By Dr. Russell McDougal
Dear Reader,
You are being stolen blind. What is coming next is going to shock all but the very few who comprehend the utter madness behind the globe’s current financial mess. Don’t be caught unaware.
My ongoing premise is that massive taxpayer bailouts of elitist banking entities are coming our way. They are going to be extremely costly to anyone stuck in a dollar-denominated sphere. This week we’re going to delve into a massive wild-card market set to stir the bailout pot past the boiling point.
All the world’s countries hold a total of $6 trillion in exchange reserves. The U.S. has built up nearly $10 trillion as a national debt. The Gross Domestic Product of the U.S. is in the range of $14 trillion. None of these entities measure up to the size of our wild-card market.
Real estate is the underlying reason for the ongoing bank and financial institution chaos. I’ve seen a recent estimate of total U.S. residential real estate at $20 trillion. This is a huge market but it’s tiny compared to the size of our wild-card market.
The global stock market is also large, with a market cap estimate of $51 trillion. The global bond market has recently been valued at $67 trillion. Global exchange reserves, U.S. debt, U.S. GDP, U.S. real estate, global stocks, and global bonds all added together are only a fraction of the size of the wild-card market.
Let’s take a peek at the market you need to understand:
Yep, that’s a monster. Halfway through 2007 its size was $516 trillion. Since then, it soared to $681 trillion in the third quarter of 2007. As you can see, I’m talking about derivatives once more. You cannot discuss bailouts without looking at the derivative picture.
Not only is this the largest market the world has ever seen, it’s also the least known and understood. That is both remarkable and scary. What in the hell is going on here?! Let’s throw derivatives into the mix of the Fed, Fraud, Fannie, Freddie, and banks and explain their underlying meaning.
Derivatives are nothing more than side bets among banks and financial corporations. They are totally unregulated by Congress or any other public entity. The Bank of International Settlements (www.bis.org) is based in Switzerland. It acts as a “master bank” over its member banks across the globe. Derivatives volume must be reported to the BIS so we are able to see their magnitude. It’s just a little peek behind the curtain.
I have been aware and leery of derivatives the entire time they are pictured on the above graph. Still, they are more than mysterious. We’re told they eliminate risk from the markets. We also know there is extreme leverage associated with them. You may receive a 10- or 100-fold return on a position … if it goes in your desired direction. That’s a big if.
A simple example of a derivative is when a company decides to invest in a foreign manufacturing plant. Their production numbers all look good, but they perceive a degree of risk in currency fluctuation between their own currency and that of the foreign nation. Other financial entities are willing to take on this currency risk … for the right price. It becomes a “hedge” or a form of insurance. A private contract is drawn up. Used prudently, this can be seen as normal business procedure.
The problem is, we’ve long passed the point of prudence. You could create a side bet (derivative) on the exact month and day Angelina Jolie’s lips or current romantic relationship will shrivel up. There are derivatives on the weather, interest rates, stocks, bonds, futures, real estate, mortgages, gold, silver, base metals, and pretty much anything dreamed up by our modern financial wizards.
Not coincidentally, the largest derivative players are the banks and financial institutions mentioned in last week’s article as bailout candidates. The very ones now being seen as having exceedingly poor judgment when it comes to blowing up a real estate and mortgage bond bubble. That is definitely not comforting.
There is very little room for error when you are looking at a $681 trillion derivatives market that is growing! That is over 48 times the size of the U.S. annual production. Trusting the likes of JP Morgan or Goldman Sachs with this magnitude of responsibility is no better than giving free reign to Enron and their team of accountants.
When derivatives fail they tend to set off a chain reaction among players. This is what happened with Long Term Capital Management in the late 1990s. The Fed and other elitist entities had to intervene so the entire financial market didn’t unravel. Notice the size difference between derivatives in 1998 and 2007.
When derivatives go bad no one fully knows whom they can trust. Markets lock up. Derivative owners don’t know how to value the derivatives they hold because they don’t know the true financial status of the other party with whom they’ve made the bet. This is what is referred to as “counter-party” risk. Derivative failures are playing out, in spades, behind the current financial landscape.
This is the most egregious example of financial imbalances in history.
Here’s a multiple-choice question for you about the current derivative fiasco. What is the underlying reason for this financial monstrosity and its unfathomable level?
1. Derivatives represent the epitome of greed and recklessness by the financial geniuses on Wall Street.
2. Derivatives are the tail that wags the financial market dog. They are used by power mongers to manipulate and control markets.
3. These guys are out of touch with reality and honest markets.
4. They are playing out some end-game scenario.
5. All of the above.
Number five is my answer, as you likely guessed. The great mystery is set to be solved in the coming months. Watch carefully. Some of the players will be deemed too big to fail. Some will be deemed too well connected to fail. Some may just be too big to bail (out). Some will likely be sacrificed.
Gold, silver, and other tangible assets serve as protection in times of extreme financial chaos.
Invest Resourcefully,
Rusty
