Archive - Jul 2010

In the most surprising news of the weekend (so far), the IMF and the EU effectively suspended Hungary's access to the remaining funds in a $25 billion rescue loan package created in 2008 to prevent a financial meltdown of the country. The timing of this development is most extraordinary, as only a month ago Hungary served as ground zero for yet another scare that pushed European sovereign bond spreads to new records. The reason given for this dramatic, and very destabilizing action is that the nation must "take tough action to meet targets for cutting its budget deficit." Ostensibly Greece continuing to lie about its own economic deterioration is a necessary and sufficient condition for escalating IMF lauding. Yet, with Europe set to announce results of its Stress Test kabuki next week, the last thing the continent needs is a real liquidity crisis (or the threat thereof) to counteract the smooth talking bureaucrats dead set into hypnotizing the union into "all is well" submission ("and when I snap my fingers, the debt-to-GDP ratio will be back to 10%"). To quote Portfolio.hu: "Brace yourself for Monday, folks!"

Is market volatility forewarning doom? Read on...

 I have not written articles in a few months, except for the one I wrote for the July issue of Institutional Investor magazine, on Japan (I’ll post a link once the magazine comes out)..  I am sure Freud, after spending a few minutes in my subconscious, would provide some disturbing explanations.  But as Freud said, sometimes a cigar is just a cigar.  I've just been enjoying summer with my family.  

In his op-ed dated June 30, Paul Krugman declares Iceland as a "post-crisis miracle". That is totally screaming for a rebuff considering even Greece vowed not to be the next Iceland.

Saturday rant on forecasters.

If you've been too busy to pay attention to the details, and if you're hoping that the financial reform bill which has just been passed will fix the economy, this essay will bring you up to date.

Zero Hedge recently posted several insightful pieces from Hinde Capital, among which the fund's presentation on the ECB's role as the European Commission's whore, and more recently, its presentation on Gold as the "currency of first resort" (recreated below). Last week, fund manager Ben Davies, who previously ran trading for RBS Greenwich Capital in London where he managed a macro portfolio, gave a must hear interview to King World News, in which Ben covers various in depth topics on the gold market and shares his views on "unimaginable price possibilities for the final culmination of the gold bull." Among the things covered are the Andrew Maguire whitsleblower case, David Einhorn's transition from paper to physical gold storage (he notes the storage and indemnification risk), on whether the US government actually owns the hold it represents to holding (noting the demonstrative busting of the very unimpressive Russian spy ring), Russian gold reserve accumulation, where he detours into noting that while gold was 25% of Russian reserve holdings in 2000, it has since plunged to just 5% even as the country has been hoarding gold indicative of the massive currency creation across the world - as currency reserves have grown globally by $7.5 trillion. Ben touches upon the recently popularized concept by Jim Rickards, about an alternative currency basket (aka a new China-Russia-Germany axis) backed by actual physical resources (a modified version of the much dreaded gold standard): "there will be a standardization, a basket of currencies somewhere in the world, that will then become a competing reserve currency very quickly overnight." Most relevantly, Davies answers what he thinks the fair price of gold is: "between $10,000 and $15,000."

It appears that a Phibro/Buffett-inspired attempt to corner a commodity market is in progress. Amusingly (or not so much for chocolate mousse cake makers), it is occurring in the relatively compact and illiquid cocoa market, where the WSJ reports ten brokers (mainly BNP Paribas) took possession of more than 240,000 tons of cocoa, valued at as much as
$1 billion, leaving just 6,710 tons available for purchase. The Telegraph adds some further color: "The cocoa beans, which are sitting in warehouses either in The
Netherlands,
Hamburg, or closer to home in London, Liverpool or Humberside is
equivalent
to the entire supply of the commodity in Europe, and would fill more
than
five Titanics. They are worth £658 million." This is nothing less than an attempt to squeeze existing shorts, with an emphasis of the on the run, July contract. Indeed, the backwardation between July and September has surged to 11%, even as the settlement price on the continuous front-month, closing at $3,165, approaches all time highs: "Thursday, cocoa for July delivery settled at £2,732 ($4,221) a metric
ton. Friday, the new front-month contract, for September delivery, rose
1% to £2,445 a metric ton." And that's not all: "Already, cocoa for September delivery is trading at a big premium to
December cocoa, sparking talk that another run on inventories may occur
when the September contract expires." In other words, with half of America beckoning diabetes with open arms, a rather sharp bout of inflation is about to be felt for all those whose daily calorie intake is over 2,000. Incidentally, this is precisely the kind of action that would happen if and when someone had the urge to pull a Buffett and send the price of gold and silver through the roof (and destroy JPM and the LBMA in a matter of hours).

David AJ Cohen replacement, DK, continues to be shocked, shocked, by the market's behavior: "Arguably the S&P 500’s recent 7% rise heading  into earnings season largely discounted much of the earnings upside. But it is not a positive sign when firms such as the  Industrial firm W.W. Grainger (GWW) posts strong results with June US organic sales up 12% year/year and July tracking in-line with June so far and the shares close essentially flat on the week." He explains this "inconsistency" as follows: "As noted, investors are intensely focused on the profit outlook for 2011. Investors are currently worried about the trajectory of US economic growth in 2H 2010 and the possibility of a double dip recession in 2011.  Scrutiny is being directed to how various economic scenarios will affect 2011 EPS." At the end of the day Kostin tries to remain cool, calm and collected, and throws out the zinger that he sees nearly $100 EPS in 2011 in a time when even Goldman admits GDP growth getting us there would be 1.5% in H2 2010 and 2.5% in 2011. Good luck. Also included are the usual plethora of pretty charts.

Beware of "enhanced pension transfer value", it's just another gimmick to screw pensioners and plan members out of a safe retirement.

It's a testament to the odd world in which we live that when a Wall Street firm pays a $550 million fine by conceding negligence in how it dealt with clients, its stock surges, adding billions of dollars in market value for the firm's shareholders. But that's what's happening to Goldman Sachs, as it reached its long awaited settlement with the Securities and Exchange Commission over how it sold a basket of mortgage related debt to investors in 2007. Back when the SEC brought the case, the conventional wisdom on Wall Street and the financial media was that Goldman didn't have to settle -- the case was weak and Goldman is, after all, Goldman. Now that Goldman has indeed settled, the news is being spun, again mostly by the financial media, that the deal with the SEC was a victory for Goldman's CEO Lloyd Blankfein, who survived the investigation largely unscathed, paying a measly $550 million to the government (equivalent to a few days trading gains at Goldman) and without having to give up any power, such as relinquishing his role as chairman of the board, as senior executives both inside Goldman and at competing firms believed would be part of any settlement. Well, if history is any guide, Blankfein may not go tomorrow, or even next month, but sometime in 2011, Blankfein will at the very least no longer be chairman of Goldman, and may also be forced out of the firm altogether. - Charlie Gasparino

Here's a head scratcher: as everyone knows from elementary chemistry courses, gold is the most inert metal in the world - it does not rust, nor corrode. Yet this is precisely what Russian commercial precious metal trading company, International Reserve Payment System, discovered on thousands of (allegedly) 999 gold coins "St George" (pictured insert) issued by the Central Russian Bank. The serendipitous discovery occurred after various clients of the company had requested that their gold be stored not in a safe, but in a far more secure place: "buried under an oak tree." As the website of IRPS president German Sterligoff notes: once buried, "the coins began to oxidize under the influence of moisture." And hence the headscratcher: nowhere in history (that we know of) does 999, and even 925 gold, oxidize, rust, stain, spot or form patinas, under any conditions. Furthermore, as IRPS discovered, Sberbank of Russia released an internal memorandum ordering the purchase of the defective coins with the spotted appearance. Sterligoff concludes: "It should be noted that the weight and density of the rusty coins coincide with the characteristics of gold that would be expected after after conventional testing methods would reveal. We think that the experts will be interesting to determine the nature of this phenomenon." So just how "real" is 999 gold after all, either in Russia or anywhere else?

Oil prices were lower on Friday, as the complex posted its third consecutive day lower. Tellingly, though, the losses over Wednesday, Thursday and Friday were not as large – combined – as the gains posted on Tuesday. Crude oil prices lost $1.14 a barrel over the final three days of the week, but had gained $2.20/bbl on Tuesday. Curiously, in an odd symmetry, crude oil also had lost $1.14 on Monday, leaving it a net loser of $0.08 on the week, dropping four out of five trading days. The biggest factor at the end of the week was the economy and its leading barometer, the stock market. The DJIA dropped 261.41 to 10,097.90 on Friday afternoon. - Cameron Hanover

Spreads closed considerably wider today, with the biggest close-to-close widening since 6/22, as HY dramatically underperformed (pushing back above 600bps for the first time since 7/7) with the macro fears that we have been discussing crystallized and micro issues seem to be turning the same way.

Dismal confidence data along with more worrisome in-/de-flation data set the early tone and stocks and spreads pushed quickly lower (wider) out of the gate. The eight day rally that we have seen, and we have been vociferous in our view of what caused this and what was under the surface, was an exact mirror of the rally a month ago in credit. The swing from wides to tights from 6/10 to 6/21 (8 trading days) was 132 to 104.125 (which was the swing tights since 5/10's 95bps). The recent swing from 7/1 wides to 7/13 tights (126.755 to 106.5) was also over 8 trading days and the same pattern of index outperformance of intrinsics was very evident - which supports our thesis of macro hedge unwinds and underlying selling.

It is obvious by now that the macro economic picture is collapsing. The only good news is courtesy of the micro economy, specifically corporate earnings, where massive deleveraging and cash hoarding is the only thing keeping the economy alive at this point. Here is Goldman's David Kostin with a perspective on the Q2 earnings season: where we were, are and are going.

PAST: 2Q 2010 earnings season - We expect index-level 2Q 2010 earnings will positively surprise relative to bottom-up consensus expectations. Of the 37 companies already reported, 20 beat consensus EPS expectations by more than one standard
deviation.

PRESENT: 2010 full-year earnings outlook - Our full-year 2010 S&P 500 operating earnings forecast of $78 per share implies 4% potential negative revisions to current bottom-up consensus estimates of $82. GS Economics expects US GDP growth will slow to 1.5% annualized pace during 3Q and 4Q 2010, below the consensus estimates.

FUTURE: How various economic scenarios will affect - 2011 EPS Investors are intensely focused on the profit outlook for 2011 more than 2Q results. We provide sensitivity analysis around our 2011 EPS forecast of $93 adjusting assumptions for US real GDP growth.