Archive - Sep 30, 2011 - Story

Your one stop, comprehensive summary of the past week's key positive and negative events.

The clock has been turned back to 1989 and the stock market briefly cheered the temporal transformation, although credit markets have remained far less sanguine. With Europe on everyone's collective mind, rumors of an expanded European Financial Stability Fund (EFSF) acting akin to the early version of U.S. TARP had many hoping that a true resolution had finally been found. Of course, the first plan (the one sold to Congress) for TARP was to act as a resurrected Resolution Trust Corporation (RTC), so the markets are reaching back to the late 1980's for guidance on how to "successfully" contain banking contagion.

Equities ended on a very weak note, bringing the worst quarter since Q4 2008 for the S&P500 to an end. Stocks remain, perhaps remarkably to some, expensive relative to credit markets - especially HY which is feeling significant pain as issuance volumes drop 75% in the quarter to their lowest since Q2 2009. While stocks dropped around 2 standard deviations from a long-run mean, Treasuries did even better and rallied around 3.5 standard deviations - the second largest percentage shift in yields ever (once again Q4 2008 was the only better). Truly a remarkable day, week, month, and quarter and to be frank, one that shows no signs of slowing and as far as the rotation/re-allocation trade from bonds to stocks, we suspect risk-aversion will keep that on hold with a 4 standard deviation jump in VIX.

On September 29, 2011, beginning at 14:08:25, quote rates from one stock, AMD, accounted for nearly half of all equity quotes. The pattern of data is similar to what we found in Dell a month earlier. There were 6 seconds that each had over 20,000 AMD quotes. We are having trouble finding the appropriate superlative to describe the level of lunacy that generated this event, and the incompetence of regulators to allow it to continue. And continue it does: both in frequency and magnitude. Soon 20,000 quotes/second per stock will be the new normal.  This problem will only continue to grow until one day, when there is real market impacting news, there simply won't be enough bandwidth or computing power to process legitimate equity prices. And everyone will wonder what happened. The last time this occurred was May 6, 2010.

Sean Corrigan of Diapason Commodities shows, in his wonderfully loquacious way, the massive disruptions in domestic money holdings involved since 'Irrational Exuberance',  noting the underlying message that, given that they hold a higher fraction of the stuff than has traditionally been the case,  if you want to 'mobilize' the money in existence now, it is the willingness to do so of Non-financial BUSINESSES (both corporate and non-corporate) that needs to be encouraged, a finding which further supports our oft-expressed contention that it is not the level of interest rates or currency parities, but the extreme degree of regime uncertainty which is the enervating factor and that this last is as much to blame for the current, sub-par recovery as it was in the FDR/Morgenthau/Eccles 1930s.

A remarkable discovery reveals equations that economists say could end the business cycle - forever. Ian Macallum, spokesman for the Royal & Ancient Historical Society of London, told Routers that the equations were contained in an unpublished manuscript which was found in the attic of an 18th century flat in Soho. "We were skeptical when initially contacted by the current owners” said Macallum. “There is no record of Keynes ever having resided at that address. But we can confirm that the manuscript is indeed an original work of Lord Keynes." The formulas seem to have been derived from the Navier-Stokes equations which describe the motion of fluid substances. “It’s pure Keynesian genius” said former Fed Governor Fred Mishkin. “There is a strong consensus among economists, at least within the Federal Reserve, that liquidity is the answer to the age-old question ‘what is the meaning of life?’” So, it makes perfect sense that someone as brilliant as Keynes would adapt these equations to a framework for fiscal and monetary policy.”

If the equity crowd only knew how difficult it is to trade financial instruments in secondary markets (or primary markets with IPOs non-existent and IG issuance taper off etc) and what each new non-agency valuation mark means for the next quarterly earnings report, given top five banks own near $800 billion of second liens and stuff not to mention other variations of housing stock.  Record long mortgage exposute in all its forms.  These asset markdowns will be reflected across the street in next slate of earnings statements.   Litigious environment too blurring liability thanks to partner government.  Financials CDS anywhere from +15 bps to +25 bps wider. Another thought is that this particular primary banking group is actually the lubrication, artery or aorta for the liquidity of the U.S. Treasury as primary role for distributing U.S. and other sovereign debt.  What does it mean when the equity valuations of these players plummets, what their OWN liquidity dysfunction and willingness and ability to raise liquidity for U.S. or any debt?  I suppose with the recent Op Twist release a few minutes ago, the Fed will buy some of it. 

As EK is halted on news that it is considering patent sales and potential bankruptcy (very much in line with the expectations CDS markets have had for a while), we present the professional falling-knife-catchers (sorry value investors) who owned the most at the end of Q2. Has anyone heard from Bill Miller today? Largest holder was LMM LLC (yes that Legg Mason). Or is Bill Miller preparing for a speech at some Value Investing Shindig?

You didn't think the Fed would let more than a few months pass without the much beloved and dearly missed near-daily POMOs now did you. The FRBNY's Brian Sacksters just released the October schedule of $44 billion in long-dated purchases, and $44 billion in short-dated sales. Since the net effect to banks is one of derisking, the offsetting rerisk will be implemented in the form of more stock purchases. Hopefully their prop desks (which no longer exist, right, after all the whole Volcker Rule thing and the UBS fiasco...) will know how to trade Netflix this time around better than last time.

While Buffett hemmed and hewed in his usual populist rhetoric, discussing how multi-billionaires can afford to be generous with other people's tax rates, all of it completely unremarkable and highly hypocritical, the Octogenarian did release, whether by accident or on purpose, something quite critical, namely that European banks have approached him with requests for money.  From Bloomberg: "They need capital in their banks, in many of their banks," Buffett, Berkshire's chairman and chief executive officer, told Bloomberg Television's Betty Liu on "In the Loop" today. "We would not be a good prospect," he said in an interview from the New York Stock Exchange. He's received "very, very few" calls about putting capital into European banks. "Not quite none at all," he said, declining to name any institutions."And that, as they say, is a word out of place, because while one my pretend that borrowing $500MM from the ECBs Fed swap line is really just an (inverse) arb on Libor or some other useless excuse, a bank begging for Buffett to take a bath can not be explained away.

This week's trifecta of key financial developments, that go far deeper than superficial headlines, namely China, Morgan Stanley (and European bank exposure in general) and the equity-credit disconnect, just got another major push. CNBC just interviewed Tim Backshall (of Capital Context) to discuss the dramatic moves in MS credit risk (which we mentioned earlier) and in an undeniably convincing accent (British, Aussie, South African?), he managed to bring many of our broader concerns into focus including global financial contagion, bank funding, Chinese growth, and high yield credit. We also learned that ZeroHedge is a blog.

Update: Sorry folks, looks like another disappointment. Per the WSJ's Tamer El-Ghobashy, "#Radiohead spokesperson: “we can officially say its not happening” re: #occupywallstreet performance."

The move in Morgan Stanley CDS has been grabbing some attention.  It has moved wider than any of the other banks.  Its exposure to French banks in particular has been part of the reason.  Potential hedging of counterparty exposure has also been listed as a reason. (Once again I can’t help but wonder why derivatives in general, and CDS in particular, didn’t get forced into clearing or exchanges after Lehman). I don’t know whether Morgan Stanley is rich or cheap at these levels, but I think there is more digging that needs to be done and it should focus on Asian exposures because that seems to correlate best to the recent moves.

David Stockman, former US Representative and Director of the Office of Management and Budget under Reagan, does not mince words. He sees the monetary systems of the world coming apart. How did we get here? He identifies the root cause as the intentional over-leveraging of world economies by central planners in a misguided effort to enjoy growth without consequence.

I blame it on the Fed. I blame it on the 1971 decision by Nixon to close the gold window and let the dollar float. Because out of that has evolved -- or morphed -- a central banking policy in the world that absorbs unlimited amounts of government debt. And so we went on what I call the "T-bill standard" or the "federal debt standard." And the other central banks of the emerging mercantilist Asian economies -- Japan, Korea, and now, especially, the People’s Printing Press of China -- have absorbed this massive emission of debt that otherwise would’ve created powerful negative consequences that would’ve forced politicians to act long ago. In other words, higher interest rates, pressure for inflationary monetary policy, and the actual appearance of price inflation. But because all the bonds on the margin were being absorbed by the central banks, we got away for twenty or twenty five years with “deficits without tears.”

And he's just getting started. The only thing more impressive than Stockman's CV of insider roles in public economics and private finance is his talent for colorful metaphor.