Reading just the first paragraph of Michael Feroli's note from this morning, one could be left with the impression that all is well, and the US has formally decoupled from anything and everything, especially reality. Alas, there are two other paragraphs, and both paint a bleak picture of the US economy if the current global autopilot persists. One thing is sure: decoupling is a myth for gullible children, and the longer the European recession lasts, and it will last long, as it will never be allowed to revert to fair value promptly by pulling off the band aid of three decades of cheap credit, and instead it will be bled to death using token austerity, rather than doing to right and very painful thing and cutting to the bone. And the longer the divergence persists, the more violent will be America's return to reality once the "lag" finally catches up with the trademarked mark to unicorn world created by America for America.
The Santa Claus rally may finally be here. In an ironic twist, as Corzine's firm is in bankruptcy and he is at personal risk of prosecution, we are rallying because for all intents and purposes, the ECB has allegedly told banks to load up on the MF Global trade. Banks are supposedly using ECB money to buy up short dated Italian and Spanish paper. Corzine must be bitter - his trade is the latest bailout.
The IPO "flip" now has the same attention span as everything else in the market. After pricing its IPO at $10, and breaking well above, even hitting $11.50 momentarily, the stock is now trading at $9.51 and probably about to be halted within minutes of first seeing public trade. Another epic win for the GS-led underwriting syndicate. As a reminder - if Goldman is selling you something, don't buy it. And who could possibly think that virtual farms aren't real cashflow positive?
So with just a 3 years delay, the SEC has finally put down the porn channel remote, and decided to do what it should have done back in 2008, which is to sue the former heads of Fannie and Freddie for "misleading investors about risky mortgages" in the case below, former Fannie CEO Daniel Mudd, who was paid $13.4 million in 2007. With MF Global telling everyone it had no European exposure as recently as September 30, this appears to be a recurrent theme. So at this pace, Corzine should expect the SEC to sue him... about 8 years after he passes away? Per Reuters: "The U.S. Securities and Exchange Commission sued three former executives at Fannie Mae and three at Freddie Mac, including former chief executives of both companies. The civil charges were filed in two separate lawsuits. The SEC said both firms have agreed to cooperate with the agency and have entered into non-prosecution agreements." Yes, your honor, we don't admit or deny that we got paid tens of millions to blow up the companies at the backbone of the American mortgage industry by lying what we were investing in, but we will cooperate... We promise. In the meantime, we won't hold our breath for the SEC to clawback even one cent from Mudd in this purely theatrical spectacle, of which we will see many more as the US enters election year. Incidentally, any and all LPs of Fortress Group may want to ask themselves what else (if anyhting) the current CEO of the company, who just happens to be Dan Mudd, is misrepresenting these days.
When we step back to consider the last year of investing dangerously an old song echoes in the back of our mind 'next verse, same as the first, a little bit louder and a little bit worse'. While new and more complex issues have arisen, at their core the same simple problems of debt saturation, global imbalances, and forced deleveraging remain front-and-center while the same liquidity-fueled 'temporary' solutions are spoon-fed to us the investing public. Sean Corrigan, Diapason Commodities' wordsmith, offers his critically voluminous perspective on the problems we face from earlier misallocations of capital and papering over the cracks of a world seeking reality but not allowed to face it. Specifically addressing US Stagflation and QE, European Austerity and 'German reparations, and how China's 'all-knowing bosses can 'fine-tune' a soft-landing economic miracle, Corrigan notes: "...one has to fear that the faulty signals given off by all the measures so far taken - many of them beyond even the conception of all but the most wild?eyed monetary cranks... - have already caused some of those same healing mechanisms to turn cancerous. Who can say how much well?intentioned effort over the past three years – however fruitful it has appeared to have been in the interim ? has been misled into taking for permanent and self?sustaining what is only a short?lived artefact of a massive monetary and fiscal intervention." The search for economic tooth-fairies continues and 2012 looks set to bring in still larger and more unimaginable 'solutions' as we become conditioned to expect the 'heavy-footed' intervention of monetary (and fiscal) policy-makers.
The committee on oversight and government reform is holding a hearing currently where Fed and Treasury officials will testify on the effect of the Euro crisis on US taxpayers. NY Fed President and former Goldmanite (also Bill Hatzius predecessor) Bill Dudley, Fed Board Acting Director of International Finance Steven Kamin, and Treasury Deputy Assistant Secretary for International Policy Mark Sobel will testify, in the House Oversight Committee. Without a doubt the three will say that Europe is cause of concern but nothing to worry about too much, even though earlier today a US Treasury official said that the EU debt crisis is a serious risk for US outlook, that it can hit the US through trade and the financial sector and that the IMF can't be substitute for strong and credible EU debt firewall.
One of the most idiotic concepts we have heard to come out of the current depression has been the completely meaningless "muddle through" which we took to the toolshed back in September (together with presenting BCG's proposal for a global financial tax - a concept which we believe will see far more play in 2012). Today we were delighted to hear the chairman of the fermentation committee also agree with us, by quoting none other than the ECRI's Achutan who said on 'muddling through' - "I would point out that that’s never happened. We never muddle through." Correct: the current economic situation merely continues to be the eye of the hurricane which has been made artificially and untenably larger only courtesy of the world's central banks. And in the battle of central planning against the laws of nature, we know who our money is on.
In what may come as a surprise to some, the top 3 banks in the world by market cap, are not based in the US, nor the UK, nor, obviously, Europe. All three are Chinese, namely ICBC, CCB and the Agricultural Bank of China. The top two US banks by market cap, Wells and JPM, are 4th and 6th respectively. And what is probably scarier, and what is not shown on the chart, is the amount of "assets" that these banks need to hold on their balance sheets to generate the returns needed to maintain this market cap: off the top of our head we would imagine that the US banks, when adding derivative exposure, have balance sheet risk that is orders of magnitude higher than that of China. Yet the most fascinating aspect is the amazing speed with which China took over the banking world (and with which market caps have increased), in the past 20 years. Without a single bank in the top 10 as recently as 2005, China now has 4 banks among the ten biggest in the world. Yet should China be worried and is history poised to repeat? Back in 1991, 6 of the top 10 largest banks in the world... were Japanese. Now not one of the 6 is to be found anywhere.
Christmas comes early for chart porn addicts this year, courtesy of Goldman Sachs which has compiled its top 100 favorite charts together in one place.
Something is decidedly strange in Europe today: while there has been a favorable shift in bond spreads with the 10 year BTP dropping to 6.4% (although still waiting for LCH to react to its margin cut even as spreads are 100 bps wider) it is the 3M EUR/USD cross currency basis swap that has us confused as it has mysteriously moved violently tighter, from -140 bps to -121 bps overnight, indicating someone may know something in advance of yet another central bank liquidity infusion. As for the catalyst why one may be needed, we go to Hungary where we learn that "rescue" talks with the IMF and EU "on securing some form of backing to reassure investors" have broken down. As a reminder, should Hungary go, Austria and its billions in CHF-denominated mortgages will almost certainly be next, and with it a test of the SNB's EURCHF floor.
Yesterday when gold was trading in the $1570 we suggested that based on the very volatile shifts in the funding environment for gold, whereby the gold lease rate had moved from record negative to borderline flat, the plunge in the yellow metal is likely coming to an end. Less than 24 hours later, gold has just passed $1600 yet again. And as the following note from Sandeep Jaitly of First International Group (whose interview with Max Keiser exposing economics for fraud back in June was quite the hit) observes, by analyzing the continued funding unwind pressure, the recent liquidation move in gold is one that has to be taken advantage of. To wit: "The movements in the bases confirm that the recent downward move in gold against Dollars was as a result of Dollar funding pressures. Gold was lent on the swap against United States Dollars. This swap must be unwound and where a bid for gold was sought to raise Dollar liquidity, an offer of gold will be sought to unwind the swaps. The co-bases for Feb-12 and Apr-12 gold contracts are starting to advance – an exceptionally bullish signal following the selloff and a sign that physical buying is being prompted by these lower prices. It would be very prudent to accumulate gold against United States Dollars aggressively over the next fortnight."
The market's reaction to Draghi's comments over the last week have been visceral in its schizophrenia. While his 'temporary' provisions, three-year LTROs specifically, provide a life-line of liquidity (a la TLGP - and how is that working out for the US banks having to roll now?), they hardly address the real underlying problem of the vicious circle between sovereign debt's now-risky nature and financial balance sheets bloated with zero-risk-weighted re-hypothecated peripheral bonds. The last week has seen a roller-coaster of Senior-Sub debt decompression and compression, liquidation-like drops in commodities, lower correlation across European sovereign debt, and significant dispersion in high- and low-beta equity and credit markets (notably as we have previously discussed, some of which will have been driven by index roll technicals). The issue comes down to whether this is the Bazooka (buy-buy-buy) or not enough (fade-the-rallies) and BARCAP's macro sales and European Banks' research team have, like the rest of the market, been exchanging views on this perspective. While their take on the liquidity explosion is that it doesn't solve the almost unsolvable solvency problem but it the deeper insight that perhaps it is not the actual mechanics of this liquidity bazooka but the perception that democracy itself has been suspended in favor of bank and sovereign survival that interests us more. Furthermore, they do an excellent job on breaking down the mythical carry trade potential of these LTROs and mutual sovereign financing benefits since near-term (carry-trade) profit potential would be offset by additional sovereign risk - meaning that funding markets could stay closed for longer. Once again the issue of collateralization, risk-weightings, and deleveraging are front-and-center as bank 'managers' and politicians may be at loggerheads on the carry-trade-savior potential and the ECB's status on the balance sheet only serves to further subordinate existing bondholders.
- Fitch downgraded the long-term IDR ratings of seven major banks, including, Bank of America, Goldman Sachs, Citigroup, Barclays, BNP Paribas, Credit Suisse and Deutsche Bank
- Market talk that S&P may downgrade sovereign ratings of Spain and Italy today, however the talk remains unconfirmed
- Eurozone 10-year government bond yield spreads tightened across the board, with particular narrowing observed in the Spanish/German and Italian/German spreads
- According to a senior Troika official, the aim of Greek talks is a voluntary debt swap, however there are no guarantees of success, adding that the Greek 2011 deficit is likely to be higher than the 9% of GDP target
- German FDP party approved the set-up of ESM
The Iranian geopolitical tension is about to get more complicated, after it was uncovered that Russian authorities had intercepted a passenger carrying radioactive material to Iran. According to AFP, the Russian customs service seized a consignment of radioactive isotope Sodium-22 at a Moscow airport from a passenger who was to travel on a flight to Tehran, the customs service said in a statement. "Tests showed that the Sodium-22 could only have been obtained as the result of the work of a nuclear reactor," the customs service said, saying it was alerted by signals that background radiation in the area was 20 times the norm. We expect to hear some loud noises coming from the now hopelessly irrelevant US State Department within minutes. As for the "Russian connection", we doubt anyone will be surprised by the gamma decaying love between the two countries.
Next week, credit derivatives will roll from December to March maturities. The last couple of days have seen increasing dispersion across sovereign, and corporate equity and credit markets in Europe. The modestly bullish bias to credit index moves, while not totally dismissible as optimism, is likely to have a number of technical drivers implying that investors should not read too much into the compression. Liquidity has dropped notably in both single-name and index products recently and credit derivative dealers have increased the spread between the bid and the offer accordingly - this means the roll adjustment may be even more expensive this time around and for traders with a book full of single-name CDS, positioned more short, the bias will be to sell index protection to 'hedge' some of that roll-adjustment. The other technical is the indices swung once again from rich to cheap into the middle of this week (meaning the indices trade on a cheap basis to the cost of the underlying components) and so heading into a roll, arbitrageurs will want to rapidly take advantage of this - especially in the high-beta XOver and Subordinated financials space. So, all-in-all there has been some optimism in credit markets the last two days but as-ever we pour some sold water on the excitement as all-too-likely this is driven by roll and arb technicals, as opposed to a wall of risk-hungry buyers.