Morgan Stanley

Newsflash: the Fed controls the economy. It's working on financial markets. Former Fed official and Treasury put-master Vincent Reinhart, who is now the chief U.S. economist at Morgan Stanley, says the only way QE3 doesn't happen is "if the economy surges or equity investors continue to embrace risk," in which case "the Fed would cheerfully keep its plans on the shelf." The only problem is it looks like we just had the "surge" and it didn't seem to impress the Federal Reserve, and every time they try to exit a buying program, the market tanks.

While headlines may evoke underlying strength (despite a slowing China, underlying employment indices lagging, and rising-price concerns growing) the expectations of our elite economists has once again extrapolated, Birinyi-style, a self-sustaining recovery to infinity and beyond. Unfortunately, economic data is disappointing in the last few weeks relative to expectations as the Citi Economic Surprise Indicator drops to three-month lows. It appears to us that the economic data in the US, driven up in the (cyclical) short-term by tax cuts, fuel cost drops, and very recently the warm weather according to Morgan Stanley, is set to repeat the 2008 pattern as ECRI data did not confirm the improvement. The mean-reversion in the Citi ECO index suggests at best a significant slowing in equity performance but more likely a negative return in the three-months ahead. It would appear that our hopium-filled expectations have once again become unsustainable.

Citigroup have said that they believe that gold will rise to $2,400/oz in 2012 and by $3,400/oz in “the coming years”. However, Citi’s Tom Fitzpatrick warned of price weakness in the short term and said there is a “real danger” that there may be a correction to $1,600/oz which would provide an even better buying opportunity. Citi are also cautious near term on oil and silver. Production of gold in Australia slid again last year, despite gold fetching higher nominal prices than ever before. According to gold experts, Surbiton Associates, 264 tonnes of gold were produced last year, two tonnes less than in 2010. The 264 tonnes equated to about 8.5 million ounces and ensures that Australia remains a major player in gold, with only China producing more last year. The United States was the world's third-biggest producer with 240 tonnes. Australia's gold production was well below the nation's production peak in the late 1990s.  This further suggests the possibility of peak gold production. Of the world’s four biggest gold producers (China, Australia, the U.S. and South Africa), only China has managed to increase gold production in recent years and this Chinese gold is used in China to meet the rapidly growing demand for gold jewellery and coins and bars as stores of value in China.

Analysts are questioning the "double-down effect" the ECB's LTRO exercises are creating in eurozone sovereign spreads. Citi notes a spike in the purchase of government securities since the initial take-up in December.

As expected by virtually everyone:

• NO PAYOUT ON GREECE $3.25 BILLION DEFAULT SWAPS, ISDA SAYS

Keep in mind, as criminal as this appears, and as damaging to the CDS market, the real trigger will be what ISDA does determines following the end of the PSI process. If there is no credit event then either, especially when the CACs are triggered as expected - an event which will certifiably be a trigger event under Section 4.7, then ISDA is truly hell bent on blowing up the CDS market as a hedging vehicle in its entirety.

While the now scheduled Irish referendum on the fiscal treaty, which will likely not pass successfully absent major concessions on behalf of Europe, will not precipitate a failure of the recently agree upon compact, as 12 out of the 17 contracting parties need to support the Eurozone, it will have an impact in that it would impact future bailouts of Ireland courtesy of preset European bailout mechanisms. In other words, should things take a turn for the worse, and they will, in the near future, Ireland will have to rely on itself to save itself. As a reminder, it took Europe 2 years to (supposedly) firewall itself from default and a collapse of its banks. How long will the same take for Ireland, because while the country may be standalone, its banks most certainly will not be. Remember that money is fungible. So are massive unrecognized Mark to Market losses. Morgan Stanley explains.

And I thought securitization ment they where going to keep the loan docs in a safe place in some bank vault some where...

• IMF Official: 'Huge' Greek Program Implementation Risks In Next Few Days (WSJ)
• European Banks Take Greek Hit After Deal (Bloomberg)
• Obama Urged to Resist Calls to Use Oil Reserves Amid Iran Risks (Bloomberg)
• Hungary hits at Brussels funds threat (FT)
• Bank Lobby Widened Volcker Rule Before Inciting Foreign Outrage (Bloomberg)
• Germany fights eurozone firewall moves (FT)
• New York Federal Reserve Said to Plan Sale of AIG-Linked Mortgage Bonds (Bloomberg)
• G-20 Asks Europe to Beef Up Funds (WSJ)
• New Push for Reform in China (WSJ)

'All is not resolved' is how Morgan Stanley's Arnaud Mares begins his latest diatribe on the debacle that is occurring in Europe. While a disorderly default seems to have been avoided (for now), the Greek problem (as we have discussed extensively) remains unsolved as debt sustainability seems questionable at best, economic recovery a remote hope, and the growing political tensions across Europe (and its people) grow wider. Critically, Mares addresses the seeming complacency towards a Greek exit from the euro area noting that it is no small matter and has dramatic consequences (specifically a la Lehman, the unintended consequences could be catastrophic). Greece (or another nation) leaving the Euro invites concerns over the fungibility of bank deposits across weak and strong nations and with doubt over the Euro, the EU could collapse as free-trade broke down. The key is that, just as in the US downgrade case last year, a Euro-exit implies the impossible is possible and the impact of such an event is much, much higher than most seem to realize. While the likelihood of a Greek euro-exit may remain low (for now), the scale of the impact makes this highly material and suggests the EU will do whatever it takes (print?) within their mandates to hold the status quo. For all practical purposes, it would be the end of the euro as a genuine single currency and to preserve the euro if Greece left would require total federalism in the rest of the area.

• Obama Administration Said Set to Release Corporate Tax-Rate Plan Today (Bloomberg, WSJ)
• Greece races to meet bail-out demands (FT)
• IAEA ‘disappointed’ in Iran nuclear talks (FT)
• Hilsenrath: Fed Writes Sweeping Rules From Behind Closed Doors (WSJ)
• Fannie-Freddie Plan, Sweden FSA, Trader Suspects, CDO Lawsuit: Compliance (Bloomberg)
• Bank of England’s Bean Says Greek Deal Doesn’t End Disorderly Outcome Risk (Bloomberg)
• Greece Second Bailout Plan an ‘Important Step,’ Treasury’s Brainard Says (Bloomberg)
• Shanghai Eases Home Purchase Restrictions (Bloomberg)

Opting to trade commodities over Cede & Co.-owned stock certificates? Hopeful there would at least be a physical recovery if the counterparties collapse in a bilateral netting fireball of linked counterparty exposure (as long as MF Global is not involved... or its exchange... or regulator)? Then here is a simple way to gauge relative commodity strengths and weakness courtesy of Morgan Stanley's "Commodity Thermometer" which shows what products MS is bullish and bearish on, and why.

The latest report from Morgan Stanley's Graham Secker can be summarized simply as follows: i) in January everything has disconnected as traditional linkages between asset classes have broken down, ii) also in January every major asset class (equities, treasurys, gold, oil) was up materially, iii) such a phenomenon has been seen only 5 times in the past 5 years, iv) a double digit decline followed 3 of the past 4 such surges. Then again, as Bob Janjuah lamented earlier, when a bunch of bespectacled economists who have never held a real job in their academic careers since transplanted with banker blessings to various central bank buildings, and who continue to plan the fate of the world in secrecy (a fate that can be summarized as follows: CTRL+P), as the only marginal decision makers, who really cares anymore?

Aspirin at the door

• German president resigns in blow to Merkel (Reuters)
• China central bank in gold-buying push (FT)
• Germany Seeks to Avoid Two-Step Vote on Greek Aid, Lawmakers Say (Bloomberg)
• Eurozone central bankers and the taboo subject of losses (FT)
• Bernanke: Low Rates Good for Banks in Long Run (WSJ)
• Cameron and Sarkozy to test rapport at talks (FT)
• Chinese Enterprises encouraged to invest in US Midwest (China Daily)
• Goldman Sachs Group Inc. and Morgan Stanley have reduced their use of "mark-to-market" accounting (WSJ)
• Regulators to raise trigger for rules on derivatives (FT)

There are those who have been waiting to buy undilutable precious metals in response to a headline announcement from the Fed that it is starting to buy up hundreds of billions of Treasurys or MBS.  This is understandable - after all that is precisely the trigger that the headline scanning robots which account for 90% of market action in the past year are programmed to do. And the worst thing that one can do is put on the right trade at the wrong time. Yet it may come as a surprise to some, that while the world was waiting, and waiting, and waiting, for Bernanke to hit the Print button, virtually every other central bank was quietly unleashing it own mini tsunami of liquidity. In fact, as Morgan Stanley puts it, "the Great Monetary Easing Part 2 is in full swing." But wait, there's more: in an Austrian world, where fundamentals don't matter and only how much additional nominal fiat is created is relevant, it is sheer idiocy to assume that the printers will stop here... or anywhere for that matter. They simply can't, now that the marginal utility of every dollars is sub 1.00 relative to GDP creation. This means that by the time the Global Weimar is in full swing, we will see much, much more easing. Sure enough, MS anticipates an unprecedented additional round of easing in the months ahead. So for those waiting to buy gold et al at the same time as DE Shaw's correlation quants do, the time will be long gone. Because slowly everyone is realizing that it is not the Fed that is the marginal creator of fake money. It is everyone.