Archive - Jul 2010 - Story

In today's NYT, Gretchen Morgenson does a good summary of how Goldman was demonstratively net short net short AIG (or net long its CDS, depending how one looks at it) via nearly 100 counterparties to the tune of just over $1.7 billion in net notional, after Chuck Grassley released several previously classified documents disclosing Goldman's CDS position as of September 15, 2008, the day of Lehman's bankruptcy. As Gretchen summarizes: "According to the document, Goldman held a total of $1.7 billion in insurance on A.I.G. from almost 90 institutions. Its exposure to A.I.G. at that time was $2.6 billion. Goldman bought most of the insurance from large foreign and domestic banks, including Credit Suisse ($310 million), Morgan Stanley ($243 million) and JPMorgan Chase ($216 million). Goldman also bought $223 million in insurance on A.I.G. from a variety of funds overseen by Pimco, the money management firm." While the topic of how the world's biggest asset management firm in the face of Pimco (and specifically its massive Total Return Fund) could have a net short CDS position (i.e., unlimited downside exposure), and how this is supposed to demonstrate prudent capital management, is ripe for evisceration, we will leave it for another day, as there is something more notable in the Grassley disclosure that has to be discussed. While Gretchen is correct that the external position of Goldman's exposure vis-a-vis AIG is indeed a total of $1.7 billion in long CDS, if one were to actually present the gross number, the truth would be starker: as the Grassley document reveals, the firm's gross exposure for its IG flow and structured finance desks goes from a positive $1.7 billion net exposure, to a ($2.9) billion net exposure, a massive $4.8 billion swing! What is it that in one fell swoop moved the firm from having a huge long bet on AIG, to a major short CDS position, one that nearly entirely covered the firm's $2.6 billion in legacy risk exposure? Enter Goldman's Counterparty Valuation Adjustment desk.

Last week's European stress test is by now, luckily, part of propaganda history. Easily the most ludicrous finding of the "test": all seven of Germany's largest Landesbanks, NordLB, WestLB , LBBW, BayernLB, HSH, Landesbank Hessen Thueringen and Landesbank Berlin, magically passed with flying colors. As the Landesbanks are at the same level (or far worse) of capital deficiency, courtesy of underwater and mismarked real estate assets accumulated over decades of lax lending practices and still marked at par, as are Spain's cajas (of which 5 were generously allowed to fail, although with laughable tier 1 capital shortfalls of a few hundred euros each), this finding alone is worth a few chuckles, for those who actually care. We won't speculate on the stress test any more - everyone knows it is a farce. Yet the role of the Landesbanks in European, and especially American markets, deserves a prominent discussion. And not just any market, but the very shadow banking system which at last check was vastly bigger than regular plain-vanilla commercial banking. As even the New York Fed acknowledges in its recent paper "Shadow Banking", by Zoltan Poszar, in which there is a whole section on the critical Landesbank function in the shadow economy, "As major investors of term structured credits “manufactured” in the U.S., European banks, and their shadow bank offshoots were an important part of the “funding infrastructure” that financed the U.S. current account deficit," the proper functioning of the Landesbanks is crucial to maintaining a stable and efficient market funding structure. This is actually extremely important, as for years most economists and pundits have considered only the non-shadow banking funding aspect of the massive US current account deficit (a topic most critical now that even the US is embarking on fiscal austerity, and the government sector will be unable to further fund the multi-trillion deleveraging ongoing in the private sector, thus pushing the topic of the current account to the forefront as Goldman did recently). Generically, everyone has always looked at China and Japan as those parties responsible for funding the US Current account deficit. Alas, that is only (less than) half the truth. As the New York Fed suggests, the shadow banking system is likely a more important economic funding factor than even China and Japan combined when it comes to the CA. Which is why the all time record decline of over $1.3 trillion in shadow banking liabilities should be a far greater warning sign than any month to month change in China's UST purchasing patterns, than whether WestLB is "really" broke or only "never never" so, and than the debate whether China will decouple, float or just continue posturing vis-a-vis the CNYUSD exchange rate. As everyone contemplates navels, a major portion of liability funding is literally evaporating as shadow banking implodes. Yet nobody bothers to discuss this most important to the future of the US economy topic.

Looking at the European theater of Keynesian war, Erik Nielsen says, "We optimists have had a very good week in Europe." Well, when after a 70 year sabbatical, it is once again the pan-continental doctrine to fabricate a lie so bold, the population has no choice but to believe in it, it is truly a victory for the bulls. Yet even the consummately rosiest outlook out of Chiswick agrees there are at least a few thunderclouds on the horizon: "Hungary is a space worthwhile watching. Orban’s government seems to have taken a populist line, but I think the EU and IMF will be prepared to make a demonstration effect out of Hungary, if needed. The government will most likely end up caving, but it could become quite messy before then."

I have written in the past about the prospect of a nuclear Iran and its destabilizing effect in the world’s most important energy region. But what if Israel strikes before Tehran’s nuclear ambitions are realized? Although given that Iran currently could have as many as 8,000 centrifuges enriching uranium by December (IAEA estimate), an Israeli strike now, as opposed to say 2003 when the secret program was first revealed, may not effectively shut down the decentralized program. Still, it could cause a frustrating delay in Iran’s timetable and, depending on the line the mullahs take immediately succeeding the attack, weaken the regime’s hold on a populace that is more educated, more worldly, more pro-Western and less easily cowed than others in the region as the green protests last year revealed. The (literally) billion dollar question of course for commodities traders is what will be the effect on the price of global energy in the immediate and longer dated aftermath of such a military strike? As with the current diplomatic stand-off today, much of that will depend on Tehran’s reaction. Here are three possible scenarios should we wake up to news of Israeli fighter-bombers winging away from Natanz, leaving a burning nuclear facility and a thousand questions in their jet wash behind them.

The European stress test today was a very very sad buffoonery to witness. Firstly the worst case scenario is a 3% GDP contraction and a 20% equity market sell-off. Let's be frank if GDP contracted in Europe by 3% stocks would fall a bit more than 20%. More importantly, as 20% correction would leave the market clear by 33% above the lows of 2009. You would think the worst case scenario would be at least to revisit these lows. So basically the worst case scenario is not really credible as a "worst" case. Secondly the test focused strictly on the mark-to-market holdings of sovereign bonds. That is like sizing up an iceberg using only the tip. Spanish banks for example are ridden with housing inventories that are most likely marked at the 2006/2007 highs, and all that is happily excluded from the test, as well as accrual accounting books. The fact that they had to resort to truncating the scope so much given a relatively mild worst case assumption tells you how much head scratching must have gone on to make this look half way decent. It even felt like they invented some random unknown banks that failed just to make it legit. Solid work I must say, and on a summer Friday with no volume and syndicated desks using algos to push up the tape, the reception by the market looks quite grand on paper. The fact sadly is that no one cared today and there is not one reasonably informed investor out there who doesn't see this for what it is: a sad joke. Unfortunately when everybody gives up on the market and it melts up for no reason, I think we are really worst off than if we took the pain we deserve now and deal with the real state of affairs. This expensive extension of a broken system will only make it worse in the end. - Nic Lenoir

Just as Goldman's hope that the BP gusher's taking front page priority, especially in the aftermath of the rather amusing settlement between the firm and the SEC, was finally appearing to bear fruit as for the first time in over a year there was nothing relevant on the news front regarding the 200 West company, here comes Senator Chuck Grassley lobbing a grenade full of provocative and very much unanswered questions directed at the GAO, at Elizabeth Warren, and at Neil Barofsky that demand clear and prompt answers. We are also quite content that Blackrock and AIG once again manage to get themselves dirty.

The United States and the NATO allies are preparing to disengage and soon withdraw from Afghanistan and even the most vocal advocates of the "long-term commitment" do not anticipate more than five years of active US and NATO involvement. All the local key players — in Kabul, Islamabad, and countless tribal and localized foci of power — are cognizant and are already maneuvering and posturing to deal with the new reality. Irrespective of the political solution and/or compromise which will emerge in Kabul, the US is leaving behind a huge powder keg of global and regional significance with a short fuse burning profusely: namely, the impact of Afghanistan’s growing, expanding and thriving heroin economy. The issue at hand is not just the significant impact which the easily available and relatively cheap heroin has on the addiction rates in Russia, Europe, Central Asia, Iran, Pakistan, and Afghanistan, and the consequent public health, social stability and mortality-rate issues. In global terms, the key threat is the impact that the vast sums of drug money has on the long-term regional stability of vast tracks of Eurasia: namely, the funding of a myriad of “causes” ranging from jihadist terrorism and subversion to violent and destabilizing secessionism and separatism.

Yesterday the OMB released its Mid-Season Review of the US Budget. In keeping with the encroaching Beijingization of all data releases, the administration now sees yet another decline in the 2010 budget deficit, this time a reduction of $84 billion compared to the February forecast. According to the budget office, despite a $33 billion projected drop in revenues, outlays will see an even greater haircut courtesy of "lower unemployment and government program" spending. Yet even so, the 2010 budget deficit is expected to hit $1.47 trillion and $1.42 trillion in 2011. Of course, all these numbers are flawed and irrelevant: the confirmation - the OMB's assumption about jobs projections. To wit: "With continued healthy growth in 2011 and beyond, the unemployment rate is projected to fall, but it is not projected to fall below 6.0 percent until 2015." One problem with this "assumption": for this projection to actually happen, it means the US government needs to start creating 245 thousand jobs every month beginning in July through the end of 2005 (and we give the OMB the benefit of the doubt: if their assumption means 6% by the beginning of 2015, it implies a ridiculous job creation rate of 300,000 per month for 54 months straight). Alas, in attempting to present the rosiest picture possible, the budget office is now completely ignoring such useless things as logic and merely discrediting itself with increasingly more ridiculous "analyses."

We are happy to announce our latest joint collaboration, by launching a weekly chart update of the CFTC's Commitment of Traders report for key commodities courtesy of Libanman futures. The commodities presented include crude, nattie, heating oil, cocoa, coffee, sugar, gold, silver, platinum, copper, soybean, wheat, cotton, and OJ. As currencies are not includes in the summary, we will continue our ongoing observation in key currency trends, particularly as pertains to speculative sentiment in the key EUR, JPY and CHF pairs.

All the latest charts that are fit to spin, as always courtesy of AJ Cohen's one and only true successor, David "FV of market is always 50% higher" Kostin.

RANsquawk Market Wrap Up - Stocks, Bonds, FX etc. – 23/07/10

RANsquawk US Afternoon Briefing - Stocks, Bonds, FX etc. – 23/07/10

Due to an intensive travel schedule over the next 24 hours, posting will be limited (and if prior travel experience is any indication, Greece riots over the next week may be anticipated). Please consider this thread open to mock, ridicule, debase and taunt the now completed Stress Farce, as well as to brainstorm anything and everything else that may be of interest.

Also Europe finds that :

• Full GoM clean up will be around 2 bucks
• The cost of the Large Hadron Collider was reduced to a couple of dimes
• The US budget "deficit" is estimated to actually be a $100 quadrillion budget surplus
• Merrill's expense tab at Hustler Club is only $19.95
• etc.

And we uncover that the German Landesbanks (the equivalent of the bankrupt Spanish cajas) did their own stress tests. Time for the PPT to step in with this pretext and soak up all offers. Totally pathetic BS.

Update 1: Somehow Bank of Ireland "passes" the test but needs over €2 billion in extra equity... uhm... WTF??? This is the point where the audience rushes the stage and burns the theater down.

Update 2: 5 Spanish cajas, 1 German and 1 Greek banks are eliminated on their quest to marry the US taxpayer. 84 other banks will soon be the recipients of far more US taxpayer generosity. And with that the season finale of the farce comes to a close.