Progression thesis, a personal breakthrough

While I was on my way back to Singapore from a tiring trip, I was fingering through the weekend Financial Times and Wall Street Journal, courtesy of the very nice people from Singapore Airlines, one article caught my eye. It stated that Germany was looking to bail out Greek banks. Interestingly, it made me think back to the beginning of this crisis.

I remember very clearly, when I was leaving my previous company, I sent out an email in September 2007, warning of a recession coming within 6 months. Many people thought I was nuts to predict it and the market went on to reach new all time highs, making me look like an idiot over the short run. In the end, I was proven right and the worst recession since the Great Depression occured. When I took up my new post, I came out with a thesis, this thesis was my take on how the crisis would unfold. I named it my "Progression Thesis".

When the crisis first showed it ugly head in February 2007, there were rumors that some hedge funds were facing liquidity problems due to subprime debt market collapsing. Those hedge funds were backed by investment banks or prime brokerages in the US, I am deliberately not naming names. Naturally, when the hedge funds got into trouble, the 'parents' who were the investment banks and prime brokerages pumped money into the funds and bailed them out. The next card to drop was the special investment vehicles of banks blowing up as the subprime debt they were holding became worthless. The banks bailed them out and took the debt onto their balance sheet, in the hopes that this would bring confidence to the market and investors will continue to buy subprime or mortgage backed securities.

As investors continued to shun MBS and subprime debt, the banks had to start writing down their debt and take impairment charges, as things started looking bad for the banks. investment banks and prime brokerages, their 'parents' the Federal Reserve stepped in by providing financing through the discount window and lowered the Fed funds rate, when that failed, they decided to come out with a myriad of aid schemes like the TALF etc. Then came the Lehman bankruptcy and the Fed had to absorb the potential losses of Merrill to entice Bank of America to takeover Merrill. AIG did not make things any better with their Credit Default Swap exposure. As the Fed's balance sheet blew up, their 'parents' the Treasury stepped in with the TARP to help out the Fed and take the private debt burdens and converted them to public debt. Throw in quantitative easing, the Fed and Treasury has helped to ease the confidence crisis, but what happens when market loses confidence in the Fed and Treasury, in short, the US government or any government as a matter of fact?

Look around us now, the market seems to have woken up and started to question the credibility of the sovereigns. The "PIGS" countries, Portugal, Italy, Greece and Spain have all suffered in the face of the loss of confidence.

Why did I go through the chain of events? To explain my progression thesis. As all of us know, when we get into any sort of trouble, we can always look to our parents to bail us out. Our parents feel the same way with theirs, and so and so forth. I think you get the idea. The problem is, what happens when the chain is broken? What happens if we run into trouble and our parents are no longer there to save us?

After witnessing the chain of events, the parents of the respective parties that screwed up has always been there to bail them out. So what happens when the govt's get into trouble? Who is going to bail them out? The world bank? The IMF? The IMF is selling 200 tons of gold in the market in their efforts to raise money, but trust me, its not going to be anywhere close to being enough to bail out sovereigns that make up a bulk of global GDP. So far, my progression thesis has predicted everything that has happened. But I keep hitting a wall on what happens next, after all the parental bailout cards are used up. After flying for 3 hours, I believe that I have found the missing piece of the puzzle. Who is the next party we look to for help, after the parents? Friends of course! Friends that are influential or have the ability to help us. Thats what is happening with Germany and Greece. This is just the beginning.

Eventually, when more and more fiscally deficient countries get into trouble, their "better off" counterparts will have to step in and help out by guaranteeing their debt. So we will see a transference of poor quality sovereigns into good quality sovereigns. The stronger countries' balance sheets will weaken and ratings will be threatened. When that happens, it will be the climax of this global financial crisis. The burning question is, will there be enough friends to bail out the rest of the world? No one can tell. All I know is, it will be the tell tail sign that will lead to chaos in the market. If the US gets into trouble, forget about friends bailing them out, no one will be big enough, just expect a total reset in the markets, i.e. how God reset the world with the great flood.

What do I mean by reset? Before I explain, let me just say that I spoke to a very smart investor in Singapore, he said to me, how will the US ever default when they have the ability to keep printing money to pay their debt. He has a strong point there. So here is my expectation on how the market is going to reset. The US will flood the world with USD, devaluation will be broadbased and there will be competitive devaluated across all countries that are fiscally deficient. Inflation will go mad, in excess of 20% or more. The fiat money system will collapse and the monetary system that we have grown accustomed to will change and new stored value assets will be used. A new currency system will be formed and I have to admit that I am not intelligent enough to see how the system is going to look like.

In conclusion, the market still has some legs to go as long as the double dip recession does not occur. The progression thesis will take some time to play out and as and when the news of a country like Germany comes in to bail another country in distress, the market will love the news, so try to profit from this, however this will not go on forever. So make hay while the the sun shines.

Its good to be back!

Best,

SVI