Archive - Jun 15, 2012

Overnight, Goldman's Robert Boroujerdi released a report whose conclusion we have been warning about for the past 3 years, which also happens to be its title: "ETFs: An Imperfect Hedge?"  Goldman's findings in a nutshell: "The rise of investor usage of ETFs as hedges continues. In a bid to gain quick exposure to evolving markets, avoid single stock M&A risk or take sector views, we believe the use of “blunt force” hedging via ETFs may impair portfolio returns and potentially create negative alpha." Read that again: not zero alpha, i.e., same returns as market, but negative alpha. In other words, the great cottage industry that has been the basis for so many riches for the likes of BlackRock, and that has ensnared so many gullible retail investors, is essentially a guaranteed money losing get rich quick scheme?

Who da thunk it.

What is more curious, are Goldman's observations on historical cross industry correlations because they show that in the grand scheme of things, virtually everything trades as one!

Spanish sovereign bonds ended the week at all-time record wide spreads to bunds, pushing back up near 7% yields today before falling back into the close, and +55bps on the week. This is a 50bps underperformance of Italian sovereigns on the week, while Spanish stocks notably outperformed Italian stocks on the week (though faded notably today having been unable to regain Monday's opening highs). German Bunds also deteriorated notably relative to Treasuries on the week (the biggest weekly jump in Bunds-Treasuries in almost 7 months) and while equity and credit markets reconverged into the weekend - with position-squaring evident - as the shifts in Swiss rates suggest all is not well under the surface as repatriation flows drove EURUSD up over 115pips on the week to near its Sunday-night opening highs (amid a 200 pip range). Finally for all the ebullient US investors, we note that Europe's VIX was bid notably higher today (to over 33%) to near a 3 week high relative to US VIX as hedges into the weekend were very prevalent.

The untouchables are rapidly becoming touchables, as former Goldman director and McKinsey head is found guilty of insider trading.

• RAJAT GUPTA CONVICTED OF INSIDER TRADING BY U.S. JURY
• GUPTA FOUND GUILTY OF FOUR COUNTS AND ACQUITTED ON TWO CHARGES
• RAJAT GUPTA MAY REMAIN FREE ON BAIL UNTIL SENTENCING OCT. 18
• GUPTA FOUND NOT GUILTY ON ONE COUNT, JURY STILL READING VERDICT

Next up: McKinsey issues a case study on the proper way to leak confidential, material non-public information.

Since Mario Monti was appointed to replace Berlusconi back in November's coup-de-banker, the parties backing him have lost more than 10% of popular support and, as Bloomberg Businessweek reports, this leaves the four main political groups behind the unelected puppet below 50% for the first time. Just as elsewhere in Europe, support is surging for an anti-austerity bloc as 'The 5 Star Movement' - with a restructure-debt-and-exit-the-Euro stance - has become Italy's second biggest party as technocrat Monti's own popularity has fallen to 33% - less than half the level when he was appointed. The sad truth is no more dramatically highlighted by "the growing discontent with Monti’s action, because the crisis goes on and on and many realized that he hasn’t got a magic wand to overcome it. The rise of Beppe Grillo's anti-bailout party and realization among Monti's backers that maybe a 'softer stance' towards challenging austerity policies remains the only way to keep their salaries leaves Italy's 'fiscal rigor' in question and with Europe's second largest debtload (and now rising costs of funding once again), the contagion continues (in risk markets and populist politicians)

Whether it is the need to soak up all of the Fed's sub 3-year sold on an almost daily basis by the Fed courtesy of Operation Twist (which despite ending in 2 weeks, has already brough the average SOMA holding maturity to a record 105.5 months despite the Fed's implicit target of 100 months, meaning the Fed has overshot its duration ramping target by a lot), or because dealers are suddenly very concerned with having equity exposure, in its last update, the NY Fed has disclosed that as of June 6 Primary Dealers held a record $128 billion in Treasury holdings, a massive 41% increase over the prior week's $91 billion. Whatever the reason, Dealers are now firmly into Trasurys, having increased their net holdings across the curve by $170 billion from -$48 billion last April. And just as notably, for the first time since May 2010 Dealers held no offsetting short positions anywhere on the curve. In conclusion: absolutely everyone is now on the same side of the UST trade.

Equity markets remain exuberantly willing to carry risk into the weekend on the "it's discounted" argument or the "Central Banks will save us" scenario. However, it appears investors are more anxiously buying Treasury bonds into the weekend as safe-haven flows continue (and Spanish bond yields press back up to 7%) and Swiss 2Y rates hold at -32bps. Euro strength on repatriation flows and stocks diverging from risk-assets in general make us nervous for this rally holding (especialy given the underperformance of financials from the open).

Very few know about the Federal Reserve's "other" phone number. You know, the one reserved for those in the innermost ring of power. Someone gifted me the number, and I found it offered up the most curious menu of choices:

All you can read.

Following misses to expectations in every single economic data point for the past week, not to mention today's Empire Index, Industrial Production, and Capacity Utilization we just got the latest June University of Michigan Consumer Confidence number which, lo and behold, printed at 74.1 on expectations of 77.5, and a plunge from May's 79.3. In brief, this was the biggest miss to expectations since February of 2006. If this latest economic datapoint abortion does not send the market soaring, nothing will.

Earlier in the week, UBS' Art Cashin noted that some traders were re-reading Bernanke’s speech of November 21, 2002 on countering inflation. Prior re-readings had given clues on things like QE1 and even Operation Twist. The primary theme of the speech was - what can the Fed do to fight deflation (and stimulate the economy) if the Fed Funds rate fell to zero (aah, those simple golden years). Cashin points out that most of the operations, however, tend to be means to make money available or easy. With nearly $2 trillion in excess free reserves that doesn’t seem to be the problem. Inducing spending is the problem. Of all the suggestions, the wider inflation tolerance may be the only one that may do that.

Perhaps all of this has gone on for so long, or perhaps because we keep hearing the cries of “Wolf” each week for the last several years, that the markets are impervious to any new cries for help. An odd kind of complacency seems to have set in where nothing matters too much and everything will just be fine. Yesterday’s equity market rally based upon the central banks providing liquidity is just what any serious observer would expect and yet the stock markets rallied as if this was something out of the ordinary which clearly demonstrates either the market’s lack of understanding of real world events or it represents the hype of some hedge fund that was tossed around in the media like it was a new product at Apple. In any event, don’t wake up on Monday morning and think that Greece will have left the Eurozone and returned to the Drachma. That is not how things will play out. In the final analysis it probably all comes down to what price the Germans are willing to pay for dominating Europe.

This just crossing the streams:

• ECB TO STOP PREPARATIONS FOR COLLATERAL MANAGEMENT PROGRAM

We have no idea what this means, but rumor is that the ECB finally looked at its "collateral" and found a picture of the Athens Ministry of Finance...

Did a BIS gold trader just spill coffee on his keyboard not once but twice, or did we just have another ye olde algo trick of stopping the hunts (get it?) out of all marginal players? We will never know. What we will know is that paper prices of physical objects are becoming increasingly more meaningless.

If yesterday's global intervention rumor was a feeler of market response to the next latest and greatest intervention then we may have big problems: the EURUSD is now unchanged, Spanish bond yields are now unchanged, stocks are doing their quad witching thing which means all stops will be taken out before the day is done, but most importantly the euphoria such an announcement would have created before is now completely gone (as per The Diminishing Returns Of Central Planning). What is actually worse, and how the G-20 rumor may have backfired, is that as we pointed out, suddenly there has been a significant shift in expectations: if Syriza does not have an outright win on Sunday then there will be no immediate central bank response, which was predicted to be "if needed". Remember: for this market, when all that matters is the next 10 minutes of trading, this is the only relevant metric. Which means that suddenly from a Risk On event, Syriza's loss has become Risk Off! Of course, the reality is that Sunday will almost certainly be a replay of the last election, where the parliament continues to be empty, and Greece continues to be "Belgium" - recall from May 3, "Previewing The First Of Many Greek Elections." In either case, as others have suggested holding on to positions over the weekend may not be the most prudent thing.