Archive - Dec 29, 2010 - Story

The inflection point has arrived. After pulling money for 33 consecutive weeks, and withdrawing over $98 billion in capital from domestic equity mutual funds, in the week ended December 21, the Fed has finally succeeded in getting the rotation out of bonds and into stocks as per ICI. After a total of $4.4 billion was redeemed from bond funds in the same week, mostly from municipals but also $837 million from taxable bonds (still a major decline from the almost $9 billion in bond outflows the prior week), domestic equity funds saw a token inflow of $335 million, compared to last week's $2.4 billion outflow. Just enough to halt the seemingly endless outflow. Still, since the bulk of the move seems predicated upon a move out of muni bonds, with $9.5 billion in outflows in December alone, should the muni crisis accelerate, and validate the investor concern, stocks as an asset class will certainly be impaired once the muni insolvency thesis start being played out... unless of course it is met with further action from Ben Bernanke in the form of QE3, as most Zero Hedge readers believe will inevitably happen. At that point, and as always when the Fed intervenes, all bets are off, suffice to say that gold will be well over $2,000 by then.

Reader runedge submits the following useful summary of the key current head and tail winds as we enter 2011.

In today's letter from Argentina, Simon Black reminds readers that often times the best way to look at countries is like stocks: over/undervalued, and, of course, distressed: "It doesn't really matter how high or how low the price of a stock is, or what the market capitalization is... what makes a company attractive to buy is when it is significantly undervalued relative to its earnings, assets, and potential. I value countries in the same way. Brazil, for example, is like a company with a very large market capitalization that is trading at roughly net asset value, neither significantly overvalued nor undervalued. Morocco, on the other hand, is a small cap company that is trading at a premium to its net asset value and earnings-- sure, it's cheap, but it's a total disaster. Ecuador, in my assessment, is like a deeply undervalued mid cap company. It is not without its own problems and challenges, but price level here is substantially lower than the level of its well-developed infrastructure and amenities." We wonder how, if at all, the US would rate on this continuum of sovereign forward multiples of valuation (in)solvency.

There was a time, long before central planning was the feces, when stocks and risk in general would correlate with the notion of decoupling, most traditionally represented by the AUDJPY, which has always been the best proxy of Chinese relative strength via the non-pegged Aussie dollar, and the now defunct carry currency of choice- the Yen, a distinction since ordained to the US' very own "reserve" currency. In those long gone days, the ES and the AUDJPY would correlate almost with mirror image perfection. Those days are now gone, and a brief correlation mapping between the performance of the two indicators shows that the ES is now about 16 pts rich to some hypothetical fair value, which however courtesy of abovementioned central planning, is completely useless and irrelevant. Suicidal types may want to play a convergence. In the summer those trades would always close profitably without exception. Lately, that is no longer the case, indicating just how incrementally more busted the market has become in just the last several months.

The storyline being sold to the American public by the White House and the corporate mainstream media is that the economy is growing, jobs are being created, corporations are generating record profits, consumers are spending and all will be well in 2011. The 2% payroll tax cut, stolen from future generations to be spent in 2011, will jumpstart a sound economic recovery. Joseph Goebbels would be proud. The economy is growing due to unprecedented deficit spending by the government, fraudulent accounting by the Wall Street banks, the Federal Reserve buying $1.5 trillion of toxic mortgage “assets” from their Wall Street owners, various home buyer and auto tax credits and gimmick programs, and Fannie, Freddie, and the FHA accumulating taxpayer loses so morons can continue to purchase houses.

It seems that it was just yesterday that everyone's favorite outspoken Eclectica manager, Hugh Hendry, was advising that the best course of action is panicking. It appears his message was not lost on one Ashton Kutcher. Per the HuffPo: "Ashton Kutcher is in hard training for the apocalypse, but this no big screen role: he's afraid that armageddon is coming.....Kutcher is stocking up on guns and spending hours and hours running the canyons near his home, pushed on by visions of being chased by wild boar. He's also taking daily bikram yoga sessions, and learning Krav Maga, a deadly Israeli combat technique taught to high-powered special ops. All of my physical fitness regimen is completely tailored around the end of day. I stay fit for no other reason than to save the people I care about." And so survivalism has just gone mainstream...and copycat cool. Good luck trying to find stockpiles of MRE rations, freeze dried beans, and ammo going forward.

Perpetual motion is impossible, but Japan has managed the illusion of perpetual debt for 20 years. Perpetual motion--a machine which produces more than it consumes indefinitely, without any visible energy source--is impossible. So too is an economy which consumes more than it produces and fills the gap with debt. Yet Japan has maintained the illusion of a perpetual motion debt machine for 20 years.

Today's $29 billion 7 year auction closed at 2.83%, 2.86 Bid To Cover. Unlike yesterday's 5 Year, the WI action is inverted, with the yield dropping immediately following the bond issuance to under 2.79%. What is stunning is that the Indirect Bidders took down 64.2% of the auction, which while we don't have the historical record currently, i likely on the highest in recent history. The massive Indirect participation meant Primary Dealers were left with just 31.2% of the take down. In other words, as we have been claiming for about 3 months now, the volatility from stocks, which are now an inert "asset" class melting up regardless of newsflow, fundamentals, or technicals, has moved entirely to bonds and currencies. Since nobody is left trading stocks, the daytraders are increasingly forced to trade vol in such traditionally stable products as govvies. At this rate of central planning, we expect the VIX to plunge to single digits soon, as the MOVE index explodes sooner or later.

One of Zero Hedge's greater contributions to society in 2010 was finally putting the "cash on the sidelines" BS that was every emptyheaded pundit's go-to line when cornered and with nothing else to retort, in the trash bin of intellectual sophistry where it belonged. What surprised us is that it took as long as it did before someone dared to point out the flagrantly obvious. That said, today Bloomberg has released a terrific piece of investigative reporting, that may very well refute much of what we said, since it appears that contrary to legal permissions, companies have been very busy using the gray area in the tax code (the same that gets ordinary citizens in lots of trouble with the IRS but not mega corporations, never mega corporations) to repatriate tens, if not hundreds of billions in the past few years. Meet the "Killer B” and “the Deadly D" just two of the strategies that have allowed the following to happen: Merck & Co. bringing more than $9 billion from abroad without paying any U.S. tax to help finance its acquisition of Schering-Plough Corp.; Pfizer Inc. importing more than $30 billion from offshore in connection with its acquisition of Wyeth and taking steps to minimize the tax hit on its publicly reported profits; Eli Lilly & Co. carrying out many of the steps for a tax-free importation of foreign cash after its roughly $6.5 billion purchase of ImClone Systems Inc. in 2008. In other words, despite America's deplorable budget condition, where every dollar in organic revenue is matched by one dollar of debt issuance, companies are doing more than ever to avoid paying any taxes... anywhere.

And like that, Brian Sack's market manipulation for 2010 is over. Then again, with practically no trading days left, and no volume to speak of, it was to be expected. Of today's $5.4 billion POMO, which brings the Fed's Treasury holdings ever higher in the trillion club, $2.4 billion went to buy back the PV6 which were auctioned off barely a month ago. This means that 15% of the Primary Dealer allottment of that particular auction ($16.4 billion) has already been sold back to the Fed at a decent profit. And so the shell game continues. What is ore surprising is why the PW4s auctioned off on Monday were neither in the inclusion, nor exclusion lists for today's POMO. After all, there is nothing the PDs would love more than a last minute taxpayer gift to the tune of a few hundred million in a quick two day flip to pad that third private island sinking fund with that little extra in risk free compensation.

After we recently disclosed that surging NYSE margin debt is the latest indication of record euphoria (which presumably was sufficiently interesting that it made Alan Abelson's latest column), after it hit a post-Lehman high of $269 billion, we are happy to announce that as we expected, November margin credit grew by another $5 billion to $274 billion, which implies that investors continue to purchase stocks increasingly on margin, i.e., on credit, which is fantastic when stocks levitate, but leads to a circular sell off when sell offs generate collateral calls, forcing more sell offs, etc. And looking at net cash, it was flat M/M at ($34) billion meaning that there was no incremental real cash going into cash accounts, and the entire November outperformance was achieved as net cash remained flat, and every incremental point in gains was financed by net crediting. As before, we expect no change to this trend when December data is announced.

Just headlines for now. We are confident this firm-solicited action to eliminated BAC's counterparty credit rating is purely in the interest of shareholders and taxpayers, or both as the two tend to be equivalent, and purely for the benefit of transparency and openness. It most certainly has nothing to do with recent allegations that the bank has been fraudulently misrepresenting hundreds of billions of mortgages it sold to third parties.

In what is the latest death knell for the traditional Wall Street non-monopolistic sell-side business, last night we read in the FT, with little surprise, that ETF behemoth (following its purchase of Barclays Global) and arguably the world's largest asset manager, bigger even that Pimco, Blackrock is launching an internal trading platform which will compete with the traditional wall street institutional sales and trading model. In essence, courtesy of its massive internal stock inventory, BlackRock will be able to internalize buyer and seller order flow, allowing for much cheaper transaction costs, and create an open "dark pool" to paying customers, which will soon become the go to marketplace for all. And thanks to the cheap transactions costs, BlackRock will be able to pull even more order flow from traditional trading venues, creating an economy of scale borne out of its increasingly greater monopoly status in stocks. In essence, Wall Street is about to see yet another monopoly power stretch its wings and become the go-to flow trader for equities. And this should work quite well: after all it is none other than Goldman who already cornered the derivatives and fixed income markets, courtesy of the first monopolistic land grab, which just so happens, involved the insolvency of Bear and Lehman.

Despite our relatively light coverage on the subject recently, we haven't forgotten that the US stock marketplace is broken beyond what some say, any chance of fixing. Unfortunately, it has become painfully obvious that between the corrupt SEC and CFTC, there will be no proactive regulation, no actual changes to a broken market structure, until the next, and far more serious flash crash takes place, and destroys the last trace of market credibility. In the meantime, looking back at 2010 market developments, aside form the one event that punctuated just how broken the market is, namely the May 6th flash crash, there were other notable events. Below we present Themis Trading's five best market structure themes of 2010.