Archive - Dec 6, 2011

The schizophrenia continues, this time as Goldman lays out the "Failure Frday" hypothesis in an attempt to incite some waterfalling risk off-taking, leading to escalating interventions by domestic governments (all of which captured just for this eventuality) and culmiating with the unleashing of the puppet head of the ECB, but not before GS has had the opportunity to sequester some assets on the cheap. We have rehashed this outlook so many times we won't repeat it again, suffice to say: those who want to know what happens, need merely to look at what happened in 2008, and who ended up gaining the most. In the meantime, this is what Goldman expects of the "summit to end all summits" - "Our bottom line is the following: the ‘clean’ solutions that would have seen clear resolution of that impasse appear to have been ruled out following Monday’s German/French meeting. That makes something altogether fuzzier likely to emerge from Friday, and this risks falling short of market expectations. The sequencing that we believe is being followed will be delayed further into the new year." Said otherwise - yet another failure. Which confirms that the Christmas rally over the past week has been nothing but. And all such "career risk" mitigation exercises in lemmingry, end in the same way: with someone defecting first.

Three months ago, Zero Hedge presented the first of many narratives that started the thread of explaining the "unmitigated disaster" that would ensue should the Euro break up, which in the words of authors Stephane Deo and Larry Hatheway, would leads to such mutually assured destruction outcomes as complete bank failure and/or civil war or far worse. Because if there is one thing the banks have learned in the aftermath of Hank Paulson, is that scaremongering when bonuses are at stake is the only to get taxpayer money to fund exorbitant lifestyles.,, Today, Larry Hataway has released yet another sequel to the original piece, focusing on this so very critical week for Europe, which as Olli Rehn said, must find a solution by Friday or see the EU "disintegrate", in which the vivid imagery, loud warnings and level of destruction are even greater than before. In other words, Europe has 4 more days, something which S&P tried it best to remind Europe of, as the alternative is "or else." And here comes UBS to remind everyone that anything but a "fix" to a system that was broken from the very beginning, would be a catastrophe, captured probably the best in Hatheway's recommendations of assets to be bought as a hedge to a Euro collapse: "I suppose there might be some assets worthy of consideration—precious metals, for example. But other metals would make wise investments, too. Among them tinned goods and small calibre weapons." But even that is nothing compared to the kicker: "Break-up runs the risk of becoming one wretched scenario. Sadly, however, it can’t be ruled out, just as it would have been improper to rule out the horrors of the first half of the 20th century before they happened." And there you have it: a reversion by Europe to the perfectly stable system from a decade ago, is now somehow supposed to result in World War. And with that the global banking cartel has official jumped the shark, just like the FT's latest rumor earlier today did the same by indicating that the well of European "bailout" ideas has officially run dry.

Prime ministers get replaced every 8 to 15 months. Bureaucrats and corporate interests stay. Public debt turns into a mushroom cloud. Is it finally time to bet against Japan Inc.?

It appears 'It Is On' as Bloomberg offers its well-reasoned and eloquent response to Mr. Bernanke's 'egregious errors' note to Congress. Without naming names, Bernanke makes a number of points regarding the reporting of the secret bailout terms and profiteering, which we discussed here, and now Bloomberg comes 'Over-The-Top' Stallone-style with a much more fine-toothed refutation of Bernanke's refutation of their reporting. "Bloomberg stands by its reporting" and offers a point-by-point take-down of the Fed-head's perspectives.

One of the most frequently-used phrases we hear is 'The Markets Are Broken' and while there are many anecdotal events almost every day in and across asset classes, there is more to it than sudden 'flash-crashes' or Italian bond levitation. The world is increasingly dystopian and Citigroup's credit group recently noted, as part of a pitch for structured credit products, the most critical aspects of our broken environment. While not quite as memorable as the five D's of Dodgeball; the five D's of Dystopian markets are decidely less comical.

While much has been said about the vagaries in the European repo market elsewhere, the truth is that the intraday variations of assorted daily metrics thereof indicate three simple things: a scarcity of quality assets that can be pledged at various monetary institutions in exchange for cash or synthetic cash equivalents, a resulting lock up in interbank liquidity, and above all, a gradual freeze of the shadow banking system. As we have been demonstrating on a daily basis, we have experienced all three over the past several months, as the liquidity situation in Europe has gotten worse, morphing to lock ups in both repo and money markets. As a reminder, both repo and money markets (for a full list see here), are among the swing variables in shadow banking. And shadow banking is nothing more than a way to expand credit money while undergoing the three traditional banking "transformations" - those of maturity, liquidity and credit risk, although unlike traditional liabilities, these occur in the "shadow" or unregulated area of finance, interlocked between various institutions, which is why the Fed has historically expressed so much caution when it comes to discussing the latent threats in it. And the focus on repo while useful misses the forest for the trees, which is that not the repo market, but the entire shadow banking system in Europe is becoming unglued. What explains this? Two simple words, which form the foundation of modern finance - "risk" and "confidence", and in Europe both are virtually nil. Seen in this light, the unwind of the shadow system explains much: the inability of Germany to place bunds, the parking of cash with the ECB, the freezing of repo, the plunge in the currency basis swaps, the withdrawal of money markets, the blow out of various secured-unsecured lending indicators, etc. All of these fundamentally say the same thing: there is too much risk and not enough confidence, to rely on the abstraction that is shadow risk/maturity/and liquidity transformation. All this is easily comprehended. What is slightly more nuanced, is the activity of the ECB and especially the Bundesbank in the last few weeks, whereby as Perry Mehrling of Ineteconomics demonstrates, we may be experiencing the attempt by the last safe European central bank - Buba - to disintermediate itself from the slow motion trainwreck that is the European shadow banking (first) and then traditional banking collapse (second and last). Because as Lehman showed, it took the lock up of money markets - that stalwart of shadow liabilities - to push the system over the edge, and require a multi-trillion bailout from the true lender of last resort. The same thing is happening now in Europe. And the Bundesbank increasingly appears to want none of it.

My annual report on Social Security.

Equity and credit markets traded in a narrow range for much of the day - especially post the European close - only to swing violently up and down in the last hour on the back of FT rumors or a bigger bailout. Volume was notably lower than average though as ES sold off hard into the close, and picked up significantly higher as we crossed VWAP, with the market closing well below that balance point. Broad risk assets were generally a little more positive this afternoon as the commodity sector saw decent outperformance all day (most notably Silver and Gold) but it was TSYs post-Europe sell-off (and EUR strength) that continues to ring the bell of repatriation flows. Today felt a lot like ES (the e-mini S&P 500 futures contract) was the tail of the CONTEXT dog with these 'TSY-EUR' flows having a significant impact. Credit indices in general tracked ES, though lagged its late day rally and sell-off, ending the day modestly outperforming equities (though this was likely a liquidity issue more than anything else). HYG once again outperformed supporting HY bond net buying as IG saw decent new issue volumes on the day. While broad assets are modestly supportive or risk appetite as we close, the divergence between VIX and Implied Correlation (which closed at two-week highs) raises an orange (maybe red) flag once again.

While it hardly comes as a surprise, Bloomberg last night reported that Italian banks are the culprits. The Top 5 Italian banks (which comprise 90% of the country's derivatives market) increased their net sold protection by an amazing 41% to the end of June, now standing at $24bn. Of course, there is no evidence of them selling protection on one another in a quid-pro-quo sense (a la Greece), but it seems the creation of carry out of thin air remains alive and well and given that every credit in the world is significantly wider no than it was on average through the first half of the year, we hesitate to guess at the MtM losses their trading desks are sitting on. What is even more incredible, and a topic we have covered vociferously, is the 13% rise in notional derivative amounts. We know full well, from every liquidity indicator, that USD funding is hard to come by for European banks which just makes us wonder, given the USD-denomination of European Sovereign CDS, how much easier it is to sell protection and gather USD cashflows, than to swap your EUR or stigmatize yourself with the ECB or Fed swap lines?

Despite the recent humiliating defeat for the TBTF bank proposal to establish debit fees, the bailed out banks are still somehow supposed to make money now that their prop trading desks can no longer mimic hedge funds and trade ahead of flow or on "expert network" inside information (and old school revenue generation like advisory and underwriting is just too much work). So what do they do? Why nickel and dime clients to death. As the following interactive graphic from the Pew Trust demonstrates, in a recent example where it was caught red-handed, Wells Fargo literally tried to nickel and dime a client (who subsequently sued) to death, by shifting the order of debit transactions in a way that maximized the penalty fee, ignoring the actual chronological order. In other words, banks have a "malicious" algorithm designed to maximize client pain, while ignoring actual sequence of events. The net result an overdraft balance that is 4 times higher than what it would have been if proper temporal sequence had been followed. And that is why banks are desperate to pickpocket their clients: because once news of such practices is made public, everyone should pull their money. That they still don't is quite incomprehensible.

Say what you want about him, but Bernie Madoff was a guy who knew how to keep the party going. For years, he ran one of the largest private-sector Ponzi schemes in history and always heeded the golden rule of financial scams: make sure your inflows are greater than your outflows. He was finally done in when redemptions exceeded new investments. He didn’t have enough cash to pay out investors, and he wasn’t able to scam more people into paying in to the scheme. As a result, Madoff finally had to admit that the whole thing was a total fraud. Governments around the world are in similar situations right now with their own public sector Ponzi schemes. Faced with failed auctions, declining demand, and rising yields, politicians are having to resort to desperate measures. Like any good scam artist, they’re appealing to the masses first; all over Europe, governments are sponsoring new marketing campaigns suggesting that it’s people’s patriotic duty to buy government debt.

"Fear is the mother of morality."-- Friedrich Nietzche; "Fear is the mother of Moron Hazard."--WilliamBanzai7

We would like to start a mine, mine, mine, buy em, take em, mine, mine, mine, lift the offer, mine, mine, and get me some more desk at a bank. If we understand the concept correctly, we could buy sovereign debt and be "promised" that it will never default.  And if we're a bank, we can fund that position at the ECB for almost free.  Why didn't they think of this before? They were really doing much better when people weren't speaking.  The reality is that they cannot guarantee that private investors won't have losses.  They can come up with enough capital and programs that demonstrates a sovereign will never default, but they haven't done that, and in fact are further than ever. We really thought they were making progress, that they had a script that could work.  Now we think they have once again proven they don't understand credit, they don't understand credit market concerns, and that they are back to grasping at straws.

Remember when everyone would dread the 3pm hour when the FT would mysteriously come up with some about to be discredited deus ex machina rumor? Those days are back, and this time the FT hits us, baby, one MOAR time:

• EU OFFICIALS WEIGH RUNNING TWO RESCUE FUNDS TOGETHER, FT SAYS
• EU WEIGHS RUNNING TWO RESCUE FUNDS, MORE IMF SUPPORT: FT
• EU WEIGHS GIVING ESM ACCESS TO ECB FUNDING, FT SAYS

In other words, Europe has now given up on nuances and has resorted to nuclear rumormongering: it is commingling all failed funds, adding the IMF, and promises to add Marsian capital as soon as said capital is discovered. That the EFSF was unable to raise €3 billion (and only did so with underwriters retaining half of the issued bonds) on its way to €1 trillion (let alone €2) remains irrelevant.

This idiocy confirms we have officially rached the beginning of the end.