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Goldman Research Note to Hedge Funds

Goldman Sachs published a research note a couple weeks ago that did a very good job summarizing what is frightening about the  state of the world economy right now, and why I have reduced my exposure to everything but gold stocks and a few special situation oil stocks and banks.

The research not is discussed on FT here:

And the actual powerpoint was posted by ZeroHedge here:

While the powerpoint focuses on 3 distinct items (the US economy, the European debt problems and China’s potential credit collapse) I think the most important points for us investors are made with regard to Europe.

Europe’s problems have the potential to evolve into something really bad, it could happen really quickly, and the outcome would be widespread among all stocks.   Its the sort of situation where we will wake up one morning and the world will have made a dramatic change for the worse.

So those problems need to be at the forefront of every investment decision right now.

I have snipped 3 slides that I thought were particularly poignant.

First, this slide demonstrates how leveraged the European banks have become.  They have grown assets well in excess of deposit growth.

To cover the gap between deposits and assets, the banks increased their wholesale borrowing.

The problem is that wholesale borrowing is short term.  A “bank run” is much easier to precipitate when your funding is made up of overnight, 7 day and month long durations.  If you ask me, this is a recipe for a nasty storm.  High leverage to likely insolvent assets that have been bought with funds that can be pulled away in an instant?  Yikes!

Last slide I’ll post.  PIIGS debt.  Whether or not the German courts and German government agrees to EFSF, you have to remember that the size of the EFSF is not big enough to handle Italy and Spain.  I have a feeling that if the market gets euphoric next week when the EFSF gets the head nod from Germany, it won’t last long.

So obviously, Italy and Spain are the keys here.   Further signs of stress in those countries is a sign to get out.  And ominously, Italian and Spanish bonds are rising again…
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