By: David Overfield

2009 Year in Review and 2010 Predictions

January 2010

2009 Review
Before I share with you my 2010 predictions, we should first take a look back at the prior year’s
predictions and the actual results.
The main thing I keep in mind is humility. It is extremely difficult to predict the future in regard
to specific targets and time ranges. Instead it is much easier to make general predictions based
upon the fundamentals.
This reminds of one of Warren Buffett’s well known quotes, “In the short term the market is a
popularity contest; in the long term it is a weighing machine."

What Happened in 2009?

 Stock market bottom and recovery
o Intraday low on the S&P of 666 in March and year finish at 1115.

 Real estate prices fall but show some stabilization

o Residential prices plummeted but leveled off in most markets. Some price
appreciation at the very low end in growth markets like Phoenix and San Diego.
o Commercial real estate price continued to fall because rents and occupancy are down
and loans are difficult to qualify for.
 Unemployment rose above 10% (from just 4% in only 2 years).
o Any decrease in unemployment is due a reduction in the workforce participation rate,
not new people actually getting jobs.
 Credit crunch still in place but has loosened some.
o The main question is what will happen when the Federal government stops all support
of the credit markets (Fannie & Freddie, FHA, commercial paper, FDIC), and many
other programs to buy debt.
 The Federal government has a trillion dollar budget deficient and of course over 10 trillion
dollar debt.
 State governments have deficits and debts and the problem got worse.
 TBTF – Too Big To Fail - became mainstream language
 "Privatize the profits and socialize the losses" became apparent to the public
 Failure to pass sweeping national health care reform

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2009 Year in Review and 2010 Predictions
January 2010

 Failure to pass sweeping banking regulations

Essentially the US and the world have avoided Financial Armageddon so far. The government,
the Fed, and the Treasury deserve credit for the short term fix. However the main problem is still
there: there is more debt than can be serviced. Many of the debts just got moved from the private
sector to the public sector (i.e. Privatize the profits and socialize the losses).

Most Accurate Predictions from Last Year

“There will be a surplus of government intervention to combat mass unemployment. I
expect we get close to 10% unemployment (U3) by year end.”

 Right on, December’s unemployment was 10.0% (U3)

“Defaults grow beyond comprehension and models for these debts” (mortgages, credit
cards, other loans)

 Look at the charts and you’ll see defaults are beyond any models considered accurate just 2
years ago.
"Debt monetization and bail out of the FDIC (which wouldn’t be allowed to fail)."

 Had you ever heard of “debt monetization” prior to last year? The Fed has monetized the
debt through quantitative easing plus the FDIC was given an unlimited lifeline to additional
funds.

Least Accurate Predictions from Last Year

“The markets have been in an uptrend since the market low in November around 748
on the S&P. This appears to be a bounce/retrace of the October market crash. A
standard 50% rebound would have the S&P peak between 1000-1100. Naturally I
expect this rebound to be short lived and for new lows in 2009 as companies report
very low earnings.”

 Well, much of this was correct, the market did retrace over 50% to the 1100 range but
essentially I predicted a fall back to the market lows which never occurred. Thus, this is
definitely a miss.
"Economic growth in China turning negative."

 Totally missed this one. Even if we don’t trust the numbers from the Communist
government, the growth rate didn’t go negative.
“Unemployment will peak at 8.5%” under the Obama rescue plan

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2009 Year in Review and 2010 Predictions
January 2010

 OK, this wasn’t my prediction (it was President Obama’s), but it just shows how clueless
politicians are in general about the economy and perhaps that they are willing to say anything
to be politically popular.

Quotes of 2009
“The ego has landed.”
"I had to hold my nose and stop those firms from failing." -- Ben Bernanke, US Fed
chairman

Favorite Videos of 2009

 How To Wrap A Cat For Christmas
 Monetary Lessons from America's Past
 Jeff Bezos about Amazon and Zappos
 100 GREATEST HITS OF YOUTUBE IN 4 MINUTES
 Carlsbad South Carlsbad State Beach
 Jordan Frisbee & Tatiana Mollmann - 2009 New Classic Dance Routine

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2009 Year in Review and 2010 Predictions
January 2010

2010 Predictions
Background
Deflation was my prediction last year (and it was correct) and it is still my prediction for this
year. There aren’t many drivers for pricing power as there is tremendous excess capacity in
unsold or vacant homes, under-employed workers, and under-utilized factory capacity.
Still no inflation. Basically money is being destroyed as fast if not faster than new money is
being created. Plus velocity has dropped while consumers are leery of increasing their debts.
Cash savings should continue to increase.
Perhaps unemployment might fall below 10%, but it should remain at or near double digit
territory.
Layoffs continue at name brand businesses previously considered to offer "safe and secure" jobs.

Stock Market
The stock market started 2009 at 935, fell to 676 and recovered miraculously to 1128.
The market indices should fall in 2010 and stay within their prior 2 year trading range with a 1/3
chance of retesting the prior lows of March 2009.

Real Estate Market

Residential
Prices continue to fall in general across the board. However, it appears that the most affordably
priced homes have seen the most stability because they fell first and quickly, and prices are
reasonably similar to renting. Thus, as long as FHA loans are accessible, the lowest priced 1/3 of
the housing market may be stable.
The move-up and luxury home prices will fall as jobs are lost, homes are foreclosed upon, and
significant distressed housing inventory keeps prices flat or heading downward.
Interest rates won't move much because the Fed policy should remain quite accommodative.
Supposedly no government can control the long term rates because these debt markets are so
large that only the private investors control this market. There are only two possibilities:
(1) If the economy shows some signs of recovery, then long-term bond prices will fall (interest
rates go up a bit).

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2009 Year in Review and 2010 Predictions
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(2) If the economy crumbles further, then long bonds will remain popular, indicating higher
prices and still historically low interest rates.
The default rate for option ARMs will head toward 100% for loans originated during the peak
years -- This is only a slight exaggeration. The number one problem is negative equity. The
"home owner" (I use that term lightly, they are more like debt slaves) can’t sell, refinance, or rent
and cover the existing debt on the property.
Thus, defaulting is the logical consequence for homeowners who can’t make the payments, and
even for those who can make the payments (because they can rent much cheaper or can’t cover
the PITI if they rent out the home, resulting in negative cash flow).
Take a look at the chart below. The option ARM loans experiencing payment shock will really
accelerate in 2010 which will increase defaults.

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2009 Year in Review and 2010 Predictions
January 2010

(Chart from Calculated Risk Blog)

Last year I predicted that home prices would take 10 years to recover and I still hold that
perspective. I also predicted 20 years to recover for place like Bakersfield (CA), etc. It may take
more than 20 years for those inland markets (in California) like Fresno, Bakersfield, maybe even
Sacramento.
It does shock me that home prices in the most desirable San Francisco Bay Area neighborhoods
like Palo Alto and Cupertino remain in the $1 million to $2 million range (for “normal homes”).
I guess there is just a lot of demand for certain school districts, commuting distances, and quality
of life that I underestimated. It doesn’t hurt that salaries are high and tech stock options provide
big down payments.

Commercial
Commercial real estate prices have fallen and the transaction volume has plummeted, indicating
a frozen market just as I predicted. Rents are lower, there are fewer tenants, there are few loans
available, and there is rampant overcapacity. I expect this market to continue its decline and it
will finally get more attention from Main Stream Media. In the end, we could see this crisis
rival the RTC back in the late 80’s and early 90’s. At some point, there will be amazing deals in
commercial real estate available.

Interest Rates
Rates are still at historical lows just as they were last year.

Fed Funds
They are at zero and should remain there for 2010. Remember, Japan had zero interest rates for
10+ years. It can happen.

10 Year Treasury
The current rate at around 3.6% is quite low. Would you tie up your money for 10 years at even
4%? It doesn’t make intuitive sense but with uncertainty so high, investors are really just
parking their money in the safest asset they can find.
I expect the 10-year treasury rate to stay in the 3% to 4% range all year. Perhaps a run toward
5% is possible if there are not any more crises and the Fed starts talking about raising rates.

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2009 Year in Review and 2010 Predictions
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30 Year Treasury
At around 4.5% currently, this is just a parking vehicle like the 10 year bond. I’d expect more of
the same, say a range of 4% to 5.5%. We are at the point in time that uncertainty will increase
the flow of funds into government bonds, which lowers the rate.
At some point in the next few years though, investors will want a higher return instead and prefer
risk assets like stocks, non-government bonds, real estate, and private equity deals. This would
happen when the economy stabilizes and global investors fear being left behind by better returns
in quality assets.

Currency
Every country seems to want a cheaper local currency to prop up their exports. Plus most
countries need lower interest rates (i.e. more money in the system) just to make their sovereign
debt payments manageable.
I still don’t track currencies much so consider anything here just a guess with a low confidence
level.

US Dollar
After falling about 50% in the past few years it has stabilized and even strengthened. More of
the same is expected.

Euro
At about 1.4 USD to the Euro, it seems likely to remain in the 1.3 to 1.5 range as it has. Note
there is increasing talk about defaults by weaker EU countries like Greece, Italy, and Spain, who
can’t service their existing debt but also can’t raise tax revenues much.
If forced to make a firm prediction, I’d say the best chance of a currency crisis is in the EU, not
Asia or North America.

Yen
The Yen has neither strengthened nor crashed as predicted by some. Japan has had a very
accommodative monetary policy for decades now with little to show for it. It just proves you
can’t fight demographics and cultural mindset.

Precious metals
I still don’t track these often.

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2009 Year in Review and 2010 Predictions
January 2010

Gold
Gold has remained above $1000/oz. Certainly the major bull market is getting old now after
almost 10 years. If the economy doesn’t suffer a major meltdown and doesn’t recover either,
then gold prices will probably flatten and possible show downward bias.

Silver
Who knows, is it an industrial metal running out of supply or a “poor man’s” gold?

Commodities
I’d really like to see safe, clean and domestic alternative energy sources. Wind and solar seem
popular now but haven’t had the roll-out to significantly cut into hydrocarbon based energy.

Oil
Oil prices remained in the $60 to $80 range for most of the year. I expect more of the same and
a downward bias too. Apparently there is plenty of stored oil, overcapacity, and reduced global
daily consumption since the peak a couple of years ago. On the other hand is the Peak Oil theory
and political tensions in the Middle East.

Coal
Stable or falling prices.

Natural Gas
Stable or falling prices.

Political
Federal
I love my quote from last year:
“When a management with a reputation for brilliance tackles a business with a
reputation for bad economics, it is the reputation of the business that remains intact.” –
Warren Buffett
No matter who won the Presidency, we’d have had an economic crisis and collapse because we
over consumed and incurred more debt than we (globally) can service.
Read my predictions from last year below, which came true as predicted.

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2009 Year in Review and 2010 Predictions
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The latest budget proposal includes something like a $1 trillion one year deficit so that
we can “spend our way out of the recession.” This further proves the short term focus
and lack of economic understanding by most politicians. (Hey, I voted for Ron Paul)
Will Obama get nationalized health care passed, will he restrict Wall Street
significantly? I doubt it. I must admit that after watching him on Charlie Rose
(http://www.charlierose.com/view/interview/171) before he even wanted to run for
President, I thought he was a different, even authentic politician like Ron Paul. I was
wrong.

State / Local
State, county and city budgets will run negative and some will have to make very difficult
decisions. Is there the political will to make these decisions? No! But there are fiscal realities
and my hope is these municipalities will NOT get bail outs but be forced to align expense with
income. The best start is removing unsupportable commitments to expensive healthcare and
retirement benefits to government employees. See Mish for a complete detail on this.

The Blame Game

The current crisis has not seen a large amount of public trials and scapegoats. Yet, I sense we’ll
see more and more of them in 2010.

Wild Cards
These are events that are unpredictable and uncertain in outcome/effect. They could have a
significant effect on all the predictions.

Economic
A market collapse (like Sept. 2008) would shift all predictions to the worse side. Some
significant collapse on the global scene would not surprise me. Will it be a flight to the USD, the
collapse of Greek government bonds, or a terrorist induced slowdown like 2001? I don’t know,
but all seem possible.

Russia
I still don’t see much changing here. There is a declining population and a lack of economic
independence and entrepreneurism. Sure they have oil reserves and decent military but there
isn’t enough to make a major change.

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2009 Year in Review and 2010 Predictions
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China
Economic growth may be slow but positive. Will their spending increase and savings rate
decrease and thus create a strong enough domestic economy to stop complete reliance upon
exports? Nope.
I have spoken to people who have bought real estate in China and from what they tell me, prices
are too high to be paid by the local populace and there is significant over-capacity. At some
point (2010 or 2011), Chinese real estate prices will fall and banks will need a bailout.
The US just approved a large sale of military arms to Taiwan which was not “approved” by
China. At some point, these weapons may end up in the hands of China after reunification.
Interesting thought isn’t it?

Middle East
All the same issues as last year remain. There are internal conflicts and external conflicts, and
these will not be resolved this year. Why do you suppose there are US troops in Iraq and
Afghanistan? There are 2 major conspiracy theories:
(1) Iran has no intention of stopping the final fueling of their nuclear power plant capable of
producing weapons-grade uranium, despite their leaders claim that the plant is used solely for
power generation. U.S. troops were placed on both sides of Iran to put pressure on them to
yield to international requests and to not bring the nukes online.
(2) Iran had stated they were going to sell their oil priced only in Euros and would not accept US
Dollars as payment. This idea has been around for a few years and threatens the USD's status
as the global reserve currency – and thus the world's (especially the U.S.) financial system.
While it's questionable whether the other oil producing nations would follow suit, the U.S.
could not take the risk of Iran rocking the boat.

Terrorism
It seems to me that there will be a major terrorist event in 2010. Remember terrorism is "cheap"
for the perpetrators.

End Game
I’ll just reuse last year’s quote because we're still in the same situation.
“True prosperity comes from savings and investment. Not from spending and
consumption. We can’t spend our way to growth and prosperity.”
Just because we survived the crisis (so far), doesn’t mean the root causes are resolved. Just the
opposite is true. Our short term fix has been to create more debt to pay for the old debt.
Actually we are worse off now than before. The only solution is "debt jubilee". (Google it)

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2009 Year in Review and 2010 Predictions
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Solutions
Now that the horse is out lose (deflation, credit contraction, recession), closing the barn door
won’t help. So how do we get the horse back?
There isn’t an easy solution to the current problems. Which people or government would want
to pay down the existing debts and reduce consumption now? Would a political candidate win
an election by promising to cut spending, salaries, benefits, services AND raise taxes to bring
expenses in line with revenues?
I doubt it. Thus the only option we seem to have is to “muddle through” this crisis and react to it
instead of proactively preventing future problems.

Problem Prevention
We have to agree that preventing problems is worth the short term costs in order to reap the long
term gains. Also, let’s get rid of the silly notions that markets are efficient and markets can
remain in perfect equilibrium. These ideas may sound nice to economists and make their math
work, but they are NOT the real world as proven by thousands of years of human history (fear
and greed, boom and bust).
See these posts:
 Is Economic Stability a Myth?
 What Bubble Are We In Now?
 Market Cycles – From Euphoria to Despair (and back again)

Changes I’d like to see:

 Debt free money – the US dollar should be issued directly by the government not through the
Fed (which is neither federal, nor has a reserve).
 Re-implement a better form of Glass-Steagall Act
o Separate commercial banking from investment banking
o End privatizing of profits and socializing of losses

 Limit leverage on Wall Street to lower, safer levels.

 Limit home loans to 30 year fixed with 20 % down payment on full doc only.
o Ok, for starter homes under say $150,000, allow something like a 10% down payment
through the FHA.

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o If you can’t save enough or borrow from your parents for the down payment, you
probably won’t be able to service the home debt for 30 years and pay off the note
anyway.
o I know this sounds harsh, but it wasn’t that long ago that it was standard. The reality
is that home prices would go down and housing would be more affordable with more
conservative underwriting standards.
 Limit explosive derivatives that increased the carnage from the credit crisis.
 Eliminate pensions and unions – they make us less competitive in the global market
o Both of these legacy concepts limit our global competiveness by increasing wages
beyond the global market rate.
o This would allow more manufacturing domestically and help with our balance of
payments (trade deficit).
o Yes, this is also harsh, but the reality is in order to compete in the global economy,
wages for many jobs won’t be much different whether in Vietnam, India, Canada, or
even here in the US. Sure we’ll have slightly higher wages because we are more
efficient.
o I see this as necessary to protect the majority of workers.

What If I’m Wrong

I can guarantee that I’ll be wrong on some if not a majority of these predictions. As I stated at
the beginning, making a prediction about a specific price point during a specific point in time is
extremely difficult.

Things that would shock me

 Unemployment falls quickly to historic levels (say between 5% - 7%)
 The stock market sky rockets
 Housing prices increase significantly
 The USD collapses (and we enter into hyperinflation)
 The Raiders win 8 games next year

Improbable things that wouldn’t shock me

 War in the Middle East
 Large terrorist incident

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 Tiger Woods never recovers from his mistress incident and fails to dominate golf as before
 Sovereign debt problems and outright failure in a few countries

Silver lining
History shows that the world recovers from economic troubles over time. In all likelihood we’ll
“muddle through” this Great Recession and learn a few lessons.

Feedback
I welcome your feedback and suggestions. You can find my contact info at
www.DavidOverfield.com.

Final Thoughts
Questions to ask yourself:
 If the Fed and USG are “printing” trillions of dollars either directly or indirectly, why isn’t
there hyperinflation or even modest inflation?
 Do you plan on adding new debt in the next year? How about the people you know?
The world economy is essentially in a Kondratieff winter where there is more debt than can be
supported. The only real escape is "debt Jubliee". However I predict we won’t see this as a
solution offered by the main stream media and political leaders.
Finally, I’ll leave you with John Mauldin’s thoughts on why he’s optimistic about the future. His
kids and grand kids will look back on his day as archaic.
“The future is never easy for all but a few of us, at least not for long. But we figure it
out. And that is why in 20 years we will be better off than we are today. Each of us, all
over the world, by working out our own visions of psychic income, will make the real
world a better place.”
So at the end of the day we’ll muddle through, enter a double dip recession, and still survive and
thrive as humans always have done in the past. This period is a worthy reminder that true wealth
is measured in family, friends, positive experiences, and memories, not real estate prices and
stock accounts. If there is one place I’d like to be it is here in America. We have a culture of
innovation and entrepreneurship which is the only thing that can create long term solutions.
Wishing you a blessed and wealthy 2010!
Thanks for reading.

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