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Six Egregious Lies!
by Martin D. Weiss, Ph.D.

The truth hurts. But it also heals.

That's the lesson of the Great Depression of the 1930s, the S&L disaster of the 1980s, the giant insurance failures of the 1990s, and the tech wreck of the early 2000s.

As long as Wall Street and Washington hid the real facts and lied about their true consequences, the crisis lingered and deepened. It wasn't until they confessed to past blunders, flushed out the bad assets, and let the marketplace determine their true values that the crisis finally began to end.

Our leaders know this. Yet they do nothing about it.

They know that without full disclosure of the truth, public confidence can never be restored, this great debt crisis can never end, and a sustainable recovery can never emerge. Yet they're still pouring out lies, lies, and more lies. Here are just six of the most egregious ...

LIE #1

The government is conducting stress tests on the nation's 19 largest banks, assuming a worst-case scenario. — Banking regulators

The truth: The bank stress tests are based on such blatantly mild premises, the word "stress" itself is a misnomer.

In its report issued Friday regarding the bank stress tests, formally known as the Supervisory Capital Assessment Program (SCAP), the Federal Reserve admitted that the economy has deteriorated since it first announced the program in late February.

However, there was no admission that, instead of the traditional worst-case scenario used in most stress tests, they decided instead to use as its baseline the consensus forecasts of establishment economists — forecasts, which, throughout this crisis, have proven to be a best-case scenario.

This represents a major departure from traditional stress testing. For example,

• When Congress mandated a stress test for government-sponsored enterprises (GSEs) in 1995, it assumed a 10-year recession, e.g., an economic scenario equivalent to the Great Depression. In contrast, the assumption underlying the bank "stress" tests is just a two-year economic decline.
  

• When Moody's and Standard & Poor's sought to determine the capital needs of Ambac, MBIA, FGIC, and other financial guaranty insurers, their stress tests assumed the peak municipal bond default rates of the 1930s, as documented in a PhD dissertation on the experience of the Great Depression. In contrast, the Fed report released Friday about the bank "stress" tests makes no reference whatsoever to a depression.
  

• When the New York State Insurance Department issued a circular to all New York authorized insurers last year, it told insurers to conduct stress tests assuming extreme scenarios: "Interest rate shocks, equity market shocks, yield curve shifts, changes in credit quality and liquidity, rating agency downgrades, collateral calls, and large-scale catastrophes." The bank "stress" tests do no such thing. They rely exclusively on mild, slightly worse scenarios.

Specifically ...

• For the unemployment rate, the true worst-case scenario would be the depression-era peak level of 25 percent. But in the bank stress tests, the "worse-case" scenario is 8.9 percent in 2009 and 10.3 percent in 2010.
  

• For GDP, the true worst-case scenario would be the three-year decline of 8.6 percent in 1930, 6.4 percent in 1931, and 13 percent in 1932. But in the bank "stress" tests, the "worse-case" scenario is a decline of 3.3 percent in 2009 and only 0.5 percent in 2010.
  

• Corporate bond default rates are absolutely critical in order to estimate the severity of future default rates on bank loans and derivatives; and Moody's has recently projected that they will exceed the levels of the Great Depression. However, in its report released Friday on the bank "stress" tests, the Fed makes no mention whatsoever of corporate bond default rates.

This is a sham! The tests are rigged; the results, worthless. When they are published next week, do not rely on them.

Recommendation: Instead, use independent, objective ratings, such as the Financial Strength Ratings provided gratis by The Street.com Ratings.

LIE #2

"Most U.S. banking organizations currently have capital levels well in excess of the amounts required to be well capitalized." — Federal Reserve.

The truth: For the reasons we cited in our white paper, "Dangerous Unintended Consequences," and based on the updated data cited in our recent press conference, six of the nation's ten largest banks are currently at risk of failure, including JPMorgan Chase, Goldman Sachs, Citibank, Wells Fargo, Sun Trust Bank, and HSBC Bank USA. This is their current status even without assuming a worst-case future scenario.

The Fed knows this. But its headline statement above camouflages the truth with the clever use of the words "most" and "currently." This headline statement

• Fails to disclose that the banks in trouble are the biggest, controlling 63 percent of the assets of the nation's 19 largest banks, according to Fed data and our analysis.
  

• Fails to disclose that only three banks — with just six percent of the assets of the nation's 19 largest — have the wherewithal to withstand even the mildly negative scenario the government is assuming.
  

• Glosses over the main purpose of the stress tests — to judge if the banks would have adequate capital in a sinking economy.

Recommendation: Stick with our list of truly strong banks, following the instructions in The Ultimate Depression Survival Guide and in our guide to banking survival.

LIE #3

Big banks made solid profits in the fourth quarter. — Citigroup and others

The truth: They used a combination of three deceptive accounting gimmicks to report bogus profits. In reality, many have suffered continuing large losses. (For the evidence, see "Big bank profits are bogus! Massive public deception!")

Recommendation: Use the latest rally to get rid of any bank stocks you may own.

LIE #4

Your insurance is safe. And even if your insurance company fails, your state insurance guaranty association will back it up. — The insurance industry

The truth: Many insurers are safe; many are not.

Just take a look at the recently leaked confidential memorandum written by America's largest insurance company, AIG. (We've posted the memo, in its entirety, on our website. Click here to download the pdf file.)

Here are some of their most telltale bullets:

• AIG is not the only one at risk: "Systemic risk afflicts all life insurance and investment firms around the world. Thus, what happens to AIG has the potential to trigger a cascading set of further failures which cannot be stopped except by extraordinary means."
  

• The big danger is not just derivatives: "AIG's business model — a sprawl of $1 trillion of insurance and financial services businesses, whose AAA credit was used to backstop a $2 trillion financial products trading business — has many inherent risks that are correlated with one another. As the global economy has experienced multi-sector failures, AIG's vast business has been weakened by these multi-sector failures."
  

• It's not just residential mortgages either: "AIG's original problem — an over-reliance on U.S. residential mortgage-backed securities (RMBS) in its investment portfolios — has now been deepened by weakness in the commercial mortgage-backed securities market, the global real estate market, the global equities market, slowing business and consumer spending activity and the concomitant demand for higher liquidity by regulators and customers around the world."
  

• Life insurance is at risk: "The systemic risk is principally centered in the 'life insurance' business because it is this subsector that has the greatest variety of investments and obligations that are subject to loss of value of the underlying investments ... The life insurance industry employs approximately 2.3 million people in the U.S. who sell individual and group policies. There are over $19 trillion of face-value 'life' policies in force in the U.S. and 375 million policies."
  

• A "run on the bank": "A significant rise in surrender rates — inspired by consumers' needs for cash or because of rumored or real failure of insurance companies — could be disastrous. Because of widespread loss of liquidity, the industry would struggle to raise adequate cash to meet surrender requests. A 'run on the bank' in the life and retirement business would have sweeping impacts across the economy in the U.S."
  

• Insurance guaranty funds would be wiped out: "If AIG were to fail notwithstanding the previous substantial government support, it is likely to have a cascading impact on a number of U.S. life insurers already weakened by credit losses. State insurance guarantee funds would be quickly dissipated, leading to even greater runs on the insurance industry."

Recommendation: To find a safe insurer, follow the instructions in Part 10 of our free report.

LIE #5

The economy is showing signs of recovery. — Washington and Wall Street economists.

The truth: The economy is continuing to contract in the United States and around the world. In the full version of its Global Financial Stability Report (not just the summary version or the executive summary), the International Monetary Fund (IMF) reveals facts much closer to the true state of affairs:

• Economic downturn gaining momentum: "The economic downturn has gathered momentum, resulting in a deterioration in macroeconomic risks. The IMF's baseline forecast for global economic growth for 2009 has been adjusted sharply downward to the slowest pace in at least four decades."
  

• Debt losses much larger: The debt crisis could cause $4.1 trillion in losses at global financial institutions, of which only $1 trillion have been written down so far.
  

• Systemic risks high: "Systemic risks remain high and the adverse feedback loop between the financial system and the real economy has yet to be arrested, despite the wide range of policy actions and some limited improvement in market functioning."
  

• Record or near-record instability: "Global financial stability has deteriorated further, with emerging market risks having risen the most since the October 2008 Global Financial Stability Report. Notwithstanding some improvements in short-term liquidity conditions and the opening of some term funding markets, other measures of instability have deteriorated to record or near-record levels."
  

• Global credit crunch not ending: "The global credit crunch is likely to be deep and long lasting. The process ultimately may lead to a pronounced contraction of credit in the United States and Europe before the recovery begins."
  

• Credit crisis spreading: "Credit cycles have turned sharply, with the deterioration moving to higher-rated credits and spreading globally. The deterioration in credit quality has increased our estimates of loan writedowns, which would put further pressure on financial institutions to raise capital and shed assets."
  

• Federal budget deficits exploding: "Fiscal burdens are growing as a result of bank rescue plans and macroeconomic stimulus packages. Increased funding needs and illiquid capital markets have exerted pressure on sovereign credit spreads and raised concerns about the market's ability to absorb increased debt issuance and about the crowding out of other borrowers."
  

• United States among the worst: "The United States faces some of the largest potential costs of financial stabilization, as do a number of countries with large banking sectors relative to their economies or concentrated exposures to the property sector or emerging markets (e.g., Austria, Ireland, the Netherlands, Sweden, and the United Kingdom)."
  

• Pension funds in trouble: "Pension funds have been hit hard — their assets have rapidly declined in value while the lower government bond yields that many use to discount their liabilities have simultaneously expanded their degree of underfunding."
  

• Life insurers in trouble: "Life insurance companies have suffered losses on equity and corporate bond holdings, in some cases significantly depleting their regulatory capital surpluses."

Recommendation: Take advantage of any temporary respite in the decline to liquidate vulnerable assets.

LIE #6
Since your stocks will eventually recover, you should just hold on through thick and thin. — Most brokers

The truth: Investors lacking the foresight and the courage to sell now may never recover. In my book, The Ultimate Depression Survival Guide, I quote my father, J. Irving Weiss, who explains it this way:

"I was a young broker in 1930, and the advice my senior colleagues gave out used to make me cry inside. 'Just hang on to your stocks for the long term and ride out the storm,' they said. The results were devastating for their clients.

"If you bought the average stock in 1929 and held on until 1932, you wound up with about 10 cents on the dollar. And that's if you bought the good stocks — the ones that survived. If you bought the bad stocks — in bankrupt companies — you'd be left with nothing, a big fat zero.

"Then, even if all of your companies survived, it wasn't until 1954 — 25 years later — that you could finally recoup your original investment, provided you could stick it out that long. Unfortunately, most people couldn't. They lost their jobs. They risked losing their house and home. So they were forced to cash in their stocks with huge losses. The idea of 'holding on for the long term' was a joke, an insult, or both. They didn't have that choice. Later, when the market eventually recovered, they never got the chance to recoup their losses."

In Saturday's New York Times, Mark Hulbert makes the argument that it only took 4 1/2 years for the market to bounce back in the early 1930s if you factor in deflation, consider dividends, and recognize the stock market rally of the mid-1930s. Unfortunately, however, it was a fleeting rally and stocks soon plunged again. Relatively few could afford to hold on that long. And fewer still were able to take advantage of it.

Recommendation: Don't wait four years — let alone 25. With few exceptions, sell now.

Good luck and God bless!

Martin