This week we look at a very intriguing new book by good friend Andy Kessler called The End of Medicine, subtitled "How Silicon Valley (and Naked Mice) Will Reboot Your Doctor." As long-time readers know, Andy ran a high-tech hedge fund which went from $100 million to a $1 billion and got out more or less at the top with his client's money (and his) intact. Since then he has written a series of very fun books on the inside world of investing, all of which are on my recommended list.

But with The End of Medicine he turns his eye to trying to find the next new thing which will drive the markets, or at least a segment of them, to new highs. This is a very well-written story in Andy's sarcastic, witty, and easy-to-read style, but the message is also one of how fast the world of medicine is going to change in the next ten years. The changes are happening in labs and fabs all over the world, but under the radar screen of almost everyone. This is a story that we can analyze from two angles. First, there is the investment aspect to it. There is going to be a 1990s tech-size run in our future. Finding the right ways to play it will be as difficult and interesting, not to mention rewarding, as the last big tech run.

Secondly, this is going to dramatically change the way we approach our personal health care. In many ways, this is going to be a more profound, intensely personal change in lifestyle than anything the tech world has given us. Before we explore some of the implications, let's look at exactly what Andy has found.

The End of The Fed Raising? Not.

But first, a few quick comments on the markets. After the large ADP payroll estimate of job growth (385,000) the expectations for today's employment number was a disappointing 122,000, which sent the stock market into a funk. The bond markets rallied as we saw lower yields almost across the board, as a weaker economy will mean lower long-term rates.

But 122,000 is still not all that weak, except in comparison with the ADP numbers. Next week we will see the inflation numbers, and I expect them to still be in the plus 2% range where the Fed feels uncomfortable. Let's quickly review why I think the Fed will raise rates again in August and maybe even after that.

First, there is that obscure item called the "sacrifice ratio." How much pain in terms of a slower economy and lower employment do we take today to make sure we do not have excessive inflation in the future? Higher inflation in the future will ultimately mean even higher rates and a possible deep recession, as the Fed would then have to tighten aggressively. It is a trade-off or sacrifice. There is a number which characterizes the risks and rewards, called the sacrifice ratio, and today and for the last few years it has been high, which is why the Fed has continued to raise rates.

This is illustrated by the following sentence from a speech made this last week to the British House of Commons by Fed vice-chairman Donald Kohn.

"I think we are very well aware in the Fed that there is some risk that we would tighten policy more than necessary and that it might induce weakness in the economy... [but] there is a greater risk from not tightening." (Source: The Gartman Letter)

The headline in the paper was "Kohn Aware of Risk of Tightening Policy Too Much," but the sentence above clearly illustrates that he is prepared to do so if they think inflation is a future issue.

Second, the Fed is moving to inflation targeting. It is so far silent about this topic, but you can read the tea leaves. Bush just appointed Dr. Fred Mishkin to a recently vacated Board of Governors position. Just another academic economist? Hardly.

Mishkin was the co-author of Bernanke's main economics textbook. One of the main points of the book was that central bank policy should be targeting inflation, with upper and lower bands of what the inflation number should be. (Also, I am pretty sure that there was a chapter in that text on the sacrifice ratio.)

So, Ben has a close friend who also believes in inflation targeting. There are a number of other new names on the board of late. Care to make a wager on how they feel about inflation targeting? If you read their speeches, you could certainly be forgiven if you come away with the impression that the recent rise in inflation is their #1 concern.

There is another appointment coming up for a recently vacated spot. Fed watchers should pay close attention to who Bush nominates, as it could mean a major sea change in the way the most powerful central bank in the world operates. This is more than a mere academic exercise of changing one group-think central banker with another. A Fed which openly announces inflation targets is a profoundly different Fed than the one which Greenspan chaired.

And while we are on the topic of inflation, Bill King sent this very interesting note from HSBC's Stephen King & Janet Henry writing on global central-bank vexation over inflation. It succinctly states the problem that I have spent a great deal of time on this year:

"The definition of inflation is crucial. The Federal Reserve's preferred measure has understated inflationary pressures relative to the methodology utilised by the European Central Bank: perhaps the Fed should have been raising interest rates a bit more aggressively two years ago...

"As for measurement, we examine in some detail the different baskets of goods and services that appear in alternative measures of US inflation. Put simply, some baskets contain lots of apples whereas others seem to focus mostly on pears. We reach two broad conclusions. First, the Fed's preferred measure of inflation - the so-called personal consumers' expenditure deflator excluding food and energy - paints the most flattering picture of US inflation trends. Second, the best "early-warning" measure of US inflation is not even widely published: it's the Bureau of Labor Statistic's harmonized measure of US inflation, using the methodology familiar to those who monitor inflationary developments in Europe. This measure was rising rapidly through 2004 when both the CPI and the PCE deflator were barely twitching...

"Perhaps the world economy has an Austrian-style problem. Loose monetary policy in the early years of this decade may have kept the deflationary wolves at bay but, by encouraging excessive gains in asset prices, may have contributed to both excessive consumer leverage and too high a level of global demand.

"If asset prices, notably house prices, now have to fall, they will come down either in nominal terms or, via inflation, in real terms. Central banks determined to stamp on inflation will encourage bigger nominal asset price declines and, by doing so, will raise the risk that current inflationary fears will be replaced by deflationary dangers next year: in response, this year's monetary tightening should be followed by renewed rate cuts in 2007."

The different methodologies of calculating inflation in the US and Europe is a primary reason for Europe showing less GDP than the US over the past several years. The currency market was not fooled. Further, you can bet the Fed governors and economists are aware of these various methods which suggest inflation is a problem. It is just another reason why they sound as hawkish on inflation as they do.

Let me keep beating the same drum I have for the past year. Either the economy slows down, which is not good for the stock market, or the Fed is going to keep raising rates, which is not good for the stock market. Either way, we are going to get to buy back into this market at a much lower place than 11,000 on the Dow.

And now, let's look at the future of medicine as seen by Andy Kessler. Some of this material is from the book and the rest of it is from a conversation I had with him about the topic.

The End of Medicine

Let's go back less than 20 years. Cell phones were being experimented with in Chicago. As the lotteries for spectrum advanced over the next few years, and wireless "service" began to roll out, the adoption rate for cellular went relatively fast when compared to the growth of other technologies.

But do you remember those early phones? Huge, six-pound luggables - phones that had to be in cars because they were so big. I remember thinking it was great when I bought my first Motorola phone, which was the size of a book. And when it went down in size to a mere pound?

And "service" had to be put in quotes. Black spots everywhere, and roaming charges that could bankrupt small African nations, if you could connect at all. And it was very expensive. You had to watch how much you talked. And no one in their right mind would give one to a teenager.

Fast forward 20 years. Something like 800 million worldwide cellular users and growing. Phones that are throwaway in price. Phones that have more computing power in a few ounces than my personal computers of 10-15 years ago. Text messaging, email access, my contacts and schedule, all on a small phone. And every kid has one at a fixed rate.

(Now I gripe that my Sprint Pocket PC has flaky software and I have to do a hard re-boot every so often. Yes, I once again am afflicted with Microsoft's "blue screen of death." And it randomly turns off on its own or calls someone. Which can be very frustrating or embarrassing! I am getting another phone that will be half the size and have even more features.)

What happened? Silicon Valley. With each new innovation, the phone became cheaper and service more reliable.

And Silicon Valley (or its virtual space at Harvard, Rice, the Hutch in Seattle, and Stanford, plus a whole world of scientists) is getting ready to do the same thing to medicine.

What happens when you go to the doctor today? He uses a stethoscope to listen to your heart, looks down your throat and ears, and asks you questions. These were all 19th-century technologies, with some minor updates. X-rays? 80 years or more ago.

Medicine today is focused on fixing what ails you. If you have heart problems, let's put in a stent or repair a valve. Lipitor to help control your cholesterol. Chemotherapy to deal with your cancer, if we can't cut it out.

In short, we spend $1.5 trillion just in the US on trying to fix what goes wrong, and precious little on preventing things from going wrong. Health-conscious people try to eat right, exercise, take supplements, have regular check-ups, and avoid things that are bad for us; but if there is a problem, we go to the doctor to get it fixed.

That is going to change, and it is going to change at an even faster pace than did our cellular phone service. It will come one innovation, one small step at a time; but in 10 years, 15 at the outside, we will be more focused on preventing illness than fixing it.

Your front-line doctor is going to be displaced by technology. It is going to be one of the most massive disruptions in history. We all know how bank tellers have been basically replaced by ATMs. There are far fewer bank tellers today, and the ATMs are open 24 hours.

But as a species, bank tellers were relatively few. Not so with medical professionals. They are a huge part of the economy. And many of them are just as endangered as bank tellers. (If you are in the health care business, read on. The news gets better.)

How does all this happen? Early detection, and then "fixing" the problem before it becomes a problem.

First, let's get rid of heart attacks and strokes. Late last century, we began to get scanning technology that was a single slice per rotation. Then it went to 4. Then in 2002-03 we saw scanning that went to 16 slices, by 2005 it was up to 64, and this year we find scanning machines that can do 256-slice rotations. We can start to see some really small parts of your body. Combine that with imaging software and doctors can start to see what's wrong with you.

But we are not small enough yet. By the end of the decade, that scanner will be at 1,024. Recognize this progression?

2-4-16-64-256-512-1024...? Does it sound like the number of transistors in a chip or the size of your computer memory? Or the speed of your computer? Or any number of things that Silicon Valley views as engineering problems?

It will not be long before they can "see" the plaque building up in your heart or veins. Long before it would be a problem. And running hand in hand with this technology is the work being done to develop drugs and targeted therapies which will remove the plaque.

Right now, scans are expensive. We don't usually get one unless there is a problem. But in the very near future, those scans will be able to give you a very early warning signal about heart problems. And while in the first few years it will only be those people who can afford or whose condition dictates an expensive scan, the cost will come down. Think cellular phones.

Within ten years, a regular part of your check-up will be a full body scan. Yes, I know that full body scans have a bad reputation. And deservedly so at lower resolutions. But that will change as they become much higher resolution, as well as relatively cheap and ubiquitous. Certainly cheaper than letting a problem build up.

But it will not just be hearts and plaque. Soon, a database will start building a real map of what a body should look like. We will know the body far better than Gray's Anatomy, down to the cellular level. The computer will start spotting irregularities and bringing them to the attention of your doctor. Tumors? Weak bones? Build-up of beta-amyloid in the brain (a form of plaque), which causes Alzheimer's? Let's fix it before it becomes a problem. (By the way, the Japanese may have developed a DNA vaccine for Alzheimer's which could be in human trials in three years.)

The higher the resolution, the more we can see. And you can count on the resolution getting to a very, very fine scale. It won't be Dr. McCoy's handheld Tri-Corder for a long, long time. But in 10-15 years it will do the job just fine. The usual suspects for bringing on heart disease, attacks, and strokes are going to be detectable at an early stage. They will soon be under our preventative control. Given the huge amount of money spent on these diseases, plus the great amount of suffering, this will be a major sea change.

What is it worth to avoid a heat attack or stroke? Not just to the individual, but to the insurance company or Medicare?

Right now, nature is a brutal screen for the expenditure of health dollars. You have to get sick to get someone to spend money. Very little is spent on prevention.

Last year, I went to see Dr. Mike Roizen at the Center for Partnership Health in Chicago.  I saw five doctors and two health-care professionals in one day. Very organized, yet somehow I did not feel rushed. They all took their time. They probed and prodded and did every rude thing they could. It was as high-tech a preventative program as there is anywhere in the country. I highly recommend it for busy professionals.

(Mike is the author of RealAge and YOU: The Owner's Manual. He is on Oprah and everywhere else I turn. It is hard to get someone better than Mike when it comes to trying to live as long and as healthy as you can.

In reality, what I did was go to Mike and say, "See if you can find anything wrong." Six test tubes of blood (some 200 odd blood screens and tests) and a lot of probing later, they said it looks fine. It was the latest and greatest you can do.

In ten years, we will look back and see this as the equivalent of rotary dial phones. It won't even be seen as the equivalent of six-pound cell phones. They will start with the scan, and then the doctors will really be able to look at my body. From the inside out.

I guess I should say the stress test and heart scan did indeed allow them to look at my heart. In ten years, though, they will be able to get a stop-flash color image down to almost the cell level.

If there is a problem, then we can do some real prevention. Order up some plaque remover, please. Let's look at that small spot on your gall bladder.

Every few years for the next 10 years, I will go back and they will be able to find more and do more. It will not be cheap, but it will be cheaper than getting sick. And the cost, like cell phones, will come down as the quality of service goes up.

But that's not the really gee-whiz technology that Andy has found.

Blood on a Chip

There is real work going on in the field of early detection of cancer. Andy tells the fascinating story of pioneer doctors and financiers who are working to be able to detect cancer and other diseases at an extremely early stage.

Want to know if you are pregnant? You can take a test. It costs $10. But there are thousands of cancers and diseases. Even if we knew the "markers" for each one of them, at $10 apiece for a test, it would be $10,000 and a lot of time. If doctors had to do it, it would be very expensive. Prohibitively expensive. How could we afford to do it for every person every year?

But scientists are working on nanoscale-sized probes which can detect a specific protein unique to a specific cancer. Nothing special there. Well, maybe one thing. They can hook the unbelievably small probe up to silicon. You can have a chip you put a drop of blood on, and it tells the computer it has found a specific protein.

The first detector chips will have 2-4 probes on them, detecting some very basic things like ovarian or breast cancer. But then, the first micro-chip had just 8 transistors. And we all know that Moore's Law says the number of transistors on a chip doubles every 18 months.

The FDA is starting to aggressively encourage drug companies to publicize the markers they find for various diseases. More and more will be found. And more and more of them will be put into a probe on a chip.

The first chip will be like the brick-sized cell phone we used in 1988. But technology will make it smaller, cheaper, and more useful.

Within 20 years, that chip will be detecting a thousand different markers for various cancers and diseases. And all you will have to do is give it a drop of blood. It will be hooked up to a computer which will come back with a report.

"Mr. Smith, we have a small problem here. We are finding some evidence of lung cancer."

It's one thing to know about the problem. But also being developed is the technology to find the cancers. They are now developing probes which look for a specific type of cancer. If it finds it, it attaches itself to it. Then it lights itself up under a PET scan. Houston, we found the problem.

We find it long before it becomes visible to current technology. But just finding it is not enough, we have to get rid of it.

And yes, they are developing all sorts of therapies which will specifically target your cancer. Right now, chemotherapy is the equivalent of taking a hand grenade to a mouse. You hope that it doesn't do too much damage to everything else around the tumor.

In the pipeline are systems which will find the cancer cell, invade it, and then "blow up" the individual cell. Are we there yet? No, but it is still 1986 and we are working with ugly, slow, and clunky cell phones.

It is becoming more and more of an engineering problem. And engineers just keep trying ever more innovative ideas until they solve the problem.

Cheap silicon will give us early detection of all manner of diseases. Biotech will give us solutions. And it will happen in 20 years. Slowly. Frustratingly slow for someone who is sick today.

Andy obviously tells the story in greater detail, and it is a fun, easy read. You can do it on a plane ride or in a few evenings. And you will understand the reasons to be optimistic. I really think you should read this book to get a sense of where medicine is going in 20 years.

Andy notes that this does not put doctors out of business. Just as the personal computer meant we needed even more programmers, the personalization of medicine will mean we need even more health-care professionals. But they will be doing things a lot differently than they do today. Scans and tests will increasingly be read by computers, with humans only called in when a problem shows up. If we really start preventing heart disease and strokes and Alzheimer's and cancer, then a lot of hospitals will need to change their practices.

We trade off an ounce of prevention for a pound of cure. But that ounce will not be cheap. At least not at first. However, it will get cheaper by 30% a year. And once cheap enough, it will be better than the alternative, not only for patients but for payers as well.

In less time than it took for cell phones, we will have cheap chips where we test ourselves regularly. Plug and play. Cheap diagnostics on the internet.

The Boomers Break the Deal

My dad's generation made a deal with my children's generation that they would support my generation with Social Security and Medicare. And the baby boomers' part of the deal was that we would die at an average 79 years or so.

We are getting ready to break that deal. If what Andy has found it right, and it parallels my own research into biotech, we are not going to just break it, we are going to shatter it. 90 will be the new 70.

We will go into this in a later letter, but the implications for society are big, not just in the US but in the entire developed world. We may have seriously underestimated the cost for Social Security. Pension plans which assume boomers will die at 79 are going to get to wake up in 15-20 years and find out they have another 10 years of average lifespan to deal with, and not enough put away, and no one putting any more money into the plans. It will be a very rude awakening for those who count on those pensions.

How will Europe deal with an even greater unfunded government-guaranteed pension problem than they already have? Will the youth of that time be willing to pay for what looks like healthy adults to be retired for 40 years, while their own retirement keeps getting pushed further and further away? Stay tuned.

Understand, this is a good problem. Not dying, I mean. But it is going to cause some anguish as a generation tries to cope with not having saved enough to retire

Andy is not contending that we are about to become immortal. But just as we (in the developed world) don't die of malaria or starvation or yellow fever or any number of things that killed people at the beginning of the last century, we are going to increasingly not die from things that kill people today.

We will still wear out. But we will have the potential to stay healthy a lot longer than anyone today currently plans.

I was intimately involved in the cellular telephone world in the late '80s. I owned cellular franchises, and traipsed all over Africa seeking licenses. (I mean all over. How many guys you know have been to Angola and Mozambique, as well as 12 other African countries?) I read all the literature about cellular.

And nothing I read in the late '80s is remotely close to what we have today, except for a few wild-eyed romantics that we just smiled at when they came into the room.

John Mauldin is president of Millennium Wave Advisors, LLC, a registered investment advisor.  Contact John at John@FrontlineThoughts.com.

Disclaimer
John Mauldin is president of Millennium Wave Advisors, LLC, a registered investment advisor. All material presented herein is believed to be reliable but we cannot attest to its accuracy. Investment recommendations may change and readers are urged to check with their investment counselors before making any investment decisions.