Bad Bank

Turns out that for Europe, Cyprus was a "bail-in" template after all, and following an agreement reached early this morning, Europe now has a joint failed-bank resolution mechanism. Several hours ago, EU finance ministers announced that they had reached agreement on the principles governing the imposition of losses on creditors in bank 'bail ins'. Having already agreed to establish "depositor preference" in the pecking order of creditors at risk, the stumbling block to agreement was the availability of flexibility at the national level to complement the bail in with injections of funds from other sources. Under the compromise achieved overnight, once a bail in equivalent to 8% of total liabilities has been implemented, support from other sources can be used (up to 5% of total liabilities) with approval from Brussels. So investors (i.e. yield chasers) will foot the cost of bank bailouts? Maybe on paper. In reality, last night's agreement is the usual fluid melange of semi-rigid rules filled with loopholes designed to benefit large banks whose impairment may be detrimental to "systemic stability". To wit, from the FT: "While a minimum bail-in amounting to 8 per cent of total liabilities is mandatory before resolution funds can be used, countries are given more leeway to shield certain creditors from losses in defined circumstances." In other words, here is the bail in regime... which we may decide to ignore under "defined circumstances."

It is easy to get the impression that the naysayers are wrong on Europe. After all the predictions of Armageddon, ten-year government bond yields for Spain and Italy fell to the 4% level, France which is retreating into old-fashioned socialism was able to borrow at about 2%, and one of the best performing bond investments has been until recently – wait for it – Greek government bonds! Admittedly, bond yields have risen from those lows, but so have they everywhere. It is clear when one stands back from all the usual euro-rhetoric that as a threat to the global financial system it is a case of panic over. Well, no. Europe has not recapitalized its banking system the way the US has (at great taxpayer expense, of course). Therefore, it is much more vulnerable. Where European governments and regulators have failed to make their banks more secure it is because they tied their strategy to growth arising from an economic recovery that has failed to materialize. The reality is that the Eurozone GDP levels are only being supported at the moment by the consumption of savings; in orther words, the consumption of personal wealth. Wealth that is not infinite; and held by those not likely to tolerate footing the bill for much longer.

• Bonds Tumble With Stocks as Gold Drops in Rout on Fed (BBG)
• Bernanke Sees Beginning of End for Fed’s Record Easing (BBG)
• Gold Tumbles to 2 1/2 Year-Low After Fed as Silver Plummets (BBG)
• PBoC dashes hopes of China liquidity boost (FT)
• U.S. Icons Now Made of Chinese Steel (WSJ)
• Emerging Markets Crack as $3.9 Trillion Funds Unwind (BBG)
• Everyone joins the fun: India sets up elaborate system to tap phone calls, e-mail (Reuters)
• China Manufacturing Shrinks Faster in Threat to Europe (BBG)
• More on how Syria's Al-qaeda, and now US, supported "rebels", aka Qatar mercenaries, operate (Reuters)
• Echoes of Mao in China cash crunch (FT) - how dare a central bank not pander to every bank demand?
• French watchdog tells Google to change privacy policy (Reuters)

Why do these high level guys "unexpectedly" resign as soon as a few secrets are revealed?

Liquidity overcame common sense and economic fundamentals for a time. A lot of money was made and a huge amount of leverage was put on. Everything rose with the tide. Look around you though; look carefully. We think the tide is beginning to go out. We believe recession in Europe will spread to America as the severity of the European crisis becomes more and more apparent. Upcoming economic data in France is also going to be quite troubling in my opinion and the contagion will become apparent in the United States.

How bad bank debts, concealed bank liabilities and US grade school history collide in Taxation Without Representation!

• National Security Advisor Tom Donilon resigning, to be replaced by Susan Rice - Obama announcement to follow
• Japan's Abe targets income gains in growth strategy (Reuters), Abe unveils ‘third arrow’ reforms (FT) - generates market laughter and stock crash
• Amazon set to sell $800m in ads (FT) - personal tracking cookie data is valuable
• 60 percent of Americans say the country is on the wrong track (BBG)  and yet have rarely been more optimistic
• Jefferson County, Creditors Reach Deal to End Bankruptcy (BBG)
• Turks clash with police despite deputy PM's apology (Reuters)
• Rural US shrinks as young flee for the cities (FT)
• Australia holds steady on rate but may ease later (MW)
• The Wonk With the Ear of Chinese President Xi Jinping (WSJ)
• Syrian army captures strategic border town of Qusair (Reuters)

There is a reason why US corporate balance sheets have rarely been in better shape: it is because the Fed has become the S&P500's bad bank. As the chart below shows, in the six years between 2006 and 2012, corporate net debt of the S&P500 has barely budged from $1.5 trillion, even as corporate profits have soared (albeit profit margins have now declined for two straight years as SG&A has already been cut to the bone, while the marginal benefit from such below the line items as net interest is about to turn negative if and when rates really turn higher - hint: they won't, because Bernanke is all too aware of this particular nuance). What has offset this? Why the bad bank formerly known as the Federal Reserve of course, which has huffed and puffed, and force-fed $2.5 trillion in new credit money (mostly reserves) down the market's throat (created out of thin Treasurys), which has zero end-demand for such credit, as a result it has gone straight into the one place that will gladly accept it - the stock market. For now at least. At some point this fungible money will spill over and then all bets are off.

Since 2009, when Hypo Alpe Adria was 'nationalized', the Austrian government has dumped more than EUR2 billion into the troubled bank. It remains on life-support but this time the government-proposed 'aid' being offered is running into a wall. The rest of Austria's banks (as creditors as well as forced levy-payers from other bailouts) dismiss the government's plan for a "bad-bank" model a la Ireland adding that they "will not allow themselves to be put under pressure by politicians." Reuters notes that the 'bad-bank' plan is up against a deadline at the end of May from the European Commission, and among others Unicredit Austria is clear on its role, "decidedly rule out a commitment on our part." The increasing tension between Vienna and Brussels is evident as a quick sale of the bank will lead to a EUR5-6 billion loss for taxpayers (hurting the government's budget plans) but it seems the rest of Austria's banks are unwilling to throw more good money after bad, "if we go this way, some persuasion will be needed". Is it time for more non-templates?

More thoughts on the ECB's balance sheet and why a negative deposit rate is unlikely.

Most of the SAREB's loans are linked to finished properties, for which it might be easier to find a buyer, but 4.3 percent are for unfinished developments and nearly 10 percent are for empty lots, for which there is little or no demand. Nearly all of the foreclosed properties in its portfolio are empty, including apartment blocks far outside big cities. Only 6,000 of nearly 83,000 housing units have tenants.

By now everyone, even CNBC, admits that the only reason stocks are where they are is due to the G-7 central banks. What many may not know, however, is how we got here, and where we will be at the end of this year. The answer, as provided by JPM Asset Management CIO Michael Cembalest in the chart below, is at the dot in the top right. This will represent the addition of $10 trillion in liquidity, or alternatively the conversion of the "planetary nebula" of central bank balance sheet expansion, in the past seven years. And considering that, as we explained yesterday, there is another $10-11 trillion in scarce "quality collateral" that has to be injected into the financial markets via central banks collateral transformations, the number in yet another 7 years will be at $20 trillion if not exponentially higher, or higher than where US GDP will be.

This is a descriptive not a normative claim. My focus is on what people are actually doing, not what they might have done or what some think they should have done.

And you thought this would stay in Ireland and Cyprus right? Keep hope alive. RBS bailout per UK taxpayer = £1,414 or €1,654 or $2,177. but they didn't tell you everything, did they?

Perhaps the best measure to gauge the European recovery is by the soaring number of companies going bust, because only from this perspective is Europe finally "fixed." As Reuters reports citing a report by Axesor, a record 2,564 companies filed for "insolvency proceedings", a more palatable version of the word bankruptcy, in the first quarter - an increase of 10% from Q4 and up a whopping 45% from Q1 2012. The reasons given: "tight credit conditions and meager demand." Or in other words: no actual cash flow to fund demand for products and services. Obviously it will take some truly phenomenal massaging and manipulation to represent GDP as rising in this environment, but we are confident the Spanish authorities are already on it, and somehow the Spanish pension fund, already 97% filled with Spanish government bonds, will somehow have a finger in yet another completely unbelievable economic print which will fool most of the algos most of the time on flashing red Bloomberg headlines.