Quantitative Easing

Hands up anyone who is surprised that the Bank of England has added another £50 billion to the quantitative easing pot? The same hands will also believe that the Greeks have agreed terms for the next bail out tranche with the Troika (the European Union, the IMF and the European Central Bank). This ongoing epic odyssey of the voyage to nowhere has grabbed the headlines, but the BoE’s quiet announcement is equally significant to us Brits. Central banks never utter the words quantitative easing, so the Bank calls it an addition to its “asset purchase programme”, which was only hiked to £275 billion back in October. The accompanying rhetoric states that inflation is on the way back down and may fall below their target of 2%, mainly as a result of the VAT increase last January falling out of the equation and lower energy prices, (despite Brent crude being over 10% higher Y-o-Y in sterling terms..); a convenient excuse perhaps.

We have discussed forecasts for the second (and certainly not last ) February 29 3 Year LTRO in the past, with expectations for its size ranging from €1 trillion all the way up to a mindboggling €10 trillion. Today, Goldman has conducted a poll focusing on investors and banks, to gauge the sentiment for what has over the past 2 months been taken as the latest Deus Ex, which is really nothing than yet another bout of quantitative easing, only one in which the central bank pretend to be sterilizing 3 year loans by accepting any and virtually all collateral that banks can scrape off the bottom of their balance sheets (as a reminder, back in the financial crisis, Zero Hedge discovered that the Fed was accepting stocks of bankrupt companies as collateral - certainly the ECB is doing the same now). And once the banks get the cash instead of lending it out, or using it for carry trades, they simply use it to plug equity undercapitalization due to massive asset shortfalls on their balance sheets which are mark-to-unicorn^TM, yet which generate zero cash flow, even as banks have to pay out cash on their liabilities. In essence, the banks convert worthless crap into perfectly normal cash with the ECB as an intermediary: and that is all the LTRO is. Luckily, as we pointed out, even the idiot market is starting to grasp the circular scam nature of this arrangement, and the fact that it is nothing short of Discount Window usage, and because of that, the stigma associated with being seen as needing this last ditch liquidity injection is starting to grind on the banks. It is only a matter of time before hedge funds create portfolios in which they go long banks which openly refuse to use LTRO cash, and short all the other ones (read every single Italian and Spanish bank out there, and most French ones too) because at the end of the day one can only fool insolvency for so long. But once again we are getting ahead of the market by about 3-6 weeks. In the meantime, and looking forward to the next LTRO, whose cash will be used exclusively to build up "firewalls" ahead of the Greek default, here is what Goldman's clients expect to happen...

The problem with printing money and promising to do so for years ahead of time is that the negative consequences of inflation only happen after a delay. As a result, it's difficult to know if a policy has gone too far until years down the road at times. Unfortunately, if confidence in the dollar is lost, the consequences cannot be easily reversed. One problem for the Fed itself is that it holds long-term securities that will lose value if rates rise. The federal government faces an even more serious problem when interest rates rise, as higher rates on its debt mean greater interest payments to service. Due to this federal-government debt burden, the Fed has an incentive to keep rates low, even if the long-term result is higher inflation. However, for now the Fed's statement suggests it sees inflation as "subdued," so it's putting those concerns aside for now.

Mind versus technicals. 

Since 2008 and the bursting of the great credit bubble, central banks have been printing money hand over fist in a desperate attempt to generate the inflation they feel is necessary to drag the world out of a perceived deflationary spiral. The chart (left) shows the growth in ‘assets’ of G-3 Central Banks over the last 17 months alone, during which time, they have increased by 32%. To date, the level of the various benchmark CPI indicators would suggest there have been no deleterious effects, but just because the results aren’t showing up where those in charge of measuring them are LOOKING, doesn’t  mean they aren’t showing up at all. Look at food prices across Asia. Look at housing prices in Hong Kong. Look at fuel prices in Nigeria. Look at heating costs in the UK. Look at gold.

According to the Bank of International Settlements, as of June 2011 total over-the-counter derivatives contracts have an outstanding notional value of 707.57 trillion dollars, ( 32.4 trillion dollars in CDS’s alone). Where does this kind of money come from, and what does it refer to? We don’t really know, because over-the-counter derivatives are not transparent or regulated. With regulated economic markets, when an underlying real asset is impaired (i.e. the company in question is bankrupt, the mortgage has defaulted, etc.), market value is assessed, default insurance is paid up to replacement or full value, bond holders and stock holders make claims on remaining value and the account is closed. There is no need for bailouts because order and proportion of compensation has been established and everything is attached to the value of the underlying asset. When the unreal, counterfeit economy intrudes, you now have a situation where a person can put in an unregulated, but recognized, claim to be paid a thousand times over in case of impairment. Say market participants have negotiated for a bankrupt company a 70% payback for bondholders and (36% payback for insurance claims), and I come with not one but rather 1,000 CDS claims demanding to be paid for each CDS.

While sounding just a tad preachy in his February newsletter, Bill Gross' latest summary piece on the economy, on the Fed's forray into infinite ZIRP, into maturity transformation, and the lack thereof, on the Fed's massive blunder in treating the liquidity trap, but most importantly on what the transition from a levering to delevering global economy means, is a must read. First: on the fatal flaw in the Fed's plan: "when rational or irrational fear persuades an investor to be more concerned about the return of her money than on her money then liquidity can be trapped in a mattress, a bank account or a five basis point Treasury bill. But that commonsensical observation is well known to Fed policymakers, economic historians and certainly citizens on Main Street." And secondly, here is why the party is over: "Where does credit go when it dies? It goes back to where it came from. It delevers, it slows and inhibits economic growth, and it turns economic theory upside down, ultimately challenging the wisdom of policymakers. We’ll all be making this up as we go along for what may seem like an eternity. A 30-50 year virtuous cycle of credit expansion which has produced outsize paranormal returns for financial assets – bonds, stocks, real estate and commodities alike – is now delevering because of excessive “risk” and the “price” of money at the zero-bound. We are witnessing the death of abundance and the borning of austerity, for what may be a long, long time." Yet most troubling is that even Gross, a long-time member of the status quo, now sees what has been obvious only to fringe blogs for years: "Recent central bank behavior, including that of the U.S. Fed, provides assurances that short and intermediate yields will not change, and therefore bond prices are not likely threatened on the downside. Still, zero-bound money may kill as opposed to create credit. Developed economies where these low yields reside may suffer accordingly. It may as well, induce inflationary distortions that give a rise to commodities and gold as store of value alternatives when there is little value left in paper." Let that sink in for a second, and let it further sink in what happens when $1.3 trillion Pimco decides to open a gold fund. Physical preferably...

All you need to read.

Back in January 2010, when in complete disgust of the farce that the market has become, and where fundamentals were completely trumped by central bank intervention, we said, that "Zero Hedge long ago gave up discussing corporate fundamentals due to our long-held tenet that currently the only relevant pieces of financial information are contained in the Fed's H.4.1, H.3 statements." This capitulation in light of the advent of the Central Planner of Last Resort juggernaut was predicated by our belief that ever since 2008, the only thing that would keep the world from keeling over and succumbing to the $20+ trillion in excess debt (excess to a global debt/GDP ratio of 180%, not like even that is sustainable!) would be relentless central bank dilution of monetary intermediaries, read, legacy currencies, all to the benefit of hard currencies such as gold. Needless to say gold back then was just over $1000. Slowly but surely, following several additional central bank intervention attempts, the world is once again starting to realize that everything else is noise, and the only thing that matters is what the Fed, the ECB, the BOE, the SNB, the PBOC and the BOJ will do. Which brings us to today's George Glynos, head of research at Tradition, who basically comes to the same conclusion that we reached 2 years ago, and which the market is slowly understand is the only way out today (not the relentless bid under financial names). The note's title? "If 2011 was the year of the eurozone crisis, 2012 will be the year of the central banks." George is spot on. And it is this why we are virtually certain that by the end of the year, gold will once again be if not the best performing assets, then certainly well north of $2000 as the 2009-2011 playbook is refreshed. Cutting to the chase, here are Glynos' conclusions.

All you need to read.

You've just crossed over...

Because our political system is corrupted by corporate lobbyists, it leaves the people with few choices. Those who do not wish for a violent revolution are left with the one alternative of taking control of their own money. Money can be anything two parties in a transaction choose it to be. Precious metals is one good choice. Converting ones savings from Federal Reserve Notes into precious metals is not some kooky survivalist ploy. It is empowering a person to vote against the immoral monetary system. Hoarding food is not a kooky survivalist ploy, it is hedging against an immoral banker tax. We all have the moral obligation not to pay the banker tax. Refuse to deposit your funds into a money center bank. Support efforts to end the Federal Reserve System.

The markets follow the money. 

Even with rigged electronic voting, media manipulation, and political co-option, I feel our efforts this year will resonate for many decades to come.  Whether we are able to take back social power for regular citizens is not as important as making them aware that they have allowed themselves to lose that power in the first place.  The elections of 2012, ultimately, should be treated as a vehicle for enlightenment, and this enlightenment begins when we are able to recognize the lies we live, and the men who sell them to us…

As I was writing this past weekend's newsletter "A Technical Review Of The Markets" it really dawned on me just how complacent investors have become on the economy, the markets and risk in general.  The mainstream media, and most of analysts, are looking at recent improvements in the economic data as a sign that the economy has begun to make a turn for the better.   This view is further supported by the rise of the stock market. With a couple of breadcrumbs, a sprinkle of "hope" and a cup of optimism - analysts, economists and investors have whipped up the perfect concoction by extrapolating recent upticks into long term future advances.  However, this is a game that we have seen play out repeatedly before.