Below is Fitzwilson’s exclusive piece for KWN:

“Last week saw several amazing events.  The first was the anticipated near miss of the asteroid known as DA14.  The second was the meteor that “exploded” over Russia’s Ural Mountains, hours ahead of the arrival of DA14.  The scary part is that the “anticipation” had only been since Spanish astronomers discovered the asteroid last February, and the meteor literally came out of the blue.  There was no discovery and the anticipation could be measured in seconds.

For most of us, we have a sense that government entities and scientists have our back when it comes to these celestial car accidents.  The truth is that only about 1% of the asteroids and comets have even been identified out of a possible surmised 1,000,000 candidates.  As we saw, these objects can transfer kinetic energy on impact equivalent to an unthinkable number of nuclear explosions.  Perhaps there is nothing that we humans can do about it, but we are in the midst of a celestial shooting gallery that could turn tragic and fatal if one of the major objects hits the planet.

Another amazing event that could have a monumental effect on our markets, economies and portfolios was a barely noticed warning coming from one of the main regulatory bodies in the United States, FINRA.  The warning was about the risks and dangers of longer-term fixed income.  We certainly agree with them, but it is extraordinary to see the power of the government behind that viewpoint....

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“As we discussed last week, fixed income prices and interest rates act in opposite directions.  Just like a seesaw, one goes up and the other one goes down.  The FINRA announcement could very well be a critical “tell” as to the direction of interest rates.  If they are issuing a warning, it could very well mean that the zero-interest rate policy (ZIRP) is finally coming to an end.

It makes sense.  We have been arguing that ZIRP was devastating savers and retirement funds.  Retirees and participants in 401K-type plans have been depleting their accumulated balances prematurely.  Pension and endowment funds have been earning returns that will cause huge shortfalls or require huge contributions from their sponsors if continued for much longer.  For example, the two major California public retirement funds, CALPERS and CALSTRS, recently announced horrendous actuarial shortfalls.

If we make the assumption that governments and central banks are operating from a plan, the timing is correct.  Stocks, bonds and housing have been juiced as much as monetary policy tools can be expected to achieve.  The global banking system has been stabilized after the 2008 meltdown.  Through massive purchases of toxic assets by governments and central banks from the so-called private sector banks, losses have been sterilized and the system reliquified.  Rates were driven to historic lows to allow homeowners to refinance, and stocks were driven to new highs with support from the central banks.  Unlimited creation of fiat currency under the guise of currency wars is now sweeping the planet.

Letting rates rise is the last major traditional policy change remaining in the tool bag.  The arguments against letting rates rise are that the government deficits will explode with the extra interest costs, and there would be huge capital losses for holders of longer-dated fixed income.  Anecdotally, it seems that the unused liquidity resides on deposit with the Fed or invested in short-term securities.  Rising interest rates would have the effect of generating higher returns on the cash and allow the banking community to widen the spreads on the products that they offer.  This would initially be perceived as a positive.  Any capital losses on rising rates would be substantially “sandboxed” by the central banks and never see the light of day.  Those losses would be socialized over time.

If the rise in rates is gradual, it will impact the spending/revenue gap, but not immediately and not severely if everything works out as “planned”.  There is also talk of a VAT tax.  Think of a VAT tax as “TIPS” for the government.  TIPS are the Treasury securities that are indexed to official inflation.  A VAT tax, under an accelerating inflation and interest rate environment, will allow the government to be immunized from the rising rates and inflation.  The nominal value of the taxes are designed to rise with the rise in the prices for goods and services.  It might even generate more revenue if all goes according to “plan” until the additional taxes further drive the economy toward a steep recession.  The “Wal-Mart” email that emerged this week, if substantiated, would be an ominous signal of just how weak the overall economy is without the burden of a major new tax.

As we saw with unexpected meteors and asteroids this week, humans control very little in the grand scheme of things.  Allowing rates to rise might be the correct thing to do, but it is also the one thing that could cause this monetary soufflé to collapse.

Alan Greenspan also suggested this week that we should focus on the stock market and not so much on the economy.  Could that also be another “tell” that rates are going up?  Rising rates and equity prices at historic highs can be a toxic combination.  Mr. Greenspan should know.  That same cocktail resulted in the Crash of ’87.  It could be “white knuckle” time heading our way at cosmic speeds.”

© 2013 by King World News®. All Rights Reserved. This material may not be published, broadcast, rewritten, or redistributed.  However, linking directly to the blog page is permitted and encouraged.

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Eric King

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rewritten, or redistributed.  However, linking directly to the blog page is permitted and encouraged.

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