No One is Buying Real Gold, They’re Just Betting On Higher Gold Prices

Sound familiar?  (Hint:  Goldman’s Global Oil Scam Passes the 50 Madoff Mark!, and Oil Manipulation Info.) – Ilene

No One is Buying Real Gold, They’re Just Betting On Higher Gold Prices

Courtesy of Joshua M Brown, The Reformed Broker 

 

Mainstreet USA

This is a remarkable story.  I am not calling for either higher or lower gold prices as this is a forecast-free blog.  I will say that depending on how you interpret the facts, your outlook, bullish or bearish, may change.

The LA Times offers us an interesting look at the divergence between the activity of gold speculators and that of the buyers of real gold, be it coins or jewelry.  The data is based on the third quarter 2009 versus Q3 ‘08…

From the LA Times:

Data from the World Gold Council show that the surge in the metal’s price to record highs ($1,146.40 an ounce as of Friday) hasn’t been accompanied by record purchases of the real thing.

The council’s report put total global purchases of gold in the quarter that ended Sept. 30 at 800.3 metric tons, down 34% from the 1,205.6 tons bought in the third quarter of 2008.

Buying was down in the third quarter versus a year earlier in every major category of gold consumption, including jewelry (the biggest single source of demand), industrial use, coins and purchases by exchange-traded funds.

Now this can be a price-demand issue, higher prices for the raw material keeping buyers away at the retail level…

Gold bought as jewelry, for example, reached 673.3 tons in the third quarter of 2008, when gold’s price was mostly below $900 an ounce. In the third quarter of this year, with the price mostly above $900 and on its way to $1,009 by the quarter’s end, the amount of the metal bought as jewelry totaled 473.5 tons, down 30%.

Surprisingly, while the US Mint is continuing to produce, some major mints around the world are holding back:

Interestingly, the Austrian government mint is betting otherwise, at least in the near term: The mint, the world’s biggest producer of gold coins, recently said it planned to cut output by 32% in 2010, figuring that an improving global financial system will slash gold demand from investors.

An analyst from Kitco Metals is calling the rally in gold entirely speculative in the article.  At some point, either the real buyers of physical gold come in to chase these speculative bets or the spec guys see their castle made of clouds dissipate.

Either way, the action going into the end of the year will be interesting.

Sources:

Under Speculators’ Influence (LA Times)

 

Where the Wild Things Are

This week, John Mauldin discusses our trash currency and the dollar carry trade. Could the dollar go bump in the night and jump up and bite you…? – Ilene

Where the Wild Things Are

Courtesy of John Mauldin, Thoughts from the Frontline

Where the Wild Things Are
It Is Not Just Japan
The Euro-Yen Cross and the Dollar Carry Trade
New York, London, and Switzerland

From ghoulies and ghosties
And long-leggedy beasties
And things that go bump in the night,
Good Lord, deliver us!

–Old Scottish Prayer

Where the Wild Things Are is a beloved children’s book and now a beautiful movie. But in the investment world there are really scary wild things lurking about in the hidden recesses of the economic landscape. Today we look at one of the unintended consequences of the Federal Reserve’s low interest rate policy.

For quite some time, I have been arguing that we are faced with no good choices, not just in the US but in the entire "developed" world. I see a low-growth, Muddle Through world over the next years (with a double-dip recession just to liven things up). However, that does not mean that we will lack for volatility. Things could get volatile rather quickly. Let’s quickly set the background.

It Is Not Just Japan

Let’s look at today’s interest rate picture. Yesterday, we had the bizarre occurrence of banks actually paying the government to hold their cash. Three-month treasuries yield a miniscule 0.01% in interest. If you opt to buy a one-year bill you get all of 0.26%. You can see the entire spectrum below.

Look at the graph of the yield curve below. It is as steep as we have seen it in a long time. But that is almost the point. Banks are essentially getting free money. If you are a banker and can’t make money in this environment, you need to quit and find meaningful employment.

 

And that is part of the rationale that the Fed espouses with its low interest rate regime. Not only does it allow banks to repair their balance sheets, it also encourages investors to put money into riskier assets in order to get some return on their investments. Over $260 billion has gone into bond funds this year, and just $2.6 billion into stock funds. However, you have to balance that with the fact that some $400 billion has left money market funds paying less than 0.2%. So there is some movement to capture yield.

But is it just banks that are getting cheap money? And is encouraging investors to find riskier assets a sound policy? Maybe not.

The Euro-Yen Cross and the Dollar Carry Trade

I wrote a great deal in the past few years about the strong correlation of the euro-yen cross to stock markets all over the world in general. (The euro-yen cross is the exchange rate of the euro and the Japanese yen.) This was a proxy for the Japanese carry trade. The stock markets of the world rose and fell in synchronization with the yen versus the euro.

A currency carry trade is a strategy in which an investor sells a certain currency with a relatively low interest rate and uses the funds to purchase a different currency yielding a higher interest rate. A trader using this strategy attempts to capture the difference between the rates, which can often be substantial, depending on the amount of leverage used.

The Japanese drove their rates down to essentially zero in the 1990s. By early 2007, it was estimated that the yen carry trade was over $1 trillion. But when the world credit crisis hit, the world wanted dollars. They paid back the yen and bought dollars, driving the yen higher and killing the yen carry trade. Who wants to borrow in a currency that continues to rise, even if the costs are low? And often, large leverage was used, so small movements in the currency could destroy outsized amounts of capital.

But now, there are some who are beginning to ask whether there is a dollar carry trade. In the last nine months, the correlation between the dollar and the stock market has gone to about 90%. If the dollar rises, the stock markets and other risk assets tend to fall, and vice-versa. It would appear that investors and funds are borrowing cheap dollars on a short-term basis and investing in all sorts of risk assets. Not only have stock markets risen, but so have high-yield bonds, commodities, and so on.

We have seen the steepest rise in US stock markets coming out of a recession since the end of the last world war. The market is "discounting" a 5% GDP next year and a profit rebound beyond anything in past experience. Depending on the quarter, operating earnings are expected to rise by anywhere from 30-40%. P/E ratios are back at 23, well above the 17 we saw in the summer of 2007 (I am using 4^th quarter 2009 estimates so as to not have to take into account the disastrous 4^th quarter of last year.)

Worrying about a dollar carry trade is not just a preoccupation of my friends Nouriel Roubini or David Rosenberg or Frank Veneroso. Look as this story from Bloomberg:

China’s Liu Says U.S. Rates Cause Dollar Speculation

"Nov. 15 (Bloomberg) — The decline of the dollar and decisions in the U.S. not to raise interest rates have caused "huge" speculation in foreign exchange trading and seriously affected global asset prices, said Liu Mingkang, chairman of the China Banking Regulatory Commission."

"The continuous depreciation in the dollar, and the U.S. government’s indication, that in order to resume growth and maintain public confidence, it basically won’t raise interest rates for the coming 12 to 18 months, has led to massive dollar arbitrage speculation," he told reporters in Beijing today at the International Finance Forum.

"Liu said this has ’seriously affected global asset prices, fuelled speculation in stock and property markets, and created new, real and insurmountable risks to the recovery of the global economy, especially emerging-market economies.’

"His view echoes that of Donald Tsang, the chief executive of Hong Kong, who said the Federal Reserve’s policy of keeping interest rates near zero is fueling a wave of speculative capital that may cause the next global crisis."

"’I'm scared and leaders should look out,’ Tsang said in Singapore Nov. 13. ‘America is doing exactly what Japan did last time,’ he said, adding that Japan’s zero interest rate policy contributed to the 1997 Asian financial crisis and U.S. mortgage meltdown."

It is not just China. Brazil has moved to impose a tax (or tariff) on investment money coming into the country on a shorter-term basis, as they are worried about both a bubble in their markets and in their currency. Russia is openly considering similar policies.

I have been doing a lot of speaking in the last month. In almost every speech, I warn of the significant imbalance in the dollar. I walk to the very end of the stage to help illustrate that the world now has on a massive ABD trade. By that I mean Anything But Dollars. Everyone is now on the same side of the boat. They have borrowed dollars to buy other risk assets, assuming that the dollar, like the yen in the glory days of the yen carry trade, will continue to fall. Dollar bears are everywhere.

Explanations abound for why the dollar is a trash currency. [Is it] Fed policy, or the Obama administration’s willingness to run massive deficits, or the trade deficit or our health-care policy or (pick any number of issues). But I wonder.

Global trade collapsed last year and well into this year. Global trade was essentially done in dollars. If global trade is down 20% or more, then there is less need for companies in various countries to hold dollars and more need for local currency because of the crisis. Thus, after a rush to safety in the credit crisis, there is a rational selling of dollars by business.

Look at the above chart. Notice that the dollar is roughly where it was 20 years ago. And notice the recent jump during the credit crisis. We are not even back to where we were before the crisis.

What happens if world trade picks back up, as it appears to be doing? Admittedly, it is not a robust recovery as yet, but it is rising. That means more need for dollars. And dollars which are being borrowed (and probably leveraged!) on the assumption the dollar will continue to fall.

And I agree that, over time, the case for the dollar is not as good as I would like. But in the meantime, we could have one very vicious dollar rally, which would take equity markets down worldwide, along with other risk assets. Why? Because it would be a major short squeeze.

Barron’s just did a survey. It revealed that the bullish sentiment on stocks is quite high and almost everyone hates US treasuries (graph courtesy of David Rosenberg of Gluskin, Sheff)

Whenever sentiment gets too strong in one way or the other, it is usually setting up the markets for a rally in the despised asset. Mr. Market like to do whatever he can to cause the most pain to the largest number of people.

I am not predicting a near-term crash or imminent precipitous bear, although in this environment anything can happen. I am merely noting that there is an imbalance in the system. The longer this imbalance goes on, the more likely it is that it will end in tears. And the irony is that a recovering world economy could be the catalyst.

The Wild Things? They may be hiding in a portfolio near you. Just food for thought. Stay nimble.

New York, London, and Switzerland

I am going to hit the send button on what may be the shortest e-letter I have ever done. The travel is catching up with me and I need some rest.

I am looking forward to Thanksgiving next week. It may be my favorite holiday. Family, friends, food, and football. My usual pattern is to get up very early Thursday and start the prime slow-cooking, and then turn to the side dishes. It will be no different this year. My brother will bring the smoked turkeys, which he has down to an art form. And then there are the over-the-top wines I was so graciously given this past birthday by so many friends. I will bring a few of those bottles out….

Your "there’s no place like home" analyst,

John Mauldin

Sign up for more Mauldin here.>>

Disclaimer here.>>

 

Stop the madness now!

Excellent post on the economy and saving it (or not) by Edward Harrison at Credit Writedowns. (My yellow highlighting) – Ilene

Stop the madness now!

This is a post I just wrote over at Yves Smith’s site Naked Capitalism in response to a reader request. Marshall Auerback has already written a reply as well and I will post this later today.

A reader at Naked Capitalism asked us to respond to a recent article from the Christian Science Monitor asking Does US need a second stimulus to create jobs?

Marshall Auerback has already done some heavy lifting. He says emphatically yes. Now I want to take a crack at this. My short answer is no. But before I go into this, as an aside, I wanted to mention Marshall’s new smiling, happy picture up at the great blog New Deal 2.0 where he now writes.  Earlier, when Credit Writedowns was hosted at Blogger, he used a picture best described as a mug shot in his profile, but he has changed that one too (although he smiles there a little less). He thinks we haven’t noticed this sleight of hand.  Well I have! Once upon a time, Marshall wrote with a man I called all bearish, all the time this summer. Take a look at that post; you don’t see him smiling now do you? We have Lynn Parramore, New Deal 2.0’s editor to thank for making Marshall Auerback into an optimist.

Different policy choices

But all teasing aside, I do want to take the opposite side of this trade.  You see I too was a deficit hawk. And while I may have been backing fiscal stimulus, I have felt conflicted for doing so. Here’s how I see it. 

You have four options:

1. No stimulus. Let the chips fall where they may. Yves Smith calls this the ‘Mellonite liquidationist mode.’ The thinking here is that trying to avoid the inevitable bust only makes it that much larger. And the economic policies during recessions in 1991 and 2001 seem to bear that out. The Harding Recession of 1921 is commonly seen as gold standard response.
2. Monetary stimulus only. Quantitative easing mania. My understanding is this is what Ambrose Evans-Pritchard has been advocating.   The thinking here is that the flood of money and the low rates will eventually jump start the economy. No deficit spending needed.
3. Monetary and fiscal stimulus.  Full tilt Keynesian. This is the Krugman view. The thinking here is that one needs to credibly commit to higher inflation and close the output gap to avoid a deflationary spiral. If that is insufficient, then one needs to go full bore on fiscal stimulus aka deficit spending. And if that doesn’t work, subsidize jobs. The New Deal is commonly seen as the gold standard response.
4. Fiscal stimulus only. Deficit spending. I have been talking up this view. The thinking here is that we need to both close the output gap to prevent a deflationary spiral and revive private sector savings in order to promote deleveraging.

There is no magic bullet here.  We are living through a situation unique in time with few historical precedents. And there are a lot of competing ideas being tossed about. So policy makers are groping around, desperately seeking the holy grail of depression-busting economic policy.  In that regard, I don’t envy them. They are certainly going to make a lot of mistakes. It may seem at times that I don’t realize this given the harshness of my critiques, but I do.

Deficit hawks are misguided

However, there are some policies which could work and others which are flat out wrong.  One policy which is flat out wrong is the concept that we need to reduce deficit spending in order to avoid a double dip recession. This flies in the face of basic economics which says that more spending and less taxes equals greater demand and recovery/boom. More taxes and less spending equals less demand and recession/depression.

Now, it’s not as if we didn’t see this line of argument coming. As far back as November 2008, I heard the chatter (see my post here). So you knew this we-have-to-stop-or-we’ll be-bankrupt nonsense was coming. The problem is it’s just not true.  Here are a few data points:

• Private sector debt (incl. financial firms) was 292% of GDP as of Q2 but public sector debt (incl. state and local municipalities) was 67.2%. Who’s more indebted – the private sector by a factor of 4.
• Adding unfunded liabilities to any public debt number when talking about spiking treasury rates is inaccurate and artificially inflates the number. A lot of people do this to make the public debt scenario look worse. The issue at hand is whether a supply/demand imbalance in Treasury securities spikes interest rates. Unfunded liabilities have absolutely nothing to do with this.
• Cash and bonds are fungible. They are both obligations of the federal government to be repaid in full with a specific sum of fiat money. The Treasury could literally stop issuing government debt altogether and just start crediting accounts electronically to ‘fund’ its purchases. There is no operational constraint to government spending. The U.S. government is not going broke involuntarily. See my post here.

The real issue with deficits causing a double-dip has to do with inflation and overheating. If inflation increases because the economy begins to overheat, interest rates spike and the Fed raises rates to choke off inflation. That’s not going to happen any time soon – although it may be a problem down the line.  The issue at hand now is deflation not inflation. At least Morgan Stanley understands this when they take a deficit hawk position.

And as for the Chinese, they are not going to pull the plug on Treasuries unless they want to tank their export boom. The reason they must buy Treasuries is the dollar peg; they must re-invest in U.S.-based assets in order to prevent their currency from appreciating. This has caused a huge rise in their U.S. dollar reserves. If they changed the peg, their currency would almost certainly rise and this would choke off exports.

No more stimulus, just jobs

I have said my piece about the need for stimulus in the past. So I won’t repeat it here. If you are interested, see my December 2008 posts “Confessions of an Austrian economist,” “What does Mises say about trying to stimulate the economy out of recession,” and “A brief philosophical argument about the role of government.”

But, on the whole, I look at long-term deficits in a dubious light. There are practical constraints to deficit spending – and they lead to inflation, currency depreciation and lower standards of living. This is not national bankruptcy, but it is what Murray Rothbard called default by inflation and it makes you and me less well off.

This, of course, is over the long-run. In the short run, it is the spectre of a deflationary spiral we care about. Stimulus was important to stop this. I said in February that Obama was making a big mistake with his stimulus measures.

My view here is that Obama is forging a middle path that leads to a dead-end. The stimulus is not nearly enough by half to get the job done. The proposed deficit reduction measures for 2013 are outright scary as they risk repeating a mistake from the 1930s. And the banking sector and mortgage plans, both of which I failed to mention, are dubious half-measures as well. One needs to act aggressively and proactively or not at all.

If you are going to deficit spend you need to do it in a big way. You need to stop the deflationary spiral.  That means hitting the reset button by promoting private sector savings and deleveraging and purging all built-up malinvestments. The risk in addressing the situation this way, of course, is replacing the imperfect invisible hand of markets with the imperfect hand of politicians and legislative fiat.

This is a risk I no longer see as worth taking. I have bailout and deficit fatigue just like most Americans. It is abundantly clear that this Administration has absolutely zero intention of purging any malinvestment or promoting any deleveraging. All they want to do is continue business as usual and go back to the asset-based economy that caused this mess. This is why we have seen bailout after bailout coupled with easy money. It makes for record profits on Wall Street but it does nothing for the unemployed.

Moreover, the political process in the U.S. is such that any stimulus money will be diverted to pet projects and used to pay off political constituents. While this may increase aggregate demand, it does so at the risk of serious social unrest as the outrage will certainly spill over into populism.

So I say no to a second (third) stimulus package.  What the President needs to focus on is jobs. The reason Obama’s poll numbers are shrinking is because he now owns this economy.  And people are not benefitting from this fake recovery.  They are angry at the bailouts and distrustful of government – and with good reason.

Cut payroll taxes, subsidize job creation, divert some military spending to direct job creation by ending the foreign wars. But stop the madness.

 

Time Lapse Unemployment Visualization

Time Lapse Unemployment Visualization

Courtesy of Mish

Inquiring minds are watching The Geography Of A Recession, a time lapse unemployment visualization from the start of the recession until now.

Click on the link to play. This is undoubtedly my shortest post ever.

Mike "Mish" Shedlock

 

Is America Finally Starting to Stand Up To Wall Street?

Is America Finally Starting to Stand Up To Wall Street?

Courtesy of Washington’s Blog

Are the American people finally starting to stand up to Wall Street?

Shareholder Revolt

Some of Goldman Sach’s biggest shareholders are demanding that executive compensation be reduced. As the Wall Street Journal notes:

Their complaints in private conversations with the company and at analyst meetings show how anger over its big-money culture is spilling into the ranks of investors who typically shy away from debates over Wall Street pay.

Protests

There were the protests outside of the Bankers Association meeting in Chicago. See this, this, this, this, this and this.

If you don’t think that more – bigger – protests are coming, you haven’t been paying attention.

Debtor’s Revolt

Debtors are revolting against exorbitant interest rates and fees and other aggressive tactics by the too big to fail banks. See this, this, and this.

Congresswoman Kaptur advises her constituents facing foreclosure to demand that the original mortgage papers be produced. She says that – if the bank can’t produce the mortgage papers – then the homeowner can stay in the house.

Portfolio manager and investment advisor Marshall Auerback argues that a debtor’s revolt would be a good thing.

And even popular personal finance advisor Suze Orman is highlighting the debtors revolt phenomenon on her national tv show.

Congress Is Starting to Get the Message

The American people are shouting so loud at their congress members and Senators, that even some of the most pro-Wall Street congressman are starting to get it.

For example, the Congressional Black Caucus has been hearing so much about how congress is failing to address the crisis of unemployment from their constituents, that the CBC delayed Barney Frank’s proposed financial reform.

The House Financial Services Committee received so many phone calls from constituents that it approved the Ron Paul/Alan Grayson bill to audit the Fed and defeated the trojan horse alternate bill written by Mel Watt. Indeed, I have heard from congressional sources that the only calls to support the Watt alternate bill were from the Fed itself. And see this.

The Committee also approved Congressman Grayson’s bill to rein in foreign currency swaps.

Both Geithner and Summers are coming under increasing pressure to resign due to their being in bed with Wall Street.

Even Bernanke’s re-appointment is no longer certain.

And Obama’s approval ratings have now dipped below 50%, largely due to his mishandling of the economic crisis.

As Congressman Peter DeFazio notes:

There were a lot of Democrats who were "upset and nervous with" the handling of the economy by the administration.

"It is pretty embarrassing for a Democratic administration and a Democratic Congress to be identified with total attention to Wall Street and nothing for Main Street and jobs," he said. "There are a lot of Democrats who… want to see something more effective done to create employment."

DeFazio insisted that President Obama and, by extension, the Democratic Party were hampered by Geithner’s policies for economic recovery. He pointed to the inability of the administration to spur small business lending and the lack of effective TARP oversight as particularly egregious examples of mismanagement. More than anything else, the Oregon Democrat deemed it untenable for the president to continue employing his current economic team given the taint of Wall Street that clings to many of those advisers.

"I have had a number of people say to me, ‘I feel the same way you do but I’m not going to say it.’ People are worried it will rub off on the president who still enjoys popularity," he said. "I tell them I still support the president. I just think he is being poorly served by his economic team."

"The truth of the matter," DeFazio added, "is that we have not changed the way the money is being used. It is not being used for the purpose it was supposed to be used for. We are not creating jobs and we have not aggressively taken on the culture of Wall Street"…

One of his chief concerns was that the president appeared enamored with the lords of finance. "The administration has, thus far, not threaded the needle here," he said. "They have taken care of Wall Street but not the rest of the country."

Are the American people are finally starting to awaken?

We’ve been down this road before
Shown worse devils to the door

Throw off our chains of slavery
Now is the time to set ourselves free
And reclaim our liberty …

They bought the politicians and the news
They’ve got all the weapons (which they like to use)

But they are few and we’re billions strong
We are the giant … been sleeping for too long
Time to wake up and sing our victory song
- The Voice

The elites hate to acknowledge it, but when large numbers of ordinary people are moved to action, it changes the narrow political world where the elites call the shots. Inside accounts reveal the extent to which Johnson and Nixon’s conduct of the Vietnam War was constrained by the huge anti-war movement. It was the civil rights movement, not compelling arguments, that convinced members of Congress to end legal racial discrimination.
- PhD Economist Dean Baker

Anger is a great force. If you control it, it can be transmuted into a power which can move the whole world.
- Sivananda

The power of an aroused public is unbeatable.
- Dr. Helen Caldicott

The most powerful weapon on earth is the human soul on fire.
-Ferdinand Foch

In times of danger large groups rise to the highest pitch of enthusiasm, courage and sacrifice . . . Mankind will be refashioned and history rewritten when this law is understood and obeyed.
-Helen Keller

You let one ant stand up to us – then they all might stand up. Those puny little ants outnumber us a 100 to one. And if they ever figure that out, there goes our way of life.
- Hopper (a grasshopper who is the leader of the gang of thugs who are stealing from the other bugs, speaking to fellow grasshoppers in the Disney/Pixar movie A Bug’s Life)

 

The FDIC Anesthesia Is Wearing Off

Here are a couple articles from Elliott Wave International on bank safety, credit expansion and the FDIC. – Ilene  

The FDIC Anesthesia Is Wearing Off

Courtesy of Robert Prechter of Elliott Wave International

The following article is an excerpt from Robert Prechter’s Elliott Wave Theorist. For more information from Robert Prechter on bank safety, download his free report, Discover the Top 100 Safest U.S. Banks.

Perhaps the single greatest reason for the unbridled expansion of credit over the past 50 years is the existence of the Federal Deposit Insurance Corporation, another government-sponsored enterprise created by Congress. The coming rush of bank failures is an outcome made inevitable the very day that Congress created the FDIC. The reason is that the creation of the FDIC allowed savers to believe that their deposits at banks are “insured” against loss.

But the FDIC is not really an insurance company. No enterprise, absent fraud, could possibly insure all the banking deposits in a nation. Nor does the FDIC do so, despite its claims. The FDIC is like AIG, the company that sold too many credit-default swaps. It contracted for more insurance than it could pay upon. Because depositors believe the sticker on the door of the bank, they have abdicated their responsibility to make sure that their banks’ officers handle their deposits prudently. This abdication allowed banks to lend with impunity for decades until they became saturated with unpayable debts.

Today, most banks are insolvent, and the FDIC is broke. This condition is deflationary for three reasons: (1) Banks are coming to realize that the FDIC cannot bail them out in a systemic crisis, so they have become highly conservative in their lending policies, as described above. (2) The main way that the FDIC gets its money is to dun marginally healthy banks for more “premiums” (meaning transfer payments) to bail out their disastrously run competitors. The more money the FDIC sucks out of marginally healthy banks, the less money those banks have on hand to lend, which is deflationary. (3) The banks that have to cough up all this money will become more impoverished at the margin, so banks that otherwise might have survived a credit crunch will be thrown even closer to the brink of failure. This is another deflationary risk.

A friend of mine whose family owns a bank told me that the FDIC recently raised its 6-month assessment from $17,000 to $600,000. In the FDIC’s latest announcement, it is considering requiring banks to pre-pay three years’ worth of “premiums,” i.e. triple the normal annual fee in a single year. It will be a miracle if the money lasts through 2010. When these funds are gone, the FDIC will have two more options: to issue its own bonds and pressure banks to buy them; and to tap its “credit line” of up to half a trillion dollars with the U.S. Treasury. It’s the same old solution: take on more new debt to back up failing old debt. More debt will not cure the debt crisis.

Meanwhile, the FDIC is contributing to the deflationary trend. It has “tightened rules on required capital levels,” which forces banks’ loan ratios to fall; and it has “extended its extra monitoring of new banks from the first three years of operation to seven years” (AJC, 11/19), meaning that banks will now have to wait four additional years before they can go crazy with loans.

For more information from Robert Prechter on bank safety, download his free report, Discover the Top 100 Safest U.S. Banks. You’ll learn how to find a safe bank, the critical difference between lending and banking, tips on international banking, and more.

More than 130 banks will have failed by the end of 2009. Is Your Bank Safe?

By Gary Grimes, courtesy of Elliott Wave International

Please understand that this article is about more than safeguarding your money; it’s about saving you headache and heartache. It’s about giving you peace of mind.

Before I explain, please allow me to ask a few questions:

• Have you given much thought about the money in your banking accounts lately? Do you know if it’s safe?
• Have you thought about what might happen if your bank fails?
• Did you know you could be left in the lurch for days, weeks, even months before you get your money back from the FDIC?
• What happens if the FDIC can’t cover your funds?
• How do you find a safe bank to protect your deposits right now?

I hope you’ve given these questions some serious thought.

I have to be honest: These questions were about the farthest things from my mind until about a year ago, when I downloaded the free "Safe Banks" report from my colleagues at Elliott Wave International. At first, the report scared me: I thought, "Oh My Gosh! I could lose all of my money if my bank fails. What would I do?"

But as I read on, I figured out that the report was not only about making my money safe; it was about giving me peace of mind.

If you’ve read any of the following news items, perhaps you understand the fear of learning your money might not be safe. Here’s a recent story from Bloomberg:

Sept. 24 (Bloomberg) — In May, the FDIC said it was projecting $70 billion of losses during the next five years due to bank failures. The agency said it expects most of those collapses to occur in 2009 and 2010.

The FDIC’s problem is that it didn’t collect enough revenue over the years to cover today’s losses. The blame lies partly with Congress. Until the law was changed in 2006, the FDIC was barred from charging premiums to banks that it classified as well-capitalized and well-managed. Consequently, the vast majority of banks weren’t paying anything for deposit insurance.

Of course, we now know it means nothing when the FDIC or any other regulator labels a bank “well-capitalized.” Most banks that failed during this crisis were considered well-capitalized just before their failure.

By the end of 2009, more than 130 banks will have failed. Most depositors will have little clue their bank was even at risk. Worse yet, the string-pullers in Washington are doing everything in their power to hide information about the safety of your bank from you.

So far, the FDIC has had enough money to cover insured depositors. But that money is quickly running out.

Just last week, the FDIC voted to mandate early payment of insurance premiums to help cover at-risk banks. But only time will tell if this move will provide the funds needed in the years ahead. Here’s what the Associated Press reported on Thursday, Nov. 12:

WASHINGTON (AP) — U.S. banks will prepay about $45 billion in premiums to replenish a federal deposit insurance fund now in the red, under a plan adopted Thursday by federal regulators.

The Federal Deposit Insurance Corp. board voted to mandate the early payments of premiums for 2010 through 2012. Amid the struggling economy and rising loan defaults, 120 banks have failed so far this year, costing the insurance fund more than $28 billion.

Worse yet, three more banks failed the very next day, Friday, Nov. 13.

This is a very real problem and a direct threat to your money. It’s more important now than ever to personally ensure the safety of your bank. The free 10-page "Safe Banks" report can help. It includes the very latest bank safety ratings from the third quarter of 2009 to help you prepare for what’s still to come this year and next.

Inside the revealing free report, you’ll discover:

• The 100 Safest U.S. Banks (2 for each state)
• Where your money goes after you make a deposit
• How your fractional-reserve bank works
• What risks you might be taking by relying on the FDIC’s guarantee

Please protect your money. Download the free 10-page "Safe Banks" report: Learn more about the "Safe Banks" report, and download it for free here.

Gary Grimes focuses on mass psychology, U.S. stocks and the U.S. economy. Gary has a bachelor’s degree in journalism from Auburn University in Auburn, AL, where he was first turned on to the Austrian School of economics by way of the world-famous Mises Institute. His study of classical liberalism eventually led him to discover the Elliott Wave Principle and Robert Prechter’s theory of socionomics.

Robert Prechter, Chartered Market Technician, is the world’s foremost expert on and proponent of the deflationary scenario. Prechter is the founder and CEO of Elliott Wave International, author of Wall Street best-sellers Conquer the Crash and Elliott Wave Principle and editor of The Elliott Wave Theorist monthly market letter since 1979.

More free material from EWI:

 

 

 

 

Largest U.S. refiner Valero now permanently shutting capacity

Largest U.S. refiner Valero now permanently shutting capacity

Courtesy of Edward Harrison at Credit Writedowns

Valero Energy has just announced it is shutting down its Delaware City Refinery.  This is a major news announcement because refiners should be seen as a canary in the coalmine for end-user demand and Valero is one company in the oil patch which has been loath to cut workers to improve the bottom line. This announcement is an indicator that, despite a technical recovery, the economy still has major obstacles to overcome.

Business Wire reports:

Valero Energy Corporation (NYSE: VLO) announced today it intends to permanently shut down its Delaware City refinery due to financial losses caused by very poor economic conditions, significant capital spending requirements and high operating costs. The shutdown will affect approximately 550 employees at the plant.

Valero notified refinery employees today of the impending shutdown, and will immediately begin negotiations with the refinery’s unions regarding the effects of the plant closure and the employees’ severance packages. A safe and orderly shutdown of the refinery will commence immediately. Valero remains committed to its marketing businesses in the Northeast and will continue to reliably supply its customers, partially through higher throughput rates at the company’s other refineries.

“The decision to permanently close the Delaware City refinery was a very difficult one,” said Valero Chairman and CEO Bill Klesse. “We have spent the last year diligently trying to avoid this situation, and I have worked closely with Gov. Markell in an effort to find a different outcome. Earlier this fall, we shut down the gasifier and coking operations in an attempt to improve reliability and financial performance, but the refinery’s profitability did not improve enough. Additionally, we have sought a buyer for the refinery, but feasible opportunities have not materialized. At this point, we have exhausted all viable options.

“We realize that the decision to close the refinery affects many employees, their families, and the community. We are thankful to our employees for their service, and we will treat them fairly during this difficult period.”

In the fourth quarter of 2009, the company expects to report a pre-tax charge of approximately $1.7 billion to $1.8 billion, or $2.00 to $2.15 per share after taxes, related primarily to asset impairment, employee severance and other shutdown costs. The company estimates the cash portion of the pre-tax charge will be in the range of $125 million to $150 million. The current and historical financial results of the affected operations will be shown as discontinued operations in the company’s financial statements.

The new CEO Bill Klesse came to Valero via Ultramar Diamond Shamrock (UDS), which Valero acquired at the top of the market in 2001. So, company ethos may be different than under Bill Greehey who was very committed to community. And Delaware City is an old Getty/Shell-Motiva oil refinery and a legacy asset of Blackstone-controlled Premcor, the company run by former Tosco head and Salomon Brothers commodities trader Tom O’Malley. So, it was not core to Valero’s operations. Valero already cut staff there in September. And the Shell-Motiva JV had serious operating difficulties with the asset before offloading it to Premcor.

Nevertheless, this was a refinery which has been upgraded significantly to process less expensive heavy, sour crude oil. The fact that Valero is laying off workers and shuttering the entire site tells you that the situation is bad. They are saying in effect “we cannot continue to operate at a loss through this business cycle.” If Valero can’t make money, no oil refiner can.

I see this in a macro context as a sign of cyclically weak end-user demand.  I do think peak oil is for real but the world is awash in oil and oil products right now.  Witness the recent post by FT Alphaville’s Izabella Kaminska, which points to a glut of distillate entering the season of high distillate demand:

We feel it’s Olivier Jakob at Petromatrix who really expressed the matter best on Friday. As he wrote (emphasis FT Alphaville’s):

As per our Tuesday ad hoc note on floating stocks; on a crude equivalent basis all of the OPEC and half of the IEA estimated oil demand growth for 2010 is already parked at anchor in floating stocks and these idled cargoes filled with oil are getting more and more attention.

By the end of the winter there is likely to be as much distillates afloat as in the total US at the end of winter 2007 and we expect that it will be more and more difficult for some of the Wall Street commodity banks to avoid mentioning the subject and to continue to hide the floating storage fill-up as “demand from emerging economies”.

The ICE Gasoil contango is currently widening and this will not work towards the reduction of these floating stocks. In an environment of spare refining capacity the only solver to the growing floating stocks of Distillates is a sharp reduction in OPEC supplies [ahem…Daily Mail], but only lower prices would trigger that.

The only answer that we see to GOD (Glut of Distillate) is a flat price correction sharp enough to force more OPEC supply cuts. Starting 2010 with WTI at 80+$/bbl and a contango in a low demand environment there will not be much returns to be expected from commodities by some of the largest financial institutions; hence with the evidence of the GOD being harder and harder to hide we would not be surprised if in a few weeks some of the Wall Street commodity banks start to change their tune and start to publicize the GOD. A flat price correction would anyway be needed in the first quarter to allow a repositioning from the large financial players at better entry levels.

Which, of course, doesn’t mean banks have been hoarding oil in a bid to drive the prices up. It means, if anything, they’ve been too slow to acknowledge the extent of the oversupply in the market and degree of muted demand, as well as depended too much on the idea that economic recovery will help spur demand by the year’s end.

Meanwhile, as Jakob states, the solution to the glut lies in Opec shut-ins — not more output.

The fact that oil is trading at $80 a barrel in this climate should tell you that it is trading more as a financial asset than on supply/demand imbalances. Is this why Warren Buffett is buying yet more oil assets? Watch refining margins; they are telling indicators.

Disclosure: I have owned owned shares and call options in Valero and other refiners for a number of years, but I sold all positions in 2007.

 

Steve Meyers: A Rolling Top in US Stocks

Steve Meyers: A Rolling Top in US Stocks

Courtesy of Jesse’s Café Américain

Equities are floating on thin volumes and thick liquidity.

It may float further, and await any event to end this rolling top and spark selling that could be quite impressive.

But for now stocks are range bound, within a mild uptrend.

Here is Steve Meyers view.

How Nicolas Cage Spent His Way To The Poorhouse

I really enjoy Nic Cage’s work (such as Leaving Las Vegas, one of the most depressing movies ever) and wish him the best… Ilene

How Nicolas Cage Spent His Way To The Poorhouse

Courtesy of Clusterstock, by Vince Veneziani

Nicolas Cage is a big movie star with an even bigger name.

A member of the famous Coppola family, Cage spent lavishly over the years, accumulating 9 Rolls Royces, 30 motorcycles, exotic pets, multiple luxury vehicles, a castle, and homes throughout the world. It’s no wonder he’s now being hunted by the IRS for tax evasion – he’s broke!

Currently, Cage owes $6.5 million in back taxes and is being sued by former business manager Samuel Levin.

Click here to see how Cage spent his money>>>

See Also:

Nicolas Cage Blames Money Manager for “Financial Ruin”

Wealthy Taking Housing Crisis Hit

*****

Ouch.

California Students Protest 32% Tuition Hike; State Budget Gridlock II Coming; Massive Deficits In San Francisco

And it’s not like high-school graduates who can’t afford college have JOBS waiting for them…. – Ilene

California Students Protest 32% Tuition Hike; State Budget Gridlock II Coming; Massive Deficits In San Francisco

Courtesy of Mish

Massive fiscal problems confront California once again. Let’s start with a look at California students hit with 32% hike in tuition.

California undergraduates and their parents just got hit with a 32% increase in tuition by next summer.

With hundreds of angry students chanting outside their meeting at UCLA, the California Board of Regents approved the $2,500, two-step fee hike, which will raise the basic tuition at the 10-campus University of California system to $10,300 a year. That’s three times what it cost a decade ago. Other fees, books, and room and board adds an additional $16,000.

With the state $21 billion in the hole and slashing funding for education, the regents said they had no choice. At the same time, UC is restricting new admissions in a bid to save money.

More increases seem inevitable.

UC President Mark Yudof has asked for $913 million more next year for the UC system and says he "can’t make any promises" to not raise fees again if the state doesn’t come through. "When you have no choice, you have no choice," Yudof said after a regents’ committee endorsed the fee plan Wednesday. "I’m sorry."

California Deficit Hits $21 Billion

California is back in another deep hole. A $21 Billion Fiscal Shortfall Could Mean More Cuts, Higher Taxes and the Return of IOUs to Meet Obligations. Please consider Budget Gap Widens in Sacramento.

California is deep in red ink again, according to a new report projecting that the cash-strapped state faces a $21 billion budget shortfall through June 2011.

Facing so much fiscal red ink, Californians could see another round of spending cuts and tax increases. Since September 2008, state lawmakers have enacted three budgets to close a cumulative $77 billion shortfall. They closed the gap largely through spending cuts and tax increases, but also with federal-stimulus funds and one-time accounting gimmicks. At one point, California was so close to insolvency it was forced to issue IOUs.

The report’s conclusions now raise the likelihood of another lengthy impasse among the state’s hyper-partisan legislators that could threaten California’s solvency and force officials to again resort to IOUs.

Republicans, including Gov. Arnold Schwarzenegger, are opposing tax increases. Democrats, who control the state legislature but fall short of the two-thirds majority needed to pass budgets, vow to resist new spending cuts.

Mr. Schwarzenegger, who will release a budget proposal in early January, has said the state needs more across-the-board cuts. "I think it’s important not to raise revenues, not to raise taxes," he said Wednesday at a conference in Milan, Italy. "We have to live within our means."

The new budget report said $6 billion of the projected shortfall in the current fiscal year is largely due to unrealistic budget assumptions about tax revenue and spending on schools and prisons.

A chunk of the remaining $14 billion deficit forecast for the 2010-2011 fiscal-year budget would result from the expiration of temporary budget solutions, such as use of federal-stimulus funds and accounting gimmicks, according to the report.

California Gridlock II Coming

History is about to repeat. A $21 billion budget deficit gridlock threatens to send Sacramento back into gridlock.

"There is no more to cut from our schools," California Teachers Assn. President David Sanchez said Tuesday. "There is no more meat on this bone. . . . The next step is amputation."

In higher education, Chancellor Charles Reed of the Cal State University system said this month that he will plead for $884 million in funds from Sacramento next year. The University of California will ask for $913 million more for its 10-campus system, President Mark Yudof has said.

"If ever there was a time to fight for and invest in the institution best positioned to power this state from recession, now is that time," Yudof said in a statement. UC students, meanwhile, are coping with a staggering 32% fee hike.

California’s finances have been so bad that the governor’s finance director, Mike Genest, told a budget forum in Washington last week that back in February he had combed through the U.S. Constitution to research whether California could legally declare bankruptcy — or revert to some kind of territorial status. (Neither was realistic, he determined.)

The state’s financial problems predate the current recession and the gimmicks used to paper over the deficit, experts say. Year in and year out, state government spends roughly $10 billion more than it collects in tax revenue.

Political divisions in Sacramento, where support from both parties is necessary to pass a budget, have repeatedly stymied efforts to plug that hole. The task probably won’t be easier next year as various interests try to muscle one another to the sidelines.

Budget Woes In San Francisco

It’s not just the state that is in trouble. The San Francisco Chronicle reports S.F. home value drop, jobless drain city budget.

San Francisco’s lowered home values and high unemployment rates have created another unwelcome side effect: far less revenue coming into city coffers than expected.

A report released Monday by the controller’s office shows that property tax revenues will likely be $35 million less than anticipated in the 2009-10 fiscal year that began July 1. Payroll tax revenues will probably be $24.8 million less than expected, the report said.

To make matters worse, some city departments are going over budget, including shortfalls of $5.1 million in the Fire Department, $4 million in the Sheriff’s Department and $3.2 million in Superior Court.

"I don’t even know if I have words to describe how bad this is," said Steve Kawa, Mayor Gavin Newsom’s chief of staff. "It may be the perfect financial storm," Kawa said. "It’s going to be incredibly difficult to find a way to balance next year’s budget without some severe impacts."

In the near term, the fight over midyear cuts could get ugly. Already, several supervisors are at odds with the mayor over the supervisors’ plan to approve spending $7 million to rescind more than 500 layoff notices going into effect this week for city and school district workers.

Supervisor Sean Elsbernd said he expects the $35 million figure to wind up being conservative. He said 350 property owners had filed appeals by this time two years ago, and their properties were worth a total of $2 billion. This year, the 4,000 property owners represent property totaling $25 billion.

Elsbernd said that’s why the board needs to get serious about major fiscal reform, including employee health benefits and retirement systems.

"These numbers are dramatic," he said. "We need to go after the big money now. A clip here, a clip there doesn’t get it done."

Rest assured everyone in California is going to get clipped one way or another, and probably multiple ways at once.

What an incredible mess.

Yet, there is still little talk about cutting pensions, fixing the prison system, privatizing services, or doing anything about illegal immigrants. Those are items that should be at the top of the discussion list.

Mike "Mish" Shedlock

Why T-Bill Yields Just Returned To Crisis Levels

Why T-Bill Yields Just Returned To Crisis Levels

Courtesy of Vincent Fernando at Clusterstock

In case you missed it, treasury bill yields went negative yesterday (to -0.03%) which means investors were willing to lose money in order to own them. This is a very rare occurrence.

Even simply keeping cash under your pillow would earn a higher return, in either an inflationary or deflationary environment. So negative yields, no matter how small, clearly don’t make any investment sense.

When this happened back during the end of last year, Post-Lehman, one potential reason was that institutional investors were so panicked that they simply wanted to protect the value of their capital as much as possible. The only way to do that within their scope of options was to buy U.S. treasury bills, even if they had to accept a small negative return.

Yet investors certainly aren’t as panicked as they were last year. So what’s going on this time?

The FT (via FTAlphaville) ‘The growing appetite for short-term government debt reflects an effort by banks to present pristine year-end balance sheets to regulators and investors – a practice known as “window dressing” on Wall Street, analysts said.’

And…

Across The Curve: Typically as the year end approaches clients tend to unwind profitable trades and reduce balance sheet. I think that some of that deleveraging process has created new piles of cash and that money needs a place to park.

Others are preparing to beautify their balance sheet by having some pristine government paper on the books over year end. Some of that trade has begun as investors purchase paper which will carry them into 2010.

Thus this time around it appears there is simply too much money that wants to sit tight and look respectable come year-end. Which means that we shouldn’t read too much from the negative T-Bill yield and this will eventually rebound back to at least 0%, once the year-end regulatory dance comes to an end.

See Also:

Post-Lehman Deja Vu As T-Bill Yields Turn Negative

Demand For Yield Caused The First Bubble, And It’s Happening Again

CHART OF THE DAY: Investors Are Only Interested In High-Yield Junk

 

The Markit Group: A Black-Box Company-questions/answers

At the end of this article, I posted Mark Mitchell’s answers to a few questions I had after reading this article. His answers should help in understanding the complex mechanism of how CDS pricing manipulation would work to the market’s detriment. – Ilene

The Markit Group: A Black-Box Company that Devastated Markets

Courtesy of Mark Mitchell at Deep Capture

Although much attention has been directed at the contribution made by credit default swaps  to the financial crisis, most discussion has focused on the companies, such as American International Group (AIG), that posted big losses because they sold these instruments without sufficient due diligence.

Another line of inquiry has not been pursued, however, though it is of equal, and perhaps greater, significance. That line of inquiry concerns the way in which the prices of credit default swaps effect the perceived value of all forms of debt — corporate bonds, commercial mortgages, home mortgages, and collateralized debt obligations — and as a result, the ability of hedge funds manipulators to use credit default swaps in bear raids on public companies.

If short sellers can manipulate the price of credit default swaps, they can disrupt those companies whose debt is insured by the credit default swaps whose prices are manipulated.  The game plan runs as follows: find a company that relies on a layer of debt that is both permanent, and which rolls over frequently (most financial firms fit this description). Short sell that company’s stock. Then manipulate the price of the CDS upwards, preferably into a spike, as you spread the news of the skyrocketing CDS price (perhaps with the cooperation of compliant journalists at, say, CNBC).

Because the CDS is, in essence, an insurance policy on the debt of the company, the spiking CDS pricing will cause the company’s lenders to panic and cut off access to credit. As this happens, the company’s stock will nosedive, thereby cutting off access to equity capital. Thus suddenly deprived of credit and equity, the firm collapses, and the hedge fund collects on its short bets.

Moreover, credit default swap prices are the primary inputs for important indices (such as the CMBX and the ABX) measuring the movement of the overall market for commercial and home mortgages.  In the months leading up to the financial crisis of 2008, short sellers pointed to these indices in order to argue  that investment banks – most notably Bear Stearns and Lehman Brothers – had overvalued the mortgage debt and property on their books. Meanwhile, several hedge funds made billions in profits betting that those indexes would drop.

It should therefore be a matter of some concern that credit default swap “prices” and the indexes derived from them are determined almost entirely by a little company with zero transparency and, it appears probable, a high exposure to influence from market manipulators. The company is called Markit Group, whose owners include investment banks Goldman Sachs (NYSE:GS) and JP Morgan Chase (NYSE:JPM), and there is every reason to believe that its CDS-driven indices (the CMBX, the ABX, and several others) are inaccurate, while the credit default swap “prices” that they publish and which rock the market are in fact  nowhere close to the prices at which credit default swaps actually trade.

Last year, the media reported that New York Attorney General Andrew Cuomo had sent subpoenas to Markit Group as part of an investigation into possible manipulation of credit default swap prices by short sellers. This investigation, like Mr. Cuomo’s other investigations into market manipulation, have yielded no prosecutions.

The Department of Justice is reportedly investigating Markit Group for anti-trust violations. This investigation (which is reportedly focused on how Markit Group packages and sells its information) seems to acknowledge that Market Group has near-monopolistic control of information about credit default swap prices. However, if the press reports are correct, the DOJ has not considered the possible appeal of this monopolistic control to market manipulators.

Meanwhile, Henry Hu, the director of the Securities and Exchange Commission’s division of risk, has said that it has been nearly impossible for the SEC to conduct investigations into any matter concerning credit default swaps because the commission does not have access to any data on the trading of CDSs. In itself, this is a shocking admission.  It is all the more shocking when one considers that the necessary data exists and might be in the hands of The Markit Group – a black box company based in London.

A thorough investigation of Markit Group is urgently required.

Here is what we know so far:

• Markit Group was co-founded by Rony Grushka, Lance Uggla, and Kevin Gould. Prior to founding Markit Group, Mr. Grushka’s main line of business was investing in Bulgarian property developments. He recently resigned from the board of Orchid Developments Group, an Israeli-invested company based in Sophia, Bulgaria. Messrs. Uggla and Gould formerly worked for Toronto-Dominion Bank in Canada.

• Markit Group’s founders also include four hedge funds. However, Markit Group refuses to disclose the names of those hedge funds. In response to an inquiry, a Markit Group spokesman said it was “corporate policy” to keep the names of the hedge funds secret, but he would not say why Markit Group had such a policy. It seems worth knowing whether those hedge funds have any influence over Markit Group’s published information or indexes, and whether those hedge funds are trading on that information. It would also be worth knowing whether those hedge funds or affiliated hedge funds have engaged in short selling of public companies whose debt and stock prices were profoundly affected by the information that Markit Group published.

• Goldman Sachs (NYSE:GS), JP Morgan Chase (NYSE:JPM) and several other investment banks also have ownership stakes in Markit Group. The investment banks received their stakes in exchange for providing trading data to Markit Group. It would be worth knowing whether these investment banks engaged in short selling ahead of Markit Group’s published indexes and price quotations.

• Markit Group is secretive about how it creates its indexes. In early 2008, The Wall Street Journal noted that the CMBX simply “doesn’t make sense” and that Markit Group’s indexes “might be exaggerating the amount of distress” in the home and commercial mortgage markets. In 2008, the average prediction for defaults on commercial mortgages was 2%. The CMBX implied that the default rate could be four times that level.

• When short seller David Einhorn initiated his famous public attack on Lehman Brothers, one of his central arguments was that the CMBX (the index that was likely “exaggerating the amount of distress”) proved that Lehman had overvalued the commercial mortgages on its books.

• In March 2008, the Commercial Mortgage Securities Association sent a letter to Markit Group asking it disclose basic information about how the CMBX index is created and its daily trading volume. “The volatility in the CMBX index, caused by short sellers, distorts the true picture of the value of commercial-mortgage-backed securities,” the group said in a statement.

• Markit Group is equally secretive about how it derives its “prices” for credit default swaps. A spokesman for the company spent close to one hour talking to Deep Capture. He did his job well and sounded like he was trying to be helpful. But he told us as little as possible.

• However, in the course of this conversation, we did learn that Markit Group’s “prices” are not actual, traded prices. They are mere quotations. The Markit Group has what it calls “contributors” – hedge funds and broker-dealers that provide it with information. Markit Group has a grand total of 22 “contributors.” Deep Capture asked Markit Group’s spokesman for the names of these “contributors.” The spokesman said he would try to find out the names and call back later. He never called back.

• The 22 “contributors” provide Markit Group with quotations, and these quotations become the Markit Group’s “price.” In other words, the “contributors” can quote any price for a CDS that they choose, regardless of whether anyone is actually willing to buy the CDS at that price. Markit Group looks at these quotations. Then it somehow decides which quotations make the most sense. Then it publishes information that purports to represent the actual market price of that CDS. This process is certainly unscientific. And it is ripe for abuse.

• Consider, for example, the Markit Group “price” for CDSs insuring the debt of company X.  The Markit Group price strongly suggests that company X is going to default on its debt in the immediate future. Short sellers eagerly point to the Markit Group CDS “price” as evidence that company X is doomed. Panic ensues, and suddenly, company X really is doomed. But the fact is, nobody ever bought a company X CDS at the price quoted by Markit Group. Rather, that panic-inducing “price” was, in effect, pulled out of a hat. Who pulled it out of a hat? That is matter of immense importance. There are two possible scenarios:

• The first possible scenario is that the 22 “contributors” report their quotations in good faith. They should be sending the actual traded price, not just a quotation, but assume they are just doing what was asked of them. From these quotations, Markit Group somehow decides what the “price” should be. It is possible that this decision is based on some secret formula (which would be worrisome); or it is possible that Markit Group executives sit around a table debating what the price should be and take a shot in the dark (which would be even more worrisome); or it is possible that Markit Group deliberately chooses the most horrifying price possible in order to assist the short sellers who are affiliated with its owners (which would be a matter for the authorities).

• The second possible scenario is that Markit Group acts in good faith (if not scientifically), but one or more of the 22 “contributors” or their affiliates has an interest in seeing company X fail. If just one of those “contributors” sends in an astronomically high quotation, that could be enough. Markit Group factors the absurd quotation into its posted “price” and it suddenly becomes possible to convince the world that company X is about to default on its debt.  Panic ensues, the firm’s layer of debt dries up, the stock price plunges, and perhaps the “contributor” or its affiliate make a lot of money.

• As Deep Capture understands it, CDS quotations suggested by the 22 “contributors” also help determine the movement of the CMBX and ABX indexes. The movement of these indexes did serious damage to the American economy in multiple ways. The  indexes prompted write downs at most of the major banks and mortgage companies. They were ammunition for short sellers, like David Einhorn, who claimed that companies had cooked their books by not writing down to the rock bottom prices suggested by the Markit Group indexes. They helped precipitate the decline in prices of mortgage securities, and contributed mightily to the panic that spread across the markets.  A lot of people made a lot of money as result of those indexes moving downward. So, it is rather important to know more about how those indexes are formulated, and if they can be driven by the same people who are making directional bets on their movements.

Conclusion: Ten years ago, there was no such thing as a credit default swap. Six years ago, a very small number of investors traded credit default swaps as hedges against the long-shot possibility of corporate defaults. Nobody looked to credit default swaps as reliable indicators of corporate well-being.

Then, suddenly, there were over $60 trillion in credit default swaps outstanding. That is, over the course of a few years, somebody had made over $60 trillion (many times the gross domestic product) in long shot bets that borrowers would default on their debt. As this derivative risk marbled through the system, the trading in credit default swaps was completely opaque. Nobody knew who bought them, who sold them, or at what price.

But starting in 2001, we knew the “prices” of CDSs. We knew the “prices” because two Canadians, a developer of Bulgarian real estate, and four mysterious hedge funds had founded a small, black-box company in London. That company, the Markit Group, achieved near-monopolistic power to publicize the “prices” through its magic process of aggregating quotation information provided by 22 hedge funds and broker-dealers who could well have been betting on the downstream effects of sudden price changes.

These “prices” were not prices in any meaningful sense of the term.  But, suddenly, these “prices” became perhaps the single most important indicator of corporate well-being. Assuming that those four hedge funds and the 22 “contributors” (or hedge funds affiliated with them) bet against public companies, it seems more than possible that short-sellers got to run the craps table, call the dice, and place bets, all at the same time.

So perhaps it is not surprising that a lot of long-shot rolls paid off quite nicely.

Mark Mitchell is a reporter for DeepCapture.com. He previously worked as an editorial page writer for The Wall Street Journal in Europe, a business correspondent for Time magazine in Asia, and as an assistant managing editor responsible for the Columbia Journalism Review’s online critique of business journalism. He holds an MBA from the Kellogg Graduate School of Management at Northwestern University. Email: mitch0033@gmail.com

***** 
 
Ilene: Are you saying the CDSs were quoted too high but the indices of them too low?  How are the CDSs related/or how should they be related to the indices?
 
Mark: CDSs are essentially insurance against the risk of default on debt. CDS prices are factored into the indices, which measure the price of subprime mortgage securities (ABX), commercial mortgage securities (CMBX) and other kinds of debt instruments. So when CDS prices increase, the indices presumably drop. 
 
Ilene: Could Markit’s numbers have been somewhat accurate, even though not based on actual buy and sell information regarding real trades?  What if they did not over-state weakness but were correct about it?
 
Mark:  There is a lack of transparency in how they formulate those "prices," raising questions as to why they were always astronomically high (in the case of CDSs) or low (in the case of their indices). The market is supposed to determine prices, not short sellers and a single black box company.
 
There are two questions. 1) How, exactly, does Markit formulate its indices? Nobody knows. 2) How does Markit calculate CDS prices? Answer: it doesn’t. It takes random quotations (rather than actual purchase prices) from 22 contributors and in some unknown fashion it picks a price.
 
Separately, there is the question of CDSs insuring debt of individual public companies. If the CDS price increases, short sellers suggest the company is expected to default on its debt. How do we know the actual CDS price to insure debt of, say, Company X?. Answer: we don’t. The actual traded prices are unknown. But Markit Group publishes a price. How does Markit Group determine its published price? Answer: Nobody really knows, except to say that Markit gets quotations (not actual market prices) from 22 contributors who can provide any price they want.
 
The property market would probably have crashed anyway. But if Markit’s published quotations and indices were not skewed, mortgage backed securities, collateralized debt obligations, and the investment banks might not have crashed as catastrophically as they did.
 
Hope that helps.  

 

SocGen: Prepare Yourself For The Worst Case Scenario!

SocGen: Prepare Yourself For The Worst Case Scenario!

Courtesy of Joe Weisenthal at Clusterstock

 

Yesterday, it was reported that analysts at SocGen had sent out a guide on what to do if the world goes completely to hell.

Well, the full report has surfaced, via ZeroHedge, and it’s very, very fun if you like doom and gloom.

Basically, they’re extremely concerned about public debt, and the effect that will have on developed economies, and they draw extensive parallels to Japan.

Now, see the presentation >>

See Also:

12 Places To Go If The World Goes To Hell

SocGen Analyst: Our Governments Are Insolvent, Gold To $6,300! (GLD)

SocGen Tells Clients: Here’s How To Bet On Total Global Collapse

 

Whoops: Stocks Now 20%+ Overvalued

Whoops: Stocks Now 20%+ Overvalued

Courtesy of Henry Blodget at Clusterstock

Stocks have jumped 65% from the March lows.  They have also blasted past fair value, which is about 900 on the S&P 500 on a cyclically-adjusted price-earnings ratio (see professor Robert Shiller’s chart below).  So, unless it’s different this time, they’re now more than 20% overvalued.

(Jeremy Grantham puts fair value at 880 on the S&P 500.  That seems a bit precise.  Let’s call it 900).

Of course, today’s overvaluation doesn’t tell you much about what stocks will do next week, next year, or even the next 5-10 years.  As the chart above shows, before the 2007 market crash, stocks were overvalued for the better part of 20 years–and observing that didn’t help you make money.  On the contrary, it usually got you fired.

What today’s valuation does suggest is that stocks are priced to return a bit less than average over the next decade, perhaps 3%-4% real per year (inflation adjusted), as compared to the 6%-7% average.

Today’s valuations also suggest that stocks may have gotten way ahead of themselves, especially in light of the structural problems that will continue to bog down the economy.

As the chart above illustrates, every one of the prior mega-busts in the past century has been followed by a "trough" in which the cyclically adjusted PE ratio hit the high single-digits.  We didn’t quite make it there in March (the P/E bottomed around 12X), although we did get close.

This, combined with what is likely to be a decade of deleveraging, consumer retrenchment, and sluggish growth as we work off our debt binge, suggests that we still yet might hit that single-digit low before we take off on another secular bull market, again.  This could be achieved either through another market crash, or a prolonged period of backing and filling as earnings growth gradually reduces the long-term PE ratio (this is what happened in the 1970s).

On the other hand, it is possible that that enormous stimulus and zero interest rates over the past two years will produce that "v-shaped" recovery.   At this point, given the extent of the recent rally, it would presumably have to be one heck of a "V" to send stocks soaring from here.  But the last eight months have already made idiots out of almost everyone.

See Also:

The Stock Market Rally That Turned Gurus Into Fools

Stocks Back To Fair Value!

DOW 5000, Revisited

Felix Salmon: Henry Blodget Should Be Banned From The Industry

Felix Salmon: Henry Blodget Should Be Banned From The Industry

Courtesy of Henry Blodget at Clusterstock

The king of financial bloggers, Felix Salmon, is annoyed by me.

Specifically, if I read him correctly, Felix is annoyed that:

1) I have a job that in a just world would belong to a normal out-of-work journalist who hasn’t been at the center of a huge financial scandal, and

2) I have not explained every last detail of my scandalous background in my Business Insider bio, which states merely that, at the end of my Wall Street career, I was "keelhauled by then-Attorney General Eliot Spitzer over conflicts of interest between research and banking."

Well, it is no fun to annoy the king of financial bloggers, so let me address these points, starting with the second one.

In the 7 years since I settled the widely publicized civil securities-fraud complaint brought against me by Eliot Spitzer and the SEC, I have contributed commentary to more than a dozen news organizations, including Slate, Fortune, NPR, MSNBC, CNN, FT, the BBC, The Atlantic, Forbes, The New York Times, Bloomberg, EuroMoney, Yahoo (I’m a host of their finance show, TechTicker), and CNBC.  When appropriate, I have gone to great lengths to detail every last bit of what had happened, so the readers, viewers, and listeners of these organizations would know exactly who they were dealing with (cue scary music).

In the early years, I also launched my own blog, Internet Outsider, in which I addressed what had happened in as much detail as I was able to.  (Thanks to various legal agreements, I have never been able to discuss the allegations publicly.  Eventually, when there’s not a soul left on earth who gives a damn, I’ll be able to tell my side of the story.  My grandchildren will love it!) 

Two years ago, when we launched Business Insider, I again frequently discussed what had happened to me, lest there were any readers who had not already gotten sick of my story.  This effort was made easier by the help of the folks who posted Eliot Spitzer’s press release in the comments whenever I said something they disagreed with.  Whenever possible, I responded to readers’ questions about the allegations as directly as I could.  And I continue to do so today.

I am glad to say that, 7 years after my run-in with Eliot, 2+ million readers a month are now giving me the chance to earn back their trust one post at a time.  As I have often said, I will forever be grateful for that. 

In case there are some readers who do not fully appreciate the depths of my alleged depravity, however, here’s a quick summary:

• From 1996-2001, I was a technology analyst on Wall Street

• From 1999-2001, I ran the global Internet research team at Merrill Lynch, where, in 2000, I was the top-ranked analyst in the industry

• In 2002, after I left Merrill, Eliot Spitzer attacked the way research analysts and investment bankers had worked together in the 1990s, alleging that the conflicts and tensions in this relationship had rendered some of my research fraudulent and/or misleading.  Eliot was kind enough to drop me from his lawsuit before settling with Merrill, but the SEC then brought the same civil charges against me. 

• In 2003, I settled the SEC’s charges without admitting or denying them.  In the context of this settlement, I "disgorged" an astronomical amount of money ($4 million) to compensate those I had allegedly defrauded.  I also agreed to a bar from the securities industry.

• From 2003-2007, I defended some of the hundreds of civil lawsuits that had been filed against me as a result of Eliot’s allegations.  The vast majority of these lawsuits, I am glad to say, were dismissed.  The others, I am even more glad to say, resulted in no judgements against me.

• In June of 2009, the SEC announced that it had finally figured out what to do with the $4 million I had given it to compensate those I had allegedly defrauded: Turn it over to the Treasury.  As it turned out, to my great relief, so few investors had filed grievances that my disgorgement had mostly accrued interest for six years.  And now, I am happy to say, it has been used to reduce the national debt.

• In August of 2009, I did a 45-minute video interview with Eliot Spitzer, in which we reminisced about our respective scandals, discussed politics, regulation, and Wall Street, and observed how ironic it was that the first step in each of our "comebacks" had been writing for Slate.  This interview was written up all over the place.

Over the years, I have described some of this for Business Insider readers (and others) who have not yet gotten completely bored of it.  Since we launched the site, I am also happy to say, I have not gotten a single complaint that my disclosure of my scandalous past is inadequate.

Until the king of financial bloggers became annoyed by me.

As I mentioned above, Felix is not just annoyed by my disclosure.  He is also irritated on behalf of journalists everywhere who have been downsized and now have no place to ply their trade.  If there was any justice in the world, Felix seems to be saying, one of these journalists would be sitting in my chair instead of me.

Well, let me first say to out-of-work journalists everywhere, I am sorry that the organization and industry that you poured your heart and soul into has cratered.  From the perspective of those getting disrupted, creative disruption sucks.  I can certainly sympathize with not being able to work in your chosen profession.  Happily, I can also respectfully suggest, that, with luck, your fresh start will lead to something better.

As to whether I deserve to be sitting my chair…

I feel like I do, in part because I helped create it.  Two years ago, where there is now a thriving company, there was nothing but air.  Now, thanks to the efforts of my colleagues, our investors, and our awesome readers and clients, Business Insider is read by more than 2 million people a month.  It has also, I am happy and proud to say, created 20 full-time jobs, including 10 for journalists.

In the next few years, if things go well, I hope we can employ 30 or 40 journalists.  This will not replace all the jobs wiped out by the collapse of the newspaper industry, but it will help ensure the success of the next generation of business journalism.  And, in some small way, it will help our economy crawl out of a hideous hole.

If we defy the odds and make that happen, will it erase my scandalous past?

Of course not. 

But, with luck, it will make the king of financial bloggers less annoyed by me.*

See Also: Blodget’s SEC Fine To Reduce National Debt By $4.2 Million

And Felix’s article:  Kicked out of finance, and into journalism

 

Short Term T Bills Go Negative

Short Term T Bills Go Negative

Courtesy of Jesse’s Café Américain  

Too many dollars chasing too few opportunities because of mispriced risk, so they are piling into short Term Treasuries again.

Grab something solid and hold on tight. Could be rough seas ahead.

Three Month T Bill Rates Go Negative On Concern Risk Rally Overdone
By Cordell Eddings

Nov. 19 (Bloomberg) — Treasury three-month bill rates turned negative for the first time since financial markets froze last year on concern that the rally in higher-yielding assets has outpaced the prospects for economic growth.

Investors were willing to pay the government to hold their money as stocks slid amid speculation the eight-month, 68 percent rally that drove the valuation of the MSCI World Index to the most expensive level in seven years already reflects forecasts for a 25 percent rebound in corporate earnings next year. Federal Reserve Bank of St. Louis President James Bullard yesterday said experience indicates policy makers may not start to increase interest rates until early 2012.

“As long as the economy is stuck in a rut and there are not viable fixed-income alternatives, they will buy Treasuries,” said George Goncalves, chief fixed-income rates strategist at Cantor Fitzgerald LP, one of 18 primary dealers that trade directly with the Fed.

Rates turned negative on some bills maturing in January, according to Sarah Sobeck, a Treasury trader at primary dealer Jefferies & Co. The three-month bill rate was at 0.0051 percent, the least this year. Six-month bill rates dropped to the lowest since 1958. Treasury bills turned negative last December for the first time since the government began selling them in 1929 as investors scrambled to preserve principal and were willing to sacrifice returns in the months following the collapse of Lehman Brothers Holdings Inc…

“Investors are preparing early for year-end and trying to ensure liquidity,” said Sobeck. “The move in the two-year resulted from the bid for collateral.”

Banks typically buy the safest maturities at the end of the year to improve the quality of assets on their balance-sheets…

Bill Gross, who runs the world’s biggest bond fund at Pacific Investment Management Co., said the “systemic risk” of new asset bubbles is rising with the Fed keeping interest rates at record lows.

“The Fed is trying to reflate the U.S. economy,” Gross wrote in his December investment outlook posted on the Newport Beach, California-based company’s Web site today. “The process of reflation involves lowering short-term rates to such a painful level that investors are forced or enticed to term out their short-term cash into higher-risk bonds or stocks.”

The central bank lowered its target rate to a range of zero to 0.25 percent in December and purchased $300 billion of Treasuries this year as part of its effort to lower consumer borrowing costs and support the housing market, the collapse of which triggered the worst slump since the Great Depression….

Kass: The Quant Bubble

Kass: The Quant Bubble

Courtesy of Jan-Martin Feddersen at Immobilienblasen

A must read…… Pflichtlektüre……
 

"When the music stops, in terms of liquidity, things will be complicated. But as long as the music is playing, you’ve got to get up and dance. We’re still dancing."

Chuck Prince, former chairman and CEO of Citigroup (told to the Financial Times on July 10, 2007).

Kass: The Quant Bubble TSC ( H/T Anti Lemming )

A portion of the sharp rise in several asset classes over the past few months could be the dominance of quant funds that worship at the altar of price momentum (and the self-fulfilling prophecy of the fund flows that follow the price momentum induced by the quants!).

By some estimates, this price-momentum-based quant trading now has doubled in significance since early in the year, to more than two-thirds of the average day’s trading. 

>I doubt that this figure is correct, but it is verry telling that combined with High Frenquency Trading the "Quants" are the main market force dominating trading…… Doesn´t give me much comfort that the recent gains are "sustainable" …… Especially after one of the biggest Bear Market Rallies ever….. Thank god the retail investor this time is smarter than the so called "smart money" ( 13th Straight Week Of Domestic Equity Fund Outflows As Market Rips 11% Over Same Period ) BRAVO ;-)

 

Trades initiated by these funds are insensitive to an underemployment rate approaching 18%, signs of an unsteady recovery in housing, the prospects for higher marginal tax rates and how we are going to finance our budget deficit, which hurdles ever higher.

If you don’t believe me about the growing quant fund influence, speak to any prominent institutional trader or salesman: They will tell you that their business with plain vanilla institutions is weak and that the quant funds are the ever growing whales of trading.

The pattern is all-too familiar as a new marginal buyer of an asset class dominates the market until they don’t.

Here is an anecdote that underscores the changing landscape and is reminiscent of other sectors hiring at tops. (To refresh your memory, this occurred several years ago in private equity and was followed by a sharp cyclical decline in private-equity deals.) At any rate, a subscriber wrote me a telling note recently about his son’s friend who attends Wharton and is "a genius in math and game theory." He was just hired by a high-frequency trading firm after being interviewed by 15 similarly talented employees at the firm. He is 20 years old and has been offered approximately $100,000 a year, with a bonus that can add up to an additional $100,000 a quarter! That’s far better than even the estimable Goldman Sachs pays!

Keep dancing if you will, but I continue to sit out the melt-up in stocks and the bubble in other asset classes. When investors/traders are arguably overinfluenced by prices (not fundamentals) that dominate the markets, and are all on a similar side, it has the potential to lead to a treacherous and slippery slope, as it did in 2007-08…

AMEN…..

Source:  Kass: The Quant Bubble

 

The Partnership Between Wall Street and the Government Will Continue Until the System Collapses

Happily, Jesse’s back at the Cafe, health restored quickly via a nice bottle of 2009 Noveau beaujolais. - Ilene

The Partnership Between Wall Street and the Government Will Continue Until the System Collapses

Courtesy of Jesse’s Café Américain 

“Hindsight is a wonderful thing,” said Timothy W. Long, the chief bank examiner for the Office of the Comptroller of the Currency. “At the height of the economic boom, to take an aggressive supervisory approach and tell people to stop lending is hard to do.” Post Mortems Reveal Obvious Risks at Banks, NY Times

Well, the boom is over, so what about now?

The current notional value of derivatives on US commercial banks’ balance sheets is $203 trillion. 97% of these ($196 trillion) sit on FIVE banks’ balance sheets, according to a recent report from that very same Office of the Comptroller of the Currency.

It is obvious from this report that Goldman Sachs is by no means a bank, and deserves no consideration as such. It is a hedge fund. In general, Wall Street is out of control.

[click on table to enlarge]

Today’s testimony by Timmy Geithner in front of the US Congress is interesting to watch. It serves to reinforce my opinion that the Administration is incompetent, caught in old solutions and the status quo, and that the Republican alternative is morally and intellectually bankrupt, given to demagoguery, and owned by a similar but slightly different set of special interests.

Most of the congress are indifferent to the interests of the American people as a whole, whether through self interest or mere cravenness, despite their occasional histrionics for the cameras. It is remarkable how they can act as outraged bystanders, when they have long been at the heart of the corruption and decline. It is their job to manage the government. They have classic American CEO amnesia and ‘incredible denial.’

The key to a general reform has long been campaign finance reform and a reduction of lobbying payments and campaign contributions as soft bribes to Congress. As the banks cannot regulate and reform themselves, at least according to John Mack’s recent advice to the American people, so the Congress and the federal government seem incapable of reforming and managing themselves. If one does it, they all want to do it, and in some ways they must to be competitive, if the administration of justice creates selective exceptions.

And too many in the States are yearning for a strong leader, someone who will tell them what to do. A great man, who will exercise authority with a directness and little or no discussion. Someone who will ‘put things right.’ The primary question seems to be less policy than fashion, whether to wear brown shirts or black, and whether torchlight is too ‘retro.’

On a brighter note, the Noveau beaujolais for 2009 is rather nice, dry almost to a fault, but not too tannic. A little more ‘fruitiness’ would have been a highlight.

 

Gross isn’t buying corporates, high yield or equities even with zero rates

Gross isn’t buying corporates, high yield or equities even with zero rates

Courtesy of Edward Harrison at Credit Writedowns

I pick up Bill Gross where I left him on Friday.  He said in his monthly newsletter that the Fed is going to keep interest rates at zero percent through 2010. But, he is not willing to stick his neck out in a liquidity seeking return kind of way even though this is what reflation is all about. He advises lower risk assets over higher risk ones cognizant that this could mean under-performance.

What I found interesting is that Gross highlighted only two bits in his piece. That should lead you to believe these are the most important points he makes.  The first bit is the rationale behind why he thinks the Fed is on hold through 2010:

The Fed is trying to reflate the U.S. economy. The process of reflation involves lowering short-term rates to such a painful level that investors are forced or enticed to term out their short-term cash into higher-risk bonds or stocks. Once your cash has recapitalized and revitalized corporate America and homeowners, well, then the Fed will start to be concerned about inflation – not until.

This is what’s called an asset-based recovery and is exactly the same model we followed in 1992 and 2002. the Federal reserve lowers rates so much that the cash in your pocket burns a hole in it. Grandma may be stuffing her dollars in a mattress, but investors judged against an investment benchmark get fired if they don’t seek returns.  How did Chuck Prince put it: When the music’s playing…

If you are an insurance company, you have a ton of money invested expecting 6-7% nominal returns.  But, in a deflationary environment you have to be smoking something if you think you’ll get that return in low risk assets. So everyone is running the liquidity-seeking-return play. 

The Wall Street Journal mentioned this today:

Though insurers continue to buy bonds, the rally does "make it challenging in terms of getting yield," Steven Kandarian, chief investment officer at MetLife Inc., told analysts in an Oct. 30 earnings call.

Life insurers have long been one of the nation’s biggest bond buyers, currently holding about $1.78 trillion in corporate debt, or 16% of the total outstanding, according to industry group American Council of Life Insurers.

Their frustrations in finding investment opportunities signal how far and fast the bond market has recovered from the dark days when markets were frozen and insurers were diverting almost all incoming premiums and investment income into cash accounts.

But, it sounds like Gross is having none of this.  He asks a rhetorical question about overpriced assets in nearly every asset class:

Do you buy the investment grade bond market with its average yield of 3.75% (less than 3% after upfront fees and annual expenses at most run-of-the-mill bond funds)? Do you buy high yield bonds at 8% and assume the risk of default bullets whizzing at you? Or 2% yielding stocks that have already appreciated 65% from the recent bottom, which according to some estimates are now well above their long-term PE average on a cyclically adjusted basis?

Answering his own question is the only other part he highlights in his essay – one doubting the elevated price of risk assets. He says:

In a low growth environment, it seems to me that a company’s stock should yield more than its less risky debt, and many utilities provide just that opportunity.

Gross goes on to recommend high dividend safe stocks like utilities.  But, I did get the sense he was talking out of both sides of his mouth.  For months now, Gross has been advocating reflation as a economic policy. He has advocated massive deficit spending too.  Back in June of 2008, he was the first one I knew who was talking about deficits in the trillions. yet, here he is cautioning us about inflated asset prices.  Well, zero rates and inflated asset prices go hand in hand. And I’m sure Bill Gross knows this.

Source

Anything but .01% – Bill Gross, Pimco

Ayn Rand Resurrected

Going Galt with Stephen Colbert

Courtesy of Benign Brodwicz’s The Animal Spirits Page

Brilliant.

The Colbert Report	Mon – Thurs 11:30pm / 10:30c
The Word – Rand Illusion
www.colbertnation.com
Colbert Report Full Episodes Political Humor U.S. Speedskating

 

Want more?  Dangerous Minds’ Richard Metzger responds to Andrew Corsello’s The Bitch is Back article in GQ.

Ayn Rand Assholes

 

Andrew Corsello’s The Bitch is Back article from GQ on the boorish subject of Ayn Rand Assholes is probably the best takedown of Ayn Rand’s followers (and Alan Greenspan and Wall Street) I’ve yet seen and certainly the funniest (other than Stephen Colbert’s). It was about time for an article like this to appear and I am glad it was Corsello who wrote it.

I myself became an unabashed Ayn Rand fanatic when I was in 7th or 8th grade. I’d been reading the works of Victor Hugo and so I was totally primed for discovering another “Romantic” (note capital “r”) writer like Ayn Rand next, but it wasn’t via her well-known fiction that I discovered the Russian-born novelist and philosopher, but rather a more obscure volume called Introduction to Objectivist Epistemology, which I read extremely slowly so I could take in the complexity of the thought. It’s a very dry, technical book, but made a huge impression on me (more on this below, it merits special mention).

The next thing I read was Anthem, which is interesting enough, but slight compared to her magnum opus Atlas Shrugged which I read after that. Eventually I would go through nearly ever word of hers in print up to about 1979. I mean everything. Via mail order I collected single issues of The Objectivist and The Ayn Rand Letter until I had them all and I kept them in bound cases like holy relics. This is what can happen when bright kids read Ayn Rand, they get obsessed, but hopefully, like me, they will grow out of it. Discovering Lenny Bruce, Marx, Marcuse, Crowley, Burroughs and the Firesign Theatre deprogrammed my teenage ass but good and by the time I was 14 and I soon stopped caring about Ayn Rand altogether. (In my case I was young enough not to have had any shameful, reactionary moments to cringe about and regret, not like young Marty Beckerman)

By the time I was in my twenties and living in the Wall Street area of Manhattan, I’d see young, obviously Republican, stock broker types reading Atlas Shrugged on the subway and I’d feel silent contempt for them. Discovering Ayn Rand after high school is bad enough, but to discover her post-college is true pathetica. Her strident greed is good moralizing about the ‘virtues of selfishness’ (one of her best known non-fiction titles) would have an appeal to would be Gordon Gekkos, of course, but… yuck. Talk about an impoverished intellectual diet.

Many people who loathe Ayn Rand tend to go on about what a cack-handed writer she was, but this is not strictly true because her books, even the 75,000 page Atlas Shrugged are real page turners. I can absolutely see why Atlas Shrugged is still one of the all time best selling books in history—I was captivated by it myself, of course. The characters are vivid. The book’s plotting—which has tons of relentless momentum despite the novel’s legendary heft—is a tour de force. It’s Rand’s dialogue that seals her reputation as an author you just can’t take seriously. To be fair, she was writing in her second language, but the problem with her books is that no one actually speaks to one another, they just make speeches at each other. Hectoring, long-winded speeches. It’s fine to read stuff like that as a teenager, but when I crack open one of her books today, I shake my head in disbelief at how bombastic and horrible her writing is. It’s Dan Brown level tripe.

If you don’t believe me, try this one for size, the trailer for King Vidor’s screen version of The Fountainhead with a script by Rand herself. Can you imagine how difficult it was for the actors to get their lines out and try to sound convincing saying them?!?! (It’s one or the other!)

 
Here’s a clip of Ayn Rand on Phil Donohue’s talkshow that I recall seeing at the time it originally aired. She got really peevish with both Phil and the audience at points. Check her out. Who talks like that?

 
*One quick thing I wanted to say about Introduction to Objectivist Epistemology is that it is an unfairly ignored and misunderstood work on how concepts are formed, shunned by academia simply because it was written by Ayn Rand. Had it been written by Bertrand Russell, Alfred North Whitehead or Wittgenstein, it would be (rightfully) celebrated as an important philosophical treatise.I may think Ayn Rand sucks as a novelist, but I highly recommend this book.

 

Shut Up, Paul Monica!

Adam Sharp calls Paul La Monica on his defense piece for Goldman Sachs…

Shut Up, Paul Monica!

Courtesy of Adam Sharp at Bearish News

Congrats Paul La Monica. Your editorial,  “Shut up, Lloyd Blankfein!” is spreading like wildfire. It’s ‘gone viral’ as they say. However, it is clear that your knowledge of the issues involved is limited, at best.

It draws in populists with the provocative “Shut Up” headline, then morphs into stealth Goldman ass-kissing. It essentially tells Goldman-critics to man up and stop whining.

It starts out with a bit of promise:

The public relations gurus who are advising Goldman Sachs Chief Executive Officer Lloyd Blankfein might want to give him some new advice. Shut up!

Blankfein made a startling confession Tuesday. He apologized for Goldman’s role in the financial crisis, saying that the bank ‘participated in things that were clearly wrong and have reason to regret.’

But any redeeming qualities end there. He goes on to display ignorance in the subjects of finance and banking. He essentially argues that Goldman should be allowed to do as it pleases. This part particularly rankled me:

The notion that Goldman’s good fortune is a problem is silly. Even though many average Americans are still struggling financially, it’s misguided to suggest that everybody should be suffering and that the nation would have been better off if Wall Street went under. . .

Goldman Sachs is a bank. It’s supposed to make money. It’s supposed to take risks. Lloyd isn’t exactly running the March of Dimes.

Where to begin? Monica’s statement that banks are “supposed” to take risks is interesting. Because I thought a bank was supposed to safeguard people’s money, while making responsible loans to others. That’s how fractional-reserve banking works.

Goldman Sachs is an investment bank/hedge-fund with government guarantees. They’re not a “bank” in the traditional sense of the word.

When the U.S. converted GS and other “systemically important” firms to bank holding companies, it flat-out saved their asses. Ongoing perks include cheap Fed funds and the ability to issue government-guaranteed debt (Goldman still has around $20b in gov-backed debt).

And Monica says they are supposed to take risk, with explicit government-backing? That, my friends, is 100% pure garbage.

His statement that we should get off Goldman’s back, since they already paid back government assistance is also hopelessly flawed:

And let’s not forget that Goldman has paid back taxpayers not just for the warrants but the full $10 billion in TARP money. There’s a big difference between Goldman and Bank of America (BAC, Fortune 500) and Citigroup (C, Fortune 500), which still don’t seem to be healthy enough to return bailout funds.

As I pointed out above, they are still and always will be HUGE beneficiaries of government support.

M-o-r-a-l  H-a-z-a-r-d

Allow me to introduce Mr. Monica to a concept known as moral hazard. Apparently the idea has escaped him and other Goldman apologists. Moral hazard occurs when banks are implicitly backed by governments. Although it isn’t really implicit these days. They’ve made it clear – they will bail out any TBTF institution.

One huge benefit of government-backing is cheaper private rates. Lenders don’t need to consult their inaccurate loan-models to recognize that government-guaranteed loans are safer than those tainted by unsavory free market “risk”.

Financial firms have long-benefited from an implicit bailout guarantee known as the Greenspan Put. If things get bad due to reckless activities, emergency funds will be made available at record-low rates. Everyone knew it, and acted accordingly. Hence one cause of the bubbles.

This is why people don’t like TBTF institutions. Profit is subsidized, and losses absorbed by the public.

Under Bernanke/Geithner these actors should feel more secure than ever. Think of post-2007 bankers as naughty teenagers caught vandalizing a neighbor’s house. In front of his neighbor, their Dad [Bernanke] scolds them, “You’re in deep deep trouble boys *wags finger at boys, then looks neighbor in eye* I am so sorry, Mrs. Krabapple [the public]. I promise it will never happen again.”

When the door shuts, Dad grins proudly at his sons, “Not bad, boys. You coulda make a dozen omelets from that mess on Krabapple’s bay window. Try not to get caught [bring the global economy to its knees] next time. OK?”

A little thing called… Glass Steagall

I would also remind Mr. Monica (or introduce, if that’s the case) that Glass-Steagall was enacted in 1933 for a reason. It separated bank-holding companies from risky financial firms ( like those with huge trading desks).

Glass-Steagall was enacted to prevent banks from gambling with other people’s money. Throughout history banks have always gotten greedy and put customer funds at risk. Unless they are outlawed from doing so, as Glass-Steagall largely did. And please don’t blame “free markets” for bank schemes. This is an issue of decriminalization, not deregulation.

Opacity Rules

On top of all this, we are not allowed to view collateral pledged by banks for these Fed “loans”. Why? Many suspect the collateral is garbage — sub-prime securities and the like. All valued at “mark to imagination” valuations.

Hypothetically, a bank with a sub-prime bond worth $.30 (according to an antiquated measure of value known as ‘what people will pay’) might get $.80 or $.90 from their friendly Fed rep. I’d love to be proven wrong on that, and learn that our banks have been handing over pure gold to the Fed as collateral.

In August 2009 Bloomberg won a Freedom of Information Act (FOIA) case on the bank-collateral issue. The judge ruled that the Fed has 30 days to turn over the requested documents, but the Fed is stonewalling. Goldman could be a big beneficiary of this support as well, but we don’t know.

They protest that member-banks should not be forced to acknowledge their dependence on emergency funds. The lengths they are going to in order to stop this information getting out should be a huge hint. Whatever is hiding behind this curtain looks more like Freddy Krueger than the Wizard of Oz.

This new, and more explicit government backing, should have subjected firms like Goldman to further regulation. It didn’t. They still don’t file a full balance-sheet report like other banks. They’re allowed to own hedge funds and take as much risk as they please.

In short, GS has not shed taxpayer support. Doing so is impossible now that the government has made it clear it is too big and important to fail. So it’s time to break them, and a lot of other firms, up.

 

The Great Disconnect Between Stocks and Jobs

Robert Reich presents his view of the economy, stock market run-up, job losses, and corporate earnings, which reflect cutting employees rather than growth in production. Given that we have a consumer-driven economy, with consumers being the ones losing jobs, and perhaps their houses, logically, it makes sense that the stock market is at risk for another meeting with value based-pricing some time in the future. Being long now is a bet on liquidity driven gains continuing, regardless of the actual state of the economy.  - Ilene

The Great Disconnect Between Stocks and Jobs

Courtesy of Robert Reich at Robert Reich’s Blog

How can the stock market hit new highs at the same time unemployment is hitting new highs? Simple. The market is up because corporate earnings are up. Corporate earnings are up because companies are cutting costs. And the biggest single cost they’re cutting is their payrolls. So they let people go and, presto, their balance sheets look better and their stock prices rise.

In the old-fashioned kind of recession decades ago, big companies laid off people with the expectation of rehiring them when the economy turned up. Then a few recessions back, companies started laying off people for good, never rehiring them even when the economy recovered.

In the Great Recession of 2008-2009, companies are going a step further. They’re using this sharp downturn to cut payrolls even below where they were when times were good. Outsourcing abroad, setting up shop in China and elsewhere, contracting out, replacing people with software and automated machines – they’re doing whatever it takes to get payrolls down so earnings bounce up.

Caterpillar earned $404 million in the third quarter, or 64 cents a share. Analysts had expected only 5 cents. Caterpillar’s stock is up 165 percent since March. How did Caterpillar do it? Not by selling more bulldozers. It did it by cutting over 37,000 jobs.

The result, overall, is an asset-based recovery, not a Main Street recovery. Yes, the economy is growing again, but the surge in productivity is a mirage. Worker output per hour is skyrocketing because companies are generating almost as much output with fewer workers and fewer hours.

The Fed, meanwhile, has become an enabler to all this, making it as cheap as possible for companies to axe their employees. Money costs so little these days it’s easy to substitute capital for labor. It’s also easy to buy up foreign assets with cheap American money. And it’s now blissfully easy for Wall Street to borrow money almost free and buy all sorts of interests in foreign assets, especially commodities. That’s why we’re seeing the prices of foreign commodities and other assets go through the roof.

At the same time, the Treasury continues to be fixated on keeping banks afloat. The Administration’s mortgage mitigation efforts are lagging. Small businesses are starved of credit. The White House has announced a "jobs summit," which is better than nothing but not nearly as good as pushiing immediately for a larger stimulus, a new jobs tax credit, and a WPA-style jobs program.

The Fed and the Teasury have, in effect, placed a huge bet on a recovery driven by asset prices. That’s a bad bet. The great disconnect between the stock market and jobs is pushing stock prices way out of line with the real economy. This isn’t sustainable.

No economy can recover without consumers. Yet American consumers, who constitute 70 percent of the U.S. economy, are facing mounting job losses as well as pay cuts. They’re in no mood to buy and won’t be for some time.

Where is this heading? No place good. Without a major shift in policy — both at the Fed and in the White House — the economics point to a big stock-market correction and a double dip. The politics point to substantial losses for Democrats next year.

 

HAS RICHARD RUSSELL TURNED BULLISH?

HAS RICHARD RUSSELL TURNED BULLISH?

Courtesy of The Pragmatic Capitalist

A recent article at MarketWatch by Mark Hulbert said Richard Russell was now bullish on the stock market despite just recently saying that the market was in a bear market rally.  Hulbert wrote:

Richard Russell, editor of Dow Theory Letters, is one of the technical analysts who, in light of the joint new highs of both the Dow Industrials and the Dow Transports, are now officially bullish on both the secondary and primary trends of the stock market.

So has Russell flip flopped in just a week?  Not even remotely.  Although Russell’s short-term indicators are bullish he is still skeptical of the market rally and maintains his position that the market is due for another vicious downturn.  Just yesterday Russell wrote:

Russell on the stock market – My PTI is bullish, the Lowry’s statistics are bullish. The Industrials and the Transports corrected and then both Averages rose to new highs. The mechanical part of the situation has been satisfied by Dow Theory. But I’m still bothered by the fact that this “bull market” never started from an area where stocks were selling “below known values.” Every bear market I’ve ever seen has ended with stock selling “below known values.” We never saw anything like that at the October 2008 lows or at the March 2009 lows.

For this reason, I continue to think that maybe the final bear market bottom lies ahead. Suspicion, thy name is Russell. I think it’s OK to take a limited position in DIA (a proxy for the Dow). I don’t know whether such a position will turn out to be a long-term hold or whether it will turn out to be a trading position. And yes, I’m aware that my PTI looks like a head-and-shoulders pattern. But at the first sign of this advance actually breaking down, I’ll alert my subscribers to it.

So no, Mr. Hulbert, Richard Russell is not beating the same rah rah drum that the mainstream media bulls are.  Not even close.   But that doesn’t mean Russell isn’t bullish at all.  In fact, he remains incredibly bullish about gold and given his uncanny accuracy it’s well worth listening to him:

Question — Russell, what have you personally done in your investing over the last many months?

Answer – I’ve stuck with gold, because I have such a firm conviction that gold is in a primary bull market. Of course, I’ve held this opinion for years, and for all those years I’ve begged my subscribers to buy and hold gold. Gold’s relative strength continues to be stronger than the Dow, but a position in DIA is now warranted.

So yes, Russell is bullish.  He’s just not bullish about equities.

Source: Dow Theory Letters

CONGRESSMAN BRADY ASKS GEITHNER TO STEP DOWN

CONGRESSMAN BRADY ASKS GEITHNER TO STEP DOWN

Courtesy of The Pragmatic Capitalist

This relatively boring hearing suddenly turned exciting when Congressman Kevin Brady asked Tim Geithner to step down.   The economic team that President Obama put in place (primarily Geithner and Summers) has been largely responsible for the current predicament.  This is not to imply that the Republicans and President Bush did not play an equal (or greater) role in the economic crisis, but it’s truly astonishing that the people who helped cause this crisis are the same ones who are attempting to steer us out of it:

HAS THE TECH RUN TOPPED OUT?

HAS THE TECH RUN TOPPED OUT?

Courtesy of The Pragmatic Capitalist

Merrill Lynch downgraded several semiconductor names this morning citing unfavorable cyclical trends and a normalization in inventory restocking.  The semis are tanking 3.5% on the report and many investors fear the inventory restocking that has powered much of the fundamental strength in the sector could be slowing.  The Merrill analysts wrote:

“We are downgrading our view on the sector given unfavorable indications from our cyclical framework. In particular, our industry model suggests that following a period of rapid replenishment of inventory and normalization of semi shipments to true consumption levels, inventories in the supply chain are approaching a level suggesting a modest overshoot versus equilibrium levels. While we see limited risk to near-term estimates, we think the longer this persists the greater the risk of a correction in the supply chain. Barring a sharp upturn in the global economies, this, in our view, renders the risk reward associated with ownership of chip stocks unattractive.”

Notable Calls has more details:

In some ways, the firm thinks the current backdrop reflects a striking contrast to the conditions that prevailed at the time of Merrill’s upgrade. Specifically, at the time, supply chain inventories were at abnormally depressed levels, economic forecasts were poised to improve but as yet depressed, and indications of an inflection in electronic demand had just started to manifest themselves. Fast forward two quarters, and the picture looks completely different. To wit economic growth forecasts have trended higher, as have expectations of electronic demand growth, and supply chain inventories are perking above what they’d consider to be a normal equilibrium level. Last but not the least, sentiment around growth prospects for the group has also seen a marked improvement. Simply put, the ideal mixture of investor skepticism coupled with the potential for sharp upward revisions – which served as potent fuel for the semiconductor rally – no longer prevails. This then begs the question: What is the incentive to own chip stocks, esp. on the heels of a spectacular move up (SOX +83%) over the last 12 months?

For those looking for real world confirmation of the potential inventory adjustment being forecasted by Merrill’s industry model, the firm would point to indications from the Asia PC supply chain suggesting a material downward bias to desktop forecasts in the near-term. In particular they note that their Taiwan Hardware analyst Tony Tseng is now projecting ~flat Q/Q growth in PCs (desktop motherboards and notebooks included) into Q4. Merrill notes that it represents a sharp downward revision (esp. on the motherboard front) vs. just a month ago, in turn suggestive of slowing momentum in the PC space – the lynchpin for semiconductor industry growth. Serving as further corroboration of waning momentum are resale trends out of Asia distribution suggesting recent monthly sales trends that have been solidly below seasonal. Importantly, they’d note that above seasonal trends in the distribution data in late 2008/early 2009 had served as a harbinger of the cyclical upturn, thus, in Merrill’s view, underscoring the importance of the data.

Last but not the least, for those looking for a smoking gun, Merrill has one: namely, foundry utilization. Using TSMC utilization as a loose proxy for trends in overall foundry utilization rates, they’d note that a sale of the SOX every time TSMC’s utilization rates hit 100% would have put you on the right side of the trade in short order. As counterintuitive as this might sound (after all isn’t tighter capacity great for chip ASPs etc.?), the fact is that there is such a thing as too much of a good thing. When it comes to foundry utilizations, 100% seems to be the magic number, simply because “sold out capacity” – esp. in the face of an improving perception around the economy and by extension end demand – is often a catalyst for double/excess ordering in the supply chain. After all who wants to be caught short on semiconductor parts, which average a paltry $1.00-1.50 in ASPs, when demand is improving?

They downgraded the following names:

• Intel (INTC): To Neutral, from Buy.
• LSI (LSI): To Neutral, from Buy.
• Microchip (MCHP): To Underperform, from Neutral.
• Marvell (MRVL): To Neutral from Buy.
• Maxim (MXIM): To Underperform, from Neutral.
• National Semi (NSM): To Underperform from Neutral.
• Power Integrations (POWI): To Underperform, from Neutral.
• Texas Instruments (TXN): To Neutral from Buy.