Archive - Nov 15, 2011 - Story

Well, it didn't take one day... It took a whopping two days for our always contrarian call to do the opposite of what Goldman said on Friday, to materialize. As we said on Friday afternoon, "Time to sell the EURUSD with both hands and feet, not to mention with MF Global-type leverage: that uber-contrarian FX indicator, Goldman's Thomas Stolper, who has not had a notable call correct in the past 2 years, just came out with a long EURUSD call, calling for a 1.40 target and a 1.35 stop loss. Yes, this means Goldman is now selling EURUSD until 1.40 and will begin buying it at 1.35." 48 hours later Goldman's clients lose big, Goldman's flow desk wins, and anyone who agreed with our traditional cynicism made several thousand pips assuming the proper use of MF type leverage.

While bubble-spotting among equity investing tilts is often futile, the ever-increasing call for investors to buy high-quality dividend-paying stocks has become as over-used a term as 'long-term investor', and 'buy-the-dips'. It seems the general belief is that a 3-5% dividend yield will provide 'protection' to cushion volatility as it offers income above Treasuries. Back in September we highlighted both the apples-to-unicorns comparison that is dividend yields to TSY yields and moreover, how risk (and ultimately capital loss) should play a critical part in the decision of asset allocation. Today we take a quick look at dividend stock performance over the last few years and find something intriguing - and not often mentioned - that dividend stock portfolios appear to significantly underperform in sell-offs and marginally underperform in rallies. So if you want a high beta crowded trade, admittedly with some carry, buy high quality dividend-paying stocks.

We all know some 3 trillion euros of debt in Europe is uncollectible. So why isn't anyone talking about the one and only solution, which is writing off all that debt? Since nobody knows how much bad debt there actually is in the Eurozone--care to guess on the market value of all those underwater mortgages in Spain or the true size of Italy's debts?--that 3 trillion is just a guess, but it's probably a reasonable starting point. Let's start with the most basic fact about all this uncollectible, impaired, bad debt: every euro of debt is somebody else's asset. Wipe out the debt and you wipe out the asset. That's why there's no willingness to accept the writedown of debt: somebody somewhere has to suck up 3 trillion euros of loss. Can we please dispense with the fantasy "solutions"? There is no way Europe is going to "grow its way out of this debt." How much of the eurozone's "growth" was the result of rampant malinvestment and risky borrowing? More than anyone dares admit. It won't take austerity to crash the euroland economy, all it will take is turning off the debt spigot...Life will go on if the banks are wiped out and closed, pension funds and insurance companies take losses, etc.  If those who made the bets for their own private gain aren't forced to absorb the risk, then we don't live in either capitalism or democracy; we live in a financial-fascist tyranny.

Chatter across European bond desks that a sovereign downgrade is nigh has sent BTP spreads and yields soaring. ECB buying earlier is now under-water once again.

Yesterday's divergence/convergence in HYG/HY17 was another example of the interplay between various instruments in the credit market space and how they can be traded profitably. Taking a step up from the trees to the forest, unlike Mr. Fink's earlier comments on the cheapness of equities relative to any and every other asset class, we note that in fact - were you to have a bullish perspective on the world - then HY spreads are far cheaper (i.e. priced for much more of an Armageddon-like scenario) than equities and offer more upside if things work out. However, the bond ETFs have their own set of technical flows and idiosyncratic risks and Peter Tchir, of TF Market Advisors, sees growing concerns in this increasingly active area of the market.

As expected the latest spike in the market is on nothing more than a central planner usurping the role of the Fed and making it appear that the Doves are in charge. In this case it is the first Dovish dissenter on the FOMC in years, Chicago Fed's Evans who just petulantly said that he expects the policy rate to stay low for longer than mid-2013. Indeed, the guy who got slapped down by none other than Bernanke forcing him to "dissent" is now making his outlier opinion seem to be fact. That this is identical in credibility to Hoenig saying that he expects the Fed to hike the rate to 4.5% by the end of the year is irrelevant: the market has smelt liquidity blood and is in a frenzy for a few more minutes until the realization that the only variable here, the ECB, has just said it will not monetize.

We discussed the sudden and scary drop in the EUR-USD cross-currency basis swap last week and how it is perhaps a cleaner view of the funding crisis in Europe than the delinquent Libor market. Since our first discussion, the 3 Month EUR-USD basis swap has widened even further - only worse in the heart of the crisis in Q4 2008. As if that was not enough, GDP-weighted European Sovereign risk is back up to its highest levels ever as the clear message from the markets is the ring-fencing and backstopping of sovereigns and financials respectively is simply non-existent.

The following note from JPM's Ken Landon summarizes what, in the aftermath of an ECB which as Yves Mersch just noted, will not intervene in the markets due to the realization that monetization will bring about the 4 horsemen of the apocalypse, is the greatest threat to investors: political instability, manifested either formally in the form of elections, or informally, in the form of occupations, riots, revolutions, civil wars, alien invasions, etc. And of course, to JPM, just like to everyone else threatened by the upcoming end of the status quo, the bad guy suddenly is the ECB, which had made it all too clear since inception it will not monetize debt. Yet somehow now that we are approaching the endgame it appears this was not very clear. So the plan is to shame them into monetizing everything, Weimar flashbacks be damned. To wit: "The ECB does not operate in a political vacuum. It is the only entity that has the capacity to be the lender of last resort in the Eurozone. Without this, the Eurozone does not have much longer to exist. It will implode. With the ECB decidedly on the sideline, investors are reduced to the state of having to read the tea leaves of national politics. For example, today and tomorrow are crucial days for the formation of the Monti-led government in Italy. Will he be given a strong mandate? Even if he is, will the new government be able to come up with a credible plan that investors will have confidence in?... Greece remains a wild card with the main opposition party refusing to sign a declaration of support of the October agreement.  When politics dominate markets and economies, you can be sure that uncertainty will reign and that growth will suffer." So without further ado, here is the complete list of what to look for in the next several months on the all too critical political front, courtesy of UBS.

They are, however, together with Morgan Stanley, Jefferies and all the other banks that have a gag order on Comcast, perfectly hedged... In other news, clueless copy and paste journalists turned financial pundits will still call bottoms.

We will present the following quick note Bloomberg without any commentary because it could well come from any post we ourselves could have written.

ECB Governing Council member Yves Mersch said that monetizing government debts "is tantamount to inflation" and "not feasible." To use inflation to lower the fiscal burden "would reduce incentives for governments" to tackle their debt burdens and "would raise the risks of even higher future inflation and greater output volatility. Uncontrollable wage-price spirals would be likely." Mersch said in a speech in Frankfurt today. He also added that you can not make the ECB as a "lender of last resort for governments" and that governments must live up to own responsibilities.

And scene.

“Asset Swaps” make it more difficult for banks to sell. Banks will often buy a fixed rate bond and enter into an interest rate swap to “effectively” turn it into a floating rate asset.  It should come as no surprise that banks that rely the most on rolling over short term debt are the ones most likely to asset swap bonds – yes the “weak” banks are the ones that hold bonds in this form.Asset swaps work fine so long as the underlying bond never becomes a “credit” problem.  So long as it moves more in line with rates than with credit it is a sensible strategy.  As Italy and Spain have become credit problems, they are no longer moving with rates, and these positions are adding to the problem.

So with Europe threatening to bury the world again, here is today's "decoupling" attempt to pull the world out by the bootstraps courtesy of the US with what is naturally better than expected data, just like China last week.

• US Empire Manufatruing (Nov) M/M 0.61 vs. Exp. -2.00 (Prev. -8.48), above zero for the first time since May; Prices Paid Index lowest since Novembever 09 at 18.29 down from +22.47 in Oct  - source
• US Advance Retail Sales (Oct) M/M 0.5% vs. Exp. 0.3% (Prev. 1.1%), ex Autos +0.6% - source
• US PPI ex-Food & Energy (Oct) M/M 0.0% vs. Exp. 0.1% (Prev. 0.2%) - source
• US PPI (Oct) M/M -0.3% vs. Exp. -0.1% (Prev. 0.8%)  - source

Europe entering recession, China stagflating, and the US soaring. Rrrrright. And now, back to the European meltdown.

Remember how prohibiting the use of naked sovereign CDS was supposed to make the CDS market tame as a docile lamb? Well, as it turns out, the bulk of the marginal moves were not CDS driven, but simply basis traders putting on, and taking off hedges. Ignoring the fact that many desks have experienced "Boaz Weinstein" like events in the past month (perhaps even Mr. Basis "$4.7 billion AUM" Trade himself), it seems that CDS is now simply tracking moves in cash. And those moves, if you are France, are not pretty. As the chart below shows, French CDS have just hit 88 MPH and are about to go back to a calmer, more peacful time, when everyone could buy and sell stuff using the French Franc...

Paulson & Co. sold a third of the their SPDR holding which is quite a large liquidation. However, Paulson remains bullish on gold as was seen in positive comments he made recently so it would seem likely that this sale may have been an effort to raise cash after his fund suffered sharp losses in the last quarter. Some hedge funds sold the ETF to cover losses during a rout that erased $7.8 trillion from the value of global equities since May. Soros Fund Management LLC held 48,350 in the SPDR Gold Trust as of Sept. 30, compared with 42,800 shares at the end of the second quarter. The increase in Soros gold holdings are meager at some $10 million worth but suggest that Soros is not as bearish on gold as the multitude of news headlines, regarding his comments regarding gold being “the ultimate asset bubble”, would suggest. Soros added 145,000 call options and 120,000 puts in SPDR Gold in the third quarter. This confirms that Soros is not as bearish on gold as some would have us believe. There is also the real possibility that Soros’ fund, like other hedge funds, may have opted to own allocated bullion rather than a gold trust. Some hedge funds have opted for allocated gold bullion due to it being more discreet with a lack of disclosure (no quarterly filings), due to the lower long term costs and due to allocated accounts having less counter party risk than a trust with many indemnifications. Steven Cohen’s SAC Capital Advisors LP and New York- based Touradji Capital Management LP established gold positions in the third quarter. SAC Capital, which manages $14 billion and is based in Stamford, Connecticut, held 184,601 shares in the SPDR Gold Trust as of Sept. 30. Paul Touradji had 45,000 shares compared with none on June 30, the filings show.