CaduCap

A downgrade of US sovereign debt is inevitable and probably should have happened already. This has nothing to do with the current debt ceiling debacle in Washington. It has to do with a government that has not had its fiscal house in order for a decade and shows no signs of desiring to get it in order. Even with trillions of dollars of cuts over the next 10 years as the most aggressive plans would dictate, the US would still be borrowing $0.25 of every dollar it spends versus the roughly $0.40 it spends today. In addition, the Social Security piggy bank Congress has raided for the past 40 years is dry and it is time to start paying back those obligations (Social Security, until recently, always took in more money than it paid out. The Treasury has always spent the excess and given Social Security IOUs in the form of special bonds.) When you look across the financial landscape, countries with the financial profile of the US are not rated “AAA” they are far less. The US has a trade deficit (we import more than we export), budget deficit more than 10% of GDP, and little growth. To put things in perspective, Italy, who is the latest victim of the debt bear raiders, has a budget deficit of around 4% of GDP and has a plan to balance their budget by 2014. We believe the market anticipates the downgrade and it will be a relative non-event. The macro-economic worries across the globe are more concerning, but weakness will likely be perceived as US debt related.

Disclosure: Short US Debt via options.

August 2 is the date the US Treasury will run out of options to keep the spending machine alive. On that date, bills will be due and there will not be enough cash in the coffers to pay for it. Jim Jubak has an interesting take on the situation. I think he is missing the big picture. Regardless of the outcome of the debt ceiling issue this time around I think the world is finally realizing the US has been writing checks it has no hope of cashing for a long time now. The fact that the President has said he will veto any resolution to introduce a Balanced Budget Amendment to the Constitution says a lot about the mindset in Washington. How can any agency rate the US “AAA”, the highest rating available when the President says we have no intention of balancing the budget in the foreseeable future? At some point a wise investor will realize US Treasury debt is a Ponzi scheme and stop lending. Obama has said it will not be paid back anytime soon and we have no idea how to get to a point where we can even think about paying it back. What interest rate would a bank charge you or I if we wanted a car loan and told the bank that we can probably pay the interest, but have no clue how we are actually going to pay for the car? Would we be seen as a “AAA” risk? I highly doubt it.

One way we can get rid of the charade that is the national debt and take a fairly good sized chunk out of it is to finally “print” the money the Fed has denied it has been printing all along. The Fed currently has a balance sheet of about $2.4 trillion at last count. Much of that is US Treasury debt. It is time for the Fed to sell that debt back to the Treasury at $.01/$1, effectively taking a 99% loss on the debt and printing the difference in cash, effectively devaluing the dollar. This would give the Treasury some room to issue more debt, which the Fed would likely buy, and allow a slow, controlled, devaluation of the dollar over the next decade until the US can finally hope to get its budget balanced.

Italy is the latest country being blamed for the ills of the world. The rumor is that they have spent wildly and now they have no way to pay back there debts. The are structural issues with the Euro that will end in its eventual dissolution, but is the new Lira such a bad thing? Even with the problems facing Italy, they are aiming for a balanced budget in 2014. During the budget discussions in the US how many times have you heard a balanced budget by 2014 or even 2018? 2020 has been on the table, but that is going to be long after this President is retired, and probably the next one as well. Aside from Greece, and maybe Portugal, the US is in far worse fiscal shape than the rest of the PIIGS and we don’t appear to want to do a thing about it, unlike the PIIGS who are causing riots in the streets to balance their budgets.

Nortel, the bankrupt tech-bubble Canadian company, had a patent estate of over 6,000 issued and pending patents covering just about every area of technology. The auction of those patents was won by a very large consortium of companies that decided it was better to be friends on this issue than risk one company winning and shutting everyone else out. Who would have guessed that MSFT and AAPL would bid TOGETHER? The big losers are Google and Intel who lost out. The next few months will be very interesting and profitable for the lawyers as they decide what to do next. Google’s Android is one of the biggest OS’s for smart phones. Many have speculated that Android steps on many of the Nortel patents, as does Apple’s mobile OS, MSFT’s OS, etc. The most interesting part of the group is RIMM, a company that has been in freefall since Apple and Android have taken over a market that used to be  theirs. With Google on the outside looking in, I think it is very likely to see a Google bid for RIMM or Sony Ericsson (though there are no indications that the JV between Sony and Ericsson is for sale). A license deal is also a possibility, but with such a large consortium I am guessing the winners have an agreement with each other not to license the patents to anyone outside of the group without all member’s consent.

Disclosure: Not investment advice. We hold positions in AAPL for self and clients.