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by Al Martin

The Fall of the American Empire; $70/Barrel Oil -- How Soon?

(3-10-08) A major meltdown in the markets was narrowly averted on Friday, March 7, when the Federal Reserve announced a doubling of its Term Auction Facility (TAF) money auction from $50 to $100 billion dollars per month (which is effectively 28 day money). In its announcement, the Fed said that the reason it was doing this was because of continuing illiquidity in the nation’s subprime markets, subprime municipal junk and junk bond market. In other words, by this action, the Fed is saying that $50 billion a month is not enough. It is not providing enough short-term liquidity to allow the financial institutions that carry inventories and make markets in these securities to do what they are in business to do -- to maintain liquid markets in these securities. This is very serious indeed

      The equity and debt markets initially acted favorably to the Fed’s action, and it did prevent what could have been, and what many floor traders expected to be a major meltdown in domestic equity markets on Friday. This didn’t take place, probably, because of this announcement.

      People should understand that the initial reaction by the unwashed, or those who do not understand economics, is that this is a “good thing” -- that the Fed understands that there is a problem, that they are doubling the amount of money being put out on these 28-day auction sales in an effort to liquefy markets. The smart money people, however, look at this as a negative because the Fed was forced to do it. They didn’t do it voluntarily. They did it because they had to do it. It was simply a last minute drastic emergency measure.

      The Fed’s action shows clearly that there is a big, big problem, since the Fed not only had to double the size of TAF money auctions, but also had to loosen what are called “pledge standards.” In other words, they are now allowing a much greater variety of securities even than before. It is now “all collateral loans.”

      The Fed then is adopting a policy that all collateral will be used for this TAF money and this bespeaks of how dire and desperate the situation has become. It shows just how illiquid the bond markets have become.

      Other news was that the February unemployment report, which showed payroll loses of 63,000, was much worse than expected, since it is now the second consecutive month of so-called red numbers, or in other words payroll jobs falling.

      What is a little deceptive, and another reason why equity markets didn’t melt down as much as they probably otherwise would have, is that the job losses in this report were much larger than expected. The actual unemployment rate fell from 4.9% to 4.8%, but the reason it did is because the number of employable persons fell.

      That is how the statistics are calculated by the Bureau of Labor Statistics and is based on what is called the “total employable pool.” The total employable pool fell by 4 million. That made the unemployment rate look better that it actually is. What we are seeing now is the same thing you saw from 2001 to 2003, where there is an increasing number of people dropping out of what is called the payroll survey. These are job seekers who have effectively given up looking for jobs.

      In fact this is confirmed in what is called the weekly wage survey, one of the subcomponents of which is called “continuing claims.” Continuing claims means long-term unemployed, or those who have been unemployed for more than 18 months. That number has risen sharply in the last 3 months -- from 2 million to 2.8 million. This continuing claims number, peaked at 3.8 million in the middle of 2003 at the height of the what I have called the “Bushonian Job Export Program.”

      Other news released Friday included the monthly numbers by the NAR (National Association of Realtors) and the NMBA (National Mortgage Brokers Association). Markets did not initially react to this release because they were stunned by the numbers. That is the only way to put it.

      Total foreclosure rate in the month of February rose to 5.82%. Total mortgage arrearage rose to 8%. Total property tax arrearages, which include homeowners who are in arrears of their property tax for more than one year, rose to 17%.

      Most worrisome of all, however, was the fact that what is called the national homeowners’ average debt to equity ratio fell below 50% for the first time since the Great Depression of the 1930s.

      This was also perceived very negatively by the markets. As a matter of fact, I think the markets did not react to it as much as they should have, because traders are in disbelief of how the housing sector in this country have deteriorated. People are simply in a state of disbelief and denial because of it. It was much worse than expected.

      The National Association of Realtors has been pressing the U. S. Treasury Department that there is only one ultimate solution here – and of course pro-Bush faction Republicans are diametrically opposed to this – that some sort of U.S. Treasury guarantee and bail out, has to come. It is the only thing that is going to be able to re-liquefy the real estate markets. The capital base of both commercial and investment banks, brokerage firms, insurance firms, and pension firms are now so depleted that they cannot in some confederation mount any type of real rescue effort.

      We saw how weakened the capital basis of the nation’s investment banks have become when they tried on Thursday to bail out AMBAC, one of the big bond insurers. AMBAC is on the precipice of losing its triple A rating. It had been suspended, but what a group of banks led by Citibank did was proffer a $1 ½ billion dollar share offering in AMBAC on Thursday. They raised $1 ½ billion dollars by peddling AMBAC, which was already down more than $2.00 on Thursday at a further 9% discount. They have thus effectively diluted shareholder equity at AMBAC to a negative number.

      Citibank, which led the consortium, would not even put in $1 ½ billion dollars of its own money, not because they didn’t have it but because they were frightened of an endless or open-ended commitment -- if you try to come in and save them, like Bank of America is trying to do with Countrywide..

      BofA bought Countrywide, but they are finding that it is a bottomless pit into which they are having to throw money because the leverage of mortgage derivatives is 30/1 or 40/1 so that if $1billion dollars of mortgage paper collapses, the counter party, or risk exposure might be $30-40 billion dollars. No one actually knows. That is the reason why they are afraid to bail these firms out.

      This is the derivative time bomb going off, as has been predicted by many, including Warren Buffett. Last week the nation’s second largest mortgage provider, Fremont General, collapsed. The nation’s largest so-called Tier 1 mortgage provider, which provides mortgages of more than $600,000, Thornburg Mortgage also collapsed. Now they can’t write any more mortgages, so they are effectively out of business.

      Mortgages that they have underwritten will continue to exist as service entities but they have collapsed as ongoing businesses. They have depleted their capital.

      The collection part of their business is typically farmed out, but since they actually own or are the syndicators of the underlying paper that has been packaged-up and sold out in different so-called tranches, they have to stay in business at least in a collection/ supervisory role. But we have seen two large mortgage firms collapse last week and one of the big ten bond insurers, SCA, also collapsed.

      As the National Mortgage Brokers Association pointed out regarding last week’s collapses in the mortgage issuance arena, there has been a contraction in this country. Only half of the mortgage providers in this country that were in business when the Bush-Cheney Regime came into power are still in business today.

      We have an even greater story about commodities. As we have been warning our readers on Al Martin Raw and, there is this “second speculative bubble” that has been created in commodity prices, and what we saw late week is the speculative bubble in commodities prices is beginning to unwind.

      In that case, people have said – well, when can we expect $70 per barrel oil? How soon will we be seeing this -- if the rise in oil prices to $100 a barrel is not justified by near-term fundamentals, especially when you consider the capacity of OPEC and the falling growth in demand?

      The answer is this -- what’s called the “supply/demand value” of oil is right now about $70, even though different firms calculate it differently.

      The facts are pointing to a lower price for oil – but when? For instance, the International Energy Agency has revised global oil demand downward for 2008 by 600,000 barrels a day, or 6.8%, since last summer. In fact the EIA revised its global oil consumption forecast for 2008 for the third time reducing its estimates of oil consumption. So with the falling demand and the fact that OPEC will be well covered with the rising supply, it should be remembered that during the first half of 2007, oil prices went down to around $56 per barrel.

      So what breaks the back of speculative bubbles is not the same as it used to be because what feeds speculative bubbles (namely unlimited monies being put into commodity funds) has changed the way commodity prices react to economic fundamentals, by completely and totally distancing commodity prices from underlying supply/demand fundamentals.

      What broke the back of the first speculative bubble in commodities in late 2006 to 2007 was the fact that the commodity funds ran out of money. Also the so-called free money derivative trade based on the Japanese yen ran out of steam. In other words, this was a situation wherein you could create money through trading the spread of the yen against the dollar and other currencies.

      This was the leverage created by the so-called “yen carry trade,” wherein you could create in essence free money. That has collapsed. The yen carry trade no longer exists. The big firms that sponsor the commodity funds, like Merrill Lynch, Goldman Sachs, Morgan Stanley, Lehman, etc. have themselves become substantially illiquid. They are all in dire financial straits.

      I’ve been asked – what’s the likelihood of $70 a barrel oil in 2009? I say. You will see $70 per barrel oil by the end of this year. Why? Because this bubble will have to pop.

      We began to see what happened last week when Morgan Stanley, Goldman Sachs, Merrill Lynch, Lehman Brothers, et al, who are the sponsors of the big commodities funds, saw their capital bases become so eroded and their fiscal conditions became so dire, that they had to get more money. So where do they go for money? To their commodity funds. They force the commodity funds that they manage to liquidate long positions in commodities that they have a profit in. Because of that, we saw a sharp back off Thursday and Friday in coffee, cocoa, sugar, orange juice, and cotton.

      What people don’t understand about all this, however, is that the prices that commodities trade at are no longer a reflection of their underlying supply/demand fundamentals. They are now a function of how high prices can be pushed by what I call the Bullish Shills.

      People must understand that commodity prices now have become completely artificial. They bear no supply/demand reality. And the end result is a speculative bubble in all commodities, the magnitude of which has never been reached before..

      This speculative bubble has been driven by commodity funds (this time under the mantra because they need a mantra) of “Inflation. Inflation. Inflation. The Fed is reducing rates which is creating inflation.” Which in fact it is. However it’s short-term.

      The Fed’s counter to this is that inflation will begin to fall later in the year as the recession in the United States deepens and as global economic growth falls, and they are right. Inflation will begin to fall in the second half of this year because consumption will begin to fall, which is already falling, and it will continue to fall.

      Some people might even construe this as good news. What you haven’t seen break yet is the oil, the gold and the silver, and the reason why you haven’t seen them break yet is because they have the greatest concentration of what is called “deep-pockets spec long money.” Also they are the most inflation-sensitive commodities. Therefore you can still bang the inflationary drum to bring in Joe Six Pack buyers of one and two lots, who are always convinced that gold is going to $2000 tomorrow, and who are convinced that silver and oil, will move higher.

      People don’t believe they are undervalued, but they are being sold on the concept of a hedge against this enormous round of new inflation that Fed action is going to create, which is a lie.

      So when does oil break? When do these commodities get their backs broken like the backs of soft and tropical commodities last week? We also saw grains start to come down last week. When they get their backs broken is when Merrill Lynch, Goldman Sachs and Morgan Stanley get sufficiently starved for cash. So the big long interest starts to come out of the oil and the gold. It has nothing to do with the supposed inflation, and nothing to do with supply/demand.

      These are the new realities of today’s capital marketplaces.

    * AL MARTIN is an independent economic-political analyst with 25 years of experience as a trader on NYMEX, CME, CBOT and CFTC. As a former contributor to the Presidential Council of Economic Advisors, Al Martin is considered to be a source of independent analysis for financially sophisticated and market savvy investors.

After working as a broker on Wall Street, Al Martin was involved in the so-called "Iran Contra" Affair as a fundraiser for the Bush Cabal from the covert side of government aka the US Shadow Government.

His memoir, "The Conspirators: Secrets of an Iran Contra Insider," ( provides an unprecedented look at the frauds of the Bush Cabal during the Iran Contra era. His weekly column, "Behind the Scenes in the Beltway," is published weekly on Al Martin, which also publishes a bimonthly newsletter called "Whistleblower Gazette."

Al Martin's new website "Insider Intelligence" ( will provide a long term macro-view of world markets and how they are affected by backroom realpolitik.


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