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11/18/02
A couple of months ago, we told you about a little known, but
"perfectly legal," accounting scam that companies use to boost their profits:
In a nutshell, companies exaggerate earnings based on expected gains in employee
pension plan investments.
We warned you that those expected gains were turning into huge losses, and they
would force companies to fork up billions to make up for the pension fund
deficits, slashing billions from earnings.
NOW, that's exactly what's beginning to happen:
* SBC Communications is expected to take a $1 billion to $2 billion charge in
order to make up for its pension losses -- that means earnings will be chopped
by 20 to 40 cents a share next year!
* Honeywell International warned that it will need to dump $900 million into its
employee pension plan this quarter ON TOP OF the $100 million it added in the
third quarter -- that's $1 billion SO FAR. Without the $900 million infusion,
the company expects the pension deficit to reach $1.7 billion by the end of the
year.
But Honeywell employees shouldn't consider this a fix. Much of the $900 million
will be in the form of Honeywell stock. That means, if Honeywell's stock keeps
dropping -- already down 43% since hitting its 52-week high on April 16 -- the
pension fund will continue to sink into the red.
* IBM's pension fund, a big source of its earnings growth during the bull
market, has also taken a big hit over the past year. The company recently
announced that it is reducing the assumed rate of return of its pension fund to
8 to 8.5% in 2002, which will knock $700 million off its net income for the
year.
To plug the drain on its cash reserves, IBM is also going to stuff the pension
fund with its own shares. IBM announced that it may issue $1.5 billion in stock,
buy it back, and put it in the company's pension fund.
The big dilemma: The greater the pension fund deficits, the greater the hit to
earnings and stocks. AND the deeper the decline in stocks, the bigger the
deficits in pension funds. It's a vicious circle that is just beginning to swing
into full motion.
We fully expect the next leg down in stocks to be huge -- and, ultimately, we
expect the Dow to fall to 5,000 or lower before this bear market is over.
Just take a look at the dismal developments that will spark a new sell-off in
stocks ...
* The stock market celebrated the "good results" in retail sales on Thursday.
But retail sales were unchanged, FLAT! Sure, non-auto sales were up, but most of
that was driven by fire sales on merchandise. The only buying consumers are
doing is in the deep-discount aisles. And, even then, demand is beginning to
wane. For example.......
* Demand for new cars and trucks has virtually vanished. Zero-
percent financing has lost its luster. Auto sales plunged 14.3% from September,
according to the latest retail sales numbers.
* Businesses aren't borrowing. The lack of business spending
is the heaviest weight on the current economic slump. Businesses aren't
investing in new technologies, office space, factories, or products. They're
cutting costs by firing workers and shuttering plants. And despite 12 interest
rate cuts designed to get them to start spending, businesses aren't biting.
Nothing but good news Friday.
Consumers spent more freely in October than most economists expected, and much
more freely than we expected.
Unemployment went down in the most recent period.
Alan Greenspan opined that Congress should give Americans a permanent tax cut -
adding fiscal stimulus to his rate cuts.
Intel says it is buying more of its own shares. The company is spending $1
billion per quarter helping to
drive up its stock price.
"LA Housing Still Hot," says the L.A. TIMES. Bonds went down. Thrift, which we
thought we saw setting in
recently, seems to have been delayed.
Investors were encouraged. They've heard that stocks hit a low every 20 years -
in 1942, 1962, 1982, for example. Now, let's see, the next low should be...2002!
And it's almost over. There's also the Presidential Cycle, that says stocks
bounce after the mid-term elections. And there's the old Wall Street saying:
'Sell in May and go away'. Stocks always do better in the winter months, they
believe.
And here we are near the end of 2002, after the mid-term elections, with winter
approaching...and nothing but good news. Can you blame investors for getting a
little giddy?
Greenspan noted that the economy was improving. But bear markets teach humility,
and even the Fed chief seems to be learning.
"There is a probability, small as it may be," he said, perhaps underestimating,
"that we may be wrong."
- Wow, that Mr. Consumer is a cagey critter! He's been
"playing dead" so convincingly that the financial press
has published his obituary several times.
- Then...suddenly...comes a tapping sound from inside the casket?...He's alive!
Mr. Consumer isn't dead after
all!...
- Retail sales rose 0.7% last month, according to the Commerce Department. This
itty-bitty number doesn't seem like much of a reason to get too excited, but
0.7% was more than double the gain forecast by all those nameless "economists."
As such, the retail sales report heralded the resurrection of the U.S. consumer
- perennial savior of the American economy.
- Investors ecstatically rushed into the stock market to snap up their favorite
symbols. The Dow advanced 144
points to 8,542 and the Nasdaq jumped nearly 4% to 1,411. The U.S. dollar also
celebrated by gaining about half a percent against the euro to 100.4 cents per
euro.
- However, as is often the case, one market's pleasure is another market's pain.
And friday, the bond market suffered pain aplenty. The prospect of a revitalized
consumer, and therefore, a resurgent economy, blindsided bond investors. The
10-year Treasury note took a beating, as its yield soared from 3.83% to 4.02%.
- Until yesterday, talk of deflation had been all the rage on CNBC, which was
reason enough to start preparing
for the next great inflation. But CNBC's near-perfect record as a contrary
indicator is not the only reason to
suspect that the prices of goods and services may start rising, rather than
falling.
- To be sure, prices for some products are falling. And it's also true that
personal bankruptcies are rising,
corporate bond defaults are soaring and Treasury bond yields are close to
40-year lows. But these deflationary symptoms should not be confused with the
real McCoy - deflation itself.
- The 4% 10-year Treasury yield, for example, does not necessarily signal a
coming deflation. It may simply
"signal" that lots of investors prefer a certain 4% return on their money to the
risk of losing 20% to 30% of
it in the stock market. At the moment, the most persuasive signals emanating
from the financial markets
seem to be pointing to the 'in' kind of 'flation' rather than the 'de' kind.
Specifically: the dollar has been
slumping for almost a year, while gold has been climbing.
Deflation is a bad bet. We may not see runaway inflation, but deflation is a bad
bet." Therefore, positioning for higher long-term interest rates is probably a
good bet, especially with
the money supply expanding as briskly as it is.
- M3, the so-called broad money supply, jumped $32.6 billion last week - its
biggest weekly increase since
August. And over the past six months, M3 has swelled at an annualized rate of
7.8%. Bank credit is also soaring. "Total bank assets have surged $493 billion
over the past 28 weeks to almost $6.9 trillion, an annualized growth rate of
15.6%," observes the Prudent Bear's Doug Noland. "ABS (asset-backed security)
issuance continues to be eye-opening as well...Home equity issuance of $122
billion is up 73% from last year's record level... Consumer Credit expanded
by $10 billion during September, a 6.9% annualized rate. Revolving Credit
expanded at a 9.3% annualized rate during the month and 9.5% for the quarter."
- What do all these big numbers mean? Namely, that the supply of credit is
booming. Normally, that is an
inflationary augury. In other words, America in 2002 is not like the Japan of
the 1990s...at least not yet. U.S. economic trends are trailing about 10 years
behind those of the Japanese -it'll be about seven more years before we wake up
one morning with an uncontrollable urge to save money, eat sushi and ride on a
jam-packed commuter train.)
- For now, Americans are still borrowing money - lots of money - just like
they've always done. And they're
spending this borrowed money, just like they've always done. Sure, U.S.
corporations are reigning in their
borrowing a bit, but that's not true of either the U.S. consumer or of Uncle Sam
himself.
- For evidence that money-borrowing is still in a bull market, take a peek at
the latest self-congratulatory
report from Countrywide Credit: "The mortgage loan pipeline reached a new
milestone of $52 billion, an
increase of 86 percent over last year. October fundings surpassed all previous
company records reaching $34.7 billion, exceeding last month's funding high of
$25.3 billion by an impressive 37%."
- Here's a few more eye-popping highlights from the report: Total fundings
jumped 134% year-over-year, with
purchase fundings up 84% to $9.4 billion and non-purchase (refi) fundings
surging 159%. Can you say, "mortgage-finance bubble?"...How about, "Inflation is
coming." Can you say that?
I thought Amazon was supposed to have such good customer
service..."
The big River of No Returns just keeps rolling along... In fact, the stock has
been one of the year's best
performers, up 75% this year, while the Nasdaq lost 33%.
Is Amazon a buy?
The company reported a pro-forma loss of 2 cents a share in the first 9 months
of the year. But had it used more conservative accounting, writes Andrew Bary in
Barron's, it would have lost 40 cents.
One of the internet's biggest success stories, Amazon.com is still a remarkably
bad business with a remarkably over-priced stock. It has operating margins of
only 4% and its shares trade at 80 times next year's estimated earnings, 800%
greater than competitors Barnes & Noble and nearly twice as high as other
internet success stories, such as Expedia and eBay.
Amazon trades in a world of its own,
*** Lower interest rates are supposed to spur spending by consumers. But in "The
Dark Side of Low Rates", MONEY magazine reports that consumers receive more
interest than they pay. Last year, households - particularly those of older
Americans who have paid off their mortgages -received $1.1 trillion in interest,
against only $600 billion in interest expense.
Lower rates help debtors, not creditors.
"The low interest rate environment has also encouraged lots of credit risk
borrowers to come out of the woodwork looking for loans," says MONEY.
They found the money. But now they are having a hard time paying it back.
Bankruptcies are at a 40-year high.
*** Americans are supposed to have the highest standard of living in the world.
The standard of living is usually computed by dividing national GDP per person.
But GDP only measures financial activity, not real wealth, Doug Casey explained
in New Orleans. A nation of spenders will have a higher GDP than a nation of
savers. A nation in which people eat at McDonalds rather than cook for
themselves at home will also have a higher GDP. So will a nation in which people
pay illegal immigrants to cut their lawns, rather than taking care of them
themselves. But the lawns won't be any better kept, nor the food more appealing,
nor the balance statements any more attractive.
When it comes to getting and spending, no group does more of it than Americans.
But money isn't everything, we remind ourselves. For all their furious financial
activity, the quality of life in America is uneven at best. At worst, it is
pathetic.
Reducing quality to its essentials, what matters is what you see, what you eat,
what you live in, and the comfort, elegance, and security of everyday life.
Arriving in New Orleans, a passenger takes his place in a disorderly mob to get
a taxi. The cab is usually a
clunker of a car which takes you through the small, squat houses of the suburbs,
dilapidated commercial areas and then into downtown. Traveling along St. Charles
avenue or the Esplanade, a visitor finds many graceful trees and respectable
houses. But no sooner have his spirits lifted than a boarded-up house, abandoned
lot, or a Popeye's outlet comes along...and he is right back where he began.
We do not fault the convenience or efficiency levels in U.S. cities. Almost
anywhere you go, you can buy a
handgun or a pizza at almost any hour of the day. It is the architecture that
bothers us most. Whether you are in
the backwoods of West Virginia or the streets of New Orleans, the defect is
right in front of you, like an
open can of Draino on the breakfast table.
The American money and credit system now resembles an inverted
pyramid that rests on legal-tender Federal Reserve notes and credit. These
support various forms of bank money, such as commercial bank deposits, savings
accounts, large-time deposits, and other liquid assets.
The base of some $672 billion may expand rather moderately, presently at some 6%
a year, or by $40
billion; the layered superstructure of $8.333 trillion in bank money (M3) may
grow at a similar rate, or by $529
billion.
Commercial banks tend to 'securitize' their loans, converting them into
marketable securities for sale to
investors, which enables them to grant new loans in a continuing process of
lending, securitizing, selling, and
lending again.
Massive non-bank credit constitutes the upper layers of the money pyramid. There
are Federal Home Loan Banks, thrift institutions, life insurance companies,
brokerage firms, mutual funds and other credit grantors. Last but not least,
offshore banks in the Bahamas, the Cayman Islands, Panama, Hong Kong, and
Singapore, enjoying favorable regulatory and tax treatment, constitute the top
layer of the multi-trillion dollar money pyramid. And high above the American
pyramid hovers the international pyramid, which builds on the U.S. dollar
standard.
The Chairman and his fellow governors are expected to balance it all with their
high-powered Federal-Reserve-dollar base. They are expected not only to manage
this monstrous pyramid of fiat money and fiduciary credit, but also to safeguard
the stability of the American economy, to maintain asset prices, protect the
value of the dollar, and avoid the business cycle. They are supposed to manage a
monstrous structure which politicians have built for their own use and glory.
That's too much to ask of any mortal.
"Money will not manage itself": this is the very rationale of Federal Reserve
existence.
Its sponsors and managers usually refer to the days when gold and silver coins
were the principal media of
exchange. The supply of money, they assure us, depended more on the discovery
and exhaustion of gold and silver mines than upon the needs of business.
Moreover, many abuses developed, such as debasing the coinage, "clipping" and
counterfeiting.
Unfortunately, the Fed sponsors and managers hate to admit that the clipping of
a few coins in ages past was a negligible abuse when compared to the continuous
'clipping' of all forms of money today. Even in moments
of 'stability', all U.S. dollars in the form of cash or deposits lose at least
two to three percent every year.
They have lost some 95% since the Federal Reserve introduced its dollar in 1914.
They probably will lose
more in the coming years.
Fed sponsors and managers point to the recurrence of business cycles prior to
the inauguration of the Federal Reserve System. They may turn to the crisis of
1873 and the depression that followed, or to the crash of 1893 and the
aftermath, or the crisis of 1907 and the "creeping depression" which lasted
until the World War brought an unprecedented boom. Unfortunately, Fed supporters
hate to recall the cyclical instability that has characterized the economy ever
since. We count at least eight boom-and-bust cycles since 1914, in addition to
the Great Depression, which held the country in its grip from 1929 to the
outbreak of World War II in 1939.
Surely, no one can contend that the Federal Reserve System has brought economic
stability or conquered the
trade cycle. On the contrary, its critics are convinced that a politically
conceived and administered money monopoly, such as the Federal Reserve System,
is the worst of all money systems. It will breed business cycles as long as it
lives.
Stock market cycles are the most spectacular offspring of central banking and
credit creation. There are several others, less sensational, such as the cycles
in precious metals and objects of art and collection. They affect only small
groups of affluent clientele, which usually suffer in silence. The most ominous
of all cycles, which touches millions of people, is the boom-and-bust sequence
in real estate. Just as in equity markets, these bubbles are clearly visible in
their price-earnings ratios or price-rental ratios greatly exceeding those of
healthy markets.
Abundant credit at bargain rates of interest causes housing prices to soar,
especially in growing
communities, which fosters not only feverish construction activity but also
enlarges the mountains of debt, even
consumer debt. Fannie Mae, the publicly owned and government-sponsored Federal
National Mortgage
Association, reports that soaring housing prices and falling mortgage rates are
allowing homeowners to
refinance $1.4 trillion of mortgages in 2002, up from $1.1 trillion last year.
In both years, homeowners are
estimated to take out some $100 billion in equity.
The real estate bubble is bound to burst as soon as the distortions become
visible to ever greater numbers of
participants. Commercial construction already has fallen sharply in 2001 and
2002, with the steepest declines in the industries most afflicted by the
September 11 attacks, including hotels and office space. Government-
sponsored industries, such as public works and health-care facilities, are
likely to expand further.
Driven by the same forces of easy credit and falling interest rates, all
interest-bearing and discounted
government securities have developed fever bubbles. The U.S. Treasury bubble,
which few economists have as yet discovered, is still growing under the impact
of avalanches of investors' money seeking shelter in
Treasury safety. Tired of losing any more money in stocks, investors are piling
into Treasury notes yielding
barely 4%. As the federal government will be forced to raise hundreds of
billions of dollars in the coming
months in order to cover its growing deficits, interest rates are likely to
rise. They are bound to increase
substantially when the current flood of new money and credit finally aggravates
the price inflation. When note
rates return to just five percent, the yield of two years ago, the bubble will
burst and the market value of all
notes and bonds will drop drastically.
The economic maladjustments are numerous and severe, inflicting painful losses
on ever more people. The number of job cuts continues to rise, making
unemployment a potent economic and political problem. It is compounded by
chronic trade and current-account deficits, which are causing many American jobs
to move to Asia. The rising rates of unemployment, together with the staggering
losses of income and wealth, cast doubt on the ability of debt-laden American
consumers to support the American economy much further.
Some pessimists hold to the single notion that the length of a readjustment is
determined by the length of the
bubble preceding it. Because we experienced the longest and most spectacular
financial bubble in history, we are condemned to suffer history's longest
recession. Such notions unfortunately spring from mechanical perceptions of
human action and reaction. It is the severity of the maladjustment, not its
duration, together with the capacity of correction, not its length of time, that
will the kind and quality of readjustment.
An administration walking in the footsteps of Presidents Hoover and Roosevelt -
who practically closed the
national borders to trade and commerce, doubled the tax burden, and imposed
numerous business regulations and restrictions - undoubtedly will create another
'great depression.' An administration that lightens its burdens and releases the
energy of the people will facilitate a speedy recovery.
A Federal Reserve Board which, obedient to public opinion, keeps its interest
rates far below market rates
and readily finances growing federal deficits will only make matters worse. The
popular reduction of its rates on November 6, 2002 was just another popularity
ploy, which is bound to aggravate the maladjustment and delay the recovery.
10/14/02
We had a big bounce up last week. However, the economic indicators were
terrible. Analysts are calling it a bottom. Don't believe it.
10/1/02
Wall Street said JDS Uniphase bottomed at $9.80 last December. But then it
plunged to half that at $4.80 in April. They screamed it was an even better buy
at $3. But guess what, it's now trading at just $2.
Or take high-flyer JP Morgan Chase. Wall Street called JPM a steal at $46 in
May 2001. A year later, the bank's stock had dropped to $38. Still, Wall Street
continued to hail it as a "buy." Now, the stock is trading at just $19.
And then there's Worldcom. In February 2002, one analyst commented that
Worldcom was "oversold on liquidity and accounting practice concerns," and
upgraded the stock to a "buy" at $8. Worldcom's stock now trades for just
pennies a share -- a 99% loss.
At this point, there is no evidence that stocks have hit rock bottom. The
markets continue to find new lows, and, though stocks rally from time to time,
we are confident that they will again return to those lows and head even
lower.After all, economic fundamentals continue to be weak. Just take a look at
these latest developments and you will see what we mean ...
The IMF says that the U.S. is the world's best hope to lead an economic
recovery! At the same time, it expects the U.S. economy to grow a mere 2.2% this
year and 2.6% next year. Instead of a recovery, the U.S. may be leading the rest
of the world into a recession!
Company executives don't believe in the recovery, either! In a recent survey
of nearly 400 CFOs, 37% said that they were less optimistic about the economy
compared to last quarter. Only 21% in June and a tiny 3% in March held that
position. Plus, a majority of CFOs (59%) expect a mere 4% growth in earnings, on
average. We think that's even a bit optimistic!
Even CEO of GE, Jeffrey Immelt advised fellow CEOs with these words of
caution, "If you're investing in a company, or you're running a company, that's
counting on a recovery in the second half of the year, or counting on a robust
economy in '03 to make your numbers, I'd redo the plan."
Consumer confidence continues to plunge! Consumer confidence fell for the
fourth straight month in September. And consumers have slashed their buying
plans for big ticket items such as autos, vacations, major appliances,
furniture, and homes.
Leading indicators drop again! The index of leading economic indicators fell
for the third month in a row. And the bad apples have grown into a bushel. Seven
out of 10 components had a negative impact on the index. And it looks as if only
a sole component, money supply, will be able to stay in the positive column come
next month.
9/30/02
Will the low hold or will we see a new low? We bet we see a new low this
week.
9/25/02
We had the test to the July low yesterday. We may see the market hold its
breath. Then we will see if we get some technical bounces up or if the the
market wants to make some lower lows.
9/20/02
We've been warning you for two months now about the crash. Support on the Dow has
been broken at the 8000 level. We may see a test of the July lows. The next
support level is 7200. One more bit of bad news, bad economic indicator or
terrible earnings is all it will take.
9/18/02
After the markets crashed yesterday, the news released between
yesterday and today will bring the market to the edge.
1. JP Morgan lost 1.4 billion dollars in loan losses.
2. Oracle's earnings were slashed by 33%.
3. The government knew before 9/11 that a major attack was
about to happen. This is a quote from the Washington Post being released today.
" The preliminary findings of the staff of the Senate-House
intelligence panel investigating the Sept. 11 strikes also show that some
intelligence analysts had focused on the possibility that terrorists might use
"airplanes as weapons" in the attacks, a congressional official said yesterday.
The 30-page unclassified report also will "raise serious
questions" about whether the U.S. government shared enough information with the
public about what it knew to be a grave threat from Osama bin Laden and his al
Qaeda terrorist network, the official said.
After reading and analyzing hundreds of thousands of pages of
documents from the CIA, the National Security Agency, the Defense Intelligence
Agency and other government agencies, "you start thinking: Did anyone really
explain to the public how serious this stuff was? . . . Did the American people
really realize the strength of the threat out there?"
But while the committee staff found no information that
revealed the exact date, time and place of the attack, the official said there
were numerous credible reports of possible domestic attacks and suggested that
some may have been played down because the intelligence agencies were too
focused on threats to U.S. interests overseas.
"At least some part of our intelligence community recognized
what [was] out there," the official said. But "there are issues about
information sharing with the intelligence community and between the intelligence
community and the rest of the federal government."
The official noted that it is not the intelligence community's
responsibility to warn the public about threats. Asked if White House officials,
who would make the call on a public warning, were cooperating with the panel,
the official deferred. "We've had discussions and requests," the official said.
"They've answered some questions and some, maybe not."
4. The economic indicators once again were lower than
forecast. The recovery is a lie. Get your money out of the market.
9/17/02
Iraq has agreed to let UN weapons inspectors
in the country. The markets are reacting by spiking higher. Don't believe Iraq
or the markets. Iraq has made and broken promises for years. This is just a
stall tactic to take the heat off of them. This situation will turn very ugly in
a short period of time. Fundamentally and technically the market is a big bear.
Use this rally to get your money out. Put it in the safe investments recommended
on the Trades page.
SEC Update 8/20/02
The SEC is hiring lawyers and accountants to go over all of the
certifications. It's now a government job, so they don't pay very well. If you
were coming out of law school and could make 50,000/yr helping to nail companies
like Enron or 200,000/yr helping Enron cook its books, which would you choose?
If you think the corporate scandals are all over, think again. This is just
the tip of the iceberg. There are over 6000 companies who have a high market
cap. Only 900 or so have been required to certify. Do you think that none of
them have been lying about profits?
August 2002:
8/18/02 Loaded Dice: That's what wall street is up to
now. There is a game going on. The only problem is, your not in the game even if
you think you are. Computers have taken over the market. At least 50% of the
trades going on are automated. All stocks and indexes are bouncing up and down
in a fixed trading range. Do you think this is happening by chance. If you're
curious look at the put to call ratios. Computers are shorting the market to a
support level. Then they go long to a resistance level. Be very careful in this
market. Use stop loss limits. When the market breaks support levels, you may see
a drop of 1000 points in a very short period of time. Don't get caught in the
cross fire.
Dead Cat Bounce: That's what we've had
again on wall street. A small gain in a spiraling downward Bear market. Expect
to see these maybe once a month until the market stabilizes. Don't be afraid of
them. They provide good opportunities to buy put options cheaper.
JAPAN: Our economy is starting to look more and more like Japan's.
That is not a good thing. Japan has been in a recession for ten years. We have
the same problem they have. Deflation. That's right. Deflation. Consensus is
starting to show that Alan Greenspan may lower interest rates again. I feel
sorry for him. He wanted to raise rates to prevent inflation. Now he might be
pressured into deflating the economy even more. Eleven rate decreases have done
nothing. If he lowers the rate, how will investors react? Japan's rate was at
zero. They were giving away money. Interest free money. It didn't work. Things
will get very interesting.
WorldCom: It seems that all the money they lied about
was wrong. We really lost an extra 3 billion dollars, but we didn't know it
until now. The amounts of money this company has covered up is mind boggling.
What will happen on August 14th when some CEO's refuse to sign the "full
disclosure paper." Their stocks will be decimated by the market. Will the market
be decimated? Who knows?
The CEO filing deadline is today. You would be surprised how many companies
have not signed yet. You're going to see a lot of accounting irregularities and
a market that won't like this news.
Go to
http://www.sec.gov/rules/extra/ceocfo.htm
SEC Certification Update: Only a handful of companies
didn't file by the deadline. Do you think Enron and WorldCom are the only ones
cooking their books? The certification was a joke. If you go to the link above
and actually read what the CEO's signed, you'll just shake your head. In a
nutshell, "To the best of my knowledge, my books are accurate." To the best of
my knowledge is a very broad statement. Do you believe them all? I would be
willing to bet that at least ten companies are lying. All you have to do is look
at any company's 10K filing. See how much cash they have. No cash, no company.
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