Archive - Oct 2013 - Story

“There is precedent for a government shutdown,” Lloyd Blankfein, the chief executive officer of Goldman Sachs, remarked last week. “There’s no precedent for default.” How wrong he is.

For the greater part of human history, leaders who were in a position to exercise power were accountable for their actions. The problem we are faced with today is that our political and (frequently) business leaders are not being held responsible for their actions. Thomas Sowell sums it up well: "It is hard to imagine a more stupid or more dangerous way of making decisions than by putting those decisions in the hands of people who pay no price for being wrong." Fortunately, there is an institution that exercises control over the academics at the Fed; it is called the 'real' market economy... and it has badly humbled the professors at the Fed.

On September 5, 2008, Citi's Matt King wrote a report titled "Are the brokers broken?" which in its rhetorical question (the answer was and still is yes), implicitly explained why ten days later the world would experience the largest bankruptcy in the history of western civilization, crushing confidence in the financial system to this day, and forcing the Fed for five consecutive years to be the marginal source of credit money in a "not without training wheels" world in which the longer the central bank is the only backstop of anything and everything, and where failure and risk are prohibited through artificial means, the less faith there is in any and every financial counterparty. So when Matt King sat down to pen his latest warning in which he showed how the world is now "positioning for the wrong sort of recovery", we naturally listened. Below are the key charts which not only show the lifecycle of the source of every modern Keynesian empire's boom and best, namely debt, but why 5 years later, "the slate has still not been wiped clean."

The popular take on the current debt ceiling stand-off is that the Tea Party wing of the Republican Party has a delusional belief that it can hit the brakes on new debt creation without bringing on an economic catastrophe. While Republicans are indeed kidding themselves if they believe that their actions will not unleash deep economic turmoil, there are much deeper and more significant delusions on the other side of the aisle. Democrats, and the President in particular, believe that continually taking on more debt to pay existing debt is a more responsible course of action. Even worse, they appear to believe that debt accumulation is the equivalent of economic growth.

Pulling from an extensive record of public speeches and FOMC meeting transcripts, Goldman Sachs reviews Fed Chair-nominee Janet Yellen's views on a number of policy-relevant issues.

Based on inflation, unemployment, growth weakness, and cost of capital, Goldman notes that emerging market's "macro-misery" indices have pushed back to post-financial-crisis highs. It is hardly a surprise that macroeconomic hardship is surging since in the 15 years since the EM sovereign bonds have been liquid, levels remain extremely elevated, despite the mainstream-media's relegation of the problem. As Bank of Mexico's Agustin Carstens warns, "we cannot rule out the event that some advanced economies run into deeper trouble again... the world economy is still in a fragile situation."

Last week we showed the worrisome level of exuberance that IPOs were creating in terms of price outperformance over the broad market. It turns out the similarities to the prior dot-com busts runs considerably deeper (and more worrisome). As the WSJ reports, 68% of U.S.-listed technology debuts this year, or 19 out of 28 deals, have been companies that lost money in the prior fiscal year or past 12 months. That is the highest percentage since 2007, and 2001 before that.

Following three consecutive and increasingly more severe margin hikes by Interactive brokers (from Monday, Wednesday and Thursday), it was only a matter of time before the CME joined the party. And even if CME had hiked E-mini margins for all of two or three times since Lehman, whether it is due to recent surge in volatility or for whatever other reason, it had no problem doing so after the close on Friday, when moments ago it hiked initial and maintenance margins on the key market moving futures contracts including the E-Mini and big S&P, Nasdaq and Dow Jones, as well as pages of other contracts (see below) anywhere between 8% and 16%.

This objective report concisely summarizes important macro events over the past week. It is not geared to push an agenda. Impartiality is necessary to avoid costly psychological traps, which all investors are prone to, such as confirmation, conservatism, and endowment biases.

A lack of news on deal progress in thelast 24-36 hours was not enough to stall an epic ramp in stocks to take 'most' indices back into the green on the week. The Russell is within a hair of all-time highs again (bouncing 4.6% off Wednesday's lows) but the Nasdaq closed the week -0.27% - breaking a 5-week winning streak. All equity indices are green post-shutdown but we note in sectors, the homebuilders are still -1.6% (and Discretionary with a small gain). Treasures ended the week modestly higher in yield (with Bills ignoring equities and notably higher in yield). Gold was slammed -3%, Oil and Silver -2% and Copper -1% (as the USD gained a mere 0.3% - driven by a 1% dump in JPY). VIX underperformed equity exuberance on the day but closed lower. The close saw a mini-melt-up in stocks taking us back to the highs.

In a day driven higher by one after another "optimistic" headline, it was natural that any bad news would be reported just after the close. Which is why we expect the White House press secretary Carney to have saved any negative news for the just started press conference. Watch it live below.

While one after another money market fund quietly announces they are liquidating "cash equivalent" Bill holdings, be they the mid/late October vintage or, now that a can kicking negotiation is in process, the Bills in close proximity to the Thanksgiving day 6 week extension period, over buck breaking concerns that the debt ceiling extension may be snagged due to political manoeuvering, someone was once again ahead of the curve. That someone are the 20 Primary Dealers, which as the NY Fed reports, sold out of the bulk of their Bill holdings in the last two weeks of September in the process taking their Bill holdings to the lowest in all of 2013. The last time Dealers sold off near-term Treasurys with such gusto: July 13 of 2011, just before the last debt ceiling extension fiasco, when Bill holdings dropped to a net negative ($10) billion position.

The Treasury Department has warned that the continued failure by Congress to raise the debt ceiling would leave the United States unable to pay all of its bills and may force the country to default on its government bonds. Here are some helpful answers to the most common questions about the debt ceiling crisis...

Of course, equity markets can only hear one thing (for fear of the consideration of Plan B) but as The Washington Post notes, the Senate Republicans can't agree on how their meeting with Obama went.

• Good - Sen. Bon Corker: "I was pleasantly surprised, I think there's a gelling that's beginning to take place."
• Bad - Sen. Susan Collins: "I don't want to give the impress that he endorsed it, but he indicated there were 'elements' with which he agreed."
• Ugly - Sen John Cornyn: "...what could have been a productive conversation was instead another predictable lecture from the President that did not lay out a new path forward."

Summing it all up (and mixing metaphors) - it's a Goldilocks meeting for stocks.

Contrary to the all "rose-colored glasses" reports by the Fed released in the past year, which constantly talked up the "economic recovery" only to punk everyone - economists and market participants alike - when it stunned markets with its no taper announcement in September, over fears what this would do to the economy, the Federal Advisory Council's view on things is decidedly less "rosy."