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Our favorite collection of sentiment cycle charts — updated . . .

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As gold futures have declined 20% from their peak in September to their low this month, we thought we would reiterate some quick (albeit widely misunderstood) points that justify increasing our concentration of physical:

Gold has always been a monetary commodity and, like dollars and all other paper currencies, has virtually no practical or industrial utility

Gold is not currently a popular medium of exchange among private commercial counterparties, nor is it officially recognized by governments or central banks to be exchangeable in fixed terms with the competing paper currencies they produce

Gold is manufactured in the private sector; its annual production adds about 1.5% to its global above-ground stock (estimated to be about 175k metric tons in total)

The World Gold Council estimates that official gold holders (governments and/or central banks that manufacture competing paper money) retain about 30.7 thousand tonnes of gold, or about 18% of above-ground physical gold; are currently adding to their physical stocks

Only about 0.05% of long positions in exchange-traded gold futures contracts actually take physical delivery of gold, and exchange inventories available for delivery are less than 5% of outstanding contracts

Disaggregated private physical gold holders throughout the world tend to view their gold as strategic (rather than tactical) holdings, implying only long positions in gold futures contracts (non-manifest paper derivative claims) are susceptible to short-term funding and periodic calendar considerations

As gold futures have weakened recently, the stock of physical gold bullion among bullion dealers has depleted at a significantly faster pace (at lower and lower prices), implying buyers of bullion (private holders and central banks) view declining futures prices as an opportunity to accumulate the metal

Fundamentally, global central banks have produced much more paper currency and bank reserves (base money) than global gold production since 2008 (e.g. USDs +215% vs. gold 4.5%), and global debt denominated in paper currencies exceeds the actual stock of paper currencies with which to service and repay it by a wide margin (e.g. USD debt of $53 trillion vs. $2.7 trillion of base money)

Real interest rates (nominal rates less CPI) are negative across the majority of the largest developed and emerging economies, implying that a stable or rising gold price has positive carry

When properly accounted, global inflation is already substantially higher than common pricei baskets indicate, meaning real interest rates are even more negative than the CPI currently suggests¹

As with all currencies, gold pays its owner nothing unless it is leant, (most bullion holders choose not to lend gold for fear of not being able to retrieve it when necessary); however, in real terms gold remains vastly cheaper to hold than paper currencies and so it is a store of purchasing power

As we wrote in August (“Your Gold Teeth”), there are only two ways to safely own physical gold: take possession of above-ground bullion (and as we are seeing presently to do so outside the banking system where it can ultimately be hypothecated, pooled with financial assets and given away (The Gold “Rehypothecation” Unwind Begins: HSBC Sues MF Global Over Disputed Ownership Of Physical Gold), or own in-ground bullion through shares in precious metals miners, which have been usurped in the marketplace by popular derivative claims on precious metals (Did GLD And Other Gold ETFs Kill Gold Stocks?)

When valued in terms of Enterprise Value per Gold Ounce (EV/Gold), in-ground bullion may be owned for as little as $30/oz through shares in operating companies already in production (we will distribute a more in-depth analysis of this to Fund investors later in the month).

Conclusion: It seems highly likely that from both capital stock (money stock vs. gold stock) and capital flow (real interest rate) perspectives, the future growth rate of global paper currencies will continue to exceed gold production by a wide margin, which implies the price in paper currency terms of physical gold should continue to rise substantially. Any sell-off in gold futures or other derivative claims serve the physical gold buyer’s interest and the interest of investors in shares of gold miners looking to accumulate in-ground physical gold.

Lee & Paul

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I am off to go chat with Bloomberg’s Tom Keene at 12:30pm — watch it live on BBTV or stream it on the web.

We will discuss this rally, housing data, andperhaps MFG.

Real Time Economics (WSJ Blog) – Number of the Week: Finance’s Share of Economy Continues to Grow

8.4%: The financial sector’s share of gross domestic product. Given everything that’s happened, surely the financial sector’s role in the economy is smaller now than it was before the recession hit, right? Wrong. Combined, finance and insurance firms accounted for 8.4% of U.S. gross domestic product last year, according to the Commerce Department, eclipsing the peak it hit in 2006. In 1950, the financial sector accounted for just 2.8% of GDP…New research by New York University economist Thomas Philippon suggests that the financial sector is enormously outsized. He finds that, despite all the advances in information technology since the 1980s, the financial sector has become steadily less efficient: All that it has been gained from increased computing power and vast communications networks has been taken away, and then some, “by increases in trading activities whose social value is difficult to assess.” The upshot, says Mr. Philippon, is that finance’s share of GDP really ought to be about two percentage points lower than it is now. The industry’s travails may be far from over.

Comment

Click to enlarge:

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Source: Arbor Research

Is a tiny iPad in the works? At least, according to the occasionally reliable Taiwanese trade paper Digitimes, that could be the case.

Lauren Goode of AllThingsD, 12/19/2011 3:40:32 PM.

December 19^th marks one year since Meredith Whitney appeared on the CBS newsmagazine 60 Minutes and sent the municipal bond market into a tailspin from which it took months to recover.  To recap that event:  Ms. Whitney, a noted bank analyst, appeared on 60 Minutes and forecast “hundreds of billions” in municipal defaults during 2011.  The result was a two- to three-month siege on the municipal bond market, which was already in the throes of a supply bulge because the Build America Bonds (BABs) program had expired.

As we have written previously, the first few post-Whitney months were marked by huge redemptions in municipal bond funds.

One can see that the redemptions approached hemorrhage levels in the early part of 2011.  They got LESS negative as the spring wore on, and finally began to turn positive during the fall.  It is important to note that while the mostly retail-oriented municipal bond funds were having crushing outflows, sending longer-maturity yields skyrocketing, the demand for the TAXABLE versions of the same credits (BABs) was sending BABs yields lower, as pension funds, foreign buyers, and charitable foundations scooped up the generous yields afforded by year-end 2010 BABs issuance.  This was one of the clear signs that the Whitney-led meltdown was one related to liquidity and not to overall credit concern.

One can see from the chart that the skyrocketing of intermediate and LONGER term yields that occurred due to the 60 Minutesbroadcast continued unabated through mid-January.  This, of course, correlated with the massive amount of bond fund liquidations. And then began the long trip down in longer yields that has continued until now.

What were the keys to the turnaround?

Credit

State governments recently finished the seventh consecutive quarter of rising tax receipts.  This followed five straight quarters of declines from the fall of 2008 through the end of 2009.  To be sure, many states and cities are still struggling to rein in rising pension costs, as well as dealing with the loss of federal dollars.  But many states have made deep cuts in expenses and, in most cases, budget gaps have been closed without reliance on one-time solutions.  The market dealt with the bankruptcies of Harrisburg, PA and Jefferson County, AL without seeing a backup in overall tax-free yields.  It treated these bankruptcies as “one-off events, caused by specific problems of municipal malfeasance, and not as being indicative of overall municipal health.  As we have also written, overall financial health is better at the state level than at the local level – but all levels of government have been learning how to do more with less.

Supply

The sharp decline in long-term interest rates has spurred on issuers in recent months.  However, even with robust issuance at year end, 2011 is poised to finish with under $300 billion in total municipal bond issuance, a far cry from the $433 billion of issuance in 2010.  There is clearly a greater air of austerity at many different levels of municipal government, from the state level down to towns.  Certainly, in many cases, additional bond debt is being voted down by electorates.  In addition, many issuers decided to forego issuing bonds at the very high interest-rate levels that Meredith-mania caused in the early part of this year.  And, once the Build America Bonds program expired at the end of 2010, many officials decided to forego projects that might have been financed with the federally subsidized BABs.

Demand

Again, the municipal bond mutual fund flows tell a lot of the story. Much of the bond fund selling was replaced with INDIVIDUAL bond purchases earlier in the year.  But now bond fund flow has turned positive and should show overall positive flows for calendar year 2011.  Volatility in the equity markets has caused money to be pulled from stock funds and, presumably, some of this has found its way into the municipal bond market.  In addition, the prospect of higher taxes has also pushed investors toward tax-free municipals.  Although the rise in federal marginal tax rates now looks like it might be on hold until AFTER the 2012 election, northeastern states like New York, New Jersey, and Connecticut have seen a hike in marginal income taxes, thus raising demand for tax-exempt income.  We expect more states to raise income taxes at the margin in 2012 – and, no doubt, to aim the increases at higher-income individuals.

So as we head into the last two weeks of 2011, we can look at how tax-exempt yields stack up against US Treasuries on a relative basis now and in the middle of the Meredith meltdown last January.  There is no question that munis are cheaper, on a relative basis, across the whole yield curve, particularly on the front end.  But it is extremely important to note that municipal yields have moved in the same direction (down) as Treasuries – just not as much. The Congressional squabble over the debt ceiling, the downgrade of the United States by Standard & Poor’s, and the Federal Reserve announcement of its “Operation Twist “ in September all led to drops in Treasury yields, and munis – begrudgingly, in some cases – followed along.  The muni market fought those events off, along with the Harrisburg and Jefferson County situations, and made the long trip back from the despair of a year ago.  And for that we are thankful.

Happy Holidays!

Source:
Meredith Redux – One Year Later
Cumberland Advisors Commentary by John Mousseau
December 19, 2011

Nov Housing Starts totaled 685k, 50k more than expected and up from 627k in Oct. Most of the gain again was in the multi family category where starts there rose to the most since Sept ’08. Single family starts rose to the highest since June and permits rose to the most since Dec ’10, notwithstanding the still very high levels of existing homes. The overall gain in permits though was also led by multi family as they rose by 30k. From a jobs perspective, multi family construction is right now a boon. Multi family units completed totaled 102k vs the 238k new jobs started and permits for 246k more. Thus workers on all the finished multi family jobs have plenty of opportunity to hop on another with the need for even more.

This morning’s reading:

• What Was the Most Important Market Day of 2011? (Stock Sage)
• 9 part series: Astonishing Collapse of MF Global (Motley Fool)
• In search of a theory of deep downturns (Economist)
• FBI Runs ‘Perfect Hedge’ to Nab Inside Traders (Bloomberg) see also Closer Look at S.E.C.’s Mortgage Fraud Charges (DealBook)
• Why ‘I Don’t Know’ Is Often Your Best Money Answer (NYT)
• Just Don’t Call It a ‘Bailout’ (WSJ) see also U.K. Backs Sweeping Bank Reforms (WSJ)
• U.K. to EU, IMF: Drop Dead (Bloomberg)
• Today’s WTF headline: As Banks Start Nosing Around Facebook and Twitter, the Wrong Friends Might Just Sink Your Credit (BetaBeta)
• Alarm as Dutch lab creates highly contagious killer flu (Independent)
• Louis C. K.’s Blue Collar in First Class (NYT) also, Video here

WhatTF are you reading?

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What Bailout?
click for larger graphic

Source: WSJ

Peanuts, beer, 3 yr loans here! Today, European banks tell the ECB how much borrowing they want to do at 1% for 3 yrs. Tomorrow we’ll hear how much they took and forecasts are about 300b euros. While some are still speculating that banks are buying short term sovereign debt after selling it for the past few months, yields in Spain, Italy, Belgium and others are down again. Also, another good Spanish sale of short term bills is helping sentiment. Spain sold 3 month debt at a yield of 1.74%, well below the 5.11% paid last month and they paid 2.44% for 6 month bills vs 5.23% in Nov. The Spanish 2 yr yield is falling to a 17 week low and the 10 yr is at a 10 week low. There is confidence in the new Rajoy govt’s will and ability to get thru tough reforms as it will certainly be easier than for the previous Socialist gov’t. Italy’s 2 yr yield is at a 7 week low. Germany’s Dec IFO business confidence # unexpectedly rose to 107.2 from 106.6 led by the expectations component. Also in Europe, the euro basis swap is narrowing to a 2 week low and Sweden cut interest rates by 25 bps as expected. The ECB did fully sterilize its 211b euros of purchases. In Asia, the Shanghai and Sensex indices continue to trade poorly but the Kospi bounced after yesterday’s Kim Jong Il induced selloff.

Joe Nocera’s latest in the NYT, An Inconvenient Truth, is an interesting look at the SEC case versus those six GSE execs.

Note that Nocera has been dead right about Fannie & Freddie, The GSEs were bad enough, had engaged in enough accounting fraud, lobbying excesses, regulatory capture, all with vastly inadequate capital for their bizarre hybrid model — that critics don’t have to make stuff up. The reality is ugly enough:

“Eventually, their quest for profits led them to make a belated, disastrous foray into subprime mortgages, which ended with their collapse, and which has cost taxpayers about $150 billion. Tragically, Fannie and Freddie could have led a housing recovery — if they hadn’t become crippled wards of the state instead.

Yet these real sins have been largely overlooked in favor of imagined ones. Over at the conservative American Enterprise Institute, two resident scholars, Peter Wallison and Edward Pinto, have concocted what has since become a Republican meme: namely, that Fannie Mae and Freddie Mac were ground zero for the entire crisis, leading the private sector off the cliff with their affordable housing mandates and massive subprime holdings.

The truth is the opposite: Fannie and Freddie got into subprime mortgages, with great trepidation, only in 2005 and 2006, and only because they were losing so much market share to Wall Street. The reality is that Fannie and Freddie followed the private sector off the cliff instead of the other way around.”

Next, we get to the SEC’s case against the GSE execs. I hope they are solid cases, and we begin to get some real convictions versus the banking execs who were so reckless and dangerous.

However, Nocera fears that the SEC used a rather expansive definition of SubPrime in the claim against Fannie and Freddie’s CEOs and others. The SEC may even have pulled a page straight from GSE crazies Peter Wallison and Edward Pinto. If that is the case — and I am not yet convinced it is — the SEC claims will be weaker than originally believed.

I hope Nocera is wrong . . . but I would not want to bet against him.

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Source:
An Inconvenient Truth
Joe Nocera
NYT, December 19, 2011
http://www.nytimes.com/2011/12/20/opinion/nocera-an-inconvenient-truth.html