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The Debt Problem

The Debt Problem. The U.S. and Europe may be entering into a long term deflationary period Enormous debt which can not be repaid Policy makers have not made the necessary decisions to resolve the debt issue Markets move for reasons that transcend their basic fundamentals.

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The Debt Problem

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  1. The Debt Problem • The U.S. and Europe may be entering into a long term deflationary period • Enormous debt which can not be repaid • Policy makers have not made the necessary decisions to resolve the debt issue • Markets move for reasons that transcend their basic fundamentals

  2. Types of Debt We OweSources: FT, IBD, The Economist, WSJ, Barron’s, Bloomberg • Federal debt near 16 trillion • Student loan debt: 870 billion • Personal debt: over 2.4 trillion • Mostly mortgage related • Corporate debt: 8 trillion • Unfunded state and municipal debt: 3.9 trillion • Pension and health care for public service retirees • Unfunded Medicare Liability: 25 trillion • Unfunded Social Security Liability: 8 trillion

  3. Historical Reactions to Debt • Grow your way out • Demographics rule against it for Europe • U.S. attitudes towards immigrants help

  4. Historical Reactions to Debt • Grow your way out • Demographics rule against it for Europe • U.S. attitudes towards immigrants help • Stagnation • Japan is the primary example

  5. Historical Reactions to Debt • Default • Greece has already defaulted • Spain, Italy, and others will likely default

  6. Historical Reactions to Debt • Default • Greece has already defaulted • Spain, Italy, and others will likely default • Inflation • QE1, QE2, Operation Twist, and Twist Again have not resulted in inflation

  7. What Can Investors Do? Use strategies that offer protection against catastrophic losses

  8. Keep Yourself Informed • Daily Treasury Yield Curve Rates • Flight to safety • Lower yields – investors are fleeing stocks • Danger is that a bond bubble is forming

  9. Keep Yourself Informed • Bureau of Labor Statistics (Table A15) • U3 rate – This gets all the attention • U6 rate – The “real” unemployment rate

  10. A Good Investment • Buy: • American companies with a strong international presence • Companies that pay dividends and have a history of dividend growth • Dividend payout ratio less than 60% • Positive and growing cash flow • Low or no debt

  11. Basic Risk Management Strategies • Sell Puts • Generate yield • Buy stocks at less than current price • Sell Calls • Generate yield • Sell stocks at higher than current price

  12. Why Sell Options? “I’ve been rich, and I’ve been poor. Rich is better.” - Sophie Tucker

  13. The Option Buyer Must Be Correct About Three Things Direction of the move Magnitude of the move Duration of the move

  14. The Call or Put Seller Needs To Be Correct About Only One Thing • Direction (sort of) • OK if the stock rises slightly • OK if the stock goes sideways - does nothing • OK if the stock drops slightly

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