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

Marc Faber, publisher of the Gloom, Boom & Doom report, talks about his investment strategy and the outlook for global financial markets. Faber speaks with Rishaad Salamat on Bloomberg Television’s “On the Move Asia.”

Source: Bloomberg, June 23

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US Stock Futures plummeting  on news that jobless claims exceeded estimates and “European Central Bank President Jean-Claude Trichet said the debt crisis threatens to infect banks.”

Looks like I picked the wrong week to quit sniffing glue cover shorts. We’re still about 39% cash.

My reads for this morning:

• What Stock-Market History Is Telling Us (Market Watch)
• Does an expanded Government role impact investment returns? (Stewart Partners)
• Bill Gross to Deficit-Obsessed Congress: Get Real (TPM)
• Big bills racked up to buttress economic recovery are coming due (LA Times)
• Crude Oil Supply & Demand (Ed Yardeni Blog)
• The Fed’s Dual Mandate: Lessons of the 1970s (St. Louis Fed)
• Harnessing the Power of Feedback Loops (Wired)
• The Cloud Wars: With Google Docs, Box.net Takes On Microsoft (Fast Company)
• Michele Bachmann‘s Holy War (Rolling Stone)
• The Illusions of Psychiatry (NY Review Of Books)

What’s on your reading list?

Caveat Emptor: “Let The Buyer Beware”

Caveat Emptor is an old common law rule which means “Let the Buyer Beware.” In plain English, it means that home buyers are on their own when it comes to the condition of the property. If there is a defect of any kind, it becomes the buyer’s problem, not the seller’s.

Most home buyers are unaware that in Massachusetts, with a few exceptions, the rule of Buyer Beware is still alive and well. That is why in the vast majority of transactions, buyers choose to have the property inspected by a licensed home inspector. And it’s also why there is a contingency in the offer or purchase and sale agreement giving the buyer the right to opt out of the agreement if there are serious issues.

But what happens if the home inspector misses a broken A/C unit, or the sellers concealed that the basement flooded, or the Realtor didn’t tell the buyers there was a Level 3 sex offender next door? These are all thorny disclosure issues.

Private Sellers: No Duty to Disclose

A private seller has no legal duty in Massachusetts to disclose anything about the property (except for the presence of lead paint). Yes, you read that correctly. He doesn’t have to say boo. Will that assist the buyer in selecting the home for purchase? Maybe not. But if the basement floods, the seller does not have to say anything about it.

A seller, however, cannot affirmative misrepresent a material fact about the property. That is, if the seller is asked a direct question, such as “has the basement ever flooded?” and he answers “never” when it has, he has lied and can be held liable for that.

Most agents will insist that Sellers fill out a Statement of Property Condition (see below) which will fully disclose just about every conceivable condition of the premises. However, the standard form does contain small print language purporting to limit the agent and seller from disclosure liability.

Real Estate Agents: Heightened Duty

Under Massachusetts consumer protection regulations governing real estate brokers, a broker must disclose to a buyer “any fact, the disclosure of which may have influenced the buyer or prospective buyer not to enter into the transaction.” This is somewhat of a subjective standard; what may matter to one buyer may not matter to another. If a broker is asked a direct question about the property, she must answer truthfully, accurately, and completely to the best of her knowledge. Further, a broker cannot actively avoid discovering the details of a suspected problem or tell half-truths. This is why most Realtors err on the side of full disclosure, as suggested in Bill Gassett’s blog.

As for that Level 3 sex offender living next door, I would advise the listing agent to disclose that fact. The Massachusetts Supreme Judicial Court has held that off-site physical conditions may require disclosure if the conditions are unknown and not readily observable by the buyer and if the existence of those conditions is of sufficient materiality to affect the habitability, use, or enjoyment of the property and, therefore, render the property substantially less desirable or valuable to the objectively reasonable buyer. I think a dangerous sex offender would be something a buyer would want to know about, wouldn’t you?

Home Inspectors

In 1999, Massachusetts joined a growing number of states that require home inspectors to be licensed. There is now a state Board of Registration of Home Inspectors. Home inspectors are now required to carry at least $250,000 of errors and omissions insurance. The board is empowered to suspend licensed home inspectors for violations of the statute or regulations and to impose civil penalties on persons purporting to conduct a home inspection without the required license.

A home inspector is one of the most important referrals your Realtor will give you. Most agents know which inspectors are great and which are terrible. If you are the unfortunate victim of an incompetent home inspectors, they can be sued civilly for breach of contract or negligence.

Massachusetts Sellers Disclosure:

Source:
Massachusetts Real Estate Disclosure Law
RICH VETSTEIN
Mass Real Estate Law Blog, June 21, 2011

http://www.massrealestatelawblog.com/2011/06/21/is-buyer-beware-alive-and-well-an-overview-of-massachusetts-real-estate-disclosure-law/

Good Thursday morning. We are seeing Markets lower in Europe and Asian after Uncle Ben and the Fedettes lowered their perennially over-optimistic forecasts for growth in the US. Global Markets reversed their modest gains and sold off yesterday, and there seems to be follow through in the futures this morning.

From Sub-prime being contained (James Grant quipped “Yes, contained to planet earth”) to the panicked end of the world forecast during the crisis (thus preventing a Swedish pre-packaged bankruptcy for insolvent banks) to the over-optimistic recovery, the forecasts of the Fed in general and BB specifically have been little short of awful.

Then again, the forecasts of 90% of the economic community ain’t worth a plug nickel. Beyond the institutional habit of being excessively optimistic, the Fed’s economic forecasts have been working off the wrong data set, stubbornly refusing to recognize that this is a credit driven crisis, and not your run of the mill business cycle contraction. They have either been unwilling or unable to recognize this. I am not sure which I find more galling: The lack of acumen or missing sense of humility for the failures.

Trader’s lack the luxury of being that wrong over and over again. The best career advice for any trader with the Fed’s forecasting track record would be to learn the phrase “Would you like fries with that, sir?”

This is the savage tragedy of giving a group of economists this much influence and authority. I disagree with Ron Paul — its not that we should End the Fed, it is that we should replace much of its ruling economists with mathematicians and engineers. Applied Physics (and its empirical-based scientific method) should drive monetary policy, and not the squishy, cognitively challenged economists who suffer from the human foibles of believing they have a clue about the future. As history as shown, with few exceptions, economists do not seem to comprehend the recent past, much less the next few quarters. I maintain a private list of economists who actually do understand the recent past as well as the present, and they are worth their weright in rapidly appreciating gold.

The first step to fixing the Fed is for them to get a firmer grasp on understanding their own lack of understanding. I am beginning to suspect we have a case of Dunning-Kruger Syndrome at work. Perhaps they might focus more on the probabilistic nature of forecasts, and place less emphasis on declarative opinions. Some error tracking and more frequent corrections would be nice as well.

The sooner we recognize that the field of economics is a branch of Sociology and not Mathematics, the better off we will all be.

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Federal Reserve Economic Forecast, January 2008

Bernanke Is Either Not Very Bright or Not Very Honest. He Admits He Doesn’t Know Why We Have a Weak Economy … But He’s the One Who Weakened It

In “Bernanke Admits He’s Clueless On Economy’s Soft Patch”, Forbes blogger Agustino Fontevecchia notes:

Brutally honest, Bernanke admitted that he had no clue what was actually causing the current fragility in the U.S. economic recovery. While the FOMC statement assigned blame outside of the U.S., pointing at Japan along with rising food and oil prices, Bernanke was put on the spot by a reporter who noted the inconsistency behind that explanation and a lowering of long term forecasts. Bernanke took the hit, admitting only some of the factors were temporary and that he didn’t know exactly what was causing the slowdown, but that it would persist. “Growth,” said Bernanke, “will return into 2012.”

Specifically, Bernanke said today:

We don’t have a precise read on why this slower pace of growth is persisting.

Well, it is obvious to anyone who has been paying attention what’s causing the slow down, and if Mr. Bernanke doesn’t know, he should be fired.

As I’ve repeatedly explained since 2008, all independent economists and financial experts know why the economy is weak … and everything the Fed has been doing has been weakening it.

High-Level Fed Officials Slam Bernanke

Fed Vice Chairman Donald Kohn conceded that the government’s actions “will reduce [companies'] incentive to be careful in the future.” In other words, he’s admitting that the government’s actions will encourage financial companies to make even riskier gambles in the future.

Kansas City Fed President and veteran Fed official Thomas Hoenig said:

Too big has failed….

The sequence of [the government's] actions, unfortunately, has added to market uncertainty. Investors are understandably watching to see which institutions will receive public money and survive as wards of the state…

Any financial crisis leaves a stream of losses among the various participants, and these losses must ultimately be borne by someone. To start the resolution process, management responsible for the problems must be replaced and the losses identified and taken. Until these actions are taken, there is little chance to restore market confidence and get credit markets flowing. It is not a question of avoiding these losses, but one of how soon we will take them and get on to the process of recovery….

Many of the [government's current policy revolves around the idea of] “too big to fail” …. History, however, may show us a different experience. When examining previous financial crises, both in other countries as well as the United States, large institutions have been allowed to fail. Banking authorities have been successful in placing new and more responsible managers and directions in charge and then reprivatizing them. There is also evidence suggesting that countries that have tried to avoid taking such steps have been much slower to recover, and the ultimate cost to taxpayers has been larger…

The current head of the Philadelphia fed bank, Charles Plosser, disagrees with Bernanke’s strategy of the endless printing-press and ever-increasing fed balance sheet:

Plosser urged the Fed to “proceed with caution” with the new policy. Others outside the Fed are much more strident and want plans in place immediately to reverse it. They believe an inflation storm is already in train.***

Bernanke argued that focusing on the size of the balance sheet misses the point, arguing the Fed’s various asset purchase programs are not easily summarized in a single number.

But Plosser said that the growth of the Fed’s balance sheet was a key metric.

“It is not appropriate to ignore quantitative metrics in this new policy environment,” Plosser said…

Plosser is bringing the spotlight right back to the Fed’s balance sheet.

“The size of the balance sheet does offer a possible nominal anchor for monitoring the volume of our liquidity provisions,” Plosser said.

The former head of the Fed’s Open Market Operations says the bailout might make things worse. Specifically, the former head of the Fed’s open market operation – the key Fed agency which has been loaning hundreds of billions of dollars to Wall Street companies and banks – was quoted in Bloomberg as saying:

“Every time you tinker with this delicate system even small changes can create big ripples,” said Dino Kos, former head of the New York Fed’s open-market operations . . . “This is the impossible situation they are in. The risks are that the government’s $700 billion purchase of assets disturbs markets even more.”

And William Poole, who recently left his post as president of the St. Louis Fed, is essentially calling Bernanke a communist:

Poole said he was very concerned that the Fed could simply lend money to anyone, without constraint.

In the Soviet Union and Eastern Europe during the Cold War era, economies were inefficient because they had a soft-budget constraint. If a firm got into trouble, the banking system would give them more money, Poole said.

The current situation at the Fed seems eerily similar, he said.

“What is discipline – where are the hard choices – when does Fed say our resources are exhausted?” Poole asked.

Read the rest of this entry »

This sums up Congress pretty well:

Fascinating interactive graphic from the NYT, circa January 2009:

“Since the Great Depression, presidents have frequently experimented with Keynesian economics to combat recessions. Three economists chronicle the history of government policy during past recessions and explain what worked and what didn’t.”

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click for interactive graphic

hat tip boingboing

We Need BABs!
June 21, 2011
David Kotok
Peter Demirali

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Yields on Treasury notes and bonds are at lows for the year, following weak economic data and declining equity and commodity markets. Higher food and energy prices drained the budget of a consumer sector that is saddled with a high debt burden and poor job and income prospects. Given that backdrop, spreads on investment-grade corporate bonds are at the tightest levels since the financial crisis first appeared. Corporate bond issuance has been very robust, reaching $384 billion in 2010 and $514 billion through June!

The corporate bond market was the first sector to heal from the financial crisis, as institutional investors correctly predicted lower chances of default in all subsectors except financials. Spreads have tightened dramatically across the credit curve from AAA to BBB. AAA-rated 30-year industrial bonds trade around 60-70 basis points higher in yield than the comparable Treasury bond. In the ten- year maturity range, AAA-rated industrials trade at roughly 50 basis points over the ten-year Treasury note. Single-A-rated telecoms like Verizon or AT&T trade at roughly 115 basis points over the ten-year Treasury. We believe spreads are narrow because of the dearth of supply from other sectors. The securitization markets have shut down for all intents and purposes. The commercial mortgage- backed securities market and private-label residential mortgage-backed securities market barely exist. Even the short-term commercial paper market has seen issuance decline over 60%, despite the fact short-term rates are close to zero.

The employment situation in the U.S. is not healthy. Construction employment and housing-related employment have fallen dramatically. The housing bust and financial markets collapse wiped out a tremendous amount of household wealth. Consumers have seen the value of their assets shrink while their liabilities remained the same or even increased. This situation, where liabilities are greater than assets, is called a balance-sheet recession, a term coined by Richard C. Koo of the Nomura Research Institute and author of the book The Holy Grail of Macroeconomics. His book discusses Japan’s experience of the last twenty years, as well as the Great Depression. His analysis suggests that monetary policy is ineffective in combating a recession caused by a financial shock. He argues that fiscal policy is the only remedy.

The municipal bond market is ideally suited to stimulate growth and also replace the lack of supply in the debt markets through some reincarnation of the Build America Bond (BABs) program. This program was a huge success in 2009 and 2010 by way of expanding the investor base of municipal debt. Pension funds, foundations and endowments, sovereign wealth funds, and others recognized the value, diversification, and low default risk these bonds offer. Last week the bipartisan congressional Joint Tax Committee published a report stating that permanently reinstating the Build America Bonds program would only result in a cost (loss of revenue) of approximately $5.7 billion dollars over a ten-year period. The cost savings to issuers would be significant, and the increased supply would be welcomed by investors in every category. Most importantly, it would help put people back to work.

States have made tremendous headway in reducing costs and increasing revenues. This year, state and local debt has contracted at the fastest rate since 1996. As a percentage of GDP, debt at the state and local level is at 16% and declining. Difficult decisions regarding budgets and expenditures are being made in state capitals and town halls across the country. States also know what projects are important and can manage them better than federal agencies. To relieve the pressure on household balance sheets, a long-term infrastructure initiative is necessary. It would have the benefit of improving our roads, water systems, ports, and transportation systems. An initiative like the BABs program would likely achieve what monetary policy is unable to accomplish: the creation of stronger, long-lasting economic activity.

Peter Demirali, Managing Director and Portfolio Manager

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Peter Demirali is a portfolio manager and heads Cumberland’s taxable fixed income area and is a long time veteran of taxable fixed income markets. He is a member of Cumberland Advisor’s Management Committee. His bio may be found at www.cumber.com. Comments on this article may be directed to peter.demirali@cumber.com.