Archive - Jan 2013

One of the most glaring omissions in mainstream financial-media stock market commentary is the connection between the U.S. dollar's relative value and corporate earnings.  50%-60%+ of global corporate earnings and profits are non-U.S., i.e. booked overseas in a currency other than the U.S. dollar (USD). As the dollar weakened, global corporate profits skyrocketed as earnings in euros, yen, etc. rose when stated in dollars. In other words, overseas profits expand as if by magic when stated in dollars. This explains why the Fed has been so keen to trash the dollar: it magically increases corporate profits and thus drives stocks higher. As the dollar strengthens, overseas profits will decline when stated in dollars. If we combine the FX drag of a rising USD with the cyclical top in corporate earnings described in What If Corporate Earnings Have Topped Out?, we discern a potential double-whammy on earnings and thus stock market valuations.

May the farce contnue...

With the decision of the Federal Reserve to continue its policy of asset purchases (QE) as long as US employment remains depressed, we can say that inflation targeting as a tool of monetary policy, introduced in the early 80s under Paul Volcker, has finally been buried. Central banks are now moving towards a policy of targeting asset prices and other economic variables, primarily nominal GDP (or jobs per se). The consequences of this monetarist revolution on asset price formation are difficult to assess. However, we cannot overemphasise the potential disruption to the correlation and volatility regimes to which investors have become accustomed. In such conditions, proven investment strategies may prove obsolete. More than ever, investors will need to be able to challenge and fight against preconceived ideas. Lastly, and fundamentally, it is to be hoped that the policy of quantitative easing (QE) does not last too long, because, ultimately, it could lead to a massive distortion in the allocation of capital. However, as the charts below illustrate, every decade has been characterised by a different economic, monetary/fiscal policy, and investing environment and the limitations of Keynesian policy have been betrayed.

AIG shareholders aren't just paying interest on its own bailout, they are paying (paid) hefty interest charges on the bailout of the most connected entity in the history of finance, the VAMPIRE SQUID, Goldman Sachs!

As we warned on December 26, when the stock was trading in the mid 20's the pain for shorts is horrible and getting worse (courtesy of the best and always absolutely certain contrarian signal - the involvement of Whitney Tilson) and is about to send the stock into the stratosphere following a very surprising announcement by none other than Bill Ackman buddy Dan Loeb, who just filed a 13F reporting a 8.24% passive stake in Herbalife sending the stock surging. In other news: this may be Herbadeath for Whitney Tilson, who may well be on track to blow up a second fund in under a year.

As reported previously, when Bloomberg broke the news two days ago, it now appears that the official appointment of Jack Lew as the new SecTres will take place tomorrow. From Bloomberg: "President Obama will announce tomorrow that White House Chief of Staff Jack Lew is his pick for Treasury secretary, person familiar with the matter tells Bloomberg’s Han Nichols." In other words - goodbye Timmah: best of luck writing your new book, which in the tradition of every ex-public servant who departs the government where they kept their mouths firmly shut, we assume will be all about bashing Tim Geithner.

European officials have impressed upon investors that the tail risks of a EMU break up have receded markedly. Some officials talk even that the crisis is over. The premium Italy, and to a less extent, Spain, pay over Germany have narrowed to levels that had previously thought possible only if the ECB were to make good on its promise of unlimited (ex ante) purchases. There have been some signs that foreign investors are participating in the primary and secondary sovereign European bond market. Ireland is returning to the capital markets.

To be sure, challenges remain. Greece's will and ability to impose more austerity is questioned. Spain has relied on cuts in public investment over the last several years while other spending has actually risen. With high issuance this year than last, apparently without the help of another LTRO (with some borrowing, perhaps around 100 bln euros expected to be paid back early--beginning as soon as the end of Jan), Spain's funding challenges are likely to resurface. Italy's elections next month could still result in a hung parliament, with Monti's centrist movement seemingly contributing to the fragmentation. However, it is Cyprus that may be the most pressing issue. Yes it is small and few international investors have any exposure. Its significance extends beyond its size.

2012 was a historic year for extreme weather that included drought, wildfires, hurricanes and storms. But, as NOAA reported yesterday, 2012 marked the warmest year on record for the contiguous United States. The average temperature for 2012 was 55.3°F, 3.2°F above the 20th century average, and 1.0°F above 1998, the previous warmest year. Rainfall was dismal also at 26.57 inches, 2.57 inches below average, making it the 15th driest year on record for the nation. NOAA also adds that the U.S. Climate Extremes Index indicated that 2012 was the second most extreme year on record for the nation, nearly twice the average value and second only to 1998. 2012 saw 11 disasters that reached the $1 billion threshold in losses. Climate Central also confirms that fully two-thirds of the lower 48 states recorded their first-, second- or third-hottest years, and 43 states had one of their top 10 warmest years ever recorded. Globally, 2012 appears to be the eight warmest on record.

Readers already know that when it comes to Europe, the scariest chart, from a political, economic, financial and social perspective, is that showing youth unemployment - youth, which engaged in idle, non-productive activity is a powder keg for both future economic instability and social upheaval. The monthly update is presented below. This time, we are happy to also present the "scariest heatmap" that goes with it, showing the geographic breakdown of unemployment in the critical 15-24 age groups. Those looking for geopolitical hotspots in the coming months and years, look no further than the dark shaded areas.

Think the Fed (with its balance sheet amounting to over 20% of US GDP), or the ECB (at 30% of GDP) is bad? Then take a look at the balance sheet of the Swiss National Bank, whose assets now amount to some 75% of Swiss GDP and which has now "literally bet the bank" in the words of the WSJ not once, not twice, but three times in a bid to keep the Swiss Franc - that default flight to safety haven - low, and engaging in what is semi-stealth currency warfare by buying other sovereigns' currencies for over two years now, although he hardly expect the US Treasury to even consider it for inclusion on its list of currency manipulators - after all, "everyone is doing it".

New Prime Minister Shinzo Abe’s pledge to spur inflation to 2 percent at the end of the yen’s appreciation means Japanese pension funds now have to hedge against rising prices and a currency decline after two decades of stagnation. Japanese pension funds are set to diversify some of their massive holdings, worth nearly $3.4 trillion into gold bullion. Corporate pension funds in Japan will diversify 72 trillion yen in assets after domestic stocks produced little return in the past two decades, according to Daiwa Institute of Research. “Bullion’s role as an inflation hedge, long ignored by Japanese fund operators, has come under the spotlight thanks to Abe’s economic policy,” Toshima, who now works as an adviser to pension-fund operators, said in an interview today in Tokyo. “Gold may be a standard asset-class in the portfolio of Japanese pension funds as Abe’s target is realized.”

• A Bold Dissenter at the Fed, Hoping His Doubts Are Wrong (NYT)
• China and Japan step up drone race as tension builds over disputed islands (Guardian)
• How Mario Draghi is reshaping Europe's central bank (Reuters)
• Merkel Economy Shows Neglect as Sick Man Concern Returns (BBG)
• US oil imports to fall to 25-year low (FT)
• China Loan Share at Record Low Shows Financing Risks (BBG)
• Dimon Says Some JPMorgan Execs ‘Acted Like Children’ on Loss (BBG) - children that reveleased who 'excess reserves' are truly used
• Fed injects new sell-off risk into Treasuries (FT) - really? So the Fed will stop monetizing the US deficit some time soon?
• Obama aide presses Republicans to accept more tax revenues (Reuters)
• Ex-SAC analyst named 20 alleged insider traders (FT)
• BOJ easing bets help dollar regain ground vs yen (Reuters)
• Goldman Sachs Said to Be Part of Fed-Led Foreclosure Settlement (BBG)
• Venezuela postpones inauguration for cancer-stricken Chavez (Reuters)

With Alcoa kicking off the earnings season with numbers there were in line and slightly better on the outlook (as usual), attention will largely shift to micro data and disappointing cash flows over the next two weeks, even as the countdown clock to the debt ceiling "drop dead" D-Day begins ticking with as little as 35 days left until debt ceiling extension measures are exhausted and creeping government shutdowns commence. There was little in terms of macro data from the US, even as a major datapoint out of Germany, November Industrial Production, missed expectations of a 1% rise, pushing higher by just 0.2% M/M (up from a -2.0% revised October print), once again proving that "hopes" (as shown by various confidence readings yesterday) of a boost to the European economy are wildly premature. This disappointing print comes a day ahead of the ECB conference tomorrow, when the governing council may or may not cut rates, although it is very much unlikely it will proceed with the former at a time when at least the narrative is one of improvement - pursuing even more easing will promptly dash "hopes" of a self-sustaining trough (forget improvement) for yet another quarter. Putting the German number in context, Greek Industrial Output slid 2.9% in November, down from a revised 5% rise, refuting in turn that this particular economy is anywhere near a trough.

If the large TBTF banks are really being forced  out of the mortgage business, then just how will we achieve these revenue growth rates?  How indeed.