Archive for the ‘Economy’ Category

David Rosenberg, the former chief economist at Merrill Lynch (who recently jumped ship) had a follow up interview on CNBC about his bearish observations of the past month. Here are some points from Zero Hedge‘s thorough summary:

On the technicals, Rosie sees a possible break through all the way to 1,200: “That is an observation, not a forecast, by the way. Back when we hit that level last fall, it was a glass-half-empty feeling of being down 20% from the highs; this time around it is a cause for celebrating an 80% move off the lows!”

In the fund flow camp, he points out that after the sideways action for the past three weeks, the break out was precipitated by only the second net 2009 inflow in mutual funds of $12 billion. “The initial source of buying power in March was the dramatic short-covering and pension fund rebalancing.” Now, it is the retail investor keeping the rally alive, as he is transfixed by the cheerleading puppets on CNBC. The vicious cycle would pressure the predominantly bearish fund managers (60% seeing the move off the lows as a bear market rally, and 5% buying into the V-shaped recovery concept) to chase performance, implying high “odds of a further melt-up.”

Indeed, the market technicals make this chart of the S&P 500 look unstoppable:

S&P 500 6-2

The upswings since March have been on high volume (with the declines on relatively lower volume), and the index recently broke through the 200-day moving average, which has been a source of resistance since December 2007.

The market’s valuation on the other hand, is very overbought:

In a nutshell, David doesn’t see the S&P $75 earnings, based on a bond implied 12.5x multiple, as achievable until 2013 at the earliest. And he concludes “Look at this way — we are going to be hard-pressed to see operating EPS much better than $43 this year. A ‘normal’ first-year earnings bounce is 20%, and again this is being generous, but that would leave us with $52 EPS for 2010. We give that prospect very little chance of occurring, and we have some difficulty with the stock market going ahead and pricing in an earnings profile that is likely four or more years away from occurring.

Rationalizing the move upward is almost impossible, since this rally is founded on sentiment derived from the fear of being left behind…By institutional investors! From Minyanville:

Portfolio managers are evaluated based on their performance relative to their benchmark. Most institutional managers are still overweight cash and underweight equities…Perhaps even more importantly, virtually everybody that has cash right now is underperforming on a year-to-date basis. Remember that the S&P 500 started the year at 903…Most of these managers aren’t bullish on the market, but at this point, it doesn’t matter what they think. Getting long equities is a matter of job preservation.

That’s very well put…if they cashed out near the bottom, they have no choice but to chase the rally up. He goes on to point out that institutional fund managers (mutual funds, hedge funds, or general financial advisors) handle a great deal of money, and therefore cannot simply buy or sell all at once – it takes much longer to establish/unwind positions, making their operation less liquid. In essence, the shift in allocation from bonds to equities is moving the market due to the magnitude of the cash flow.

Finally, the long-term fundamentals illustrate a more precarious conviction, since the broader economy doesn’t point to the “green shoots” sprouting too quickly:

The much more ominous questions of unemployment and consumer savings are still on the table, and painting a much bleaker economic bleaker picture. In Rosie’s words: “The really big story is that the fiscal stimulus is assisting in the household balance sheet repair process, but is not really doing much to spur consumer spending — highlighted by the rise in the personal savings rate to a 15-year high of 5.7% from 4.5% in March and zero a year ago — never before has the savings rate risen so far over a 12-month span. Note that the post-WWII high in the savings rate is 14.6% and that is where I believe we are heading. Despite the conventional wisdom, this is highly deflationary.” As for unemployment: “Nothing is as important to the inflation backdrop as the labor market — wages/salaries/benefits are seven times more powerful in determining the corporate pricing structure.” And the labor market, at least until the latest batch of however adjusted data, is not showing any relief whatsoever.

A tug of war between market barometers indeed…


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*Reference to the ‘Dollar Smile’ theory (explained by Macro Man, coined by Morgan Stanley):

One possible explanation is an emerging school of thought that a US recession/quasi-recession is actually good for the dollar. According to the proponents of this theory, weak/negative US growth is both damaging to the rest of the world and a catalyst to encourage US investors to bring money back home. The upshot is that there is less demand for foreign assets/currencies and more demand for US assets/currency; hence, the dollar rallies.

By gauging the sentiment of news flow in the past week, the answer to the question of continued strength in the Dollar would seem to be no. First, a little history:

The dollar picked up steam back in December once the thesis that the world economy could “decouple” from the woes of the US fell apart — it became clear that the BRIC economies are less equipped to deal with fallout from the credit crisis, and are more likely to default on their own debts. As stated above, this led investors to unwind their investments in emerging markets, and bring them back into US cash (a more liquid asset). Since stocks were tanking, coupled with the Federal Reserve’s  intent to suppress interest rates with its various liquidity programs (TARP, TALF), many investors sought safety and bought US bonds — to at least yield some sort of return while on the sidelines. Since March 9th (the recent bottom in equities), there has been a departure from risk aversion, and more investors have sought the same risk they did last summer in commodities and emerging markets.

here’s a chart of the MSCI Brazil index (a basket of stocks which is representative of Brazil’s economy):


Here’s how the 10-year note has performed in the same time:

10 Note

Yields have gone up (which means people are selling) while emerging markets are simultaneously attracting new capital. The dollar has also weakened – although slightly – which raises the question of a weaker dollar going forward with rising inflation expectations. Tony Crescenzi has stated that the dollar may slowly relinquish the status of being the world’s leading currency, as the dollar is now 63% of the world’s reserve assets (compared to 70% back in 2002). However when considering alternatives (particularly China) he says:

China’s renminbi is ascending but not suitable for parking the world’s reserve assets because there is no bond market there. Moreover, the renminbi is not yet widely used for commerce and in contracts.

Well, Tony may have spoken too soon.

From the Financial Times:

Brazil and China will work towards using their own currencies in trade transactions rather than the US dollar, according to Brazil’s central bank and aides to Luiz Inácio Lula da Silva, Brazil’s president.

An official at Brazil’s central bank stressed that talks were at an early stage. He also said that what was under discussion was not a currency swap of the kind China recently agreed with Argentina and which the US had agreed with several countries, including Brazil.

“Currency swaps are not necessarily trade related,” the official said. “The funds can be drawn down for any use. What we are talking about now is Brazil paying for Chinese goods with reals and China paying for Brazilian goods with renminbi.” (Emphasis Added)

FT Brazil Exports China 5-19

The scale of the agreement wouldn’t be enough to dramatically affect the FX markets, but it could if this idea appeals to other foreign countries. Brazil has discussed selling 10 and 30 year bonds in International markets this year, which would add to the currency’s liquidity…which satisfies another trait of a desirable currency.

As many of the world’s economies embrace foreign investment (Malaysia’s FX market is currently closed to outsiders, for example), and as our domestic economy releverages money from this period of zero interest, the dollar may wear a frown sooner than expected.

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I can’t believe this Op-Ed from Thomas Friedman slipped by me…

Leave it to a brainy Indian to come up with the cheapest and surest way to stimulate our economy: immigration.

“All you need to do is grant visas to two million Indians, Chinese and Koreans,” said Shekhar Gupta, editor of The Indian Express newspaper. “We will buy up all the subprime homes. We will work 18 hours a day to pay for them. We will immediately improve your savings rate — no Indian bank today has more than 2 percent nonperforming loans because not paying your mortgage is considered shameful here. And we will start new companies to create our own jobs and jobs for more Americans.”

The guys from Marginal Revolution have actually been on this idea since October:

We should encourage the immigration of prime-age individuals. Beginning in 2007, net immigration fell to half of its level over the previous five years. Increasing immigration would increase the demand for housing and raise home prices. And note that the benefit would be immediate. Home prices — and the value of subprime obligations — would rise in anticipation of a higher population base. The U.S. particularly needs highly skilled workers. These workers not only would purchase homes, but would generate higher living standards for all Americans.

There are a couple of things we know are certain:

  1. We have too many houses (excess supply)
  2. In order for prices to stop falling, we need to either bull-doze a couple hundred-thousand homes, or somehow boost demand.

If we approached immigration in a Utopian manner (only allowing people who can buy a house), we could (in effect) import demand growth, and decouple from the global recession.


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Despite the flood of cash from the government, Banks are still hoarding cash…What could explain this phenomenon?

From BusinessWeek:

They (Banks Chiefs) argue that the government funds are designed to shore up capital and support lending, but that they have no obligation to make new loans. “It’s not a one-to-one relationship,” says BofA CEO Kenneth D. Lewis. “We don’t write $15 billion in loans because we got $15 billion from the government.”

So there’s a disagreement on what the TARP money should be used for…But some may ask why banks won’t make new loans? The answer, as always, is dependent on money:

Right now there’s little financial incentive to make fresh loans. In the current unease, new corporate loans are immediately marked down to between 60¢ and 80¢ on the dollar, forcing banks to take a hit on the debt. It’s more lucrative, then, for them to buy old loans that are discounted already.

Just when you think all of the side effects of repealing Glass-Steagall were out of the system. Now banks won’t even make new loans; since there are so many discounted securitized mortgages on the market, they’re using the TARP money to buy outstanding mortgages…

Since the TARP was so Ad hoc by nature,  The government didn’t  force them to do otherwise, so you can’t blame banks for cutting the best deals.

The most important point regards their capital requirements:

Under federal rules, banks are required to maintain a certain level of capital based on their assets. When they incur losses, they either have to raise more capital or sell assets to keep those ratios in check.

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A leading indicator for Friday’s unemployment number, perhaps.

From Crain’s:

New York’s unemployment claims systems crashed this week, overwhelmed by tens of thousands of jobless New Yorkers trying to call or log in at once ahead of this week’s filing deadline.

State labor department officials say the problem started Monday and caused the phone banks at the state’s toll-free claims center to shut down sporadically through the afternoon. On Tuesday morning, the phone system crashed again and the problem spread to the online filing system.

Leo Rosales, an agency spokesman, says as many as 10,000 people per hour were trying to log into the system when it crashed. He says everything was back up by early Tuesday afternoon.

A rush of claims on North Carolina’s unemployment Web site caused similar problems for jobless workers earlier this week.

Oh my.

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Paul Krugman, who won the Nobel Prize in economics this year, speaks about the state of our economy at the National Press Club.

Here’s the best part of his hour long speech:

Start around the 4 minute mark, and follow through until the end – this is the part of his speech where he breaks away from his notes and speaks about the practicality of a bailout package.

Some fun facts from the speech:

  • The Multiplier Effect of government spending is $1.50 for every dollar of fiscal stimulus; if we had a bailout package of $850 billion, the effect on the real economy would be $1.275 trillion.
  • GDP needs to grow by 2% in order to eliminate 1% of unemployment; the real effect of the stimulus package would be around 9% of our GDP (1.275/14), eliminating 4.5% unemployment…Krugman estimates that unemployment will be around 9-10% by year end. Therefore, on the surface, this stimulus would set the U.S. off into a world of full employment, but we must consider how quickly we can spend the money (which believe it or not, is the hard part).
  • Finally, we’ve  concluded that infrastructure would be one of the best targets of fiscal spending (besides technology). However, estimates show that there are only $150 billion worth of “shovel ready” jobs, or projects which can be started in 6 months (at the earliest). This means we will have to get creative in our methods of spending – green collar jobs, fix bridges, retrofit buildings, upgrade our electrical grid from AC to DC (which would allow our electrical lines to go under water, allowing us to build wind farms in the middle of the Atlantic Ocean).

Hat-tip to Paul for the video.

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Some people have been making a big fuss about who exactly caused this deregulatory mess (Bush, Greenspan), and this topic has been a particularly prevalent theme over at The Big Picture:

Today’s New York Times has a damning article linking Senator Chuck Schumer to many of the radical deregulatory policies that underlie much of the current crisis.

I have assessed a lot of blame for the crisis on several people — Greenspan at the top of the list, followed by several others, including President Bush. Phil Gramm was a prime sponsor of all manners of ruinous legislation — which, I hasten to add, was signed into law by one President Clinton (he sure isn’t blameless in the mess).

I guess it’s fun to point fingers and try to single out a scapegoat, but we can’t go much deeper than recognizing our mistakes and trying to make sure they don’t happen again. In The Great Depression, for example, we learned that using the gold standard likely exacerbated a series of demand shocks which could have been averted if we had targeted the money supply using interest rates, like we do today (hence, learning from our mistakes).

That said, where are we in the process of identifying what is wrong with our current system, and what will it mean for the future? If we determine that the problem is 30-1 leverage ratios and easy access to money, we are going to accommodate their absence with a much slower rate of growth in our next expansion.

All of that said, I’d like to point fingers for a moment. Anyone think about blaming the SEC? The news of Bernard Madoff’s ponzi-scheme is especially sobering to the fact that no one was/is watching these guys.

From Bloomberg:

Dec. 14 (Bloomberg) — Bernard Madoff’s investment advisory business, alleged to be a Ponzi scheme that cost investors $50 billion, was never inspected by U.S. regulators after he subjected it to oversight two years ago, people familiar with the case said.

The Securities and Exchange Commission hasn’t examined Madoff’s books since he registered the unit with the agency in September 2006, two people said, declining to be identified because the reviews aren’t public. The SEC tries to inspect advisers at least every five years and to scrutinize newly registered firms in their first year, former agency officials and securities lawyers said.

Wait…this is the best part:

“Given what the SEC claims is the magnitude of the fraud, this is something you would hope an inspection would have uncovered,”

Hmm. Good point. Did they even check this Madoff guy out? As soon as the fraud was exposed, a series of reports came out (almost instantaneously) which identified how this was a blatant ponzi-scheme – here, here, here, and here. So how did the SEC not figure this out? Is our public sector really that far behind the curve, as not to identify a $50 billion scam?

Either way, I think there is no chance that the current SEC chairman, Christopher Cox, makes it into the Obama administration. None. Please read his Op-Ed in the WSJ to see how Bob Rubin-esque his analysis of this situation is. As many have pointed out, the SEC has utterly failed to carry out their explicit responsibility in regulating rating agencies, the same agencies which deemed Fannie Mae and Freddie Mac AAA caliber debt, just before they had to be nationalized. The SEC was also responsible for relinquishing the mandated debt-to-net capital ratio (read: leverage) from 12:1 to 40:1, by the way.

As much as I’m not a fan of Jim Cramer’s antics, he could do a better job than Cox – what more could he do worse? He’s talked about reinstating the uptick rule, banning these leveraged ETF’s (which would undoubtedly lower volatility), changing mark-to-market accounting principles for illiquid assets (think of any 3 letter acronym – CDO. CDS. MBS.) – All of which would have a positive influence on the markets, and ultimately our economy.

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