Economic Apocalypse

Don't let the recent summer rally fool you, we're not out of the woods yet.

Several factors are coming together to create a "perfect storm," which in combination could send global economies into collapse. We may be able to sidestep this threat if the underlying issues are dealt with one at a time, but if they all occur together it may spell the end of our way of life for many years to come.

This article is merely to explore (and expose) these threat factors, each of which on it's own is quite manageable. It's only when and if they combine that they'll become too great to overcome. In other words, we'd better hope that we deal with these issues now and in isolation, before they meet in the middle.

How bad would it be? Think $20 oil and ten more years of waiting for a recovery. It happened in Japan (the lost decade), and it's setting up here very ominously. Make sure you keep plenty of fresh drinking water and a few loaves of bread in your cupboard.

Here is the quick version of how it could play out:

• The Leverage
• The Rise
• The Deaths
• The Sentiment
• The Lies

1. The Leverage: Due to the economic hardships over the last few years, many have been living off their credit cards while they await the recovery. They've taken on more debt, with the expectation that everything will be fine when the economy soon recovers.

Others have lowered or stopped interest (and even principle) payments on their debts until they get back on their feet. The problem with all this is that it's based on an economic recovery, without which people don't have a back-up plan. Most people are in even greater debt than a few years ago (before the first hint of economic problems).

Individual debt loads were one of the major "killing frosts" that crippled us in the first place. Even after the last few lean years, we're not in better shape, but on average are actually much worse financially.

2. The Rise: Inflation hasn't been a concern in the United States for a long while. Thankfully, it still isn't. However, concerns have started showing up globally, most recently in India.

Inflation will return home eventually, and best case scenario would be for this to happen only after a full-blown recovery. If it happens at any time before then, we're looking at the Federal Reserve raising rates from their current all-time low.

Some estimates are looking for interest rate increases to start showing up in the fall of 2009, or early 2010. (We agree with these estimates at http://www.pennystocks.net)

With a lot of debt instruments, your payments will increase in line with interest rates. For some, this means greater monthly payments. For others, debt payments become more interest (basically incinerating your money) and less principle (the part you keep).

3. The Deaths: Many people have been living beyond their means, with the anticipation of the inheritance they'd receive at the time of their parent's death. Yes, it's a crass and awkward idea, but also one based in reality.

Average life expectancy in the U.S. is 78 years. 13% is over 65 years old, with a good portion of that approaching the late seventies.

The economic weakness of the last few years has dramatically reduced the value of the assets that will be inherited. The children of the deceased will receive much less than they anticipated, which becomes a major problem if they had lived a lifestyle based on their faulty expectations.

In other words, a lot of people have pre-spent money that doesn't exist anymore. They'll only realize the truth of the matter once their parents pass away and the assets are handed down.

4. The Sentiment: The vast majority are taking a recovery as a foregone conclusion, meaning the recovery is already "baked into the pie." We'll need the recovery just to break even on our investments, and anything less will result in a drop-back in stock and home prices.

If a recovery does not come as quickly or as greatly as the sentiment is assuming, then there's plenty of downside.

As I've explained in http://www.pennystocks.net/blog.htm?blog=125&title=Investor-Sentiment-is... (my penny stock blog), Investor Sentiment is a contrarian indicator. Current sentiment is strongly positive, making realized downside much more likely.

5. The Lies: I won't name my sources. Having said that, the banks are lying. The only thing greater than the amount of money they're receiving from the government, is the amount of pressure they're under to show that they've recovered.

Keep in mind that the important balance sheet items (like loan loss provisions) are partially arbitrary, and a good accountant can swing this number higher or lower through legitimate and legal accounting. In other words, they have a lot of control over what they are reporting.

It's a vicious cycle - if all the banks are reporting a major increase in asset values, no single bank will dare be the one to say they aren't.

The original financial meltdown started when the various banks realized the assets on their books were worth much less than they thought. In other words, the banks had no idea how to book their assets. Why should we now suddenly trust their valuations?

Expect a strong stock market going into the fall. It's the few months after that when we'll really know what's to come. We're more likely to avoid economic apocalypse than to experience it, but if the five threat factors combine together, we could see some difficult times for years to come.

Watch for the leverage and the rise, the deaths, the sentiment, and the lies. If they surface together and combine, we might be burning $100 bills for heat.