Posts filed under “Think Tank”
The 20 year TIPS auction was mixed as the yield was almost 2 bps above where it was trading just prior but the bid to cover at 2.27 was the highest since this product was introduced in July ’04. The average has been around 1.80. The level of indirect bidders totaled 47.8% vs the average…Read More
Earlier this year, I had the privilege of participating in a discussion at American Institute for Economic Research on CDS with Martin Mayer, Walker Todd, David Michaels, Chief Financial Officer, AIER; Arthur Kimball-Stanley, a student at Boston College School of Law known for his research on CDS and insurance; Patricia McCoy of the University of Connecticut School of Law, and a number of other colleagues.
Below are Martin’s notes for the event where he makes some telling points about CDS, the nature of markets and life in general, which we published today with his permission. You may read our comment on CDS, “White Swans and Credit Default Swaps,” in today’s issue of The Institutional Risk Analyst by clicking here.
By Martin Mayer
Let me open with a large thought you can carry with you when you leave. Note how we are no longer being told that the chairman of the Federal Reserve is the second most powerful man in America. Why do you think that is true?
One of the truly awful moments of my time in this business was the early evening of December 9, 1982, an incident not in any of the histories but highly revelatory. What happened that evening was that Banco do Brasil failed at CHIPS (the Clearing House Interbank Payments System). Neither National City Bank nor Chemical, which represented Banco d Brasil in New York, was willing to pony up the $300-plus million the Brazilians couldn’t find. So they kept the window open until midnight, while the Fed worked its necromancy on its member banks and the money was found.
Subsequent examination revealed that after the Mexican collapse the previous summer, Banco do Brasil had found it increasingly difficult to roll over its loans, and had steadily switched a higher and higher share of its borrowings out of the conventional lending and borrowing market and into the overnight infrastructure market. For more than six months, the Brazilians had increased the size of its overnight position, until somebody at National City noticed and said, No more. Read More
June New Home sales, a measure of contract signings, totaled 384k annualized, 32k more than expected and up from a revised 346k in May. The federal $8,000 tax credit for 1st time buyers and the $10,000 California tax credit for new homes are certainly helping (sales in the West rose 23% m/o/m). Months supply fell…Read More
As discussed since March, GDP will likely be positive in the fourth quarter and maybe in the third quarter, if inventory restocking kicks into gear. If both the third and fourth quarters are positive, the National Bureau of Economic Research could determine sometime in the first half of 2010 that the recession ended in July or August 2009. Before anyone breaks out the champagne in celebration, it must be noted that in declaring an end to a recession, NBER is only identifying the trough in business activity. In determining the beginning and end of a recession, NBER looks at employment, real personal income minus government transfers, industrial production, retail sales, in addition to GDP. In the last two recessions, NBER decided the trough in activity coincided with an increase in industrial production in April 1991 and December 2001. As a result, NBER determined the 1991 recession ended in March, and in November 2001. If the past is any guide, NBER could determine that the current recession ended, in the month preceding a turn around in industrial production. The next few months could prove interesting in this regard. In June, industrial production fell -.4%, after posting a deep drop of -1.2% in May. For the second quarter as a whole, industrial production fell at an annual rate of -11.6%, after plunging -19.1% in the first quarter.
In my December 2007 letter, I stated that the Federal Reserve was going to have a more difficult time containing the coming credit crisis, since so much credit creation was taking place outside the banking system. Twenty-five years ago, banks provided almost 75% of the credit to the economy. In recent years, it had fallen to 35%, while the securitization of mortgages, home equity loans, auto loans, credit card debt, student debt and company receivables provided more than 40% of the credit. “Since the market place is supplying a greater proportion of credit creation to finance economic growth, the Federal Reserve’s capability to manage the credit creation engine has diminished. This is why this crisis is quite different than the other crisis faced by the Fed in the last 20 years. Most investors really don’t understand the credit creation process, and as a result, don’t comprehend the scope of this crisis, or the Fed’s limited ability to deal with it. It really is different this time.”
As much as the phrase “It really is different this time” applied to the credit crisis we were facing in December 2007, it also is appropriate in assessing the sustainability of the coming recovery. As noted last month, the decline from a growth rate of 2.8% in the second quarter of 2008 to a negative -6.1% in the fourth quarter, and rebound into a positive GDP print by the fourth quarter of 2009 is going to look every bit like a V-shaped recovery.
In tracking the end of a recession, NBER is merely identifying when the economy in aggregate reached its lowest point. It tells us virtually nothing about the quality and strength of the recovery that follows the trough. In the three worst recessions since World War II (1957-1958, 1973-1975, 1981-1982), real GDP (nominal GDP less inflation) averaged 5.6% in the first full calendar year after the recession ended. If measured from the trough of those recessions, real GDP growth averaged 7.8%. The coming recovery will be far weaker than prior recoveries. Those recessions were precipitated by the Federal Reserve increasing rates enough to significantly slow economic growth, causing a buildup of inventories, a reduction in production to pare inventory levels, and an increase in unemployment. Since the higher cost of money negatively impacted demand for homes and cars, pent up demand was unleashed as soon as the Federal Reserve lowered interest rates, which launched a strong self sustaining recovery.
The current recession was precipitated by the largest global financial crisis in history, not by a large increase in interest rates. The collapse in credit creation has resulted in the deepest synchronized contraction in global trade and economic growth since the 1930’s. The depth of this recession, and commensurate increase in unemployment, and declines in business investment and trade, has made this financial crisis worse and more protracted. The magic elixir of lower rates, which spurred the strong recoveries after the 1957-1958, 1973-1975, and 1981-1982 recessions, has proven a placebo. Lower rates have helped, but the demand for housing and cars has collapsed, so there is no pent up demand for the recovery to draw upon. The banking system remains crippled. Lending standards are very high for most forms of credit, credit availability remains restrained, and the volume of securitized credit is still off by more than 80%.
Source: Jerry Holbert, Comics.com, July 23, 2009.
Not only did the Dow Jones Industrial Index on Thursday breach 9,000 for the first time since January and the Nasdaq Composite Index notch up a streak of 12 consecutive advancing days, but other global stock markets, commodities, oil, precious metals, high-yielding currencies and corporate bonds also put in a stellar performance as a bullish mood prevailed.
Bonds and other safe-haven assets such as the US dollar and Japanese yen were out of favor as investors sought higher returns elsewhere. Also, the CBOE Volatility Index (VIX), or “fear gauge” was at its lowest level (23.1) since before the Lehman collapse in September.
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.
A summary of the movements of major stock markets for the past week, as well as various other measurement periods, is given below. As the second-quarter corporate results in the US rolled in, the American and most other markets closed the week in solid positive territory.
The MSCI World Index (+4.6%) and MSCI Emerging Markets Index (+5.2%) last week again added to the rally’s gains to take the year-to-date returns to +11.7% and a massive +45.3% respectively. Strikingly, the World Index advanced for ten straight sessions through Friday, whereas the Emerging Markets Index gained on nine of the past ten trading days.
The major US indices are all back in the black for the year to date, with each index having fallen for only one day last week. Prior to a slight decline on Friday, the Nasdaq Composite Index experienced its best winning streak since 1992 as it rose for 12 sessions in a row.
Click here or on the table below for a larger image.
Stock market returns for the week ranged from top performers Romania (+11.1%), Russia (+9.5%), Egypt (+8.8%), Hong Kong (+7.9%) and Poland (+7.8%) to Greece (-3.6%), Bermuda (-2.5%), Jamaica (-2.0%), Côte d’Ivoire (-1.9%) and Bangladesh (-1.0%) at the other end of the scale.
Of the 97 stock markets I keep on my radar screen, a majority of 82% recorded gains, 15% showed losses and 3% unchanged. (Click here to access a complete list of global stock market movements, as supplied by Emerginvest.)
As an aside, the capitalization of China’s stock market is currently $3.2 trillion compared with $11.2 trillion for the US market, according to data compiled by Bloomberg. Mark Mobius, head of emerging markets at Templeton Asset Management, said (via MoneyNews) China might surpass the US as the world’s largest stock market in as little as three years, as China’s state-owned companies will sell new shares and the nation’s 1.4 billion people will put more of their money into the market.
Back to the corporate reporting season in the US. Of the 142 S&P 500 companies that have so far announced quarterly results, 111 came out ahead of earnings expectations, 10 in line and 21 below. While the earnings announcements thus far have been impressive at the headline level, the reports become less striking once one digs a bit deeper to discover that the earnings numbers often only beat estimates due to cost-cutting.
At the top line revenues are still deflating, indicating no pricing power. Specifically, 72 companies posted revenue that failed to live up to expectations. But the prospects are looking up as for the first time in quite a while many more companies are raising guidance versus lowering guidance.
John Nyaradi (Wall Street Sector Selector) reports that as far as exchange-traded funds (ETFs) are concerned, the winners for the week included Claymore/MAC Global Solar Energy (TAN) (+17.9%), PowerShares Biotech & Genome (PBE) (+17.4%) and Market Vectors Solar Energy (KWT) (+15.9%). Among the country ETFs, Market Vectors Russia (RSX) (+ 12.5%) performed splendidly.
On the losing side of the slate, ETFs included “all things short” such as ProShares Short MSCI Emerging Markets (EUM) (-6.2%), ProShares Short QQQ (PSQ) (-5.0%) and ProShares Short Russell 2000 (RWM) (-4.9%).
As far as credit is concerned, the cost of buying credit insurance for US and European companies eased sharply during last week’s trading, as shown by the narrower spreads for both the CDX (North American, investment-grade) Index (down from 131 to 118) and the Markit iTraxx Europe Index (down from 107 to 95).
CDX (North America, investment-grade) Index
The quote du jour this week comes from Bill King (The King Report) who said: “Sorry, Mr. President – you ‘wasted a good crisis’. You, Ben, Hank, W, Little Timmy and Democratic Congressional leaders told Americans that the world would end unless US taxpayers mortgaged whatever little future remained in order to provide record stimulus now. You and your ilk said there was no time to delay. Remember you said ‘catastrophe’ would occur if there was no stimulus. You and your team boasted that millions of jobs would be created. No jobs yet. But Goldman Sachs and other insiders minted more money and numerous crony capitalists were able to salvage as much net worth as possible.
Category: Think Tank
A lot of bullish commentators are talking about a recovery being in the works, and they may very well be right. But it is not going to look like any recovery worthy of the name. This week we look at what I will call The Statistical Recovery. But first we take a look at what China is doing, as we continue our look at the rest of the world and ponder whether it is time to brace ourselves for an extended bout with the Muddle Through Economy*. (And yes, there is an asterisk.)
Quickly, and importantly, tonight we are releasing the first in a new series of quarterly Conversations entitled Geopolitical Conversations with John Mauldin and George Friedman. We believe that these new Conversations will help you better understand not only the global political landscape but also how it affects the financial umbrella that we are under. In this first Conversation, we talk about the “exogenous” risks to the markets (those from outside the markets themselves) posed by the geopolitical world.
George and I are going to make it a regular quarterly gig. We will offer this service, which will be priced separately, at some point in the near future. Now, here is the important part: all current subscribers and anyone who subscribes now will receive these Geopolitical Conversations free, as a thank you. (Current members can log in now.) If you have not yet subscribed, you can do so and receive a discount, by clicking the link and typing in the code JM49 to subscribe for $149. This is a large discount from our regular price of $199; plus, we are including the bonus Geopolitical Conversations that are worth $59.
Further, we will post a separate interview next week that I have obtained permission to use from my friends at Casey Research, and which I personally found very valuable. When we launched Conversations, we promised eight interviews a year. We are now at six, and next week I will record the seventh with housing experts John Burns of John Burns Real Estate Consulting and Rick Sharga of Realty Trac, the two leading experts on housing in the country. There is SO much uninformed, simplistic misinformation in the media about housing that I thought subscribers might like to know what the real situation is.
When you subscribe, all of the past Conversations are there for you to review. I am going to make sure subscribers get way more than their money’s worth. You don’t want to wait another day to subscribe. And now, let’s jump into this week’s letter.
Can China Lead the Global Recovery?
China is growing by about 8% a year, which is amazing on the surface of it, as their exports are down about 20% (more in some sectors). How can that be? I continually read about how China is going to lead the world out of its global funk. And 8% growth in GDP does seem pretty strong. But we need to look a little deeper.
If I told you that the next US stimulus package would be $4.5 trillion dollars, mostly given to banks that would be forced to loan out the money quickly, do you think that might jump spending and GDP in the short term? Would you start looking for a few bubbles to be created? What about the dollar?
That is the equivalent of what China is now doing. The volume of credit that is flowing into China is
equivalent to one-third of their GDP. Banks that already have large problem-loan portfolios are now lending even more, in a very short time frame. China has severe capacity-utilization problems, as trade has sharply fallen; and the US consumer is unlikely to return to anywhere near the level of consumption that was the case in 2006.
The Chinese stock market is up 85% this year, and commodity and real estate prices are rising. And no wonder: the money supply shot up 28.5% in June alone. That money is looking for a home. My friend Vitaliy Katsenelson has written a very perceptive essay for Foreign Policy magazine, talking about the nature of the current growth in China.
“But don’t confuse fast growth with sustainable growth. Much of China’s growth over the past decade has come from lending to the United States. The country suffers from real overcapacity. And now growth comes from borrowing — and hundreds of billion-dollar decisions made on the fly don’t inspire a lot of confidence. For example, a nearly completed, 13-story building in Shanghai collapsed in June due to the poor quality of its construction.
“This growth will result in a huge pile of bad debt — as forced lending is bad lending. The list of negative consequences is very long, but the bottom line is simple: There is no miracle in the Chinese miracle growth, and China will pay a price. The only question is when and how much.”
I am going to quote at some length from Simon Hunt’s latest note. He travels very frequently to China and is one of the world’s true experts on the copper market. If you want to know something about copper, ask Simon. Copper, we are told, is the metal with a PhD in economics. If copper prices are rising, then the economy is booming. And historically, that has more or less been the case. But there may be reason to believe that PhD may be no more useful this time around than a regular Ivy League degree.
“The world community has come to see that China is its savior. Growth picked up sharply in the second quarter, but it is based on fixed asset investment and renewed speculative activity in the real estate sector. It is not what the actual GDP or IP [Industrial Production] numbers will show that matters, but the quality of that growth. Money is cheap with loans and credit freely available, so much so that China risks developing new bubbles in the stock and commodity markets and real estate. Speculation is based on the simple premise that prices must rise. Foreigners as well as domestic participants are feeding this frenzy, especially in metal markets.
“The frenzied loan and credit growth is unlikely to be cut back until the fourth quarter at the earliest. It
is not this year or next which worries us, but post 2010. What will China do when the world economy gets hit with its next big leg down?
“There is no better example of this speculative activity than what is being seen in the copper market. It is easy for global merchants, hedge funds etc to ship cathode into China and warehouse it outside the reporting system, so fuelling investors’ sentiments that copper demand in China is soaring and at the same time draining copper from the rest of the market.
“It is not so much industry which is doing this buying in China, but individuals, financial institutions and even small companies divorced from the copper industry who are buying and holding the metal because copper is a store of value and prices will go up is the common response. We updated our numbers for the first half of this year.
They are truly staggering. Over 1 million tonnes of cathode is sitting in China mostly outside the reporting system as a punt on rising prices.” (Emphasis mine)
If it is happening in copper it is likely to be happening in other commodity markets as well. If you are trading the metals, you should be aware that a quick drop could happen if demand falls off due to there being a glut of supply coming back onto the market.
> ‘We’re all technicians now!’ Stocks again are so divorced from reality and economic fundamentals that investors must be technicians in order to capture upside and avoid the inevitable recoupling with economic and financial reality…Remember the last recoupling of a few quarters ago? Please recall the Goldman CFO, David Viniar, warned in early February 2008…Read More
The final July U of Michigan confidence number was 1 point higher than expected at 66 and up from 64.6 in the preliminary reading but is still down from 70.8 in June which was the highest since Feb ’08. The improvement in the final survey was led by the Outlook component which rose 2.3 points…Read More