In what was likely the most ominous news from last week (and a near certain top for the stock) we reported that now none other than the Israel Central Bank was going long shares of AAPL. While the implications for stocks in general are extensive and were previously discussed, it is worth noting that the Israel Monetary Authority now has a big MTM loss on its Apple investment (although as Greece and the ECB have taught us, a central bank can book a "profit" even when a given security is trading at an all time low, and completely irrelevant of what one's cost basis is). And where Israel is, it is quite certain that other central banks have boldly ventured as well. So how long until the Fed has to open an FX swap line with Tel Aviv to bailout Stanley Fischer in this latest of hare brained schemes to keep the Ponzi system going? And how long until it has to be extended to the nearly 250 hedge funds who are now also long the stock, with the universe of incremental buyers disappearing by the day? What is most stunning is that Apple dipped a modest 3% intraday... Which just happened to be the biggest decline since November 2010.
Blinded by the light of the European equity market, one could be forgiven for thinking that LTRO 2 has indeed had some stabilizing impact on the European (and even the world) economy market. However, just as we have been aggressively pointing out, this is not the case (or at least not a sustainable case) as we see the 'LTRO-stigma' rising - now 10-15bps wide of its post-LTRO best levels - as LTRO-behooven banks trade notably wider (worse) than non-LTRO-subservient banks. What is very clear is that European credit markets, which are now trading at their worst levels post LTRO are much more concerned at the unintended consequences of the massive subordination and dependency than the equity market appears to be. Senior financial credit spreads are underperforming as they re-price for the broad subordination that has occurred but investment grade and high-yield credit in Europe is dramatically wider today even as stocks levitate. With ECB deposits breaking records and bank funding costs rising (as opposed to the hoped for drop), it seems unlikely that all this freshly minted collateralized cash will find its way out to the real economy and do anything but further zombify European banks and implicitly drag economic growth down (as credit markets appear to be better at discounting once again). As Europe closes, credit is pushing even lower to its worst in over a week.
"Emotions exceeding known parameters cause extreme events, such as stock market booms and busts. They are self-reinforcing spirals upward and especially downward that, once established, keep diverging from equilibrium until the driving forces fade or stronger counter forces reverse them. Ever-increasing desires for accumulating ever greater wealth faster and faster ignited a credit bubble that spiralled upwards until it burst in 2007 from a lack of new borrowers. The multi decade credit bubble and its bursting were extreme events. No model recognized the credit bubble or its collapse and no model is giving any indication of the plethora of problems now brewing in Europe."
Is Apple going to $1,000 per share and dragging the market higher with it? Sometimes one chart tells us more than a thicket of charts. Every analyst and punter seeks an "edge" by plotting and comparing innumerable indicators, ratios, correlations and data points. Sometimes all this complexity pays dividends, but if it did so consistently then 90% of hedge funds and mutual funds wouldn't be underperforming index funds. Sometimes a single chart says it all.
Last Thursday, following the second in one day GDP forecast tweak lower by Goldman on disappointing Consumer and ISM data, we said "And this, ladies and gents, is ultra high frequency economics, where HFT machines push the market up and down without reason, and where this has an immediate impact on economic indicators, all changed around in real time." Sure enough, today, following the better than expected Services ISM print, Goldman has now revised its GDP tracking number, this time higher, from 1.9% to 2.0%! At this rate GDP will soon become a coincident indicator of nothing more than consumer confidence that record high gas prices are a bullish indicator for consumption. That it is already a coincident indicator to real-time economic data, and merely shows the prevalent confusion within the strategist community, is a given.
While headlines may evoke underlying strength (despite a slowing China, underlying employment indices lagging, and rising-price concerns growing) the expectations of our elite economists has once again extrapolated, Birinyi-style, a self-sustaining recovery to infinity and beyond. Unfortunately, economic data is disappointing in the last few weeks relative to expectations as the Citi Economic Surprise Indicator drops to three-month lows. It appears to us that the economic data in the US, driven up in the (cyclical) short-term by tax cuts, fuel cost drops, and very recently the warm weather according to Morgan Stanley, is set to repeat the 2008 pattern as ECRI data did not confirm the improvement. The mean-reversion in the Citi ECO index suggests at best a significant slowing in equity performance but more likely a negative return in the three-months ahead. It would appear that our hopium-filled expectations have once again become unsustainable.
Okay, we don’t know if that is a good translation of Dead Bank Walking into Portuguese, but we didn’t think zombie banks was sufficient. As Portugal's sovereign spreads have risen by 200bps in the last 3 weeks and now trade at a wholly unsustainable 1200bps over Bunds, we thought it worth looking at how large (and under-capitalized) the Portuguese banking system was. Perhaps more critically just how zombified they were with regards to their Central Bank liquidity needs - the picture is not encouraging. As tensions continue to mount internally, it seems the LTRO's lull should be used to wipe out the weak banks or recap the less-than-dismal banks as that is the only real firewall. With the Greek PSI/restructuring dangling in the dust, it seems increasingly likely (as the IIF just noted) that Portugal is next and imminent given market pricing, despite the 'uniqueness' of their Hellenic neighbors.
In 2011 it was Europe's turn to baffle everyone with bullshit. it still is, but now it has added China (whose Services ISM printed both below and above 50 depending on which data one uses, whether Markit or HSBC), and the US, as it is now the turn of the Services ISM to beat expectations and print at 57.3, on expectations of 56.0, and higher than the prior 56.8 - this beat comes just as the market was expecting a major drop in the aftermath of the big manufacturing ISM miss (Goldman was well below the consensus on today's number), and appears to have printed where it did just to keep the confusion about the true state of the US economy in place as Bernanke vacillates whether or not to proceed with QE3 and when. Curiously, the most important subindex ahead of this Friday's NFP data, the employment indicator, showed a decline from 57.4 to 55.7, just to make an NFP beat all that much more 'surprising.' That said, as Bloomberg's Joe Brusuelas notes, this data is stale and does not reflect the recent gasoline price shock, which as of today has regular has at a 2012 high of $3.767, compared to $3.503 this time last year. Elsewhere, and in keeping with the Mfg ISM data, US Factory Orders slid 1.0% on expectations of an unchanged print from last month's 1.4% increase. Finally, stocks are completely unmoved on all of this data.
Another day, another reminder that all those who listened to "pundit" calls for loading up on Greek 1 year bonds which hit 100% for the first time ever in September of last year, are now broke to quite broke. As of this morning the Greek 1 Year Bond has just passed 1000% and was down to just 20.5 in cash terms, further making the case for a Greek redefault in just over a year, as pre-petition bondholders make it abundanatly clear they don't expect to collect much more than one cash coupon in the "fresh start" country. In other news, Greek CDS just hit a new all time high of 77 pts, and the basis package is at a record of 98.5. It appears that the IIF fearmongering has not stopped all those who wish to have a basis package going into Thursday from doing just that (because for the cheap seats, CDS prices go up when there are more buyers than sellers).
Readers know that among the things the we find most meaningless in the New Normal are those anachronisms known as 'charts' - after all when it comes to central planners exclusively running the market, this has never occurred before in history at this level. Yet the impact of technical analysis should not to be discounted, as it does create a self-fulfilling prophecy (far weaker than the impact of marginal liquidity but it is there nonetheless), in which case today's note from Art Cashin may have an impact on risk appetite. Or not - all it takes for any bout of selling to end is a sideways glance from the Chairsatan and we see a 20% surge in risk in the next few months on nothing but a whisper of a new multi-trillion liquidity injection.
While everyone was busy ruminating on how little impact a Greek default would have on the global economy, the IIF - the syndicate of banks dedicated to the perpetuation of the status quo - was busy doing precisely the opposite. In a Confidential Staff Note that was making the rounds in the past 2 weeks titled "Implications of a Disorderly Greek Default and Euro Exit" the IIF was doing its best Hank Paulson imitation in an attempt to scare the Bejeezus out of potential hold outs everywhere, by "quantifying" the impact form a Greek failure. The end result: "It is difficult to add all these contingent liabilities up with any degree of precision, although it is hard to see how they would not exceed €1 trillion." In other words, hold out at your own peril. Of course, what the IIF does not understand, is that for hedge funds it is precisely this kind of systemic nuisance value that makes holding out that much more valuable, as they understand all too well that they have all the cards on the table. And while a Greek default could be delayed even if full PSI was not attained by Thursday, it would simply make paying off the holdouts the cheapest cost strategy for the IIF, for Europe and for the world's banks. Unless of course, the IIF is bluffing, in which case the memorandum is not worth its weight in 2020 US Treasurys.
I recall the early days of the Greek crisis when everyone asked why Greece was so important because it is such a small country. I responded that they had a total of $1.1 trillion in debt (sovereign, municipal, corporate, bank and derivatives) and I remember the blank stares. Now, if the newest bailout goes through, they will have more than $1.3 trillion in debt and while they could not pay the initial amount they certainly cannot pay any larger amounts so that it can clearly be stated that what is going on is the central banks of Europe and the ECB/EU lending money to Greece only as a conduit to pay back their own banking institutions. If you object to my math here recall that as the private sector involvement reduces the notational amount of sovereign debt but that the Greek banks are also going to be lent money so that the decrease in sovereign debt which excludes the ECB/EIB and IMF debt is not the headline bandied about in the press. So we have the hard date of March 9 when either the threshold for the exchange is met or not, the imposition of the CAC clause or not, the next “Question” to the ISDA if the CAC is triggered asking if there has been a credit event to trigger the CDS contracts, the possible consequences of a CDS trigger, the decision on the bailout funds by the EU and finally the March 20 hard date when Greece must make its bond payments or default. Regardless of your opinion, it may now be stated precisely, that there is a lot of risk on the table and on that basis alone I would assume a quite defensive position until this all gets played out. The risk/reward ratio is now strongly slanted towards Risk.
In what should come as a surprise to nobody, German banks have announced that they will accept the terms of the Greek PSI whose outcome is due on Thursday. Because as Reuters points out, German banks already have had the time and opportunity to park the bulk of their Greek exposure with the failed German bad bank, which is explicitly funded by the government (thus making the cost to the German government even higher): "While Greek sovereign debt owned by German lenders has a face value of roughly 15 billion euros ($20 billion), in most cases they have already written down that value in their books by about three quarters. FMS Wertmanagement, the biggest creditor with an exposure of nominally more than 8 billion euros, will accept the deal, a person close to the lender said on Monday. FMS, the bad bank set up to hold the toxic assets of bailed-out former bluechip lender Hypo Real Estate, is to formally decide on accepting the debt cut later this week, the person said." German banks... German banks... where else have we seen this today? Oh yes: "Die Welt said that more than half of the 800 lenders that tapped the ECB's 3Y LTRO last week were German, consisting mainly of small savings and cooperative banks." Thank you Jim Reid - so while Bundebank's Jens Weidmann huffs and puffs about the LTRO, it is his own banks are the biggest beneficiaries, in no small part to hedge against Greek exposure. But yes - at least following the absorption of tens of billions in intermediary capital via a variety of channels, German banks can now accept a 70%+ haircut, even if they continue to complain about it in the process: "Commerzbank, which had originally invested almost 3 billion euros in Greek sovereign bonds but has written down its exposure to 800 million, said last month it had little choice but to take part in the bond swap. At the time, chief executive Martin Blessing said: "The voluntariness (of the Greek debt swap) is about as voluntary as a confession at a Spanish inquisition trial."" The Spanish Inquisition appears to have won yet again.
European equity indices are exhibiting signs of risk averse behaviour, with financials and basic materials performing particularly poorly. This follows weekend reports from ECB sources that the central bank does not believe voluntary participation in the Greek debt swap deal will be sufficient, and the CACs will have to be invoked. Markets are also reacting to the weekend press from Germany, claiming the Troika believe Greece will require a third bailout of around EUR 50bln by 2020, however these reports were denied by a German spokesman earlier in the session. European Services PMI data released earlier in the session fell below expectations, compounding the already cautious market behaviour. European Banks have parked a fresh record EUR 820bln with the ECB overnight, showing further evidence that the LTRO has loosened liquidity constrictions in the continent. Commodities are making losses ahead of the North American open following overnight news that China have made a downward revision to their GDP target for 2012. Spot gold is trading down around 0.9% and WTI and Brent crude futures have been making a loss for most of the session so far, however oil has made positive movements in recent trade. These negative movements in commodities are also weighing down upon the commodity-linked currencies, with AUD particularly making losses on the session.
Last week's manufacturing ISM was a big disappointment, making a mockery of Wall Street expectations, and of course its biggest permabull , Joe Lavorgna who came 10 standard deviations above the final number. Will this weakness continue today? If yes, it is merely a loophole for the Chairman to use at the next FOMC meeting and further goose the market. If not, it likely means that Friday's NFP number will see a record 'adjustment' fudge factor with payrolls soaring well above the consensus, on a last ditch effort to get the economy to sustain a virtuous cycle. Unfortunately when one takes away the $2 trillion punchbowl injected over the past 6 months into the global economy, this is impossible.