary Ramirez, a professor at Washburn University School of Law and a former assistant United States attorney. "I worry and so do a lot of economists that we have created no disincentives for committing fraud or white-collar crime, in particular in the financial space." (This appears to be true on both sides of the Atlantic.) And Frank Rich reports in a much-discussed piece in the New Yorker: What haunts the Obama administration is what still haunts the country: the stunning lack of accountability for the greed and misdeeds that brought America to its gravest financial crisis since the Great Depression. There has been no legal, moral, or financial reckoning for the most powerful wrongdoers. Nor have there been meaningful reforms that might prevent a repeat catastrophe. Time may heal most wounds, but not these. Chronic unemployment remains a constant, painful reminder of the havoc inflicted on the bust's innocent victims. As the ghost of Hamlet's father might have it, America will be stalked by its foul and unresolved crimes until they "are burnt and purged away." After the 1929 crash, and thanks in part to the legendary Ferdinand Pecora's fierce thirties Senate hearings, America gained a Securities and Exchange Commission, the Public Utility Holding Company Act, and the Glass-Steagall Act to forestall a rerun. After the savings-and-loan debacle of the eighties, some 800 miscreants went to jail. But those who ran the central financial institutions of our fiasco escaped culpability (as did most of the institutions). As the indefatigable Matt Taibbi has tabulated, law enforcement on Obama's watch rounded up 393,000 illegal immigrants last year and zero bankers. The Justice Department's bally­hooed Operation Broken Trust has broken still more trust by chasing mainly low-echelon, one-off Madoff wannabes. *** Those in executive suites at the top of that chain have long since fled the scene with the proceeds, while bleeding shareholders, investors, homeowners, and ­cashiered employees were left with the bills. The weak Dodd-Frank financial-reform law that rose from the ruins remains largely inoperative …. I pointed out in January that fraud is Wall Street’s business model, which is being supported by the government: Nobel prize-winning economist George Akerlof demonstrated that if big companies aren’t held responsible for their actions, the government ends up bailing them out. So failure to prosecute directly leads to a bailout. Moreover, as I noted last month: Fraud benefits the wealthy more than the poor, because the big banks and big companies have the inside knowledge and the resources to leverage fraud into profits. Joseph Stiglitz noted in September that giants like Goldman are using their size to manipulate the market. The giants (especially Goldman Sachs) have also used high-frequency program trading (representing up to 70% of all stock trades) and high proportions of other trades as well). This not only distorts the markets, but which also lets the program trading giants take a sneak peak at what the real traders are buying and selling, and then trade on the insider information. See this, this, this, this and this. Similarly, JP Morgan Chase, Bank of America, Goldman Sachs, Citigroup, and Morgan Stanley together hold 80% of the country’s derivatives risk, and 96% of the exposure to credit derivatives. They use their dominance to manipulate the market. Fraud disproportionally benefits the big players (and helps them to become big in the first place), increasing inequality and warping the market. [And] Professor Black says that fraud is a large part of the mechanism through which bubbles are blown. *** Finally, failure to prosecute mortgage fraud is arguably worsening the housing crisis. See this and this. The government has not only turned the other cheek, but aided and abetted the fraud. *** And this environment is ongoing today. See this, for example. *** Even when the government has prosecuted financial crime (because public outrage became too big to ignore), the government has settled for pennies on the dollar [as a way to quietly bail out the big banks]. Corruption At the Top Leads to Lawlessness By The People Corruption at the top leads to lawlessness by the people. Unfortunately, the lawlessness by those at the top will lead to lawlessness by the people. This will lead to the break down of the economy and the financial system … and society as a whole. 

Investors: Think For Yourselves Posted: 18 Aug 2011 07:35 PM PDT What is it about these four Bloomberg headlines that are imparting some sort of a lesson? • May 23, 2011: Biggs Buying as S&P 500 Profit Forecasts Rise Most in a Year • May 24, 2011:  Biggs Says Stock Bears Wrong Even as Economy Slows • Aug 3, 2011: Birinyi, Biggs Advise Holding Stocks After S&P 500's Decline • Aug 18, 2011: Biggs Says S&P May Be Bottoming, Priced for 15% Profit Drop Which of these buy calls should you follow? Might some of these calls be suffering from bias? And if you are always telling people to buy-buy-buy, can anyone really follow your advice?

Bear Sell Offs, Bull Recoveries & Regaining 2007 Highs Posted: 18 Aug 2011 02:18 PM PDT Two interesting long term charts to help put today’s action into a bit of perspective: Both of these are sourced from JP Morgan funds: The first chart shows various US Bear markets since 1980, and the Bull markets that followed. That may be cold comfort to people who are caught leaning the wrong way today, but its a reminder that “This too, shall pass.” The second chart shows what it will take to recover the 2007 peak (note this is dated June 30th, and thus is from higher levels. Add 10% or so to the numbers). > ~~~~ Source: BLS, FactSet, J.P. Morgan Asset Management. Data reflect most recently available as of 6/30/11. Source: JP Morgan funds Interesting stuff!

What Is The Internet Doing To Our Brains? Posted: 18 Aug 2011 12:00 PM PDT Source: What Is The Internet Doing To Our Brains? Curiosity Counts

The Idiot’s Guide to the S&P Credit Downgrade Posted: 18 Aug 2011 11:30 AM PDT From Visible: > Click To Enlarge Infographic: Source: The Idiot's Guide to the S&P Credit Downgrade Visible, August 17, 2011

Governor Perry and Fed Independence Posted: 18 Aug 2011 10:00 AM PDT Governor Perry and Fed Independence David R. Kotok August 18, 2011 www.cumber.com ~~~ For the past twelve years, this writer has chaired the Central Banking Series of the Global Interdependence Center. The purpose of this series is to develop an understanding of central banking and to communicate the different views about central bank policy. As its principal function, the Global Interdependence Center acts as a neutral facilitator for dialogue, conversations, discussions, explanations, and education. Policy making, research, studies of implementation, alternatives to implementation, distinguishing features among the central banks – all of these are among the items that are discussed and studied during this series. One of the conclusions reached over the years and affirmed numerous times is the importance for citizens, investors, bankers, individuals – everyone who is concerned with finance and economics – to defend the independence of the central bank and to permit the central bank to function without political interference. History has a terrible record when it comes to political interference in central banking. Under the worst circumstances, we get hyperinflations, like the Weimar Republic or Zimbabwe. In cases such as these, the central bank is completely folded into the government, succumbing entirely to the political whim of the individual in power. The more politics get involved with central banking, the worse the outcome. History holds no examples of a benign governmental interference. Over time, there may have been some temporary interludes of positive intervention, but they remained short in length and deficient in output. The bottom line is simple: the government is best contained by creating a barrier between the executive branch and the central bank of the country. In the United States, we have now had a new phenomenon injected into our presidential race. A presidential candidate, Governor Rick Perry of Texas, has attempted to intervene and pledged to do so if he becomes president. He has used political campaign rhetoric to threaten the Chairman of the Federal Reserve; and when asked in detail about it, he subsequently affirmed his position. Governor Perry did not have to do so. He could have said, "I am worried about central bank policy; it is something to be examined. We have to have an independent central bank, but we also need to watch what they do and weigh in on conversation." That is not what Perry did. Perry reiterated the threat. There is great danger in this notion that the United States of America could tolerate a president who would use the early stages of his political campaign to vilify the Chairman of the Federal Reserve and to threaten intervention in central bank policy making. The Federal Reserve Act established staggered fourteen-year terms for the seven governors of the Federal Reserve board. The reason was to attempt to eliminate the interference of the executive branch. We have seen the corruption and destruction of central bank independence in the Federal Reserve appointment process. It occurred under President Bush when Senator Dodd, Chairman of the Senate Banking Committee, held up appointments. It happened again under President Obama when Senator Shelby, senior Republican on the Senate Banking Committee, held up an appointment. We now see additional uncertainty introduced as President Obama attempts to appoint new governors to the unfilled positions. Readers, please note that the Federal Reserve, the central bank of the United States, has not had a full complement of seven governors during the entire financial crisis and the period following. Not one day did we have the benefit of the full board. Is it not time for seasoned politicians who want to lead us declare their commitment to independent central banking? This does not mean they give up congressional oversight or the liberty to express their opinions. It does mean they cease to threaten and allow central banking functions to take place as much as possible outside the political spectrum. Governor Perry of Texas should think about what he has done. I cannot recall any other presidential candidate taking such an extreme position. One exception may be a Congressman from Texas by the name of Ron Paul, who has called for the abolition of the central bank and sponsored the notion of the gold standard. Is Governor Perry claiming he wants to return to the gold standard? If so, let him say so. ~~~ David R. Kotok, Chairman and Chief Investment Officer Cumberland Advisors www.cumber.com

Gold = Treasuries Posted: 18 Aug 2011 08:30 AM PDT click for larger graphic Recalculated with base of 100. > Gold! Are a new class of investors treating it like Treasuries? The evidence: A stunningly high correlation of Gold to 20+ Year Treasuries (Symbol: TLT) from July 21 through August 16 is 0.89. Over that period, Gold is up 12.3%, while Treasuries up 11.8% (not counting today’s spasm). Contrast this to a correlation of 0.5 over the periods July 21, 2009 – July 21, 2011 and it appears Gold and Treasuries are now behaving as one and the same, moving in lockstep fashion. Of course, Treasuries are a much broader and deeper market, and a move in Bonds represents trillions of dollars of activity, versus Gold, which is orders of magnitude smaller. Perhaps investors who might otherwise flock to Treasuries during risk-off modes are now flocking to Gold? After all, S&P cannot downgrade a metal… Source: Michael A. Gayed, CFA Chief Investment Strategist Pension Partners, LLC Michael A. Gayed, CFA is Chief Investment Strategist at Pension Partners, where he structures portfolios. Prior to this role, Michael served as a Portfolio Manager for a large international investment group, trading long/short investment ideas in an effort to capture excess returns. In 2007, he launched his own long/short hedge fund, using various trading strategies focused on taking advantage of stock market anomalies. Michael earned his B.S. from New York University, and is a CFA Charterholder.

Hubble Stares Deep into Dust-Choked Galaxy Posted: 18 Aug 2011 07:45 AM PDT 11 million light-years away, deep inside the massive spiral galaxy Centaurus A (also known as NGC 5128), baby stars are bursting into existence. Although these enigmatic events appear to be choked by a thick shroud of dust, the Hubble Space Telescope has looked into the cosmic smog, revealing previously unseen intricacies of this well-known galaxy. Below: The new Hubble image superimposed over an older photograph of Centaurus A, showing the region of detail. Source: Hubble Stares Deep into Dust-Choked Galaxy Discovery News

US Markets Off 5%; 10 Year @ 1.97% Posted: 18 Aug 2011 07:24 AM PDT The Dow was off 500 points, S&P down 60 points, and the Nasdaq down almost 150 points. Quite astonishing to see the US 10 year bond with a one handle. Kudos to David Rosenberg, who wins his bet with Mark Faber over the below 2% yield. As noted August 1, I have limited exposure to equities — mostly value indices, some managed funds that can run up heavy cash positions. Our tactical portfolio flipped form 100% stocks in June to 50/50 stock/bonds in July to 100% bonds in August. All told, not a bad day to be a bear . . . > Previously: Lightening Up on Small Caps, Emerging Markets (August 1st, 2011) There's Something Happening Here . . . (August 2nd, 2011) Sell the Bounce (August 3rd, 2011) Man the lifeboats: This is not a drill! (August 7th, 2011)

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