Archive - Aug 15, 2012 - Story

As we await the latest developments out of the Eurozone and Washington, JPMorgan's Kenneth Landon takes a moment to look back on this very important day in history. If you want to understand current events, then you first have to understand history. How did we get here? More specifically for financial markets, how did we end up in this mess -- this economic purgatory? This being August 15, 2012, students of the history of monetary economics no doubt are aware that this is the 41th Anniversary of the breakdown of Bretton Woods. It was on this day 41 years ago that President Nixon defaulted on the promise to exchange gold for paper dollars presented for exchange by foreign central banks. The crisis in confidence that we observe today resulted from cumulative effects of those measures.

Up until now we were a lone voice in the wilderness, with our "dry-humored" Transatlantic colleagues, working for a newspaper funded with Goldman Sachs advertisements, periodically mocking our "misunderstanding" of credit and money creation. We are now delighted that none other than one of the foremost opinions on all topics "shadow" stood up this week, and admitted that indeed, it is Zero Hedge whose view on money creation is the correct one. Behold several absolutely critical observations by Citi's Matt King. The same Matt King who a week before the collapse of Lehman wrote "Are The Brokers Broken" and explained to all those who had heretofore been reading and basing their understanding of finance on the above-mentioned Transatlantic newspaper, why everything they know about the modern financial system is wrong. Lehman filed for bankruptcy 12 days later. Unless and until this $3.8 trillion 'shadow banking' hole is plugged, one thing is certain: risk is not going anywhere.

Two weeks ago we reported that as the market's fascination with the "get poor quick" schemes known as 3x levered ETFs fades away, the time for the next logical step, the death of levered ETFs, has arrived when Direxion announced that it is closing 9 3x levered ETFs, among which the Direxion Daily Healthcare Bear 3X Shares (SICK) and Direxion Daily Agribusiness Bear 3X Shares (COWS). For those curious why everyone should be delighted that such uberlevered, gambling-enabling abortions as SICK COWS should always get the axe, here is a visual explanation from Nanex.

For once the squid is actually 100% correct, with or without the usual dose of dodecatuple reverse psychology.

Metaboring: it’s getting boring to make the comment that equities are again boring. Or maybe that’s called boring-squared. Here’s to hoping tomorrow is boring-cubed. To reinforce the point that nothing much is moving, our US portfolio strategy team has 20 ‘thematic baskets’ (that I can see on BBG anyways), and not a single one moved more than 1% today. None of the 8 ‘macro baskets’ moved more than 50bps.

And there you have it. What is unsaid is that unless vol, and volume, pick up as we cross the half way mark of Q3, bank earnings for the quarter ended September 30 are going to be absolutely horrific. So get ready: the Goldmans of the world want to inject some major vol (and volume) into the market. And what Goldman wants, Goldman gets.

Maybe this is a naive question, but as Goldman clients get skinned again and again and again and again and again by Goldman’s failed calls — while Goldman itself continues to rack up prop trading profits — I keep wondering just why anyone would take investment advice from a trading firm? And beyond that, why is it even legal for trading firms to advise clients? Isn’t this the biggest conflict of interest possible? We know firms including Goldman have advised clients to buy junk that the trading arm wants to get off its books.

Yes, we all know that Europe is in deep, deep, trouble, and we all know that Europe has a major fiscal deficit issue which is why well over half of the Eurozone is effectively locked out of the capital markets, and only has funding courtesy of various back door Ponzi schemes funded by the ECB, and we also all know that on a consolidated basis Europe's debt/GDP is very high. But the truth is that at least Europe is taking small steps to rectify its historic profligacy and is at least pretending to be implementing austerity (in some cases actually truly doing so). How about the US. Well, the chart below should answer that particular question. Because while the consolidated GDP of the US and Europe are nearly identical, they differ very materially in terms of both fiscal deficit, and total Debt/GDP. The chart below shows precisely where the differences lie between the United States of Europe and the United States of America.

There are already three former European central bankers who criticize more or less openly the European Central Bank (ECB). All these older central bankers experienced the inflationary periods in the 1970s in detail, whereas the younger ones seem not to grasp what inflation means. Modern central bankers seem to think that monetary inflation will not lead to price inflation in the long-term. This might be true in countries where asset prices need to de-leverage after the bust of real-estate bubbles. But it is certainly not true in states like Germany, Finland or Switzerland, that did not have a real-estate bubble till 2008. With current low employment and the aging population, qualified personnel who speaks the local language  will get rare. PIMCO’s Bill Gross might be right saying that soon employees want to get a part of the cake and not only the stock holders. This essentially implies wage inflation, the enemy of the 1970s.

Today was the lowest volume in S&P 500 e-mini futures (for a non-holiday trading day) in, well, bloody years (and NYSE volume was as dire as Monday's). Today's ES range, under 9 points, was the lowest in the last eight days of low ranges and in fact the eight-day range has only been this low a few times in the last few years and all but one of those marked a significant top. The S&P wavered around unch for most of the day with a US day-session-open ramp, post weak-data that signaled bad-is-good buying in Gold and stocks. Treasuries kept on leaking higher in yield, now up 12-16bps on the week as the USD meandered around unch on the week - with EUR weakness pulling it also back to unch on the week. VIX limped lower by 0.25 vols to 14.6 (after touching unch) but we do note that VVIX (the implied vol of VIX) has been diverging higher in the last two days but it's getting kinda crazy when we are looking at compound options for any signal. HY credit underperformed once again - with a quite ugly flush into the close (on heavy volume).

It was not enough that the Fed's Richard Fisher was 'allowed' on CNBC this afternoon to expropriate himself and his merry-Fed-men from his 'fanatical' colleague nemesis Rosengren; but Maria B., for one glorious moment, asked a question so sensible it was stunning: "Is The Fed Bailing Out The White House?" The notably business-man-background Fisher was wonderfully heretical in explaining that additional stimulus would have little impact, that the Fed's action would indeed 'look political', and that "US lawmakers need to get their fiscal act together." While he doesn't see a high likelihood of a recession in 2013, he comprehends clearly the wait-and-see 'defensive crouch' that businesses are in given the huge uncertainty. On a slow day, with so much print-and-it's-all-fixed hope, the clarifying vision of at least one man on the FOMC is perhaps worth holding onto.

While the highly "sophisticated" traders that make up the gold market continue to buy or sell the precious metal based on whether the Fed will or will not do the NEW QE tomorrow (or just because, like Bruno Iskil, they have a massive balance sheet, and can create margin position out of thin air with impunity), China continues to do one thing. Buy. Because while earlier today we were wondering (rhetorically, of course) what China is doing with all that excess trade surplus if it is not recycling it back into Treasurys, now we once again find out that instead of purchasing US paper, Beijing continues to buy non-US gold, in the form of 68 tons in imports from Hong Kong in the month of June. The year to date total (6 months)? 383 tons. In other words, in half a year China, whose official total tally is still a massively underrepresented 1054 tons, has imported more gold than the official gold reserves of Portugal, Venezuela, Saudi Arabia, the UK, and so on, and whose YTD imports alone make it the 14th largest holder of gold in the world. Realistically, by now China, which hasn't provided an honest gold reserve holdings update to the IMF in years, most certainly has more gold than the IMF, and its 2814 tons, itself. Of course, the moment the PBOC does announce its official updated gold stash, a gold price in the mid-$1000 range will be a long gone memory.

From HFT to LIBOR manipulation and European bond legal-covenants, and now Auto-manufacturer channel-stuffing; all conspiracy 'theories' proved conspiracy 'facts' - as Gabby Douglas might say "Nailed It!" We have been vociferously pointing out the incredible levels of channel-stuffing occurring at GM in the US, then China, and most recently into Europe (must read here) and now the WSJ confirms the latter; as sales of BMW and Mercedes, helped by heavy discounts and contingencies to dealers, are being questioned.  Kenn Sparks, a BMW spokesman, said its July sales total includes vehicles that were purchased by its dealers for use as what are known as "demos"— cars used on lots for test drives. He declined to say how many reported sales were demos, saying BMW doesn't release the figure. "These vehicles may stay on the lot because they are used as demo models," he said. BMW's incentives appeared to help propel the car maker to a 1,900-vehicle lead over Mercedes-Benz (as stunningly ridiculously surprisingly 7-Series sales tripled MoM, and 3-Series doubled).

Traditional legal principles are seemingly pretty clear and straightforward on how a good faith acquisition of stolen goods is to be treated: the buyer, even though he is not criminally liable, can not acquire title to stolen property. The failed futures brokerage Sentinel Management Group lost the money of its clients in when it went into bankruptcy in 2007. According to the SEC, the firm misappropriated the funds belonging to its clients. Since then, creditors of the company have been fighting over who has title to certain assets. On the one side are the customers of Sentinel, whose funds and accounts were supposed to have been segregated from the company's assets. On the other side there is New York Mellon Bank, which lent Sentinel $312 million that were secured with collateral mainly consisting of said – allegedly 'segregated' – customer funds. The result: 'Banks that received what were essentially misappropriated goods as collateral do not have to return them to their original owners as long as they are deemed to have acted in good faith'. Legal questions aside, one thing is already certain: customers of futures brokerages can no longer have faith that their assets are in any way segregated or protected. This is yet another chink in the 'confidence armor' that has propped up the financial system to date.

With the Fed lowering interest rates and flattening the curve in an effort to squeeze any- and every-one into risk-assets and mal-investment; the sad truth of this action is that it forces a drastic unintended consequence on the growing population of people that actually care about the future. Critically, as Citi points out, lower yields require much higher rates of saving (both corporates and households) and while 10% of salary allocated to 'retirement savings' will meet its goals with a 4% return hurdle, at current low yields, the average-joe in the street will need to 'save' 25% of his income - cutting heavily into his current consumptive and discretionary iPad needs.

No commentary necessary.