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Howard's End: No Substitute For Honest Numbers

The Budget is forecasting growth at 3.1 per cent in each of the next two years but slowly falling after that, while the Government surplus is picked to reach $2.6 billion this year, $2.6 billion next year and $3 billion into the future. Oh really! Maree Howard writes.

Hey, Hey, Hey, gold is at $US316 an ounce. And why not? The second most powerful man in the world (Cheney) says another U.S. terrorist attack is coming. And the second richest man in the world (Warren Buffet) says the U.S. should expect a nuclear event sometime soon.

And then there's the world-wide economic news - which makes it look less and less likely a strong global recovery is in the bag.

U.S. corporate profits are still down - unemployment is still up - and consumers are still boosting their spending at nearly twice the rate of their incomes.

And then there's the U.S. dollar!

In January and February 2001 foreign investors bought about $100 billion of U.S. dollar assets. In the most recent period, foreign buying declined to just $26.7 billion.

It doesn't take a rocket scientist to see why that trend might continue.

U.S. stocks are down so far this year - for the third year in a row. European and Asian stocks are cheaper than U.S. rivals - their stocks are rising and so are their currencies. From a foreign investors point of view, U.S. assets represent risk without much reward.

It seems clear that the demise of the U.S. dollar and poor corporate profits will unleash a bull market in gold bullion and gold stocks as people eventually rush to the gold safe-havens, that even the most avid gold bull cannot now imagine.

Remember, history shows that bull markets tend to begin when no one is looking.

Headlines like "Economic Optimism High" reassure us that business yahoos are still long on the dollar and short on the stock market. Which means that, so far, it's only the smart money behind the current price of gold. When "the rest" wake-up and enter the gold market - watch the price sky-rocket. Gold, at this point, is still way undervalued.

The engine room of global growth, the U.S. economy and stock market, has been drifting all over the place and is unnerving investors. And when it comes the stock market investors have plenty to fear, even without the threats of Osama and his mates.

The poor prospects for corporate growth earnings, coupled with the stock market's high valuations, are more than enough to terrorise investors.

And even more terrifying, Standard & Poor's has decided to start classifying as "earnings" only what a company actually EARNS.

Now why didn't I think of that?

S&P has announced that from now on it will produce what it calls "core earnings" which it defines as "after-tax earnings generated from a corporation's primary business or businesses."

This concept is so old that it only seems new. Back in the days before investors began eagerly (and gullibly) embracing the New Era concoctions know as "pro-forma" earnings, companies used to report something known simply as "earnings." S&P now returns us to that bygone era.

Investors are going to be terribly confused when they look back at the dehydrated versions of past year's reported results and wonder where the earnings went. I can only sympathise with the corporate brass who spent years getting their advanced University degrees in financial engineering and now see it all go to waste.

According to analysts, reported earnings in recent years have been exaggerated by at least 20% and perhaps a lot more.

Under the old definition of earnings the S&P 500 sports a P/E of 22. Under the new, that ratchets up to around 30 - so it doesn't take much imagination to suspect that as S&P puts its "core earnings" approach into effect and the over-valuation of the U.S. stock market becomes even more evident, stock prices will suffer - and severely.

Clearly, the correction is coming and a little more air will be let out of the stock market bubble - and so it should be, because there's simply no substitute for honest numbers. But it won't be much fun.

As the stock market continues to deflate, a number of mini-bubbles are sure to lose air as well. Foremost is the U.S. dollar bubble which is about 25% over-valued. Then the U.S. housing bubble and then - horror of horrors for the Government - the tax revenue bubble. It's obvious that a falling stock market is sucking air out of U.S. state and federal revenues.

As the U.S. economy deflates so, too, will the countries who rely on exports to the U.S. be more seriously affected - including New Zealand.

To give Scoop readers an idea just how serious a declining economy leading to a short-fall in revenue is - Indiana, just three years ago, was sitting on a $US2 billion surplus. But times changed almost overnight. Indiana's deficit is now more than $1 billion and the figure seems to grow with each calculation. More U.S. States are now starting to declare budget deficits from previous surpluses.

Now what was that in our Budget about a $2.6 billion surplus this year?

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