Monday, November 28, 2011

On Europe & The Euro

Futures are screaming higher this morning because....Surprise! Another Bailout...This time its Italy. Also The Federal Reserve will commence a half trillion $$ mortgage purchase plan which is the unofficial start of QE3. You got love backstops, backdoor bailouts, front door bailouts, overt in your face asset price manipulation, ZIRP, and Central Planning.

Somewhere in the afterlife (If It Exists) Engels and Marx are high fiving and chest bumping.

Who knows if this stems the vicious downdraft the markets had the last few weeks, for the time being its Risk On!

Keep in mind that the bailouts and Fed Mortgage buying are all rumors but looking at the 3% mark up this morning - does it really matter? I would actually choose to fade this rally once the actual news comes out.

As I have said the Italy bailouts are just another way of kicking the can down off the cliff. The Euro and the EU can not survive in its current state. Its inherently flawed and needs to be totally restructured.

As I have previously stated...

http://tradersutra.blogspot.com/2011/10/thoughts-on-europe-magical-thinking.html

http://tradersutra.blogspot.com/2011/09/not-mincing-words-on-greece.html

http://tradersutra.blogspot.com/2011/08/does-mr-market-have-glass-jaw.html

If Italy gets its bailout it still doesn't fix the Euro's problems. It's a temporary respite. I figure without this bit of news coming out of Europe over the weekend, Europe was headed towards a death "Lehman" like spiral.

Europe needs to do the following immediately:

1-The ECB needs to provide unlimited funding repo or otherwise. An unlimited backstop is needed.
2-The EFSF needs to expanded.
3-A definite time table for a Eurobond mechanism
4-Some sort of framework for fiscal union.

If German policy makers continue this "hyperinflation" talk I am sure that Italy/Greece will be printing out Lira's and Drachma's real soon.





Friday, October 28, 2011

More on MF GLOBAL

Well!
Now we know what MF stands for!

MF Global’s debt rating was cut last night by both Fitch & Moody’s. This begs a few questions:

Do we still listen to the ratings agencies?

The better question to ask is Why do we still listen to the ratings agencies?

I would think the only reason is because most investors just sit around all day with their hands in their pants waiting for someone else to do all of the hard analysis. The stock analysts do the same thing waiting and hoping that some other poor schmuck has done the work for them. Its an incredible circle jerk of idiocy.

What happened from the time MF Global blew up Tuesday till last night made Fitch & Moody’s wake up?

Does the fact that MF is an out of control debt and leverage machine just dawn on them while watching that riveting Game 6 of the World Series last night?

Does anybody on this planet actually do any credit analysis other than skim the headlines on Twitter?
One only has to look at MF Globals financials and filings to show the incredibly stupid 33 to 1 leverage that MF and Corzine built up since his hiring.

All of the analysts had this puppy wrong. Every one of them even after Tuesday’s implosion had this wrong. The simple fact that counterparty risk was more of an issue then the European Sovereign Debt per the analyst community was ludicrous. The idea that $6.3B in ESD was not an issue in the implosion is bottomline lazy analysis. Its easy to say counterparty and ratings risk. Its not easy to analize. It takes hard work running the figures.

One of the reasons counterparties today are not trading with MF is the fact that they were downgraded last night. The other reason is that they are tapped out via the REPO Market.

When companies catch a ratings downgrade they immediately have higher cost of capital. Counterparties demand more capital via collateral calls and demand larger haircuts/funding in the REPO market. Both of these are major MF Global problems at the moment. This was exactly what happened to AIG.

Back to the downgrades.

Why the downgrade from Fitch & Moody’s?

EUROPEAN SOVEREIGN DEBT Exposure! This was and is the problem but listening to the analyst community it wasn’t a factor in MF’s problems. MF Global owned $6.3B in face value ESD. Most of this debt was probably held on margin - leveraged to the hilt via the over night Repo Market.

I can here it now. MF Global and Dexia are isolated cases Its not a big deal. Buy the banks! Buy the financials!

This is just one of many implosions we will likely see over the coming months as obviously the lessens from Lehman/Bear/AIG/Wamu/Wachovia were never learned. Why learn from mistakes when Socialism and bailouts are public policy in market circles?

First Rule: Dont listen to sell side analysts.

Second Rule: It’s always the debt that matters.

Third Rule:   Leverage is like sex. When its good its great. When its bad lets get out of town.

Fourth Rule: Lose Repo Funding - Call the undertaker.

Fifith Rule:   If you are stupid enough to forget/break the first four rules make sure you drag enough people into the abyss with you.

Thursday, October 27, 2011

Thoughts On Europe & Magical Thinking

As I read the news flow coming out of Europe this morning I see GREEN. Futures are up a whopping 34 handles from yesterdays Globex Session close. The markets tend to trade to the path of least resistance and of course we all know that resistance is futile when markets are dominated by government policy intervention.

Screw Diamonds! Socialism and tax payer flush funds are a traders/speculators/bankers best friend.

Look for this market to trade to at least 1280-1300 level  on the futures before reality sets in. What is that reality you may ask? Like my old man always says reality is not what you see in the mirror but how the next guy sees you looking in the mirror. Its really circular farcical logic, but that's what investors want and that is what they will get. Its Western Culture at its finest. The avoidance of pain is paramount to living in a Western Culture.

http://tradersutra.blogspot.com/2011/08/pain-avoidance.html

Kick the can down the road.
Buy some more time.
Extend and Pretend.

Yada...Yada...Yada

A few days ago European Policymakers couldn't even schedule a meeting to discuss the crisis. They actually were kicking the meeting down the road. Markets reacted violently by sending the SPX down by 2%. Silly Rabbits - Tricks/Bad Debts are for Kids but Socialism/Bailouts are for the elites.

Back on the subject of Rabbits. Did the Europeans pull one out of the hat? One would think they have when looking at the DAX which is flying up 5.35%. Like the CARS singing oh oh It's Magic, one would think by looking at the sea of green on the screen that all has been magically fixed. Maybe Joan Didion was right after all when she wrote the "The Year Of Magical Thinking." Magical thinking works until reality sets in. Steve Jobs thought he can beat Cancer by magically thinking it doesn't exist. I am pretty sure the Europeans have the same thinking pattern as the Apple founder.

Lets review.
The only agreement that was reached was what we were all aware of. 50% haircuts for Greek Debt was already figured. Bank Recapitalization was already needed. The agreement basically buys time for the banks to posture their governments for continued bailouts.

My questions are:

-Does Austerity continue for the weaker periphery nations?
-Are the inherent flaws within the single currency Euro still intact?
-Will trade deficit nations continue to consolidate their budgets?
-Will growth worsen for trade deficit nations?

As Marv Albert  says.....The answers are all a resounding YES!

What European policy makers achieved was an offering to the German Banks and citizens. They wanted bailouts and austerity and that is what was delivered.

Bottomline. THE ECB will use the EFSF to put a bid and floor under sovereign debt until it cant any longer. What was averted I must admit was a system wide bank panic - Lehman 2.0 doesn't look like its in the cards.
Substantial capital (Tax Payer Funds) has been set aside (Bonus Pool) in the case of widespread bank failures or recapitalization needs.

Markets are reacting for good reason as the short term looks good. The Europeans were able to remove the absolute worst case debt crisis scenario, but what we have is just a muddle through scenario. This is not as plan. Markets need to grow out of this debt mess. My thinking is that austerity will continue to put pressure on budgets which will lead to massive protest movements across Europe.

If budgets worsen on the periphery we should expect to revisit this issue in the coming quarters and the crisis will once again ripple through the market forcing Euro leaders into greater action.

Magical thinking helped Joan Didion out of her deep depression. Good for her. It didn't work for Steve Jobs and it won't work for Europe.

Wednesday, October 26, 2011

MF GLOBAL

We all saw the effects of poor risk management and excessive leverage in full force in the plunge of MF Global Holdings. The stock lost 47% in yesterday’s trading.

Do we really need to go over the results?
Can’t we just look at the facts?
Do we really need to spin the same broken record day after day?

The words excessive leverage, inadequate capital requirements, poor risk talking and management, and potential ratings downgrades should not be new to anyone who lived through the 2008 credit crisis.

Yet….

People are still shocked that companies are run into the ground following the above meme.  I am truly shocked to find out there is gambling going on at the World Series Of Poker.

Just reading the research reports describing MF Global is downright tiring. How many times do we need to read the same thing over and over again

Let’s see.

1- Excessive Leverage – CHECK!

2- Not Enough Capital – CHECK!

3- Zero Risk Managment – CHECK!

4- Counterparty Risk - CHECK!

5- Potential Ratings Downgrade – CHECK!

What is truly troubling here is that MF Global’s European Sovereign Debt exposure is totally being discounted. The company has exposure to $6.3B in ESD, which is being supported by $1.2B in shareholder equity as of yesterdays close.

Why do you think most analysts and investors are pushing this to the side? Well of course – Bailouts! Tax Payer Funded Slush Funds. The thinking here is that this is non issue. Doesn’t matter if they have $1 or $100B in exposure as long as the EFSF/IMF/ECB are backstopping the losses. If this is not moral hazard I don’t know what is.

I am not saying that MF Global will be bailed out. They probably will be forced into a miserable death just because Jon Corzine didn't leverage the company enough. If Jon Corzine wants to save his company he should get on the horn with the guys at GS and be on the other side of say a couple trillion in derivatives.

Doing the same thing over and over again in the real world leads to insanity, but in the financial services world it just leads to more bailouts.

Monday, September 19, 2011

Not Mincing Words On Greece

I have long since stated that Greece will default.

http://tradersutra.blogspot.com/2010/04/greece-will-default.html

I didn't mince words back then and I am not mincing them now.

Greece has really three options to cut their debt.

1-Pay it off
2-The Kramer Method - Write It Off
3-The British/US Method - Inflate it away

Option 1 would be the best method for autocrats/technocrats/policymakers everywhere. The Cubs would win the World Series before this happens however. This on the surface looks to be the most healthiest form of paying it off for market participants. But its not happening for Greece as the debt load plus austerity is crushing.

Option 2 would be to write it off. This looks to be the most efficient plan for the Greeks. This is a default. Pure and simple. We will have to figure how the market reacts to this. How would bilateral CDS contracts be settled, etc. This would be incredibly painful but would be a cathartic revelation. How they handle the haircuts and what that amounts to will be important.

Option 3 would be in my opinion the most dangerous. The Greeks would have to exit the Euro and then reissue Drachmas. The currency would immediately drop, this would allow the Greeks to export more Gyro's but inflation and falling output would create problems.

All things aside, the markets are weak again this morning. Its become a broken record. The failure of European Policymakers to deal with this issue is flabbergasting. They will continue to muddle through this crisis, making the crisis more and more of a problem. Bailouts, USD Swaps, EFSF talks are all about kicking the can down the road. The current policy is extend and pretend till Wile E. Coyote stays in suspended animation. If and only when the Euro is about to totally collapse and it threatens the entire European Continent will the European Autocrats do the right things and demand 50-60% haircuts and fiscal consolidation.

Yes. Eurobonds. It wont be pretty and it wont be easy. Europe needs a common treasury. This needs to be done first. I understand that Eurobonds have some inherent problems, most notably the lack of a political union but a Brady Bond mechanism needs to be installed.

The markets are again weak coming off additional negative news flow out of Greece, but I fully expect the EU, ECB, and IMF to come up with the money for Greece. I might as well toss in the Fed as well. I fully expect Greece will get her money in a few weeks. The EFSF will then be passed by all European parliaments. Markets will cheer leading into these actions, but then I also expect an orderly Greek restructuring in the area of 50% haircuts which in the grander scheme of things is not enough.


Sunday, September 4, 2011

Left/Right = Wrong

For the longest time American politics has been about Democrats Vs. Republicans. The Left Vs. the Right. Liberals Vs. Conservatives. The major economic, social, political, and economical issues have all been defined by these paradigms. For the last hand full of generations this has been the prevailing structural dynamic of how the major issues of the day were discussed not just in this country but on planet Earth.  Look at every industry and you can point to this idea of which side of the fence you would reside on.  This has changed.  Let me tell you that its not a Left/Right issue anymore and it stopped being an issue some 20-25 years ago. The joke is on the electorate who are fighting over these ancient arguments. Its like throwing stones when machine guns are the weapon of choice. 


There is a huge structural shift that has happened over the last 25 years or so that is changed the underlying dynamic. Again while most Americans continue to argue over abortion, welfare, taxes, war policy, education, immigration, etc,  the country is being taken/stolen away from them. Both leftists and right wingers can't see through their mutual hatred for one another. This is what policymakers and politicians want as they give the country away to Wall Street and big business. The media and talk radio continue to make every issue a Left/Right debate because guess who owns them? This is why Rush Limbaugh, Ann Coulter, Laura Ingraham, Ed Shultz, and Olbermann are extremely well paid by the media machine. They specifically come on line and make their constituencies think that it is us against them as in Democrats/Left/Liberals Vs. GOP/Right/Conservatives. This is on every issue. Whilst the country gets taken away from them and handed to the corporations. 


Turn on the TV, listen to CSPAN, read the papers and its always about the following: 


1-Pro Choice Vs. Pro Life
2-Pro Union Vs. Anti Union 
3-Free Markets Vs. Regulation
4-Pro War Vs. Anti War
5-Pro Immigration Vs. Fence Builders
6-Gay Marriage Vs. Family Values
7-Public Schools Vs. School Choice


I can go on forever. On and On.


What we have seen since the near collapse of the global economy is how the Corporation has swayed the argument into actions that screw the taxpayer for the benefit of Big Business. The increase of Corporate influence over the last 25 years is the biggest geopolitical event that no one is talking about. Why would they? Rush Limbaugh and Olbermann are not talking about it so why fight over it? Its not the fall of Communism or the rise of Islamic fundamentalism, or even the rise of China and India to the global economic landscape but the rise, power, and influence of Corporations over  the individual. It is the taxpayer/individual Vs. Big Business/Wall Street/Corporations and we the Taxpayer/Individual is getting slaughtered. 


This is not new ground for the well informed. Its been simmering since the Reagan Revolution. Over the last 25 years the disintegration of tax payer rights was slow and measured. It took on a Tsunami like existence when the US Government bailed out Wall Street. The power and influence that Banks have over the electorate is absurd. Banks have lots of money and power and they spread it around policy circles which filter into the policy making areas.This is why we continue to have bailouts. When we have such a vulgar concentration of power, influence, and money we are assured to have an abuse of that power. 


Money has supplanted tax payer rights. The political process has been twisted and perversed by lobbyists and now the Supreme Court has made it that Corporations are just like individuals. 


Again, the tax payer is losing. The individual is losing out to Big Business. You have to consider that every single piece of legislation that policy makers make is on behalf of corporations. 


So the next time you have a conversation about abortion or taxes or even immigration, remember you are missing the bigger picture. When the bailouts  via TARP was rolled out, it was a Republican Right Winger (Paulson) that started that but today the bailouts continue with a Democratic Liberal (Obama). They are all in on it. They smell the money. There is no left/right function in politics. Its all about PAC's, Lobbyists, and Corporate influence. We had Bush Jr, push through two unfunded tax cuts, Medicare Part B, and two wars. We have Obama who pushed through Obamacare, extended the tax cuts and continues to fight two wars. Two guys who are at separate ends of the political divide but both are acting to the benefit of Big Business. Wall Street got bailed out under a GOP administration and to every one's surprise is getting bailed out daily under Obama, yet we continue to argue about gay marriage? 


There is some light at the end of the tunnel. Many have stopped reading print newspapers. Many have stopped watching the MSM. They go like myself to blogs and other user generated content sites like YouTube to get a proper idea of what is going on in the world. 


Just today I was having a conversation with someone at the coffee shop about Keynes Vs. Hayek and it suddenly dawned on me that its not about Keynes Vs. Hayek, but Goldman Sachs Vs. Me and I am losing. If Americans continue to travel down this road Serfdom is the final destination. 





Sunday, August 21, 2011

Pain Avoidance

A new week is coming. This week is all about Ben Bernanke and he will say at his annual pain avoidance conference in Jackson Hole Wyoming.

Almost everything I have read this past weekend is how Bernanke can stop the stock slide with a simple statement. "I am embarking on QE3." The hope here is that Bernanke opens the door and embarks on another campaign to save speculators, stock traders, and insure that hedge fund honchos can justify 2 and 20. All of these guys are just hoping that more QE will save them from another round of margin liquidation. I can see and hear it now,  John Paulson and David Tepper working the phones to their prime brokers. "Don't Sell Me Out! Don't you know that Bernanke is going to reliquify the markets?" This may be even a Carl Quintenia CNBC Special - "Inside The Beggars Pit." Maybe Rowdy Roddy Piper can co host?

The idea that another round of stimulus will stop the summer retreat in stocks is the current hope in financial circles. There is no hope in the stock market. Can someone please alert the financial elites?

I am sure that stocks will take it on the chin this week if no QE/further stimulus is announced. Why? Because at the moment that is the path of least resistance. In the current macro environment, which is a slowing economy, non existent job market, weak housing, and cascading consumer sentiment, stocks will have a difficult time finding bids. The economy is soft and we have an even softer President who is extremely disappointing. Obama has not figured out what is wrong with the economy a full 30 months into his Presidency.

In my opinion, Bernanke is going to have a difficult time selling another round of QE3 just a year after QE2 massively failed. Markets will be disappointed as Bernanke, Geithner, and Obama have few political bullets left. The higher CPI figures this past week will most likely pause any talk of QE. But then again, QE2 never really rallied commodity prices higher although Brian Sack (NYFED) seems to think that keeping "prices higher than they normally will be" is good policy.

My hope is that no QE3 is announced. We need to make sure the market can stand on its own weight. The Fed since Greenspan has been delaying the pain for too long. We need to stop this dynamic Put insurance policy that protects asset prices. I am tired of the Greenspan/Bernanke Put. This is the root cause of all that is wrong with our financial system. We need to top putting band aids on wounds that need surgical procedures. We should have forced restructuring on the banks. We should have taken BOFA and Citigroup into pre packaged bankruptcy protection. We should have never allowed BOFA to buy Merrill Lynch. ML was insolvent the day BOFA plucked down tens of billions for that failed institution. It was bad/toxic money chasing insolvent money. We should not have allowed Wells to but Wachovia. Wachovia like Merrill should have been orderly liquidated thru bankruptcy. All of these failed institutions, Bear, Wamu, CountryWide, Wachovia, Merrill, and even Morgan Stanley should have been dismantled and put thru a pre packaged bankruptcy so that toxic assets were written down and cleansed from the banking sector. A fresh clean company then could have been floated. The only smart responsible thing that the Obama Administration has done so far were the Auto Bailouts. They would have been an excellent blueprint to deal with the banks. They would have saved the banking system and the economy if they would have just let these fraudulent and corrupt institutions die. Obama, Geithner, and Larry Summers should have gone Swedish instead of Japanese. Sweden cleansed their economy of failed institutions. Created good banks and toxic banks. Their economy took it on the chin for a few years but was growing soon after. We followed the Japanese method of pain avoidance.

Pain avoidance. Two words in the financial lexicon that needs to be purged. The Dow bottomed at 6500 when it became apparent that socialism would save the day. They should have instituted the Austrian School of policy. The markets would have gone to below 5K, but who cares. We would be much better off today. We would have taught these crooks a lesson. Instead we are back to square one. The same old problems. What we got in the form of policy was pain avoidance in September 2008, more of the same in 2009, and 2010 when QE2 was announced. The Obama Administration is so scared of the financial sector. So scared of getting Jamie Dimon upset.

What we have seen form Obama is an utter lack of understanding of how the economy works. As soon as Paul Volcker started talking about firing bank CEO's, Obama marginalized him. Why has Obama not listened to anyone who seems to know what they are doing? Volcker and Bill Black have been pleading with this ingrate over policy and the lack of prosecutions in the banking sector.

The reason we should not have any more stimulus is not because it is politically unfeasible or that it will stoke inflation, rather than that it doesn't work. Can it be that QE is a crappy policy that just sucks?

No amount of further QE will stabilize housing. No amount of further stimulus to prop up asset prices will get Americans off the unemployment line. QE1 and QE2 only temporally raised equity prices. Higher equity prices resulted in zero hiring and zero housing stabilization.

There is only one reason for Ben Bernanke to say no to QE3. It doesn't work.I doubt we will hear this from the mouth of Bernanke. If he actually utters these words then he is simply admitting that he knows what he is doing and that he has learned from his past mistakes. To bad that he has no clue what he is doing and has learned nothing from his past actions. The same can be said for Geithner and Obama.

Friday, August 19, 2011

Mkt Weakness & The VIX

Everyone is talking about the VIX. The VIX this. The VIX that. What is the VIX telling us? What is the VIX?

The VIX is often misunderstood and wrongly classified as the ultimate fear gauge. It is an indication of market fear or investor angst but its just one piece of the puzzle. The VIX simply represents one measure of the market's expectation of stock market volatility over the next 30 day period. There has been money to be made playing market volatility over the last few weeks.

The move we have seen the last few weeks is different than what we saw last year.

In 2010 it took a good 2 plus months for the market to lose near 20%.

S&P 500 Down Move In 2010. Down 18%

S&P 500 Down Move in 2011. Down 18%

This down move was 2 weeks in duration. Like Justice in Texas. Swift and quick.

Many can make the point that S&P's downgrade lit the fire but this is wrong. The deficit ceiling freak show really alerted investors to how overtly reckless our Congressional leaders are. Cutting the deficit and shrinking government when the economy is clearly contracting and the consumer is in balance sheet hell is completely irresponsible. We are sowing the seeds of deflation. The market is taking its cue from the utter dysfunctional nature of DC. Couple this with the general flight to liquidity in Europe and what do you expect? There is also a flight to liquidity here as well as 10 Year Treasury bond yields are plunging.  A lot like 2008 right? Not really. In 2008 there was a general lack of certainty over what the government and policy makers can and would do. We saw markets crater and the VIX explode out. What we saw in the aftermath was bailouts galore and an opening of the liquidity tap. Now in the face of another round of economic malaise, investors are sure that policy makers will again bailout bankers and that liquidity will be ample. 

This can clearly be seen in the VIX Futures Curve.

The general fear of a full blown economic market catastrophe is largely being discounted if you look at the VIX Futures Curve.

VIX FUTURES CURVE 

Looking back at the longer dated VIX Futures curve. In 2008 the VIX spiked to almost 90 but the longest dated future VIX Contract spiked to only about 45. In 2010 we saw the VIX at 45 again the longer dated VIX Future spiked to about 35. Now we have the VIX at 43 and the longest dated VIX Future is at 29. So the fear going out is subsiding at each market interval. This is basically the market being more concerned short term rather than well into the future.

The Volatility markets are telling you or suggesting that markets are not going to see a precipitous drop like we saw in 2008. 

Is this not moral hazard on steroids? 

Now one can make excuses for the market weakness. S&P's downgrade, debt problems, earnings, jobs, slowing economy, Europe, China slowing down their economy, and housing. Guess what all of these are problems and have something to do with the general market malaise, but what I think the underlying cause is just the general failure of policymakers to make hard choices. This patch up the rotten to the core system is not getting it done. QE2 was and is a failure. This market downdraft in the US is the direct consequence of the Fed's distortion of risk markets. This idea of creating a wealth effect channel was a bailout for traders and speculators. It did nothing for the general economy. Nothing for the middle class. Nothing to fix the housing mess. Nothing to take on unemployment. When will this countries policymakers stop following the Neo Classical School for Economics? Supply Side is dead! Tax Cuts don't filter/trickle down. Markets are not free nor are they efficient. We have massive malinvestment into unproductive areas of the economy, mostly in the banking sector. Why are we surprised that the economy is getting soft right after QE2 ended?

When will the Fed, The ECB, and other Klepto Policymakers finally admit to the fact that their policies have mostly contributed not only to the weakness in risk markets but the general economy?

Thursday, August 18, 2011

Does Mr. Market Have A Glass Jaw?

Mr. Market Took on the chin today. He has been taking quite a few shoots the last few weeks.
Whether Mr. Market has a glass jaw like he had in 2008 is to be seen. The major average were down anywhere from 3.69% for the DOW to a down 5.22% for the NASDAQ. The SPX was down 4.46%. This market got off easy today. Europe is a total mess and I just don't understand European Policymakers. The ECB is so afraid of inflation that they have sworn off expanding their balance sheet to tighten EZ Spreads. Merkel and Sarkozy are Elitist politicians just looking out for the rich and affluent in their respective countries.

http://tradersutra.blogspot.com/2011/07/simple-thought-on-european-debt.html

http://tradersutra.blogspot.com/2011/08/eurobonds-or-bust.html

So what we have here in Europe is a total abdication of governing power. Its kick the can down and over the cliff time in Europe. It is an absolute disgrace for Trichet to claim that the European Economy is in better shape than the US Economy. This guy has some serious balls. French & German banks are so knee deep in EZ Periphery debt that even a 50% haircut would render them insolvent. The US also has a major governing vortex as well but the US Banking Sector is structurally in much better shape than Europe's.

A Euro Bond program is the only feasible way to save the Euro and grand European Dream of unity. It still can be done but I fear that Europe just like the US is in a policy and administrative death spiral. They need to purge Trichet, Weber, Merkel, and Sarkozy just like we need to purge Geithner, Bernanke, Obama, and most of Congress. They will get to that proper policy choice but not before much more economic pain is administered.

The market correction we have seen over the last few weeks is just a massive failure by policymakers and politicians in Europe and the US. Central Bankers from both continents have failed the public while making sure their rich/elitist constituencies are taken care of. The programs that they have created have failed and meant nothing to the greater economies as a whole while putting the finances of the regions in greater peril. In short, they have cost us greatly while accomplishing nothing.

What this means is that the we will just bump around the bottom here in the US for the next several years. 1% or best case 2% growth, while Europe does their charade pretending to have a currency union with no fiscal policy. The global economy is grinding to a halt and these guys in Europe and US have their hands in their pants. All of this could and should have been avoided with proper policies to clean up the rotten to the core financial system, but Obama failed us all. He appointed the same arsonists who set the fire for the credit crisis to high ranking positions in his cabinet. Why are we all surprised at the results?

10 Year Treasury yields briefly saw a 1 handle today. That alone should alert people to where the US Economy is headed. The US government can borrow money at 2% annually over 10 Years and investors all around the world are still buying hand over fist. This is no longer the safety trade but the smart trade.

The question remains. Are we going into a recession? The answer is we are already in it. That doesn't mean it has to be a bad recession or like the one we were in 2 years ago. It can be just a run of the mill recession. Who knows? I believe housing has one more serious down leg, maybe 10-15% further correction. The banks have to get serious about taking losses and marking to reality. US Financial Institutions are not going out of business although they are all insolvent. They will be zombie institutions for a generation. The next time they all have a death spiral swoon will Obama & Geithner put the wood to them? Will they force restructuring? Will they force the banks to take proper marks? Will the banks purge their bad assets? These are all important questions that need to be answered. At the moment the US Banks are in better shape relative to European financials. European financials will all have to be nationalized when the haircuts and Eurobond proposals are dolled out. US Financials will then have a major competitive advantage and it is prime opportunity for our policy makers to fix our banking sector. If we take the pain now we can dominate later.

Wednesday, August 17, 2011

Musings on QE, Money Supply, & The USD


We have heard countless times over the past few years how badly Bernanke has debased the US Dollar. In certain terms he has done this. The claim that the USD would be higher in the absence of QE is counter factual at best. Who knows where the USD would be if the Fed never expanded its balance sheet. One can claim that the USD would be higher on a trade weighted basis because of the Euro's woes. This would equal out the Yen's rise in the same period. My guess is that the USD would have remained weak. The USD was a weak currency before QE and the credit crisis and its certainly a weak one now. This is so because the USD has massive structural problems and headwinds. We have an uneven trade policy on top of a non existent fiscal policy that renders the Dollar to be go no where but down. We run huge trade deficits that need to be financed through deficit spending. Now deficit spending is an accounting term yet it is still a figure. We simply don't have enough revenue coming in to make up for entitlement spending, defense spending, bailouts, and lack of taxes.

The Fed has tried to make up for the lost output by starting up speculation via Animal Spirits. The Fed's QE and ZIRP programs have only succeeded in creating more confusion in the way monetary policy actually functions. Monetary policy in the midst of a balance sheet recession is completely impotent and useless. The Japanese know this. It doesn't matter how low rates are if the banks/private sector can't find profitable investments to sink them in to. The ZIRP the Fed has instituted is basically a sinking fund for Wall Street speculation. We have seen commodity prices sky rocket. We have seen equity prices also rise. In fact all risk assets are rising in the same direction. This is a dangerous correlation. What goes up during QE has to come down when the policy ends. This is what we have seen.

What the Fed is doing is technically not money printing as much of it is an asset swap. The Fed can't print money. It has no authorization to do such a thing. Its the Treasury that does the printing if any printing is actually done. The Fed sits under the Treasury and what the Fed does is simply credit bank accounts electronically. This is how they manage the monetary base and the reserves in the banking system. Through Open Market Operations they add or subtract via Repo's / Reverse Repo's, monied reserves. Through the interest rate channel they set the discount rate and put a target on the Fed Fund's Rate. This is all they do. My problem is a ZIRP policy is destroying savings at a time when the country needs to have some sort of return for their fixed rate investments. Its stoking speculation into risk assets when the private sector most notably consumers need to deleverage and pay off debts. Super low rates gave us a credit crisis as many used their homes as ATM's. We need to move to a more normalized interest rate policy.

What the Fed tried to accomplish through QE was just an asset swap of taking out interest bearing assets from the capital markets and parking them inside the Fed. The Fed basically is taking out higher interest bearing coupons and making investors invest in lower coupon. As the Fed pushes the curve down while keeping rates at zero, effectively controlling the entire curve. If this is not central planning I don't know what is. The entire market is captured by  short term zero bound rates while long term rates are pushed down by a weak economy and other deflationary forces. Its this dynamic I have stated previously that is killing savers while enriching speculators. Its this Reverse Robin Hood policy instituted by Bernanke that has become the 1 Million pound elephant in the room. This is the monster that he has created and the monster gets bigger and more difficult to manage as time goes by. Now the Fed not only owns Treasuries but a Trillion dollars worth of high coupon MBS. What they wanted to do was take the high coupon MBS out of the market, push rates down so that refinance activity picks up. Which is a noble idea except rates are going down but so is general housing prices. Rates are down not because the Fed is buying but by a general lack of interest and demand for housing. No one can get approved and many are stuck in under water homes that can't be refinanced. Oh! did I mention 9% unemployment? Even if refinance activity picks up and higher coupon MBS that the Fed owns are paid down, this by itself is deflationary. Deflation is the bogeyman for the Fed. They instituted QE2 because of it. They are sowing the seeds for more deflation with their policies.

Along with the fact that Bernanke had zero clue about where the economy was going in 2008 and his subsequent Housing is contained speech on CNBC. They all say that you can't fight the Fed but you can pretty much bet against Ben at every turn.

http://tradersutra.blogspot.com/2010/12/bet-against-bernanke-surely.html

Of late Ron Paul and now Texas Gov. Rick Perry are on Bernanke's case about the Dollar. This is the same Rick Perry who takes credit for the Sun coming up in Texas every morning. He has no clue about monetary policy or the drivers of the general economy, all of which probably makes him a better candidate for President. Both Paul and Perry have been hammering Bernanke over the Dollar. They should be hammering him about ZIRP. What ever Bernanke is doing to the Dollar is nothing compared to what Congress has already done. Again, the Fed doesn't set Trade or Fiscal Policy. That is done by Congress and the White House Administration. Both of these branches of government has sold out the country to big business which wants a lower dollar to export out.

The Fed's QE and expansionary balance sheet maneuvers are asset swaps only. The Fed's balance sheet has gone from less than $900B to over $3T since 2008. Many have mistakenly stated that he has greatly expanded the money supply. Which after closer examination really is not the case.

The following charts from from ShadowStats.com;

http://www.shadowstats.com/charts/monetary-base-money-supply

The more important charts are these longer term money supply charts.



Courtesy Of Shadow Stats.

Bernanke has expanded the money supply, but not as much as people have previously (Myself included) have thought. Long term money supply growth is around 5%. Bernanke has expanded that over the last few years to 5.5%. Not a big deal compared with the Chinese who have expanded their funny money by 17% a year for the last 10 Years. They also peg their funny money to the USD to keep it undervalued, which they have to as they are an export led economy. They recycle the dollars from their trade surplus back into our economy via the Treasury Market. This is the global savings glut argument that many are making for the credit crisis. It has some logic to it but most of it is bogus rhetoric. The Chinese bought Treasuries hand over fist pushing long term rates down which enabled the housing credit crisis. This is the meme that many supply siders, deregulators, bank lobbyists, and Wall Street apologists are making. Sprinkle in some its all the poor's fault, the CRE did it, deadbeat homeowners, government housing policy, Yada Yada Yada,  you get the picture. Zero accountability for elitist bankers, supply siders, deregulators, and bank lobbyists.

If it was all that simple and easy.

The primary reason we had a credit crisis was a total abdication of lending standards and total misplaced incentives by the banking sector. It was a hot potato credit fiasco created by Wall Street institutions. I still don't understand how in the world the CRE made AIG make all those bad CDS bets? How did the CRE make Lehman make all those bad RMBS and CMBS loans? Can someone please explain this to me?

Back to the USD. As you can see, The USD was lower in 2008 when the Fed's balance sheet was 1/3 the size.  You can't blame the Fed entirely for the Dollars decline, you have to blame other government policy makers for that. You have to blame Congress for fiscal and trade policies and the White House for a total lack of attention to global economic affairs.