Q. If Japan has a financial collapse, what will happen to its government bonds?
A. Please do not worry.
While the prior week was marked by some kind of awakening, this week was more about finding a direction. Eventually mostly downwards, but always in jumps, marked by tentative rebounds. Europe mostly lost, so unused not to be the focal point anymore, waiting for US input. If it wasn’t for the Fiscal Cliff, and in absence of further news out of the Periphery, we seem to have
"No Direction" (Bunds 1,32% -2; Spain 5,86% +5; Stoxx 2429% -2,1%; EUR 1,27 -10)
Equities closed the day-session near the highs of the day as OPEX shenanigans were evident everywhere. Early and ugly macro data was swept under the proverbial carpet (as it is transitory Sandy effects?), the ubiquitous European-close trend reversal started us higher, and then platitudes from D.C., and a late-day Fed-Head jawbone did the rest on a day when AAPL saw its largest volume in 8 months and pinned between 520 and 530 VWAPs. Risk assets did not follow the path of most exuberance that stocks did on the day (surprise). Credit tracked with stocks today in general but remains an underperformer on the week. Oil was the week's big beta winner with the USD (despite underlying dispersion in EUR and JPY) and Treasuries rather dull. Gold sagged but by the close today the S&P 500 had recoupled with the barbarous relic on a beta basis. VIX compressed (exciting some that are incapable of comprehending a term structure) as put overlays were unwound into OPEX (and given the VWAP/volume moves it would seem AAPL saw hedges taken down and exposure reduced). Red week as stocks continue to catch down to bond's new normal.
In the past it has been the bond market whose vigilantes had rampaged across the fields to keep policymakers honest - but something has changed with the Fed's boot on the bond market. As BofAML notes, when the Fed was too soft on inflation or the fiscal deficit was out of control, interest rates spiked higher. In our view, this has changed and today the stock market is the disciplining force for Washington. We have argued this perspective for a while - that nothing will be done until we get a stock market crash - but the press will continue to make molehills out of mountains it seems as BofAML adds, the most obvious lesson of the last week is that when Washington approaches a policy impasse, the financial press tends to signal a resolution of the crisis many times before it happens. Don’t believe it. After elections there is always conciliatory talk: no one wants to be seen as a sore loser or a gloating winner. The risk remains huge and the four hurdles to a grand bargain seem to be getting larger - no matter what the press wants us to think - investors should look past reassuring rhetoric and focus on the underlying reality.
You've probably noticed the cookie-cutter format of most financial media "news": a few key "buzz words" (fiscal cliff, Bush tax cuts, etc.) are inserted into conventional contexts, and this is passed off as either "reporting" or "commentary" depending on the number of pundits sourced. Correspondent Frank M. kindly passed along a template that is "officially deny its existence" secret within the mainstream media. With this template, you could launch your own financial media channel, ready to compete with the big boys. Heck, you could hire some cheap overseas labor to make a few Skype calls to "the usual suspects," for-hire academics, hedge fund gurus, etc. and actually attribute the fluff to a real person.
I was a super bull of long-term bonds. I stated my case over 3 years ago with a yield target on 30-year maturities of 2.5%. Back then, the timing and structure looked right for another run to new highs. Discussions about hyperinflation were premature.
Everything that has happened since 2007, every Central Bank move, ever major political decision regarding the big banks, every trend, have all been focused solely on one issue.
One of the most commonly cited 'bullish' memes for stocks is the so-called Fed Model (or Equity Risk Premium) or more simply - the fact that earnings yields are not catching up to Treasury yields (i.e. why put your money in government bonds at such low rates when there is a smorgasbord of yummy equities with 'attractive' dividend yields). There are three key problems with this perspective: 1) No concept of 'risk' is imbibed in this return-based differential (as we have discussed before here and here); 2) Longer-term historical context is critical (as we discussed here - must read); and most importantly 3) Financial Repression breaks the 'Fed Model'. As Barclays shows in the following three charts (and we pointed out recently) normalization of the equity risk premium will not occur until Financial Repression ends. Brings a whole new meaning to 'Don't Fight The Fed' eh?
As has been widely reported previously, while the NY Fed's deep underground gold vault remained dry during the Sandy flooding in downtown NY, one institution which got badly hurt was the DTCC, aka Cede & Co (profiled here in July of 2009 in " The Biggest Financial Company You Have Never Heard Of"), which is the entity serving as custodian of virtually every electronically traded security in the modern marketplace (equity, debt, derivative, synthetic, in fact anything which is not a physical asset in itself and is not in the hands, or safe, of the rightful owner). We put the emphasis on electronically, because DTCC is also the actual custodian of all physical proof of stock ownership, such as certificates, bond deeds, and the like. It is the largely irrelevant latter (because it has been several decades since anyone actually demanded a physical copy of the stock certificates backing their shares of company XYZ) that the DTCC got in trouble for when its securities vault got flooded, and in the process destroyed countless physical stock certificates. Note we did not use the word electronic because those are there and accounted for in numerous back up data sites, with full designation and attribution. In other words anyone who made a mountain out of this particular mole hill sadly has no idea how modern markets operate, since all that the DTCC needs to do to remedy the flooding damage is to notify transfer agents of this natural disaster, and then have duplicate stock certificates printed at a cost of 1 cent for every thousands or so print outs. Which is more or less what the DTCC also just said in its press release.
How America's Middle Class, And Future Pensioners, Bailed Out A Generation Of Overzealous HomebuyersSubmitted by Tyler Durden on 11/15/2012 14:37 -0500
In the current Bernanke-Obama-Keynes toxic triangle (defined previously here) economy, blink too long and you will miss the latest bailout. While 4 years ago, it was America's M.A.D.-hostage taxpaying middle class that had no choice but to fund the trillions in direct Fed cash handouts and guarantees to bail out the banks, in the process saving and preserving the trillions in wealth for America's uber wealthy (the "1%") class, ever since then it has been the government's turn to rescue the country's lower and lower-middle classes (the "47%"), who, with no gun to their heads, decided to splurge during the height of the housing bubble (insurmountable mortgage payments and $0 down notwithstanding) and buy that aspirational McMansion that would make them so much more appealing in the eyes of the next door neighbor (who too could never afford their house in the first place). This has happened courtesy of a progressively more pervasive mortgage forgiveness plan, which has seen the total amount of debt funding a given home purchase shrink little by little each day. However, since there is no free lunch anywhere, certainly not when a bank's balance sheet is being impaired, like in 2008, someone is once again on the hook for this latest bailout. That someone, not surprisingly, is again America's middle class that lived within its means, that saved money while others splurged, and even put cash away for retirement, handing it over to various Pension investment vehicles.
Until recently, the only question traders had to ask themselves was "how much more to buy?" The last week or so has left traders across the market now suddenly plagued by numerous questions. Will an Obama speech continue to be the catalyst for selling pressure to resume? Why is VIX 'low' when all around is asunder? When do the BTFD crowd step back in? Where's the 'wall of money' flowing now? From new issue demand to Italy's ratings agency trials and from bounce-buyers waiting for Godot to VIX's complacency, FBN's Michael Naso and Mint's Blain cover some of the conundra.
- Wal-Mart misses topline expectations: Revenue $113.93bn, Exp $114.89bn, Sees full year EPS $4.88-$4.93, Exp. $4.94, Unveils new FCPA allegations; Stock down nearly 4%
- China chooses conservative new leaders (FT)
- Eurozone falls back into recession (FT)
- Moody’s to Assess U.K.’s Aaa Rating in 2013 Amid Slowing Economy (Bloomberg)
- Another bailout is imminent: FHA Nears Need for Taxpayer Funds (WSJ)
- Hamas chief vows to keep up "resistance" after Jaabari killed (Reuters)
- Obama calls for rich to pay more, keep middle-class cuts (Reuters)
- Obama Undecided on FBI's Petraeus Probe (WSJ)
- Battle lines drawn over “growth revenue” in fiscal cliff talks (Reuters)
- Rajoy’s Path to Bailout Clears as EU Endorses Austerity (Bloomberg)
- Zhou Seen Leaving PBOC as China Picks New Economic Chiefs (Bloomberg)
- Russia warns of tough response to U.S. human rights bill (Reuters)
- Japan Opposition Leader Ups Pressure on Central Bank (WSJ)
- Zhou Seen Leaving PBOC as China Picks New Economic Chiefs (Bloomberg)
The main overnight event, if not very surprising, was the formal announcement of the power moves at the top of China from the now concluding 18th Communist Party Congress, which occured largely as expected. To summarize: "Xi Jinping took the helm Thursday of a new, trimmed down Communist Party leadership that insiders said was shaped less by the daunting economic and political challenges facing China over the next decade than by bitter personal and factional rivalries within a secretive Party elite. In a surprise move, Mr. Xi replaced outgoing Party chief Hu Jintao as head of the powerful Central Military Commission, which controls the armed forces, making Mr. Hu the first Communist Chinese leader to cede all formal powers without bloodshed, purges or political unrest. But the new leadership lineup did not include the two figures with the strongest track record on political reform, dimming prospects that a new generation of rulers is committed to tackling vested interests within its own ranks." In other words and just like after the US elections - to quote the announcement during every 2:15 FOMC release from now until eternity - "no change, repeat, no change" (and the SHCOMP closing down 1.22%, and the Hang Seng down by over 1.5% more or less confirmed this). An interactive infographic of who's the new who in China can be found here, while a summary of what this means and what to expect are here and here. Elsewhere, the other main event was the formal announcement that, as everyone certainly expected, Europe officially is now in a recession. The euro-area economy slipped into a recession for the second time in four years, with GDP falling 0.1 percent in the third quarter. The official start date of Europe's recession is now Q3 2011. And with October Eurozone CPI pushing at a perky pace of 2.5%, one can add stagflation to the official list of terms haunting Europe.
With impeccable timing
Much is made of the 'apparent' bubble in Treasury bonds - a 30-year or so relatively consistent trend in government bonds (through thick and thin) and yet allocations remain minimal compared to our increasingly similar Japanese friends have experienced. It would seem to us, thanks to Bernanke's 'visible' hand that the real bubble is in spread product - as rates are so compressed, investors seemingly oblivious to the word 'risk' (unintended consequence) have flooded into ever-increasing yield/spread products - with high-yield bonds now dominated by these technical inflows (as we noted in the close today). If ever the combination of anchoring bias, 'dance while the music is playing', and herding was evident, it is in corporate credit. To wit, the total disengagement from reality (both real 'micro' earnings and 'macro' economic uncertainty) that a flood of money has created in this increasingly crowded (and increasingly-er illiquid) market. Managers are well aware that the liquidity tsunami has moved the maturity mountain (as Citi's Matt King notes) but has helped the weeds as well as the roses.