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 Global Markets have reached the point of waht can be best labeled as "Elevated Risk". Analytics measurements including Fundamenal Analysis, Techncial Analysis and Risk Anlysis all are independently signalling this along with warnings. This months report lays out the Risk Assessment, Risk Levels as determined by our proprietary aggregated Global Financial Risk Index, changes in Tipping Points and the Macro Risk-On, Risk-Off Drivers.
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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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Latest Public Research ARTICLES & AUDIO PRESENTATIONS
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>>
04/15/2012 5:23 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 - APR 1st- APR 7th, 2012
EU BANKING CRISIS
DEBT REDUCTION REQUIRED - Analysts: Minimally $30T More to Go
The first two columns show the "impact" of Lehman and the Greek PSI - i.e., the amount of debt that was eliminated. These two tiny bars are what nearly caused the end of Western civilization (per Hank Paulson), and led Europe on a two year voyage to preemptively offload Greek exposure to European (and American) taxpayers. That's the good news. The bad news is is the column on the far right. This is the amount of debt that in Citi's estimate, has to be "reduced" across the four major developed markets for the world to return to a sustainable debt level. That's right: $30,000,000,000,000. By 2016. And after that it just gets even more parabolic. This is not a discretionary cut. This is what has to be "reduced" for the world to have some chance of avoiding daisy-chained global sovereign defaults, up to and including the $707 trillion in global OTC (read unregulated) derivatives. Which means there are two actual definitions of 'reduced' - inflated or paid off
Boston Consulting Group: BCG estimated that the global debt overhang as of 2009 to get to a "sustainable" global debt/GDP of 180% is about $21 trillion. That number is easily $5-6 trillion more as of right now. Finally, with assets already at record lower cash flow generation as has been repeated here over and over, the only option is nominally inflating them away. Which means, you guess it, nominal devaluation of monetary intermediates. Translated: printing, printing, and more printing.
there is widespread agreement that the regional Spanish banks, the cajas, are bankrupt, as they made massive loans for construction and mortgages. The government has taken some action, forcing 45 caja savings banks that were threatened by bankruptcy due to bad property loans to consolidate down to 14. But although bank regulators have estimated that Spanish banks will need €26 billion in extra capital, many skeptics believe this severely underestimates future losses and that the government may have to step in with a much larger bailout for the financial sector. The Bank of Spain contends that construction debt to banks stands at some €400 billion, of which repayment of €176 billion is questionable, with €31.6 billion of those considered nonperforming. (WSJ)
Spanish private debt is 220% of GDP, dwarfing government debt, which is high and rising. So not only are banks being forced to raise capital and reduce their loan books, consumers and businesses are also overextended. The government wants to increase taxes or reduce spending by 17% to get the deficit down from over 8% to 5.5%, a combination that is not geared for growth.
€12.3bn will be raised in new taxes, with €5.3bn coming from corporations, and €2.5bn is projected to come from a temporary amnesty on tax evasion (you've got to love the optimism). We have seen how such policies worked in Greece. They meant lower, not increased, revenues. Note that Britain also raised taxes on "the rich" and saw revenues fall in that category, not increase as projected.
Further, as we go along this year, watch for "breaking" news that off-balance-sheet guarantees by the Spanish government will be huge, adding multiples of 10% to total debt-to-GDP. Spain's admitted government debt is over 70% of GDP, which in comparison to other European countries is not all that bad. Except that is not the extent of the problem. There is regional debt, bank-guaranteed debt, sovereign guarantees, etc. that take it to roughly 85%.
And then we add the guarantees that Spain has made to the EU for all the stabilization funds, ECB liabilities, etc., at which point Mark Grant suggests that Spanish debt may be closer to 130% of GDP. (Of course, if we count all debt and guarantees, something that a normal bank would make you or me do if we wanted a loan [at least since the subprime debacle], then Italy has over 200% debt-to-GDP. Just saying.)
Spain is going to have an uphill struggle to keep its deficit down to 5.5%. Unemployment is still rising, as Spain is after all in a recession and costs will be up and revenues down. But the current budget buys time and what will amount to good will from the rest of Europe, as Spain will be seen to be trying, conducting yet another experiment in austerity. When those deficits come in higher, then what will Europe do? With each piece of bad news, the problem of funding Spanish debt will grow. Right now, Spanish banks are buying Spanish government debt with everything they can muster, which is to say, ECB loans at 1% for three years, invested in 5.5% bonds. With 30 times leverage. All the while trying to cut losses and reduce their loan books – a trick worthy of Houdini.
Central Banks' extreme interventionist policies (whether direct money-printing or indirect subordination of existing risk-takers) has left an investing public with a very different risk-reward environment (and very different forecast distributions for future outcomes) as we pointed out earlier. As Matt King of Citigroup notes, the 'risk-on risk-off' environment is here to stay meaning the traditional safety of bonds now offers even less upside and more downside (thanks to subordination) and equities or higher-beta more upside (thanks to central banker puts under asset markets). This helps explain the portfolio-rebalancing effect of QE et al. However, this leads to a focus on high-beta momentum with a growing chasm between price and value - and more likelihood of catastrophic loss when risk-goes-off (as liquidity spigots are closed however temporarily). Efficient frontiers are now not so efficient with marginal returns now perceived as accelerating for incremental risk-taking as the Fed has your back. This means market-cap weighted indices will naturally favor the highest-beta (much more volatile) names that will suffer the most when risk re-appears - so focus on equal-weighted or fundamental-weighted indices for risk-balanced-return. Trying to be long the tails is key as central bankers repress normal investors away from core safety leaving behind the precipice of over-invested, over-risk-stuffed momentum chasers holding the bag.
How Forecasts Have Changed - the distribution of growth probabilities has changed dramatically...
And to repress investors from worrying about these tails, central banks have printed money to nominally raise asset prices and have 'supported' debtors by subordinating existing creditors...this has increased upside for equity holders (as the central bank put seems prevalent) and increased downside for bond holders (as whatever support is provided seems to subordinate existing holders in order to avoid an actual restructuring)...
Which turns the efficient-frontier on its head - with upside from taking more and more risk an accelerating function as opposed to decaying option - i.e. investors are expecting exponentially higher marginal returns for taking on linearly more risk - since the Fed has their back. It seems being long the tails is a more balanced strategy than it used to be...
3 - Risk Reversal
PMI ANNNOUNCEMENT - China Results all in the opaque "Seasonal" Adjustments
CHINA - HSBC SAYS: Renewed Deceleration from 49.6 to 48.3
Reduced factory output reflects falling new business from home and abroad
Manufacturing employment down at sharpest rate in three years
Input price inflation ticks higher, but remains modest over.
March data showed manufacturing production falling for the fourth time in the past five months. Factory output was reduced largely in response to lacklustre demand from domestic and external markets. New orders fell at the fastest rate in 2012 so far, while new export business decreased for a second month in succession. Manufacturers reduced their employee numbers as a result, while purchasing activity was also down from one month earlier. There was little change on the price front, with factory gate charges falling modestly, and the rate of input cost inflation remaining somewhat subdued. Companies reported a renewed decline in manufacturing output during March, with the rate of contraction the steepest since November and the second-sharpest in three years. Behind the overall decrease in factory output was a further decline in total new business. Underlying demand weakness was broad-based across domestic and external markets, with new export business also falling moderately from one month earlier. Rates of decline in both cases were among the sharpest seen since the 08/09 financial crisis
CHINA - OFFICIAL REPORT SAYS: Renewed Acceleration from 51.0 to 53.1
China’s manufacturing PMI improved from 51.0% in February to 53.1% in March, the highest in twelve months. The index has stayed above the critical level of 50% for four consecutive months, indicating that the underlying momentum of the manufacturing sector in China has continued to improve. 10 of the 11 sub-indices were higher than their respective levels in the previous month. The new orders index rose strongly by 4.1 ppt. while the new export orders index gained 0.8 ppt. in March. The index readings indicated significant improvement in domestic demand. On the other hand, the input prices index went up from 54.0% in February to 55.9% in March, showing that upstream price pressures have increased.
Back in February we were quite amused by conflicting internal and external reports of manufacturing growth in China, which according to the HSBC Markit Manufacturing PMI index had contracted for a 4th consecutive month even as the official Chinese PMI data showed 3 consecutive expansions. It just happened again, only this time the spread between the two indices has jumped to the second highest ever, with the official PMI index surging to 53.1, an expansionary number, an eleven month high while according to HSBC it slid to 48.3, indicative of contraction, and paradoxically indicating that in "the first quarter as a whole, the index averaged its lowest reading since Q1 2009." In other words, the Schrödinger paradox - where the economy was doing better and worse at the same time - which was experienced for the past three months in the US (and is now finished with the economy rolling over), has shifted to Shanghai, where it is now the PBOC's turn to baffle all with bullshit. Why? One simple reason: despite what everyone believes, China still has residual and quite strong pockets of inflation. So while the world may be expecting an RRR, or even interest rate, cut any second now (just as China surprised everyone literally house before the November the global FX swap line expansion by the Fed in November 2011), the PBOC is just not sure it can afford the spike in inflation, or even perception thereof.
This also explains why while HSBC, being a member of the banking cartel would love nothing more than more easing from PBOC, China is far more more cautious about further easing, especially if the Fed does go ahead with more QE anyway, the bulk of which China would import as excess inflation anyway. For vivid proof of this observe chart two: the last time we had a record spread between HSBC and China PMI, Chinese CPI soared from -2% to over 6%. China is now at 3%, just as the index spread is the second highest ever. If we are to assume that Chinese easing will follow the March 2009 episode, and thus assume a trough Chinese inflation of 3.2%, one can see that the 12% implied inflation at the end of the current easing episode is why the PBOC will be far, far more reluctant to engage in the same easing policies as the Markit group of banks would wish for it to.
4 - China Hard Landing
LABOR REPORT - March a Major Suprise - 120 VERSUS 205 Expectations
These disappointments partly reflect changing seasonal factors, including the prior impact of this winter’s unusually mild weather. But there is something much larger in play, and the implications go beyond economics; they influence key elements of the political narrative for the upcoming presidential and congressional elections. The report demonstrates that firms "lack conviction" to hire for "expected future business." Why? Uncertainty about everything, writes El-Erian
American consumers, as a group, still carry too much debt and have to cope with higher oil prices. The prospects for exports, which have grown markedly, are gradually dimming now that the rest of the world is slowing. Meanwhile, policymakers have yet to find a way to deal properly with a year-end fiscal cliff, the result of Washington’s repeated inability to design coherent fiscal policy. This demand uncertainty compounds worrisome structural impediments to growth.
His evidence that we already face structural problems:
5 million long-term unemployed;
9-month average time out of work;
25% unemployment for 16-19 year olds; and
12.6% unemployment for those without high school degrees.
The only option, he says, is for Congress to act and address impediments to growth "that have been repeatedly identified" but gone unaddressed. But he's not optimistic that will happen: "Political bickering and dithering may again deliver a depressingly familiar seasonal pattern that undermines the wellbeing of millions and renders the subsequent recovery even more difficult to secure."
Consumer Credit Decelerates Most Since Feb 2011 04/06/12 Zero Hedge - With expectations of a $12.0bn rise in Consumer Credit, yet another market 'economic' indicator flashes orange as the Seasonally Adjusted number comes in at $8.735bn - the largest miss from expectations in 6 months. Furthermore, using the Non-Seasonally Adjusted data, this is the largest sequential drop in 12 months (since the Feb 2011 plunge). While non-revolving debt managed to increase (though at a considerably lower pace) for the second month in a row the deleveraging that ended in Q4 has resumed following the end of the retail shopping season (as revolving credit contracted). Perhaps the same 'glitch' that destroyed Groupon, namely accounting for product returns, is about to sweep the entire retail industry?
The largest sequential drop in Consumer credit NSA since Feb 2011
And revolving credit has now contracted for 2 months in a row - as the consumer deleveraging ramps up again following the holiday shopping season...
Biggest Redemptions Of 2012 04/04/12 Zero Hedge - In the week ended March 28, domestic equity mutual funds per ICI saw another $3.5 billion in equity redemptions: the biggest since the start of 2012, bring total 2012 YTD outflows to $19 billion, nearly 100% more than the outflow for the comparable period in 2011, which saw "only" $10 billion in outflows. Truly a good way to celebrate the highest artificial stock market high since December 2007. And to all the "but the money is simply going into ETFs" apologists: you are right, with one caveat: Bond ETFs! ... And of course, the TVIX.
every time there is a ramp in the stock market, especially one which is not accompanied by retail buying, those who are buying, are forced to do so on increasingly more margin, as there is only so much cash in the market without booking actual profits. Sure enough, as of the end of February, margin debt was $289 billion, the highest since July 2011, while Net Free Credit (Free Credit Cash plus Credit balances in margin accounts less Margin Debt) of negative $33 billion (meaning investors have negative net worth) was the lowest also since July. What does this mean? Simply said, that if the cross asset rout continues, which means bonds yesterday, and stocks and commodities today, the margin calls will once again resume, as they used to in the fall of 2011, leading to a toxic liquidation spiral, pushing prices even lower.
While the Global Manufacturing PMI drops to 51.1, it remained relatively constant as it came in at 51.2 in February. Production expanded for the fourth consecutive month and new orders increased as well. The increase was modest, but it was an improvement. Source: Markit
The Eurozone index fell to a three-month low of 47.7 in March, down from 49.0 in February. Cost pressures have built and further signs that manufacturing weakness is spreading were main causes for the drop this past month. Source: Markit
Fed Holds Fire on Stimulus 04/03/12 WSJ - The Fed is in no hurry to launch new measures to boost economic growth, minutes from the central bank's most recent meeting showed, disappointing investors eager for more stimulus. Among the hints dropped in minutes of the Fed's March 13 policy gathering, Federal Reserve staff concluded that the U.S. economy is a little more susceptible to inflation than previously thought. That and other signals suggested that another round of bond buying by the Fed to push down long-term interest rates isn't imminent.
Goldman Undeterred, Sees June As Next QE3 Announcement Window 04/03/12 Zero Hedge - March FOMC minutes make easing at April meeting unlikely without substantial deterioration in the outlook. However, an announcement of additional asset purchases remains our baseline, with June the most likely timing at this point.
Minutes from the March 13 FOMC meeting showed that the committee did not discuss monetary easing options in detail, in contrast to our expectations. However, “several participants suggested that it could be helpful to discuss at a future meeting some alternative economic scenarios and the monetary policy responses that might be seen as appropriate under each one, in order to clarify the Committee’s likely behavior in different contingencies”. This may point to a staff presentation on easing options at the April 24-25 meeting.
In their discussion of current policy, only “a couple of members” said that additional stimulus could be needed “if the economy lost momentum or if inflation seemed likely to remain below its mandate consistent rate of 2 percent”. The lack of support for immediate easing among current voting members suggests that any action at the April meeting is unlikely. However, we would note that “a couple” likely understates support for easing among Fed officials because presidents Evans and Rosengren—both of whom we think would probably be sympathetic to more action—are not currently voting members of the committee.
Officials’ views on the outlook were only a little more upbeat than previously. The minutes noted that “the economic outlook, while a bit stronger overall, was broadly similar to that at the time of their January meeting”. The Fed staff revised up its forecasts “a little” for the near-term and “somewhat” over the medium-term as well. The discussion of labor market developments at the meeting mirrored Chairman Bernanke’s speech from March 26.
Finally, the minutes said that the FOMC was still considering “potential further enhancements” to its communication policies, after introducing press conferences and an expanded Summary of Economic Projections (SEP) in the last year. We think this would include more information about the committee’s reaction function.
Btw, Hatzius is 100% correct, at least in this matter. As we will show momentarily, by 2016 there will be $30 trillion (at least) in global debt that has to be inflated away (and monetized). It won't inflate, or monetize, itself, after all.
The manufacturing conomy was doing just fine until Bernanke stopped feeding the Primary Dealers and actually starved them out early in 2008. He did that by paying for his crazy alphabet soup programs with cash from the Fed’s System Open Market Account. In selling and redeeming Treasuries from the SOMA he radically shrank the cash levels in Primary Dealer accounts, rendering them unable to maintain orderly markets. The dealers are, after all, not just market makers in Treasuries. They run all the markets, stocks, bonds, commodities, futures, options, everything. They are the big mahoffs of all the markets, and Ben is their banker and bagman.
The minutes are fake. They are fabricated, false, phony, and sterilized garbage, designed for public consumption. To put it bluntly, they’re propaganda. They are what the Fed and Wall Street casino owners want you to think. They are a blatant attempt to manipulate the behavior of market participants through the use of clever turns of phrase. The Fed wants the market to go higher, but it doesn’t want commodities to go with it, so its story line is that the conomy is healthy enough to continue growing without more QE. That gives traders reason to continue buying stocks, and no reason to buy commodities, which everyone “knows” go up when the Fed prints, in spite of Bernanke’s denials. And besides, commodities are up for other reasons, not anything Ben did, according to Ben.
That’s what these “minutes” are about, self justification and market manipulation. We won’t know the real story until February 2018 when the Fed will release the transcripts of this year’s FOMC meetings. Why do they hold them back for at least 5 years? Because the Fed thinks that you can’t handle the truth. The problem is that you can and they just don’t want you to know what it is, because if you did, you’d be able to make informed investment decisions. The decisions the Fed wants you to make are to buy stocks, bay and hold Treasuries, and sell commodities. They tailored the minutes accordingly, so that the headlines would elicit the desired response. They think that they’re Pavlov, and we’re the dogs.
The issue now is when will the Fed make its next catastrophic blunder. Just by tapping the brakes on the SOMA, it is creating conditions for another swoon. It is trying to hold back commodity prices while getting the benefit of conomic growth. The problem is that that growth is a second order bubble effect of the rising stock market. If they don’t feed the market, they won’t get their conomic growth. If they do feed the market, commodity prices will explode upward, and that will eventually put a stake in the heart of growth. For now, manufacturing activity is on a growth track. On the surface it appears that the Fed’s propaganda and manipulation is working, but in truth Bernanke has laid the groundwork for the Fed’s next blunder, panic move, and massive dislocation.
FALLING CONSENSUS: 2012 EPS has declined by 2% since the start of 2012.
The 12% YTD growth in the S&P YTD has been entirely due to multiple expansion
Since December the forward P/E multiple has expanded by 10% from 12.1x to 13.2x, above its 35-year average of 12.9x" even as EPS estimates have actually declined by 2% since the beginning of the year.
The ECB reduced “tail risk” via the LTRO." Which means that as of today, the market is officially overvalued.
Apple continues to have a significant impact on sector- and index-level results. Info Tech contributed 399 bp of the S&P 500 12% YTD return, but AAPL alone accounted for 179 bp or 15% of the rise in S&P 500 during 1Q. The company constitutes 22% of the Info Tech sector’s market cap and generates 22% of its earnings
Consensus expects year/year EPS growth in 1Q 2012 of 6% for S&P 500 and 12% for Info Tech, but excluding AAPL these expectations fall to 4% for both Tech and the index.
While Information Technology was the only sector to see margin growth in 4Q 2011, margins declined without Apple. In 1Q 2012, Tech margins are expected to grow by 16 bp YoY in total, but fall 33 bp without AAPL
2012 forward EPS have been declining ever since July, when they peaked just short of 114, and are now down to just about 105. In other words: without Apple and the margin boosting impact of the LTRO, the quarter (and really last two quarters) would have been a disaster. As noted earlier (and to Spain's detriment) the LTRO effect has now phased out. How long until the Apple mania meets the same fate?
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