Archive - Mar 2012

Subprime Goes to College

Unfortunately it is not a EURUSD recommendation to be faded and generate 10 out of 10 anti-Stolper trades. However, the Goldman strategist, who has likely taken to following new FX glory boy Alex Hope, takes a look at recent strength (and weakness) in FX carry strategies and finds (rather correctly) that this strength seems driven by little more than a broader rally across risk assets in general. As we have been pointing out, the correlation across our CONTEXT basket (which includes FX carry) has been relatively high both up this year and down very recently, and Stolper discusses whether to fade or follow FX carry strategies and when they do and don't work. His unsurprising conclusion being that FX carry can only continue to rise if broad risk assets rise (and vice versa). Somewhat ironically he remains light on tactical recommendations, preferring to watch - nice way to earn a bonus if you can get it.

Update: the Official name of the iPad 3 is ... "The New iPad" - probably means "Awesome Table Thingy" was taken by another Chinese maker.

AAPL just went red for the day and we note NFLX is also down 2.5% now on the day, as business models proceed to start cannibalizing each other in a world in which consumer cash is actually, gasp, finite. In other news we expect the formal name of the iPad 3 to be revealed as "iECB Collateral" in which case watch as the stock price soars and the company's market cap moves to match the ECB's $4 trillion balance sheet once Europe's taxpayers are forced to bailout not only Greece but the biggest hedge fund hotel of all time. That. Or wait until the Bank of iSrael to lift all offers all the way through the iNBBO. One thing is certain, however: due to its edibility, the iPad3 will surely be sterilized.

Remember, just last week Bernanke told Congress that no more QE was coming. Also remember that the Fed has been largely using verbal and symbolic interventions to prop up the market rather than actual money printing or new monetary policies (Operation Twist 2 only shuffles the Fed balance sheet; it doesn't actually inject more money into the system).

Apple share price dropped modestly (around $4) as Tim Cook took the stage but has levitated back up as he mentions...

*APPLE SAYS SIRI WILL BE COMING TO JAPAN
*APPLE NEW APPLE TV HAS NEW USER INTERFACE, GOES ON SALE MARCH 16 FOR $99, NEW APPLE TV HAS 1080P SUPPORT
*APPLE HAS SOLD MORE THAN 55 MILLION IPADS SINCE ITS DEBUT
*APPLE NEW IPAD HAS SIMILAR BODY AS PREVIOUS MODELS, 9.7 INCH SCREEN, AND RETINA DISPLAY, HAS NEW A5X CHIP, FOR QUAD-CORE GRAPHICS

Yesterday we pointed to the fundamental reason for Europe's angst - that of dramatic imbalance across nations finances. Today we look at the implications of the growing concerns at sustainability of the Euro-area itself. Deposits are fleeing the PIIGS at ever faster rates, growth remains a dream as PMIs for most of the PIIGS trend towards (or are at) record lows, and despite all the liquidity provision of the two LTROs, credit extension to the real economy dropped once again. The Greek PSI remains front-and-center from a headline perspective but yesterday's dismal Euro macro data combined with the reality of these three factors appears to be increasingly repriced into sovereign credit spreads as CDS drag manipulated bonds wider in the last week.

We shared our thoughts on the implication for more possible QE, sterilized or not, earlier, as did the market: why is risk higher, and with it the threat of inflation, if the Fed is doing perfectly innocuous sterilized easing? Maybe because it does not matter if the Fed intervenes sterilized or unsterilized, as long as the Fed intervenes, period? Now we present the knee jerk reaction of several Wall Street experts, all of whom are about as confused about this development, which is neither here nor there in terms of actually achieving any of the Fed's goals, as we are.

We have a "let's pretend" economy: let's pretend the unemployment rate actually reflects the number of people with full-time jobs and the number of people seeking jobs, let's pretend the Federal government borrowing 10% of the GDP every year is sustainable without any consequences, let's pretend the stock market actually reflects the economy rather than Federal Reserve monetary intervention, and so on. We also have a "let's pretend" education/student-loan game running: let's pretend college is "worth" the investment, and let's pretend student loans are about education. There are three dirty little secrets buried under the education/student-loan complex's high-gloss sheen: 1. Student loans have little to do with education and everything to do with creating a new profit center for subprime-type lenders guaranteed by the Savior State. 2. A college diploma's value in the real world of getting a job and earning a good salary in a post-financialization economy has been grossly oversold. 3. Many people are taking out student loans just to live; the loans are essentially a form of "State funding" a.k.a. welfare that must be paid back. We've got a lot of charts that reflect reality rather than hype, so let's get started. Despite all the bleating rationalizations issued by the Education Complex, higher education costs have outstripped the rest of the economy's cost structure. Funny how nobody ever asks if there is any real competitive pressure in the Education Complex; there isn't, and why should there be when students can borrow $30,000 a year?

Oil is battling hard with Greece to top the tail-risk-du-jour in financial markets recently. As Credit Suisse notes, the US economy so far seems to have shrugged it off as 'gasoline-sensitive' economic data for Feb have ignored the price rise for now. The extreme (warm) weather may be shielding the economy from the effect of these higher energy costs, as are consumers habituation with relatively high prices, and while CS remains more sanguine than us on energy's negative impulse they set forth some useful implications (rules-of-thumb) for what oil means for gas prices, headline inflation, real disposable income, and GDP growth pointing to $150 Brent as a critical threshold for the economy (or equivalently $4.50 retail gasoline prices). Of course, Fed policy precedents and implications are necessarily situational as the hope for this being a 'temporary' situation but the circular reaction to the consequences of any growth drag will merely exacerbate the situation. Was Bernanke's recent less unconditional dovishness an implicit effort to 'tighten' expectations and manage the war-premium out of oil prices?

Update: yup. It's Jon "Mouthpiece" Hilsenrath all right. This is nothing but a test to gauge if the market will ramp on the clarification that future QE may be sterilized. If market ramps regardless, the sterilized clause will be ultimately eliminated. Full story link.

While we have yet to see the actual report, almost certainly emanating from Jon Hilsenrath, it appears that the QE3 rumormill has started, initially with speculation that the Fed's activity will be merely "sterilized" or more Twist-type purchases, unclear however if in TSYs or also in MBS. Via the WSJ:

• Fed Officials consider "sterilized" option for Future bond buying
• Operation Twist Reprise, QE Other Options For Fed Bond
• Still Unclear Whether Fed Will Launch Another Bond-Buy

As a reminder, yesterday we said that according to the EURUSD, the implied market expectation is for a $750 billion QE out of the Fed. However, that is for unsterilized balance sheet expansion. If the Fed goes ahead and does not grow its balance sheet (hence "sterilized"), it may well be EURUSD, and thus risk, and gold, negative, as no new money will enter the market for actual speculation. Which perhaps is precisely what the Fed is planning, as every incremental dollar now goes into Crude first, and everything else later. In other words: this is a very big risk off indicator as no new money will be available to pump up stocks!

With all of the Goldman and sell side hype, as well as many other sources focusing on nearly meaningless metrics failing to capture high growth cos. value, I decided to update my report to reveal usable knowledge and info.

While many look for a specific event (PSI or NFP) to be the catalyst for the next leg up (or down), Goldman sees several factors at play that could create a 'sell-off by a thousand cuts', rather than one big flush, as macro- and micro- news impacts stocks. First, after habitually delivering better-than-expected news for much of the last several months, recent data points have not been able to best expectations. Second, cyclical weakness has coincided with oil price rises, and third, Bernanke's recent testimony was a little less unconditionally accomodative than the hoards would have liked. Decomposing US equity performance into risk-appetite, growth-expectations, and European-event-risk concerns shows two of the three rolling over and dragging on stocks since March began. With market growth views under pressure and signs of frayed data on the edges, following last week’s marginally disappointing Manufacturing ISM print, last Thursday Goldman went market neutral as in their words, they are taking 'market signals seriously', as the gap between market growth views and the index itself reached 'wides' reminiscent of 2011.

A tale of two civilizations, one in ascent and one in decline, can probably be best summarized by how they ration for the future in that most important of commodities - energy, in this case vis-a-vis the respective treatment of the strategic oil reserves of China and the US. Because while all the rage in D.C. political gab in recent weeks has been whether the US will allow a release of oil from the SPR, just to appease those Obama voters who actually have a job and have to take a car to get to it, things over at America's nemesis in civilizational conflict are diametrically opposite. As Bloomberg reports, China has "started filling its emergency petroleum reserve at Lanzhou in the nation’s northwest, according to an official at the nation’s largest crude producer." Unlike the US, where everything is now a function of market liquidity, evil speculators, and political ambitions (rest in peace supply and demand), China is completely ignoring all the day to day mundane drivel, and is doing what is right - which is to make sure it is prepared for an "eventuality" in the crude supply. Said eventuality is 100% guaranteed to happen if the Panetta-McCain is given a green light to allow the liberation of Iranian crude to finally proceed following years of foreplay.

If one chart was worth a thousand words, it is the difference in 'value' between strong and weak covenant bonds in Greece. Since we first brought this 'arbitrage' to the market's attention back in mid January, explaining the subordination impacts of the ECB and the legal implications of bonds issued under various law-regimes, the spread between English-Law (strong) and Greek-Law (weak) bonds has widened dramatically and today reaches a new high. Ignoring accrued interest for simplicity, investors are willing to pay over EUR46 for the strong UK protection relative to less than EUR20 for weak Greek protection for similar maturity bonds. It seems some bondholders are very much set not to partake of the Troika Greek's generous offer.