Government-Guaranteed Contagion

November 13, 2012

• Too clever by half: U.S. plot to sabotage Iranian nukes blows back on U.S. companies…
• Frank Holmes projects current Fed policy for the next four years… and comes up with an alluring target price for gold…
• Amateur traders jumping on board the VIX: Why Greg Guenthner says you should stay away… and what to do instead…
• The too-soon demise of Buckyballs… more post-election eat-the-rich vitriol… “going Galt” no matter who gets elected… and more!

  We begin today with an abject lesson in the “law of unintended consequences” — the bane of bureaucrats and world improvers the world over.

  “We’re finding it in our systems, and so are other companies,” says Mark Koelmel. “So now we have to deal with this.” Mr. Koelmel runs the earth sciences unit at Chevron, the oil giant.

“This” refers to a computer virus created by the U.S. government.

  The computer virus in question is Stuxnet — developed by the U.S. to cripple Iran’s nuclear capacity. Not that the U.S. government ever fessed up to that. Not officially, anyway:

“We’re glad they [the Iranians] are having trouble with their centrifuge machine,” White House arms control czar Gary Samore commented last year. “The U.S. and its allies are doing everything we can to try to make sure that we complicate matters for them.”

Unfortunately, the Iranians are no longer the only ones for whom “matters” have been “complicated.”

“I don’t think the U.S. government even realized how far [Stuxnet] had spread,” Chevron’s Koelmel tells CIO Journal. “I think the downside of what they did is going to be far worse than what they actually accomplished.”

  Koelmel says Stuxnet had no adverse effects on his company — except for the man-hours required to zap the virus from the company’s computer hardware. Other companies? They’re not saying. Chevron kept its situation quiet for at least two years until The Wall Street Journal broke the story late last week.

That’s if most corporate IT departments can even recognize their systems are infected. “There are probably only 18-20 people in the country who have those fundamental skills,” says Alan Paller of the IT security research group SANS.

Good work, if you can get it, we suppose. Apart from the irony unleashed by Stuxnet, we bring it up today because it makes a fine addition to the list of 2013 “gray swans” we identified last week.

  On to more pressing matters, precious metals are turning in a mixed performance today. Gold is down a bit from where it was 24 hours ago — at last check, $1,727. But silver’s up to $32.62.

“Gold’s price pattern since the results of the U.S. presidential election has been an interesting one,” writes Lawrence Williams at MineWeb.

For a year or so through Election Day, gold “often fell back on poor global economic news when the old safe-haven arguments for the yellow metal might have been thought to come increasingly into play” — thanks in part to a stronger dollar, Mr. Williams writes.

“But since the U.S. presidential election, it has been noticeable that gold in general has been rising in price, regardless of U.S. dollar strength — admittedly, this has only been over a short period of time so far, but could be an indicator that gold’s safe-haven appeal is returning.”

  Another bullish factor for gold — the Federal Reserve.

The FOMC meets next on Dec. 11-12, 2012. It will decide whether to transform Operation Twist — in which the Fed trades in its short-term Treasuries for long-term ones — into full-on money printing.

“In a weekly report,” writes U.S. Global Investors chief and Vancouver stalwart Frank Holmes, “Roberto Perli of International Strategy & Investment (ISI) projected the enormous growth of the U.S. balance sheet if quantitative easing continues over the next few years.” The report also features an intriguing chart:

“Currently,” Mr. Holmes continues, “the Fed is buying mortgage-backed securities at a rate of $40 billion each month. The dashed orange line assumes that if this $40 billion per month continues over the next few years, America’s balance sheet expands to about $4.5 trillion by the end of 2016.

“However, the $40 billion was on top of the previous spending spree on Treasury securities. Added together, this means that Ben Bernanke is forking over $85 billion per month through the end of 2013, which ‘makes a provocative picture,’ says Perli.

“If this open-ended spending continues through the end of 2016, the U.S. balance sheet swells to nearly $7 trillion!

“This chart,” Mr. Holmes concludes, “is only one reason gold investors like me are bullish.”

  Not much in the way of thrills-n-chills in the stock market this morning: The Dow is up fractionally, the S&P down fractionally. Volatility as measured by the VIX is up a skootch, to 16.9.

We haven’t said much about the VIX lately… because there hasn’t been much to say. The market goes up, the market goes down, but except for a summertime spike, the “fear gauge” has stayed in a mellow range between 15-20 most of this year.

  The ETF that allegedly “tracks” the VIX is a different story altogether.

“Traders appear to be turning their attention,” says Greg Guenthner of our trading desk, “to the easily tradable S&P VIX Short-Term Futures ETN (VXX).”

Movement in VXX is keyed not to the VIX itself, but to VIX futures — hence, the considerable discrepancy between the chart above and the chart that follows.

“VXX had been in free fall since the June market rally began,” Greg goes on, after we rudely interrupted him. “But as the stocks continue to leak lower this week, VXX looks like it’s trying hard to put in a bottom and move higher. Volume has increased steadily since late October as traders jockey for position. They figure something’s gotta give. Unfortunately, that something might cost them hopping onto an early trade…

“I would avoid getting caught up in a VIX pop right now,” Greg says. “In fact, I wouldn’t recommend jumping headfirst into a long position here (which would be a bet that the market will jolt us with a sharp downside move).

“A low-risk position here would be enticing on a break of $39. On the other hand, a break below the saucerlike rounding bottom would show us that the market probably has more sideways or upside action left in it in over the next few weeks.”

[Ed. note: So... there's what not to do. What should you do instead? That's where our trading experiment comes in, headed up by Greg and his colleague Jonas Elmerraji. As we've been telling you since last week, they're on a mission to teach at least 75 of our readers to be better traders... in only five days.

Give them five days, and they'll give you the skills to turn $1,000 into $5,240. That's their promise. We're still not convinced they can pull it off, and we continue to refine the terms of a wager... in which we'll take the other side of the bet.

The experiment begins Thursday, so time's a-wastin' if you want to put Gunner and Jonas to the test. It's a minor time commitment -- you won't be glued to a trading screen all day -- and involves no commitment of money at all. That's right, it's free to take part. Give it a look... while you still can.

  We realized this morning that we have neglected to note the imminent demise of Buckyballs. In August, we noted the "adult desk toys made up of BB-size magnets" were an endangered species. Now the Consumer Product Safety Commission has assured their extinction.

The CPSC determined the toys -- made with rare-earth magnets -- pose a swallowing hazard to children. So the agency went after 11 companies that make, distribute or import them. Ten immediately backed down. The distributor of Buckyballs -- which acquired a generic-name cachet akin to Kleenex and Band-Aids -- sued the CPSC.

They lost.

"Due to baseless and relentless legal badgering," reads a company statement, "by a certain four-letter government agency, it's time to bid a fond farewell to the world's most popular adult desk toys, Buckyballs and Buckycubes. That's right: We're sad to say that Balls and Cubes have a one-way ticket to the Land-of-Awesome-Stuff-You-Should-Have-Bought-When-You-Had-the-Chance."

Adieu, Buckyballs... the remaining supply is still for sale.

  "Holy cow!" begins the latest round of mail taking us to task for some, frankly, gentle criticism of the sitting president.

"The rich SHOULD pay more taxes than they are paying now! This class warfare that you are engaging in is ridiculous. The rich have made out like bandits under the Bush tax cuts. The wealthy pay virtually nothing in taxes. I am about to cancel all of my subscriptions to this organization unless you immediately STOP the politics. You are spreading fear among the elites in order to sell subscriptions to your services. That was Karl Rove's ploy, and it failed."

The 5: At least we agree on one thing: Karl Rove with egg all over his chubby mug is a fine sight to behold. Curious position you've taken, however. You'll hold our publications hostage because we disagree with your politics? You ARE Karl Rove's wet dream.

  "Leave it up to you," says another, "to not include the rest of Obama's quote: '...a little bit more' came after 'the rich must pay.'

"Not the 75% the French want, just a little bit. Personally, I'm disgusted at the filthy rich Americans that whine about how much tax they pay, and then we find out that by using all the lobbyist-inspired tax welfare cheats, guys like Romney who make millions a year pay HALF the rate of working stiffs.

"The rich in the USA get way more welfare back from Uncle Sugar than welfare mothers. And disabled veterans. I spend time almost every week in a VA hospital where on a wall in the atrium it says, 'Here, the price of freedom is visible.'

"The goddamn rich whiners pay less than their fair share now and want to pay less. Move to Belize. You sure as hell aren't American patriots."

The 5: We can see Obama's populist rhetoric has penetrated deep into The 5's collective psyche. Fair enough. Can't say we didn't forecast as much.

Leaving the Republican Party out of it -- easy for us, but evidently not for others -- the problem with "a little bit more" is that it progressively becomes "another little bit"... and then "still more." Thus did Hoover raise the top rate from 25% to 63% in an eerily similar economic and political environment. Following that, FDR jacked it up as high as 94% during World War II.

Don't shoot the messenger.

(For a unique and personal account of FDR's penchant for wielding federal authority in the 1930s, we recommend The Roosevelt Myth from the Laissez Faire catalog.]

  “I left the USSA in October,” writes a self-described perpetual traveler who didn’t stick around for the election results to decide to expatriate.

“I just could not stand to see the end of the country I have loved for over 65 years and knew the election would make no difference. I have semiretired to Asia, currently touring Vietnam. I will keep doing business because I love it.

“I love the challenge, the creation of something new and helping people to achieve it. I am going to Thailand next, and then on to Myanmar to do something useful with the rest of my life, since my own country looks upon those of us in business as dairy cattle.

“I wish those of you who stay behind good fortune and know that I still love America and what it used to stand for.”

  “Addison,” follows up our last reader for today, “When the American people reelected George Bush, I decided then it was time to leave. At the time, I lived in Tucson.

“For the past five years, I have been living in Bariloche, Argentina. The benefits of living here are the physical beauty of the place and the sense of freedom you develop. You rarely even hear about lawyers, and there are very few people with badges or guns wandering around trying to make your life miserable.

“It definitely is a third-world country, but the benefits outweigh the downside.”

Cheers,

Addison Wiggin
The 5 Min. Forecast

P.S. The fiscal cliff… the results of the election… to that list you can add the envy of your fellow Americans… there’s no shortage of factors conspiring to shrink the “wealth” you’ve worked hard to accumulate.

If that’s how you feel, that puts you in a select group among our readers, in which case I recommend you consider the next Rancho Santana Sessions we’re hosting on Dec. 5-9, 2012. I’m confident they’ll prove valuable to you. Not least of which because you’ll be in the company of like-minded folks from around the country… relaxing at a high-end conference facility and resort along a stunning stretch of the Pacific frontier.

The Daily Reckoning’s Eric Fry will lead a panel of experts in areas like foreign business opportunities… foreign real estate… and tax and estate planning.

The setting couldn’t be more exquisite. The food is fresh from the land and sea. Previous rendezvous at the Ranch have led to lasting friendships. But as you might expect, time is running out. The event is limited — we keep it to no more than 30 people. There are only a few remaining seats. Make plans to join us…here.