Debt Ceiling

"The most notable statement made by Bernanke during the Q&A session was that the FOMC could potentially cut the pace of QE purchases "in the next few meetings," although this was predicated on a continued improvement in the outlook for the economy and confidence in the sustainability of that improvement. He also stated that the purchase pace will depend on incoming data and that the FOMC could either raise or lower the pace of purchases in the future. Our view continues to be that the December meeting and subsequent press conference is the most likely time that the Committee would announce QE tapering, although September is a possibility if the economy picks up more than we expect in coming months."

The grace period between February and mid-May, when the US spent like a drunken sailor without regard for even structural limitations, and raked up over $300 billion in debt, or said otherwise when it was without an official debt limit, is over as of this weekend as we reported, and starting Monday the clock has been reset and wound up to the amount of the debt previously incurred in the phantom period. Courtesy of today's Daily Treasury Statement we now know that the new and improved debt target ceiling, at which the US immediately finds itself is: $16,699,421,095,673.60.

While many may not recall that the US has been without an official debt ceiling for the past three months, or even that it has a debt target ceiling, the bonus period agreed upon in January to let the nation rake up some $400 billion in addition debt in the past few months, officially runs out tomorrow, May 19, when the debt limit will be restored to its previous level plus the debt that was incurred in the interim, which means around $16.735 trillion in total debt as of yesterday, plus the amount incurred today, excluding the debt not subject to the cap which is about $30 billion. And since no grand bargain is forthcoming in a world in which official governance is now almost universally in the hands of the world's central bankers and out of the hands of the theatrical career politicians, it means that the next deadline in the endless US debt ceiling saga will be the day when the extraordinary measures to extend the debt ceiling run out. Such a deadline will likely be hit in just over three months.

Recently in the United States we’ve heard news that the IRS (Internal Revenue Service) is guilty of discriminating against conservative “non-profit” or not-for-profit entities.  Any group with the name “Patriot” or “Tea Party” in their name was immediately held as suspect and the IRS in essence dragged their feet in terms of granting them a non-profit status. 

Yesterday, the rumor turned out to be a joke. Today, there was no rumor, but as we warned four hours ago, it was only a matter of time. Less than four hours later, the time has come, and Jon Hilsenrath's "Fed Maps Exit from Stimulus", conveniently appearing after the close, has just been released.

No news is the best news. Quite a week across every asset class dominated by the last two days as USDJPY broke 100 and seemingly all hell broke loose (apart from in stocks). Spikes in Treasury yields (10Y and 30Y +15bps on the week); a surging USD (+1.3%) driven by major JPY and AUD weakness (-2.75%) and the biggest drop in EUR in 6 weeks; Gold and Silver sold off hard (-3.5%) before bouncing back this afternoon ending -1.5% on the week; crude oil plunged but the Brent Vigilantes were not so easily beaten and ripped back above $96 and higher to close the week. Bond-like stocks (Utes) were hammered as high-beta cyclicals (homebuilders) ripped and while stock indices rolled over a little they remain near highs. It's not all sunshine and ponies though... credit markets drastically underperformed (playing catch down from an exuberant few days but sending a clear message to stocks) and the VIX curve steepened rather significantly around the Labor Day horizon - a date that represents desk chatter for "tapering" and debt ceiling drama to re-appear). S&P futures exhibited a spooky 15-min cycle zig-zag pattern this afternoon - in a totally human way... and average trade size was very low (algos) - right before the late-day ramp.

The reason for yesterday's late day swoon was a humorous tweet, which subsequently became a full-blown serious rumor, that the WSJ's Hilsenrath would leak the first hint that the Fed is contemplating preannouncing the "tapering" of its $85 billion in monthly purchases. Naturally, this did not happen as we explained. And yet, judging by the market's response there is substantial concern that the Fed may do just that. To be sure, it is quite likely that in addition to just rumblings out of economists, which are always wrong and thus ignored, that one of the Fed's unofficial channels may hint at some tightening in the monthly flow (if certainly not halt, and absolutely not unwind). Which makes sense: all previous instances of non-open ended QE took place for up to 6-9 months before the Fed briefly let off the accelerator to see just how big the downward response is. The problem now, however, is that even the tiniest hint that the grossly overvalued "market", which has risen only thanks to multiple expansion for the past year, would lead to a massive overshoot not only to whatever an ex-Fed "fair value" may be, but overshoot wildly as the liquidation programs kick in across a Wall Street that is more liquidity starved today than it has been in a decade. This is precisely what Scotiabank's Guy Hasselman thinks: "Few care about “right-tail” events, but should investors decide to pare risk in reaction to a hint of ‘tapering’, the overshoot to the downside may surprise many. The combination of too many sellers, too few buyers, and dreadful (and declining) liquidity means a down-side overshoot is highly likely."

The main story overnight is without doubt the dramatic plunge in the Yen, which following the breach and trigger of USDJPY 100 stops has been a straight diagonal line to the upper right (or lower for the Yen across all currency crosses) and at last check was approaching 101.50, in turn sending the USD higher in virtually all jurisdictions. However it is not so much the Yen weakness that was surprising - a nation hell bent on doubling its monetary base in two years will do that - but the accelerating response in neighboring countries all of which are seeing Japan as the biggest economic threat suddenly and all are scrambling to respond. Sure enough, midway through the evening session, Sri Lanka cut its reverse repo and repurchase rate to 9% and 7% respectively, promptly followed by Vietnam cutting its own refinancing rate from 8% to 7%, then moving to Thailand where the finance chief Kittiratt called for a rate cut exceeding 25 bps, and more jawboning from South Korea suggesting even more rate cuts from the export-driven country are set to come as it loses trade competitiveness to Japan. Asian financial crisis 2.0 any minute now?

By the end of next week, the Obama administration will no longer be able to borrow money to fund government operations because Congress has only agreed to extend the government's borrowing authority until May 19. While he has smartly expressed his preference that the most liquid bond market in the world "not default,", Speaker Boehner will take to the lectern this morning at 1045ET to discuss the upcoming "debt prioritization" bill.  As Reuters notes, House Republicans are expected to pass the bill today that would require the Obama administration to prioritize government debt payments and retirement benefits if Congress fails to reach a deal to raise the U.S. debt ceiling. The legislation is not expected to go anywhere in the Democratic-controlled Senate and the White House has said it will veto the bill, but what is essentially a tactical maneuver will allow the Republicans, who control the House, to argue they have done their best to avoid a potential U.S. credit default. We are sure the M.A.D. defense card will be played at least once...

Who's the lady in the Pic.?

• UK economy shows 0.3% growth (FT)
• Texas University Fund Sold $375 Million in Gold Bars (BBG)
• Spain Jobless Rate Breaches 27% on Recession Woes (BBG)
• Letta calls for easing of austerity policies (FT)
• Italy Led by Letta Brings Berlusconi Back as Winner (BBG)
• Fed Debate Moves From Tapering to Extending Bond Buying (BBG)
• South Korea wants talks with North on shuttered industrial zone (Reuters)
• Republicans advance bill to prepare for debt ceiling fight (Reuters)
• Republicans claim White House failed to warn on severity of cuts (FT)
• Xi meets former US heavyweights (China Daily)
• Next BoE chief Carney says clear framework key to policy success (Reuters)
• Chinese roll out red carpet for Hollande (FT)

Those who have been following the US debt to GDP ratio now that the US officially does not have a debt ceiling indefinitely, may have had the occasional panic attack seeing how this country's leverage ratio is rapidly approaching that of a Troika case study of a PIIG in complete failure. And at 107% debt/GDP no explanations are necessary. Luckily, the official gatekeepers of America's economic growth (with decimal point precision), the Bureau of Economic Analysis have a plan on how to make the US economy, which is now growing at an abysmal 1.5% annualized pace, or about 5 times slower than US debt growing at 7.5% annually, catch up: magically make up a number out of thin air, and add it to the total. And it literally is out of thin air: according to the FT the addition will constitute of a one-time addition of intangibles, amounting to 3% of total US GDP, or more than the size of Belgium at $500 billion, to the US economy.

The recent plunge in gold prices below $1500 an ounce has suddenly awoken, well, just about everyone.  The "gold bugs" are yelling that it is a conspiracy theory by the Fed while the stock market bulls say it is a sign that the Fed has achieved its goal of creating economic growth.  Unfortunately, both arguments, while great for headlines, are wrong. The real concern for investors should not be the fall of gold - but the overall stock market.  With investors fully allocated to the markets - the lurking correction therein is potentially far more dangerous to portfolios than the current fall in gold simply due to weighting differences. Even with earnings hurdles moved substantially lower in recent weeks it may not be enough to offset the softening global economy. Perhaps, just perhaps, this is what gold, commodities and interest rates are really telling us.

Moments ago the Treasury priced it latest monthly issuance of 10 Year bonds in the form of a $21 billion reopening of one of the Fed's favorite CUSIPs to monetize, the 912828UN8 first auctioned off in February. The auction was hardly stellar, with the yield closing at 1.795%, tailing the When Issued of 1.790% by half a basis point. The Bid to Cover was also rather weak at 2.79, well below March's 3.19, and under the TTM average of 2.96%. Yet for all the complaining by the Dealer community, they ended up taking down 33.6% of the auction, with $40.8 billion in bids tendered, a 17.3% hit rate, and well above the 22.3% take down in March. The direct took down a sizable 29.1%, above the TTM average of 21.6%, leaving 37.3% to the Indirects, precisely as much as they had been allotted in the average auction during the past year. Still, hardly was the auction the disaster that Goldman's downgrade of the 10 Year point on the curve would have made it seem earlier today.

If this chart is in any way indicative of what is truly going on behind the scenes of the US economy, then watch out below...