Goldilocks

ECB will release data on the early LTRO loans repayment tomorrow. The release will help gauge the liquidity needs of the European banking sector. Consensus expectations seem to be around EUR100bn. Recent EURUSD resilience appears based on the market's growing concern that LTRO repayments will be larger than expected (thus reducing the ECB balance sheet / tightening more than expected) and driving up the EUR vs the USD (e.g. ECB vs Fed balance sheet). Critically, as Citi notes, the repayment of LTRO loans will free up collateral in the form of peripheral bonds. This seems to be particularly the case ahead of tomorrow given that Spanish and Italian banks were among the biggest borrowers under LTRO’s first tranche. If these banks opt to benefit from the spectacular rally in BTPs and Bonos and liquidate some of their LTRO collateral (shrinking their balance sheets in the process) this could fuel renewed upside pressure on the peripheral bond yields. This could then dampen any EUR upside post LTRO repayment - and as the main carry-driver for US equity performance, could lead to a risk-off switch quite rapidly. So tomorrow's LTRO repayment needs to be Goldilocks - too little and its clear banks have liquidity problems still; too much and the market's reaction could be notably risk-off.

China’s monthly data dump was the main macro update overnight, which however with ongoing mockery of the Chinese data "goalseeking" and distribution methodologies, most recently by the likes of Goldman, UBS and ANZ, had purely political window dressing purposes for the new Chinese politburo. Sure enough, that all the data came precisely Goldilocks +1 was enough to put a smile on everyone's face. To wit - Q4 GDP growth came in just higher than consensus (+7.9%yoy v +7.8%). On a full year basis the economy grew by 7.8%, also a tad above expectations. Then we got industrial production, also just higher than expected (+10.3% v +10.2%) and retail sales - just higher as well (+15.2% v +15.1%). Much more important than meaningless, jiggered numbers, was the announcement from the PBOC that in light of the entire world going "open-ended" on easing, China - which now can't afford to lower rates for fears of rampant inflation together with importing everyone else's hot money - announced it will start short-term liquidity operations as additional tool for controlling liquidity, engaging in a reverse repo on a daily basis, which will have a maturity of less than 7 days. This way the central bank will be able to reacted almost instantly to any inflationary spikes across the economy, as it too has no choice but to ease although not by the conventional inflation targeting methods now used by everyone else.

In the spirit of the holidays and hope for a more prosperous 2013, we thought readers might appreciate a little humor to partially offset the relentless 'cliff' doom and gloom. So please, don’t take this too seriously. But if you happen to stumble across a ‘paperbug’ or two over the holidays, perhaps you could share some of the points made here. Humor sometimes helps people realize just how hopelessly misguided they are... Quantitative easing changes nothing. Remember, the PhDs are in charge of our economies and they know exactly how much our money should be worth. Those of us concerned that our money might lose purchasing power are just being paranoid. Choice is dangerous. Think Adam and Eve and you’ll get my point. Those arguing in favour of monetary freedom, of choice in money, of repealing legal tender laws, they’re just like that nasty snake Lillith in the Garden of Eden, the source of all trouble I tell you. ‘Tis the season to borrow and spend folks, as indeed it has been since 1971.

Warren Buffett’s General Re-New England Asset Management has warned that until central bank monetary policies around the world change “there will be a tendency to higher gold prices.”  General Re-New England Asset Management, a unit of Warren Buffett’s Berkshire Hathaway Inc., said gold may advance as businesses temper spending and central- bank stimulus measures fall short. Gold’s climb last year to more than $1,900 an ounce was fuelled by the expectation that government spending cuts in Europe would reduce demand for goods and services, GR-NEAM Chief Investment Officer John Gilbert wrote in a newsletter posted on the unit’s website today, as reported by Bloomberg. “There is growing evidence that the rising price of gold is a statement about the discouraging prospects for returns on productive investments,” Gilbert said.  “We hope that this analysis is wrong. We fear that it is not.”

Today's "trading", in a repeat of what has become a daily routine, can be summarized as follows: flashing red headline about Fiscal Cliff hope/optimism/constructiveness out of a member of Congress who bought SPY calls in advance of statement: market soars; flashing red headlines about the inverse of Fiscal Cliff hope/optimism/constructiveness out a member of Congress who bought SPY puts in advance of statement: market plunges. Everything else is noise, as is said hope/expectations/constructiveness too since it is increasingly likely nothing will happen until the debt ceiling hike deadline in March, but stop hunts must take place in a market which nobody even pretends is driven by fundamental newsflow. Such as the bevy of PMIs released last night, the key of which was the China HSBC PMI as reported previously, which beat expectations by the smallest of possible increments, at 50.5, but rising to expansion territory and the highest in 13 months, which sent the EURUSD spiking and has kept it in the 1.3030 range for the duration of the overnight session. Sadly, those on the ground in China hardly felt the number was a bullish as EURUSD trading algos around the world, sending the Shanghai Composite to a fresh post-2008 low, closing down over 1% at 1,960. But let's just ignore this inconvenient datapoint shall we?

Markets initially sold off on Tuesday as Bernanke's speech gave no mention of further easing programs; but rebounded on his closing remarks, which the media latched on to, regarding optimism about economic growth in 2013. This was welcome news - as long as you don't think about it too much. With debt levels continuing to spiral higher, which acts as a governor on economic growth due to the debt service requirement, the question of a return of economic growth becomes much more cloudy. The problem for Bernanke comes down to his inability to provide realistic economic forecasts as the Federal Reserve faces a severe 'communications' challenge, which is the creation of a self-fulfilling prophecy. Imagine that following an FOMC meeting Bernanke stated:

"The policies and actions that we have implemented to date have done little to curb economic weakness. The economy is in much worse shape that we have previously communicated as the transmission system of Fed policy through the economy, and the financial markets, is obviously broken."

The immediate reaction to such a statement would be a complete meltdown of the financial markets.

How's this for a Harry Potter-like Incantation? Margin up magic, go short math! Believe Germany will escape unscathed, prepare to take a bath!

It was shaping up like the perfect overnight ramp following yesterday's Goldilocks election result... and then Mario Draghi opened his mouth.

• DRAGHI SAYS DEBT CRISIS STARTING TO HURT GERMAN ECONOMY
• DRAGHI SAYS GERMAN RATES LOWER THAN THEY WOULD BE OTHERWISE

And so finally, after months and months of explaining the fundamental dichotomy in Europe (see here), it is finally becoming transparent. And it is as follow: Germany, which is the economic dynamo of Europe, needs a weaker EURUSD to keep its export economy running. Period, end of Story. The problem is that the lower the EURUSD, the greater the implied and perceived EUR redenomination risk, which in turns send the periphery reeling, and will force first Spain, and then everyone else to eventually demand (not request) a bailout.

While some believe tonight is critical to the future of our nation - and well could be - we believe some will need placating as the results roll across the bottom of their screens and are manipulated in an ever-increasing multitude of 10-dimensional holographic charts that we fully expect to work incorrectly at some point. To fulfil that 'need for numbing', we have found three drinking games of varying suspected quantity that we hope will prove useful. From simple and stand-alone, to team-based and punish-your-friends focused, we believe there is a fair-and-balanced approach here for everyone.

What is really causing the economic malaise that the U.S. faces today?  Most economists believe that it is the lack of aggregate demand that is causing the problem which can be rectified by continued deficit spending.  The current Administration believes that it is simply the lack of the "rich"  not paying their "fair share" and that a redistribution of wealth will solve the issue.  Romney believes that his 5-point plan will create 12 million jobs in the near future.  All are wrong.  

Those holding their breath that the PBOC will finally relent and join its "developed world" central planning colleagues in easing - something the tech companies of the world, not to mention everyone else, desperately needs - will have to do so for quite a bit longer (and today's earlier latest reverse repo was merely confirmation of this). The reason is that the just released HSBC Flash PMI for October, the first preliminary snapshot of Chinese data, posted a material rise from 47.9 to 49.1. Yes, this was the 12th consecutive print in sub-50 contraction territory in a row, but the direction is one which may give the economy and the people hope that things are getting better. They most certainly are not, but remember: in China every data point is massaged, manipulated, and then massaged some more before it is finally telegraphed to represent only what the Politburo wants it to say. And as a reminder, China, like the US, has elections (in quotes of course) in two weeks. As such neither the economy will tip the boat, nor the PBOC will drive more inflation at a time when everyone else is already easing. In other words: goldilocks goalseeked data... which for the monetarists was the worst possible outcome, as it means no new and free money.

Chinese economic data has in general been surprising to the downside in recent weeks - in opposition to the positive (seasonally adjusted awesomeness) of US data. However, for tonight's entertainment we have GDP at 7.4% YoY - perfectly in line with expectations (but the 7th consecutive quarter of slowing growth), Industrial Production beat modestly, Retail Sales beat handsomely (biggest beat in 18 months), and FAI beat...

• *CHINA 3Q GDP RISES 7.4% VS ECONOMISTS' EST. 7.4%       :NBSZ CH
• *CHINA SEPT. INDUSTRIAL OUTPUT RISES 9.2% VS 9% ECONOMISTS' EST.
• *CHINA JAN.-SEPT. FIXED-ASSET INVESTMENT UP 20.5% VS EST. 20.2%
• *CHINA SEPT. RETAIL SALES RISE 14.2% FROM YEAR EARLIER

So, no new stimulus coming anytime soon - leaving Bernanke and Draghi all alone (and the latter is stuck waiting for Rajoy to say 'Si'). AUD lurched violently up and down; US equity futures are unmoved; and Treasury yields rose perhaps 1bps.

The fact-digging continues, this time out out of Goldman, which has some less than stellar words about what the superficial consensus says was a strong number. Then again, Goldman's agenda is pure goldilocks: an economy that is not too strong and just right for another $2 trillion of QEternity at a minimum. Remember: if jobs were to really surge someone might ask Bernanke if when he will stop his $85 billion/month flow program aka QE3.

Ray Dalio recently described the characteristics of a “beautiful deleveraging” in which equal doses of austerity, write-downs, and inflation gradually lighten the load of impaired debt. Two things can turn beautiful inflation into ugly inflation: Wages don’t inflate along with prices and the currency depreciates as money is printed excessively. This might not matter for a nation that is a net exporter of goods and services.  But for nations that import essentials such as oil and grain, this is a catastrophe, as wages are flat while the cost of imported energy and food skyrocket.  Households have less money to spend, and servicing debt becomes increasingly burdensome. Welcome to the United States of Ugly Inflation.  Real household income (i.e., adjusted for official inflation) has declined 8% since 2007; the cost of oil, medical care and higher education has climbed; and government revenues have stagnated even as demand for government services has increased. As a result, the entire beautiful deleveraging scenario is at risk.

Is bad, good still? Did Draghi's omnipotence obfuscate Bernanke's banality? Goldman's Jan Hatzius provides some color on what to expect for tomorrow's employment report. Forecasting a Goldilocks 'middling' print around 125k and flat 8.3% unemployment rate, he reminds us that this report is a very important one from both a monetary policy and political perspective. An upside surprise would raise more doubts about the Fed's determination to ease aggressively at next week's meeting and would strengthen President Obama's hand in the run-up to the November 6 election, and the converse is also true.