2011 has not been good for hedge funds: as the following chart from Reuters shows, this will be the first year of many, possibly ever, in which the average hedge fund had a negative return, even as the broader market had a minimally positive return, although there are still a few more trading days in the year so the S&P could well close negative. No doubt this collapse in returns will be blamed on this and that, yet we can't help but wonder how in the "New Hedge Fund Normal" in which fundamentals no longer matter and alpha is irrelevant, in which what does matter is which central bank prints and how much and who can get more levered beta, in which "expert networks" and "information arbitrage" are a thing of the past, in which every phone conversation is tapped and in which your friendly state DA just wants to bust some hedge fund ass to make that governor bid easier, will hedge funds ever return to their old prominence? And if they can't, just what will happen to that ultra critical $2 trillion marginal purchasing power, levered 3 times, which has traditionally been the driving force for market moves higher?
Now this is one funny, and very apropos, fat finger. Save this post - in a few years it will be revisited only then it won't be a joke.
PIMCO Releases 2012 Economic Forecasts; Presenting The Wall Street 2011 Market Forecast Track RecordSubmitted by Tyler Durden on 12/22/2011 - 11:42
Following yesterday's €489 billion LTRO there are few things we know with certainty, primary among them is that the net proceeds from the 3 year refi operation are really €210 billion, due to the rolling of various other duration facilities which are already in use into the LTRO as discussed yesterday. What we do not know, is whether the net proceeds of €210 billion have been used by banks to purchase sovereign debt or as Peter Tchir suggested, are actually used in a reflexive ponzi whereby banks use the explicit ECB guarantee to buy their own debt. Perhaps the best evidence that the LTRO was an epic failure when it comes to subsidizing the peripheral bond market is the fact that hours after its completion the ECB was forced to jump into the secondary market and buy up billions in Italian and Spanish bonds: an action that was supposed to be conducted by the banks themselves. But let's assume that the entire €210 billion form the first LTRO (and there certainly will be more) is used to fund carry trades: what then? Well, luckily UBS has performed a mathematical analysis which looks at how much paper profit banks can extract from said trade and juxtaposes it with the most recent €115 billion capital shortfall calculated by the EBA in its most recent stress test (not to be confused with the second to last stress test which saw Dexia pass with the highest marks possible). The result: woefully insufficient . In other words, anyone who believes that the LTRO will be used by banks as a source of carry "profits" is massively deluded. If anything banks will find creative loophole to prop up their balance sheets and issue more of their own debt instead of chasing pennies in front of the bond vigilante rollercoaster by loading up on more sovereigns. Because the last thing Italian banks can afford is another late Novemeber blow out in yields which brought the system to within hours of imminent collapse.
Banks in weak countries have been issuing debt, getting a government guarantee, and then posting them as collateral at the ECB. There are examples of this for Greek banks for sure, but my understanding is it has also been occurring in Portugal and Ireland. It is the only way banks in Greece (and the other countries) can raise money. It always struck me as a little bizarre, but guess it was done so the ECB could justify lending the money. I always thought it was relatively harmless, and was only adding to the risk of countries that were already in deep trouble – providing a guarantee is NOT riskless. But it appears about €40 billion of yesterday’s LTRO was done by Italian banks that issued bonds to themselves and got a government guarantee, and then posted it to LTRO. So these banks didn’t have any other collateral they could post? Unicredit has a balance sheet approaching a €TRILLION but they had nothing they could post as ollateral? That seems strange. Extremely strange.
And so the year ends not with a bang but with an economic whimper, as the final Q3 GDP is revised lower from 2.0% to 1.8% on expectations of an unchanged print. The reason: Personal Consumption contributed only 1.24% instead of the 1.63% in the second revision and 1.72% in the advance forecast. No bias there at all. But sure enough, here comes the inventory kicker, which subtracted just 1.35% instead of the 1.55% seen previously. What this means is that the inventory kick which was expected to come in Q4 2011 was pushed forward to prevent a 20% collapse in GDP today as keeping inventory change fixed would have resulted in a 1.6% Q3 final GDP. Net net - very weak report and one which portends weakness from Q3 is spilling over in Q4, where in addition to everything we will soon see the NAR existing home sale adjustment hit the economy with a double whammy of historical adjustments.
Just as Blythe Masters' (yes, that one) team suffered huge trading losses in the middle of 2010 following the abysmal RBS Sempra purchase, showing that when traders of scale lose, they lose big, so today another big commodities trader, Barclays, is reported to have gotten crushed on copper and other base metals bets gone wrong. Dow Jones says that Barclays is set to reshuffle its base metals trading team following a series of significant financial losses made by the desk this year. "The base metals trading team is run by Iain MacRae, who is currently still working at Barcap. The company has been unravelling a number of its copper positions recently, traders and brokers said, along with positions in other base metals it trades. The majority of the losses were in forward copper spreads, people familiar with the matter said. Although these positions were in-the-money a year ago, the market has since gone in the other direction, forcing Barclays to close the positions out at significant loss, these people added....The investment banking division of Barclays Bank, Barclays Capital has been a category one ring dealing member of the London Metal Exchange since May 1997 and is traditionally a high volume participant in base metals futures and options trading. It also owns a 2.3% stake in the LME." As to who the most likely beneficiary of this collapse is Goldman, which in tried and true fashion told its clients to be buying copper throughout the carnage, only to close its copper position at a 20% loss a few days ago. But not before indicating that even more bloodbathing is in store for the future, having concurrently reopened future bullish positions in copper.
While volume today will be rather abysmal with virtually everyone now gone, the robots will be quite busy kneejerking themselves to a variety of economic reports, starting with the final Q3 GDP revision, consumer sentiment, index of leading indicators and ending with FHFA. On the political front it is unclear if there is any progress to the payroll tax extension negotiations, which has huge implications for if not the Q1 market, then definitely economy.
Credit calling, are you listening?
On the horizon, defaults are looming
A dreadful sight,
To see high yield's plight,
Walking in a weaker Euroland.
Without a pledge from the German,
Credit spreads are gonna widen
Who wants to pay?
For the peripheral disarray
Walking in a weaker Euroland.
- The watchdogs that didn't bark (Reuters)
- Italy's Monti faces key final vote on austerity (Reuters)
- Finland 'finds Patriot missiles' on China-bound ship (BBC)
- Swiss Panel Studying Measures to Curb Franc’s Gains, Widmer-Schlumpf Says (Bloomberg)
- U.S. exporters brace for cutbacks in European bank lending (WaPo)
- Gundlach fears debt ‘crescendo’ (FT)
- China accuses US of protectionism (FT)
- China banks eye easing as household inflation view cools: PBOC (Reuters)
- Obama Gets a Lift From Tax Battle With Republicans (NYT)... yes, the NYT
Credit Suisse has been producing country-specific and global risk appetite indices for years, offering a quick-and-dirty perspective on the market participant sentiment in global risk assets. By empirically tracking the relationships between 'safe' and 'risky' asset classes, they have created a useful contemporaneous view of current market perceptions. The index swings between euphoria and panic modes and shifted to full-scale panic around mid-year. Since then the index has gradually improved as the psychological bias of 'it can't get any worse, right?' seems to have kicked in until recently where CS notes a recent downturn. So while we have 'improved' back to only Panic Mode, the expectations are for a prolonged risk-off session in the short- to medium-term.
Since the 2012 Outlooks have now slowed to a drip, its appears retrospectives are the stocking-filler of choice for the week. Goldman's economist group reflects on their '10 Questions for 2011', released at the end of December 2010, and finds they were correct seven times. The tricky thing about judging the 'score' is the magnitude of the error - or more importantly the magnitude of the question's impact on trading views. Jan Hatzius and his team have had their moments this year, for better or worse, in economic sickness or health but they have largely been accurate at predicting Fed policy (or should we say 'directing/suggesting' Fed policy), but were significantly off (along with emajority of the Birinyi-ruler-based extrapolators from the sell-side) on growth (high) expectations and inflation (low) expectations. Nevertheless, the lessons learned from over-estimating the speed of healing from the credit crisis and the disin- / de-flationary effects of a large output gap (which BARCAP would argue is not as wide) when inflation is already low and inflation expectations well anchored are critical for not making the same overly-optimistic mistake into 2012.