Archive - Aug 2010 - Story

Whether one believes in inflation or deflation, one thing is certain: in many ways the current US experience finds numerous parallels to what has been happening in Japan for not one but two decades. While major economic, sociological and financial differences do exist, the key issue remains each respective central bank's failed attempts to reflate its economy. While long a mainstay of Japan, if the first failed version of our own QE, which pumped $1.7 trillion of new liquidity into the system, is any indication, future comparable efforts by our own Fed will be met with the same outcome (and hopefully with the same political result: the half life of an average Japanese prime minister is 6 months - if only our career politicos knew their tenure in office could be capped at half a year...). There is of course the "tipping point" optionality discussed earlier by Ambrose Evans-Pritchard, when comparing the hyperinflationary timeline during the Weimar republic, which noted that it took just a few months for the economy to slide from a period of price stability to outright hyperinflation. Either way, for an ironic look at the Japanese deflation scenario, targeted more at novices although everyone will likely learning something from it, we present the following informative clip from, ironically, the National Inflation Association, which asks whether Japan is a blueprint for America's imminent lost decade(s).

Ian Arvin's Innovative Quant Solutions has completed its July performance tracking analysis, and the result is a major weakness for quants in the just completed otherwise animal spiritsh month, as increasingly fewer factors proved successful, with pronounced weakness in the traditionally robust during the bear market rally Momentum factor. From the summary of the attached report: "The IQS model was down 1.57% for the 4 weeks ending July 31, while the sector neutral model was down 1.01%. Year-to-Date, the IQS model is down 2.74%. IQS top decile of stocks has returned +3.6% YTD, while (according to the WSJ) the DJIA has returned +0.4% YTD, S&P 500 has returned -1.2% YTD, and The Total Stock Market has returned -.04% YTD. The IQS 1000 model was down 6.03% for the 4 weeks ending July 31, and down 6.09% YTD. IQS 1000 top decile of stocks has returned -.8% YTD. Factor categories that added to performance were led by Value and Sentiment. Momentum and Improving Financials underperformed. Weekly returns were volatile – up one week, down the next. IQS 1000."

The head of floor operations at UBS, who has followed the Dow since its triple digits days, and has been covering the market for the past 40 years, shares his ever amusing insights with Eric King. Art Cashin, whose daily comments on "napkin charting" and requisite market "nimbleness" are now legendary, and have appeared many times on the pages of Zero Hedge, discusses such matters as market topping, various levels of deterioration within the economy, the ongoing wage deflation, the shift of US society to a welfare state, the deflationary collapse of the economy, and the imminent response by the Fed: never one to mince words, Cashin observes with pinpoint accuracy "if you ask small businesses why aren't you borrowing, their answer is 'send me a customer, don't send me credit.'" and concludes "the Fed is walking a tightrope in a hurricane and it's going to be tough." We just found the understatement of the weekend.

As part of its most recent FCIC grilling, David Viniar left the political theater a month ago with a homework assignment to disclose all of the firm's derivative profits, as well as provide granular detail on its derivative trades. Today, courtesy of a memo from Goldman intercepted by the WSJ, we now know that derivative trades accounted for between 25% and 35% of 2009 revenue. "Based on the percentages provided by Goldman, such businesses generated $11.3 billion to $15.9 billion of the company's $45.17 billion in net revenue for 2009." As a reminder, the Office of the Currency Comptroller noted (table 2) Goldman had $49 trillion in total derivatives as of Q1. However, the bulk of the profit comes from trading credit derivatives where Goldman, post the assimilation of Bear and Lehman into the collective, is now virtually an undisputed trading powerhouse, and due to the OTC nature of the product allowing firms to set bids and asks as is, as long as liquidity in cash products continues to decline, Goldman will continue to dominate not only the most profitable vertical of derivative trading, but CDS will continue to generate roughly a third of the firm's profits, for both flow and prop. Post the recent shifts in prop trading across Wall Street, it will be interesting to see what the impact on the top line will be now that allegedly CDS trading at Goldman will be exclusively on a flow basis. The irony is that the Volcker Rule seems to focus almost exclusively on equity trading, while the bulk of the firm's questionable flow-prop "Chinese wall" transgressions may occur precisely in derivative trading, and should be the one area under much more scrutiny by regulators and legislators.

In pursuing an answer to the most elusive question around these days, namely just what is going on in China's real estate market, Standard Chartered has conducted the first phase of an exhaustive survey analyzing precisely what the real estate trends in Beijing, Shangai, and other Tier 1, 2 and 3 cities. The survey attempts to answer such key questions as: "What is really going on in China’s real-estate sector? Are prices falling – and if not, will they? Are developers’ finances
getting tight, and if so, will they be forced to cut prices? Confronted with the State Council’s stringent cooling policies, are developers postponing project starts and stopping construction? And if they do stop building, will this derail the economy and thus force the State Council to loosen policy?" For all curious to learn more about the truth behind the hype regarding China's real estate, which has more polarizing opinions than pretty much any other issue, this is the presentation for you.

The slope of the US Treasury curve is at or near record steep levels across most of the combinations. What determines where the curve slope will be going forward? This analysis attempts to answer that question by looking at yield per unit of duration risk. - Kletus Klump

At a loss for trade ideas (assuming of course that the masochistic streak is too strong to stay away from this travesty of a market for more than 24 hours)? Here is Goldman's John Noyce with some useful observations on key technical levels, correlations and pair trades to digest over the weekend. Trades covered include the EURUSD, the SPX, the Bund-UST spread, the 10 Year, China, and many other asset classes.

The lingering impact of August 3, 2010, clash on the Israeli-Lebanese border lies in the greater context of, and wider strategic dynamics in, the Middle East. These aspects were highlighted by HizbAllah Secretary-General Hassan Nasrallah in his speech later that day.
Overall, the issue dominating the overall situation in the Middle East is the reaction by the local powers to the emerging new grand strategic reality: namely, the demise of the United States as the dominant regional power. This is a dramatic reversal of a concentrated US policy of more than half a century.

In an advance look at how the Q2 trading season turned out for Bank Holding Hedge Funds, some of which even accept your deposits to fund their 100x leveraged steepener trades, we have the first detailed 10-Q report out of Bank of America. Granted, the bank has a bunch of chimps running its trading operation and is thus not nearly indicative of the crack prop trading gurus at firms like Goldman and MS, due to not quite streamlining the whole prop-flow synergy bit while it had time (incidentally BofA is now looking for a seller for its prop operation) but the Fed and the government (or the Goved JV as it is known by those who suckle on its discount window teat) have made it so even a room full of chimps with Bloomberg terminals will pretty much generate trading perfection no matter what they do. So it comes as a shock that in the quarter following BofA's trading perfection days (which would be completely normal from a statistical point of view in a hyperbolic Universe, where superstrings don't need 10 dimensions, and where particle physicists are actually not superfluous), the bank has reported just 81% profitable trading days. Even scarier, the bank actually reported a day in which it lost $102 million, an event that has not occurred in over 60 days.

It’s kind of ironic, I find, that the very same people who are quickest to scoff when hearing the phrase “This time it’s different” – namely the professional investing class – apparently see nothing to worry about in the idea that the world’s largest debtor can run the world’s largest deficits… and do so at historically low interest rates. To which I would comment, “Trust your eyes.” If it seems as though the situation is untenable, it very likely is. The only real question in my mind is, how long can this fiction persist? To that I don’t have an answer, but I suspect that when the truth of the situation is revealed – possibly by the roundabout path of seeing one or more of the large Asian economies come unglued – things will get far uglier, far faster, than most people suspect.

A concise summary of the week's top bullish and bearish news items.

The week's key changes in commodity bets per the CFTC's Commitment of Traders report.

RANsquawk Market Wrap Up - Stocks, Bonds, FX etc. – 06/08/10

No longer in the twilight zone, the market is now democratic beyond reproach: of the idiots, for the idiots, by the idiots. The 10 Year is at 2.81% and refuses to budge as stocks explode. The catalyst - consumer credit, which came in slightly better than the expected trouncing even as the key source is revealed to be... entirely the Federal Government! In other words, forget Kremlin Joe: central planning works. Oh, and the Double DIP-ression is once again fully priced in.

When it comes to pointless (and bullish) reversion to the mean exercises,it seems nobody has a problem with saying stocks have to go back to 1,500 just because that's where they were, and the unemployment rate has to go back to 5% cause that's how we know the Fed is the immaculate and flawless piece of art it is, and always gets things under control to near-peak efficiency. Well, here at Zero Hedge we (again) decided to take the reversion to the mean approach and flip it, instead applying it to a deteriorating indicator, the labor force participation rate. The first chart below demonstrates the LFP rate, which a derivative of the chart we presented earlier, has now plunged to the lowest level in over 25 years, or 64.6% (gotta go back to December 1984 for the first time this was passed). So we decided to "normalize" the LFP by keeping it at the peak achieved at the turn of millennium, or December 1999, when it hit a peak of 67.1%. Now as everyone knows the US population has been soaring since then, and with the cost of living increasing ever more with each day, and as more and more family members are forced to join the work pool, it makes sense that in a normal economy, the LFP should continue rising instead of declining. We thus kept it constant at the 67.1% level (instead of doing the conservative thing and pushing it higher along the trendline), and ran the unemployment numbers through, assuming this part of the jobless equation was constant. To our surprise, we found that the U-3 rate (not the U-6), which today was supposed to be 9.5%, in fact turns out to be 13.0% as of July: an all time record save for the 13.6% recorded in December 2009. And if instead we use the trendline number of a 68.5% LFP rate, the unemployment rate today would be 14.7%. In retrospect we sympathize with Christina Romer's decision to get the hell out of Dodge.