Archive - Aug 7, 2011 - Story

After all the hollow rhetoric and scapegoating over the past few days about S&Ps "treasonous act" from Friday, we were delighted to finally hear one person say the truth. "I have been criticizing them and Moody's and Fitch for a long time. Moody's and Fitch are on the "S" list. I think S&P finally demonstrated some spin. S&P finally got it right. They spoke to a dysfunctional political system and deficits as far as the eye can see. They are enforcing some discipline. My hat is off to them." The person in question: PIMCO's Bill Gross, who says what everyone is thinking but afraid to say it for fear it would insult our oh so sensitive, and so incompetent, administration. Because if criticizing S&P over being far too late to the subprime party is justified, at least they have the guts (unlike those tapeworms from Moody's) to finally step against the tide of conventional sycophantic wisdom and tell everyone even a modest part of the whole truth. If that is not the first step toward penitence, then nothing is. And yes, America's real credit rating at the current level of deficit accumulation most certainly does not begin with the letter A, or B or even C for that matter. Because what America is doing is heading straight for default, however not by officially filing in the Southern District of New York, but by terminally hobbling its own currency in hopes of stimulating rampant inflation thereby cutting its debt load through devaluation. A sad side effect of that of course is the wipe out of its own middle class as well. But all is fair in love and preserving the wealth of the status quo.

70 years after rice futures trading was halted on the Tokyo Grain Exchange, it was finally reopened today... only to be halted immediately. The reason: concerns that Fukushima radiation would destroy rice crops and collapse supply sent the contract price soaring from the reference price of Y13,500 to a ridiculous Y18,500 at which point it was halted. Note the tick chart below which puts any of our own stupid vacuum tube-induced HFT algos to outright shame. That said, the move should not come as a surprise at least to our readers after we predicted the day Fukushima blew up (and even before) that very soon rice prices would surge to record highs. Little by little, that realization is dawning on everyone.

And while the world's reserve currency, better known to various Chairsatans as "money" continues dropping to record lows courtesy of his dollarcidal tendencies, the "tradition" also known as a "barbarous relic" just passed $1,700. We will be sure to point out when it passes $1,800, $1,900 and $2,000 next.

While the notional level of the market is still modestly higher than late August 2010, when indexed for that other component which everyone always forgets, yet which is an integral part of any net purchasing power calculation, the devaluation of the dollar, the S&P is now precisely at the levels at which Bernanke let QE2 loose with his Jackson Hole speech. Which means the time for QE3 has come. Of course, the notional value at the end will be that little bit higher, offset by yet another major drop in the value of the AA+ (outlook negative) US currency.

That is all.

And so the comedy circle is complete yet again after none other than former White House budget chief Peter Orszag throws cold water in the face of the White House, the Treasury and everyone else who has so far been so stupid to continue to deflect blame for America's horrendous fiscal situation purely on S&P and its "colossal $2 trillion mistake." Because if the guy who up until a year ago personally came up with the White House's voodoo numbers is telling you they are full of shit (the numbers, not the White House), perhaps it does put the administration's claim that it is all S&P excel spreadsheet skills that are at fault, in a slightly different light.

By now every Zero Hedge reader should be familiar with the two step process that is supposed to rescue Europe. First, the ECB will do more of the same whereby its SMP program will purchase billions in bonds, this time Italian and Spanish (after it already tried the same with Greek, Irish and Portuguese bonds) for temporary stabilization. Then, the EFSF will take over, and acquire up to the entire outstanding debt of all the PIIGS and whoever else afterward, with Germany ultimately footing the bill following the French downgrade from AAA which would make it an ineligible funder (and, hence, shortly thereafter: a drain). Well, the ECB is already pregnant to the tune of €74 billion. And shortly, this number will likely double, and taper out there in advance of the EFSF launch in 2 months. Yet as Bloomberg's Michael McDonough demonstrates, the current ECB intervention has been nothing short of an abysmal disaster, with the ECB spending the abovementioned amount only to see average 10 Year peripheral rates double over the same time period. Alas, this is precisely what the chart will show once the SMP resumes and another €150 billion in worthless Italian and Spanish bonds is purchased (yes, none of our Centrally Planned leaders still get that IT.IS.ALL.ABOUT.CASH.FLOWS.... and far more importantly the lack thereof). Net result, spreads will likely double yet again, at which point Germany will say enough as the risk of cumulative 100% loss becomes non-trivial and the potential loss of up to 133% of its GDP forces Germany to close the curtains on the euro experiment. So prepare for a rip in bond yields tomorrow morning as the ECB goes hog-wild in secondary markets, only to be followed by a bleed wider in spreads first slowly, and then very, very fast.

Earlier we speculated that the one thing that could throw this whole fiasco into a complete tailspin is for China to float the renminbi, which would catch an already frazzled America unawares, as China submits a formal bid for its currency to become the de facto global reserve. Well, that didn't quite happen. However, at a massive 0.23% change in the fixed overnight rate, a move that very much hurts China, it is about as symbolic of an intraday change as can be. The PBoC set the Monday USDCNY fixing at a record high of 6.4305, up from 6.4451. While it is unknown whether this near record rate of FX change will be sustained, China just sent a very clear message to the US, following the previously noted opeds in both Xinhua and FT, in which various Chinese individuals blasted the current situation America finds itself in. The only question now is whether China will proceed with a very demonstrative dump of US bonds tomorrow to reinforce the purely political statement it just made in FX.

While the impact on Treasurys as a result of the downgrade may be limited (after all the other side of the Atlantic is about as ugly as the US, so where could $8 trillion in marketable USTs practically go... at least for now), the same may not be said about the far smaller, $2.9 trillion municipal market, which is about to see a blanket downgrade tomorrow as S&P warned on Friday night, and of which Matt Fabian of Municipal Market Advisors earlier said that "There will be hundreds and hundreds of municipal downgrades, which will not do well to bolster investor confidence." The scary bit: "Treasuries may be able to shake off a real impact from the downgrade. Munis I’m less sure about." Indeed, with futures already trading, and most risk assets experiencing a brief knee jerk reaction on a global coordinated PPT response by the G-7, there is still little clear understanding of what will really happen to not only the traditional system but to shadow liabilities such as repos and money markets. And munis are just one part of all of this. So what will happen if tomorrow the muni market starts unravellling, as Whitney, among so many others, has predicted? For that we turn to JP Morgan's Peter DeGroot for some quick observations.

The first of many gold price upgrades is here, as Goldman's David Greely finally catches on to what has been all too obvious to anyone with a frontal lobe: "Gold prices hit a new record high last week, closing at $1,663/toz on August 3. Despite this rally, the rise in gold prices has continued to lag the plunge in US real interest rates, with 10-year TIPS yields trading below 30 bp. With our US economics team lowering their outlook for US economic growth, implying US real rates will remain lower for longer, and with sovereign debt issues in both the United States and Europe intensifying, we are raising our gold price forecasts to $1,645/toz, $1,730/toz, and $1,860/toz on a 3, 6, and 12-month horizon, respectively." Next up: everyone else.

Highlights from the just released G-7 statement:

• G7 Says Will Take Every Action to Stabilize Financial Markets
• G7 says it will commit to secure liquidity in market
• G7 will cooperate closely on currency market actions
• G7 says it will be in close contact next few weeks
• G7 says disorderly moves in markets hurt economy
• G7 says currency rates should be decided by markets

But the winning bullet point of the year is...

Citi is currently holding an impromptu conference call discussing the US downgrade and its implications. Attached please find the notes from the call.

It is still not too late to submit one's thoughts of what the US downgrade means for various asset classes and for the economy, and world, in general. Here is one of the few worth reading, courtesy of QBAMCO's Paul Brodsky and Lee Quaintance. Their conclusion: "the downgrade is effectively a currency downgrade, which seems very reasonable, overdue and, in real terms, insufficient. We would argue that in real terms, US Treasury obligations are non investment-grade. We think Treasury obligations today and always will be money-good, but principal and interest will be repaid with bad money."

Geithner was on NBC and when discussing the massively overdue S&P downgrade of US debt, shared the following pearl of wisdom: "S&P decision to cut U.S. credit rating shows stunning lack of knowledge about basic U.S. fiscal budget math." Listen to Tim: when it comes to stunning lacks of knowledge about things, Tim is the absolute expert, although in his case it is mostly the US tax code. He added that S&P made a "terrible judgment" and reached the wrong conclusion. He is right. The cut should have been at least several more notches. But there is time... Lastly, and most expectedly, he added that the S&P decision changed nothing on the safety of Treasuries and that China remains a strong investor in the US. Perhaps. We shall see after the TIC statement from October is released, which will detail August transactions. Alas, by then the world will have other issues to deal with.

...Not too happy to start based on the early bid/ask.