Archive - Aug 2012 - Story

As Bill Gross has been more than happy to demonstrate on several recent occasions, the recent sell off in US Treasurys has been sharp and violent, wiping out all year to date capital gains in the 10 Year in a few short weeks. The flipside to that is that this is not the first such headfake in the bond market, and it certainly will not be the last as David Rosenberg shows today with a chart summarizing all the "spasms" experienced in the 10 year Treasury since 2007. In fact, based on the average duration and move severity, the 10 Year sell off may not only continue for twice as long (on average it has been 49 days, and we are only 19 days in in the current sell off episode), but the final tally may be a further selloff well into the 2% range (the average decline in yield is 88 bps, double the 43 bps widening to date). At the end of the day will it make much of a difference? Very likely not: after all the deflationary implosion has far more to go before all the central banks engage in coordinated easing, and as a result superglue the CTRL and P buttons in the on position, leading to the final round in the global currency devaluation race.

In just four short years, our “enlightened” policy-makers have slowed money velocity to depths never seen in the Great Depression.  Hard to believe, but the guy who made a career out of Monday-morning quarterbacking the Great Depression has already proven himself a bigger idiot than all of his predecessors (and in less than half the time!!).  During the Great Depression, monetary base was expanded in response to slowing economic activity, in other words it was reactive  (here’s a graph) .  They waited until the forest was ablaze before breaking out the hoses, and for that they’ve been rightly criticized.  Our “proactive”  Fed elected to hose down a forest that wasn’t actually on fire, with gasoline, and the results speak for themselves.  With the IMF recently  lowering its 2012 US GDP growth forecast to 2%, while  the monetary base is expanding at about a 5% clip, know that velocity of money is grinding lower every time you breathe.

UPDATE: AAPL cracked the demonic $666 level after-hours

For a moment this morning some were even thinking this would be the day, this could be the one where volumes come back, ranges expand, and some level of risk sensitivity returns; but alas, despite all the AAPL pumping and Silver surging, Equities ended the day unch on weak volumes (actually cash equities ended very small down for the 16th of the last 17 Monday red closes). The S&P 500 e-mini future (ES) intraday range was a remarkably low 8.5pts, volume at its new post-Knight normal (half-normal), average trade-size lower than average, and risk-assets in general were highly correlated during the day-session as Treasuries also closed unchanged, USD down very modestly and Oil unch. Financials and Tech & Healthcare and Utilities were the only sectors in the green on the day (in an awkward risk on and off way). Copper dumped as Silver surged 2.6% on the day to two-month highs. AAPL also surged 2.6% (up 7% in the last 6 days - a level that has repeatedly been followed by pullbacks this year) as everyone's new favorite IPO (MANU) lost 2.6% (even as FB gained almost 5% closing just below $20). VIX gained 0.6 vols ending above 14% (but drifted lower from the open). While the markets main seem zombie-like, there were some intraday moves in FX and Treasury markets - but these were dominant during Europe's open and faded into the US day-session.

It is hard to find fiscal situations that are worse than Japan's. The gross government debt/GDP ratio, at more than 200%, is the worst among the major developed economies. Yet yields on Japanese government bonds (JGBs) have not only been among the lowest, they have also been stable, even during the recent deterioration during the European debt crisis. This apparent contravention of the laws of economics is both an enigma for foreign investors and the reason for them to expect fiscal collapse as a result of a sharp rise in selling pressure in the JGB market. As Goldman notes, the European debt crisis has led to an increase in market sensitivity to sovereign risk in general and questions remain on when to expect the tensions in the JGB market and the fiscal deficit to reach a breaking point in Japan. In the following 14 charts, we explore the sustainability of fiscal deficit financing in Japan and Goldman addresses the JGB puzzles.

Last week we pointed out the cognitive dissonance between the 'belief' that advanced economies are gradually (and rightly) deleveraging  - as central banks maintain the status quo by kicking the can - and the reality of no actual deleveraging. Today, we look at the global corporate re-leveraging cycle that, as UBS notes, has struggled to gain traction after the initial recovery phase following the 2008/9 crisis. The corporate re-leveraging process is broadly defined as trends in the use of cash as well as more active capital structure dynamics - a cycle that has ebbed and flowed over the last three years. In 2011 we witnessed some encouraging trends; but with the rolling crisis in Europe and continued uncertainty about the overall strength of the global economy,  it’s probably no surprise we’re seeing an apparent stalling out of the re-leveraging cycle. Returns on capital are set to decline this year - the first time since before the financial crisis as RoE is being squeezed from all sides: asset turns, profit margins, and leverage.

India’s recent series of power blackouts, in which 600 million people lost electricity for several days, reminds us of the torrid pace at which populations in the developing world have moved onto the powergrid. Unfortunately, this great transition has been so rapid that infrastructure has mostly been unable to meet demand. India itself has failed to meets its own power capacity addition targets every year since 1951. This has left roughly one quarter of the country’s population without any (legal) access to electricity. That’s 300 million people out of a population of 1.2 billion. Indeed, it is the daily attempt of the underserved to access power that may have led to India’s recent grid crash. But the story of India’s inadequate infrastructure is only one part of the difficult, global transition away from liquid fossil fuels. Over the past decade, the majority of new energy demand has been met not through global oil, but through growth in electrical power. Frankly, this should be no surprise. After all, global production of oil started to flatten more than seven years ago, in 2005. And the developing world, which garners headlines for its increased demand for oil, is running mainly on coal-fired electrical power. There is no question that the non-OECD countries are leading the way as liquid-based transport – automobiles and airlines – have entered longterm decline. Why, therefore, do policy makers in both the developing and developed world continue to invest in automobile infrastructure?

With Apple overtaking Microsoft's 'peak-market-cap' and becoming the most 'valuable' company ever traded, we thought a reflection on what humans (as opposed to machines programmed by humans) did the last time a world-changing technology company went ubiquitous.

AAPL is making headlines once again with its market-moving impact, its law-of-large-numbers-crushing daily moves, and its seeming cult of indifference among retail and hedge funds alike. As the stock price hits new all-time highs, we note that options prices are also breaking records with the complacency regarding any downside risk near post-2009 highs. The last three times we have been up at these levels has seen significant reversions in price: Nov 2010 -7.3% in 6 days, -12.68% in late July 2011, and a late Feb 2012 drop of 5.83% in 4 days.

A key sticking point in the ongoing presidential debate is what happens to US tax rates, either for just those making over an arbitrary $250,000/year, aka "the rich", or for everyone. To put this debate into perspective, here is a chart that shows how over the past 20 years the US funding needs (demonstrated previously here), have been met in terms of the only two components of US funding - tax revenue and debt issuance.

Silver has popped almost 2% today - its biggest jump in 3 weeks - as it nears its 100DMA. So what? It's still down notably from its Q1 swing highs but two things stand out to us as intriguing. First, oil priced in ounces of silver has seen a very narrow range of values since Bernanke's Jackson Hole speech in 2010 (QE2) when money-printing went full retard; and very recently the price of oil in silver had reached the upper end of that channel - and is now reverting. Second, the recent outperformance of silver over Gold has reverted the gold/silver ratio to its post-Bretton-Woods (1971) average at around 56x (up from a recent low of around 32x in April 2011). It seems there are stirrings in the real asset markets as energy and hard-money revert.

The easy answer is - well, its those dumb money 'safe' investors finally rotating from bonds to stocks; but what about fund flows provides any evidence for that reality. Alternatively, we suggest, the recent (and somewhat market-unexpected) pop in macro data (surprising to the upside) has seemingly provided a Goldilocks for equities (growth is rising and even if it drops back, Bernanke's got our back) and the inverse for Treasuries (growth is rising and if that's the case then Bernanke's Bond Buying extravaganza is over - mark 'em down). What is stunning to us is the incredibly tight correlation since LTRO2 between macro data (trend and beats/misses) and 10Y Treasury yields. While correlation is not causation, discussion of the macro thesis is strong top-down and suggests more than one person believes this correlation. Our concern - what  dominant data is this macro strength based on - NFP/Claims beat? Retail Sales beat? (consider the controversy of the seasonal adjustments in both and what that would do to the macro data index.

Just two short weeks ago, we noted that Best Buy's 'news' regarding take-overs, take-unders, LBOs, MBOs, or whatever it was - was an opportunity to fade the initial spike. Today's reality-check is cracking the stock down over 7% on heavy volume - as while founder Schulze (who left in June) restates his desire to pursue his proposal, he was 'schocked' that the company has just named a new CEO - signaling the company's desire to keep operating as a going concern as a public company.

In a normal market, whatever that is, we would not feel the need to note every tick in the Spanish equity market; but today's 2% decline - its worst in 3 weeks - is the first down-day in 10 days. IBEX, the Spanish equity market index, rallied over 29% from it's lows on 7/23 (following a decent leg down after the EU-Summit disappointment) only to perfectly reach its Maginot Line at the 200DMA on Friday and this morning. The volatility regime is very reminiscent of last year with the binary (chaos or serenity) scenarios the only ones left for most market participants and with a short-selling ban doing nothing but exaggerating the whipsaws, we wonder if the IBEX is due to revert back further - more in line with its sovereign credit moves on Draghi's 'believe-me!' speech. Perhaps the realization that another rumor (rate-caps) has come and gone has broken the cycle of faith...

While the geopolitical focus is once again all over Iran and Israel, it may be time to take a quick look Egypt, where the recently elected, and pro-US president Mohamed Mursi is "preparing to use aircraft and tanks in Sinai for the first time since the 1973 war with Israel in its offensive against militants in the border area." Reuters continues: "The plans to step up the operation were being finalised by Egypt's newly appointed Defence Minister General Abdel Fattah al-Sisi as he made his first visit to Sinai on Monday following the killing of 16 border guards on August 5. Egypt blamed the attack on Islamist militants and the conflict is an early test for President Mohamed Mursi - elected in June following the overthrow last year of Hosni Mubarak - to prove he can rein in militants on the border with Israel. "Al-Sisi will supervise the putting together of final plans to strike terrorist elements using aircraft and mobile rocket launchers for the first time since the beginning of the operation," an Egyptian security source said. Another security source said the army was planning to attack and besiege al-Halal mountain in central Sinai, using weapons including tanks, where militants were suspected to be hiding." Of course, what can possibly go wrong in the middle east once a government decides to escalate military expansion against militant terrorists. Look for crude to rise ever higher, and for SPR release rumors to hit the tape daily as yet another market is ensnared in price controls ahead of the election.

With US and European equities showing a strange (though small) taint of un-green this morning, we thought a quick top-down versus bottom-up look at what has been going on was worthwhile. Macro-wise, US economic data has been modestly supportive with Citi's Economic Surprise Model mean-reverting as data came slighlty better than economists had predicted - though notably a weakening trend (but second derivative green shoots are back in vogue it seems). This supportive macro picture is at total odds to the bottom-up earnings picture where upward-revisions as a percentage of total revisions has plunged - as stocks make new highs. With correlations rising as managers chase performance, it is worth reflecting on the very recent ramp in outlooks as stocks levitate (and analysts flip-flop one more time) - which came first, the market or the economy?