Archive - Feb 2011 - Story

While everyone is relishing the Fed's third and only mandate these days, namely to send the Russell 2000 to 36,000 and cotton limit up to infinity and beyond, while everyone else is terrified to short stock in advance of what increasingly appears like near certain additional quantitative easing, congressman Ron Paul has announced that the first Monetary Policy subcommittee meeting will focus on one of those two now forgotten Fed mandates, that of creating jobs. “I’m very pleased to hold our first subcommittee hearing in the new
Congress on a topic that could not be more critical, namely
unemployment.  Despite enormous amounts of monetary and credit expansion
by the Federal Reserve in recent years, the nation’s unemployment
picture remains bleak.  While many focus on the impact of fiscal
policies on employment,  the effect of monetary policy often goes
unexamined.  In my view we are now experiencing the bust that inevitably
results from the misallocation of capital and human resources in a
period of artificially cheap credit.  It is important to understand the
Federal Reserve’s role in creating today’s unemployment crisis, while
also highlighting that high unemployment and low economic growth can
persist even in the face of tremendous monetary inflation.” Of course, the answer to all of these problems is simple: no debt ceiling raise. If the Fed can't monetize any more debt and make the Primary Dealers ever richer (now that the PD ranks have just been expanded from 18 to 20 to include SocGen and derivative (!) trader MF Global, and its CEO Jon Corzine) from commissions on indirect debt monetization, its power is gone. But that will mean doing something for less theatrical than a few hearings, and far more responsible: such as preventing rampaging inflation across America (see cotton chart posted previously).

It seems like so long ago that we noted that cotton was up over 17% year to date. Alas it was yesterday. Yet the time-lag effect is not surprising considering that less than 24 hours following our initial report cotton is now up 23% YTD, or a 5% pick up in one day! This was yet another limit up day for one of the world's most popular commodities, which closed at $169.72, a 150 year high. The reason, per Reuters, for the relentless surge in cotton's price is Asian mills: "It's basically mills panicking," said Lou Barbera, a cotton analyst for brokerage VIP Commodities. "Overseas mills are getting the ball rolling." In reality, mills are just one part of what is rapidly becoming a perfect storm for a commodity which will soon destroy margins for all mid-tier retailers: "Powerful cyclone Yasi in Australia also worried the market because it would hit prime cotton-growing areas. Losses there could further crimp supplies in Asian markets, dealers said. Sharon Johnson, senior cotton analyst at brokerage Penson Futures in Atlanta, said it is "possible there's a squeeze" in the U.S. cotton market."

As part of its quarterly refunding statement issued earlier, the Treasury announced that it now expected to breach the debt ceiling "sometime between April 5, 2011 and May 31, 2011.  The modest change in
these estimated dates reflects an upward revision to projected receipts
and a projected downward revision to debt to be issued to government
trust funds." The tentative breach point has been pushed back by one week compared to the previous estimate of March 31, 2011 to May 16, 2011. Of course, these numbers incorporate the benefits of the wind down of the SFP program, discussed extensively previously on Zero Hedge, which we believe will provide a major (as in $195 billion over two months) liquidity boost for risk assets. As a reminder, as there was no 56 Day Cash Management Bill rolling auction today now that the Treasury is unwinding the SFP, tomorrow the market will see $25 billion in extra liquidity as an 8 week old bill matures and the proceeds are used by the PD to invest as they see fit. Back to the debt limit: when asked how much bigger the new debt ceiling should be, the Treasury left the ball in Congress' court:"We do not have a have particular figure that we
have put to Congress. That is their prerogative to offer that," Mary
Miller, Treasury assistant secretary for financial markets, told a news
conference. While not new, Reuters summarizes what will happen should Congress not succeed to raise the debt target number fairly well: "If Congress does not raise the limit in a timely
way, the government could be forced to scale back operations. A failure
to lift the limit could raise the specter of a first-ever U.S. debt
default and push up interest rates sharply." According to Zero Hedge estimates, Congress will end up raising the debt ceiling to $15.9 trillion from the current $14.3... a number which will need to be raised once again in January of 2012, at which point the entire debt "ceiling" farce can just be put aside.

One of the consequences of Meredith Whitney's recent prognostications that we could be facing hundreds of billions worth of municipal defaults, is that after tens of billions of investor capital have been pulled out of municipal funds, with last week seen record $5.8 billion in redemptions alone, virtually the bulk of this money has been recycled in the form of inflows into equity instruments. As such, it is surprising why so much energy is wasted to attempt to debunk Whitney's thesis: after all, she has done more to stimulate equity inflows than years of government/CNBC propaganda ever could. Yet one firm which certainly stands to lose should the ongoing muni redemption wave not moderate, is everybody's favorite PIMCO, which is oh so good at bashing the Fed and Satan Bernanke with one half of its mouth, while with the other investing tens if not hundreds of billions in federally subsidized Build America Bonds, which for the past month have been in free fall. It is therefore not surprising that as Charlie Gasparino points out, Bill Gross "has launched an all-out war to discredit Whitney’s research in an attempt to restore confidence in the $3 trillion municipal-bond market." Of course, this is nothing more than a good old-fashioned book talking campaign: Meredith, who after have failed to predict anything notable at her new venture, needs to return to her shock factor roots, and Gross, whose TRF fund, after seeing nearly two years of AUM increases in his flagship TRF, has been having a bit of a hard time recently, all due to the firm's huge municipal exposure.

Whereas yesterday Zero Hedge looked at the relationship between the ISM Price Paid index and the broad inflation CPI (coming to the conclusion that 12 months from today the CPI may be increasing by a massive 6%+), today we look at a correlation with the metric that should be even dearer to investor hearts: operating margins. The chart below shows the PMI Price Paid index compared to an inverted scale of of the S&P margin. It appears that margins follow the PPI with a four quarter delay, and while the period between 2003 and 2007 did not see a major contraction in margins, this can be attributed to massive abundance of liquidity available to the common man which allowed companies to pass through costs for more aggressively than before. Alas, and as confirmed by Whirlpool and Electrolux' results today, such an outcome this time around is impossible. One thing is certain: should February's Price Paid index continue to rise, margins will, intuitively, have no choice but to plunge. Which is why we anticipate a dramatic 15-20% drop in margins, an outcome which will have material consequences on S&P 500 EPS forecast.

Whereas two days we presented what the Treasury's options are to extend the inevitable moment before the debt ceiling is hit (which , today Goldman's Alec Phillips analyzes another angle of the ceiling hike: what the congressional debate on the debt ceiling rise may look like. While everyone is certain that the ultimate fate of the debt target, pardon, ceiling issue is a given, and that the UST will end up hiking it by another $1.5 trillion, little has been said about just how we get there. From Goldman: "Split control of Congress is apt to lead to a longer-than-usual debate over increasing the statutory debt limit, and could result in at least one failed attempt at an increase before the limit is raised. It also looks possible if not likely that Congress could approve at least one short-term increase in the limit as the debate unfolds, the first such stopgap since 1996." Yet no matter what how heated any debates, the final outcome is certain, and at least according to Goldman, should be priced in: "Although the debate over the debt limit is likely to capture the market’s attention from time to time, the overall effect of the debt limit debate is apt to be modest. Looking back to the 1995-1996 episode, there is little evidence that the most important legislative developments in that period had an effect on Treasury yields." In other words, the US will continue issuing $125 billion in debt per month, while US GDP grows at one sixth this rate, confirming that the hyperinflationary toxic loop of failed monetary policy is beyond repair. That said, we agree with Goldman - the debt ceiling will be raised as the alternative will be another round of mutual assured destruction from everyone. The same thing is true for 2012, when the next debt ceiling hike will need to take place. Then in 2013, then in 2014, and after that the debt ceiling will be raised on a daily basis.

No matter how hard the ECB is trying to mask the fact that the only way to rescue Europe is through yet another ponzi scheme, which has a CDO in its foundation no less, depositors refuse to be fooled. According to the ECB, in December Irish banks lost deposits worth €40.3 billion, over 50% more than November, when €26.7 billion evacuated the banking system. The brings the total deposit flight from Ireland's 15 retail banks to a massive €110 billion, a number which if indexed to the US, would be well in the trillions. And as the Independent points out, "The most dramatic element of the latest data, however, is the sharp
acceleration in the fight of deposits from the so-called 'domestic
group' of banks." In other words, Irish banks are likely operating on liquidity fumes, and all of their operations continue to be funded on a day to day basis by the ECB and possible the IMF. And what is even worse, is that just like in the US, Irish consumer refuse to relever: "Yesterday's figures also show another contraction in banks' lending, as loans to households fell by 5.2pc and loans to non-financial companies fell 1.2pc in the year to December."

The bottom line is that by the time the Fed becomes institutionally aware that inflation is raging across the globe - and I often wonder when they'll finally awake to the threat - it will be too late. Inflation will have the momentum, and it will take a vast overreaction on the part of the Fed to restrain it. They'll have to drain enormous amounts of liquidity and tolerate vastly higher interest rates to be able to do that, and I doubt they have the courage for such bold action. I think they will hesitate, equivocate, and ultimately be late. History suggests that inflation is best tamed early, but the Fed is already late and demonstrating a remarkable callousness by doing the exact opposite of fighting inflation. While we cannot know what it is that the Fed sees, or which demons it is fighting that provide the internal rationalization for risking a hyperinflationary outcome, we can only conclude that these threats are more spectacular than the alternatives.

RANsquawk US Afternoon Briefing - Stocks, Bonds, FX etc. – 02/02/11

Marc Faber is on a roll these days. The Gloom, Doom and Boom report author, who recently made headlines after calling Obama a whore minutes ahead of the president's SOTU address, proceeds to go on a truthiness rampage, and with his now traditional grin, proceeds to call Satan Bernanke a "liar" to the entire CNBC Europe audience. In addition to making his thoughts clear on the topic of inflation (5-8%), he also observes where the Egyptian riots will strike next: "You may not have a problem in Saudi Arabia and in the Emirates, in Kuwait and Qatar, because there the governments can heavily subsidize food if they want to. But I am worried that what has happened in Egypt will happen in Pakistan... I think Egypt is a reminder to people that politics, and social events, and geopolitics have a meaningful effect on asset markets. The developed markets have way outperformed, and now I think that it may be a wake up call that the US outperforms emerging economies for a while." As for inflation "The annual cost of living increases are more than 5% today and the BLS is continuously lying about the inflation rate, including Mr Bernanke, he's a liar. Inflation is much higher than what they publish. I think that inflation is between 5% and 8% per annum in the US, and in Western Europe, a little bit lower, also 4-5% per annum." Oh yeah, Pakistan has nukes.

When a week ago we noted that ScotiaMocatta sold out of the Valcambi 1 kg block, yet once again showed the 100 oz silver bar as back in stock, we said: "We will keep tabs on how long before this also becomes "sold out."" We have the answer and it is 7 days. As of today, Canada 's biggest bullion bank is out of not only the 100 oz silver bar, but all silver bars! This follows yesterday's news that in January the US mint sold 50% more silver than in any month before.

This is a warning to prepare for potential stealth bank runs cascading from North Africa and Ireland through to EU regional banking centers. Stealth bank runs are the unrecognized and perilous serpent lurking presently below the European financial surface. They prey on slower moving archaic bond vigilantes and anyone else swimming in these dangerous uncharted waters. Investors need to fully appreciate that a modern bank run looks and operates differently than what is depicted in the movies and what we most likely expect to occur! For starters, it isn't the individual depositor lining up, it's now Corporate CFOs or Treasurers at their terminal en masse! Secondly, it isn't driven by local depositors; it is now driven internationally by Corporate Finance committees! Thirdly, there are no telltale line-ups at bank doors. It is stealth, which will happen in an unexpected electronic 'flash crash' panic blur! Today, a triggering event will initiate global 'key strokes' that will move unprecedented amounts of money within hours.

Our expectations for not only a gross profit percentage plunge due to increasing input costs, but for downward EPS revisions for the S&P is slowly starting to materialize. Today, we received the first official validation courtesy of Whirlpool and Electrolux, both of which were slammed by surging input prices and an inability to offset these in the top line. Furthermore, with SG&A already trimmed to the bone, companies are now unable to lay anymore workers off to preserve net income numbers whispered lovingly to sell side analysts. Whirlpool is down big today after the company beat earnings but entirely due to accounting gimmicks: from the WSJ: "Whirlpool Corp.'s fourth-quarter earnings increased 80%, but that was almost entirely because of changes in tax benefits and other nonoperating items. Whirlpool, based in Benton Harbor, Mich., said Wednesday that operating profit increased 1.5% to $202 million from $199 million a year earlier." All good, yet judging by the stock price in WHR today, not even robotic investors were dumb enough to be fooled by this. Here is the punchline: "Raw material inflation is driving costs higher and we expect to mitigate these costs with improvements in cost productivity, innovation and recently announced price increases," Whirlpool Chairman and Chief Executive Jeff Fettig said.  Revenue from Whirlpool's North American segment fell 1% amid a 61% drop in operating profit caused by a lower production volume and higher materials costs." We can't wait to discover just what "innovation" improvements will offset 100% increases in virtually all input goods...

The amount of loans being provided by our banking system is a good reflector of the strength of our economy. Below is a big-picture view that shows the total loans in the U.S. as the Fed reports in its H.8 each week. We can see that loans outstanding declined at a rapid rate at the beginning of the current great recession, but there seems to be a recovery in the little jump at the end of the chart, as highlighted by the two small black arrows. A little closer look shows that the Consumer Loans segment is the source of the optimism that we see in the total.