GAAP

As the investing world celebrates the all time nominal high of an archaically-weighted index of an ever-changing basket of stocks, there is another - this time unprintable asset - that appears in all-time high demand - firearms. Smith & Wesson just released earnings not only with record high revenues but increasing their outlook dramatically for fiscal year 2013. The surge in 'background checks' and sales since the election (and furthermore since the Tragedy in Newtown) continues (+29% YoY) and as SHWC notes "The tragedy in Newtown has understandably inspired an important national discussion about how to cope with violence in our communities - we possess a broad range of products and a highly flexible manufacturing operation. Taken together, these allow us to be highly responsive should the market and/or legislative developments drive a change in sales mix."

The 2011 changes by the FDIC to the safe harbor for "true sales" may have been the end of "Too Big To Fail."

One of the recurring memes of the now nearly 4 years old "bull market" (assuming the recession ended in June 2009 as the NBER has opined), is that corporate profits are soaring, and that despite recent weakness in Q4 earnings (profiled most recently here), have now surpassed 2007 highs on an "actual" basis. For purely optical, sell-side research purposes that is fine: after all one has to sell the myth that the US private sector has never been healthier which is why it has to immediately respond to demands that it not only repatriate the $1+ trillion in cash held overseas, but to hand it over to shareholders post-haste (see recent "sideshow" between David Einhorn and Apple). However, a problem emerges when trying to back this number into the inverse: or how much money the US government is receiving as a result of taxes levied on these supposedly record profits. The problem is that while back in the summer 2007, or when the last secular peak in corporate profitability hit, corporate taxes peaked at well over $30 billion per month based, the most recent such number shows corporate taxes barely scraping $20 billion per month!

One of the first axioms of analysis is: "Garbage In, Garbage Out"! If your data is flawed, everything you do with it and the decisions stemming from it are flawed and dangerous to your financial health. Experienced analysts will often be found relentlessly checking, rechecking and validating their inputs and assumptions. If only our economists and the sell side analyst community were this diligent. But then it isn't their money. Only a year-end bonus for the 'extras' in their life is at risk. If economic practitioners were held to higher standards of accountability, they simply wouldn't accept the raft of fundamental data points that are the pillars of most economic assessment. Markets have become so dysfunctional with so much cheap money chasing so few real opportunities, that collateral values within the rehypothecation process are now in jeopardy and exposed to collateral contagion. The question is - what would things look like if the Fed wasn't engaged in Monetary Malpractice?

The fact that this report exists, confirms to me that some Fed members are increasingly uncomfortable with those risks.

The purpose of asset purchases by the Fed might no longer be improvements in the real economy, but rather a more subtle financing of U.S. government deficits. However, in the long run, expanding the money supply inevitably leads to inflationary pressures. Luckily for the Fed and the U.S. government, there is so much slack in the labour market that inflation might be years away. And, if we are right about the long run unemployment rate being structurally higher, then the Fed has all the room it needs to continue Quantitative Easing (QE) to infinity. This might allow them to continue to hide the true financial position of the government for many years to come. Nonetheless, the rising GAAP deficit and the sheer size of the U.S. Federal Government’s liabilities to its citizens makes it clear that one day or another, services (health care, social security) will have to be cut. Financial alchemy can hide reality, but it does not provide any tangible services. Europe’s (unresolved) experience with its debt crisis provides an insightful window into the future. Austerity measures in Ireland, Portugal, Spain and Greece have caused tremendous pain to their citizens (25% unemployment rates) and wreaked havoc in their economies (double digit retail sales declines). Are we going to ignore the obvious?

There has been an burst of exuberance as of late as the market, after four arduous years, got back to its pre-crisis levels.  Much has been attributed to the recent burst of optimism in the financial markets from: better than expected earnings, stronger economic growth ahead, the end of the bond bubble is near, the long term outlook is getting better, valuations are cheap, and the great rotation is here - all of which have egregious holes. However, with the markets fully inflated, we have reached the point that where even a small exogenous shock will likely have an exaggerated effect on the markets.  There are times that investors can safely "buy and hold" investments - this likely isn't one of them.

With minutes to go, this is what the world (according to the Google machine) is thinking ahead of Apple's earnings... and what the market expects...

As the video denotes below, here we have big brother traded on an exchange

The algos have gone nuts after hours, but here are the numbers:

• GOOGLE 4Q REV. EX TAC $11.34B, Exp. $12.36
• GOOGLE 4Q AVERAGE COST-PER-CLICK FELL 6% VS YEAR AGO
• GOOGLE 4Q EPS EX ITEMS $10.65, EST. $10.50

Fraudulent Chinese corporations are nothing new - we have been warning about them since late 2010, spurring the creation of a cottage industry focused exclusively on unmasking such public reverse merger companies (and generating trading profits along the way). One company, however, which apparently was completely unaware of the now pervasive and proven for the past two years Chinese corporate fraud, is US industrial titan Caterpillar. This was made clear when, after hours on Friday night naturally, the company revealed that it had been misled by "deliberate, multi-year, coordinated accounting misconduct" at a subsidiary of a Chinese company it acquired last summer, leading it to write off most of the value of the deal. In the process it would also take a $580 million, or $0.87 cent charge to earnings, which would wipe out more than half its expected earnings of $1.70 for the fourth quarter of 2012. One wonders, however, is there more to this story than just a case of a gentle, naive board duped by fraudulent, evil, cunning "Chinamen" which may have watched one too many episodes of Autonomy does Hewlett Packard?

Over a year ago we noted that when it comes to Bank of America "earnings", items which traditionally are classified as non-recurring, one-time: primarily litigation and mortgage related charges, have now become recurring, and all the time, courtesy of the worst M&A transaction of all time - the purchase of Countrywide and its horrifying mortgage book. Today, this is finally being appreciated by the market where even the pompom carriers have said that it is time to start ignoring the endless addbacks and focus on actual earnings. The same cheerleaders have also, finally, understood that the primary source of "profitability" at this lawsuit magnet of a company, is nothing other than the accounting trick known as loan loss reserve releases - not actual profits but merely bottom line adjustments whose purpose is to mitigate the impact of quarterly charge offs on loans gone horrible bad. Remember that Bank of America has some $908 billion in total consumer loans and leases, and every day hundreds of millions of these go 'bad' and ultimately have to be discharged, offset by "hopes" that the future will improve. This hits both the balance sheet and the P&L. So, if one steps back and ignores the non-recurring, one-time noise, what emerges? A truly frightening picture.

One of the biggest "givens" of the New Normal was that no matter what happens, US corporations would build their cash hoard come hell or high water. Whether this was a function of saving for a rainy day in a world in which external liquidity could evaporate overnight, whether it was to have dry powder for dividends and other shareholder friendly transactions, or to be able to engage in M&A and other business transformations (but not CapEx, anything but CapEx), corporate cash swelled to over $2 trillion (the bulk of it held in deposit accounts, or directly invested in "cash equivalents" i.e. risk assets, in banks in the US and abroad). Whatever the use of funds, the source was quite clear: ever declining interests rate which allowed corporate refinancings into ever lower cash rates, a "buyer's market" when it comes to employees, the bulk of which have been transformed into low paid geriatric (55 years and older), part-time workers: the only two categories that have seen a steady improvement in employment since the start of the second great depression, and low, low corporate taxes (for cash tax purposes; for GAAP purposes it is different story altogether). So some may be surprised that the great corporate cash hoard build appears to have finally tapered off. As the chart below from Goldman shows, after hitting an all time high of 11.2%, the ratio of S&P500 cash to total assets has once again started to decline.

Just because CNBC's ridiculous "Rise Above" campaign has ended in abysmal failure (because who could have possibly imagined that the pin is not mightier than the utter dysfunction that is America's Congress), does not mean that other companies besides the Comcast-GE JV can't try their hands at an advertising campaign that piggybacks on politics. Sure enough, here is the company that an infamous movie made famous as Planet Starbucks, making a desperate plea to its readers to please "come together", think of the children, and "fix the debt." The same Starbucks that apparently had no such qualms as recently as a few months ago when it was revealed that the same company paid virtually no taxes in the UK, thereby quite directly contributing to "unfixing the debt."