Archive - Jul 2011

Not only is the financial system more leveraged than during the Tech bubble, but mutual funds are more heavily invested than at any time in the last 40+ years. To say that the potential for a full-scale market collapse is high would be a gross understatement. Should the market begin to crater, the margin calls (when an investor has to put up more capital to cover a losing position that was bought using borrowed money) could be absolutely enormous.

A month ago we presented the strange case of the fractal algo gone amok while trading natural gas in a low volume after hours session. We expected that we would see this surreal trading pattern in other commodities shortly, although little did we know that it would impact the most important of them all, as soon as month later, and during peak trading hours. As the chart of CL EQ1 below shows, not even crude is safe any more from this aberrant trading algorithm which has now infected, it is safe to say, virtually every product. If NYSE Boerse's Duncan Niederauer is really confused about what is causing retail investors to depart in droves out of pure disgust with what are terminally manipulated markets (and not just stocks), we hope this chart provide at least a few clues.

Now, you’d think that if they spent so much money building a station this large, they would be expecting hundreds of trains steaming in and out at all hours of the day. Not by long shot. There was only one train at the platforms. Mine. It was the same zombie movie theme– areas the size of multiple football fields with hardly any passengers standing around. And yet, throughout the entire station over all three levels was expensive, high quality marble tiles and artistic finishings, all polished to a mirrored shine. Guangzhou South Station is truly a monument to excess, exemplifying China’s ruinous “build it and they will come” attitude. Frankly, the whole episode reminded me of Bangkok and Hong Kong airports during the SARS epidemic back in 2003. I observed this firsthand– passenger traffic cratered because most people were scared silly of catching the deadly virus, and major airports were practically empty. Similarly, it’s what you would expect Grand Central Station to look like after a flesh-eating virus outbreak.

As everyone who follows earnings seasons knows all too well, one of the traditional games companies play with sellside research analysts is to push earnings estimates lower just ahead of earnings announcement only to beat by the thinnest of margins, setting off a buying rally in the stock that more than offsets the gradual decline it may have experienced in the preceding run down. This observation is one half of Albert Edwards' note to client from this morning. He says: "It’s that surreal time of the quarter, just ahead of the reporting season, when US companies cajole compliant analysts into reducing their profit forecasts so that on the day the company can record a positive earnings surprise. Companies place so much store on beating analysts’ estimates that they play this ridiculous game of guiding down analysts numbers in the weeks or even days ahead of the announcement, only to beat depressed forecasts by a penny on the day (see chart below). The angle in the press and in analysts’ reports is then that this constitutes ‘good news’ despite, more often than not the outturn undershooting the market estimates of only a few weeks previous. Nuts!" The other half focuses on how this particular earnings season may be different, and why unlike previously, earnings downgrades may be for real this time: "We show that in contrast to expectations of a second half recovery, economic leading indicators are actually signalling the reverse, as is our favoured measure of analyst optimism. Hence the recent spate of profit warnings – which have resulted in a deeper than normal round of downgrades – may be the beginning of something far more undermining to equity prices over the next six months." So is this time, especially in the absence of the artificial boost to everything that is QE, any different? With earning season imminent, we will finally find out just how well the corporate sector (not having represented the actual economy for a long time) can stand on its own in the absence of monetary fiscal and stimulus for the first time in years.

Yesterday I laid out why the Status Quo is financially unsustainable in The Promises That Cannot Be Kept. The unavoidable consequence of that is the the nation will experience a Great Reset in which the promises of the Savior State are relinquished, either voluntarily or involuntarily. As I discussed in July 4, 2011: The Cycle of Dependency and the Atrophy of Self-Reliance, our reliance on the Savior State has sapped our will and confidence, and hollowed out communities that have become dependent on the Savior State and its quasi-private partners, the corporate cartels of banking, defense, healthcare and so on. The Great Reset will thus be a great shock to everyone who has grown dependent on Big Government and global Corporate America. An unprecedented array of interconnected trends are converging that will force a Reset not just in the economy but in the American society and culture.

No matter what financial engineering scheme you attempt to wrap around it, no matter what socio-political financial nomenclature you attempt to drape it in, and no matter how far you attempt to kick said can down the road in a "delay and pray" tactic of pushing the inevitable collapse past your particular tenure at the helm, the only way out of this is the recognition of capital destruction, AKA Default!

More crime and punishment. The recent phonehacking scandal in the UK has just claimed its first victim: Rupert Murdoch's News Corporation will close its tabloid News of the World after this Sunday's edition, as a result of an escalating phone hacking scandal, James Murdoch said on Thursday. "The News of the World is in the business of holding others to account," the deputy chief operating officer of News Corporation told staff. "But it failed when it came to itself." Revenues from final edition of News of the World this weekend will go to good causes, James Murdoch says in statement

A snapshot of the US Afternoon Briefing covering Stocks, Bonds, FX, etc.

Market Recaps to help improve your Trading and Global knowledge

America's toothless regulators strike again. JPM, which recently got away virtually scott free with an identical settlement on CDO security fraud that dragged Goldman stock for months back in 2010, has once again exposed its "most favored fraud" status with America's regulators after Reuters announced that the firm will settle a charges of a 6 year long bid-rigging fraud in municipal securities with the SEC... for the princely sum of $35 million.

There has been much discussion lately about whether the US middle class is being unfairly penalized and carrying the burden of a tax regime that benefits the uber-wealthy. While that may certainly be the case on some statistical basis, especially if a literal handful of people account for the bulk of the income, thus skewing the median and the mean representation (a topic extensively analyzed in Nassim Taleb's Black Swan), below we present two charts that come straight from the IRS which show that talk of "no shared sacrifice" is largely unfounded. The first chart looks at the effective tax rate by income cohort; the second, and far more dramatic hockeystick chart, demonstrates the number of people paying no income tax. The results are, to say the least, quite surprising.

Last week it was discovered that the means by which various big banks are dealing with the Option ARM cliff is by enforcing outright mortgage debt forgiveness, in some cases as large as 50% of the total principal. Which is why it should come as no surprise that the administration, in dealing with the lack of an unemployment cliff, has decided to extend foreclosure-free living for unemployed homeowners from a few months to a year. From USA Today: "The administration today will announce that two programs providing unemployed homeowners a few months' forbearance on their mortgages will be extended to 12 months, said three administration officials speaking anonymously because the program has not been announced. Thousands of homeowners could benefit from the additional time, although not all jobless homeowners will be eligible. The action is being taken as part of the administration's effort to help prevent foreclosures while unemployment remains above 9% and the economy struggles to rebound." What would be great if in addition to such openly socialist policies the administration would enforce the implementation of sinking funds for said unemployed workers, who instead of taking unemployment benefits from the government and converting it into less than edible iPads, would actually set aside money for that eventual mortgage payment. Of course that will never happen: after all why redirect freshly issued fiat from being recycled into the economy and do the responsible thing when nobody in America expects to pay their mortgage payments ever again. And some wonder why retail sales in June came as blistering as they did. Simple: when the US consumer no longer has to spend any money on the biggest traditional use of capital, housing, the alternative is everything else. And for those attempting to figure out just how this is deflationary (for everything but housing of course, but that's one deflation that will only hit the pocket of Uncle Sam), we would kindly request an explanation as well when someone has an answer.

With insolvent governments across the world preparing to tax the living daylight out of each and every profitable "externality", also known as any industry with abnormal profits, it was only a matter of time before the perpetual laggard, Africa, caught on, only in this case it is implementing "excise taxes" first. Bloomberg reports: "African countries are moving to grab a bigger slice of their commodity wealth as rivalry for the world’s remaining reserves of iron ore, uranium and gold sap the bargaining power of companies such as Anglo American Plc. Tanzania’s proposal to study a so-called super tax on mines sent African Barrick Gold Plc, the East African nation’s biggest producer of the metal, to a record low in June. Ghana, Namibia, Guinea, Uganda, Mozambique and Gabon also are acting to increase their share of profits from mining." Translation: as the OPEC oil cartel dies with Saudi Arabia unable to balance its fealty to the US, and specifically Obama's reelection chances, with its requirement to act as a monopolist, another one is born, and one whose cartel behavior will see commodity prices surge as soon as the market realizes that producers are forced to pass on incremental taxes to end consumers. Ironically, what will be the West's loss, is about to become a windfall for the developing economies who are doing all they can to stock up their own commodity reserves, further shifting the balance of power from the US to emerging markets.

We cannot bail out Earth unless...

The Governing Council of the European Central Bank (ECB) has decided to suspend the application of the minimum credit rating threshold in the collateral eligibility requirements for the purposes of the Eurosystem’s credit operations in the case of marketable debt instruments issued or guaranteed by the Portuguese government. This suspension will be maintained until further notice... The suspension applies to all outstanding and new marketable debt instruments issued or guaranteed by the Portuguese government.

While train wrecks make great movie scenes, in the real world, there isn't going to be a massive debt derailment unless you give speculators and ratings agencies free reign...