Living in a crowded city requires a few compromises. You’re close to anything you could want. But you have to deal with traffic and pollution. And homes can be pretty small. They don’t have a lot of room for giant furniture. So, are city dwellers stuck with uncomfortable futons? Thanks to some ingenious Italian designers, no. This convertible furniture is amazing and stylish.
The July NAHB homebuilder sentiment survey continued to soften, falling to 14 from 16 to the lowest since April ’09 and below expectations of 16. With the home buying tax credit no longer available to 1st time home buyers, the decline is not surprising. What is more surprising is why builders were optimistic in May (NAHB # was 22) after the April 30th expiration. Present Conditions fell 2 pts to 15 and the Outlook fell 1 pt to 21. Prospective Buyers Traffic fell 3 pts to 10. Buyers Traffic suffered in the 2 regions with the most amount of foreclosure competition for the builders, the West and the South while they rose in both the Northeast and Midwest. Bottom line, while we can easily blame the expiration of the tax credit for the drop off, according to the NAHB, “builders are reporting continuing consumer hesitancy regarding home purchases due to uncertainty in the overall economy and job markets.”
The last time the University of Michigan Sentiment reading was at its current level outside of recessionary periods (it printed Friday at 66.5) was smack in the middle of the non-recessionary blip in the early 80s (see red circle in lower left hand corner of chart; December 1980 and March 1981):
Source: St. Louis Fed (except most recent reading)
That said, we were at this level about one year ago (see red circle in lower right hand corner of chart), but we don’t know for sure as yet whether we were out of the recession (according to the NBER and, as I’ve argued, what we call this is more an exercise in semantics than anything else). Friday’s print also represents the largest month-to-month drop in this metric since October 2008 (not a fun time, as I recall) — drops of this magnitude are exceedingly rare, having occurred only seven times in the history of the series (390 readings). I’ll note that there’s a loose contrarian correlation between sentiment and the market — sell when confidence is high, buy when it’s low. However, the correlation is not quite strong enough for me to stand fully behind it.
Anyway, might past be prologue?
Adding (Monday 11:22) David Rosenberg’s take:
The dive to 66.5 in the University of Michigan consumer sentiment for July takes the index back to August 2009 levels. Just awful. Even by November 2002 (12-months after the recession ended in 2001) consumer sentiment was at 84.
Even with the bounce-back in the equity market, the volatility is crushing confidence — along with increasing signs of slowing economic growth. A 9.5 point plunge in this indicator does not happen too often — you have to go back to the aftermath of the Lehman collapse in October 2008 and before that in September 2005 after Katrina. The decline we saw, believe it or not, was nearly as big as the plunge we saw right after 9/11. Then, you have to go back to August 1990, when U.S. troops began to amass in the mid-East for the eventual war with Iraq (operation Desert Storm).
To put this latest dive into perspective it was twice as severe as the decline after the October ‘87 crash — then again, the economy was booming at a 7.0% annual rate in the fourth quarter of that year. And, then prior to that, guess what? We endured such a decline in December 1980 when double dip concerns were morphing into reality. …
Let’s talk about what is normal and what is not. What is normal is that at this stage of the cycle, a year into a supposed recovery, the UofM sentiment index is sitting at 89.3. In recessions, the index averages out to be 73.8, and in expansions, it is usually already sitting at 90.9, on average. Today we sit at 66.5. Could it be that we are still in a recession?
David R. Kotok
Chairman and Chief Investment Officer
More on the Fed’s Balance Sheet
July 18, 2010
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Last week we wrote about the Federal Reserve’s balance sheet. Readers may find a graphic showing both the asset and liability sides of the Fed’s balance sheet at www.cumber.com . Check the bottom of the home page. The Bank of England and European Central Bank are shown as well.
The Fed now finds itself in the following position. Nearly one trillion dollars is deployed in the customary asset holdings of treasury securities; this asset is the counterweight to the liability of currency outstanding, which is of historic dimensions. We explained this in detail last week.
In addition, the Fed holds over a trillion dollars in federal-agency mortgage paper as an asset. It has over a trillion dollars in liabilities payable to banks for their excess reserve deposits. The Fed is earning an interest rate of about 4% on the assets and paying an interest rate of 0.25% on the reserve deposits. The Fed remits the “profit” to the US Treasury.
The Fed got into this position during the height of the financial crisis by launching the GSE mortgage-purchase program. At that time, Fannie and Freddie were failing. They had lost all credibility in the market. They ceased paying dividends on their preferred stock, even as it counted as “good” capital in banks. They were a mess. They still are and have survived only because of billions in infusions from the US Treasury, which has become their de facto guarantor.
Foreigners wanted to dump the GSE paper. Americans would not buy it. Either the Fed had to enter as the lender of last resort or the home-mortgage interest rate in the United States would have skyrocketed at the very time that housing prices were plummeting.
The Fed did what it had to do.
The Fed is now engaged in an internal debate over the question of additional stimulus. At the same time, it is gradually taking down its forecast of future growth and inflation. Our colleague Bob Eisenbeis has a special Commentary about the latest Fed forecasts. It may be helpful for readers to spend a few minutes looking at Bob’s piece. He has coupled the text with graphics to assist readers who want to delve into the very important quarterly process that the Bernanke Fed has introduced. Bob’s special essay is “Where Do We Stand?” at http://www.cumber.com/content/special/fomc071710.pdf. It is also available in the “Special Reports” section of our website, www.cumber.com.
We expect little new from Chairman Bernanke’s testimony next Wednesday. Congress may ask him about the Fed’s options if the economy weakens. He may talk about exit strategies. However, in the end we expect no substantive changes.
The Fed is on hold. If the economy weakens and the deflation risk rises, the Fed will add to stimulative programs and its balance sheet will grow further. There are many ways for it to do so. If inflation returns the Fed will tighten and its balance sheet will shrink as interest rates rise. The most likely outcome is that the Fed will do nothing. It will wait, watch, and worry. Worry is the key aspect for Fed watchers. Deflation is a more serous risk than inflation. That risk is rising every day.
This Fed posture is coupled with a slowly growing, non-inflationary economy. That is bullish for bonds and for stocks. We expect both asset classes to perform well over the next year or so.
Our stock market target remains closure of the Lehman Gap, that is, an S&P 500 index level of 1250-1300. S&P 500 earnings may approach $90 next year. At today’s price of twelve times those earnings, the market is cheap. Moreover, the third year of a presidential term is normally a very successful one for investors. This is more likely if the November elections create a deadlock between Congress and the White House.
Our bond strategy continues to focus on longer-duration tax-free and taxable (Build America) state and local government bonds with well-selected credit coverage. This Muni bond sector remains very cheap.
Finally, we have this note on the Leen’s Lodge annual economic and financial, professional invitational gathering (with incidental fishing and friendly wagering). We can advise that Bloomberg plans to cover the event this year with TV, radio, and other media. They intend to broadcast both radio and TV live from Leen’s Lodge on Friday, August 6.
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David R. Kotok, Chairman & Chief Investment Officer, Cumberland Advisors, www.cumber.com
As has been seen throughout the entire European country debt mess, beginning last Nov with Greece, Moody’s has been playing catch up to both S&P and Fitch in giving their assessment of credit. Their downgrade of Ireland by 1 notch today to Aa2 puts them in line with S&P who downgraded them to that level back in June 2009. Irish debt is trading off and 5 yr CDS is higher but the news is not new to the market. With the IMF threatening to cut off Hungary from getting their allowance because of bad behavior, CDS is higher by 55 bps to 370, the highest since June 4th. The market bright spot in southern Europe continues to be Spain as yields again are dropping with their 2 yr in particular falling to the lowest since mid May as we await Friday’s release of the bank tests. The iTRAXX financial 5 yr CDS ahead of them is quoted at 140 bps, up 1.5 and well off the June high of 205 bps.
“…it is impossible for us, with our limited means, to attempt to educate the body of the people. We must at present do our best to form a class who may be interpreters between us and the millions whom we govern.”
-Thomas Babington Macaulay, member of the Governor General`s Council, in Calcutta, in 1834. Quoted in The New Yorker, May 31, 2010.
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FT’s Alphaville says I am cranky. Jeff Matthews says I am wrong. Michelle Leder points out the settlement is a pittance relative to GS’ cash.
Here’s a news flash: All of that is irrelevant. We are a nation of laws, and that is what guides SEC prosecutions, negotiations, and settlements. Sure, I may be cranky (only fellow curmudgeon Alan Abelson agrees with me), but what I truly am is astonished at some of the uninformed commentary pinging about inter-tubes about this subject.
Spin isn’t fact, opinions aren’t laws, and having an opinion is not the same as being informed.
One might hope that various folks discussing these issues have a passing familiarity with Securities law, but apparently not. Let’s see if we can edumacate some folks who are unfamiliar with the 1933 and 1934 Security acts.
1) Its the Law, Bitches!: First and foremost, this is a legal issue: It is not a philosophical debate, a political question, or a case of ethical transgressions; It is not even an investing question.
I am not going to get all Kartik Athreya on everyone, or claim that only lawyers should discuss this. But too many people seem to be forgetting that this is a legal case. It turns on what the law is, how regulatory agencies enforce that law. Discussing this out of that context is fun and intellectually stimulating, but it also provides zero insight into the legal case, or its prosecution, or its resolution.
Here is the classic legal syllogism: Understand the relevant law, apply the facts to that law, draw your conclusion. And the relevant law?
2) Securities Exchange Act of 1934:
Since this is a legal case, what say we actually look at the law?
“It shall be unlawful for any person, directly or indirectly to make any untrue statement of a material fact or to omit to state a material fact . . . [or to] engage in any act, practice, or course of business which operates or would operate as a fraud or deceit upon any person, in connection with the purchase or sale of any security.”
-Rule 10b-5, Securities Exchange Act of 1934 *
Based upon the evidentiary information the SEC had — emails, phone calls, sworn statements, etc. — the “Fabulous Fab” told Abacus buyers that John Paulson was long the Abacus CDO when he was in fact short it; Further, Fab omitted to mention that a short seller helped to construct the synthetic CDO that he was betting against.
That factual description is a clear violation of Rule 10b-5.
There are some folks who have argued that yes, Fab made untrue statements and omitted others — but they were not material. That is a very good, very lawyerly argument — but it is one that would be a stone cold loser in front of any jury.
Bottom line: IMO, this was a no brainer case based on these facts and the law. Unless you can show Fab never said those things, it is case closed.
THAT is why Goldman settled.
3) Its a pittance! This is only a) 14 days of profits; b) 7X the CEOs salary c) 5% of Cash on hand:
Pay attention, this is important: I have been laboring under the impression that fines and penalties are relative to the legal transgression — you know, the law that was violated, and the damages that violation caused.
Fines are not based upon your bank account or annual income.
But that seems to be precisely what some people are arguing for. Does anyone here really want to see the law structured so that fines and penalties are dependent upon your assets and income — and not based on the actual infraction?
Imagine getting pulled over for a speeding ticket, and in addition to license and insurance and registration, you give the cop (or the judge) your IRS 1040, bank account and IRA/401k statements. Fines are then assessed based on your income and wealth — rather than the actual seriousness of the infraction?
Pretty ugly and absurd thought! Yet that is exactly what I keep hearing people claim — that apparently, we should use a company’s finances and income to assess a far greater penalty. Therefor, the fine should have been much greater — regardless of the transgression, because GS is so profitable and has so much cash.
Is that the road any of you seriously want to go down?
4) Penalties should be proportionate to infractions: Consider the transgression at hand: Fab lied in the sale of structured products, and his firm Goldman Sachs failed to adequately supervise him in these transactions. In the grand scheme of things, this was actually a minor transgression. Sure, it was sleazy, but it was not a billion dollar violation; It sure as hell was not an Arthur Anderson type massive firm-wide fraud deserving of the death penalty — as some of the angrier posts have demanded.
As much as many people want to blame the entire economic meltdown on the vampire squid, they deserve only a modest amount of blame. Worse still, this was not their most egregious offense.
In a nation of laws, we punish people for the crimes/transgressions they caught doing — not the ones we suspect they are guilty of (although OJ might beg to differ).
5) Securities Act of 1933: Civil Recovery by Defrauded Investors
As to the issue of Civil recovery by Goldman’s client’s, again, the 1933 Act is clear:
“In general,any person who offers or sells a security by means of a prospectus or oral communication, which includes an untrue statement of a material fact or omits to state a material fact, shall be liable to the person purchasing such security from him, who may sue either at law or in equity in any court of competent jurisdiction, to recover the consideration paid for such security with interest thereon . . . ”
–Section 12 — Civil Liabilities Arising in Connection with Prospectuses and Communications, Section 12 A
As noted Friday, this now opens Goldman to all manner of civil litigation by clients. I have no idea what the final cost of this will be; but a multiple of the $550 million in SEC settlements is likely, and a 10-20X final dollar amount is certainly in the range of possibilities.
6) Goldman’s Stock Rallied, therefore, its a victory: I’ve always hated that analysis, but since you brought it up: Pre-indictment, GS was north of $180. It closed Friday at $146. Its still some 20% below where it was.
On a related noted, since the indictment, Goldman Sachs has lost about $15 Billion if market capitalization. Isn’t that part a consequence of the SEC indictment? Isn’t that, in effect, part of the penalty?
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Life is not a black & white, bull/bear debate. There is nuance and subtlety to complex issues. But there are also law, facts, and actually a functioning legal system with specific rules and procedures.
Some people seem keen to ignore that . . .
“Whoever is in command will determine the agency’s path. When you have a lot of power vested in an agency, everything depends on how effectively they carry out their rulemaking authority.”
-Kathleen Engel, a Suffolk University law professor who sits on the Federal Reserve’s Consumer Advisory Council (WSJ).
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The real question is, who will be the first chairperson of this agency ?
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Source:
Consumer Agency’s Path Will Be Set by First Chief
SUDEEP REDDY
WSJ, JULY 6, 2010
http://online.wsj.com/article/SB10001424052748704699604575342992848011622.html
The Debt Supercycle
July 17, 2010
By John Mauldin
I have been writing about The End Game for some time now. And writing a book of the same title. Consequently, I have been thinking a lot about how the credit crisis evolved into the sovereign debt crisis, and how it all ends. Today we explore a few musings I have had of late, while we look at some very interesting research. What will a world look like as a variety of nations have to deal with the end of their Debt Supercycle. We’ll jump right in with no “but first’s” this week.
Part of this week’s writing is colored by my next conference. Next week I go to Vancouver to speak at the Agora Investment Symposium. I have a number of very good friends who will be there, both speaking and attending. This is generally a “hard money,” gold-bug-type crowd (and a very large conference). Some (but not all) of the speakers believe that all fiat currencies, including the US dollar, will default in one way or another, either outright or through inflation, as mounting debts and out-of-control entitlement obligations force large-scale monetization, leading to high inflation if not hyperinflation.
There are a couple of panels and debates that I presume I will be involved in, and I have been meditating on how the panels will go. Bill Bonner, founder of Agora and a book-writing machine, has a steel-trap mind with an ability to turn a phrase that is way beyond that of your humble analyst. The preponderance of the panel members will likely be in the soft-depression camp, and most of us will card-carrying members of the Often Wrong but Seldom in Doubt school of economics and investing (the Latin for which, I am told, is “Saepe mendosus, nunquam dubius.”) And yet, I am not quite there with most of that thinking, so the debates will be lively.
Understand, I started in the newsletter business back in 1981 or so, working with Dr. Gary North (also known as “Scary Gary”). Gary is an Austrian, and although I took a lot of economics courses at Rice, I had never read anything even remotely close to the Austrian school. I caught up rather quickly, and in the mid-1980s even wrote my own gold-stock newsletter (although I must admit I know next to nothing of the current gold-stock world). I was mostly limited to books, newsletters, and journals for reading material.
Then came the mid ’90s and the internet, and the world opened up. I became incurably addicted to information and read widely and deeply. At some point the small lens of Austrian thought became difficult to continue to peer through, as I looked for perspectives on the larger world. I now worship at a number of economic altars, in the ongoing effort to understand what is happening in the real world, not just in the world of theory or the world of what we would like to be. So, with that background, let’s look at The End Game.
When I mention The End Game, you’ll immediately want to know what is ending. What I think is ending for a significant number of countries in the “developed” world is the Debt Supercycle. The concept of the Debt Supercycle was originally developed by the Bank Credit Analyst. It was Hamilton Bolton, the BCA founder, who used the word supercycle, and he was referring generally to a lot of things, including money velocity, bank liquidity, and interest rates. Tony Boeckh changed the concept to the more simple “Debt Supercycle” back in the early 1970s, as he believed the problem was spiraling private-sector debt. The current editor of the BCA (and Maine fishing buddy) Martin Barnes has greatly expanded on the concept.
Essentially, the Debt Supercycle is the decades-long growth of debt from small and easily-dealt-with levels, to a point where bond markets rebel and the debt has to be restructured or reduced or a program of austerity must be undertaken to bring the debt back to manageable proportions.
As Bank Credit Analyst wrote back in 2007:
“The history of the U.S. is characterized by a long-run increase in indebtedness, punctuated by occasional financial crises and subsequent policy reflation. The subprime blow-up is the latest installment in this ongoing Debt Supercycle story. During each crisis, there are always fears that conventional reflation will no longer work, implying the economy and markets face a catastrophic debt unwinding. Such fears have always proved unfounded, and the current episode is no exception.
“A combination of Fed rate cuts, fiscal easing (aimed at relieving subprime distress), and a lower dollar will eventually trigger another upleg in the Debt Supercycle, and a new round of leverage and financial excesses. The objects of speculation are likely to be global, particularly emerging markets and resource related assets. The Supercycle will end if foreign investors ever turn their back on U.S. assets, triggering capital flight out of the dollar and robbing U.S. authorities of any room for maneuver. This will not happen any time soon.”
I was talking with Martin a few months ago, and about the topic turned to the ending of the Debt Supercycle. Martin said we are nowhere near the end, as the government is stepping in where private debtors are cutting back. We have just shifted the focus of where the debt is coming from. And he is right, in that the Debt Supercycle in the US, Great Britain, Japan and other developed countries (yes, even Greece!) is still very much in play as governments explode their balance sheets. Total debt continues to grow.
And yet, and yet… While the Debt Supercycle may not yet have ended, I think we can begin to see a clear case that, like the sandwich-board-wearing cartoon prophet warning, “The End is Nigh!” Greece is the harbinger of fundamental change. Spain and Portugal are pointing to the same outcome, as their cost of debt keeps rising. And Ireland? The Baltics?
There is a limit to how much debt you can pile on. But as the work of Reinhart and Rogoff points out (This Time Is Different), there is not a fixed limit or some certain percentage of GNP. Rather, the limit is all about confidence, a theme I have written on many times. Everything goes along well, and then “Boom!” it doesn’t. That “Boom” has happened to Greece. Without massive assistance, Greek debt would be unmarketable. Default would be inevitable. (I still think it is!)
The limit is different for every nation. For Russia in the 1990s, it was a rather minor total debt-to-GDP ratio of around 12%. Japan will soon have a debt-to-GDP ratio of 230%! The difference? Local savers bought government debt in Japan and did not in Russia.
I am a huge Futurama fan, and thought this was awesome:
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click for audio
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Source:
Billy West: The Many (Cartoon) Voices In His Head
NPR, July 15, 2010
http://www.npr.org/templates/story/story.php?storyId=128490848
"I sincerely believe, with you, that banking establishments are more dangerous than standing armies; and that the principle of spending money to be paid by posterity, under the name of funding, is but swindling futurity on a large scale." -Thomas Jefferson (letter to John Taylor in 1816)
After 3 quarters in a row that averaged just 1.2%, Q4 GDP grew 2.8%, a touch below expectations of 3.0% BUT Nominal GDP grew well below forecasts. Because the price deflator was up just .4% vs the estimate of 1.9%, Nominal GDP was up 3.2% vs the estimate of 4.9%. Personal Consumption rose 2.0% vs the forecast of 2.4%. Fixed Investment rose 3.3% helped by a 5.2% increase in equipment and software spending and residential construction rose by 10.9%. Trade was a slight drag on GDP growth and government spending was as well led by a 12.5% decline on national...
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