Archive - Jul 2010

When stocks go straight up as they did in the last 20 minutes of trading (and pretty much all day, see chart) all sorts of broken things happen. In this particular case, the AUDJPY - ES correlation is presenting a clear opportunity to pick almost 10 ES points. For all who enjoy making virtually guaranteed money (10 out of 10 past decoupling has converged), the time has come to short ES and to buy the AUDJPY, which is in fact the leading indicator of the carry-driven secondary dataset known as the equity market.Also, please ignore the market's straight vertical line all day. That's certainly part of Bernanke's new normal.

Melissa Francis and Amanda Drury had a decidedly different look today. As usual, the optimistic Alpha Dog hedge fund traders reacted to the "new and different" look and assumed the "worst must be over". They responded by immediately buying stocks in a near panic. Even the little old ladies got fed up with 1.80% Treasury yields and went wild buying utilities.

Remember the Fed economist who said all bloggers are idiots, and only Ph.D's are smart enough to understand why the market can go up 4% on double dip depression news? Neither do we. But the following obliteration of the Richmond Fed's errand boy by GMO's James Montier, who is once again back to posting on his blog http://behaviouralinvesting.blogspot.com, is completely worth the read.

There are probably a few words available to describe just how "forward looking" the market is, as it has just taken out the horrendous June 29 NFP number, and the plethora of ISM and other assorted negative news since then. Fundamentals don't matter, just carry and leverage. With alpha now dead, we hope at least massively leveraged beta plays continue to provide some benefits to whoever is left trading.

The UBS Private Wealth Management team seems to think so. In a report titled "Franc loans might become a threat for Switzerland" the UBS economists analyze the impact of the surging EURCHF (last at 1.33, not to mention the USDCHF which is quickly going to parity), combined with the over $500 billion in Swiss franc loans lent abroad to banks and non-banks, that "The franc's rapid appreciation remains painful for foreign borrowers, as the amount of their franc-denominated debt has increased remarkably in their local currencies. The franc would receive further support if borrowers were to switch their loans into local currencies at some point in the future, as they would have to unwind their franc short positions." In other words, should a positive feedback loop be activated, the already dramatic squeeze in the covering of CHF positions will accelerate dramatically, likely pushing the CHF far beyond parity and causing major pain for both the local Swiss manufacturing industry and offshore lenders who join the unwind party late. Quote UBS: "At some point, franc borrowers might realize that the franc might stay strong for longer, which could induce them to switch their loans. While the franc is affected by many factors, should the borrowers of franc loans at some point decide to switch their loans into local currencies, it could support the franc further, as the borrowers have to unwind their franc short positions. We therefore conclude that the large amount of outstanding Swiss franc loans to foreign countries remains a threat for the Swiss economy."

It's hard to ignore the data that is coming out. There is a definite slowing trend in the economy. It supports my forecasts of a slowdown coming in the second half of this year. Expect the data to be its normal uneven trend, but it is clear that the economy is slowing. Here I show you what I'm seeing.

The Council of European Banking Supervisors has released the much anticipated detail on the stress test farce, whose results are to be announced on July 23. On the most relevant topic of sovereign impact, here is what the press release says: "The sovereign risk shock in the EU represents a deterioration of market conditions as compared to the situation observed in early May 2010." In other words there is no detail whatsoever and once again it is more than likely that not even JPM's downside expectation of a 25% haircut on Greek bonds will be met. Since "early May" excludes those days right after the $1 trillion bailout package, when spreads actually got even worse, to say that this will be an objective test is, as usual, a Tim Geithner inspired joke. Interestingly, the CEBS will include Spain's Cajas clusterfuck in the test, which puts the last nail in the coffin of any credibility this test may have had, as an objective analysis will promptly result in the shuttering of over 40% of Spanish lenders, as we discussed previously. As for the core assumption: "On aggregate, the adverse scenario assumes a 3 percentage point deviation of GDP for the EU compared to the European Commission’s forecasts over the two-year time horizon" we wonder whether this will also account for the fudged GDP numbers previously presented to Eurostat, courtesy of Goldman Sachs' financial innovation division.

It's hot. An old story.

The Secretary-General of the OECD Angel Gurria shares some surprisingly candid observations on the suddenly overpopular debate over austerity versus perpetual stimulus, saying it does not have to be one or the other, a choice he calls a "false dilemma" but instead you need one and the other, to be able to achieve any form of economic recovery. "Today's numbers are absolutely unsustainable, not only are they going to spook the market, they are simply not financeable. Whether the market is spooked or not it is almost secondary, you just can not hold it up for too long because you won't be able to finance these deficits, and they are creating a confidence crisis also." We hope that part about the market being "held up" is merely a Freudian slip, because we know that nobody does that - after all the market finds its natural level of supply and demand, and any purported "holding up" would involve central bank intervention... and we all know that's pure conspiracy theory. As to the solution: "Spain and Greece and Portugal are countries which have to start an earlier process of adjustment. It's not going to happen overnight. There has to be a clear path of where they are going. When you are cutting budgets, you have to cut those things that would not affect growth like education, research and development, the things that will move the economies in the years to come." On how to convince Germans to stop saving and start spending: "No reason why one should do that, and there is no possibility of success. Germans are reacting to a situation that was unsustainable. Medium and long-term there is no way that the speed and accumulation of debt can be sustained." And yes, "short term growth" will inevitably be impacted. Gurria can only hope the markets would cut these countries some slack when growth comes in far below expected... Which it won't.

I've written blog posts calling government officials liars when they said the Greek crisis was over, written posts calling for inevitable haircuts while the bulls said the Greek crisis was overblown, and even put up with BS EU stress tests that won't even account for the possibility of default - or its economic cousin, restructuring. Well, how ironic that the EU puts out the criteria for its banks stress tests sans default/restructuring scenarios today, the same day that Greece releases a press release of a broad restructuring of its hospital debt. Hmmmm.... As realistic as platinum frog farts!

There is a simple reason why all hedge funds with "relative value" or "deep value" in their names will soon be looking to change their moniker: stock picking no longer works, with the only strategy that matters, as implied correlation is now at the second highest level in history, is picking the time to leverage beta exposure and riding the broader market up or down. Alpha is now dead. as Barclay's head of quantitative strategies Matt Rothman says, "Indeed, it was hard to be a stock picker in the market for the last two months as the last two months have seen historically low levels of dispersion in stock returns. As shown in Figure 2, the cross-sectional correlation across all stocks in the market was at its second highest level last month (measured back to July 1950) and recorded its third highest level this month; there have never been to two months back-to-back with anything approaching these levels. To belabor the obvious and put this in perspective, current levels of correlation are higher than in October 1987, anytime during the Fall of 2008, either the run-up or the bursting of the Internet Bubble, or after 9/11. The reason this matters to all stock pickers — fundamental or
quantitative — is because with stock return dispersions at all-time
lows, it is extraordinarily difficult to be picking stocks." In other words, the danger of yet another systemic meltdown (or up), now that everyone is on the same side of the trade (and whoever isn't, is getting steamrolled), is higher than ever in history, up to and including May 6. And he, who has the greatest access to (risk free) leverage wins. Therefore look for all the "investment bank" hedge funds with prop desks and discount window access to once again post record trading days for the current and all future quarters until even they blow themselves up eventually and the Fed can do nothing to prevent it.

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

Just as Europe was happily gloating that it managed to push markets up with the second stress test rumor of a Greek debt haircut of 16-17%, here comes JPM's Francesca Tondi dashing European bank regulators' hope, and stating that anything below 30% on Greek bonds, 20% on Portugal, 15% on Spain, and 10% on Italy, Ireland and Hungary (in the base case scenario), is a joke. Below is the sensitivity table that serves as the framework for JPM's stress test. As can be seen, even the optimistic scenario is far more draconian than what Europe is planning on using, thereby discrediting the test, whose assumptions are now likely going to be revised yet again to be seen as anything remotely credible.

The latest targeted leak in the European "stress" tests is that according to German bank sources, the discount on Greek debt will be in the 16-17% ballpark. This compares to an earlier rumor leak of a 10% discount on Greek debt which however did not sufficiently spike the market, leading to rumor #2 which so far has done a good job at pushing the AUDJPY (aka stocks) higher. The quid pro quo however, is to take not only German but now French bonds, will be out of the "stressed" picture. As Reuters reports: "The presumed markdown applied to French sovereign bonds will be 0.7 percent, one of the sources, both of which are based in Germany, added. "German sovereign bonds will not be stressed," both sources confirmed." Of course, with Greek bonds being stressed to market (which is where the discount actually implies they are tested), French bonds would would suffer a far greater markdown than 0.7%. But then again, the EU has already bought up a ton of Greek bonds, and little if any French. Can't have the bank pick and choose which country to bail out now, can it.

Now that it has been made clear that the BIS and its member banks engage in gold swaps, which imply that gold price volatility has to be kept to a minimum, thus inviting the opportunity for, gasp, manipulation, Europe, once again seeing spiking commercial paper rates (yeah, that whole myth about dramatically better money markets was vastly exaggerated), was scratching its head earlier today as to what is a good safe haven for capital. And judging by the EURCHF chart below the answer soon presented itself. After getting sold in droves by the SNB last night as the Swiss Bank was intervening in the pair (contrary to posturing otherwise), today the market is once again testing the bank's resolve,to load up even more euros on its already burgeoning balance sheet.