We have already broadly discussed the recent euphoria in the market which especially in the Nasdaq has hit 5 year+ extremes. And as always in times of such irrational exuberance, the disconnect between perception and reality is truly astounding. David Rosenberg presents his views on the latest developments in the market's ongoing fight with manic-depressive disorder.
As of right now, the spot VIX has dropped to 16.80, the lowest it has been since April 20: rumor is that Goldman is dumping all its legacy OTR long vol positions in a year end clearance event. Ironically, as the VIX term structure chart shows, this is virtually identical to the shape of the VIX curve last seen on April 20, just days before the prior year end high was hit and followed by a substantial snapback. Then again, in a market in which the TICK reading has been negative virtually all day and stocks are higher, there is no point in even attempting to predict what may happen. It appears the POMO market makers are celebrating the Chairman's birthday and bypassing the bond market entirely, going straight into stocks: after all what better present for the world's biggest Central Planner than some serious wealth effect creation... for 10% of the US population. Incidentally, the real POMO, that of $8 billion in 7 year-ish bonds will conclude in 5 minutes.
This week, EU leaders will try to agree on limited EU treaty changes at a summit (December 16-17). The aim is to establish a permanent rescue mechanism for countries in financial difficulties. On Monday and Tuesday (December 13-14) foreign affairs ministers will meet in Brussels to prepare draft conclusions. The BBC claims to have obtained a draft communiqué. We will analyze if a new European Stability Mechanism (ESM) has any chance to save the Euro. It will be interesting to see how far the idea of eBonds (supra-national bonds issued by the EU to funnel money towards countries in difficulties) will get amidst opposition from the two largest contributors – Germany and France.
A report by the Post today discloses that Bank of America, haunted by ongoing pressure in both the robosigning/fraudclosure scandals, and demands by the likes of Pimco and the New York Fed to putback billions of paper to the bank due to misrepresentations, is rapidly trying to dump $1 billion worth of toxic paper. One can only assume that this is merely another tactic by the bank to further confuse forensic tracking of who owns what in the multi-trillion whole loan/RMBS space, in which it has recently been discovered that few actually know and track who is the end owner (as opposed to servicer) of a large amount of mortgage paper. This follows comparable actions by Wells Fargo which recently announced it was spinning off its mortgage business as a separate division, as well as Goldman's announcement it was seeking to distance itself from its Litton Loan mortgage unit. It appears the Plan B in case a broad settlement with the Attorneys General is not reached is to simply offload as much responsibility to someone else before the hammer finally falls. Then again for BofA this may be far too little too late: "As of Sept. 30, BofA owned more than $12 trillion in mortgage-servicing rights, down from $19 trillion last year. The bank owns and services mortgage assets totaling $2.1 trillion."
When we announced last Monday that in the week ended December 6 the ECB bought €2 billion in bonds via its SMP program, we expected that the current week would see yet another major surge in bond purchases, due to last settlements. Sure enough, according to just released ECB data, in the last week when bond turmoil was already supposedly contained, the ECB bought nearly €2.7 billion in Irish, Portuguese and possibly Spanish and Belgian bonds: this is the highest amount since the first 2 weeks of the SMP program's inception and the highest by far in the past half year. As Zero Hedge reported last week, the only buyer of sovereign debt, via its MS proxy, is now the ECB. How long this centrally planned floor on prices persists will be up to bond vigilantes. Today, peripheral yields in both cash and CDS have once again started leaking wider, which can only mean one thing: many, many more purchases coming.
Remember BABs - the state stimulus that shockingly refuses to be included in the latest example of infinite government largesse? Just in case you have forgotten the program that could soon expose a gaping quater trillion funding hole in state budgets oddly enough refuses to go away. Judging by the chart below, someone is paying attention. But who cares: the full impact of the BABs subsidy will not be felt for at least another 18 days so why worry: it's not like the market even pretends to discount anything anymore.
And now for some woefully overdue attempts at regaining credibility from farce agency Moody's, which after realizing that US debt may soon hit $16 trillion has noted that the US tax package increases the likelihood of negative outlook on the US AAA rating in next 2 years. What is worrisome, is that Moody's apparently did not get their Christmas bribe from Wall Street/the Administration, and actually dares to speak the truth: "From a credit perspective, the negative effects on government finance are likely to outweigh the positive effects of higher economic growth." As the announcement has pushed the DXY even lower, expect semi-formal validation that America will soon be insolvent to result in yet another surge in stocks.
The big story this morning is that Treasury yields continue their grind higher - this despite the strong 30 Year auction last week which many expected had put a bottom on bond prices at least for the short-term. As can be seen on the attached chart, the 10 Year has resumed its drift lower, with yields once again touching multi-month highs, not to mention the 10s30s continue to flatten and is about to hit 100 bps. The move prompted an early wake up call for David Ader, head of government bond strategy at CRT who sent out the following note earlier: "Just when we thought it was safe to say something nice about the market, we get a sharp move lower (alas in price, not yield) in an active overnight session. We say active as volumes were 114% of the average, but to be sure it’s harder to find a new reason for the weakness other than the price action itself. Thus we’ll caution that the weakness is in part a function of liquidity and fear." There are two schools of thought as to what is causing the gap lower: i) the realization by various bondholders that nobody is concerned about US funding levels and that the next target of the bond vigilantes will be the US itself, and ii) that courtesy of the latest round of fiscal stimulus, the economy may have bought itself a short-term bounce and it is time to fade the deflationary move in bonds which was the prevalent trade of 2010. Either way, the inflationary threat is now all too real, and with rates jumping and mortgages surging, it is difficult to envision a nascent recovery in which the prevailing price of housing just dropped yet again courtesy of higher rates. So what does this mean for stocks? Once again, courtesy of some historical perspectives by Sentiment Trader, we look at what happened in the past to stock prices when bond yields started a gap move wider.
With the gold price hitting nominal highs last month, there is a lot of “mania” and “bubble” ranting going on in the gold community. Should we start selling? A bull market typically progresses through 3 phases: the Stealth Phase, in which early adopters start buying; the Wall of Worry Phase (or Awareness Phase), when institutions begin buying and every significant fluctuation makes investors worry that the bull market is over; and the Mania Phase when the general public piles on, driving prices beyond reason or sustainability. This is followed by the Blow-off Phase, when the bear takes over from the bull and the herd gets slaughtered. Judging by the volume on the TSX Venture Exchange (TSX-V), where a lot of gold juniors are listed, we conclude that the next phase of our current gold bull market, the Mania, still lies ahead.
- Asian stocks, Dollar, copper climb as China refrains from increasing rates.
- Australia overhauls banking rules; said it would improve banking competition.
- China pledges to change growth model in 2011, tackle prices, grow quickly.
- Chinese Premier Wen to visit India in bid to build mutual trust amid disputes over territory, trade.
- China risks 'rush' to tighten in 2011 after inflation accelerates past 5%.
- EU leaders set to focus on debt crisis facility as ECB grapples with banks.
- Euro falls to $1.3202 in morning European trading as EU nations to meet amid debt crisis.
- Must read: The eurozone is in bad need of an undertaker (Ambrose Evans-Pritchard)
- If China Blows Up, So Will Every Other Market (Forbes)
- China Risks `Rush' to Tighten in 2011 After Inflation Surges (Bloomberg)
- China Said to Plan for at Least $1.1 Trillion of New Lending (Bloomberg)
- Spotlight On Banks' Exposure in Europe (WSJ)
- Backers and critics see passage of Obama tax deal (Reuters)
- Irish Sovereign Debt Default Would Be Far From Armageddon (Bloomberg)
- Paul Myners Op-Ed: Break up Britain’s uncompetitive big banks (FT)
- No New Normal for 2011 in Forecasts for 11% S&P 500 Gain (Bloomberg)
European Morning Briefing - Stocks, Bonds, FX – 13/12/10
With little fanfare, the November budget deficit of $150.4 billion was reported, which happened to be the worst fiscal November in the history of the US, and just out of the top 10 of worst deficit months ever, including the traditionally weak seasonal months of December, April and September (indicatively, the worst deficit month was the February 2010 $221 billion). The deficit was a major surprise to all those who had expected a pick up in income tax revenues. And as the charts below demonstrate, while there was indeed a modest pick up in tax collections, it was nowhere near enough to offset the surge in government outlays (even with interest payments still at near record low levels). What was also not broadly appreciated is that the cumulative debt issuance over deficit funding has hit a new all time high of $1,735 billion since our October 2006 starting point (4 fiscal years ago). And what is a bigger concern, is that the debt issuance continues to remain at almost exactly 50% over the deficit. Additionally we know that courtesy of Obama's latest stimulus for the wealthy (and everyone else) the latest projection for the 2011 budget deficit will hit $1.5 trillion (after it was just $1.1 trillion a few months prior). What this means is that should the US Treasury continue to issue 50% more debt than total deficit needs, by the end of fiscal 2011, the US will have issued another roughly $2.25 trillion in net debt. Granted this is a rule of thumb. But what it means is that the $900 billion in notional (not market) value of bonds to be bought back by the Fed through June will be woefully insufficient, and that as a result we expect that Ben Bernanke will be forced to monetize another $1.2 trillion in debt to continue with his course of monetizing every dollar of deficit spending, as he has been doing since the advent of QE2. It also means that unless something dramatically changes, through October 31, 2011, total US debt will be $15.9 trillion, up from the $13.9 trillion as of the end of last month, and will mean that the debt ceiling will have to be raised not only once, but likely twice in the next 12 months. We are now truly a banana republic you can believe in.
Now that the Chairman's new mandate is not to prevent disinflation but to generate inflation, he may soon be patting himself on the back... but for all the wrong reasons. As the Bloomberg chart of the day indicates, the world may very soon see a surge in wheat and corn prices, pushing such staples as bread and corn flakes through the roof. The reason, in addition to Bernanke's flawed monetary policy: "bad weather and a shortage of farmland threaten to create supply shock waves." As the chart below shows the price of a basket of grains and palm oil has risen almost 50 percent since the 50-day moving average passed through the 100-day line. On the two previous times this occurred the past decade, prices about doubled or tripled over the following two years before peaking. In other words, if history is any indicator, we may see a quadrupling of input prices from here as the last "food inflation" bubble is recreated. Are double digit prices for a loaf of bread in the immediate future for what will soon be a hungry US middle (what's left of it), and not-so middle class? Quite possibly. Luckily, all their stock gains should more than offset this upcoming price shock. Or not.