New Normal

While JPMorgan's arrogance and complete ignorance (intentional or not) of both risk limits and regulatory expectations is now grossly obvious, the fact remains that a lie is a lie and given the following, how can anyone ever trust anything that anyone from this 'fortress-like' balance sheet ever says again? To wit, again and again and again, the public and the regulators were told this was a long-term 'hedge' for a bank that is a natural net 'lender' and therefore exposed to deterioration in credit markets over the long-term. However, as JPMorgan's own data and words show, the SCP 'hedge' in fact lost money in all spread-widening scenarios - exactly when it should be making money to cover 'offsetting' losses in the bank's lending book. In fact, it appears, that this was simply another low 'risk-weighted' way to get around regulatory capital rules and be 'long' the market - in the first three months of 2012, the CIO tripled the size of the SCP book, taking it from $51 billion to $157 billion, in a buying spree that was not motivated by decision-making on a “very long-term basis.”

A few weeks ago we pointed out something curious: despite the so-called massive "slack" in the US economy - the traditional alibi used by Bernanke & Co. to justify ongoing endless QE, labor productivity has slumped while labor costs have soared at the fastest pace in 11 months. This is a result that is directly at odds with the assertion that the structural unemployment for the US is still at 5%, and indicates that the New Normal baseline jobless rate is more likely well above, perhaps in the mid to higher 7% range (which also means that the Fed will never voluntarily end QE as the unemployment will not drop to 6.5%, and as for inflation, well, there's BLS' Arima-X-12 goalseeker for that). While the immediate implication of this is that central planning has merely broken yet one more law, that of Okun which maps productivity to GDP, a topic we have covered in the past, there is another aspect to what lies in the future, which is the topic of Albert Edwards' letter today. In it, he observes as we do, the rising labor costs, and the inherent inflationary pressures these bring, yet his thesis is that any inflation will be short-lived, and that unlike the mainstream which is advocating for a rotation out of bonds (apparently falling on deaf ears as inflows into bond funds are once more far greater than those into equities), he is suggesting to stay invested in bonds.

Italy has its own set of problems with huge debt loads, soaring unemployment, and a growing social revolt against the new normal austerity status quo but there is one issue that is not discussed much in the mainstream media that is as critical. Italy has the second fastest aging population in the world (and highest in Europe). Japan is the worst/fastest based on Bloomberg Brief rankings - driven by factors such as the speed of aging in one generation, concentration of seniors, the pipeline of elderly, and the number of seniors not participating in the labor force. As Niraj Shah notes, nine European nations make the world Top 10. Doesn't exactly bode well for Europe's future as dependency ratios are set to soar but it appears, sadly, that Italy is closer to Japan's dismal quagmire than Spain's based on demographics.

U.S. equity markets rallied once again after opening weaker Monday repeating previous performances. There wasn’t much news domestically. The Fed continued modest POMO actions which will grow in scope throughout the week. Stocks were quiet most of the day but got a lift on rumors that Apple (AAPL) will declare a dividend of some kind. If they do this, then the SEC should be monitoring who and what groups were front-running this piece of news.

Because having legal authority to buy corporate bonds, ETFs and REITs, in addition to everything else the Fed now buys, is apparently not enough to crush, mangle and suicide its currency, the BOJ is now considering adding yet another "asset" to its cocktail of eligible securities for purchase: those which Buffett once declared weapons of mass financial destruction - derivatives.

When we summarized the overnight session just before 7 am, we titled it appropriately enough, "No Melt Up (Yet) In Boring Overnight Trading." Little did we know, actually scratch that - we knew full well that moments later the ramp would make its now daily reappearance. Because if it weren't for the 7th straight day of no volume, no news levitation, someone, somewhere may have gotten the impression that the market is desperately manipulated and artificial, and that if it weren't for a constant ramp higher, confidence in authoritarian "markets" may disappear, and the retail investor may pull even more than was pulled last week, following a brief inflow in the market in early 2013.

Minutes ago the January Consumer Credit report was released. It was expected to post an increase of $14.7 billion. Instead it rose by $16.2 billion. On the surface this would be great: consumers are spending more, levering up confident in the future, etc, etc. Alas, as always in the New Normal, the story was below the surface. Specifically, of the $16.2 billion rise, a tiny $106 million was due to revolving, or discretionary spending credit card, debt. The balance, or 99% of the total, was non-revolving debt, best known as student loans, and less known as GM NINJA car loans. And here is the scary math: in the past 12 months, of the $153 billion in total consumer credit increase, just $6.4 billion was in revolving credit. The balance: student and car loans.

Another day, another highest ever close for the Dow. However, away from the silliness of that index, the S&P scraped a small gain and the Nasdaq a small loss as volume and the day's range was its lowest in two weeks. Treasuries were weak, adding around 3-4bps on the day (10Y 1.94%), now up 10bps on the week - catching up to equities. The S&P was unable to get away from its VWAP today and churned as HYG (high-yield credit) closed red and VXX (vol) closed green in the face of equity's positive drift. Silver jumped 1.25% on the day (and Gold about half that) back over $29 in the face of USD strength (driven mostly by JPY weakness). It seemed today was a catch-up day for the rest of risk-assets as arbs dragged bonds and FX carry markets up towards equities. Spot VIX hardly moved from its 13.5% opening as it is quite clear protection of gains as opposed to adding is the name of the game here for now.

With the heavy central-planning boot of repression on the neck of any and all realized risky asset volatility, it is perhaps no surprise that investors, professional and amateur alike, have been dragged into the latest yield-enhancing 'scheme' of being short front-month vol and earning the premium. Bernanke has created a world of insurance providers - who are fundamentally under-capitalized when the big one hits - as record high levels of net short positions, record volumes, and extreme beta to stocks leave the bevy of option premium sellers still consistently picking up nickels in front of that steam-roller. Of course, as Taleb reminds, suppressing volatility actually makes the world a less predictable and more dangerous place - though for now, it seems, everyone and their eTrade baby is willing to follow Kevin Henry down the vol-premium selling route until of course that steam-roller tears more than just an arm off (given the massive and levered exposure to this market now). Instead of equity 'Buy-and-Hold'; the new normal is 'Sell Vol-and-Roll.

Doubleline's Jeff Gundlach must not be a GETCO algo because unlike the algorithmic programs who are all that's left of traders in this policy farce of a manipulated market and who are programmed to BTFD especially when there is a massive stop hunt program about to be unleashed on 10-20 ES contracts, he is not buying stocks. Instead the bond manager has closed his July 2012 call when he called the top in Treasurys, and told Reuters that he has bought "more long-term Treasuries in the last month" than in the last four years." And this coming form the so-called new "bond king." Gundlach said he started buying benchmark 10-year U.S. Treasury notes in the last month after yields popped above 2 percent, because he sees value there relative to other asset classes, including stocks, which he said are "overbought."

There has been much discussion by the mainstream media of the rise in gas prices since we initially showed the equity market's dependence (or transitory correlation if you are a Keynesian) on this consumer-crushing unintended consequence of the new normal liquification of our economy. However, while most have focused on the absolute levels (as we noted the $3.75-80 Regular appears to be a limiter in recent years), over time this has not been the case. The stagnation of average hourly earnings combined with the price of gas shows why the last two years have not had the consumer-driven surge of the initial 2009 lurch (or the pre-crisis economy). We are trapped in an era when the average hourly wage buys a de minimus amount of energy and just as we saw heading into 2008, this relative price surge is occurring just as the macro-economic data itself is rolling over. This time it's the same - a double-dip in macro surprises driven by relative gas prices.

Even as the gargantuan $1+ trillion student debt load has been the bubbly elephant in the room that few are still willing to talk about, there have been until now zero opportunities for a the proverbial highly convex "ABX" short in the student debt space. This of course is the trade that was put on by those who sensed the subprime bubble is about to pop in early/mid 2007 and made billions as the yield chasers were summarily punished one by one as first New Century blew up, and then everyone else. Yet while one was able to buy synthetic "hedge" exposure with limited downside and unlimited upside (by shorting synthetic index spreads) in subprime, so far the only way to be bearish on student debt has been to short the equity of various private sector lenders - a trade with very limited upside and unlimited downside, and which in the current idiotic New Normal is more likely to leave one insolvent and crushed in a smoldering heap of margin calls following yet another epic short squeeze as GETCO's stop hunting algo run amok. This may be about to change. As WSJ reports, SecondMarket Holdings, the private-market securities trading firm best known for allowing numerous overzealous fans to buy FaceBook at moronic valuations, on Monday "will roll out a platform allowing lenders to issue securities backed by student loans directly to investors." 

While last night's earnings (and conference call) were anything but promising, credit markets appear to have grown even more concerned about JCP's future than the equity market. As Barclays notes that JCP will "likely need bridge liquidity", CDS on JCP has surged 90bps crossing the worrying 1000bps level (+1.5pts to 15pts upfront), implying fears of insolvency growing very fast. With Groupon having lost a quarter of its market-cap this morning, it appears JCP is not be outdone as it stock (and Ackman's dreams) cross the down 20% mark. The question is - will Icahn provide the DIP financing? Finally: why, oh why, can't JCP just expand its multiple a few turns: works for the S&P every day, and after all it's not like cash flow, or rather lack thereof, matters in the New Normal.

When the soon to be ex-Pope carts in the U-Haul for the final trip out, in the off chance he decides to raid the Vatican of all Renaissance masterpieces, elsewhere known as IOR collateral, here is one possible New Normal replacement.

For the third time since the crisis of confidence in the world's economic and financial markets really shifted from the 'old normal' to a supposed 'new normal' of credit-bloated slow growth and deleveraging, risk markets in general have fallen back to a belief that systemic risk is off the table. Not just European tail-risk. As Bloomberg notes, across six major assets classes, cross-asset-class correlation has fallen to levels associated with pre-crisis risk. Simply put, the systemic 'tail-risk' driver of our markets has been priced out, leaving just idiosyncratic risk (for now). What is often misunderstood, however, is this drastic reduction in correlation also means the market believes that the systemic 'flow' of central bank liquidity is also less important as investors become more confident that some fundamental hope belies the performance. As we have seen a few times post-crisis, since the impossible was proved very possible, risk-flares can happen when one least expects them, and with market perceptions of that possibility now so low, the impact could be considerably more exaggerated.