Archive - Nov 2013 - Story

"All fixed"

Outspoken MEP Daniel Hannan summed up the day's political machinations rather aptly

Did I hear that properly? Obama doesn't like how the US Constitution works, because it's getting in his way?

— Daniel Hannan (@DanHannanMEP) November 21, 2013

A new opportunity to play "What's wrong with this picture" arose recently, with Larry Summers’ recent speech at the IMF and Paul Krugman’s follow-up blog. The two economists’ messages are slightly different, but combining them into one fictional character we shall call SK, their comments can be summed up "...essentially, we need to manufacture bubbles to achieve full employment equilibrium." With this new line of reasoning, SK have completely outdone themselves, but not in a good way. Think Jamie Dimon’s infamous “that’s why I’m richer than you” quip. Or, Bill Dudley’s memorable “but the price of iPads is falling” excuse for increases in basic living costs. Dimon and Dudley managed to encapsulate in single sentences much of what’s wrong with their institutions. Yet, they showed baffling ignorance of faults that are clear to the rest of us.

Perhaps this should have been a "Humor" post but in possibly the most ironic news story of the day, New York-based SEC employee Steven Gilchrist was charged with three counts of making false statements regarding the nature of his personal financial holdings. As WSJ reports, the 48-year-old compliance examiner at the agency, allegedly certified that his stock holdings were in compliance with the agency's ethics rules, when in reality he had held shares of six companies that agency staffers are barred from holding. The SEC is "very disappointed that an employee allegedly made false statements to conceal prohibited holdings after being told by our ethics office to divest." Gilchrist, unlike Cohen, faces a maximum 15 year sentence!

When Barack Obama, floundering in the endless humiliation from the disastrous rollout of Obamacare, gave the country's insurance  companies the "put option" to reject the one-year "cancellation" extension fix stemming from the whole "if you like your plan, you can keep it, period" fiasco, he committed a cardinal sin - he lost control of the situation, because from that point onward the decision was no longer in his court. Furthermore, due to the syndicate nature of insurance companies and state insurance commissioners implementing Obamacare, suddenly the decision was subject to game theoretical facets including cooperation and defection, or rather just defection since at this point the biggest spoils would go to whoever had the initial leverage or rather, defiance of the president. Sure enough, California just flopped on Obama's most recent flip when the state, moments ago, rejected Obama's proposed fix to allow legacy plans to survive for one additional year. Welcome to socialist central planning 101 - where everything that can go wrong, sooner or later does.

David Einhorn begins his discussion on the market warning that "certain aspects of the market are very much in bubble,"  with investors "dismissing valuation metrics." "The market is confused," between useful products and real profit streams, he suggests for a number of headline-grabbing higly speculative names. More broadly, Einhorn believes real damage has been done by Fed policy, and is "not convinced if or when they will ever taper." Crucially, he adds, we may see another rollover/recession and "the Fed will pour more fuel on the fire." The cognitive bias he exposes is that most people believe the Fed policy is supporting the economy (in some way), whereas (as we noted here) there are real costs and as Einhorn notes "Fed policy is a headwind to the economy," as he quantifies the hundreds of billions in lost interest income relative to wealth gains. Owning gold makes sense, he adds, "in case they lose control."

We wish we could say we didn't warn Boeing's machinists about the key trend taking place in the US economy under the Obama "recovery" but unfortunately we did. Three years ago, to be specific, when we wrote: "Charting America's Transformation To A Part-Time Worker Society" and followed it up with "A "Quality Assessment" Of US Jobs Reveals The Ugliest Picture Yet" in which we explained that while the propaganda machine was fixated on numeric, quantitative, job additions every month, what has subversively going on, was the constant deterioration in the quality of jobs - and specifically the declining wages - available to those Americans who had not rotated outside of the labor force permanently (currently at a record 91.5 million). We say "alas" because it once again took several years before our cautions to be felt by the broader population, in this case the Boeing machinist union struggling to extract a wage increase from its employer: Boeing, whose stock keeps hitting new record highs with every passing day.

Supported by economic weakness overnight in Asia and a weak Philly Fed print (bad news is good news) along with hope from more QE out of the BoJ, JPY weakness floated all boats today as homebuilders and financials surged lifting stocks tick for tick with carry. Yellen's nomination provided yet another lift. Treasuries rallied (though the long-end remains +10bps on the week). Precious metals were monkey-hammered early then dead for the rest of the day (-4% on the week) as oil prices surged higher ( +1.6% on the week). The USD Index glitched lower on no neg rates chatter early from Europe but the quietness in the index hid major dispersion as AUD was craushed (now 1.6% lower on the week). Credit markets rallied (but remain well off stocks) and VIX was compressed as low volumes meant a slow lift higher (and Trannies best day in almost 5 weeks). Shorts suffered the most until POMO ended - tripling market performance.

Barring any exogenous shock, and assuming that current reported earnings estimates actually occur, the S&P 500 will be sporting a P/E ratio of 21.17x in 2015 if fed balance sheet correlations hold. However, if earnings growth stagnates then valuation multiples will rise dramatically from current levels.  The further that multiples deviate from the long term mean the greater the eventual reversion will be. Should we have an expectation that the same monetary policies employed by Japan will have a different outcome in the U.S? Anything is certainly possible.  However, history suggests that artificial, liquidity driven, market inflations always end poorly.

What happens when there's no one left to sell to...

When neither the private nor public sector is willing to invest in the future, it seems appropriate to ask, what happened to the future? Have corporations along with governments figured out that a return to slow growth does not necessary equal a return to normal growth? Why invest in new infrastructure, new workforces, new office space, equipment, highways, or even rail, when the demand necessary to provide a return on this investment may never materialize? Many sectors in Western economies remain in oversupply or overcapacity. There is a surplus of labor and a surplus of office and industrial real estate, as well as airports, highways, and suburbs that are succumbing to a permanent decrease in throughput and traffic. Perhaps the private sector is not so unwise. Collectively, through its failure to invest, it is making a de facto forecast: No normal recovery is coming

"A money-financed tax cut is essentially equivalent to Milton Friedman's famous "helicopter drop" of money."

"In some stocks," Starwood Capital's Barry Sternlicht warns, "we are seeing irrational exuberance with silly valuations." The outspoken asset manager warns that the signs are coming from the credit markets of "silly debt deals" with no covenants - which is helping equities melt-up but is a sign of a bubble. Perhaps his answer to what the Fed will do and when is the most succinct (and likely accurate) summation of the current idiocy, "very little and never," as the anchor grinningly suggests how great higher stock prices are for 'investors' before Sternlicht exclaims that may be true for the minority who hold stocks, "enjoy it is an investor," he suggests, "but don't love it as an American." Sternlicht goes on to address the dysfunctional political class and the Fed's enabling of that to continue as well as where the real estate bubbles are in the US.

The President will deliver statement explaining, we assume, why Harry Reid's "nuclear option" vote is good for all American citizens...

For all purists still stuck in a world in which humans are the most efficient allocators of capital, and where, under Ben Bernanke's centrally-planned New Normal, shorting stocks has become blasphemy, the following table showing the monthly return of quant giant RenTec's chief equity fund open to the outside world, the Renaissance Institutional Equities Fund (RIEF B), whose AUM has ballooned to $8.7 billion in the past few years, will come as a shock. Because the quant strategy-driven fund, which does not look at fundamentals but purely at technical relationships and quant arbs, just posted its best month in history in October returning 8.65% nearly doubling the 4.60% return of the broader market. But the truly stunning aspect of RenTec's October performance is that it was not driven by a highly levered beta position (2x leverage on the S&P would do it easily) which is how virtually everyone else does it (a strategy that works great as long as the market is going higher), but instead thanks to that nearly forgotten aspect of a "hedge" fund's exposure - shorts.