Archive - Nov 30, 2011

In his latest letter to LPs, Kyle Bass of Hayman Capital Management, offers his tell-tale clarity on what may lie ahead for Europe and Japan. With his over-arching thesis of debt saturation becoming more plain to see around every corner, Bass bundles the simple (and somewhat unarguable) facts of quantitative analysis with a qualitative perspective on the cruel self-deception that we all see and read every day about Europe.

Whether it is Kahneman's "availability heuristic" (wherein participants assess the probability of an event based on whether relevant examples are cognitively "available"), the Pavlovian pro-cyclicality of thought, or the extraordinary delusions of groupthink, investors in today’s sovereign debt markets can't seem to envision the consequences of a default.

His Japanese scenario is no less convicted, as we have discussed a number of times, with the accelerant of this debt-bomb being the very-same European debacle and his time-frame for this is set to begin in the next few months.

UPDATE: HSBC China Manufacturing PMI prints at 47.7, deteriorating at fastest rate (and lowest level) in 32 Months

Suddenly this morning's RRR cut doesn't feel quite so much like China doing Europe a favor. Chinese Manufacturing PMI printed at a lower-than-expectations 49, signaling its first contraction (<50) since Feb 2009. As if it was really ever so, as clearly concerns were growing since we had the Flash PMIs earlier in the month. Across the board, sub-indices were weak with New Orders and New Export Orders falling significantly as the latter remains below 50 and Inventories rose significantly. Notably New Export Orders have now fallen the most over two months since Dec 2008.

It isn't avoidable

If anyone is still confused by what has transpired today, here is Peter Schiff explaining in simple words, why what happened "may be one of the most important economic events of the year" and what to do next: "Today’s unprecedented announcement by the world’s most powerful central banks was a loud and clear bell ringing to buy precious metals. The move, disguised as an attempt to help the fragile state of the global economy, is in reality a move to prop up failing banks in Europe and the US. By reducing interest rates paid for dollar swaps, central bankers are in effect increasing the quantity of global dollars in circulation. The result? The dollar will weaken, inflation will rise, and gold will soar. Gold was up more than $30 today, and the dollar got crushed. I urge you to take 7 minutes to watch the video I recorded exclusively for my subscribers a few hours ago. It explains, in plain language, what happened today – and what is the likely outcome for your portfolio. This may be one of the most important economic events of the year." And pardon Schiff's self-promotional piece at the end, but the truth is that he is essentially correct about what the actions means from a big picture perspective. Furthermore, as Goldman made all too clear, this is merely the beginning as more and more inflationary actions have to be undertaken by central banks to save banks from being crushed by untenable debt loads. Whether they succeed in overturning the deflationary tsunami is unknown. What is certain is that they will bring fiat currencies to the verge of viability (and beyond) in trying.

Naturally, if there was one party that would be disappointed by today's action, it would be Goldman Sachs: on one hand because it is nowhere near enough to actually fix anything, and on the other because it delayed the moment when the 2-3 European banks which we have been saying for over a week would keel over and die leaving a power vacuum for Goldman to fill, has just been delayed. As a result, Goldman dissatisfied note makes more than enough sense: "Up, up, and away for stocks after the coordinated ease this morning. USD funding just got cheaper, which is of course a good thing. But the difference between OIS + 50 and OIS + 100 isn’t enough to save anyone or solve everything. It’s the symbolism of policy-makers again acting in concert that I find most encouraging." But, and there is always a but: "Although there is the obvious counter: why act now – is there something lurking around the corner? Those are worries for tomorrow though." Indeed, and when the worries resurface, as they will, especially following the resumption in European record yielding auctions, which incidentally the Fed's action does nothing to fix, following France and Spain bond auctions. And who knows what else. Oh yes, Goldman just cut its GDP forecast for Europe from +0.1% to -0.8%: hello, recession, the very same catalyst which S&P said a month ago will be sufficient for it to downgrade France. As usual, Egan-Jones was way ahead of the crowd.

Hey, at least a handful of Ben's buddies will make a bundle ...

And now it is time for our favorite monthly chart-only newsletter, The PunchLine by Abe Gulkowitz, who unlike the momentum chasing crowd which has an attention span measured in inverse significant digits, and has a brokerage account (but endless monopoly money) that is even smaller courtesy of always being on the receiving end of a market which actually needs commission payments on both sides of those candle charts, sees well behind the headlines designed to sucker in the feeble minded twitter-traders, and presents it all with gorgeous, chartific clarity. And the only thing better than the insight of his hand-picked charts is the focus of his narrative, which speaks volumes without actually speaking volumes: "European banks are dumping government debt, deposits are draining from south European banks and a looming recession is aggravating the pain, fuelling doubts about the survival of the single currency in the European zone. Between the bookends of economic data points, rating agency actions, and political developments - - market gyrations are seriously affected by policy directions. A key consideration for any 2012 forecast is the impact of public policy on risk premiums and business confidence. Persistent fears of major policy missteps could come to a head at any time regarding the U.S. fiscal nightmare and Europe’s responses to the sovereign and banking crisis. One now needs to believe that the policy environment – both in the US and Europe – could serve as significant headwinds to growth in 2012."

The Fed is becoming a gigantic waste basket of bad assets. Waste baskets do not have infinite capacity. 

As the central bankers and political leaders of the 'supposedly-developed' world sit back in their chaise-longues sipping mojitos at a job-well-done for today's mindless rally on the back of a slightly lower cost of funds in a facility that already existed but was hardly utilized, perhaps they will cough a little at Nigel Farage's  (the cantankerously correct MEP from The UK) comments today. Describing the process of 'bribing' Croatia to join the EU as a 'bent, corrupt, and distorted' effort, he remarks that he has never seen this kind of pressure. It is remarkable, he notes in an undeniably intelligent-sounding English accent,  that after only 20 years out of the former Yugoslavia, after such a long period of seeking independence, they are now voting to rejoin a 'new Yugoslavia' - a failing political experiment. Perhaps, Van Rompuy and friends would be better spending the money on more mojitos for their friends at the Fed and PBOC?

Today's tremendous rally in equities was well supported by broad risk assets initially, but as financials took off this afternoon to end the month down only 4.8%, CONTEXT remained less exuberant. The 6.2% rally in financial stocks today was not so evident in corporate bond-land where we saw net-selling overall. Copper slipped well off its highs of the day but ended very well as Oil was only able to match USD weakness on the day while Gold and Silver outperformed (with the former touching $1750). VIX was a popular topic as it dropped below 30% but we note that implied correlation did not drop from the open suggesting macro-hedges remained more bid than underlying sentiment might suggest. IG credit outperformed (relatively speaking) which seemed more a squeeze move into the month-end close but HY's move was impressive as an early afternoon fade in HYG reverted to end at its highs. Equities and Credit ended back at 11/14-15 levels with IG and HY ahead of equity.

Fast forward to 2:08: "It is puzzling to some that Major General Zhang Zhaozhong, a professor from the Chinese National Defense University, said China will not hesitate to protect Iran even with a third World War... Professor Xia Ming: "Zhang Zhaozhong said that not hesitating to fight a third world war would be entirely for domestic political needs...." And don't forget Russia, which recently said it is preparing to retaliate against NATO and has put radar stations on combat alert: "Russia is another ally of Iran, with similar policy to that of China. Toward Iran." Watch, and please forward the entire video, for an explanation of how China is approaching the situation not only in Iran, but a perspective of how they view the western "threat", as well as what tensions they face domestically.

So much for engineered stock market "rallies" and global "bailouts" - per the latest ICI update, we can now confirm that no matter how or what the market does, retail investors have firmly decided that the ridiculous market volatility is simply too much for most, and have withdrawn another $3.7 billion from domestic equity funds, and have now taken out money for 14 straight weeks ($44 billion) since the US debt downgrade (but, but, the S&P barely lower), or 31 weeks ($130 billion) if one ignores the statistically irrelevant blip of a $715mm inflow on August 17. Perhaps instead of trying to fabricate a makeshift price for the SPX which nobody believes any more, the Fed should focus on moderating the insane volatility which is the primary reason preventing any normal investors from putting cash into stocks. And yes, $6.2 billion went into bonds, despite the record low yields. Said otherwise, retail investors have withdrawn $214 billion from domestic equity mutual funds since the beginning of 2010. Put a fork in stocks: America's infatuation with the stock market is officially over.

Whether its non-confirming volumeless rallies in stocks, hard-to-find collateral, sovereign risk, counterparty risk, USD funding stress, GDP growth dislocations, EM credit dispersion, or equity market outperformance, Nomura's EEMEA FX and Fixed Income team has a little for everyone in today's '10 Things We Did Not Know'. Today's obvious risk-on knee-jerk-response rally is perhaps not so broadly supported even as Ben's promise trumps a totally failed Grand Plan.

Following today's unprecedented POMO failure due to "system difficulties" (one would hope the Fed's POMO machine does not start and stop every time someone pulls the plug from the socket), Brian Sack's team (not to be confused with the PWG team of Eric Mindich) had to reschedule the literally failed auction. As it turns out, the first opportunity to sell $8-$8.75 billion in 2013 bonds is on December 2. And unlike the December 21 "reverse" POMO which is due to take place at 1:15pm, the rescheduled bond sale will instead occur at its usual time of 10:15-11:00am. Ironically, this is also the time when the Fed will be buying $2.25-$2.75 billion in 2036-2041 bonds. In other words, for the first time ever on Friday the Fed will be literally selling and buying bonds (although selling 4 times more than buying) at the same time. If this is not the pinnacle of deranged monetary policy which does not even attempt to offset monetization by a few hours, then nothing ever can be.