Archive - Aug 20, 2013 - Story

"While many of you have asked what our plans are for this holding, as with our other investments, we do not disclose in advance what we intend to do in the future for obvious reasons. After our failed proxy contest at Target, we held our investment for more than 19 months until the price rose to a level where we found better uses for capital. We may choose to exit J.C. Penney after more or less time depending on developments at the Company, the stock price, and the availability of other investment opportunities." - Bill Ackman, August 20

The NSA - which possesses only limited legal authority to spy on U.S. citizens - has, according to the Wall Street Journal, built a surveillance network that covers more Americans' Internet communications than officials have publicly disclosed, current and former officials say. The system has the capacity to reach roughly 75% of all U.S. Internet traffic. The NSA's filtering, carried out with telecom companies, is designed to look for communications that either originate or end abroad, or are entirely foreign but happen to be passing through the U.S. But the WSJ reports that officials say the system's broad reach makes it more likely that purely domestic communications will be incidentally intercepted and collected in the hunt for foreign ones. Details of these surveillance programs were gathered from interviews with current and former intelligence and government officials and people from companies that help build or operate the systems, or provide data. Most have direct knowledge of the work. Here is how the system operates...

As Australia's Leading economic index data hit, printing 0.0% for its lowest level in 13 months, AUDJPY fell out of bed with a thump and snapped carry-trades that were holding Asian stocks near unch early on. The Nikkei 225 fell over 250 points from its post-US close highs. The Aussie data combined with news that Fukushima was being raised to a Level 3 'incident' is escalating the JPY move (and dragging Nikkei -11.5% from its 7/18 dead-cat-bounce highs). Asian FX is fading once again (though KRW and TWD are modestly bid) led by IDR and THB. Indonesian stocks are also suffering as the currency has devalued almost 7% in the last 4 days and dropped by its most since Lehman tonight. Chinese stocks are siding fast led by Everbright which has now fallen 17% since it re-opened for trading yesterday. S&P futures are -3 from the US close (down over 9 points from the intraday highs) and Treasury futures have rallied back to unch from a modest dip earlier in the Asian session.

FLASH: Japan raises severity of latest Fukushima leak to level 3 ("serious" radiation "incident") on international scale

— Reuters India (@ReutersIndia) August 21, 2013

On the heels of President Obama’s signing of a measure keeping federally subsidized student loans at a relatively low rate through 2015, Rolling Stone's Matt Taibbi exposes how the high price of U.S. college tuition and the federal expansion of student debt to pay for it pose a major threat to the economy. In his new article, Taibbi writes: "The dirty secret of American higher education is that student-loan interest rates are almost irrelevant. It’s not the cost of the loan that’s the problem, it’s the principal - the appallingly high tuition costs that have been soaring at two to three times the rate of inflation, an irrational upward trajectory eerily reminiscent of skyrocketing housing prices in the years before 2008." As Democracy Now notes, during the following interview with Taibbi, "...throw off the mystery and what you’ll uncover is a shameful and oppressive outrage that for years now has been systematically perpetrated against a generation of young adults." The federal government is poised to make $185 billion over the next 10 years on student loans, with no way out for the young borrowers: "Even gamblers can declare bankruptcy, but kids who enter into student loans will never, ever be able to get out of this debt."

Albert Einstein, a man who knew a thing or two about celestial mechanics, supposedly once called compound interest "the most powerful force in the universe." While the remark was likely meant to be funny (astrophysicists can be hilarious), it sheds light on the often overlooked fact that small changes, over time, can yield enormous results. The same phenomenon may be at work in our economy. A minor, but persistent under-bias in the inflation gauge used in the Gross Domestic Product (GDP) may have created a wildly distorted picture of our economic health. So the next time you see a GDP report remind yourself that the "deflator" should really be called the "distractor." It's there to distract you from the truth.

The surge in Spanish (in fact broadly European) equity and bond markets of the last few weeks has been suspiciously one-way and based (seemingly) on the hopes-and-dreams of the world's liquidity-based marginal investor finding another new normal momentum 'clean shirt' to pile into. However, despite the uptick in some data in Europe, the structural problems remain entirely unfixed and nowhere is that more evident than in the chart below. As European stock and bond markets suffer their worst 2 days in 2 months, Spanish bad loans (after a very brief pause in the exponential surge that also provided hope that the worst was over) have re-surged to a new all-time record high. At 11.61% of total lending, bad loans are now at their highest since records began in 1962.

The yield on 10 year U.S. Treasuries is skyrocketing, the Dow has been down for 5 days in a row and troubling economic news is pouring in from all over the planet.  The much anticipated "financial correction" is rapidly approaching, and investors are starting to race for the exits.  We have not seen so many financial trouble signs all come together at one time like this since just prior to the last major financial crisis.  It is almost as if a "perfect storm" is brewing, and a lot of the "smart money" has already gotten out of stocks and bonds. Of course a lot of people believe that we will never see another major financial crisis like we experienced in 2008 ever again.  A lot of people think that this type of "doom and gloom" talk is foolish.  It is those kinds of people that did not see the last financial crash coming and that are choosing not to prepare for the next one even though the warning signs are exceedingly clear.  The following are 18 signs that global financial markets are heading for a vicious circle...

There was a time when those who defaulted on their debt, especially mortgages, had to wait 3-5 years before they became eligible for any form of new credit, let alone a brand new mortgage. That, however, was in the Old Normal. In the New one things are different: so different, that for anyone who filed a bankruptcy on or before July 2012, we have good news for you - the FHA (subject to an explanation and several almost painless conditions) will be happy to provide you with a brand new mortgage.

The Twentieth century may be remembered as the century of excess.  In every area, more things were done in the Twentieth century than in any other century in history, and in many cases, more than in all previous centuries combined.  The Twentieth century saw some of the most destructive wars in history, the development of the Atomic Bomb, the beginning of air and space travel, the colonization and decolonization of the Third World, the rise and fall of Communism, dramatic improvements in the standard of living, the population explosion, the rise of the computer, incredible advances in science and medicine, and hundreds of historically unprecedented changes. The Twentieth century also produced more inflation than any other century in history. 

While we have commented previously on the impact that dismal earnings-growth relative to magnificent multiple-expansion has had on the rise in nominal prices for US equities; the following two charts, perhaps better than any others, should leave more than a few investors asking "are stocks cheap?" The last 2 years have seen the largest increase in forward-P/Es since the dot-com bubble (and that ended well).

The current belief is that rising interest rates are a sign that the economy is improving as activity is pushing borrowing rates higher.  In turn, as investors, this bodes well for corporate profitability which supports the current valuations of stocks in the market.  While this seems completely logical the question is whether, or not, this is really the case? Increases in interest rates slow economic activity, with a lag effect, which negatively impacts earnings, margins and forward guidance.  Ultimately, and it may take several quarters to manifest itself fully, the fundamental deterioration leads to a reversion in stock market prices which, ironically, will then lead to the next decline in rates.

As we previously reported, using TIC data, in the month of June the international community did something it has not done in years - it sold US Treasurys with passionate zeal and reckless abandon. In fact, in that one month alone, $57 billion in total Treasury holdings (from $5.657 trillion to $5.601 trillion) was dumped in order to avoid major and accelerating losses. And yet there was one entity that was buying, on a virtually matched dollar-for-dollar basis, all that the foreign entities had to sell. The distribution of June sales among the select largest holders of US paper, and the sole, solitary buyer, is shown on the chart below. Guess who this Mystery Buyer X is, who boldly bought everything that no other man, woman or child wanted to buy in the month of June.

Equity, bond, and FX markets appeared to go into hibernation once Europe closed as ranges (and volume) were very low for most of the day. Stocks opened modestly green, snapped lower (on what seems to be an avalanche of 'erroneous' options trades from Goldman which were later DK'ed) then lifted (most notably the Dow - which dipped below 15,000) up to yesterday's highs until Europe closed. Sectors moved in a highly correlated manner along the same path but once 1130ET hit, the S&P 500 traded in 3-4pt range for the rest of the day.  Treasuries were similar though they rallied notably during the European day session (as EU sold off) then flat-lined in 1bps range for the rest of the day. Of course, all that changed in the final minutes of the day as all the major indices came under pressure (with Trannies and Nasdaq leading), VIX reversed higher, and the Dow closed red!

This morning's debacle in the options pit appears - just as we noted - to be due to Goldman Sachs 'erroneous' trades:

• *GOLDMAN MAY LOSE AS MUCH AS $100M ON ERRONEOUS TRADES: FT

But, as we also noted earlier, unlike Knight (which was wiped out when its market-making algos went rogue), in Goldman's case:

• *GOLDMAN SAYS 'WORKING WITH EXCHANGES' TO RESOLVE OPTIONS ISSUE

They get everything DK'ed...