Archive - Jan 29, 2014 - Story

The prominent realist international relations scholar John Mearsheimer says there is a greater possibility of the U.S. and China going to war in the future than there was of a Soviet-NATO general war during the Cold War. In contrast to the Middle East, which he characterizes as posing little threat to the United States, Mearsheimer said that the U.S. will face a tremendous challenge in Asia should China continue to rise economically.

Investors in China have been running scared of a default on a high risk trust product; but, as Bloomberg's Tom Orlik notes, they should embrace it. The implicit guarantee that no investments will go sour is one of the key problems with China’s financial system as Orlik adds it encourages reckless lending often to borrowers whose only merit lies in backing from a deep-pocketed government. Crucially, as JPMorgan warns in a recent note, "avoiding defaults is not the right answer, as it will only delay or even amplify the problem in the future." A default that encourages lenders to price in risk would be a positive development and the CEG#1 was an ideal product to 'fail' with its 11% yield and clear idiosyncratic company problems. However, regulators won't have to wait long for a second chance as JPM warns "There will be a default in China’s shadow banking industry this year as economic growth momentum slows."

An oldie but a goodie... On the final FOMC meeting of Ben Bernanke's illustrious career as Fed Chair, we thought it appropriate to dust off the following musical reminder of just who the Fed are...

"... you see the Federal reserve is not a government thang; it's a bunch of private bankers we obey...and they don't answer to the people coz they pull the strings; and that's precisely why we have to say... hey hey, hey hey... F##k The Fed.."

Following last week's Flash PMI print of 49.6, the Final print for January China Manufacturing dropped further to 49.5 confirming the contraction is deepening. Japanese stocks were down the most since August in the early going as Nikkei futures extended the losses from the US day-session (and rather notably decoupled from USDJPY and breaking below 15,000). The Nikkei is heading for the worst month since May 2012 (-8.66% so far). S&P futures tracked USDJPY as 102.00 was defended aggressively. Chinese stocks are also tumbling (though not as hard as Japan and US) and the PBOC will not be adding liquidity today. Furthermore the blame is being shifted as Deputy FinMin Zhu warns that the "Chinese economy faces risks from overseas uncertainty." EM FX is drifting lower still.

If one were only to look at the stock market and the buzz within New York, London, San Francisco, Sydney or Toronto; they would conclude that the world is indeed booming. After all, people say the stock market is a leading indicator and that is telling us that the world is bursting at the seams with accelerating growth. And of course, the leading financial news stations are tripping over themselves with gushes of great news. Now, we don’t mean to be the party pooper; however one must understand what is really happening to truly appreciate the still, slow moving and delicate economic pickle the world has been stuck with. For starters, these major cities are always booming. Instead, for a better picture of economic life, feel free to visit St. Louis, Winnipeg, or Marseilles and we’re sure you’ll have no problems at all securing that dinner reservation. Peeling away the top layer of fabulous news resulting from the stock market, we cannot help but see that the deep structural issues associated with the 2008-09 crisis remain. The mountains of bad debt have simply shifted away from specific investors, to governments and their tax payers. From a global perspective, this transfer of bad debt from specific investors to tax payers is THE most important issue to understand. In simpler terms, and unknown to many, the bad debt has been spread around the world for everyone to share. Yes, socialism has arrived and few in our capitalistic world have noticed.

The global economy’s glory days are surely over. Yet policymakers continue to focus on short-term demand management in the hope of resurrecting the heady growth rates enjoyed before the 2008-09 financial crisis. This is a mistake. When one analyzes the neo-classical growth factors – labor, capital, and total factor productivity – it is doubtful whether stimulating demand can be sustainable over the longer term, or even serve as an effective short-term policy. Instead, policymakers should focus on removing their economies’ structural and institutional bottlenecks. In advanced markets, these stem largely from a declining and aging population, labor-market rigidities, an unaffordable welfare state, high and distorting taxes, and government indebtedness.

Sometimes, in cables amongst themselves, politicians tend to forget that "real people" will eventually get to read their words (either that or they realize but just don't give a damn), and they drop the facade and talk in real terms. As Grant Williams explores in the following excellent discussion, the phrase "propitiate public opinion" among Spanish and UK minsters arguing over Gibraltar sums up perfectly the world in which we live. Propitiate - to make (someone) pleased or less angry by giving or saying something desired. Behold, politics.

The problem, though, is that once you embrace the Narrative of Central Bank Omnipotence to "explain" recent events, you can't compartmentalize it there. If the pattern of post-crisis Emerging Market growth rates is largely explained by US monetary accommodation or lack thereof ... well, the same must be true for pre-crisis Emerging Market growth rates. The inexorable conclusion is that Emerging Market growth rates are a function of Developed Market central bank liquidity measures and monetary policy, and that all Emerging Markets are, to one degree or another, Greece-like in their creation of unsustainable growth rates on the back of 20 years of The Great Moderation (as Bernanke referred to the decline in macroeconomic volatility from accommodative monetary policy) and the last 4 years of ZIRP. It was Barzini all along!

Just five years after President Obama was awarded the Nobel Peace prize (to much global amazement), Norwegian politicians have nominated none other than Edward Snowden for this year's award for contributing to transparency and global stability by exposing a U.S. surveillance program. As Reuters reports, Snowden’s "actions have in effect led to the reintroduction of trust and transparency as a leading principle in global security policies." Is this the Nobel's last best effort to regain some credibility?

In the past we have discussed at length the inevitable demise of the USD as the world's reserve currency noting that nothing lasts forever. However, when former World Bank chief economist Justin Yifu Lin warns that "the dominance of the greenback is the root cause of global financial and economic crises," we suspect the world will begin to listen (especially the Chinese. Lin, now - notably - an adviser to the Chinese government, concludes that internationalizing the Chinese currency is not the answer (preferring a basket approach) but ominously concludes, "the solution to this is to replace the national currency with a global currency," as it will create more stable global financial system.

While stock prices can certainly be driven much higher through the Federal Reserve's ongoing interventions, the inability for the economic variables to "replay the tape" of the 80's and 90's increases the potential of a rather nasty mean reversion at some point in the future. Inflation-adjusted, the current rally of 115.56% is the 6th longest in history with the market still below its 2000 peak. We are currently at valuation levels where previous bull markets have ended rather than continued. Understanding the bullish arguments that support markets rise is important, however, the real risk to investors is the eventual and inevitable "reversion to the mean".  In other words, what comprises that "light at the end of the tunnel" is critically important to the future of your investment success.

What is the difference between GAAP and Non-GAAP Net Income? Only about 109% if you are Facebook.

Asset-gatherers and talking-heads are in full panic mode. Stocks tumbled ince again today and there was very little "off the lows" talk. The "turmoil" panic in the hearts and minds of every Wall Street strategist palpable as the Fed failed to save us from another down day. Trannies, Russell, and the Dow are down around 5.5% from their highs; the S&P down around 4%; and the Nasdaq around 4.5% from its multi-year highs last week. Today's plunge of over 35 points the S&P futures from the "where are all the sellers, EM is fixed" post-Turkey highs at 1801 is a very sizable outside range day. Of course it was all about the ongoing unwind of levered JPY carry trades as 102 becomes crucial to any bounce in stocks. VIX rose 1.7 vols to 17.5%; credit spreads popped notably wider post FOMC; EM FX turmoiled considerably lower and while the USD was stable (there was plenty of puking in AUD and JPY). Treasury yields tumbled to fresh 10 week lows (10Y -8bps at 2.66% at the lows). Gold and silver rallied post-FOMC and recovered yesterday's monkey-hammering losses.

Some perspective on the two "alternative currencies" - bullion and bitcoin -from the man who has run a hedge fund for 37 years and currently manages $23.3 billion, Elliott's Paul Singer:" If you are looking for an alternative currency, look into gold. It has stood the test of thousands of years as a medium of exchange and a store of value. Better yet, it is not just a computer entry out in the ether somewhere, and it was last seen available at a good price. Bitcoin and its relatives speak to understandable impulses (against big government, in favor of freedom and modernity), but we do not see this particular experiment lasting. At least you have to work really hard to dig gold out of the ground."

When Jon Favreau (no, not the actor) left the White House last year, 33-year-old (high-school football-playing, pirate-costume-wearing, Harvard grad and Ted Kennedy intern) Cody Keenan took over the reins of chief spechwriter for President Obama. As Reuters reports, Keenan's speechwriting career took off after he crafted the impassioned speech that Obama delivered at a memorial service for victims of a 2011 shooting spree in Tucson, Arizona, where former Representative Gabrielle Giffords was seriously injured. A former professor noted "he doesn't take himself too serious," and we suspect, given last night's SOTU, the rest of the world now knows that.