A Reminder of Things to Come

CIT filed for bankruptcy over the weekend. RBS received more money from the UK government. India bought 200 tons of gold. And today Warren Buffet bought out BNI railways? The market did not rally. It is in a state of limbo. Bad news don't make it crash, good news don't make it rally. How long can this last?

At this point, my theory is that the market will crack and crack hard. Buy why? Take a pick: commercial real estate failures, further home price declines, continued depreciation of the dollar, warfare, political disruptions and the most important - lack of new technologies.

But before that happens: the bond market crashes, and we have a few more bank failures. CIT is not an isolated incident. More companies will be brought down because of their excessive leverage. But this is the painful medicine needed to get the economy growing again.

Oddly enough, the only way to get rid of leverage for many companies is to have its debt wiped out and restart all over again. This is what GM did, this is what CIT is doing. Other companies will find that they will need to expunge the debt to get a new start.

Individuals will do the same as well. In a world where no one needs credit, the credit score does not matter. In the US, we have been ingrained to believe that a bad credit score is the ultimate scarlet letter. But when everyone is wearing it, then there is nothing to be ashamed of.

Devaluation of the dollar is the only way to pay back the national debt. I think that should be obvious to anyone that is watching current events. But nothing is as obvious while it is happening. Sure, foreigners continue to buy US bonds, but at the current yield, it is a losing investment. Rates will rise, eventually, and when they do, US government bonds will deflate much like the stock market deflated in March.

Is devaluation possible even though rates rise? Of course, it's called inflation. And there in lies the future of the US bond market. We have become a debtor nation, and when the risk of repayment is at stake, yields rise. Hence, there will two forces moving against the US: inflation and default risk. Sure, the US government itself will not default, but paying its debt with printed money is as good as defaulting.