Archive - Jul 2012 - Story

When day after day, for three days in a row last week, the ECB spread rumors that it would commence buying Spanish debt in what was in retrospect nothing but a massive bluff (just as we suggested yesterday), what passes for a market postulated that since there was no official German denial, and with Merkel on vacation that would mean a statement from her finance minister sidekick Wolfgang Schauble, that Germany was ok with the reactivation of Spanish bond buying and as a result ramped risk by over 4% in 3 days. All of that is about to wiped out as Schauble has finally spoken. Quote Spiegel: "For days, it is rumored that the ECB will buy Spanish government bonds in a big way. Now Finance Minister Wolfgang Schaeuble has rejected such reports - there was "no truth". And scene. Luckily all the momo chasers who bought stocks last week on hopes their prayer-based strategy will finally play out, will be able to sell ahead of all those other momo chasers who bought stocks last week on hope their prayer-based strategy will finally play out. Or maybe not.

There was not much in the GDP report that was unexpected, except durable goods.  The decline in durable goods was comparable to Q2 2011, right down to the primary driver of that weakness - motor vehicles.  However, there was no earthquake in Japan this year to disrupt supply chains, production schedules and brand availability.  Just like last year, marginal economic growth overall seems to be backfilled with a tide of inventory.  The trouble with inventory at the margins of growth is that it is essentially a build-up of forward demand, and therefore susceptible to reversal should overdone production move out of alignment with final demand.  Both monetary and fiscal policies actively seek to pull forward demand, meaning this inventory-driven activity conforms to policy goals. It's almost like the 1960's and 70's, with motor vehicles and government spending driving the marginal economy again.  All that’s missing is for Ralph Nader to show up and write about how cars are dangerous.

Any contrition on the part of Weill for his role in repealing Glass-Steagall might as well be an attempt to close the stable door after the horse has bolted. It’s like trying to uninvent the atom bomb after Hiroshima. Weill was the guy who — above anyone else — was responsible for the damage done. Coming out and claiming that reimposing Glass-Steagall would fix the problem is inadequate. If he wants to be taken seriously he should match every dollar he spent trying to get Glass-Steagall repealed with new lobbying funds to reimpose a separation between banks that accept deposits and the shadow banking and derivatives casinos.

Update: a perfectly-timed release by S&P: S&P AFFIRMS UNITED KINGDOM 'AAA/A-1+' RATINGS; OUTLOOK STABLE.

In honor of today's commencement of the Olympics here are some entertaining charts that for once have nothing to do with an insolvent Europe or America, China's RAND() function, or much hated, non-magic based math, and instead have everything to do with the Olympics, and sport in general.

While it would appear that all news is good news; good news (or no news) is better news; and old-news is the best news; here is your one stop summary of all the notable bullish and bearish events in the past seven days.

What can we say? From the better than expected GDP this morning Gold and the USD (and Treasury yields) diverged from the QE hope trade - but stocks didn't. Then came the statement of the entirely sublime obvious from someone somewhere about Draghi's normal pre-meeting meetings and we were off to the races to test recent highs. Treasuries exploded higher in yield, Gold popped, USD weakened (as EUR popped), and stocks ripped. But...Treasuries reverted back to pre-Draghi-levels, EUR tumbled and the USD ended near the highs of the day, Gold gave back most of its spike gains and closed in the middle of its day's range as stocks just wouldn't give up the dream. For a 2% rally in S&P 500 e-mini futures, VIX fell only modestly by 0.9 vos to 16.7% - which is above last week's close (while stocks end almost 2% above last week's close). Amid the heaviest volume in over a month and the largest average trade size in over a week, ES closed at almost 3-month highs. It appears to us that unless Draghi and Bernanke - who now seem engrossed deep in the inter-continental thermonuclear currency war - both do their bit next week (which the market has now more than fully priced in given the dismal fundamentals) then this is becoming farcical but as Maria B said "a rally is a rally, right?" Ask the ZNGA and FB buyers of the rally on IPO day. Stocks ended the day notably decoupled from risk-assets amid Treasuries worst day in 9 months.

We discussed the use of Game Theory as a useful tool for analyzing Europe's predicament in February and noted that it was far from optimal for any (peripheral or core) sovereign to pre-emptively 'agree' to austerity or Eurobonds respectively (even though that would make both better off). This Prisoner's Dilemma left the ugly Nash-Equilibrium game swinging from a catastrophic break-up to a long, painful (and volatile) continuation of the crisis. Recent work by BofAML's FX team takes this a step further and in assigning incentives and from a 'do-not-cooperate' Nash-equilibrium between Greece and Germany (no Greek austerity and no Eurobonds) they extend the single-period game across the entire group of European nations - with an ugly outcome. Analyzing the costs and benefits of a voluntary exit from the euro-area for the core and periphery countries, the admittedly over-simplified results are worrying. Italy and Ireland (not Greece) are expected to exit first (with Italy having a decent chance of an orderly exit) and while Germany is the most likely to achieve an orderly exit, it has the lowest incentive to exit the euro-zone - since growth, borrowing costs, and a weakening balance sheet would cause more pain. Ultimately, they play the game out and find while Germany could 'bribe' Italy to stay, they will not accept and Italy will optimally exit first - suggesting a very dark future ahead for the Eurozone and with EUR tail-risk so cheap, it seems an optimal trade - as only a weaker EUR can save the Euro.

While in principle central banks around the world can talk up the market to infinity or until the last short has covered without ever committing to any action (obviously at some point long before that reality will take over and the fact that revenues and earnings are collapsing as stock prices are soaring will finally be grasped by every marginal buyer, but that is irrelevant for this thought experiment) the reality is that absent more unsterilized reserves entering the cash starved banking system, whose earnings absent such accounting gimmicks as loan loss reserve release and DVA, are the worst they have been in years, the banks will wither and die. Recall that the $1.6 trillion or so in excess reserves are currently used by banks mostly as window dressing to cover up capital deficiencies masked in the form of asset purchases, subsequently repoed out. Which is why central banks would certainly prefer to just talk the talk (ref: Draghi et al), private banks demand that they actually walk the walk, and the sooner the better. One such bank, which has the largest legacy liabilities and non-performing loans courtesy of its idiotic purchase of that epic housing scam factory Countrywide, is Bank of America. Which is why it is not at all surprising that just that bank has come out with a report titled "Shipwrecked" in which it says that not only will (or maybe should is the right word) launch QE3 immediately, but the QE will be bigger than expected, but as warned elsewhere, will be "much less effective than QE1/QE2, both in terms of boosting risky assets and stimulating the economy."

The first estimate of the 2nd Quarter GDP was released at a 1.5% annualized growth rate which was just a smidgen better than the 1.4% general consensus. There has been a rising chorus of calls as of late that the economy is already in a recession.  For all intents and purposes that may well be the case but the GDP numbers do not currently reveal that.   What we are fairly confident of is that with the weakness that we have seen in the recent swath of economic reports is that the 2nd quarter GDP will likely be weaker than reported in the first estimate. It is this environment, combined with the continued Euro Zone crisis and weaker stock markets, as the recent rumor induced bump fades, that will give the Federal Reserve the latitude to launch a third round of bond buying later this year.  While the impact of such a program is likely to be muted - it will likely push off an outright recession into next year.

A lot of desk chatter about this move in risk-assets - and the entire reversion to red on the day in EURUSD - as a WSJ report now circulating suggests that ECB members are not backing reported proposals by President Draghi. Specifically, the statement referenced is the following: "Many ECB Members Surprised By Draghi's Comments Suggesting New Bond Buys, Source Tells WSJ". The bottom line here is that Draghi most likely pulled a Mario Monti (and his hanger on Mariano Rajoy), and spoke up before pre-clearing with Buba's Weidmann. Draghi thinks that, like Monti with Merkel at the June 29 summit, he can bluff the Bundesbank into submission, and Germany will agree to monetization, especially if markets have risen enough where nothing out of the ECB next week leads to a market plunge (as the WSJ explains below). The problem is that as we patiently explained, Monti got absolutely no concessions our of Merkel, as was seen in the bond yields of Spain after the June 29 summit, which hit record wides a few weeks later. Expect the same this time around too: i.e., Germany will hardly cave in to the European beggars.

Update: it just gets stranger and stranger. With a 40 minutes delay, now the  WSJ gets in on the action, with their spin: "Many ECB Members Surprised By Draghi's Comments Suggesting New Bond Buys, Source Tells WSJ"

Normal' - USD has now reverted higher, TSY yields back lower, and Gold off but stocks refuse to give up hope

Sadly, the chart below says it all. It also means the summer of 2011 is now upon us.

Update: "ECB spokeswoman said in an e-mailed statement that it is usual practice and nothing special that Draghi meets or talks with the members of the Governing Council. She declined to comment on the content of any talks."

And so for the third day in a row, we get Europe continuing to talk itself up ever higher. From Bloomberg, with everything unsourced of course.

• DRAGHI SAID TO SPEAK TO WEIDMANN BEFORE AUG. 2 COUNCIL MEETING
• DRAGHI SAID TO FAVOR GIVING ESM BANKING LICENSE IN LONGER TERM
• DRAGHI'S PROPOSAL SAID TO INCLUDE BOND BUYS, RATE CUT, NEW LTRO

How much higher, we wonder,  can the central planners talk this market up before someone actually demands something be done? And what happens when Merkel comes back from vacation?

Many local governments across the US face steep budget deficits as they struggle to pay off debts accumulated over years. Increasingly, as a last resort, some have filed for bankruptcy. There have been 26 municipal bankruptcy filings since 2010 and the pace is clustering, as Governing.com is keeping track. As Citi's George Friedlander noted (and we discussed here), technicals (net flows) are still dominant and dragging yields lower and spreads tighter; in spite of contagion fears from cities with clear economic problems (specifically those in CA with severe housing price collapses) and also general fund debt that is not secured by a G.O. pledge. However, with the August 'cliff' in redemptions clearly not priced in yet - as fear has driven momentum into bonds recently - we fear more than a few will be wrong-footed when the net flow shifts.

“Within our mandate, the ECB is ready to do whatever it takes to preserve the euro. And believe me, it will be enough.”  Nice, Mr. Draghi, but at what cost? And who will ultimately bear this cost? It is already far beyond the measure of mere money; democracy, truth and sovereignty have all been destroyed to prop up the central bankers' Status Quo. We can presume Mr. Bernanke and the Federal Reserve are in on the propaganda campaign, and so we need to examine the words and promises of these two central bankers, as well as what they have not said. Is talking about printing money as good as actually printing money? It would seem so. Is promising to "do whatever it takes" as good as actually doing whatever it takes? Once again, it seems so; global markets leaped at the "news" that the financial Status Quo was going to be "saved" yet again.

What if it is beyond saving?