Archive - Sep 2012

Weekend Political Roundup

Two weeks ago, when summarizing the state of the US vs China escalating patent war (for now manifesting itself in the courtroom brawl between Apple and Samsung, but soon to drag many more comparable companies down in drawn out litigation), we observed that while AAPL may have the upper hand, iPhone 5 map fiasco notwithstanding, that "the Chinese politburo can one day decide to pull FoxConn's operational license, in the process bankrupting AAPL overnight" if China really wanted to turn the tables. Obviously, this was the "thought experimental" MAD outcome which leads to loses for everyone involved: both Apple and China (where Apple's contract manufacturer FoxConn employs over 1 million workers). There is one other alternative: that FoxConn, by now having reverse engineered the peak of Apple's brilliance (whose latest evolutionary step was "lighter" and "longer", which anyone could have come up with), decides to brave it alone, and instead of being a contract manufacturer, to simply slap on a FoxConn sticker, a la Acer and ASUS, and sell all Apple-equivalent products at 50% off while collecting all the revenue. Impossible, you say, Apple would never allow it? It is already happening, first in high-growth Brazil, where FoxConn is now launching its own stores.

After the financial debacle caused by a thieving and uncontrolled Thug-elite (banksters, Wall Street, moneyed interests), helped in part by a society ready to be courted by its very own ugly greed, this time in real estate, one would think the electorate would have economics as the prime, if not the sole focus when casting a ballot in this next presidential election.  And that would entail castigating politicians, or parties, who could be justly blamed for such debacle and for embracing globalization without a viable plan for those Americans who would be left behind without living-wage jobs; while rewarding politicians, or parties, who offer a reasonable way out, not just of the present mess we are in, but of the impending uglier mess which looms in the horizon.  But that would be taxing reality in a nation which has failed to charge Wall Street criminals, for the most part Republicans; in a nation where Bill Clinton, the godfather of American globalization, continues to be held in high esteem by a clueless Democrat party.

When it comes to diving trends in the Fed's take over of the Treasury market, there are those who haven't got the faintest clue about what is going on, such as Paul Krugman, who naively looks (as Bernanke expects all economists to) at the simple total notional of securities held by the Fed and concludes that the Fed is not doing anything to adjust fixed income risk-preference, and then there are those who grasp that when it comes to defining risk exposure in the bond market, and therefore in equities, all that matters is duration, expressed in terms of ten-year equivalents. Sadly, this is a data set that not every CTRL-V major or Nobel prize winner (in order of insight) can grab from the St. Louis Fed - it is however available to those who know where to look. And as the chart below shows, even as the Fed's balance sheet has remained flat in notional terms, its Ten Year equivalent exposure has soared, rising by 50% during Operation Twist alone, from $900 billion to $1.313 trillion. What this means in practical terms, as Stone McCarthy summarizes, is that the Fed now owns 27.05% of the entire inventory in outstanding ten-year equivalents. This leaves less than 75% of the market in private hands.

Peak career risk. That's how one can summarize what the hedge fund community, long used to "nimbly" outperforming the market populated by slow, dumb money managers and getting paid 7+ digit bonuses, is feeling right now. The last time we looked at relative hedge fund performance, because let's face it: indexing is a polite word for underperforming and anyone who says otherwise is rather clueless about the asset management industry in which the only thing that matters is always outperforming everyone else, only 89% of hedge funds were underperforming the S&P500 through mid-August. A month later, this number is now up to 92% as of September 14. A month later, this number is now up to 92% as of September 14.

Inversely this means that only 8% of hedge funds are outperforming the market with just 3 months left in the year.

What kind of plan is that?

Even as the popular ADHD affliction is preoccupied with who paid what taxes, and whether this poll shows that guy on top or this one, until tomorrow when they flip providing even more meaningless chitchat opportunities, everyone appears to have once again lost sight of the big picture, which is that two US ships continue full steam ahead toward Iran, namely the CVN-74 Stennis aircraft carrier which has crossed the Pacific ocean and is now a week away from its target, and the LHA 5 Peleliu big deck amphibious warfare ship, where they will join two other aircraft carriers and the LHD 7 Iwo Jima as summarized by the graphic below. Why is US naval presence in the Gulf soaring to a concentration not seen since the last Gulf war? The head of the Iran revolutionary guard may have an idea. From Reuters: Israel will eventually go beyond threats and will attack Iran, the commander of Iran's Revolutionary Guards was quoted as saying on Saturday. "A war will occur, but it's not clear where or when it will be," Jafari was quoted as saying on Saturday. "Israel seeks war with us, but it's not clear when the war will occur."

Today's Zero Hedge articles in audio summary! "Print me a couple Trillion Ben. I promise I won't tell." Everyday 8-9pm New York Time!

In simple terms this tells us that inflation is hitting “lift off” in the US at the very same time that we are entering a recession that could be on par with that of 2008. And with corn and soybean prices at or near record highs, we could be on the verge of a stagflationary disaster combined with a food crisis at the very same time.

We believe an unsustainable new global financial architecture that arose in response to the US and European financial crises has replaced an older, more sustainable, architecture. The old architecture was crystallized in Washington- and IMF-inspired policy responses to the numerous sovereign defaults, banking system failures, and currency collapses. Most importantly, the previous architecture recognized limits on fiscal and central bank balance sheets. The new architecture attempts to 'back', perhaps unconsciously, the entire liability side of the global financial system. This framing is consistent with a purely political—institutional stylized—fact that it is nearly impossible to penetrate the US political parties if the message is that there are limits to their power…or that their power requires great effort and sacrifice. This is why Keynesians (at least US ones) who argue there are no limits to a fiscal balance sheet are so popular with Democrats, and why monetarists (at least US ones) who argue there are no limits to a central bank balance sheet are popular with (a decreasing number of) Republicans. Party on! Again, nobody chooses hard-currency regimes – they are forced on non-credible policymakers. Let me put it more positively. If politicians want the power of fiat money, let alone the global reserve currency, they need to behave differently than they have - or the consequences for Gold are extraordinary.

Europe’s new mantra has become that of “why just one”? Spain is returning to the table asking for yet another bailout. Of course you will hear the cries of conditions this, targets that… With rampant unemployment and an untenable political position, expect Rajoy to nod his head in acquiescence to the ECB while at the same time ignoring his pledge the very next minute.

There was a time when the market led, and the economy followed. That's when the market was still a discounting mechanism, a long, long time ago. Then came a time when the clueless market, after every illusion it held about a Dow 36,000 future was shattered, would respond with a slight, millisecond delay to every flashing red economic "surprise" headline and thanks to HFTs exaggerate the momentum of the move spectacularly, leading to delirium-inducing volatility, and even further confusion. But what we have now, under the final advent of the central planner New Normal, when the economy is clearly going one way (the wrong one), while the S&P is dogedly chasing the opposite direction and completely ignoring any and all downside macro surprises, is something never seen before. One thing is certain: the gaping maw of the alligator: the red and the blue arrows will converge, and sooner or later the convergence will not be in the direction that the central printer, and his Liberty 33 henchmen, request.

Mark Twain once wrote that "History doesn't repeat itself, but it does rhyme."  While this is a statement that is often thrown around by the media, economists and analysts - few of them actually heed the warning.  It has been even worse for investors.  Over the past 800 years of history we have watched one bubble after the next develop, and bust, devastating lives, savings and, in some cases, entire countries.  Whether it has been a bubble created in emerging market debt, rail roads or tulip bulbs - the end result has always been the inevitable collapse as excesses are drained from the system.

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Between quarter-end, quad-witching, and the index-rebalancing, activity at the NYSE soared today. More than triple the average of the last few weeks, today's volume was the highest since the US downgrade last August - over 13 months ago - and given the downward pressure in prices into the close it seems more motivated sellers than buyers locking in anticipated Fed/ECB gains.