Morgan Stanley

NOT JUST SANDY WEILL ...

While it might seem like somewhat stating the obvious, it is nonetheless worth driving home to the politicians and public policy wonks who see rates at record lows and perceive a Keynesian borrow-and-spend-fest as once again the solution to borrowing-and-spending too much. As Morgan Stanley puts it, fiscal policy is sailing between the Scylla of chase-your-tail austerity and the Charybdis of sovereign insolvency. In short, it is impossible for developed market (DM) governments to grow their way back to solvency. Doing nothing would sail governments towards the whirlpool of national insolvency – at some stage. But avoiding insolvency would risk being monstered by recession. If 'expansionary austerity' worked, then Europe would now be booming. The outlook for fiscal policy and public sector finances is a major uncertainty for investors and, critically, is part of the reason why risky assets are being de-rated and 'safe' assets are at unprecedented valuations. There is no question that negative-net-worth governments will impose a cost on the private sector. The only questions are when and how. The options are asset confiscation, explicit default, surreptitious default (financial oppression), or conventional fiscal tightening.

UPDATE: ZNGA is down 40% now, trading with a $2 handle

They said it could never happen. They said it was social, mobile, everything... Well, oops... It seems the drought conditions around the world have hit the virtual farms too. Let it 'Virtual Rain'

• *ZYNGA 2Q REV. $322.5M, EST. $343.1M           
  
• *ZYNGA 2Q ADJ. EPS 1C, EST. 6C                      
  
• *ZNGA SEES YR EPS ADJ 4C-9C, SAW 23C-29C, EST. 27C

and with that 33% of market cap is wiped away... and the derivative play - Facebook is down 7% after-hours and EURUSD is dipping as all that virtual cash is vaporized (yes seriously EURUSD is dropping!). We assume that very soon, congressmen around the country will be calling for a government intervention as the hand-of-god impacts these poor virtual farmers. FYI - Margin Stanley is the largest ZNGA holder at 13.84%.

Independent from Congress … or from the American People?

"This market isn't real. The two percent on the ten-year, the ninety basis points on the five-year, thirty basis points on a one-year – those are medicated, pegged rates created by the Fed and which fast-money traders trade against as long as they are confident the Fed can keep the whole market rigged. Nobody in their right mind wants to own the ten-year bond at a two percent interest rate. But they're doing it because they can borrow overnight money for free, ten basis points, put it on repo, collect 190 basis points a spread, and laugh all the way to the bank. And they will keep laughing all the way to the bank on Wall Street until they lose confidence in the Fed's ability to keep the yield curve pegged where it is today. If the bond ever starts falling in price, they unwind the carry trade. Then you get a message, "Do not pass go." Sell your bonds, unwind your overnight debt, your repo positions. And the system then begins to contract... The Fed has destroyed the money market. It has destroyed the capital markets. They have something that you can see on the screen called an "interest rate." That isn't a market price of money or a market price of five-year debt capital. That is an administered price that the Fed has set and that every trader watches by the minute to make sure that he's still in a positive spread. And you can't have capitalism if the capital markets are dead, if the capital markets are simply a branch office – branch casino – of the central bank. That's essentially what we have today."

The major European bourses are down as US participants come to their desks, volumes still thin but higher than yesterday’s, and underperformance once again observed in the peripheries, with the IBEX down 2.5% and the FTSE MIB down 1.2%. Last night’s outlook changes on German sovereign debt caused a sell-off in the bund futures, with the effect being compounded as Germany comes to market with a 30-year offering tomorrow. The rating agency moves, as well as softer Euro-zone PMIs and reports that Spain is considering requesting a full international bailout have weighed on the riskier asset classes, taking EUR/USD back below the 1.2100 level. Furthermore, with Greece and a potential Greek exit now back in the news, investor caution is rife as the Troika begin their Greek report of the troubled country today.

The technical guys are feeling bearish. 

The effect on the USA of its casually wandering over the Fiscal Cliff will be catastrophic; adding approximately $607bln to the US deficit which in turn would sap anywhere up to 4% (according to the CBO) or possibly even 5% (if Chairman Bernanke—in full-on ‘scare Congress’ mode—is to be believed) from US GDP and send the country crashing into outright recession (or further into recession depending on how things continue to deteriorate in the coming months). “That we cannot have” was the opinion of Erskine Bowles who, along with former Sen. Alan Simpson, devised a debt reduction plan last year to prevent this doomsday scenario.... According to the OMB estimates, any attempt to do something remotely meaningful will result in at least a percentage point reduction in US GDP, which is fine in a world of 3% growth, but today that 1% is not something these guys have to play around with. In the run-up to December 31, you can guarantee that the issue of the US Fiscal Cliff will replace Europe as the major concern facing the world in general and the US in particular and, if things continue to deteriorate at their current pace, anything that will lead to even a 0.5% cut inGDP will be seen as a  disaster.

While repeating the same thing and expecting a different result is the definition of insanity, the Italian and now Spanish regulators, in their wisdom, have banned short-selling once again (supposedly not just on stocks but OTC derivatives also) - because, of course, this is all speculation and not just real money exiting the increasingly encumbered 'bail-in-able' worst banks in the world. When will the long-selling ban begin and what does this S-S ban mean? Very little in reality - within a few days of the last ban, following a very short-term squeeze - European banks were back below the pre-short-sale-ban level as we noted here and here. The trouble with the ban is that managers will look to hedge the implicit stress that this means those banks are under (that may otherwise be manipulated out of the price). How to do this? Well, last time, it was Morgan Stanley that was the most correlated on the way down and was the worst performer immediately after the ban began - and this time seems like it should be no different. Already in the pre-market, MS is -4%, notably underperforming its peers.

As the flow of subsidies from Washington slowly ebbs, the TBTF banks will begin to feed upon one another...

Too Big Leads To Destruction of the Rule of Law

By now everyone is aware of the silver-like surge in corn prices over the past month, driven by the recognition that what is quickly becoming the most severe drought in US history is here to stay indefinitely longer as elusive rainfall remains just that. As can been seen on the chart below, corn prices have risen by 54% since mid-June. What may come as a surprise is that another critical commodity - Soybeans - has only risen by half as much, or just 28% in the past month. Why "only"? Because as the following two charts from Morgan Stanley show, the fundamental picture for soybeans may be just as bad if not worse as corn, which would mean there is far more price upside in soy in the coming days, especially if strategies based on prayer, for either central bank intervention or rain, remain unasnwered.

• Gunman kills 14 in Denver shooting at "Batman" movie (Reuters)
• Full retard meets Math for Retards: Spain Insists $15 Billion Aid Need for Regions Won’t Swell Debt (Bloomberg)
• World braced for new food crisis (FT)
• Banks in Libor probe consider group settlement (Reuters)
• U.S. banks haunted by mortgage demons that won't go away (Reuters)
• Ireland Bulldozes Ghost Estate in Life After Real Estate Bubble (Bloomberg)
• China will not relax property control policies (China Daily)
• Russia, China veto U.N. Security Council resolution on Syria (Reuters)
• Kim to reform North Korean economy after purge (Reuters)

Two years ago, in January 2010, Zero Hedge wrote "This Is The Government: Your Legal Right To Redeem Your Money Market Account Has Been Denied" which became one of our most read stories of the year. The reason? Perhaps something to do with an implicit attempt at capital controls by the government on one of the primary forms of cash aggregation available: $2.7 trillion in US money market funds. The proximal catalyst back then were new proposed regulations seeking to pull one of these three core pillars (these being no volatility, instantaneous liquidity, and redeemability) from the foundation of the entire money market industry, by changing the primary assumptions of the key Money Market Rule 2a-7. A key proposal would give money market fund managers the option to "suspend redemptions to allow for the orderly liquidation of fund assets." In other words: an attempt to prevent money market runs (the same thing that crushed Lehman when the Reserve Fund broke the buck). This idea, which previously had been implicitly backed by the all important Group of 30 which is basically the shadow central planners of the world (don't believe us? check out the roster of current members), did not get too far, and was quickly forgotten. Until today, when the New York Fed decided to bring it back from the dead by publishing "The Minimum Balance At Risk: A Proposal to Mitigate the Systemic Risks Posed by Money Market FUnds". Now it is well known that any attempt to prevent a bank runs achieves nothing but merely accelerating just that (as Europe recently learned). But this coming from central planners - who never can accurately predict a rational response - is not surprising. What is surprising is that this proposal is reincarnated now. The question becomes: why now? What does the Fed know about market liquidity conditions that it does not want to share, and more importantly, is the Fed seeing a rapid deterioration in liquidity conditions in the future, that may and/or will prompt retail investors to pull their money in another Lehman-like bank run repeat?

Morgan Stanley reported earnings this morning, and showed that unless one has massive loan loss reserves to release, US banks are in big trouble. The firm just reported $0.28 EPS including DVA benefit, on expectations of $0.29. But it was the top line that got blown out, with the firm reporting $7.0 billion in revenue including the DVA fudge, but more importantly $6.6 billion. The expectations was for a $7.58 billion top line: a 14% miss. The top line number plunged over 25% compared to a year ago. The main reason for the collapse in profit: the virtual disappearance of any cash from combined fixed income, commodity and equity sales and trading, which imploded from $3.7 billion a year ago, to just $1.9 billion this quarter. And while the company slashed comp in Q2 as was to be expected following such horrible results, by over 33% to $1.4 billion from $2.2 billion, here is what most are focused on: "As a result of a rating agency downgrade of the Firm's long-term credit rating in June, the amount of additional collateral requirements or other payments that could be called by counterparties, exchanges or clearing organizations under the terms of certain OTC trading agreements and certain other agreements was approximately $6.3 billion, of which $2.9 billion was called and posted at June 30, 2012." In other words, the company has yet to post more than half of its contractually required collateral. In the aftermath of these atrocious earnings, we wish them all the best in getting access to this cash.