Archive - Nov 2012 - Story

It would appear Mark Twain's infamous quote that "history does not repeat, but it does rhyme" has never been so apt. The following eight charts suggest the rhythm is getting louder and louder. How is it possible? It's nonsense? Well at the heart of the markets, it is still us humans and our endearing greed, fear, and heuristic biases that drive the flows... trade accordingly. “Everything that needs to be said has already been said. But since no one was listening, everything must be said again.” — André Gide

A week ago we explained how, after completely destroying the equity and commodity space, and make serious inroads into bond trading (and soon very likely into OTC interest rate derivatives, where a flash crash will literally be the end), HFT algos had taken over FX trading to the point where they have now been caught manipulating the market using Reuters' FX trading platform. Now we get prima facie evidence of just how this destruction is manifesting itself. According to Reuters, which has compiled the data on its own FX dealing platforms, "daily spot foreign exchange trading volumes... fell by 23 percent in October from a year earlier. The average daily volume traded in October was $120 billion, down from $155 billion in October 2011 and a decrease from the $133 billion recorded in September." As to the reasons: they should be quite obvious. On one hand, we have the old tried and true vacuum tubes, and Reuters reports that the decline was to a major extent driven by "frustration with high-speed computer algorithms operating on the major dealing platforms." In other words, as more and more FX trading is merely robots competing with other robots to outarb each other on press releases, in the process completely crushing retail traders, and generating outsized kneejerk reactions to the tiniest of signals, any humans left are quietly shutting down their terminals and turning off the lights.

Yesterday’s price action offered a messy preview of what lies around the corner, for the U.S. economy confronts its own Biblical demise, otherwise known as the fiscal cliff, when it slips past its own (Asteroid-less Armageddon-like) zero barrier which we estimate as the December 21 triple witch expiration. To be sure, I do not equate a near guaranteed recession and significant pullback in equities as calamitous as what Mr. Willis et al faced; but in short, the two sides are as far apart as ever as the Democrats will be emboldened by the Election while the GOP will point to roughly 50% of the country, exemplified by the popular vote, who agree with its views. Politicians fail to understand that the markets project forward such that as each faction drags its feet, the damage done to stocks could be substantial. The 12.5% expected earnings estimates for the S&P 500 for the next 12 months remain highly optimistic such that an inevitable reduction would weigh on shares.

Year-to-Date, the S&P 500 has just dropped back below Gold...Gold's performance year-to-date just surpassed that of the S&P 500 once again. If this remains the case into year-end, this will be the third year in a row that Gold has outperformed stocks. Looking forward, which 'asset' would you choose - Stocks with an implied volatility of 17% or Gold at 15.75% to the end of the year? Sharpe Ratio anyone? Perhaps asking your 'asset allocator' what his weighting is based on will be a worthwhile conversation - with the outperforming returns (past is not a predictor of the future - and noone knows) but lower forward risk expectations?

Since Mario Draghi's first ECB meeting in November 2011, the ECB balance sheet has expanded by 30% (including two rounds of LTRO which funneled $1.3tn into banks). What did we get for all that money? As Bloomberg's Chart of the Day shows, not much. Critically, as some European banks look to return that stigmatizing encumbrance, it is the banks that have benefited massively from Draghi's exuberance while the people (of Spain for example) have suffered. Using the spread between EURIBOR and OIS as a proxy for short-term liquidity (funding costs), since Draghi began his ex-Goldman stint, bank funding costs have plunged (as also shown below with CDS spreads). Meanwhile, European governments' funding costs have gone nowhere - and in most cases are considerably higher. Draghi even admitted that LTRO was not expected to reach 'the people' when he dismissed inflationary fears this morning on the back of expectations that the banks haven't used the cash - is it any wonder Nigel Farage is fuming and Greeks and Spaniards are rioting? Just wait til the Irish are told 'no' to retroactive OMT...

Do we have what it takes to get from here to there? This apparently simple question offers profound insights into the dynamics of individuals, households, enterprises and nation-states. If we answer this question honestly, it establishes a "road map" of what must be in place before a progression from here to a more sustainable future ("there") can take place. For most of the world's economies and societies, the answer is a resounding "no." The U.S. Status Quo is as intellectually bankrupt as it is financially bankrupt. Our "leadership" cluelessly clings to the only model they know: incentivize "consumers" into borrowing more money to buy more "stuff" from China, in the magical-thinking belief this churn will somehow lead to sustainable "growth." This is akin to handing a parched alcoholic a fresh bottle of whiskey to wean him of his addiction. There are more than a few lessons to be learned from Japan...

While the citizens of Athens rioted and threw Molotov Cocktails outside of their Parliament the elected officials narrowly passed the new austerity measures demanded by the Troika last night. They have a budget vote left, likely to be passed, and then the focus will shift to the IMF and the European Union and whether they will fund and how it will be done. The Greek government says it will run out of money on November 16 and the country has debt payments to be made on November 21. Last night’s vote in Athens was only the first page in the current chapter and there are a number of open questions left. Make no mistake; we are caught between three cliffs at present.

Earlier today, fast food juggernaut McDonalds reported same store sales for the month October. At -1.8%, this number was well below expectations of -1.1%, and a drop from September's 1.9%. It was driven by a 2%+ drop in comp store sales across all locations: US, Europea and APMEA, with the US performing just as bad as Europe. Most importantly, this was the first monthly drop in MCD comp sales since March 2003! So our question is: at what point does the perpetually self-deluded US population finally admit to itself that when even 99 cent meals are no longer affordable, that this country has a problem?

Spanish bond spreads reach back above 450bps today for the first time in six weeks. The last 3 weeks have seen peripheral bonds bleeding slowly but surely as hopes of OMT fade and Draghi's dream is dashed (as the auction this morning showed just how gamed out the conditional OMT has become - no money without a crash). This 3-week shift is the largest since Super-Mario first hinted at his omnipotence and shifts spread back above their 200DMA. GGBs also fell out of bed rather nastily as their much-needed money weas delayed and the no-brainer trade has lost over 7.5% in the last 2 days. So ELA is not monetary financing; OMT is a fully effective backstop; and unicorns are real...

Look up the phrase "inflection point" - it will be the most hated phrase by all those who day after day repeat that there is now way AAPL can ever drop because its "forward multiple is low" (hint: forward multiples are simply functions of forward earnings, and once the fadness and coolness of a memo, no matter how infectious in the past, is gone, so are "forward earnings', especially once the sellside behavioral finance lemmings crew takes the machete to their Price Targets and has to justify why it has been massively wrong... and also for those who have a calculator, calculate how many years of dividends $100 billion in cash funds before the cash hoard also runs out).

The people have spoken and President Obama will serve another four years presiding over the United States.  Furthermore, there is very little change to the makeup of the House and the Senate, which leaves the Administration in the same battle for control as it was prior to the election. The question now is what will the next four years look like economically? The amount of debt required today to create a single dollars' worth of GDP today is clearly unsustainable.  However, the current Administration has been increasing Federal debt at a run rate of more than $1.2 Trillion annually to date.  The understanding of the impact of increasing debt on economic growth is crucially important to understand.  Overall, the set up going forward looks like it has in the past couple of years.  It is unlikely that Obama will move to the center and be more of a politician with the best interest of the economy at heart.   It is also just as unlikely that the Republicans will back down and begin to cooperate with the Senate. However, the weight of evidence is stacked in favor of "more of the same" which means less for you and me.

Because AAPL was not enough, Grexit is now back and fully frontal:

• EU MINISTERS TO DELAY GREEK AID CALL FOR WEEKS, OFFICIAL SAYS

And dump. Funny how all the horrible news are hitting after the election.

AAPL had crawled it way into the green in the pre-open, bumping around yesterday's closing VWAP. In the early minutes of the US day session open, we saw very heavy selling volume in AAPL (and surprisingly S&P 500 futures ramped vertically). This smells a lot like someone getting a tap on the shoulder on their 'hedged' Long AAPL, Short ES position. AAPL bounced off yesterday's lows to get back to VWAP and then the real selling began... At $542 now, AAPL is over $160 off the highs and reverting back to the market cap of the entire European banking system. With 230 hedge funds holding this angel of death... small doors and large crowds do not mix... paging Topeka? Widows, orphans, and value investors first...

For those who want to imitate what is once again the world's largest hedge fund (reclaiming the spot from Apple's own prop trading vehicle, Braeburn, first exposed here), Ray Dalio's Bridgewater, which at last check had $138 billion in AUM ($76 billion Pure Alpha, $63 billion All Weather), the path is simple: just recreate the performance shown on the chart below over a period of two decades. (Oh and stop "trading" on Twitter and do some real trading).

Much like the Beige Book attempts to summarize the 'economic conditions' of all the 12 regional Federal Reserve branches, so Goldman's David Kostin screens the companies in the S&P 500 for common themese from their earnings calls. This anecdotal evidence provides critical insight into the current fundamental and thematic trends. The three key findings are (1) Managements delayed capital investment and hiring and gave conservative guidance given uncertainty about the real economy and near-term policy risk from the ‘Fiscal Cliff’; (2) Companies grappled with slow global growth: stagnation in the US, recession in Europe, and an unclear path in China; and (3) Many firms took strong action to protect high margins against tepid revenue growth, rising input costs, and frugal customers. Meanwhile, a near-record percent of small businesses rank government requirements as their biggest challenge!