Sovereign Debt

Ask many people lower on the socio-economic ladder what money is for, you frequently get in response “to buy things” -a mentality leading a circular lack of understanding -leading to a lack of money itself. Capital - or more simply, money - is a proxy for labor.

All you need to know.

The bullishness is rather interesting considering the notable headwinds that exist in the European sovereign debt markets, the geopolitical risk seen in light sweet crude oil futures, and the potential for a recession to play out in Europe.

We did a double take when we read the following lead sentence from a just released Bloomberg report on what is about to take place in China: "China’s stocks regulator will “actively” push pension and housing funds to begin investing in capital markets, and encourage long-term investors such as insurers and corporate pension plans to buy more shares." To paraphrase Lewis Black - we will repeat this, because it bears repeating - "China’s stocks regulator will “actively” push pension and housing funds to begin investing in capital markets, and encourage long-term investors such as insurers and corporate pension plans to buy more shares." And that is the last ditch effort one does when one has no choice but to push "long-term investors" into the last giant ponzi. Of course, this being China, "long-term investors" means anyone at all, and "pushing" ultimately involves either 9MM or a 0.44 caliber. And what was said earlier about mocking mainstream media spin - well, the first opportunity presents itself a few short hours later - when Bloomberg, the same agency that wrote the above report, tells us that "Asian Shares Rise Amid Global Economic Optimism." Odd - no mention of the fact that China is now pushing habitual gamblers, which over there is another name for "investors" into what is openly an invitation (at gunpoint nonetheless) into the latest and greatest bubble. That said, we give this latest artificial attempt to boost stocks a half life of several days max before the SHCOMP plunges to new lows for the year.

Gold registered its eleventh consecutive annual gain, extending the bull market that began in 2001. The yellow metal gained 10.1% – a solid return, though moderate when compared to previous years. Silver lost almost 10% year over year, due primarily to its dual nature. Currency concerns lit a match under the price early in the year, while global economic concerns forced it to give it all back later. Gold mining stocks couldn't shake the need for antidepressants most of the year, and another correction in gold in December dragged them further down. Meanwhile, those who sat in US government debt in 2011 were handsomely rewarded, with Treasury bonds recording one of their biggest annual gains. In spite of the unparalleled downgrade of the country's AAA credit rating, Treasuries were one of the best-performing asset classes of the year. The driving forces there are expanding fear about the sovereign debt crisis in Europe, combined with the Fed's promise to keep interest rates low through 2013.

The circle remained exclusive because real influence, for Mills, was located not in individuals (where it should be for that would release true creative and productive energies from said individual into greater society), but in their access to the “command of major institutions…the necessary bases of power, of wealth, and of prestige.”

While Ireland's bond performance is often held up as evidence that living-standard-crushing austerity can indeed lead to positive developments, Citgroup's chief economist William Buiter suggests, in a speech in Dublin today, that they should begin negotiating a new rescue package as soon as possible. Buiter, via The Irish Times, points to the fact that Ireland currently pays around 6% for its 'rescue-money' which could be refinanced (theoretically) at around 3% via the EFSF. He said Ireland was not like Greece but it was in very bad fiscal shape because of its bank guarantee (isn't that what Italy and Portugal are doing with the new Ponzi-bonds?). He said that clearly something had to be done about the "continuing massive sovereign funding gap" that Ireland had and which still existed after three and a half years of "fierce" fiscal austerity. While Merkel's comments today on central bank support as illusory and spending EU money appropriately, it would seem that Ireland remains in a strong negotiating position. We await the term 'referendum' to confirm the discussions have begun - and given the timing (the day before IMF-EU official's fifth review) we would expect to hear it soon.

While hardly news to those who have been following our coverage of the shadow banking system over the past two years, today Reuters has a curious angle on the European "repo" problem: namely, it appears that over the past several months the primary marginal source of cash in the ultra-short term secured market in Europe are not banks, the traditional "lender" of cash (for which banks receive a nominal interest payment in exchange for haircut, hopefully, collateral) but the companies themselves, which have inverted the flow of money and are now lending cash out to banks (with assorted collateral as a pledge - probably such as Italian and Greek bonds), cash which in turn makes its way to none other than the ECB (recall that as of today a record amount of cash was deposited by European "banks" with Mario Draghi). From Reuters: "Blue-chip names like Johnson & Johnson, Pfizer and Peugeot are among firms bailing out Europe's ailing banks in a reversal of the established roles of clients and lenders. One source with knowledge of the so-called repo deals or short-term secured lending, said the two U.S. pharmaceutical groups and French carmaker were the latest to sign up for them." Which intuitively makes sense: as has been well known for years, companies are stuck holding on to record amounts of cash, although what has not been clear is why? Now we know, and it is precisely for this reason: corporate treasurers have known very well that sooner or later the deleveraging wave will leave banks cashless, and corporates themselves will have to become lenders of last resort, especially in a continent in which the central bank is still rather concerned about sparking inflationary concerns.

Peter Tchir submits: "The market is essentially frozen ahead of yet another Merkozy press conference. I have lost count of how many of these press conferences they have had. I haven’t lost count of how many resulted in anything particularly useful – zero is an easy number to remember."

Europe has opened a new week with a modestly schizophrenic session: after hitting a multi year low against the USD and an 11 year low against the Yen, the Euro has seen a constant rise and traded nearly 100 pips higher last at 1.2770 on renewed hopes that today's Merkozy meeting would finally yield success. While that is clearly an utter delusion, with the abosolute record of shorts in the EUR as we pointed out last Friday, the smallest move higher can generate an avalanche of covering, and as we said previously a "potential" margin hike by the CME at any point in Euro contracts would leads to a QE-like surge higher in the EUR. If only briefly. Elsewhere, bond yields were mostly unchanged with the 10-yr Italian yield -3bps to 7.1% after rising as much as 4bps to 7.17% earlier; the 10-yr Spanish yield -5bps to 5.66%; was +1bp to 5.72% earlier; the 10-yr bund yield +2bps to 1.88%, first rise in 3 days. Most importantly, but no longer surprisingly, the ECB Deposit Facility usage soared to a new all time high of €464 billion, an increase of €199 billion since the LTRO hit the bank balance sheets on December 21, which accounts for virtually all the non-rolled cash. Simply said, Europe remains in suspended animation with hopes that a deus ex (now that the aliens have been downgraded from "possible" to "interference") will materalize preventing an allout spread collapse.

All you need to know.

We have now entered the fifth year of this Fourth Turning Crisis. George Washington and his troops were barely holding on at Valley Forge during the fifth year of the American Revolution Fourth Turning. By year five of the Civil War Fourth Turning 700,000 Americans were dead, the South left in ruins, a President assassinated and a military victory attained that felt like defeat. By the fifth year of the Great Depression/World War II Fourth Turning, FDR’s New Deal was in place and Adolf Hitler had been democratically elected and was formulating big plans for his Third Reich. The insight from prior Fourth Turnings that applies to 2012 is that things will not improve. They call it a Crisis because the risk of calamity is constant. There is zero percent chance that 2012 will result in a recovery and return to normalcy. Not one of the issues that caused our economic collapse has been solved. The “solutions” implemented since 2008 have exacerbated the problems of debt, civic decay and global disorder. The choices we make as a nation in 2012 will determine the future course of this Fourth Turning. If we fail in our duty, this Fourth Turning could go catastrophically wrong. I pray we choose wisely. Have a great 2012.

We discussed the start of a new breed of bond issuance in Europe earlier in the week. The Ponzi Bond was born and today Banco Espirito Santo, of Portugal, came to the market (was there really an external demand?) and issued EUR1bn of three-year debt guaranteed by none other than the 16.4% yielding-equivalent three-year Portuguese government. Peter Tchir notes that "If the Japanese created the 'zombie' banks, the Europeans are perfecting them." On the bright side, the ECB has saved itself the effort of creating a "bad bank" and has just become one.

For anyone who still hasn't grasped the magnitude of the central planning intervention over the past four years, the following two charts should explain it all rather effectively. As the bottom chart shows, currently the central banks of the top three developed world entities: the Eurozone, the US and Japan have balance sheets that amount to roughly $8 trillion. This is more than double the combined total notional in 2007. More importantly, these banks assets (and by implication liabilities, as virtually none of them have any notable capital or equity) combined represent a whopping 25% of their host GDP, which just so happen are virtually all the countries that form the Developed world (with the exception of the UK). Which allows us to conclude several things. First, the rapid expansion in balance sheets was conducted primarily to monetize various assets, in the process lifting stock markets, but just as importantly, to find a natural buyer of sovereign paper (in the case of the Fed) and/or guarantee and backstop the existence of banks which could then in turn purchase sovereign debt on their own balance sheet (monetization once removed coupled with outright sterilized asset purchases as is the case of the ECB). And in this day and age of failed economic experiments when a dollar of debt buys just less than a dollar of GDP (there is a reason why the 100% debt/GDP barrier is so informative), it also means that central banks now implicitly account for up to 25% of developed world GDP!

In spite of some short-term fixes, there remains no real resolution to the sovereign debt issues in many European countries. We're certainly not spending less money in the US, and now we're bailing out Europe via currency swaps with the European Central Bank. Shouldn't gold be rising? Yes, but nothing happens in a vacuum. There are some simple explanations as to why gold remains in a funk.

1. The MF Global bankruptcy, the seventh-largest in US history, forced a high degree of liquidation of commodities futures contracts, including gold. Many institutional investors had to sell whether they wanted to or not. This is similar to why big declines in the stock market can force funds and other large investors to sell some gold to raise cash for margin calls or meet redemption requests.
2. The dollar has been rising. Money fleeing the Eurozone has to go somewhere, and some of it is heading into US bonds, which means first converting the foreign currency into dollars.
3. It's tax-loss selling season, something that's also impacting gold stocks. Funds and individual investors are selling underwater positions for tax purposes. Funds also sell their big winners to lock in gains for the year and dress up quarterly reports.

These forces have all acted to depress the gold price.