Archive - Jun 2010

Today is July options expiration in silver and gold. We’d like to take this opportunity to go over some of the basics and correct some misconceptions on pin risk and what it entails.

The BP crisis in the Gulf of Mexico has rightfully been analysed (mostly) from the ecological perspective. People’s lives and livelihoods are in grave danger. But that focus has equally masked something very serious from a financial perspective, in my opinion, that could lead to an acceleration of the crisis brought about by the Lehman implosion.

"In 2010, the authorities seem to have only two choices: allow defaults, which lead to deflation and
tremendous stress to the political system and public order; or inflate so that debts lose their
significance, which eventually leads to hyper-inflation and tremendous stress to the political system and
public order. Growth is a theoretical way out of this dilemma, but with shrinking populations and
increased regulation, Europe cannot manage this option. The US might, but the way will be difficult.
Cascading defaults will strip away many entitlements upsetting the rentiers and those who had planned
to become rentiers in the future. Countries that choose to allow defaults will see their currencies rally
as there will be a shrinkage of currency outstanding increasing the value of the rest, but collapsing
equity markets will test their resolve at every turn. We rentiers will be lucky if we can enjoy our dotage." John Taylor, FX Concepts

A topic we have been following for some time now and which continues to get no mention in the broader media, is the accelerating liquidity crunch in China, as demonstrated by surging repo rates between banks, both ultra short-term (7 days) and slightly longer dated (30 days). As the chart below demonstrates, just overnight the 30 Day repo surged by 19 bps to a fresh record of 4.25%. Seeing how this was in the 1.75% range as recently as 45 days ago, China's banks are currently scrambling to fill the 1 month secured borrowing void. Some have said this liquidity deficiency is purely a function of the Agri Bank's upcoming IPO sucking out all available liquidity, yet with subscriptions to that becoming open starting July 1, the real explanation lies elsewhere. Are China bad loans finally catching up with the banks? We should find out soon enough - the PBoC will flood the market with CNY201 billion this week, the biggest reliquification event in over 4 months, to "smooth out volatility in money markets", as interactive investor points out. If that is unsuccessful in bringing repo rates lower, it will be time to panic as China does not have the same misrepresentation apparatus that the ECB/IMF does.

• Options Clearinghouse wants access to Fed's discount window (Bloomberg) next up - $1,000 E-trade retail accounts have access to TALF and TLGP
• Jonathan Weil: Pimco's loss is a win for Wall Street crooks (Bloomberg)
• Wall Street reform bill goes into final hours with key provisions still unresolved (Reuters)
• BP relied on faulty US data (WSJ)
• Swiss banks winning funds from investors with weakening euro, buoying franc (Bloomberg)
• China central bank to inject 201 billion yuan into market this week to calm exploding money markets (iii)
• Banks on hook for $6.5 trillion GSEs? Bank execs panic over proposed change to orderly liquidation authority -- Dodd unhappy with Brown -- Zero hour arrives as derivatives, 'Volcker rule' remain unresolved (Counteroffer, Politico)
• Gillard breaks with tax policies that doomed Rudd (Bloomberg)
• The best stimulus: spend less, borrow less (Fortune)
• Venezuela to nationalize set of oil rigs belonging to Helmrich and Payne (Reuters)
• Yuan closes higher after moving in wide daily range of 150 bps (iii)
• Obama approval rating plunges on handling of BP catastrophe (Reuters)
• On Wall Street - so much cash, so little time (NYT)
• Simon Johnson endorses Paul Krugman for head spender, budget director and "quadrillion" redefiner (Baseline)
• The drilling ban is Soros' bonanza (IBD)

Initial claims at 457k, statistically insignificant compared to expectations 463k, down 19k compared to the prior weekly revised number (476k, from 472k). We expect another upward revision here. Continuing claims at 4,548, identical to expectations at 4,550 (previous 4,571k revised to 4,593k). Extended benefits once again blow out, +116,432 for the week ended June 5. Durable goods at -1.1%, compared to -1.4% expectations. Ex-transportation was 0.9%, versus expected 1.0%.

So much for that Greek bailout plan. Greek CDS are now back at fresh all time highs as the market seems set on not only testing the EU's rescue resolve, but determined to get a fresh new bailout plan entirely. At last check CDS was just shy of 1,000 bps. The immediate catalyst is a Fitch report that says Greece risk has gone up and that the country will need further consolidation in 2011 and 2012. The broader catalyst is that the entire Greek credit market is completely dead (noi cash liquidity) and momentum trading has now arrived in CDS, which is the only place left to express a bearish stance on Greece. Should the spread onslaught continue, we expect all of Europe to follow Germany's example and immediately ban naked CDS shorts across the continent. Luckily, both China and India are now set to open CDS trading of their own.

• Asian stocks rose, led by material producers and Japanese trading companies.
• China's chief auditor says rising debts of local governments are risky to economy.
• China's yuan rises moderately against the U.S. dollar.
• Fed offered a subdued assessment of the economy; affirmed rates would remain near zero for "an extended period."
• G-20 countries divided on issue of stimulus spending versus soaring deficits.
• Japan's exports rose 32.1% in May from a year earlier, the MoF - lower than expected.
• Oil falls to near $76 in Asia on signs US crude demand.

RANsquawk European Morning Briefing - Stocks, Bonds, FX etc. – 24/06/10

As prospects before BP get darker by the day, and the likelihood of bankruptcy grows, the TBTF propaganda begins. Evidence A - Bloomberg headline: "BP Demise Would Threaten U.S. Energy Security, Industry." Just as the failure of bankrupt banks was supposed to lead to the destruction of capitalism, so the bankruptcy of BP plc is now supposed to lead to the degeneration of US energy independence. And who in their mind would force the Chapter 11 of a systemically important company? Once again, free market capitalism is about to walk out through the back door...

Some simple math and even simpler warnings from BNY ConvergEx' Nicholas Colas: "Managing the U.S. Federal budget is one of the toughest jobs in Washington, and the task recently took its toll on OMB Director Peter Orszag who announced his imminent departure on Tuesday. So, to ease the transition for his lucky replacement, we have slimmed down the U.S. Budget into a short introduction to the challenges ahead. Here you are, Mr./Ms Budget Director: for the Fiscal Year ended September 2009, the average employed worker contributed $12,748 in income tax payments to the Federal government. The budget created by Mr. Orszag (who we read is a very bright fellow) spent $16,809 on behalf of that same worker for: defense, federal worker salaries, Medicare, Medicaid, Social Security payments, unemployment benefits, and food stamps. Oh, and that’s just the biggest/most noticeable items in the budget. That “average” worker now has $65,237 in Treasuries debt to pay off, up from $56, 861 just eight months ago. So, good luck to you, future OMB Director. We will watch your career with considerable interest."

For the past 15 months, Michael Sabia, chief executive of Caisse de depot et placement du Quebec, has had his hands full cleaning up the mess left by his predecessor Henri-Paul Rousseau. Not only was there a tarnished image to fix, but Mr. Sabia's been busy cleaning up its balance sheet following the nearly $40-billion loss the Caisse suffered in 2008.

The market has gotten to the point where, at least according to ICI, no matter what stocks do, all equity investors do is pull money out. The week ending June 16 was the 7th sequential week in a row to see domestic equity mutual fund outflows: $1.8 billion was redeemed, bringing the total for the 7 week period beginning May 5 to ($30) billion, and year to date to ($29) billion. Yet instead of following the trail of money (wrong direction), stocks are hanging on to the EURJPY and the several HFT algos, which together with the prime broker brigade keep the market afloat against the natural flow of funds. And even as equity redemptions refuse to abate, inflows into bond funds are as resilient as ever, perhaps explaining the surprisingly strong bid for both IG and HY over the past two weeks, where some very shady bonds have broken above par as HY underwriting syndicates hope the issuance window stays open at least one week more, before we see yet another record HY fund outflow.

A young friend asked me yesterday, “What on earth does negative growth mean?” and I had to laugh because it really is a ridiculous term dreamed up by political economists to put a positive spin on really bad news. I had actually never given the term any serious thought until then. “It means,” I said, “economic contraction and recession.” It really is no wonder the kids cannot figure out what is going on with all the nonsense terminology flapping about.

The irony and the Freudian displacement reaction are simply too much. Since Moody's knows it would be kneecapped and Friend-o'ed the second it downgrades the UK, Germany or France, it has decided to lash out at the very people who will be the cause of the next, and terminal for the rating agency, round of congressional grillings in a year or so, when Europe is bankrupt and Moody's is questioned why it kept England at AAA until two days after the sovereign default.