Free Money

How Another Housing Bubble Was Blown … And Why

The conventional wisdom is that oil should decline in nominal price as global demand weakens along with the global economy. In the hot-money-seeks-a-new-home scenario outlined above, demand could decline on the margins but speculative inflows - demand for oil contracts by speculators - push prices higher, potentially a lot higher in a geopolitical crisis. The central banks that are creating all the "free money" that is available to large speculators fulminate against oil speculators, as if all the free money is only supposed to go to "approved" speculations in equities and bonds. Unfortunately for the central bankers, they only create the money, they don't control what the financiers who get the free money do with it. Gasoline is expensive at the pump, but by one measure oil is cheap and poised to go higher and despite the endless MSM hype about U.S. energy independence and U.S. exporting energy abroad, the U.S. still imports over 3 billion barrels of crude oil every year and when oil becomes expensive: the economy sinks into recession.

UPDATE: S&P 500 futures plunged back to the lows of the day as soon as cash closed.

The streak is alive. For the 20th Tuesday in a row, The Dow Jones Industrials have closed green. With an average gain of 80 points, since 1/25, the Dow is up an impressive 11% but absent Tuesdays is merely unchanged at +0.2%. Today saw significantly volatility in stocks though with Nikkei and S&P futures giving up all their gains at one point only to bounce back into the close for a glorious victory. Volatility was everywhere as the collapse of the JGB market spills over. VIX rose 0.5 vols to 14.5% (disagreeing with stocks). FX markets jerked and gapped with JPY ending down around 1% from Friday's close. Commodities diverged today with Copper and Oil rising and Gold and Silver sliding even with the 0.75% gain on the USD this week. High yield credit slid lower all day but we suspect this was dominated by rate risk as Treasury volatility exploded. 10Y yields rose by their most (+16.5bps or 5-sigma) since Oct 2011 to close at their highest since April 2012.

The problem with trying to solve all our structural problems by injecting "free money" liquidity into financial Elites is that all the money sloshing around seeks a high-yield home, and in doing so it inflates bubbles that inevitably pop with devastating consequences. As noted yesterday, the Grand Narrative of the U.S. economy is a global empire that has substituted financialization for sustainable economic expansion. In shorthand, those people with access to near-zero-cost central bank-issued credit can take advantage of the many asset bubbles financialization inflates. Those people who do not have capital or access to credit become poorer. That is the harsh reality of neofeudal, neocolonial financialization. It is widely accepted as self-evident that all these bubbles will not pop because the central banks won't let them pop. That's nice, but if this were the case, then why did stocks crater in 2000-2001 and 2008-2009, and why did the housing bubble implode in 2008-2011? Did they change their minds for some reason? No; they assured us right up to the moment of implosion that everything was fine, there was no bubble, etc. The only logical conclusion is that bubbles pop even though central banks resist the popping with all their might.

The collective state of mind in the USA these days may be even more peculiar than what went on in Germany in the early 1930s, when the Nazis were freely elected to lead the country and reconstructed the battered national psyche into a superman cult that soon beat a path to mass death and ruin. America has its own way of going crazy. We don't goose-step to tragedy; we coalesce into an insane clown posse and stumble into it by pratfall -- juggaloes dancing backwards off the cliff edge. A subset of our master wish has been on vivid display in recent months, namely the idea that God has blessed the USA with a limitless supply of new oil that will allow us to keep driving to WalMart forever. Most of the current "endless oil" fantasy revolves around shale oil. Apart from the issue of sheer economic suffering and all the damage that will ensue from the realization of the falsehoods and propaganda, consider that it will be generations before anyone believes the "authorities" again.

It’s painfully clear for all to see that the majestic United States is now firmly caught in the rapacious stranglehold of financial elites which have completely captured it in a grotesque gamed monetary process.  Our country’s once idealistic and industrious free market economy has been hijacked and is undeniably being fraudulently and overtly financialized by the craven clutches and maniacal machinations of a contemptible self-seeking banking class. They have become nothing more than avaricious parasites disgustingly feeding from the grand trough of our treasured human ingenuity and self-respecting industry.

Aside from light volume there’s no argument with the tape. It’s quite positive but much overbought. Earnings news is beginning to wane leaving less for bulls to respond to. Many previous reliable technical indicators are succumbing to all the money printing. Looking at those markets where QE is not taking place perhaps reveals the real market conditions.

The mainstream media was cock-a-hoop to use Warren Buffett's recent diatribe against being a bond buyer (because prices are artificially high due to the Fed creating phony money and at some point the Fed will stop) as more evidence that stocks are the only game in town. TrimTabs' CEO Charles Biderman questions Buffett's seemingly disingenuous one-sided perspective - "stocks are just as vulnerable as bonds to the Fed withdrawing the narcotic known as free money, why does Mr. Buffett say stock prices are reasonable? To me, logic says stocks are just as overpriced as bonds." Biderman's point is that one cannot look at one market without implications for the other, and as we have noted numerous times, the only thing that matters is the flow (not the stock) of the balance sheet expansion. The Fed is buying up the entire US Government deficit and then some, Biderman explains, "that means there is lots of extra cash floating around the financial markets bidding up the prices of not just bonds but stocks as well;" so while we agree with Mr. Buffet that at some point bond prices have to drop significantly, so do stocks.

Presented with no comment - because none is needed...

Federal Reserve Chairman Bernanke is a Reverse Robin Hood, robbing from the lower 95% and giving to the financier class. It's worth understanding the mechanisms of this wealth transfer: in essence, the Fed extends low-cost credit (i.e. "free money") to the financier class which then uses this free money to buy rentier assets, that is, assets that generate economic rents for the owners, who add no value and create no wealth. This is of course the neofeudal model. Goebbels would approve of the Fed's masterful propaganda campaign: rob the bottom 95% to benefit the financier class, all the while piously proclaiming that its policies were aimed at increasing employment for the bottom 95%. In terms of propagandistic chutzpah, it doesn't get any better than this. Congratulations, Bernanke, Yellen, et al.

The economy has changed in structural ways; preparing for the old economy is a sure path to disappointment. Millions of young people will be graduating from college over the next four years, and unfortunately, they will be entering an economy that has changed in structural ways for the worse. It's easy to blame politics or the Baby Boomers (that's like shooting fish in a barrel), but the dynamics are deeper than policy or one generation's foolish belief in endless good times and rising housing prices.

The bespectacled Robin to Buffet's Batman is at it again. After casting disparaging remarks about the hard-money fanatics of the world with his "only old jews like gold" comment last year, in a brief interview on CNBC today, Charlie Munger explained how "bankers should not be trusted" adding that "they are like heroin addicts." He was reflecting on the debacle that occurred in Cypriot banks of course - but his perspective is likely useful for a broader remit of investment professionals with endless fungible free money as their backstop. So that's the pair; hard- and soft-money partakers be damned. The irony of his firm reporting dramatically better-than-expected profits on the back of a surge in insurance-selling (not at all like CDS) is not lost on us.

With macro data becoming worse and worse (more and more bullish for Fed free money) and stocks off to the races (despite earnings that are abysmal), we thought a litle reminder of just what is driving this un-reality in nominal price moves. As the following chart, inspired by UBS, shows, each time the S&P 500 shows any sign of weakness, US money grows dramatically (money defined as the sum of M2 and foreign custody repo-able holdings at the Fed). Simply put, this is the reaction function of the Bernanke Put and explains why any weakness in Europe causes problems for the US - as the foreign banks repatriate and impact this 'growth' support. Correlation is not causation, but it is a strong hint.

When news hit the tape in February of 2007 that TXU would be acquired by a consortium of PE firms including KKR, TPG and Goldman, for the mind-boggling price of $45 billion, to this day the biggest LBO in history, there were those who were morbidly excited about the future as money was flowing freely, bonuses would hit a record, and there was only upside, and then there were those who knew this was the can't miss top-tick indicator of the beginning of the end. The latters ones turned out to be right. And not only because a year later the entire financial system imploded and only a $25 trillion global coordinated bailout prevented the collapse of the western way of life as we know it, but because now six years later, in the worst kept secret of Wall Street of the past month, TXU, now known as Energy Futures Holdings, is on the verge of the ultimate humiliation for private equity investors: Chapter 11, and a complete wipe out of not only the equity but major impairment of the debt holders as well.

The debate about the usefulness of sovereign credit default swaps (SCDS) intensified with the outbreak of sovereign debt stress in the euro area. SCDS can be used to protect investors against losses on sovereign debt arising from so-called credit events such as default or debt restructuring. With the growing influence of SCDS, questions arose about whether speculative use of SCDS contracts could be destabilizing - and this caused regulators to ban non-hedge-related protection buying. The prohibition is based on the view that, in extreme market conditions, such short selling could push sovereign bond prices into a downward spiral, which would lead to disorderly markets and systemic risks, and hence sharply raise the issuance costs of the underlying sovereigns. The IMF's empirical results do not support many of the negative perceptions about SCDS. In particular, spreads of both SCDS and sovereign bonds reflect economic fundamentals, and other relevant market factors, in a similar fashion. Relative to bond spreads, SCDS spreads tend to reveal new information more rapidly during periods of stress, admittedly with overshoots one way or the other. Given the current apparent 'stability' in many nations' bond market spreads, the chart below suggests an alternative way of judging what the credit market thinks - the volume of protection bid - and in this case some interesting names emerge.