Archive - Jan 5, 2010 - Story

Volatility is a good hedge against all kinds of disasters: socialism, Obama, other geopolitical and macroeconomic events, government tax revenue shortfalls—pretty much anything that influences price uncertainty. But it is only good for this when acquired at a good price. Buy it cheap, and it is beautiful insurance. Buy it dear, and the negative carry is a leaky artery. So the issue really reduces to finding a good price for volatility. A good place to answer that is history.

Even as China proves to the world it has perfected Greenspan's repertoire for blowing asset bubbles in any and every asset class, the fact that China is still a communist country and thus has to carefully respond to public pressure (ironically, more carefully than "capitalist" America) could put a damper in its plans to overtake the US in flooding the market with masses of excess liquidity. The reason: increasing social anger at the affordability of houses. Because unlike the US, where Mozillo's hellspawn and other subprime henchmen were all too willing to subsidize every deadbeat with a 150% LTV on a FICO of 101, China's credit mechanism is not that "advanced" meaning billions of people have become cut off from the home market for the simple reason of lack of affordability (yes, the concepts of equity and savings are still appreciated in certain non-US dominated parts of the world).

On December 24, the Senate passed a vote by a razor thin margin (with not a vote to spare) to raise the Federal debt ceiling from $12,104 billion to $12,394 billion. The actual debt ceiling increase took effect on December 28. And as the chart below shows, the Treasury's cash flow projections were spot on: 3 days later, and the debt subject to limit surged to $12,254, a jump of over $200 billion in 2 days, and a whopping $150 billion over the old debt ceiling. Three days is all the buffer the administration's reckless spending spree has afforded this country to avoid bankruptcy. Had one more Democratic vote dissented from the stopgap measure, the US would now be in technical default. There is just $140 billion left before the revised debt ceiling is breached. We hope for the country's sake that Bill refunding in January is massive, because as we already pointed out, on January 7th we expect another ~$130 of new Treasuries to be announced for auction by January 15th. And then there are two more weeks in January... Which is why the Treasury better be using that TARP money to pay down all it can, because if the general population understands how close this nation was to the fiscal brink, many more answers may be demanded out of the ruling party as to how it could allow things to get so out of hand.

A week ago we presented the observations of TrimTabs' Charles Biderman, who laid out a logical case for why there is significant circumstantial evidence that the Fed is manipulating markets by purchasing index futures in the aftermarket: "One way to manipulate the stock market would be for the Fed or the Treasury to buy $20 billion, plus or minus, of S&P 500 stock futures each month for a year. Depending on margin levels, $20 billion per month would translate into at least $100 billion in notional buying power...This type of intervention could explain some of the unusual market action in recent months, with stock prices grinding higher on low volume even as companies sold huge amounts of new shares and retail investors stayed on the sidelines. For example, Tyler Durden of ZeroHedge has pointed out that virtually all of the market’s upside since mid-September has come from after-hours S&P 500 futures activity." Today MarketWatch has an open appeal to the Fed to put Biderman's allegation to rest by publicly disproving that it is involved in any direct market manipulation. "Biderman's accusation of PPT market manipulation is another argument in favor of a complete public audit of the Fed's books...there is a widespread belief that the PPT does manipulate stock prices on a daily basis to enrich its pals and screw individual investors. It would be useful to prove them. " We couldn't agree more.

The month of December was supposed to be a bright spot in the Treasury's tax withholding calendar: after all taxes used to be the way this great nation funded its coffers until the Fed and Primary Dealers came along. And with Wall Street bonuses presumably at record levels, the withholdings were expected to jump not only compared to December of last year, but to all Decembers. Well, as is the norm with this administrations, these expectations never materialized, and instead rolling withholdings hit recent record lows.

The doctor recommended daily Fed reading/hilarity generating allowance presented for your late day pleasure.

Obama's latest appeal for the Detroit union midterm vote just cost US taxpayers', through the latest involuntary portfolio addition GMAC, a $5 billion loss. Surely another round of massive taxayer wealth transfer is a great buying opportunity of something: we wait to hear from Bob Pisani just what this something is.

Now that various hedge fund managers are returning from their Bermuda and Aruba vacations, they are now looking at the horror of new highs in stocks. Most of them cashed out in mid December, now they have to consider whether or not to jump back in and chase these lotto tickets at higher prices.

Some intraday Treasury market commentary from Market News. Everyone's word of the day is steepeners (except for Rosie, who loves the flattener. As usual he is on to something, although the "don't bet against the Fed" mantra should be amended to "don't bet against optimistic groupthink"). Don't fall for the call stupids.

Inside Beltwayistan, a number of Bushevik oil patch zombies still roam the recession-blasted landscape mindlessly chanting their Caspian mantra, “Happiness is multiple pipelines” - with the caveat that they flow westwards and bypass both Russia and Iran. They’ve now added a new word to their vocabulary, “Nabucco,” and worse, have bitten a number of Obama administration officials and visiting European politicians, who have joined their shuffling ranks.

One of the cushiest and least risky assignments over the past year for the big bond funds has been their agency assignments on various Treasury-mandated security purchasing programs to bail out the market: these have been the definition of free money. The PPIP program has been a good case in point, which in recent months has been somewhat dormant ever since the administration realized it could generate a much greater IRR by purchasing index futures than toying around with AAA-rated CMBS, in which bond fund TCW was a key partner of the Treasury. Yet in a striking example of rational thought, the government has demonstrated it knows what "key man" provisions are. And after TCW fired Gundlach for having "too lofty" an aspiration, the Treasury has decided to fire TCW as a PPIP manager for the Treasury in turn. Poetic justice.

The end of QE will be a big problem in the US. Yet what happens in the UK, where the BOE is openly monetizing, once their free liquidity ends, could be a watershed event. Couple this with the likelihood of a downgrade, and the UK's fiscal and monetary future in 2010 is looking quite shaky. Today PIMCO's Scott Mather told Dow Jones his expectation for a rating downgrade of the island nation: "It's just a question of when on the current trajectory, not if. Based on what we know today about the debt trajectory and about the inability to adjust that, I think it's greater than a 50% likelihood for sure. Call it more like 80%." And according to Mather, rates on gilts will shoot up by 100 bps once the bond-buying program ends. It is amusing that the fiscal health of the developed world now hinges on the amount of ink cartridge accessible by the two main central banks.

"Tremendous amount of cash coming in" in the first Bill auction of the year (that's right, after the books closed). But wait, we thought that insane demand for ultra-short maturity Bills was only a function of end of year window dressing as asset managers had to park their money in Bills for LP demonstration purposes. You mean that's not the whole story? The closing high rate of 0.025%, and more indicatively, the 0.000% low, demonstrates that there still is no scarcity of demand for Bill. Most importantly, the Bid To Cover came in at a massive 5.5, compared to the 3.95 in the prior week (yes, the week when the window dressing excuse still made sense). Time to hire the Blackstone spin doctors again.

Bad news for fixed income market monopolist Goldman Sachs. Kansas City Fed President Thomas Hoenig, in response to a question from University of Maryland Professor Carmen Reinhardt said "dismembering firms is a fair thing to consider." Hoenig further clarified that regulators "have people who are experts who understand what's going on inside institutions who could figure out how to carve out" some parts of a financial institution if they are taking undue risks with taxpayer backing." Surely, we expect LloydBlankfein to comment promptly on how even the Federal Reserve is now thoroughly underappreciating the divine nature of its prop/flow-focused business model, and how originating the proactively entire volume of OTC quote flow is just a natural side effect of completely cornering the CDS, bond and loan market.

Due to popular demand, and in response to the earlier post by David Rosenberg, we present the Top Ten Surprises for 2010 as laid out by Blackstone Vice Chairman Byron Wien. No commentary necessary.