Greece

Now that the Greek bailout is topic front and center for the second year
in a row, it means that it is time for the mainstream media to once
again prove to the world that in the past year it has learned precisely didley squat about
how the more complicated securities used in capital markets operate.
Such as CDS. Just like in May 2010, the prevalent trope among the clickbaiters
is that CDS written against Greece will destroy the world, in
superficial attempts to bring about panic induced by the faulty
conventional wisdom that CDS was the cause for the implosion of AIG.
Well, wrong.

Another revolution in China is impossible, you say? Please step this way into the time machine and return to 1979. The year is usually remembered for the Iranian Revolution, and many commentators are comparing the current "Arab Spring" revolts to the systemic changes unleashed in 1979. More interesting is the case of the Soviet Union in 1979, which appeared to all eyes as a permanent, stable political entity. The U.S.S.R. invaded Afghanistan on December 24, 1979, but that only seems noteworthy looking back from the present. At the time, there was still concern in the West that the U.S.S.R. would launch a blitzkrieg attack to conquer Western Europe. One-party systems lack the mechanisms for adaptation, and thus they are exquisitely ripe for revolution and implosion. Democracies and republics tend to have periods of low-amplitude instability (witness Greece right now) that enable the system to adapt and experiment ("fail fast, fail small" being the preferred process of adaptation). One-party systems, from the Liberal Democratic Party in Japan to the Communist Party in the U.S.S.R. and China, suppress the information and processes intrinsic to dissent, and thus build up intrinsically unstable systems...Both China and the U.S. may be quite different countries by 2021. It's worth recalling that nobody saw the 1989 implosion of the Soviet Union a mere ten years before in 1979, so it is not surprising no one sees the implosion of the Status Quo in China and the U.S. ten years hence.

Below we present some additional analysis on the implementation of Dodd-Frank's precious metal and FX OTC spot trading prohibition from law firm Morgan Lewis, as well as another potentially far more disturbing implication for non-US Hedge Funds which trade FX (and since virtually all hedge funds are located offshore due to tax implications, and since most hedge funds have now shifted to FX trading in an attempt to pursue volatility, we imagine this means absolutely everyone in the space). Basically it appears that hedge funds that have "one single US investor [who] has less than $10 million in investable assets, that fund will be classified as a retail FX fund. If an FX fund has investors that fail to meet the $10 million threshold,
that fund would therefore not be considered an eligible contract
participant. Gary Alan DeWaal, senior managing director and group general counsel at prime brokerage firm Newedge, said most non-US FX hedge funds seemed unaware of these obscure, burdensome requirements. “Most hedge funds would not think that they are retail funds. However, all it takes is one US client, who fits into this bracket to make them a retail FX fund. I think a lot of hedge funds could be forced to either throw out these clients from their funds or change their counterparties,” added DeWaal." Forget the liquidity freeze courtesy of Greece. Our own congressional and senatorial idiots are about to do it on their own without any country having to go into default.

Yesterday when we observed the conventional wisdom explanation that the CBOE equity put/call ratio is the highest it has been since January 2009 and hence the market must have bottomed, we naturally took the opposite stance, warning that any comparison to past events is necessarily apples to oranges, since the "last time we checked back in January 2009 Greece and Europe were not
about to go Chapter 11, nor was a $900 billion asset purchasing program
about to end." Well, we are not the only ones to ridicule yet another attempt by the media to sucker in the retail investor, who however following the biggest domestic mutual fund equity outflow since August is long gone. UBS' Andy Lees does a far more convincing job, and adds that "the skew to the downside is not reflective of
people being long puts but rather reflects the inability of funds to
carry any significant downside business risk. Putting these two bits of
information/ supposition together, clients are effectively running a
binary position where they can take the downside risk to a certain point
and then must get out no matter what which potentially means a gap down
or accelerated fall in the market, which would coincide with what the
charts are saying sub 1200. With the buyer of last resort, the Fed, no
longer there, the fall could become very nasty very quickly."   

Last Friday, the CBOE Equity Put/Call Ratio reached the highest level in the past two and a half years, higher not only than May 2010 when the market plunged on the first Greek bankruptcy, but higher than March 2009 when the S&P hit 666, and lower only than the second week of January 2009. Additionally, while this one off event may be discounted, the 10 Day Moving Average, as shown on the chart below, has now lifted to levels not seen since February 2009. A quite note by Stone McCarthy captures the conventional wisdom on the topic: "Where a 1-day rise in this indicator alerts us to investors temporarily seeking protection against a market decline, an extreme high by the 10-day smoothing line reveals a more comprehensive sentiment buildup that typically proves to be a more reliable contrary indication of a meaningful bottom being NEAR." Perhaps. However, never in the past has the Put/Call ratio been at such levels even despite the multi-trillion backstop of central banks, and worse still, just two weeks in advance of when the Fed will end its daily stimulus program. The is a saying that being contrarian in the face of conventional wisdom is the only sure way to make money. The problem with that saying is that conventional wisdom is quite often actually correct. Furthermore, last time we checked back in January 2009 Greece and Europe were not about to go Chapter 11, nor was a $900 billion asset purchasing program about to end...

About the only thing that the doom and gloom crowd, the politicians, and the media all agree on is that credit derivatives are evil, unnecessary, ‘financial weapons of mass destruction’. With the European Sovereign Debt crisis escalating, the CDS market has once again become a topic of conversation. Many of the issues related to CDS that are discussed are old, misleading, or plain wrong. Here is my attempt to address some of the issues that come up most whenever CDS is mentioned: Credit Events; Exposures; Counterparty Risk, and Transparency. These are topics that need to be understood in order for investors to make informed decisions. I am not here to defend CDS as a product, but to try and shed light on the subject so that people don’t react to inaccuracies that cause them to make decisions based on incorrect information. Since so many journalists still feel that the investing public needs to see the boilerplate language ‘when yields go up, bonds prices, which move in the opposite direction, go up’ this may be an uphill struggle. But here is my attempt.

Spokes, meet stick. According to Reuters, Greece will seek approval from euro zone finance ministers on Sunday to agree to some changes in a mid-term austerity plan that parliament is expected to pass, the country's new finance minister said on Friday. And so the scramble for concessions begins. First Greece will demand a scrapping of all retirement age hike requirements, then public sector cuts, then everything else in the mid-term plan, until the second bailout is effectively without conditions. And now that Merkel has effectively thrown in the towel to her, and the CDU's, political reign by agreeing with the ECB's and France's demands, a move which will be brutalized by Der Spiegel in T minus 5 minutes, the fact that Europe blinked to Greece's bluff, just may mean that every demand out of Greece will be met. Or not. If the Troica tells Greece to go to hell, this could be the end of the bailout package.

It has not been Jim Caron's decade. The Morgan Stanley rates strategist, riding on the coattails of the always wrong Morgan Stanley economics team led by David Greenlaw, has been wrong in his annual rates call year after year after year. Which is unfortunate because while unable to see the forest for the trees, Caron does have a better grasp of rates than most other Wall Street penguins. That said, just like everyone else in the status quo, Caron has just come out with another short duration call (i.e. sell bonds), probably the 6th time in a row he has done that in the past 3 years. Perhaps 7th time will be the charm. Amusingly, Caron, terrified to be seen in the same camp as Bill Gross who is short bonds on fears that there will be nobody available to step in an buy the 80% of gross issuance that has been monetized by the Fed to date, make this very loud caveat on his short bond call: "To be sure, our shift toward short from neutral duration has nothing to do with the end of QE2 and related concerns that there will be a lack of demand to buy US Treasuries once the Fed stops buying them. As we have stated many times in the past, the outlook for the economy will be the main driver of yields, not the end of QE2." No, instead Caron believes that the sell off in bonds will be due to the same bullish economic growth call that he has been predicting over... and over... and over... and over... etc. More interesting is how he suggests the trade is implemented: in MS' view the best way to be bearish on rates is with a DV01 neutral 7s-10s flattener: "we continue to recommend being short 5s on the 2s5s10s fly. In line with the butterfly, and in order to express a more robust short duration position, we recommend a curve flattener on the UST 7s10s curve: · Sell $133.7mm OTR 7y Notes; · Buy $100mm OTR 10y Notes." Perhaps those who want to be short bonds, but for the right reason, that predicted by Zero Hedge and then Bill Gross, this may be one of the better ways to put the trade on.

This stuff is funny. Especially when google translated...

Here is a simple summary of the Greek bailout math explained with just 2 numbers. First, the country has to do the impossible. As Citi's Jurgen Michels summarizes: "Once the whole new cabinet is announced, parliamentary discussions ahead of the vote of confidence will probably  start on Sunday, with the vote actually taking place next week on Tuesday evening. Even if the new government manages to pass the vote of confidence, it will still have to submit to Parliament the new austerity package for approval, probably sometime later next week or the week thereafter. This will be key for the smooth disbursement of the next tranche of EU/IMF loans, of €12bn." In other words, the Greek government has to pass 2 near-Sysiphean tasks before it can even hope to sniff the IMF's €12 billion in rescue funding. That's number 1. Number 2 comes from the chart below, which shows the debt and interest payments through August. This number is €18.2 billion. This number does not include the billions in deficit spending that will also have to be funded somehow over and above debt paydown. Ergo, the math for a viable Greece is as follows: €12BN > €18.2BN  + X. Simply said, unless somehow Greece discovers how to tax its citizens and actually record net revenue in July, the best the ECB can hope for before it has to mark its tens of billions in Greek bonds to about 45 cents on the dollar, is one month. So will someone please explain to us why again the EUR is up today? Actually the only possible reason is that Europe is now pricing in the fact that China will be the de facto owner of at least 2 European countries by this time next year, however not in an Asset Purchase Transaction but Stock, whereby China also acquires the liabilities. Which in turn may explain why Russia's just announced minutes ago that China may turn into "zone of risk" for the global economy.

It is rare to find a market where the technical evidence is so compelling for a strong rally yet the fundamental basis for such a rally so lacking. Exactly where do Bulls think the growth and rising profits are going to come from? The answer for the past few years has been massive Federal Reserve/Federal intervention and stimulus, and a weakening U.S. dollar that boosted overseas profits via the legerdemaine of currency devaluation. But three years of these policies have accomplished nothing but load the taxpayer with staggering amounts of debt: none of the causes of the 2008 implosion have been fixed or even addressed. As Armstrong notes, the massive interventions did not shorten the crisis, they have prolonged it. This reality has filtered down to the political swamp, and now the politicos are hesitant to bet their own futures on additional trillions in stimulus and quantitative easing. For the first time in memory, the Federal Reserve is on the defensive. Simply put, its policies have failed to accomplish anything except prop up a rotten, insolvent banking sector that needs to be declared bankrupt and swept into the dustbin of history.

• And the truth keeps coming out: Evacuation urged for radioactive hot spots in Japan beyond 20km zone (Japan Times)
• Germany's Merkel: Europe and Euro Tightly Bound Together (WSJ)
• Hardline IMF forced Germany to guarantee Greek bailout (Guardian)
• Hunt for ‘Holy Grail’ Hunt Pits ECB Against Naked Banks (Bloomberg)
• Default by Greece ‘Almost Certain’: Greenspan (Bloomberg)
• SEC could file Civil Fraud charges against some Raters (Reuters)
• Merkel’s Greek Bondholder Gambit Tested as Sarkozy Visits Berlin (Bloomberg)
• Biggest banks face capital clampdown (FT)
• Too Big to Fail Ends With Wave of a Magic Wand (Bloomberg)
• Biden Talks Aimed at $4 Trillion in Cuts Over 10 Years (WSJ)
• California's Brown vetoes fellow Democrats' budget (Reuters)
• U.S. Confidence Out of Sync With Stock Gains (Bloomberg)

• Market talk that a new Greek aid package could be worth as much as EUR 150bln against a previous estimate of EUR 120bln
• German Chancellor Merkel and French President Sarkozy demonstrated a united front in their approach to tackle the Greek problem
• German chancellor Merkel said she wants involvement of private creditors on a voluntary basis, and wants to work with the ECB on investors’ role in Greece
• French President Sarkozy said that we have found an agreement on the private sector involvement on Greece, in line with the Vienna initiative

The country which has so far been doubling down on its losses in European bond exposure, much to the amusement of cynical onlookers, has finally disclosed that Europe is the locus of Chinese vital self interests, and that should Europe go down, one very major domino would be the implosion of China itself. Per Reuters: "China's "vital" interests are at stake if Europe cannot resolve its debt crisis, the Chinese Foreign Ministry said on Friday as it voiced concern about the economic problems of its biggest trading partner. At a media briefing ahead of Chinese Premier Wen Jiabao's visit to Europe next week, Vice Foreign Minister Fu Ying made plain that China had tried to help Europe overcome its troubles by buying more European debt and encouraging bilateral trade..."Whether the European economy can recover and whether some European economies can overcome their hardships and escape crisis, is vitally important for us," Fu said. "China has consistently been quite concerned with the state of the European economy," she said." And just like every time before when China has tripled and quadrupled, and now quintupled, on Greek, Portuguese and other debt, so this time will be no different as merely loading up an insolvent entity with even more leverage does nothing but shorten the half life of each additional "bailout." When Greece blows up, forget the other European countries: keep a close eye on China.

In a completely irrelevant move, which will do nothing to help the government pass the much hated mid-term fiscal plan, or diffuse the social anger, this morning as expected George Papandreou picked outgoing Defence Minister Evangelos Venizelos as new finance minister, jettisoning George Papaconstantinou, architect of a belt-tightening programme that has stoked violent unrest and a revolt in his Socialist Party. Reuters correctly observes that the move seemed likely to buy time for the embattled prime minister but did little to dilute scepticism that Greece would be able to implement a new round of deeply painful reforms... Papaconstantinou becomes environment minister in
the reshuffle.The new cabinet is expected to be sworn in later on Friday
and a confidence vote is due by Tuesday night. Rather than giving new
impetus to the reforms, analysts said, the reshuffle was aimed primarily
at quelling dissent in the Socialist Party by moving the unpopular
Papaconstantinou and appointing the prime minister's main party rival
Venizelos." All this means is that instead of Sunday being the critical decision day when the vote of no confidence will be held, it will now be Tuesday, as Europe is now struggling to exist day to day, and push back the inevitable by 24 hours one day at a time. "The move failed to impress markets and the cost of
insuring Greek debt against default hit a fresh record above 2,000
basis points on Friday."