The European Central Bank's (ECB) unprecedented use of a three year, low cost LTRO (Long Term Repurchase Agreement) policy initiative may have removed some of the short term pressures from the EU Banking crisis, but like the Greenspan PUT, the unintended consequences are not yet fully understood. One is the moral hazard which is fostering financial "games" to be played with reckless abandon. Some of the mischievous and cunning games are frankly questionably as being even legal! But then, nothing is illegal if the regulators and those organizations charged with surveillance are not bothering to investigate. Extend > Pretend > Bend is the new approach. MORE>>
The Obama Budget is A Campaign Budget. Nothing changes until after the fall election and precisely on december 31st, 2012. Suspect budget assumptions and and the outcome on this date will make a $5T difference over 10 years. The markets will not wait and be hedl hostage to the outcome. The World Economic Forum's 2012 Risks Report, the IMF's Global Financial Stability Report and our proprietary Aggregated Global Risk Level Index (AGRLI) all suggest that like the US, global macroeconomic risks are increasing. The consensus findings are that the center of gravity of Global Macro issues are a combination of Chronic Fiscal Imbalances and a Global Governance Failure. We submit the US Budget as evidence of the later.
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The market action since March 2009 is a bear market counter rally that has completed a classic ending diagonal pattern. The Bear Market which started in 2000 will resume in full force when the current "ROUNDED TOP" is completed. We presently are in the midst of of a "ROLLING TOP" across all Global Markets. We are seeing broad based weakening analytics and cascading warning signals. This behavior is typically seen during major tops. This is all part of a final topping formation and a long term right shoulder technical construction pattern.
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EURO EXPERIMENT : ECB's LTRO Won't Stop Collateral Contagion! Released December 27th, 2011
I would argue that the problem short term is a shortage of real collateral and that US dollar cash, versus 'encumbered' cash flow, is now king. It is clear that the rampant advancing Collateral Contagion will quickly eat the futile LTRO attempt like ravenous wolves. A well circulated Tweet from PIMCO bond king Bill Gross said it all: " What does LTRO stand for? 1- A shell game; 2-Cash for trash; 3 Three-card Monti; or 4. All of the above." Here is the stark reality of what forced the ECB to offer unprecedented three year loans at absurd rates and most alarmingly, the acceptance of collateral that no other financial institutions will accept. The ECB has sacrificed its balance sheet in yet another EU "kick at the can". MORE>>
03/26/2012 3:50 AM
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"BEST OF THE WEEK "
TIPPING POINT or 2012 THESIS THEME
HOTTEST TIPPING POINTS
MOST CRITICAL TIPPING POINT ARTICLES THIS WEEK - MAR 181h- MAR. 24th, 2012
3 Charts On Why Eurosis Never Really Went Away 03/23/12 Zero Hedge - The 'leverage' of the Euro-Area has never been higher. Across every nation, we are at over 20 year highs in terms of this measure of leverage. To impact this via the fiscal compact by raising taxes and deleveraging at the aggregate level can only exaggerate the recessionary pressure Europeans will feel. While yields have indeed dropped, the reflexive response that ergo - Europe is fixed - is simply nonsense as nothing has changed and in fact the concentration and contagion stress is worse than it ever was. This time may be different as this time, the ECB is really in a box to fix the next risk flare without outright money-printing and Zee Germans vill not like zat!
Portugal's five-year bond yields are stuck around 16%, where Greek bonds traded in April 2011 when euro-zone politicians started to insist private creditors should take losses. The flash point is a €9.7 billion ($12.84 billion) bond maturing in September 2013 that isn't covered by Portugal's €78 billion bailout. Until Lisbon explains where it will find the money, investors will fear a repeat of Greece's debt restructuring.
2- Sovereign Debt Crisis
PORTUGAL-SPAIN - On Deck
Pimco chief Mohamed El-Erian expects 'second Greece’ in Portugal 03/18/12 Ambrose Evans-Pritchard - Mohamed El-Erian, Pimco’s chief executive, said Portugal will need a second rescue as the original package of €78bn (£65bn) falls short, setting off a political storm over EU rescue costs. “Unfortunately, that is how it will be. It will make the financial markets nervous because they are worried about a participation of the private sector,” he told Der Spiegel over the weekend
ADDITIONALLY, the ratio of HY bond prices to VIX has soared to record 'risky' highs strongly suggesting that either VIX is set to rise notably, high-yield bond prices are set to fall notably or both and these extremes have tended to occur in the lead ups to notable risk flares (around Fed implicit easing periods).
3 - Risk Reversal
RISK - SKEW
SKEWered 03/19/12 Zero Hedge - While stocks are surging in nominal terms, the options markets are increasingly pricing in greater and greater downside risk concerns. Currently, we are at record levels for this so-called Skew (meaning the price of downside protection outweighs the cost of upside protection by the most ever). Trade accordingly.
... here is Goldman's ranking of global across asset class hedge relative costs.
Macro Data Weakening On Seasonal Unwinds 03/19/12 Morgan Stanley - Much has been made of the positive impact that seasonal adjustments have made to the crop of supposedly better than expected macro prints that remain anecdotal evidence of why the S&P 500 is trading above 1400 again. Unfortunately the pleasant after-glow of a time-series-based adjustment that has become increasingly unstable and hard to justify post-crisis is starting to fade. Morgan Stanley's Business Condition Index dropped a very significant 5 points in March to 51%. Just as pointed out here (in Bernanke's scariest chart) the seasonal factors are almost entirely responsible as the trend of recent data is just not meeting expectations (both in analyst and market perceptions). Under the surface, things are a little gloomier also as their Hiring Plans Index dropped for the first time in six months and the business conditions expectations plummeted 11 points to 57% in March. Given this (leading) data, is it any wonder MS believes QE3 is inevitable and imminent?
3 - Risk Reversal
CHINA - More Signs of Broadening Slowdown: To Single Digits Mind You!
Weak Chinese PMI Number 03/21/12 BI - After four straight monthly increases, the HSBC flash manufacturing PMI slipped to 48.1 in March, from 49.6 the previous month. In his latest report, Ting Lu, China economist for Bank of America-Merrill Lynch points out three main reasons for the decline:
"First, compared with official PMI, the HSBC index focuses more on SME, which could be hit harder by tight liquidity, though we believe China’s liquidity condition is being improved.
Second, since China’s export manufacturers tend to be of small scale, the HSBC PMI sample could also have more exposure to exports. In Jan-Feb, export growth decelerated to 6.9% YoY from 14.3% in 4Q11.
Third, small manufacturers, which lack of economy of scale, are being consolidated into big ones."
While a reading below 50 indicates contractionary level and the figure is likely to bring out the China bears, Lu says that China is not looking at a hard landing. Lu expects liquidity conditions to improve and projects year-over-year GDP growth of 8.3 - 8.5 percent this in the first quarter.
At the AJM Global Iron Ore & Steel Forecast conference, BHP Billiton's Ian Ashby warned attendees that China's demand for iron ore was flattening. Rio Tinto also shared that sentiment. The China bears were only emboldened when Chinese policymakers announced they would raise the country's gasoline and diesel prices.
SWIFT Cuts Iran Off: The international institution responsible for around 80 percent of the world’s financial transactions announced that it will cut off Iranian financial institutions from its system from Saturday. This unprecedented move is a big blow to Iran, and follows up on EU sanctions.
Majority in Israeli cabinet for strike: Israeli newspaper Maariv (Hebrew link, quote in English) by Ben Caspit saying that 8 out of 14 Israeli cabinet members now support a strike on Iran’s nuclear facilities. The cabinet can give Prime Minister Netanyahu the green light for a strike, at the time he sees fit.
Netanyahu preparing Israeli public: The Israeli Prime Minister continues the tough rhetoric against Iran also after coming back from his long visit in the US. Analysts see this as a preparation of the Israeli public for a war.
Using Oil Reserves: There was a report, later denied, that the US and the U.K. decided on releasing oil from the emergency reserves in order to lower prices. This could be another preparation.
“Last Chance” Warning: According to Russian sources, U.S. Secretary of State Hillary Clinton asked the Russians to send a message to Iran that the upcoming six-nation talks with Iran are the last chance before military action.
New Lows On Bond Yields Expected 03/22/12 Albert Edwards, Societe General - "Expect new lows on bond yields by Q3 and this equity rally to turn to dust – just as it did in 2011."
It is clear to us that despite the economic data looking a bit perkier, the underlying profits situation is deteriorating significantly. This earnings season has produced its usual burst of manipulation, but as my Quant colleague Andrew Lapthorne points out, the Q4 EPS outturn looks decidedly weak - perhaps not being subjected to the same faulty seasonal adjustment as the economic data. And, as our erstwhile college James (or Jim as Zero Hedge now call him) Montier has pointed out, US margins have already begun to turn downwards - link.
Nominal GDP growth in this cycle is now declining from the weakest cyclical high since the war and very low bond yields now reflect the unusual weakness in nominal quantities as the cycle abates.
8- Bond Bubble
GAS & OIL PRICES - Exposed due to NO Spare Inventory / Capacity
US MONETARY/FISCAL POLICY - Flawed Approach that is Failing
The following chart shows that in the 80's and 90's we had a real bull market, one based on production and innovation that was able to outperform the growth of credit in the economy. Excessive borrowing wasn't needed during that time. Now we're borrowing like a drunken shopper, and all we can come up with are centrally planned consumer-oriented bubbles.
What we see very clearly in this chart is:
The dramatic spikes created by credit bubbles--the housing bubble in 2001-2007--and
Massive Central Planning intervention: The Federal Reserve's expansion of money supply and constant injections of liquidity into markets and the Federal government's $6 trillion bailout/stimulus debt binge since 2008.
The critical feature of each credit bubble is that the SPX responds with less vigor to each dose of credit.
When depreciation of productive assets (factory tools, software, refineries, etc.) outstrips new investment in productive assets, then output, income and profit decline. (Note that building McMansions in the middle of fields and pumping hundreds of billions of dollars into overseas adventures are not productive investments, they are mal-investments.) Once the cost of servicing all that new debt outstrips increases in income, then there is less money available for productive investment. Debt service and mal-investment thus set up a positive feedback loop, a.k.a. a death spiral. The housing bubble created over $5 trillion in new debt to service while it produced effectively zero new productive investment (housing is ultimately a form of consumption). The Fed's injections of liquidity via trillion-dollar purchases of toxic mortgages and Treasury bonds does not funnel money into productive investments--all it accomplished was to further incentivize speculative churning and financialization to enriched the few at the expense of the many.
11 - Global Governance Failure
INFLATION EXPECTATIONS - Expecting Growth & Profit To Accompany It
Inflation Expectations 03/21/12 Thomson Reuters - Take a look at the chart below, which depicts the relationship between the US stock market and inflation expectations. As is immediately visible, the two are closely correlated, with the stock market tending to lead inflation expectations very slightly. "this pickup in inflation expectations comes from a very base level, thanks to the widespread fears of recession and deflation, rather than inflation. The increase in inflation expectations therefore seems more likely to reflect improved consumer and investor sentiment and the increased levels of economic activity we now are beginning to witness".
Lower PE multiples
Developments YTD that would suggest a contracting P/E multiple include:
REVISIONS: Negative EPS revisions across nearly every sector of the market;
INFLOWS: Lack of significant inflows to domestic equity mutual funds and further inflows into domestic fixed income funds;
OIL: Higher crude oil prices that pressures margins; and
INCOMES: Personal income growth has remained weak, rising at an annual rate less than 2%.
GROWTH: Slow wage growth coupled with a flat savings rate supports our view that GDP growth will be below-trend in 2012.
Weak earnings growth:
Modest earnings growth of 3% in 2012 and 7% in 2013 to $100 and $106, respectively.
Consensus bottom-up estimates total $106 and $119 reflecting annual growth of 9% and 13%, respectively.
Importantly, analysts have slashed 2012 EPS estimates for most sectors during the past three months.
On a trailing four- quarter basis, net margins for the S&P 500 (excluding Financials and Utilities) declined for the first time in 4Q 2011 and on a year/year basis margins fell for all sectors except for Tech (excluding Apple, margins fell for the Tech sector as well).
GOLDMAN: We're Still Sticking With Our Call That Stocks Are Going To Tank This Year 03/23/12 BI - We based our investment thesis for US stocks at the start of 2012 on three assumptions:
Stagnating US economy;
Stagnating P/E multiple; and
Modest earnings growth.
Kostin expects growth to decelerate again thanks to
The return of normal,
The end of an inventory cycle that contributed 2 percentage points to Q$ GDP,
Ultra-high corporate profits in the midst of a mediocre recovery 03/20/12 James Mortimer, GMO - no matter how much the economy is recovering, or how cheap stocks seem to be, margins are just ridiculously high now, and have to come down. You can read his letter here. We summarize it here, though the basic gist is that corporate profits are being fueled by unusually large deficits.
So what's the source of these incredibly high margins, and can they really persist? Here Montier gets into the basics of the flow of funds and the national accounts, and he bases his work on the economist Michael Kalecki, who identified this simple equation:
And with that equation we can finally start figuring out the source of those monster profits. This is how things looked like in 2011
See the big source of profits? Yep, it was the government's monster negative savings. Or to put it another way, it was the huge deficit equalling 7.6% of GDP that really boosted corporate profits.
Now what you have here is the justification for huge government deficits. Following the crisis, the private sector balance sheets were badly damaged, and government deficits have done wonders towards boosting GDP and corporations.
the world's No. 2 package delivery company warned that it had lowered its outlook for the rest of this year due to tepid economic growth
"The fourth quarter is still very good, but what we're seeing at the moment ... is we just don't have as strong an economy as we would have hoped it would be a year ago," Chief Financial Officer Alan Graf told analysts on a conference call.
"The economic environment and the elasticity that we're seeing on our premium services due to high fuel costs are dampening momentum a bit."
The company said more expensive fuel was prompting customers to choose to ship goods by truck rather than air to save money.
FedEx is undergoing a fleet upgrade to improve fuel efficiency, having announced in December that it was buying new Boeing aircraft to replace some aging planes and delaying delivery of others to cut expenses.
Graf said FedEx will continue to reduce flight hours and park planes in the desert until economic conditions improve.
The massive volume of goods moved by FedEx makes its shipping trends a bellwether of consumer demand and the pace of economic growth.
Expect more profit warnings from companies because they are coming
Flash Eurozone PMI Composite Output Index at 48.7 (49.3 in February). 3-month low.
Flash Eurozone Services PMI Activity Index at 48.7 (48.8 in February). 4-month low.
Flash Eurozone Manufacturing PMI at 47.7 (49.0 in February). 3-month low.
Flash Eurozone Manufacturing PMI Output Index at 48.8 (50.3 in February). 3-month low
Flash Germany Composite Output Index at 51.4 (53.2 in February), 3-month low.
Flash Germany Services Activity Index at 51.8 (52.8 in February), 4-month low.
Flash Germany Manufacturing PMI at 48.1 (50.2 in February), 4-month low.
Flash Germany Manufacturing Output Index at 50.5 (53.9 in February), 3-month low.
30 - Global Output Gap
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MACRO News Items of Importance - This Week
GLOBAL MACRO REPORTS & ANALYSIS
US ECONOMIC REPORTS & ANALYSIS
CENTRAL BANKING MONETARY POLICIES, ACTIONS & ACTIVITIES
FEDERAL RESERVE - What's After Operation Twist?
Operation Twist Is Coming To An End: A Preview Of The Market Response 03/19/12 Zero Hedge - As macro data trends deteriorate and Dudley demurs, it is becoming increasingly clear that the risks for the US equity market are skewed to the downside as we head towards the end of Operation Twist (and seasonal factors subside). The Fed's 'upgrade' from modest to moderate growth certainly spooked Gold and Treasuries and saw small caps notably underperform but given historical precedence, if Operation Twist ends without a new program beginning, investors will likely expect a drop in equities (broadly) of 8-10% (which coincides with the QE1 and QE2 ends as well as the 1983, 1994, and 2003 normalizations in policy). Reiterating our recent theme, in order to avoid the end of Operation Twist, the Fed's economic outlook would need to deteriorate - which itself is a scenario likely to result in falling stock prices and just as the cause of a 'crash' in PCE towards the end of QE1 and QE2 was a function of higher inflation, we have the current spike in energy prices to ensure this time is no different.
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