Recently a large number of opinion makers gathered in Davos, Switzerland, to try to and divine how the world can escape financial Armageddon, due to ballooning sovereign debt. I had talked to a few who were there. One mentioned that the British queen's question to economists (how come none of them had forecast the 2009 recession?) was mentioned sotto-voce with some shame and consternation.
But the same economists are now about to err on the other side.
All opinions in Davos, from what I've learned, were gloomy. All, in my view, fell into the trap of trying to guess (or recommend) which entity or group would (or should) be forced to tighten its belt more, to overcome the present predicaments. Should banks take write-downs? Should investors? Or should wage earners suffer? Perhaps bond holders? Or Greek citizens? Or should German taxpayers foot the bill yet again?
The talk seems to be going round and round.
Yet, the point being universally missed is this: We had one such crisis before, though on a smaller scale: The late 80's junk bond crisis, which led to a nasty recession of 1989-1990. But that crisis ended on January 1991, all on its own, with the outbreak of Gulf War 1, which led to a 10-year bull market-which, in turn, provided rich ground for equity issues and IPOs that soon fixed balance sheets and erased the effects of the junk bond crisis.
I know of what I speak, because at the time, I was a senior partner of Gordon Capital, a top-tier Canadian investment dealer, which, together with GE Capital, Canada's CIBC bank, Japan's Yasuda Trust, and Hong Kong's Hutchinson Whampoa, made a $2.35 billion bid for Columbia Saving and Loans' junk bond portfolio.
To make a long story short: No, we didn't get it. Apollo Partners did, and as the market soared on the wings of Gulf War 1 (the bull market started 2 days after the first Tomahawk missiles left the destroyers' deck), Apollo made a fortune. But aside form the missed opportunity, what stayed with me was the marvel of how fast the panic over the tanking economy was wiped away in a few weeks by successful military action.
Which brings me to the present moment.
All those in Davos (and elsewhere) trying to divine the outcome of the sovereign debt crisis are civilians, so the only solutions they can see are peaceful ones -- default, belt tightening in the West, bankruptcy of Western countries, recessions in Western countries, negotiations among Western constituencies about who should suffer more, who less, who here should tighten its belt more, who less.
But that's not how the real world works. Heads of state are not just civilian bankers and accountants, whose power levers are checkbooks and tax rules and money supply ledgers. Rather, they are hard-headed and harder-hearted politicians who have armies and navies and air forces at their disposal, which they can use to export austerity to others, if necessary, as was indeed done in 1991-and in 2003.
- The junk bond recession (1989-1990) ended with Gulf War 1 (Jan 1991) that also launched a 10 year bull market.
- The dot.com recession (2001-2003) ended with Gulf War 2 (March 2003), that also launched a 5 year bull market.
- Will the sovereign debt recession (2009-2012) end with Gulf War 3?
In my opinion, it must.
Now mind, I am not saying that there's some secret conspiracy that tries to shift the burden from the West to the East. But countries, like people, often do blindly what is in their self interest, then tell themselves they have done it for reasons of idealism, goodness, or for the sake of principle-and they even make themselves believe it.
In 19991 and 2003, after the West had sinned economically, it made the East pay the economic price and so saved its own economy. I am now convinced that this is what is likely to happen yet again, in the coming Gulf War 3.
A general rehearsal is even taking place, in the "Bold Alligator" military exercises on the East coast, similar to the exercises that General Norman Schwartzkopf had held just before launching Gulf war 2.
Consider yet again:
By various estimates-just sum up the sovereign and banks' debt -- the U.S. needs $4 trillion, Europe needs about $3 trillion, or about a quarter of GDP of each.
This is a stark, obstinate fact that cannot be made to go away by talk, or by financial fakery, and it is even a starker fact that there are only three sources for such huge amounts:
One is internal-severe belt tightening that would either lead to 10 year of no growth, a la Japan in the 90s, or five years of negative growth -- something between the early 30s and the early 80s. This won't be allowed to happen, because any Western leader choosing this would be thrown out of office, as those in Greece and Spain were.
The second potential source of trillions is China.
But China won't give money peacefully unless it got full value for it -- free and clear ownership of large swathes of Europe. Yet the Europeans won't stand for Chinese overlords, and China is too powerful to force to hand over its treasure, as Britain had done to India after the Napoleonic wars, when Britain was practically bankrupt, and had to go and take it from the only place that had it.
The third and only other source of trillions is Mid East oil, where it now serves to build palaces, harems, and nukes. But since it is the only available source of trillions where the locals are weaker than the West, by necessity, then, this is where it will be taken -- yet again.
The numbers make sense, too: The U.S. consumes about $900 billion worth of oil a year, with Europe a tad less. A decline of 50% in oil price would liberate about $1 trillion a year. This is much more than the IMF requests, and 3x the amount the U.S. congressional super committee is now looking for.
With oil price halved, there would be no need for cost cutting and belt tightening. Once Gulf War 3 erupts, the European crisis would be over, as the previous two recessions were, after the outbreak of Gulf 1 and Gulf 2.
The economy would be unburdened, corporate profits would soar, as would employments, tax receipts would mushroom, debt would become payable, and since the East would have much less oil money to foment mischief with, the market risk premium would plunge, and a grand bull market will start (as in Jan. 19991 and March 2003), and all would be well in the world.
In the Western world, that is (including Greece, where democracy started). The East would be a different matter. But they don't vote here, do they?
In my firm opinion, we are two or three months away from it, perhaps less: One mild market correction to go, say 10%, as the market falls into the start of the war (as in late 1990 and early 2003), and then it's up, up and away.
But please note: The above is not a recommendation for war. Far be it from me. I fought in one war (in 1967), saw what it does, and would early love to see my forecast proven wrong. But in my view, Gulf War 3 is practically inevitable. There are simply no other places for the West to get its trillions. The West had done this twice before. A third time is coming up.
The implications for investments are clear:
The market (say the S&P, as represented by the SPY ETF) is likely to decline here, as the war ramps up. But then, once the attack is launched, the market will zoom-again, as in Jan 1991 and Mar 2003.
And most likely, the next gathering in Davos in 2013 is likely to be much cheerier, with speakers being forced to admit how wrong they were the last time around-yet again.
Don't you be caught on the wrong foot with them yet again. Get ready for a grand bull market to start, once the shooting begins.