The period from 2003 to 2008 has been nicknamed 'The Great Moderation' as credit spreads collapsed close to zero, free-wheeling securitizations flooded the market with liquidity which repressed every credit instrument and forced investors to reach down in quality and out the curve for every extra tick of yield or carry. The period from the lows in 2009 could well be nicknamed 'The Great WTF' as credit spreads collapsed back down, and free-wheeling central banks flooded the market with liquidity which repressed every credit instrument and forced investors...blah blah blah... It would appear from the analog below that while markets do not repeat, they sure like to echo. We just remind those bulls looking for the next 18% lift that the analog period is when reality started to come out from behind the curtain - beginning in 2007...The Great Realization.
Entering the final quarter of the year, Lacy Hunt and Van Hoisington (H&H) describe domestic and global economic conditions as extremely fragile. New government initiatives have been announced, particularly by central banks, in an attempt to counteract deteriorating economic conditions. These latest programs in the U.S. and Europe are similar to previous efforts. While prices for risk assets have improved, governments have not been able to address underlying debt imbalances. Thus, nothing suggests that these latest actions do anything to change the extreme over-indebtedness of major global economies. To avoid recession in the U.S., the Federal Reserve embarked on open-ended quantitative easing (QE3). Importantly, in their view, the enactment of QE3 is a tacit admission by the Fed that earlier efforts failed, but this action will also fail to bring about stronger economic growth. H&H go on to break down every branch that Bernanke rests his QE hat on from the Fed's inability to create demand, to the de minimus wealth effect, and most importantly the numerous unintended consequences of the Fed's actions.
Yes, even the perennially rose-colored eyeglass wearing IMF is seeing the Eurocalypse, but what's even more interesting is what's not being said.
Chatter is that Rajoy is waiting for conditions to get worse so he can garner easier terms for a Spanish Bailout and seek a compromise whereby he can take a rescue with honor intact has been found. But broadly speaking, confusion reigns in Europe as we wonder how the European Elites will fudge a third bailout for Greece and the fact that the IMF (as we noted here) have admitted that austerity doesn't work how they thought it should/would. But don't expect anything sudden to replace austerity – it remains the only option today, though the debate has begun. So what about something utterly radical such as Gavyn Davies in the FT yesterday where he wrote: “One radical option which is now being discussed is to cancel (or, in polite language, “restructure”) part of the government debt that has been acquired by the central banks as a consequence of quantitative easing (QE).” How will the central bank be recapitalised if it writes off its assets without money printing – why not when inflationary expectations are low? And what would it do to banks?
Forget Micro economists.
"The consensus view was that QE3 was going to send the stock market to the moon. Yet the peak level on the S&P 500 was 1,465 on September 14th, the day after the FOMC meeting. The consensus view was that the lagging hedge funds were going to be forced to play some major catch-up and take the stock market to the moon too. Surveys show that the hedge funds have already made this adjustment...Q3 EPS estimates are still coming down and now stand at -3% YoY from -2% at the start of October....this is the first time the Fed embarked on a nonconventional easing initiative with the market overbought and with profits and earning expectations on a discernible downtrend. Not only that, but the fact the pace of U.S. economic activity is still running below a 2% annual rate, which is less than half of what is normal at this stage of the business cycle with the massive amount of government stimulus, is truly remarkable. Keep an eye on the debt ceiling being re-tested — the cap is $16.394 trillion and we are now at $16.119 trillion. This is likely to make the headlines again before year-end — the rating agencies may not be taking off much time for a Christmas break."
One place where the S&P level still does have a modest influence is the number of shorts in the market, which are strategically used by repo desks and custodians (State Street and BoNY), to force wholesale short squeezes at given inflection points, usually just when the bottom is about to drop out. The problem is that even short squeezes are increasingly becoming fewer and far between, for the simple reason that the Fed has managed to nearly anihilate shorters as a trading class with its policy of Dow 36,000 uber alles. This was demonstrated with the latest NYSE Group short interest data, which tumbled to 13.6 billion shares short as of the end of September, or the lowest since early May, just as the market was swooning to its lowest level of 2012 to date.
A few weeks ago we noted Bundesbank president and ECB governing council member Jens Weidmann's analogy between the Faustian bargain offered by a money-printing Mephistopheles in Goethe's classic prose and today's ubiquitous oh-so-tempting short-term solution to everyone's pain. His full speech (below), while a little dramatic, should indeed strike fear into many with its clarity. The financial power of a central bank is unlimited in principle; it does not have to acquire beforehand the money it lends or uses for payments. Many believe Goethe was portraying the modern economy with its creation of paper money as a continuation of alchemy by other means. While traditional alchemists attempted to turn lead into gold, in the modern economy, paper was made into money. Indeed, the fact that central banks can create money out of thin air, so to speak, is something that many observers are likely to find surprising and strange, perhaps mystical and dreamlike, too – or even nightmarish. Of course, Weidmann concludes, it is important that central bankers, who are in charge of a public good – in this case, stable money – bolster public confidence by explaining their policies. The best protection against temptation in monetary policy is an enlightened and stability-oriented society. [and Gold!]
"Liquidity trap" was a term coined by John Maynard Keynes in the aftermath of the Great Depression. He argued that when yields are low enough, expanding money supply won't stimulate growth because bonds and cash are already near-equivalents when bonds pay (almost) no interest. Some, like Citi's credit strategy team, would say that it is a pretty apt description of the state of play these days. To their minds (and ours), there is very little doubt that central banks have played an absolutely crucial role in propping up asset prices in recent years, Why have markets responded so resolutely when growth hasn't? The answer, we think, is that in their attempts to free markets from the liquidity trap, central banks are ensnaring markets in what we'll call a "liquidity lure". That lure is three pronged... but tail risks are bound to re-appear and from this position, there is no painless escape.
Goldman "Hannibal Lecter" Sachs used to be the visible ringleader of The Gold Cartel. They have since disappeared from the gold price suppression scheme totally, at least as far as this eye can see.
The fact that the major credit indices have had to resort to 'imaginary credit' in order to generate an actionable market is perhaps the final nail in the coffin of the single-name CDS market in this cycle. An artificially low spread environment, forced their by massive technical flows thanks to central-bankers' financial repression has removed a natural buyer- and seller- from the market - reducing liquidity; and combined with Dodd-Frank and more regulation (higher capital reqs), dealers are also forced to delever risk books (reducing liquidity). But, there is one glaring reason why the single-name CDS market is dying; extremely high correlation. As Barclays notes, in a market where investors’ ears are, more than ever, finely tuned to the statements of politicians and central banks and the tail outcomes for the market, it makes sense for correlation to be high – at this stage, there should be little distinction between individual names – trading the level of systemic risk premia is the focus. And sure enough, index (systemic) volumes is rising as single-name (idiosyncratic risk) trading volumes and exposures are fading fast. So what brings it back?
On a regular basis we are placated by commercials to satisfy our craving to know which bathroom tissue is the most absorbent; debates 'infomercials' assuaging our fears over which vice-presidential candidate has the best dentist; and reality-shows that comfort our 'at least I am not as bad as...' need; there is an inescapable reality occurring right under our propagandized nose (as we noted here). Economic Reason has gathered together the Top 15 'reality' economic documentaries - so turn-on, tune-in, and drop-out of the mainstream for a few hours...
Abe Gulkowitz, publisher of the periodic chart masterpiece The Punch Line, has released his latest macro economic update full of 17 pages of charts and news blurbs indicating the true state of the economy in an easily digestible format. While it will hardly come as a surprise to most, the prevalent chart direction is one from the top left to the bottom right in practically every macro vertical, despite the now endless monetary intervention attempts by all central developed world central banks.
Guest Post: On Currency Swaps And Why Gartman May Be Wrong In Focusing On The Adjusted Monetary BaseSubmitted by Tyler Durden on 10/14/2012 13:53 -0400
Last week Dennis Gartman, in his homonymous letter said that he was concerned about the fact that the adjusted monetary base has been falling, rather than rising, taking away the bullish case for gold on the topic of “money printing”. One must therefore remind those with this concern that the credit expansion caused by the backstop of the Fed alone is enough to inflate asset prices. This is consistent with the case we made in our last letter, that a commodity based standard is not as relevant as having a 100% reserve requirement. By the same token, if the reserve requirement is below 100%, it is not that relevant to see the expansion of the monetary base! The “printing of money” will eventually come, when EU corporations begin to default and the Fed has to “ensure there is enough US dollar liquidity”. It happened in 1931-33, in spite of the fact that the adjusted monetary base had been contracting since 1929: The US dollar was devalued from approx. $20.65/oz to approx. $34.70oz and gold was confiscated.
Imagine if in 2007, Ben Bernanke, Mervyn King, Jean Claude Trichet et al, had actually possessed the analytical foresight to see what was coming, organised a meeting with the world's media and explained how, using their collective wisdom, they would solve the problem.
"There's going to be a massive global crisis, but there's no need to worry. We're just going to print money."
"Is that it?"
How would most people have reacted then? We think they would have laughed out loud. Why are so many of us reacting differently now? The nature of markets is that they periodically forget the lessons of history. Confidence in the status quo seems as entrenched now as it was in 2007 but Gold appears to be exhibiting 'Giffen-like' behavior where, instead of falling, demand is rising as prices rise.