Archive - Feb 7, 2012 - Story

Perhaps after today's budget miss in the Hellenic Republic it is time that the focus shift from the reality of a pending #fail for the voluntary PSI (for all the reasons we have at length discussed no matter how many headlines the markets tries to rally on) to a post-restructuring real economy reality in Greece. Whether self-imposed by devaluation or Teutonia-imposed by Troika, austerity is in the cards but there is a much more deep-seated problem at the heart of Greece - a total and utter lack of innovation and entrepreneurship. As Goldman's Hugo Scott-Gall focuses on in his fortnightly report this week "the competitive advantage of innovation is one that developed markets need to keep" and in the case of European nations that desperately need to find a way to grow somehow, it is critical. Unfortunately, Greece, center of the universe for a post-restructuring phoenix-like recovery expectation, scores 0 for 3 on the innovation front. Lowest overall patent grant rate, lowest corporate birth rate, and highest cost of starting a new business hardly endear them to direct investment or an entrepreneurial dynamism that could 'slow' capital flight. Perhaps it is this reality, one of a Greek people perpetually circling the drain of dis-innovation and un-growth, that Merkel is starting to feel comfortable 'letting go of'. Maybe some navel-gazing after seeing these three doom-ridden charts will force a political class to open the economy a little more, cut the red tape (after a drastic restructuring of course) and shift focus from Ouzo, Olive Oil, and The Olympics. We also suggest the rest of the PIIGS not be too quick to comment 'we are not Greece' when they see where they rank for innovation.

The problem with printing money and promising to do so for years ahead of time is that the negative consequences of inflation only happen after a delay. As a result, it's difficult to know if a policy has gone too far until years down the road at times. Unfortunately, if confidence in the dollar is lost, the consequences cannot be easily reversed. One problem for the Fed itself is that it holds long-term securities that will lose value if rates rise. The federal government faces an even more serious problem when interest rates rise, as higher rates on its debt mean greater interest payments to service. Due to this federal-government debt burden, the Fed has an incentive to keep rates low, even if the long-term result is higher inflation. However, for now the Fed's statement suggests it sees inflation as "subdued," so it's putting those concerns aside for now.

While hardly surprising to anyone who actually paid attention over the past two months to events in Greece (instead of just reacting to headlines) where among those on strike were the very tax collectors tasked with "fixing the problem", we now get a first glimpse of the sheer collapse in the Greek economy, which also confirms why Germany is now dying for Greece to pull its own Eurozone plug (predicated by a naive belief that Greece is firewalled as was discussed before. As a reminder Hank Paulson thought that Lehman, too, was firewalled on September 15, 2008). And what a collapse it is: according to just released data from Kathimerini, budget revenues lagged projections by €1 billion in the very first month of the year. "Revenues posted a 7 percent decline compared with January 2011, while the target that had been set in the budget provided for an 8.9 percent annual increase. Worse still, value-added tax receipts posted an 18.7 percent decrease last month from January 2011 as the economy continues to tread the path of recession: VAT receipts only amounted to 1.85 billion euros in January compared to 2.29 billion in the same month last year." This it the point where any referee would throw in the towel. But no: for Europe's bankers there apparently are still some leftover organs in the corpse worth harvesting. Unfortunately, at this point we fail to see how this setup ends with anything but civil war, as the April elections will merely once again reinstate the existing bloodsucking regime. We hope we are wrong.

It has been rumored before, but allegedly the potential for the ECB to transfer bonds to EFSF is back on the table. The ECB would transfer the bonds at cost to the EFSF (net of interest earned?) and the EFSF would participate in the PSI. There are some positives in this.  Greece would get additional savings and that ECB bonds are nto subordinating other bond holders. There are also some definitive negatives. If the Troika will just use the EFSF as a way to bury losses they don’t want to take directly, no one will lend to EFSF on a leveraged basis. Furthermore, this could highlight the ECB's unwillingness to print to meet its shortfall and impact sentiment that way. It will get very interesting if some countries actually come out against this.  If the EFSF was going to use guarantees to issue debt and then buy bonds of the PIIGS, that was one thing.  Now they are going to borrow money so they can hand it to the ECB.  That is different and may annoy some of the more prudent countries

Somehow, once again, we managed to rally EURUSD (to 2 month highs) on the back of Greek deal hopes (even as Merkel stomped her feet, Hollande flexed his muscles, and Dallara/Venizelos had nothing to report) which maintained a modicum of support for equity markets (which also got a little late day push from another record-breaking Consumer-Credit expansion) as cash S&P made it to early July 2011 levels. Unfortunately, with Utilities leading S&P sectors, credit diverging wider in investment grade and high-yield, Copper underperforming (post overnight China reality checks), WTI's exuberance (relative to Brent at least), and implied correlation diverging bearishly from VIX, we can't say this was a wholly supported rally. Broad risk-asset proxy (CONTEXT) did stay in sync with ES (the e-mini S&P 500 futures contract) after the European close as Treasuries held up near the day's high yields and FX carry stabilized. Financials lagged with the majors actually underperforming for a change as we note the late-day surge in ES to new highs saw significant average trade size suggesting more professionals covering longs into strength rather than adding at the top. Volume was above yesterday's dismal performance but remained below the year's average so far. Credit and equity vol are back in line and credit has now been flat and underperforming for the last three days (even as HY issuance has been high).

Just when we thought the US could not sink any further in its usurpation of civil rights, here comes the FBI to advise all those who tend to think that the broken economic model of the past century is the cause for the global insolvency, that wanton fiat diluation and reckless debt issuance does not 'fix' the problem of uber-leverage, and that the gold standard is the proper way to return to monetary stability, will henceforth be considered extremists. From Reuters: "Anti-government extremists opposed to taxes and regulations pose a growing threat to local law enforcement officers in the United States, the FBI warned on Monday. These extremists, sometimes known as "sovereign citizens," believe they can live outside any type of government authority, FBI agents said at a news conference." And the most epic line ever written: "The extremists may refuse to pay taxes, defy government environmental regulations and believe the United States went bankrupt by going off the gold standard." So... the US did not go bankrupt by going off the gold standard? But why did the US "go bankrupt" then? We are confused.

As some may remember those long ago days of January, when the market was not still lost in the latest bout of QE-hopium induced euphoria, December sales missed expectations, following even more disappointing November sales, despite propaganda channel promises that the 2011 shopping season was the "strongest ever"... and yet, many were wondering where did the already cash-strapped US consumer procure the cash to shop as much as they did, even if it was well below a record level. Now we know: it was on credit. As the chart below shows, Non Seasonally Adjusted Credit in December 2011 exploded by $33 billion sequentially In December compared to November: the third highest in the past 18 years, and only second to August 2007, which just so happens was both the peak of the market, and the peak of the credit bubble. The SA chart shows pretty much the same: a surge in consumer credit in December, even if the bulk of it was non-revolving, or used for such purchases as offloading some of that GM channel stuffing, and paying for one's college education. What does this mean? Well, with at least 2 more years of ZIRP, the credit bubble is already back, and it is only uphill from here. US consumers will get increasingly more and more in debt as they use more debt to pay of credit card interest, leading to ever further cash injections to keep asset prices higher to give US consumers the illusion that they are wealthy, so they spend even more, and so on. Just as Bernanke is talking about QE, the US consumer is actually saying it is time to tightening. Needless to say, good luck with that. Congratulations Ben - by exterminating US savers, you have managed to reflate the consumer credit bubble as for the 4th month in a row, nobody is deleveraging, even as the US government continues to add about $140 billion in debt each month. The most epic credit bubble collapse ever is coming fast, and this one will be at ZIRP, which means that even the smallest rise in interest rates will finally and mercifully end it all. Yet an even more epic surge in prices may precede it as banks slowly but surely are forced to push excess reserves into circulation. All $1.6 trillion of them... compared to the $1 trillion of currency in circulation.

Credit Suisse believes LTRO 2.0 will see a gross uptake of EUR500-650bn, notably above current consensus around EUR325bn. The math is straightforward and does not exaggerate too much for the speculative demand which they (like UBS) do not expect to be as significant as many happy-talkers. Between existing LTROs rolling off, rotation from the MRO, Emergency Liquidity Assistance financing, deposit flight, and reserve requirement reduction they arrive at around EUR300bn and believe a further EUR200-350bn in covering private debt refinancings (and perhaps some speculative activity though as we already noted the economics are nothing like as attractive anymore), their estimate is around twice the initial LTRO net increase which could take the ECB balance sheet to over 35% of GDP, dramatically above the US and UK, and the following scenario analysis sets out the short- and long-term implications of varying gross uptakes for LTRO 2.0.

Thank you Angie for confirming what we all knew: that absent the help of the 950% debt-to-GDP levered UK, the European experiement is over.

• MERKEL SAYS 'WE NEED GREAT BRITAIN IN THE EUROPEAN UNION'

Well, uh, fingers crossed and good luck with that.

Forget farce. Forget tragicomedy. Frankly, we are out of words to describe what is happening in Greece, Europe, and, actually - the world. Luckily, Kathimerini has just the headline, and associated story, to help us through this moment of verbal crisis. In one year this headline will be appearing in all insolvent countries (pretty much all of them), who will have pledged all of their sovereign assets as cash collateral, promptly used up by creditors to pay their interest payments using "escrow accounts" which make the debtor nation merely a fund flow intermediary with a seasonally unadjusted beggar-to-population ratio of 100%.

Back in July of 2011, when we first predicted the demise of the second Greek bailout package, even before the details were fully known in "The Fatal Flaw In Europe's Second "Bazooka" Bailout: 82 Million Soon To Be Very Angry Germans, Or How Euro Bailout #2 Could Cost Up To 56% Of German GDP" we asked, "what happens tomorrow when every German (in a population of 82 very efficient million) wakes up to newspaper headlines screaming that their country is now on the hook to 32% of its GDP in order to keep insolvent Greece, with its 50-some year old retirement age, not to mention Ireland, Portugal, and soon Italy and Spain, as part of the Eurozone? What happens when these same 82 million realize that they are on the hook to sacrificing hundreds of years of welfare state entitlements (recall that Otto von Bismark was the original welfare state progentior) just so a few peripheral national can continue to lie about their deficits (the 6 month Greek deficit already is missing Its full year benchmark target by about 20%) and enjoy generous socialist benefits up to an including guaranteed pensions? What happens when an already mortally wounded in the polls Angela Merkel finds herself in the next general election and experiences an epic electoral loss? We will find out very, very shortly." Alas, it has not been all that very "shortly", as once again we underestimated people's stupidity and willingness to pay the piper of a crumbling economic and monetary system. But our prediction is finally starting to come true. Spiegel has just released an article, which encapsulates what well over 50% of Germans think, who say that the time to let Greece loose, has come.

While it is hard to call that any 3 year paper issuance, which prices at 0.347%, or the second lowest in history, and just wide of the When Issued, a weak auction, this is precisely what happened, as today's $32 billion 3 Year Notes saw a big drop in the Bid To Cover to 3.302 from 3.729 previously, but more importantly saw Direct Bidders account for nearly two thirds of the total takedown, responsible for 63.8% of the entire allotment. This was the highest Primary Dealer allocation in three years, since January 2009, when the PDs were parking cash in the short end in droves as the equity market was imploding. Troubling was that Indirects took down just 27.7%, or tied with the lowest since 2006. And as a reminder, the PDs will take any and all paper they receive, and promptly flip it in the back hole of the shadow market's repo engine for something close to 100 cents on the dollar. Which means the real interest from end buyers for ZIRP-covered paper is getting less and less. Just as Bill Gross predicted. In other news, the US liquidity trap is alive and well.

The Fed is doing everything it can to push people out the risk curve, and in particular is encouraging the hunt for yield in credit products. A lot of people are arguing that “credit” is cheap.  That spreads are high and offer a lot of value.  That may even be true, but the problem is that most retail investors don’t own bonds on a spread basis, they own them on a yield basis. The ETFs are all yield based.  The mutual funds are all yield based.  The argument might be that “corporate credit spreads” are cheap, but people aren’t investing in corporate credit spreads, they are investing in corporate credit yields, and that strikes me as very dangerous. The yields are being held down by operation twist.  The treasury has anchored the short end and continues to shift money to the long end, keeping those yields low, for now.  What happens when that ends? And keep in mind that credit almost always grinds tighter and gaps wider with little to no warning.  When the shift from concern about not getting enough yield to concern about how much notional I can lose always seems to catch the market by surprise.

Deja vu. All over again. And again. And again...