Archive - Jul 26, 2010

RANsquawk US Afternoon Briefing - Stocks, Bonds, FX etc. – 26/07/10

With the assumptions and conditions for the stress test pulled straight out of CEBS' collective bottom, it is no surprise that a mere 7 banks for a total $246 billion in affected assets end up being defined as undercapitalized. But what happens when instead of using a 6% Tier 1 capital threshold, a Basel III 8% Tier 1 is used? Something log scale worse. As Austrian Der Standart journalist Lukas Sustala points out, and as demonstrated on his chart below, the failure rate goes up exponentially: instead of 7 banks failing, 39 of Europe's biggest banks would be undercapitalized, and the impaired assets would amount to a whopping E2.6 trillion, requiring at least E30 billion in incremental equity capital, on top of the hundreds of billions already infused by European governments. In Lukas' words: "The stress tests were a farce (taking no account of counterparty risk or a sovereign default), but at least they provide some good data points (I currently look into all the sovereign holdings of the individual banks, so there is more to come). 39 banks fail the 8% criteria."

As usual, some terrific points from the man who was far too smart for Merrill Lynch. We are also glad that Rosie caught our observation over the weekend that securitized loans have plummeted by trillions recently: easily the single biggest argument for QE2.

If you thought volatility in stocks was beyond ridiculous, we hope you have been keeping an eye out on what happens to the US economy when the central planning bureau takes over. Case in point: the Dallas Fed Manufacturing index of General Business Activity was just released, and it is a stunner: after coming in at -4 in June, and expectations were for a gradual improvement in July to -2.5, the actual released number was -21! And of course after the usual downward revisions as per page 1 of the Chinese data presentation manual, in which superfluous zeros for negative numbers are strongly encouraged to be eliminated , this will likely end up being something like -210 when it is revised next month. But the market does not care: after all it can pretend Americans are buying homes until next month's revision indicates that new homes sales in June were actually a negative (is it possible? who cares - not Cisco routers).

So June new home sales come in at 330,000 on expectations of 310,000: a decent beat by 20k or so, and a "record" increase from the May revised 267k. However, this "beat", and massive 23.6% MoM surge only occurred due to prior downward (of course) revision which took away 57k from the past two months! The May number was revised down from 300k, or by 33k, to the lowest sales number on record of 267k. And April, not to be undone, two months after the initial release, has received its second downward adjustment, this time down by 24k from 446k to 422k. So let's get this straight: this was the worst June on record, following the worst month on record in new home sales ever, the beat was completely drowned out by 57k worth of prior revisions, the average new home price slid another 1.4% to $213,400, yet just because the new home supply is down to "just" 7.6 month from 9.6 in May it is enough to push stocks to the moon (of course this completely ignores that existing homes sales are back to 9 months, and shadow inventory is more than double that. Who cares - machine language does not add, it only multiples). Another day, another insane day in stocks, which are now programmed toignore reality, and just focus on the propaganda headline spin.

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Markets in a Flash

· Asian equity markets made gains over night. The Nikkei 225 closed up 0.77% while the Hang Seng closed up 0.12%.

· European equity markets are flat today and are fluctuating between gains and losses. The Stress test results of Friday do not seem to have brought much direction to the markets.

· Commodities are mixed and Oil has fallen 0.84% today. Natural gas is also down on news of gas production in China.

• The secrets of the Afghan war released (WSJ)
• BP set to announce Hayward departure (FT)
• Must read: The death of paper money (Telegraph)
• European Banking's Next Focus Is Funding (WSJ)
• U.K. Growth Forecast Cut on Budget Curbs, Ernst & Young to Say (BusinessWeek)
• Taleb: Government Deficits Could Be the Next 'Black Swan' (BusinessWeek)
• Deficits Don't Matter as Geithner Growth Gets Lowest Yield (Bloomberg)
• When will the US go the way of Rome (RCM)
• More CMBS Defaults Coming this Fall as Special Servicers Try to Keep Up (Houseing Wire)

• Asian stocks rise to one-month high on European stress tests.
• EU to adopt new sanctions package against Iran's nuclear program.
• European Union stress tests found banks need to raise €3.5B ($4.5B) of capital.
• Japan's stocks rise after Europe stress tests end, Yen slides.
• Global economy slowing to 3.25% from 4.7% recent average.
• IMF, EU inspectors in Greece for fiscal checkup required by rescue loans.
• Oil hover near $79 in Asia as strong US corporate earnings boost investor optimism.
• BP resumes efforts to drill relief well in Gulf of Mexico.
• Clorox expects to receive $750M for STP and Armor All.
• Deutsche Bank may report lower Q2 profit as Europe’s sovereign debt crisis led to a decline in trading revenue.
• Dubai Financial Market Co. Q2 profit tumbled 80% to 25.9 million U.A.E. dirhams ($7M).
• Embattled BP Chief Hayward to depart, Robert Dudley to succeed.

Earlier, we reported the Euribor jumped in response to a stress test than now is perceived as fraud by virtually everyone. We also expected some moderate reconfirmation in the Libor market. Sure enough, the last nail in the coffin of Eurozone credibility came from the 3 month Libor, which spike by 0.2 basis points to 0.82313%, the highest since August 21, 2009. Interbank lending in Europe just give JC Trichet and the rest of the propaganda goon squad the middle finger. All else is smoke and mirrors. And since the overnight index swap (OIS) rate dropped marginally, the LIBOR-OIS spread jumped by 0.538 bps to 26 basis points.

Morgan's Huw van Steenis shares his team's view on the "stress test" catalyst that is supposed to finally put ever-bullish MS in the money, and diffuse the pent up rage of its client base for losing it billions with all those short bond recommendations. The MS report has some quite objective observations: "Given the size of the fiscal and banking sector problems in Europe and elsewhere, a quick and easy solution is unlikely. However, we think a circuit breaker, such as a restructuring and recapitalisation of the banking system, is needed because unlimited liquidity provision by the ECB does not get to the root of the problem. In our view, for the recovery to get onto solid ground both financial and fiscal stability need to be restored equally. The sovereign debt crisis has shown how closely intertwined financial and fiscal stability are. In our view, Europe has been making good progress in mapping out how it intends to restore sustainable budget positions. But there are still concerns amongst investors about financial stability. In this context the stress test is key." Yet unfortunately, as expected, the conclusions are that all is well, despite the test obtaining largely different and far stronger conclusions than even MS' internal pre-testing setup. Nonetheless, a good one document summary of all the findings of the test together with some in depth commentary for those who just need that upside catalyst.

On a day (and week) when every European TV station is and will be blaring how safe Europe once again is because the Rock said so, and to ignore the liquidity bogeyman in the closet, the market has once again spoken. The result: benchmark 3 Month Euribor is wider at 0.889% versus 0.885% previously. We will bring you 3 Month European Libor as soon as we get it: somehow we doubt a massive contraction in those particular rates either. All those expecting that the European liquidity market would unlock overnight with the farce finally over, are in for a disappointment. And unlike their US equivalents, which trade on nothing but machine language momentum, European stocks, on a day when European banks passed their dodecatuple secret probation with flying colors, are flat to down. Looks like even an perfectly inefficient market wont fall for the same Geithneresque ruse twice in a row.

RANsquawk European Morning Briefing - Stocks, Bonds, FX etc. – 26/07/10

Some late night observations courtesy of our liquidity providing overlords: Sky Net has morphed from "adding liquidity" in FNM, to Citi, to Amazon, to Intel, and following a massively overcrowded computerized shindig where every outfit's two bit amateur algo has crashed the party, is now actively managing the price of corn. Behold high frequency trading in September corn futures. But don't call it churning - therobots are. adding. liquidity. When JPM decides to add some computerized luvin' to PM fixings, look for the Hurst exponent in gold to go from 0.5 to around 666, as gold microvolatility makes widows and orphans out of the families of precious metals traders.

Markets rise when the preponderance of participants are buyers, and fall when the preponderance of participants are sellers. One of the key ways to anticipate the pendulum swings of participant behavior, and therefore price behavior, is to evaluate sentiment. Sentiment, more than fundamentals or technical analysis, trumps everything. When too many players are on the same side of a trade they eventually find themselves in a crowded position where most everyone around them has the same motivation – to reverse their position when the tide changes. Little by little, as participants slip out the back door by changing the bias of their position, the pendulum of price swings more sharply against the remaining herd in the crowded trade. Inevitably, something akin to panic sets into the herd as they begin to aggressively reverse their position for financial survival. The primary ingredient that causes price to catapult, up or down, is sentiment oscillation and capitalization from one sentiment extreme to the other. An astute market technician, investor or trader will look for those flash points where conditions are ripe for a market reversal. It sounds easy to do, but remember that when the analysis is very convincing, the preponderance of market participants will disagree. It seems that to be effective at market timing one needs to listen not to what others are saying, but to what the sentiment data represents as truth. With these thoughts as a foreword, let’s see what the current sentiment situation is for the SP-500.