Archive - Jan 2012

Remember when the world was watching the OAT-Bund spread with bated breath every day in late November until the Fed came in and reliquifed the world with a "half off blue light special" on the OIS+100 bps? Well, it's time to get your OAT tracker out, because quietly the OAT-Bund spread has blown out back to 145 bps, the widest it has been since late November when the world was ending, and before even the S&P announcement it would downgrade France (which incidentally we have not forgotten about - how is that "ASAP after the December 9 summit" thing going for you guys?). Whether the market is pricing in the downgrade or merely noticing that French banks were forced to dump a record amount of US debt in the last month as only Zero hedge has pointed out so far is unknown. What is known is that the Santa rally int eh EURUSD and for Europe lasted all of one day. Which is more than can be said about the Shanghai Composite: it is already down for the year on its first day of trading.

In his latest letter, Bill Gross, obviously for his own reasons, essentially channels Zero Hedge, and repeats everything we have been saying over the past 3 years. We'll take that as a compliment. Next thing you know he will convert the TRF into a gold-only physical fund in anticipation of the wrong-end of the "fat tail" hitting reality head on at full speed, and sending the entire house of centrally planned cards crashing down. "How many ways can you say “it’s different this time?” There’s “abnormal,” “subnormal,” “paranormal” and of course “new normal.” Mohamed El-Erian’s awakening phrase of several years past has virtually been adopted into the lexicon these days, but now it has an almost antiquated vapor to it that reflected calmer seas in 2011 as opposed to the possibility of a perfect storm in 2012. The New Normal as PIMCO and other economists would describe it was a world of muted western growth, high unemployment and relatively orderly delevering. Now we appear to be morphing into a world with much fatter tails, bordering on bimodal. It’s as if the Earth now has two moons instead of one and both are growing in size like a cancerous tumor that may threaten the financial tides, oceans and economic life as we have known it for the past half century. Welcome to 2012...For 2012, in the face of a delevering zero-bound interest rate world, investors must lower return expectations. 2–5% for stocks, bonds and commodities are expected long term returns for global financial markets that have been pushed to the zero bound, a world where substantial real price appreciation is getting close to mathematically improbable. Adjust your expectations, prepare for bimodal outcomes. It is different this time and will continue to be for a number of years. The New Normal is “Sub,” “Ab,” “Para” and then some. The financial markets and global economies are at great risk."

Not much to say here that has not been said daily for the past 2 weeks: the ECB's Deposit Facility use soared to a new all time high of €453 billion, and increase of €7 billion overnight and higher than, well, ever. The conclusions here are well known - there was no seasonality to the year end spike (because it is now next year), and the LTRO cash is not being used, as pessimistically expected here first. When the next LTRO prices on February 29, expect this number to peak at around €700 billion. And so LTRO by LTRO, the ECB will prefund the entire roughly €2-3 trillion capitalization shortfall in European banks but not before the 3rd 2012 European bank stress test tells us banks only need €0.69 billion in capital (and Dexia is fine despite its bankruptcy).

• Iowa result leads to GOP confusion (FT)
• Romney ekes out Iowa caucus victory (FT)
• MF Global sold assets to Goldman before collapse (Reuters)
• China’s Wen Jiacao sees ‘relatively difficult’ first quarter (Bloomberg)
• German Scandal Adds to Pressure on Merkel (WSJ)
• US mortgage demand fell at year-end, purchases sag (Reuters)
• Bank worries hit Europe stocks, euro down (Reuters)
• Martin Wolf: The 2012 recovery: handle with care (FT)
• SNB Chief’s Wife Defends Dollar Trades (Bloomberg)
• China Home Prices Slide Amid Reserve-Ratio Speculation (Bloomberg)

All eyes were on Germany this morning, where up to €5 billion in new 10 Year Bunds would hit the market, with many dreading a repeat of November's failed auction. As it turns out, the auction was a success in relative terms, with the government getting bids of €5.14 billion or more than the desired maximum - something it could not do two months ago. At the end of the day, Germany sold €4.06 billion and the resulting bid/cover ratio of 1.3 was well higher than the failed auction of November which came at  1.1, when a large amount of paper was retained and bids were not enough to cover the amount of paper on offer. Wednesday's auction is still below the average of 1.54 seen at 10-year sales in 2011 and a 19 percent retention rate is also above the 2011 average. In other words, as we suggested, the November failure has nothing to do with the Buba pushing the ECB into auction and everything to do with prevailing rates: the average yield dropped to 1.93 percent from 1.98 percent but the dwindling returns on offer due to the sharp rally in safe-haven assets as the euro zone debt crisis has intensified have led to lower than average demand at recent German auctions. And while the auction was better than expected it was still quite weak, which explains why the EURUSD is trading at overnight lows, back at around 1.2980. Not helping things is Hungary, which had a failed bond auction last week, and whose IMF rescue package is now in tatters. As a result the CDS on the country just hit an all time record 688 bps and moving much wider, while the forint dropped to record lows. As everyone knows if Hungary falls, which is now operating in a bailoutless vacuum, Austria will tumble promptly next. Next, leading to a blow out in Spanish-Bund spreads is a report in Spanish Expansion which said that Spain may request EU, IMF loans to help banks. In other words - this morning's news shows a potential risk reflaring in the European core, periphery and deep periphery which was immune until now. And finally, a UniCredit €7.5 billion new stock issue pricing at a whopping 43% discount to market price shows that fair value of actual demand for European banks is about half of where the artificially propped up price is (recall Europe still has a short selling ban)

Is idiosyncracy the substitute for a fledgling Sovereign Bond Market?  Including our recommendations for 2012

The once proud masters of the universe are going, going, gone, not with a bang, but a Billy Joel cover:

All I want to do is retire
Cause we're slowly fading
The machines are trading

All I want to do is retire
It's tough to be a broker
When the game is over

Simply put, "it does not last for ever" should be ringing in the ears of every investor in the world with more than a few millisecond return horizon. And neither do any and all chartalist conventions which rely on the articial construct of reserve permanence, for one simple reason - being artificial, means the theory is flawed from the beginning. But it is JPMorgan's Michael Cembalest who frames it the best, "I am reminded of the following remark from late MIT economist Rudiger Dornbusch: 'Crisis takes a much longer time coming than you think, and then it happens much faster than you would have thought.'"

Today, at one point in the afternoon, CNBC's Michelle Caruso Cabrera "broke" the new that according to the IIF and its always amusing chairman Charles Dallara, Greece is about a month away from a final, conclusive and this time definitive resolution with its creditors. He punctuated the news by saying "progress has been made." Naturally, a minor detail was overlooked, namely whether the haircut would be 50% as per the Second Bailout, First Amendment, or 75% as Germany is rumored to have demanded recently. Also ignored is any update on whether hedge fund Vega is proceeding to sue Greece or anyone else for cramming the fund down in what ISDA defined as a "consensual bankruptcy." But the main reason why we ignored this news completely, is that as the annotated chart below of Greek bond prices show, this is not the first time Dallara has had encouraging "news" to say about the bankruptcy process. In fact, if bondholders had merely sold the first time the Frenchman had opened his mouth, they would have saved about 70% of their money. Frankly at this point it no longer matter. The only catalyst now is March, by when Europe needs to finalize and fund the Greek bailout's €130 billion or else it is game over for the Eurozone.

Construction trends may be good for incumbents, but for homeowners, banks, and taxpayers, they're costly....

The buck stops here and the votes begin: starting at 7 pm CST, more than 100,000 voters - only a small percentage of the state's electorate - are expected to gather across the state at more than 800 public spots, and cast their votes for their GOP candidate with only three: Paul, Romney and for some unknown reason, Santorum expected to have a fighting changes. Results should begin coming in within a few hours. For those following the caucus for the only important reason: to see how Ron Paul does, or is allowed to do, we have the following live feeds for our readers' disposal.

2011 was an abysmal year for the global insurance industry, which had to cover yet another enormous increase in damages from natural disasters. Unknown to most casual observers is the fact that during the past few decades the frequency of weather-related disasters (floods, fires, storms) has been growing at a much faster pace than geological disasters (such as earthquakes). This spread between the two types of insurable losses has moved so strongly that it prompted Munich Re to note in a late 2010 letter that weather-related disasters due to wind have doubled and flooding events have tripled in frequency since 1980. The world now has to contend with a much higher degree of risk from weather and climate volatility, and this has broad-reaching implications. And critically, it has a particular impact on food.

While not news to Zero Hedge readers who knew about the final debt settlement of US debt about 10 days ahead of schedule, it is now official: according to the US Treasury, America has closed the books on 2011 with debt at an all time record $15,222,940,045,451.09. And, as was observed here first in all of the press, US debt to GDP is now officially over 100%, or 100.3% to be specific, a fact which the US government decided to delay exposing until the very end of the calendar year. We wonder, rhetorically, just how prominent of a talking point this historic event will be in any upcoming GOP primary debates. And yes, technically this number is greater than the debt ceiling but it excludes various accounting gimmicks. When accounting for those, the US has a debt ceiling buffer of... $14 billion, or one third the size of a typical bond auction.

The issue of Germany and its approach to ameliorating the overleveraged balance sheets of its southern neighbors will dictate the direction of sovereign spreads in 2012. The direction of sovereign spreads will also determine the direction of risk premium spreads in the leveraged finance markets— both bonds and loans. Defaults in the leveraged finance market will and should be an afterthought to the systemic risk factors inherent in sovereign and next-of-kin bank credit spreads. Therefore, forecasting default rates should take a backseat to a better understanding of German Kultur and thought that will shape the euro-zone sovereign finance structure in 2012 and beyond. The most recent European Union summit highlighted that we are left with some of the same issues that confronted the great empires prior to World War I—the battle between “English liberalism with its emphasis on individual freedom and self-determination and Prussian socialism with its emphasis on order and authority.”