Guest Macro Commentary: The “Our Capital Levels Are Adequate” Dance
From Brian Rogers of Fator Securities
Macro Commentary: The “Our Capital Levels Are Adequate” Dance
“Our capital levels are adequate.” Perhaps it’s just me but It seems like every time the market sells off more than 10%, we end up hearing that phrase a lot. Hmm, perhaps it has something to do with the huge amount of leverage still sitting on the balance sheets of the TBTF banks and their exposure to the global derivatives market? We need banks in our society, but do we really need these banks? Until the world finally realizes that the concentration of leverage that currently sits on the balance sheets of the world’s largest 15-20 banks is the source of our global instability and protecting these same banks is literally cutting off our nose to spite our face, we will continue to suffer huge bouts of “risk-on/risk-off” madness.
Systemic risk will continue to grow and government instability will only increase once the final shoe, rising rates, finally drops. In 2008, the market was not concerned about Greece. And then rates rose. Now they are a walking default and a threat to the TBTFs. Look at Italy and Spain as well. Italy especially is Too-Big-To-Bailout but with low rates, they can scrape by. Hike rates by a few hundred basis points, however, and the endgame starts to unfold. The same fate awaits the US. Eventually. We can get in front of the problem, take our pain now by nationalizing and breaking up the big banks, or we can wait until the crisis spirals out of control and threatens something much worse.
Futures markets in the US were positive at 6am this morning, turned sharply negative again on fears that the European banking system is entering into a liquidity crisis on fears of weakness in the French banking system and are now positive again in typical “risk-on/risk-off” dyslexia. Ensuring that this perceived weakness becomes a full-blown reality, there are reports that a major Singaporean bank has cut all credit lines to French banks while other Asian banks are considering the same action. The French government could inject billions into the balance sheets of the largest banks but such a bailout would be politically controversial and could also call into question the stability of France’s AAA rating and thus the viability of the EFSF fund. Rock, meet hard place. Meanwhile, as a parade of finance ministers and central bankers assure the world that the French banking system is sound and “adequately” capitalized, the NYTimes is reporting that the European regulators are considering a ban on short-selling. Nothing like a little gasoline from the regulators to stoke the fire! If this happens, the disaster that follows will be yet another example of how trying to centrally plan an economy is a really, really bad idea.
Perhaps the best option here is for the US and Europe to join hands and craft a global balance sheet reorganization, aka The Great Reset, bilaterally. At over 50% of global GDP, anything the US and Europe did together would almost certainly be influential enough to bring the rest of the world on board. Think Bretton Woods III. Yes, this would mean debt write-offs and the nationalization of the banks. Yes, it would likely mean a drop in asset prices and could push the world into a recession. And yes, it would likely mean that the end result would be the USD ending its reign as the world’s reserve currency. However, doing it now also means the US and Europe would be leading the process rather than following it. It also means that we would be pushing for this at a time when our two economic areas are still quite strong militarily. Waiting too long to acknowledge the severity of our debt problems could mean that we continue to weaken while our rivals continue to strengthen. By the time the system finally forces a new reserve currency, it could be too late for the US to influence this process to our advantage as we likely could now. In trading, sometimes your first loss is your best loss.
Gold is taking its medicine today (or eating Obama peas), down over 1% after the CME raised margin requirements by 22%. However, this comes after gold hit a high price of $1,815 per ounce in after-hours trading. Given gold’s recent rapid move up, it’s trading higher by over 18% since the beginning of July, it seems likely that a pullback here is warranted. However, until the current banking weakness is resolved, expect any pullback to be shallow and weakness bought. If a temporary, short-term solution can be brought to bear on the growing concerns over the French banks, expect gold to pull back to the 1600-1550 area. Exeter’s pyramid is very quickly being discovered by many market participants who previously only understood the dogma of “you can’t fight the Fed” so I don’t expect any pullback to be long-lasting as the system weakness overwhelms the technical argument for a gold pullback.
Looking at Brazil, after bottoming out on Monday at 47,793, the IBOV has bounced back 8% to its currently level of 51,732. Given the weakness in Europe, particularly the concern over the banking sector, I still believe it’s too early to buy beta in Brazil. In my opinion, a defensive stance is still warranted. My desk economist in Brazil, Luiza Ladeira, highlighted the increase in June retail sales this morning. While not a huge increase, the +0.2% increase was greater than market consensus (0%) and greater than Banco Fator’s estimate (-0.4%). So the good news is that the consumer in Brazil is alive and well, despite a slowdown in the growth of credit. The bad news is that systemic risk will be the driver of the stock market in the short-run so the best thing for an investor to do is build a wish list of positive beta names to buy when this current bout of bad news eventually passes.
* Fator Securities LLC, Member FINRA/SIPC, is a U.S. entity and a member of the Fator group of companies in Brazil. The comments below are from Brian Rogers, who is employed by Fator Securities (Brian’s opinions are his own and do not constitute the opinions of Fator Securities or the Fator group of companies).
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