Archive - Aug 1, 2012 - Story

We previously observed that the US Treasury, under advisement of TBAC Chairman Matt Zames, who currently runs JPM's CIO group in the aftermath of the London #FailWhale and who will become the next JPM CEO after Jamie Dimon decides he has had enough of competing with the Fed over just who it is that run the US capital markets, would soon commence issuing Floating Rate bonds (here and here) as well as the implication that the launch of said product is a green light to get out of Dodge especially if the 1951 Accord is any indication (which as we explained in detail previously was the critical D-Day in which the Fed formerly independent of Treasury control, effectively became a subservient branch of the government, in the process "becoming Independent" according to then president Harry Truman). Sure enough, minutes ago the TBAC just told Tim Geithner they have given their blessing to the launch of Floating Rate Notes. To Wit: "TBAC was unanimous in its support for the introduction of an FRN program as soon as operationally possible. Members felt confident that there would be strong, broad-based demand for the product." Well of course there will be demand - the question is why should Treasury index future cash coupons to inflation when investors are perfectly happy to preserve their capital even if that means collecting 2.5% in exchange for 30 Year paper. What is the reason for this? Why the Fed of course: "Whereas the Fed had, as a matter of practice, reinvested those proceeds in subsequent Treasury auctions, Treasury must now issue that debt to the public to remain cash neutral. For fiscal years 2012-2016, this sums to $667 billion." Slowly but surely, the Fed's intervention in the capital markets is starting to have a structural impact on the US bond market. 

Following David Einhorn's take-down of the great and glorious Oz Larry Meyer eighteen months ago, the latter has been in training - readying his counterfactual counter-punches and controlling his ire. The king of Keynesianism just had his bell rung once again by a market realist and pragmatist as Stephen Roach destroyed the "if-we-don't-have-models-we-are-making-it-all-up" maestro and his constant diatribe of counterfactual crap. "Where's the beef, Larry?" Roach asked on CNBC this morning, which was followed up with a rabbit punch from Kiernan, "and what about Christina Romer's stimulus-employment model?" The visibly shaken (seriously watch the clip) Meyer falls back once again to a defensive pose - and while practically admitting that the Fed is impotent - as he pulls out the ultimate "but without our models we would not be able to tell you how much worse it would be without the Fed interventions". Roach takes this weak cross to the chin and comes over the top with a devastating "mark your models to market in light of what the economy has done over the four and a half years, the traction from monetary policy has been the major disappointment of this so-called post-crisis recovery." TKO.

Overnight, global July PMI data was released. In a nutshell: the contraction in the world economy is accelerating primarily due to that fulcrum continent, Europe, where 10 out of 11 countries indicated they are now in contraction. And since Europe is the nexus economy for global trade, what happens in Europe happens everywhere. As BAC summarizes: "From June’s levels’ global PMIs were mixed with roughly half (13) of the manufacturing PMIs decreasing over the course of the month. Out of the 23 countries that have reported so far, sixteen of the PMIs indicate that their manufacturing sectors are contracting – indicated by a PMI reading below 50. Europe’s sovereign debt and banking crisis continues to take a toll on the region’s manufacturing sector. Out of the 11 European countries that we reported on today, 10 printed with a PMI below 50. In other words, the majority of the global manufacturing weakness is stemming from Europe."

For months the European Union, the IMF and the European Central Bank focused all of their attention on the giant firewall that was supposed to protect the core countries of Europe. It was all a diversion and one that, once again, did not work. I think the real problem is that the European Union has come to believe their own concocted nonsense. I think they honestly believe that it is some band of speculators, some Jesse James type of gang riding out of the American West that is trying to drive up European interest rates and destroy their beloved construct. The bonds of Germany, France, the Netherlands et al now trade at negative levels in the short end; this is not that the credits are so great it is that a lot of European money is mandated to stay in Europe so that the money has been put in the safest places available within the mandate and hence negative yields. Germany is becoming troubled economically and will be in a recession along with the rest of Europe by the fourth quarter of this year.  We suspect both the ECB and Fed will disappoint as the expectations, especially for the ECB, to provide some kind of miracle will not be the manifest destiny hoped for by many.

The endless noise and confusion that is the ADP private jobs report (a company which incidentally just missed on its top line), and whose forecast record for NFP is simply atrocious, has posted its second beat in a row, coming at 163K, on expectations of a 120K print, and down from last month's revised 172K. And there is the problem: last month ADP said private industries added 176K jobs. The BLS' NFP print disagreed, coming in at less than half, so sadly anyone trying to gauge what happens on Friday based on today's data will be largely mistaken. But this is all we get before today's FOMC statement, so the bets have to be made, and the market has to decide: will Bernanke make it rain, or won't he, based on 3 days in which economic data has somehow managed to scrape better than expected results. In terms of what really matters: manufacturing jobs as a proxy of the US real economy, was, as usual, sad: +6,000.

The European Equities are in positive territory at the North American cross over. The CAC-40 was the initial outperformer following SocGen’s earnings. Despite reporting a drop of more than 40% in Q2 net profits year over year, the co. beat analyst expectations on Q2 CIB net and announced the completion of its cost cutting measures and traded up to highs of EUR18.57, though shares have since pulled back into negative territory. The FTSE-100 now leads the way despite a sharp decline in July’s UK Manufacturing PMI, which came in at 45.5, the lowest reading since May 2009. This saw GBP/USD also tumble to intra-day lows of 1.5619, though the pair has since stabilised around 1.5650. Elsewhere, comments from ECB’s Weidmann that “governments overestimate ECB possibilities”, going against general consensus and speculation that the ECB will announce further stimulus measures at tomorrow’s meeting, provoked a sharp drop in the riskier assets and the Bund to gain 8 ticks, though as it came to light that these comments were taken from an article published on June 29th, the move was pared.

America is now exactly 5 months away from the day the US Fiscal cliff will crater the economy unless a Congress which has never been as partisan as it is currently agrees to collaborate and delay the day of reckoning. This is very unlikely to happen before the presidential elections for obvious reasons, and it is even more unlikely to happen after the elections when politicians demonstrate just why the term "graceful loser" has never existed when describing what happens in D.C. So what would happen to the US economy if and when January 1, 2013 rolls in and nothing has changed, and how does this differ from the consensus? The chart below from BofA answers that particular question, and brings up a new one: even if the Fed goes ahead with more NEW QE today or in September, if the "cliff" consensus really is as wrong as it very well may be, will the Fed have no choice but to follow up its easing at this FOMC meeting or the next with another one immediately following? And is this precisely the one consideration for Ben Bernanke, who realizes very well that if financial conditions, read the Russell 2000, are relaxed just in time for the crucial decision on Bush Tax Cut extension, then absolutely nothing will happen, forcing the Fed to continue being the sole source of "stimulus" in America. Of course, in that case expect nothing from the Fed not only in in August and September, but well into 2013.

A Fed decision to launch QE3 would increase the yellow metal’s appeal as an inflation hedge and bolster prices.  US house prices increased for their 4th month in a row suggesting that the US housing market recovery may be underway which dampened further hopes of any immediate easing in the US Fed’s monetary policy. The markets are playing a waiting game and investors are cautious.  Thursday’s ECB policy meeting will determine if President Mario Draghi will have the backing he needs to embark on significant policy changes to rescue the region’s financial woes.  Yesterday, German Finance Minister Schauble said in an email response to a newspaper, “The rules of the European Stability Mechanism don’t foresee a banking license to allow refinancing at the European Central Bank”.  Schauble’s comments fell like a penny in a wishing well that rippled to curb the market’s enthusiasm. Since Draghi’s initial comments to “do anything it takes” gold has increased by nearly $50/oz.

• Bundesbank’s Weidmann Says ECB Shouldn’t Overstep Mandate (Bloomberg)
• Hollande and Monti Vow to Protect Euro (FT) - be begging Germany to death
• Monti Calls French, Finns to Action as Italy Yields Rises (Bloomberg)
• not working though: Banking license for bailout fund is wrong: German Economy Minister (Reuters)
• Switzerland is ‘New China’ in Currencies (FT)
• Regulator Says no to Obama Mortgage Write-Down Plan (Reuters) - tough: there will be socialism
• Gauging the Triggers to Fed Action (WSJ)
• When domestic monetization is not enough: Azumi Spurns Calls for Bank of Japan to Buy Foreign Bonds to Curb Yen (NYT)
• Indonesia’s July Inflation Accelerates on Higher Food Prices (Bloomberg) - remember: the Deep Fried black swan
• China Manufacturing Teeters Close to Contraction (Bloomberg)
• Spain Introduces Regional Debt Ceilings to Achieve Budget Goals (Bloomberg) - yes, they said "budget goals"

Anyone who paired a corn/wheat long in July while shorting the "natural" hedges Spain and China (a painfully obvious trade in retrospect, maybe) can now take the rest of the year off. Everyone else will have to continue trying to frontrun Ben Bernanke for a few more months.