Archive - Oct 2011 - Story

While the soap opera in Europe lurches from one extreme to another, in the process creating substantial market knee jerk reactions, even though the final outcome is quite clear to most with cognitive bias blinders, the next major catalyst in the macro spectacle will come not from across the Atlantic, but from these here United States, in the form of the Super Duper Committee tasked with finding the $1.2 trillion in deficit cuts needed in order to make the August debt ceiling hike legitimate. As a reminder the debt back then was $14.4 trillion - tomorrow it will officially surpass $15 trillion for the first time ever, meaning that even as the Super Committee squabbles, half the benefit from its "successful" conclusion has already been implemented. And here is where Morgan Stanley's David Greenlaw comes in with a piece in which he makes it all too clear that the Super Committee may be Clark Kent, but it sure is no Superman. "Press reports continue to suggest that the so-called Super Committee, established as part of the compromise agreement to hike the debt ceiling, is foundering. In recent days, Democrats and Republicans have offered competing plans that have little common ground. Republican members appear to remain committed to a no new taxes pledge, which will make it very difficult for the Committee to come anywhere close to its $1.2 trillion target." In other words, just as nothing material or actionable (suffice for some grandiose delusions) came out of Europe, precisely the same will happen in the US, after our own dire fiscal situation is exposed for the naked emperor it is.

The deadline to submit a bankruptcy filing to the Southern District of New York is around midnight, which probably explains why even as MF Global is proceeding at a feverish pace to sell parts or all of it to what appear increasingly skittish investors (who, like China will likely wait until the stalking horse auction to show their bids), it has, as the WSJ has just reported, hired bankruptcy and restructuring lawyers in the face of Weil Gotshal, best known for collecting hundreds of millions in hourly legal fees for its work on the Lehman bankruptcy case, as well as Skadden Arps. It appears that the sale process has not gone quite as well as hoped for, and now the company is bracing for the worst with just under 6 hours left to iron out a going concern solution.

The entire fractional reserve banking system rests on the premise that the short currency long assets/loans trade works, by creating a future economy that provides real greater output to sustain the circulated currency, because expunging it through deleveraging is a dangerous process for bank balance sheets and a deflationary event. The great question at the present time is: Has the recent credit expansion provided the US or Europe with an economy which can sustain the currency stock in circulation with it's accruing interest or has the malinvestment been so bad, that the currency amount in circulation is unsustainable and the resulting deflation will be met by central bank debt forgiveness to the currency shorters. When banks create currency on their balance sheet and trade it for an asset, they sell something they do not have and which they have to repurchase in the future! This mechanic in an environment of latent deleveraging, and massive policy intervention by central banks and governments generates 'Risk on, Risk off' and the banking systems gyration towards selling short currency or covering versus all possible assets is pushing all correlations to 1.

When it comes to discussing monetary history, and specifically what happens when it all goes wrong, there are two must read tomes: one is "The Dying of Money" by Jens Parsson (pdf link) and the other one is "When Money Dies" (pdf link) by Adam Fergusson. Today, we are lucky to bring to you a must watch interview between James Turk of the GoldMoney Foundation and the author of the former, Adam Fergusson. They discuss the fateful decisions that led to hyperinflation in post-First World War Germany, and how central bankers as well as ordinary members of the public today would be well advised to heed this warning from history. Fergusson discusses how the hyperinflation affected different groups in German society in different ways – with debtors benefiting and huge numbers of middle-class savers wiped out. Riots, corruption and political extremism were just some of the malignancies encouraged by the hyperinflation. He points out that those who held hard currencies as well as people who held tangible assets like gold and silver were in-large part protected from the worst economic consequences of the hyperinflation. In his words: “gold remained at all times in Germany the measure of what was important to them.”

Following another weekend of consistently disappointing news on the latest and greatest bailout front, where the #1 question of just who funds the €560 billion EFSF hole remains unanswered, it is not surprising that the EURUSD has entered the pre-market session modestly lower. If China continues to posture as it has over the last 48 hours, expect this to trend lower as Asia wakes up, with the only possible saving grace the fear that weak-hand residual EUR shorts, which as noted on Friday remain at stubbornly high levels, may cover on any slide.

There was a time, half a decade ago, when contrary to what they declared in polite (and not so polite) public, every young aspiring hedge fund manager on Wall Street secretly hoped to appear in Trader Monthly's Top 30 under 30. Since then Trader magazine, the symbol of all the excesses of the "zeroes" appropriately went bankrupt, then reappeared once again, though completely stripped of its cachet as the media of choice for Generation XS$. But for the sake of memory lane, and in remembrance of days when it appeared that the flow of money would never cease, and children in their late 20s were disappointed if they did not get an 8 digit bonus, below we present The Decade Wall Street Went Insane - the Zeroes, in which "we get a ringside seat alongside Trader Magazine to some of the biggest parties of the decade, including a Wall Street "Charity" boxing night held at Manhattan's lavish Hammerstein Ballroom. This 5-part web series pits the fantasy of unlimited growth against the wheeling-and-dealing of Wall Street's glitzy surface. We urge any #OWS fanatics with heart conditions to skip this if at all possible.

A few days ago China telegraphed it refuses to continue to be seen as the world's rescuer and the dumbest money in the room. Many assumed China was only kidding: after all how would China let its biggest export partner flounder? And furthermore, all China does is provide vendor financing, right? Well, as it turns out, wrong, because to China the current state of Europe is far from the terminal crisis Europe is trying to make it appear. This is happening even as a thoroughly desperate and grovelling Europe, kneepads armed and ready, has said via the EFSF's Regling that it will even consider issuing Yuan-denominated bonds. Alas, China is less than impressed. As AFP reports, "China’s state media Sunday warned that the country will not be a “savior” to Europe, as President Hu Jintao left for an official visit to the region including a G20 summit. Hu’s visit has raised hopes that cash-rich China might make a firm commitment to the European bailout fund, but in a commentary, the official Xinhua news agency said Europe must address its own financial woes. “China can neither take up the role as a savior to the Europeans, nor provide a ‘cure’ for the European malaise. “Obviously, it is up to the European countries themselves to tackle their financial problems,” it said, adding that China could only do so “within its capacity to help as a friend." A friend, who at this point is quite sensible, and realizes far better deals are to be had down the line if one merely waits. That said, we are certain China is not the only one out there with an instant notification pending the second Santorini, Ibiza or the Isle of Capri hits E-bay.

A new proposal by Nasdaq has the market purists such as our friends at Nanex and all those (very few) who still care about how broken the market is and demand something be done about it, writhing in disgust, particularly this section:

\5\ The Exchange is also changing its policies and procedures under Regulation NMS governing the data feeds used by its execution system and routing engine. Current policies state that those systems use data provided by the network processors. In the future, those systems will use data provided either by the network processors or by proprietary feeds offered by certain exchanges directly to vendors.

Nasdaq's proposal admits that exchanges are supposed to use the SIP (CQS/UQDF) data for their execution system and routing engine! They want to formally change things to match what they've been doing all along so they can avoid fines and more! Why would you submit a proposal to change something you've already been doing? In other words, what the exchange is proposing, is already common practice. If exchanges are granted this proposal, Reg NMS, for all practical purposes, is no longer relevant, and there is no point in having the SIP calculate the NBBO, because it will have no meaning. Translated: the market will be, for all intents and purposes, officially two-tiered and terminally broken.

In the big picture, the market continues to be torn between two conflicting desires. On the one hand, there is a need to remain nimble and keep any "risk-on" positioning light, given that a permanent solution for the Euro zone remains elusive and that US and global growth may remain slow as also indicated in our forecasts. On the other hand, in the wake of the risk sell-off in August and September the market, in our view, remains underweight risk, which was underscored once again this past week by the outsized rally following what was really a relatively tepid EU summit. In short, while substantial uncertainty remains, there is always a possibility this gets brushed aside into year-end. Given this uncertainty, we monitor two things. First, the European policy process obviously remains key, and we will be monitoring developments into the Nov. 3-4 G-20 Summit in Cannes and the Nov. 7 Eurogroup meeting in Brussels closely. The former will be key in fleshing out any emerging market contributions to the SPV announced in the EU summit statement from this past week. The Eurogroup has been tasked with finalizing the implementation of EFSF leveraging and the SPV in November. Second, we are closely watching cyclical data in the US and elsewhere, and whether downside risks to growth are abating. In this regard, the coming week brings the global PMIs, including the all-important ISM and October payrolls, where at 75k, we are below consensus (95k). In terms of central bank meetings, we expect the FOMC to leave policy unchanged on Nov. 2.... Mario Draghi's first policy meeting as President of the ECB will be important to watch on Thursday. We hold firm to our view that a rate cut will only come in December (50bp), and the market is pricing low odds for a cut this week.

With the question of who will fund the majority of the EFSF, or the €560 billion of the €1 trillion, still outstanding, and with China no longer the slam dunk "dumb money" everyone had expected it to be, Europe turns to the next biggest beneficiary of maintaining the ponzi - the entire G20 itself. Below is the letter just sent out from the two Eurostooges in which they make it all too clear that money talks, or Europe walks. "We will implement these measures rigorously and in a timely manner, and we are confident that they will contribute to the swift resolution of the crisis. However, whilst we in Europe will play our part, this cannot alone ensure global recovery and rebalanced growth. There is a continued need for joint action by all G20 partners in a spirit of common responsibility and common purpose." Too bad Bernie Madoff went to jail before he could send out comparable letters to his own investors who by implication would have become "voluntary partners" with a gun to their head.

Some amusing weekend observations from TTMYGH's Grant Williams: "The EFSF is basically an empty box filled with promises of money - many of them from the very people who are most likely to need to borrow that same money. Should they need to borrow the money, they won’t be able to make good on their promises so there will be less money for them to borrow. Now the brain trust running Europe have decided, in their collective wisdom, to apply leverage to the non-existent money in the empty box that they have yet to actually borrow, so it can backstop even more of the hundreds of billions of Euros of sovereign debt issued by countries whose finances are in such dire straits that they either require the kind of robust growth that is hardly likely to materialize any time soon or the forgiveness by the holders of that debt of a large part of it....Of course, granting Greece the package they did this past week, the Eurocrats have rather incredibly found yet another corner into which to back themselves. You can hardly champion the ‘One Europe’ manifesto on the one hand but then, as the next country lines up at the counter, declare “No soup for you!” - but that seems to be the ‘plan’ at this stage."

"We are all Greeks" - so begins one of the best reports on the unsustainability of the status quo, and on what "the new world order" will look like, created by SocGen's Veronique Riches-Flores. Her overarching observation: "No one can claim immunity from a Greek-style spiral" because "Our economies are mature, with weak potential GDP, especially post the financial crisis" and due to that old standby which everyone chooses so conveniently to forget, yet which is the biggest threat to the world's "welfare-state" stability, in existence since 1860 and which has been responsible for not only the longest period of peace in world history, but for the longest stealth plundering of middle-class wealth (there is indeed no such thing as a free lunch): "We are aging - we have no chance to see our future income improving substantially in the long run ; our savings capacities are shrinking and our health and pensions spending is increasing." That, in a nutshell, is it, no matter how many protracted essays one reads predicting the future (or war in Europe): the truth is there is increasingly less cash flow, coupled with increasingly more demands for cash.

While it is not the bears doing the explaining in this latest all too realistic summary of the European non-bailout, it is the next best thing.

Recent anecdotal evidence out of Asia suggests that the flight training received by some civilian airline pilots is based entirely on the aircraft's autopilot functions. Recall that an autopilot is a mechanical, electrical, or hydraulic system used to guide a vehicle without assistance from a human being. This deficiency in their training has been revealed in a most disconcerting fashion: when the aircraft's autopilot malfunctions, the pilots do not know how to actually fly the airplane. In other words, pilots are not actually trained to fly aircraft, i.e. to know how the aircraft responds in real time to actual human intervention/control; they're trained to monitor and manage the autopilot system which does the actual flying. This is a precise analogy for the European Union's leadership: they don't know how the financial system actually works, they only know how to follow the banking system's autopilot. Now that the financial system's autopilot has been fried, they are clueless and increasingly panicky: what does this lever do? Why is the stick so sluggish? We're losing power... there must be an auxiliary power switch, like in Star Trek... Good God, doesn't anyone know how to actually fly this thing? Sadly, the answer is no. The EU leadership, just like that of the Federal Reserve and the U.S. government, only know how to blindly follow the system's autopilot program: increase leverage and debt, keep interest rates low so everyone (and every nation) with a pulse can increase their debt load, and let high-frequency trading (HFT) programs goose the stock market ever higher.

It has been just over 48 hours since our call that PIIGS the world over will scramble to demand the same concessions that were just granted to Greece courtesy of its economy being in the toilet and getting worse (thanks to lies to misrepresent the Greek economy as being worse than it really was). We already got Ireland yesterday. Now it is Portugal's turn. Reuters reports that "Portugal asked Mexico on Saturday to tell fellow G20 members next week that the United States should offer "financial help" to resolve the euro zone sovereign debt crisis, describing it as a "systemic and global" problem, a Portuguese government source said." Of course, the "US" is a clear proxy for "everyone else" - that the US, whose politicians can't agree on a fiscal stimulus for the US, let alone for some country by the straits of Gibraltar they have never heard of, will not move an inch to save Portugal is a given. Which means that once Portugal is, as it anticipates perfectly well, shut down by the US it will commence demanding for help from those who at least can grant it - the EMU and the Eurozone. And when those refuse, Portugal will do the glaringly obvious: take a page right out of the Greek textbook and proceed to suicide its own economy. And why not - it worked miracles for Greece. Now: two down and two to go. The only question is when does Italy do precisely the same logical next step, and tell the world that its $2+ trillion in debt, the second most in the Eurozone after only Germany, is unsustainable, and will need a modest haircut. 20% should do it. We wonder, what will that do to French banks (and their "perfectly hedged" US proxies - such as MF Global and others)?