Archive - Jun 2012

Back in October 19, 1988, in response to Black Monday from a year earlier (the SEC is not known for fast turnaround times) a little known SEC rule came into effect, known as Rule 80B, and somewhat better known as "Trading Halts Due to Extraordinary Market Volatility" which set trigger thresholds for market wide circuit breakers - think a wholesale temporary market shutdown. According to Rule 80B (as revised in 1998), the trigger levels for a market-wide trading halt were set at 10%, 20% and 30% of the DJIA. Needless to say, a 30% drop in the market in our day and age when the bulk of US wealth is concentrated in the stock market, would be a shot straight to the heart of the entire capitalist system. Which is why the smallest gating threshold is and has always been the key.However, despite the revision, as anyone who traded stocks on that fateful day in May knows, the market-wide circuit breakers were completely ineffective and unused during the HFT-induced and ETF-facilitated flash crash of May 6, 2010. In turn, the SEC's flash crash response was to implement individual stock-level circuit breakers which however, instead of restoring confidence in the market, have become the butt of daily jokes involving freaked out algos. This was merely the most recent indication of how horribly the SEC's attempts to "regulate" a market it no longer has any grasp or understanding of, backfire on it. However, even that may pale in comparison to just how badly the SEC may have blundered yesterday afternoon, when it proposed yet another revision to its market-wide halt rule. And once again, instead of making traders and investors more comfortable that the SEC is capable and in control, the questions have already come pouring in: is the SEC preparing for another massive market crash?

The ECB has €50 billion of GGB bonds still on their books.  Those would not get paid at par by Greece if this is an amicable breakup, but this is quickly heading to a pots and pans thrown in the kitchen sort of break-up.  Why would Greece pay the ECB if they feel like the ECB drove them out?  Don’t forget, not for a second, that most of the money Greece now gets goes to pay back the ECB and IMF.  The EFSF is totally out of luck.  The ECB might be able to offer something to a post drachma Greece, but the EFSF offers nothing.  The IMF has more negotiating power, as their direct loans had more protection in the first place and they are likely to provide additional funds post exit, but quite simply Greece won’t be able to pay them in full on existing loans. With the ECB, EFSF, and IMF all taking big losses, their credibility is hurt.  Worse than that, they have exposure to Portugal, Ireland, Spain and Italy and the markets (if not the politicians) will become very concerned about those exposures.  The IMF may see its alleged firewall crumble before it is ever launched.  The ECB, integral to any plan to protect Europe will have lost credibility and many will question their solvency.  The EFSF will be hung out to dry and immediately the market will attach all their risk to Germany and France, not making people in those countries particularly happy.

Headlines & stories from the day

For all your late Friday night chartporn needs.

On the heels of Fitch's sovereign credit downgrade to A plus (the fifth-highest investment grade), Japan's government debt continues to swell. With its debt at over 200% of its GDP, the Land of the Rising Sun appears to be embarking on a trek into the debt-laden unknown. As with any well-known macro-trend, there are speculators eager to capitalize on it. A ballooning government debt is often associated with sovereign debt crises, as market shocks can send the interest rate paid on the debt to unsustainable levels. Coupled with Japan's shrinking population (and thus tax base), the country is setting itself up for a hairy situation (data for both charts are from the IMF's World Economic Outlook Database). Enter Kyle Bass, one of the few hedge fund managers who made a killing when he bet against housing during the subprime mortgage bust. He and his fund have now set their sights on Japan, specifically shorting Japanese yen and Japanese government debt. His thesis is simple: with a debt-to-GDP ratio over 200% and a contracting population, it's only a matter of time before a sovereign debt crisis sets in, thus triggering a rise in Japanese interest rates – which the government would be unable to service with a shrinking and aging tax base. So far this strategy hasn't worked as Bass intended: according to ValueWalk, Bass' fund lost 29% of its value in April alone. That's not to say Bass' assumptions are incorrect. But there are alternative ways of looking at Japan's situation.

Clusterfukushima ... Part Deux

Two days ago we made a simple observation: back in September 2011, Weinstein's firm SABA Capital hired one of the key JPMorgan prop traders - Maitland Hudson - who "ran JPMorgan’s proprietary trading of derivatives tied to commercial-mortgage bonds" and whose future job at Saba would "focus on relative value trades" - such as, perhaps, IG9 10 Year versus a basket of tranched trades... Our suggestion was that instead of being a brilliant credit trader as he has been called by Bill Ackman, and his antics while in charge of the DB prop desk certainly put theory in jeopardy, perhaps Weinstein is merely a wonderful headhunter: one who knows just whom to hire and when (kinda like Steve Cohen hiring key Pharmaceutical company R&D personnel in a perfectly legal transaction now that expert networks are done, but that is a topic for another day).

It seems high-yield credit was on to something as we noted last night (here and here). Today's matrix-like collapse in equity perceptions of decoupling and central bank largesse sets up for more of the same as we suspect the ECB will hold off from acting until post-Greek-election to ensure the M.A.D. 'game' remains in place and with rates where they are, Bernanke will have to come up with some magical wording for his next QE raison d'etre. Today's 2.5% drop in the S&P 500 back below its 200DMA, its largest single-day drop in seven months, and the accompanying flood into safe-havens has left Gold and Treasury Bonds now outperforming Stocks for the year (with the Dow red YTD). S&P 500 e-mini futures volume was it highest of the year as we sit at the edge of the waterfall level from last July/August's plunge. Gold's 4% gain is the biggest day since January 2009. Treasury yields plunged to new all-time record lows with 30Y showing a 2.50% handle and 10Y a 1.43% handle. All the high-beta hope names were crushed with financials down 3.7% - their largest fall in 7 months (with the majors even more). VIX jumped 2.6 vols to close above 26.5% at 7 month highs. What is perhaps most disconcerting is the total lack of bounce into the close now two days-in-a-row - deer, meet headlights.

There was one thing that the Roller-Upper-Of-Sleeves-In-Chief forgot to mention in his 1 pm rehearsed oratory today: the highlighted number below. And certainly the chart below showing the relative change in US GDP and debt. Since we can only assume the president was too busy pontificating on other very important things, we are happy to fill in the hole.n only assume he was too busy covering other important things, we are happy to fill in the holes.

The balance sheet recession that seems to have correctly diagnosed the problem facing Japan (and now Europe and the US)  - explicitly causing debt minimzation as opposed to profit maximization - seems to be taking hold. However, it appears this death-knell for credit-created growth is now being seen in China - as AlsoSprachAnalyst interprets "people are not borrowing, but selling assets to pay down debts, and/or holding cash". What is most worrisome is that while the focus of the world has been on European bank runs (for fear of bank failure and redenomination risk), 21st Century Business Herald now notes that these bank runs have spread to China's industrial and construction-heavy city of Wuyishan. Queues were seen on various branches of China Construction Bank, Agricultural Bank of China, and Industrial and Commercial Bank of China. One local resident told the reporter that the city “has gone crazy”.

In a day when many could do with some cheering up, here is some bonus humor courtesy of some truly delightful headline editing at Reuters.

While the analogs to 2011 and 2010 have come thick and fast and our early January call for a three-peat has proved all too correct so far, the last few days are starting to really scream 2011 chaos regimes as Gold, Stocks, Treasuries, and the USD are now mimicking the 'reaction function' of investors faced with a world on its own. Just as last year, Treasury yields were first to go, then stocks and gold diverged as the USD surged. Ironic that this is occurring on the day when Gold and 30Y Treasury bond prices are now outperforming the S&P 500 YTD.

I am a child of an age laden with illusory wealth, and have benefitted (for a short time at least) from the financial fakery of our economic system, as have many Americans.  Most of us have not had to suffer through the unmitigated poverty, hopelessness, and relentless fear that are pervasive in harsher days.  All our problems could be cured with money, especially government money, and as long as the greenbacks were flowing, we didn’t care where they came from.  Ultimately, though, the ease of our well-to-do welfare kingdom has set us up for a cultural failure of epic proportions.  Anytime a society allows itself to be conditioned with dependency, its fate is sealed. We do not know what crisis really is.  Many Americans barely have an inkling of what it entails.  We imagine it, in films, in books, and in our own minds, but the fantasy is almost numbing.  We lose sight of the tangible grating salty rawness of the worst of things, while imagining ourselves to be “aware”.  Most people today are like newborns playing merrily in a pit of wolves. Preppers, on the other hand, are those who seek to understand what the rest of the public goes out of its way to ignore.  They embrace the reality and inevitability of disaster, and suddenly, like magic, they are able to see its oncoming potential where others cannot (or will not).  The price they pay for this extended vision, however, is high… 

"We are taking Q3 growth from 3.0% to 2.0%, with much of the downward revision accounted for by an expectation that the pace of export growth will slow."

In one of the best clips we can remember, Rick Santelli and Gary Kaminsky show just what happens when the kool-aid-drinkers are allowed to speak frankly about our predicament. Instead of constant silver-lining-seeking or trotting out failed truism after failed truism, the two men (who notably have been actual market participants as opposed to mere observers) take on the uncertainty and unpredictability that weighs heavy on our global economies as governments break the rules time and time again - and took advantage of crisis "getting away with anything". Focusing back on what could happen if the market were allowed to think for itself, Kamintelli deface the edifice of central banker largesse and blame it for the actual demise we face  - noting that it is now clear that whether it is QE or actual rate easing, using jobs as the argument for excessive intervention is a failed concept. On a Friday that seems to have devolved into a low volume sideways nudge in equities, this is six minutes well spent as they ask and answer the question: "Have rates been too low for too long?" and how those who played by the 'rules' continue to be the ones who are penalized. There is hope for recovery if the market is allowed to find its own level - "it will get better, but the deleveraging pain still has to be taken all over the world."