Equities traded lower in Europe today as market participants continued to book profits after a rally to 13-month highs on growing concerns that even though the Constitutional Court in Germany will dismiss the injunction, it may enforce certain conditions. In addition to that, yesterday’s comments from Spain’s Rajoy who said that the new ECB backstop makes a bailout for his country less urgent. As a result, there is a risk that markets may scale back their expectations of an imminent full-scale bailout and in turn lead to another speculative attack on Spanish bonds. This, together with touted profit taking, saw the short-end in Spain and Italy come under pressure (2y Spanish yield up 8bps and 2y Italian yield up 7bps). In turn, this supported duration assets throughout the session. Looking elsewhere, the looming elections failed to deter investors from the latest DSL tap, which drew a record low yield. Going forward, the second half of the session will see the release of the latest Trade Balance data from the US, as well as the weekly API report. In addition to that, the US Treasury will sell USD 32bln in 3y notes.
- Germany says U.S. debt levels "much too high" (Reuters)
- Netanyahu ramps up Iran attack threat (Reuters)
- Burberry plummets by most ever, slashes guidance, rattles Luxury-Goods Industry as Revenue Growth (Bloomberg)
- FoxConn Again Faces Labor Issue on iPhones (NYT)
- Southern whites troubled by Romney's wealth, religion (Reuters)
- China's Xi not seen in public because of ailment (Reuters)
- Another California muni default: Oakdale, Calif., Restructuring Debt, Planning Rate Raise After Default (Bond Buyer)
- Spain's PM expects "reasonable" terms for any new aid (Reuters)
- Bernanke Proves Like No Other Fed Chairman on Joblessness (Bloomberg) - Ineffective like no other?
- John Lennon’s Island Goes on Sale as Irish Unpick Property Boom (Bloomberg)
The key event overnight was the German constitutional court's announcement shortly after 8 am CET in which the Krimson Kardinals announced that, as largely expected by everyone except the EURUSD trading algos, there would be no delay in the September 12, 10 am CET injunction decision, as a result of the last minute bid by Peter Gauweiler. As Bloomberg reported, “It’s no surprise the court won’t change its plan,” said Christoph Ohler, a professor of European law at Jena University. “You cannot directly sue over the acts of European institutions in a German court, so it’s difficult to introduce these arguments in this case." The decision to press ahead with the ruling will probably bolster the German government’s faith that the bailout facility will get the court’s backing. German Finance Minister Wolfgang Schaeuble told students last week he was confident the ESM would be approved. “Europe won’t collapse on Sept. 12,” Franz Mayer, a law professor at Bielefeld University, said in an interview last week. “In the end, the court will allow Germany to ratify the ESM, but there will probably be some strings attached. The bigger issue than the actual ruling is what extra language the court will add to the reasoning on where the limits are in the future,” said Mayer. “The markets seem to be quite afraid the judges may spoil certain options for the future, like collectivization of debt within the euro zone." Which leads us to the quote of the morning when even Schauble it appears is channeling Clinton after he said that interpretations on the word "unlimited" can vary. No they can't, and this is precisely the issue that the judges will take offense with, if anything.
The chart below shows 2050 years of relative global GDP, during which there was a surprisingly flat distribution of the major economic powers: China, India, and the "West", at least until the mid-1800s, when the "Western" Golden Age began primarily courtesy of the industrial revolution, followed by the arrival of the Fed and virtually endless leverage (i.e., borrowing from the future until such time as no more debt capacity remains at either the public or private sectors), only to end in the late 1900s when the marginal balance of power shifted back to Asia, which became the next nexus of debt accumulation (see our earlier post on The Great Recoupling for some additional perspectives). And while the chart, from Deutsche Bank and PWC, attempts to predict the next 40 years of relative GDP distribution by eventually regressing back to the the long-term trendline, we feel that this is quite an optimistic assumption for a world in which virtually every "developed" country is insolvent, begs for China to ease whenever western inflation sends gas prices soaring making reelection of the incumbent impossible, and is reliant on the indefinite continuation of the USD's reserve status to preserve the last traces of western superiority (not to mention cheap funding of $-trillion deficits as far as the eye can see).
While the official number from the FMS is not out yet, according to an advance look by the CBO, the August deficit soared from a modest $70 billion to a whopping $192 billion, the highest August deficit in history, and coming at a time when traditionally the US Treasury does not generate substantial deficits. It also means that "that" $59 billion budget surplus in April, coming after 42 straight months of deficits, and which surprised so many, was just as we suspected, nothing but a play on the temporal mismatch between treasury receipts and outlays. Most importantly, with one month left in the fiscal year, a month which, too, will likely come well above last year's $63 billion, the US has now spent $1.165 trillion more than it has received via various taxes. Finally so much for the year over year improvement: at $1.23 trillion deficit in the LTM period, this is only 3.2% less than the August 2011 LTM deficit which was $1.27 trillion, despite nearly 2 million more workers employed (at least according to the BLS) and generating tax revenue. Expect the US to end Fiscal 2012 with a total deficit of well over $1.2 trillion, which in turn means that the average burn rate of $100 billion in new debt issuance each month, will continue into the indefinite future.
Since The Dreme (Draghi Scheme) began shortly after the EU Summit, the P/E multiple on the S&P 500 has risen by a faith-defining 2x. This is the largest three-month rise in this indicator-of-indifference-to-reality since the initial burst rally off the March 2009 lows. Meanwhile, the actual earnings consensus is being marked down further, heading for an earnings recession as we pointed out last week. It seems investors are too afraid not to believe in P/E miracles or perhaps it is just faith that central banks have it all under control and their 'promises' are as good-as-gold.
Bill Gross may be credited with inventing the term 'the New Normal', although his recommendation to purchase gold above all other asset classes, something which only fringe blogs such as this one have been saying is the best trade (in terms of return, Sharpe Ratio, and the ability to sleep soundly) for the past three and a half years, he is sure to be increasingly ostracized by the establishment, and told to take all his newfangled idioms with him in his exile to less than serious people land. Which takes us to David Rosenberg, who today revisits his own definition of the New Normal. And it, too, is just as applicable as that of the Pimco boss: "The new normal is that the economy doesn't drive markets any more." Short and sweet, although it also is up for debate whether the economy ever drove the markets in the first place. But that would open up a whole new conspiratorial can of worms, and is a discussion best saved for after Ben Bernanke decides to save the "housing market" by buying more hundreds of billions in MBS and lowering mortgage yields further, even though mortgage rates already are at record lows (something that mortgage applications apparently couldn't care less about as we showed last week), while "avoiding" to do everything in his power to boost the S&P, which recently was at 5 year highs, and certainly "avoiding" to listen to Chuck Schumer telling him to do his CTRL+P job, and "get to work" guaranteeing Schumer's donors have another whopper of a bonus season.
The almighty Dollar is looking less mighty these days. By almost every measure, the purchasing power of the US Dollar is in precipitous decline. The following infographic, whose contents should be well-known to our readers, visualizes the sad state of affairs that the average American seems to have ignored for far too long. And since the whole world is now engaged in the 4th year of all out currency debasement one can safely channel Lester Burnham and say it's "all downhill from here."
One of the deepest mysteries related to the ongoing rally in U.S. equities is the persistent lack of retail investor involvement. QAs we have vociferously noted, U.S. equity mutual fund flows remain solidly negative and interest in single stock trading among individual investors is similarly moribund - while corporate bond volumes remain flat and Treasury volumes higher. As Nick Colas, of ConvergEx group, notes, one missing link to explain this dichotomy must be the fundamental lack of financial literacy among U.S. retail investors, yet this relationship is seldom mentioned as a reason for this group’s ongoing apathy in the face of 4-year highs for domestic stocks. You might argue that “It was always thus…” and that is a fair point. American investors haven’t grown dumber on financial matters in the last decade; they never had the requisite knowledge to begin with. But it does appear that the events of the last few years have caused some kind of “Tipping point” with regard to investors’ ability to process the world around them.
SocGen’s Sebastian Galy:
The market decided rose tinted glasses were not enough, put on its dark shades and hit the nightlife.
And the uber-bullishness is based on what? Hopium. Hope that the Fed will unleash QE3, or nominal GDP level targeting and buy, buy, buy — because what the market really needs right now is more bond flippers, right? Hope that Europeans have finally gotten their act together in respect to buying up periphery debt to create a ceiling on borrowing costs. Hope that this time is different in China, and that throwing a huge splash of stimulus cash at infrastructure will soften the landing.
The chart below from UBS' George Magnus captures perhaps better than anything, not only the reason why the global economy grew with the speed it did over the past 40 years, not only why "globalization" (a/k/a finding news places to issue debt in exchange for secured assets and unsecured cash flows all the while under the umbrella of globalist organizations: see Confessions of an Economic Hit Man) was the primary urgency for the status quo, not only why the developed world managed to delay the inevitable day of reckoning for as long as it did, but most importantly, why the global day of debt-saturated reckoning is coming.
While the plight of precious metal mining in the 3rd largest gold producer in the world has been well-documented here, as on ongoing strike in various South African mines has crippled precious metal supply, so far the mining shut down had not spread outside the continent of Africa (excluding the occasional Bolivian and Venezuelan mine nationalization). Today, however, even more mining capacity was taken offline, as India's Goa, the country's second largest iron ore producer, announced it was temporarily ceasing all mining activity "after an expert panel formed by the central government found "serious illegalities and irregularities" in mining operations." While no gold production has been impacted yet, this move, which likely has political overtones, will likely shift to other extractors soon, as more production capacity is taken offline, for either labor or kickback reasons. And as reported previously, demand by the now largest importer of gold in the world China, refuses to decline with supply, which has clear implications for the equilibrium price. It remains to be seen if Goa going dark will push iron-ore prices higher. It is quite likely that the collapse in Chinese iron-ore demand offline is far greater than anything Goa will remove from the market and as such will hardly push iron prices higher.
Casting a broad eye across all asset classes today, the theme of QE-Off was quite apparent. USD strength, Gold/Silver leaking lower, Stocks gathering downward momentum (as high-beta hotels underperform - AAPL 2nd biggest drop in over 3 months), Treasuries underperforming, and VIX rising rapidly with notable term structure flattening (to its lowest of the year). Volume was on the light side - which suggests this was more longs covering than shorts being laid out (as positioning into recent strength was light and looks to have capitulated Thurs/Fri. Dow Transports outperformed - which appeared more a value rotation as NASDAQ fell back to practically unch (along with the Dow) from the 8/21 swing highs. Equities definitely led the weakness today as cross-asset-class correlation broke down, and futures kept falling after-hours with S&P 500 e-mini futures closing down 12pts - right at the up-trendline of the recent move.