The Big Picture - Macro Perspective on the Capital Markets, Economy, Technology, and Digital Media

David R. Kotok co-founded Cumberland Advisors in 1973 and has been its Chief Investment Officer since inception. He holds a B.S. in Economics from The Wharton School of the University of Pennsylvania, an M.S. in Organizational Dynamics from The School of Arts and Sciences at the University of Pennsylvania, and a Masters in Philosophy from the University of Pennsylvania. Mr. Kotok’s articles and financial market commentary have appeared in The New York Times, The Wall Street Journal, Barron’s, and other publications. He is a frequent contributor to CNBC programs. Mr. Kotok is also a member of the National Business Economics Issues Council (NBEIC), the National Association for Business Economics (NABE), the Philadelphia Council for Business Economics (PCBE), and the Philadelphia Financial Economists Group (PFEG).

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Some Observations about Spot Interest Rates and Forward Interest Rates: with help from Jason Benderly, Jim Bianco, Ned Davis & Howard Simons
October 18, 2009

“What going to happen to interest rates when the inflation comes?” This is a recurring question in our quarterly client review meetings.

In a normal cycle one can make some reasonable projections about the changes in interest rates when the economy bottoms. The usual sequence is that the Fed first allows the economic recovery to gain traction and then eventually starts to tighten policy by raising the short-term interest rate. Other rates also rise, first in anticipation of Fed action and then as the Fed persists. At some point the Fed reaches a level which slows the inflation tendency of the economy. The yield curve flattens and longer-term rates stop rising, even as short-term rates continue to do so. In extreme cases the short-term rate is pushed above the long-term rate.

We are not in a normal cycle.

The operation of interest rates and Fed policy is quite different this time, as the Fed is engaged in quantitative easing; there is no serious inflation, there is huge federal debt issuance and the policy-prescribed interest rate is effectively near zero. Traditional dynamics of monetary policy don’t work. There are many reasons why this is true, and we will discuss them in future Commentaries. Japan is an example of how this zero-rate status with no inflation and huge deficits can persist for a very long time.

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In case you were unaware, it was 22 years ago today . . .  to celebrate, pick up as copy of Tim Metz’ Black Monday.

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With their Senate health care victory still fresh in the mind, is Team Obama finally getting serious about reforming Banking and Wall Street?

News reports that the White House is “growing frustrated that the banking industry is fighting President Barack Obama’s plan to overhaul financial regulations” seems to have been caused, in some part, by the mounting political backlash over big profits and bigger bonuses at Goldman Sachs and others.

As we have noted repeatedly — and unlike health care — the White House cannot rely on Congress for this one, as the place is fully bought and paid for by the finance lobby. Left to their own devices, the Parliament of Whores would produce extremely bank friendly regulatory reform. As we saw last week, the Financial Services Committee created the world’s biggest loophole, exempting more than 98% of all banks from consumer protection oversight (it exempts 8,000 of the nation’s 8,200 banks).

Regardless of your views on this particular bill, it is apparent that Congress is congenitally incapable of producing coherent regulatory reform when it comes to their patron saints, the large investment houses and banks.

Well, good news kids: It appears that the White House has had enough; They are finally beginning to push back against the banking lobby. Obama adviser Valerie Jarrett was quoted as saying “We are disappointed by the lobbying of anyone in the financial industry against regulatory reform.”

That is a very broad statement — in my read, it suggests a major change in policy is about to occur.

Even Larry Summers, the former hedge fund employee who has been way too friendly with Wall Street’s banks, may be finding religion. At the Economist’s Buttonwood gathering last week, he stated:

“Financial institutions that have benefited from government support can, should and must use this moment to think about what they can do for their country — by accepting the necessary regulation to protect the American people. There is no financial institution that exists today that is not the direct or indirect beneficiary of trillions of dollars of taxpayer support for the financial system.”

We will find out soon enough if this is lip service or something more significant.

As I have noted previously, it was a mistake to not pursue regulatory reform while the crisis was in full throat. And, the half measures that have been proposed won’t prevent the next crisis.

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Previously:
Obama Reform Plan Fails to Fix Whats Broken (June 18th, 2009)

http://www.ritholtz.com/blog/2009/06/obama-reform-plan-fails-to-fix-whats-broken/

Obama’s Weak Regulatory Reform For Derivatives (June 23rd, 2009)

http://www.ritholtz.com/blog/2009/06/team-obama-does-not-understand-derivatives/

Tactical Error: Health Care vs Finance Regulatory Reform (September 9th, 2009)

http://www.ritholtz.com/blog/2009/09/finance-reform-vs-health-care-reform/

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It is the weekend, and I am minding my own business, sitting in front of the computer, watching Kramer’s entrances repeatedly, when Missus Big Picture calls: “Wanna meet us at Century 21? You need a raincoat.”

In fact, I do need a raincoat — so I jump in the car, and meet the girls at the store.

I get to the parking lot — and its jammed. I find a spot as far from the store as geometrically possible, and head in. Its pretty busy. I make a bee line to the ties (nothing that is a must have), pick up a bunch of socks and underwear (I can now go 3 months without doing laundry), do not buy the stinky Bulgari cologne — try a few shirts on, none of them slay me. I do find a big ass umbrella and a very nice raincoat.

I start talking to one of the sales guys: “Crowded, huh?”

“Its the weekend.” he replies.

“Whats it like the rest of the week?”

“A morgue.”

I thank him, and check out the story with a stock clerk and cashier — they verify it.

I start noting what every store we go into is like — they are all sparsely filled:  Filene’s Basement and Lord & Taylor had some action, PC Richards was slow; Daffys was modest. The Door Store was empty, Smith & Hawken’s going out of business sale was not very busy; Drexel Heritage is already out of business. The Infinity and Honda dealers were both quiet.

The one exception? The brand new Apple Store in Manhasset — it was totally jammed.

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What did you notice this weekend?

Beau Lotto’s color games puzzle your vision, but they also spotlight what you can’t normally see: how your brain works. This fun, first-hand look at your own versatile sense of sight reveals how evolution tints your perception of what’s really out there.

“Let there be perception,” was evolution’s proclamation, and so it was that all creatures, from honeybees to humans, came to see the world not as it is, but as was most useful. This uncomfortable place — where what an organism’s brain sees diverges from what is actually out there — is what Beau Lotto and his team at Lottolab are exploring through their dazzling art-sci experiments and public illusions. Their Bee Matrix installation, for example, places a live bee in a transparent enclosure where gallerygoers may watch it seek nectar in a virtual meadow of luminous Plexiglas flowers. (Bees, Lotto will tell you, see colors much like we humans do.) The data captured isn’t just discarded, either: it’s put to good use in probing scientific papers, and sometimes in more exhibits.

Outside the studio work, the brain-like (that is, multidisciplinary) organization is also branching out to bigger public engagement works. It’s holding regular “synesthetic workshops” where kids and adults make “color scores” — abstract paintings that computers interpret into music, as with scrolls fed to a player piano. And lately they’re planning an outdoor walkway of color-lit, pressure-sensitive John Conway-esque tiles that react and evolve according to foot traffic. These and Lotto’s other conjurings are slowly, charmingly bending the science of perception — and our perceptions of what science can be.

Lotto teaches at University College London.

“All his work attempts to understand the visual brain as a system defined, not by its essential properties, but by its past ecological interactions with the world. In this view, the brain evolved to see what proved useful to see, to continually redefine normality.”

British Science Association

When Google bought YouTube, the deal was mostly panned. (but I liked it — the increase in G’s value paid for the deal almost instantly) )

Now, their CEO is admitting they overpaid:

“Schmidt had his reasons for asking his board to OK an offer of $1 billion more than what he thought the site was worth. The CEO made the comments during a deposition he gave in May as part of the copyright lawsuit Viacom filed against Google and YouTube in 2007. In short, he believed that Google had to offer that much, or competitors, presumably Microsoft or Yahoo, would walk away with the increasingly popular video site.

“This is a company with very little revenue,” Schmidt said while being questioned by Stuart Jay Baskin, a Viacom attorney. “(YouTube was) growing quickly with user adoption, growing much faster than Google Video, which was the product that Google had. And they had indicated to us that they would be sold, and we believed that there would be a competing offer–because of who Google was–paying much more than they were worth…We ultimately concluded that $1.65 billion included a premium for moving quickly and making sure that we could participate in the user success in YouTube.”

Source:
Schmidt: We paid $1 billion premium for YouTube
Greg Sandoval
C/Net, October 6, 2009

http://news.cnet.com/8301-31001_3-10360384-261.html

Nassim Taleb is the best-selling author of Fooled By Randomness and The Black Swan: The Impact of the Highly Improbable. So called ‘Black Swan Events’ are climactic, random and hard-to-predict events that have been entirely unexpected, and often hitherto perceived to be impossible.

At this breakfast event chaired by Danny Finkelstein, Comment Editor of the Times, Nassim Taleb explains the relevance of his ideas to the economic crisis, and argue for measures to create a more Black Swan-robust society. David Cameron responds and takes part in a discussion with the audience.
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Daniel Fermon of Société Générale produces some of the more unusual market research and especially charts and graphs.

What I have seen  of them is frequently intriguing, and oddly thought provoking. I can stare them them for long periods of time while trying to suss out just what they mean — sometimes with only modest degrees of success.

Still, they are strangely appealing, fully of symmetry and grace. I find them oddly beautiful:

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Source:SG Cross Asset Research

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Source: Congressional Budget Office, SG Cross Asset Research

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Source:
Worst case debt scenario
Protecting yourself against economic collapse: Hope for the best, be prepared for the worst
Daniel Fermon
SG Cross Asset Research,
Société Générale, 13 October 2009

Yet another example of YouTube’s raison d’etre:

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Its even more impressive when you stop to consider how much work this must have been to edit together.

via Buzzfeed

Words from the (investment) wise for the week that was (October 12 – 18, 2009)

Risky assets remained in favor during the past week, generally helped along by fairly robust economic data and better-than-expected corporate earnings reports. A number of bourses, crude oil, inflation-linked bonds and high-yielding corporate bonds and currencies recorded fresh highs for the year, whereas gold hit an all-time high of $1,070.20 per ounce.

Assets such as government bonds and the US dollar saw fading demand as safe havens, now that the global economy is on the mend. Similarly, credit default spreads tightened markedly and the CBOE Volatility Index (VIX) declined to its lowest level since early September 2008.

The Dow Jones Industrial Index passed a psychological milestone this week as the Index broke above the 10,000 level for the first time in a year, although it then declined again to fall shy of the roundophobia number by four basis points by the closing bell. The Dow first broke above 10,000 more than ten years ago in 1999 and has since done so on 26 occasions. Yes, a ten-year buy-and-hold index investor has had no capital gain over the period!

Source: The Wall Street Journal, October 16, 2009.

Meanwhile, according to the Financial Times, a survey of 44 leading economists by the National Association of Business Economics (NABE) showed the jobs that were lost during the Great Recession are not expected to return before 2012, while anemic wage growth of only 1% this year and 2.2% next year is forecast – the slowest two-year period on record. “But the way that investors are almost relying on unemployment to stay high [and central banks not to start exiting from the exceptionally low interest rates any time soon] demonstrates that the recovery, in markets and the economy, remains on shaky foundations,” warned FT’s investment editor, John Authers.

Source: Walt Handelsman, October 14, 2009.

The past week’s performance of the major asset classes is summarized by the chart below – a set of numbers that indicates an increase in risk appetite.

Source: StockCharts.com

A summary of the movements of major global stock markets for the past week, as well as various other measurement periods, is given in the table below.

The MSCI World Index (+1.4%) and MSCI Emerging Markets Index (+2.1%) both made headway last week to take the year-to-date gains to +25.6% and an impressive +70.4% respectively. Interestingly, Chile is now only 1.5% down from its July 2007 highs and could be one of the first markets to wipe out all the financial crisis losses.

Notwithstanding a down-day on Friday, US indices closed higher for the week. The year-to-date gains remain firmly in positive territory and are as follows: Dow Jones Industrial Index +13.9%, S&P 500 Index +20.4%, Nasdaq Composite Index +36.8% and Russell 2000 Index +23.4%.

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