Monday, May 25, 2009
Sternlicht, who built Starwood Hotels & Resorts Worldwide Inc. into the third-largest U.S. lodging company, also discusses the U.S. government's financial rescue plan and the hotel business.
WATCH VIDEO: Sternlicht Sees Bottom Forming in Residential Market
WATCH VIDEO:Sternlicht Doesn't See Commercial Property Income Growth
(from Bloomberg, May 1, 2009)
Saturday, May 23, 2009
You remain convinced that the U.S. is nowhere close to being out of the woods. Why is that?
We had three shocks in succession [in the U.S.]. We had a housing shock, followed by a credit shock, followed by an employment shock. Although credit conditions aren't back to normal ... there's no doubt that they are measurably better than they were just three to six months ago. But the other two shocks are lingering and still very significant.
You were predicting by 2005 that U.S. housing would take a serious tumble.
I had this bad gut feeling about home prices. I was early on the call. But you could see the cracks. We know that house price deflations don't end well. But this proved to be far worse than anything we saw in the 1990s.
Because you were an early bear at the table, plenty of smart portfolio managers dismissed what you had to say. Won't that happen again, now that the market seems to be bottoming out?
I know that people will say, well, there's the boy who cried wolf. And all I can say to that is: Remember, the wolf showed up at the end of the story.
I take it that U.S. housing remains the No. 1 concern.
It's hard to imagine that anything is going to stabilize until we put a floor under home prices. They are still declining to varying extents in most parts of the States.
What's critical in forecasting [the economic recovery] is trying to assess how a $20-trillion shock, which by the way is a 30-per-cent hit to the [U.S.] household balance sheet [on a par with what occurred in the 1930s], is going to influence the future.
This is very difficult to forecast. And there are long and insidious lags between a shock to the household balance sheet and the peak impact on consumer spending.
Why is that?
It takes time for households to determine if this is a permanent or temporary loss of wealth. If it's a temporary loss, there will be no impact on spending or the savings rate. If it's deemed to be permanent, then the impact is going to be significant, but it will happen quarters or years down the road. It takes a while for people to process.
So those predicting a turnaround by the end of this year are overly optimistic?
In a normal recession, we're off to the races by this stage of the cycle. But when you go back and take a look at other countries in other periods that also endured a credit contraction and asset deflation of this magnitude, the decline in GDP typically lasts two years, not 10 months.
And it takes six years for home prices to bottom out, and the unemployment rate typically rises over a four-year interval. There will be a time and place when we actually do put in that bottom. To think that it's going be this year is a little early.
You also point out that the average age of the consumer is also a big factor in crimping a consumer-led recovery.
We have the first consumer recession in the United States where the median age of the boomer is 52. The last time we had a [mild] consumer recession in 1990, the median boomer age was 34. They were still buying refrigerators and cars and microwave ovens. What's happening right now is that the boomer is going to his or her financial adviser and seeing two pieces of paper that scare them to death - their net worth statement and life expectancy table.
Let's turn to the other big shock, labour. You don't like what you see when you delve deep into the U.S. data, do you?
There are very disturbing trends. In lockstep with letting people go, companies have also been cutting people's hours at almost a record rate. The 33.2-hour [U.S. average] workweek is at a record low.
People don't look at that. But that is also a component of income. We have lost eight million full-time jobs in this recession.
In a normal recession, we'll lose 2.5 million. But not everybody was let go. Six million were. Two million were pushed into part-time work. The number of people working part-time and not by choice is up almost 80 per cent year over year. We have never seen a growth rate like that.
What does the dramatic increase portend?
The biggest effect is on income, which drives spending, which ultimately drives profits.
So I guess we should forget about consumer-related stocks for a while.
I still hear this from clients today: 'Don't count the U.S. consumer out. It never pays to underestimate the shopping prowess of the U.S. consumer.' I think people are still in denial. ... This is a new paradigm of frugality.
There has been a definite shift in psychology. So when you have [housing] affordability at record highs and very little thrust on home sales, there's valuable information there about the savings-spending relationship. It doesn't make you feel too good, admittedly.
People's attitudes towards credit, discretionary spending and home ownership have changed. This is going to take place over a period of years. To think that after eight months of a declining trend in consumer spending that this is over would be extremely hopeful.
So you would steer clear of consumer discretionary and housing stocks. What about U.S. financials?
What's the future business model? I would not be putting a large multiple on trading revenues. But they got dramatically oversold, and the Obama team did an excellent job in selling the stress test. But it's really hard to forecast the future in terms of what the structure's going to look like, how regulated they're going to be. What we do know is that the biggest client of the banks, which is the household sector, is going to be cutting back on credit. So it probably favors asset managers or those [other] parts of the financial sector that are geared toward savings.
Let's turn to Canada. Why so bullish on your homeland?
If you have the view, as I do, that Asia will come back first, then the implications for basic materials and industrials that are geared to that part of the world should be positive, at least in relative terms.
A third of the Canadian economy is devoted to the U.S. But that doesn't mean our market can't outperform. In fact, I think that it will because of the additional torque that we get from the push in the commodities sector.
Any more reasons to feel upbeat?
You don't have to do much more than take a cursory glance at the data to see that there are glaring differences [with the U.S.], that Canada is in much better shape.
How, ultimately, is that fiscal mess going to get cleaned up south of border? If you go back to the 1930s, you'll see that it was through relentless increases in marginal tax rates. That's going to work to our advantage.
I think that there's going to be a lot of money flowing into the Canadian capital markets in the next several years. It's very bullish for the Canadian dollar. ... Over time, Canada is going to be viewed as a bastion of stability.
You also say that Canadian fortunes depend on whether China's recovery story turns out to be real.
There's no doubt that our economy is very closely hitched to the U.S. market. But our stock market is actually very significantly tied to what happens in China, because roughly half is resource-oriented.
There's the old saying that in the land of the blind, the one-eyed man is king, and Canada is the one-eyed man, certainly relative to the U.S. If the story in China is the real deal, so much the better.
At a glance
Economist David Rosenberg, 48, started his first Bay Street job on Oct. 19, 1987 - one of the worst single days in stock market history.
Education: Bachelor and master of arts degrees from the University of Toronto
In 1987, four years after getting his start at Bank of Canada and Canada Mortgage and Housing Corp., leaves Ottawa for Bay Street and senior economics posts, first with Bank of Nova Scotia and then Nesbitt Burns.
In May, 2000, joins Merrill Lynch in Toronto as chief Canadian economist and strategist. In 2002, transfers to Wall Street as chief North American economist. Commutes to Toronto on weekends. Consistently ranked as one of the top economic analysts.
Jan. 1, 2009: Stays on after takeover of Merrill by Bank of America.
May, 2009: Moves back to Bay Street as chief economist and strategist with Gluskin Sheff + Associates.
Rosenberg has been recognized for his leadership and achievements in his field. He has ranked first in economics in the Brendan Wood International Survey for
"What we know about periods of asset deflation and credit contraction is that the impact on the economy tends to last for years, not quarters."
(from Globe and Mail, May 20, 2009)
Stock market will be elongated "W" shape. It will re-test its lows, it just having topped out in a bear market rally at its resistance level. It will now come to its senses and focus on business earnings, which will be subdued for a year yet. So it will be like this:
David Rosenberg, chief economist and strategist at Gluskin Sheff & Associates Inc., former chief North American economist at Bank of America-Merrill Lynch, talked with Bloomberg's Erik Schatzker. The best ranking economist questions the pace of the recovery, sees elongated U-shape recovery and market re-testing the March 2009 lows.
00:00 Outlook for economy, equities; strategy
03:48 Consumer spending; currency market
06:02 Economic recovery; state of global economy
--The Standard & Poor’s 500 Index may fall beneath the 12-year low reached on March 9 because consumer spending hasn’t recovered from the longest recession since the 1930s
--“We have to get confirmation the March lows are going to hold. The conventional view was the November lows were going to hold. As we found out in the opening weeks of March, no, those lows didn’t hold.”
--Rosenberg will “keep an open mind as to whether the lows from March will hold or not as we go into the second half of this year. I’m not sure where the buying power is going to come from.”
--The S&P 500 rallied as much as 24 percent from an 11-year low of 752.44 on Nov. 20 to Jan. 6 on speculation the economy will recover amid government efforts to rescue banks and automakers. The measure erased those gains and fell another 10 percent to a 12-year low of 676.53 on March 9 as losses at lenders mounted and unemployment continued to rise.
--The nine-week gain that began March 10, the steepest over similar spans since the 1930s, was a “gargantuan short-covering rally.” He doesn’t expect the economy to recover in the second half. “I’m seeing no revival of consumer spending in the second quarter.”
--Retail sales in the U.S. unexpectedly dropped in April for a second month, indicating that rising unemployment is prompting consumers to conserve cash. The 0.4 percent decrease followed a revised 1.3 percent drop in March that was larger than previously estimated.
--The benchmark index for U.S. stocks plunged as much as 57 percent from an October 2007 record as writedowns and credit losses stemming from the collapse of the subprime mortgage market climbed to $1.47 trillion. The measure rallied 34 percent from March 9 through yesterday as the largest banks said they were profitable, the government pledged $12.8 trillion to drag the economy out of recession and policy makers around the world cut interest rates to near zero.
WATCH VIDEO FROM BLOOMBERG
(from Bloomberg, May 21, 2009)
Friday, May 22, 2009
Michael Steinhardt: “My net feeling is that this rally doesn’t have all that much more to go and the dangers out there remain consequential.”
“The economy is still a scary place,” Steinhardt, 68, said in a Bloomberg Television interview. “My net feeling is that this rally doesn’t have all that much more to go and the dangers out there remain consequential.”
The Standard & Poor’s 500 Index has surged as much as 37 percent since March on signs the first global recession since World War II is abating. The Conference Board’s measure of leading economic indicators, including stock prices and manufacturing, increased in April for the first time since June. Still, the Federal Reserve projected on May 20 that unemployment will be at least 9 percent through next year and gross domestic product has shrunk for three straight quarters.
“Can the stock market do well in a muddling period in the economy, where at best it grows at a percent or two for a period of time? Maybe,” Steinhardt said at his estate in Bedford, New York, where he keeps lemurs and zonkeys, a cross between a zebra and donkey, in a private zoo. “But it’s not a period where you see an effusive stock market.”
In 1967, he opened New York-based Steinhardt Management Co., a hedge fund that produced returns averaging 24 percent a year for the next 28 years. He is the chairman of WisdomTree Investments Inc., a New York-based asset-management firm that creates exchange-traded funds.
Steinhardt now spends most of his time on philanthropy, including the Steinhardt School of Culture, Education and Human Development at New York University and the Steinhardt Social Research Institute at Brandeis University in Waltham, Massachusetts. He is a co-founder of Birthright Israel, which provides free trips to Israel for Jews between the ages of 18 and 26. He also has homes in New York City and Jerusalem.
U.S. government bonds are not safe investments at this time, Steinhardt said.
Treasuries posted their biggest annual gain since 1995 last year as the worst stock-market rout since the 1930s drove investors to securities they perceived as havens. Also, the Fed cut the target for its benchmark lending rate to as low as zero, a record.
The yield on 10-year notes fell to 2.0352 percent in December, the lowest on record for data going back to 1953. While the figure has climbed to 3.45 percent, it’s still about half the monthly average of 6.93 percent since 1962, according to data compiled by Bloomberg.
“To be a long-term investor in Treasuries at this point I think is foolish,” he said. “The rates are low, and the danger is high.”
(from Bloomberg, May 22, 2009)
The P&F chart still shows a bullish price objective to $174, which would be on the high side or even above the zone of Fibonacci retracement levels on the weekly chart. But after GS on the daily chart tested $144 with a high at $144.86 two days ago, the price fell off. Apparently that was enough to trigger a "High Pole Warning" yesterday in the P&F terminology. Doesn't negate the existing bullish price objective, just a warning that things may change. Stockcharts.com explains this particular alert as:
The high pole warning is given when a chart rises above a previous high by at least 3 boxes but then reverses to give back at least 50 percent of the rise. The reversal implies that the demand that was making the prices rise has given way to supply pressure. The pattern is a warning that lower prices could be seen in the future.(More about P&F charts, alerts and price objectives is available at Stockcharts.com and their very educational Chart School, included in my list of "other sites of interest" at the right side of the page here).
The GS chart with daily candlesticks is below. I did mark a few possible trendlines and channel that can be watched as we go. The StockRSI in the upper technical-indicator placement (which I set on 21 rather than the default 14, to generate fewer signals for a slower-moving point of view) has shown negative divergence as price moved to this $144 area. MACD has slightly edged negative again on this leg of GS' rally. The combination indicators of Slow Stochastics on a special setting along with OBV with a 30-day moving average (a trading combination that's discussed at my NB3 blogspot, see link at right, and borrowed from Stockcharts.com's technical indicators information) can be on the verge of turning down, although that hasn't happened quite yet.
All in all, the charts are giving us reasons to believe that a trend change could trace out in Goldman Sachs' stock price, although there isn't confirmation of that yet. The daily candlesticks of today and the past three days can perhaps be in the early stages of a trap door, 1-2-3 trend reversal, or Elliott Wave-based pattern; but once again, this would be early stages only and not yet confirmed. Still, it's enough for investors to remain aware of, whether investing in GS, the financial sector generally, or even if it has implications for equities more broadly.
(from Unbiased Trading, May 21, 2009)
Thursday, May 21, 2009
The yen advanced to a nine-week high versus the dollar after Japan’s Finance Minister Kaoru Yosano said the government isn’t planning to intervene in the currency market. The dollar headed for its biggest weekly loss in two months versus the euro after Standard & Poor’s yesterday cut its outlook on the U.K.’s AAA credit rating to “negative” from “stable,” raising concern the same may happen to the U.S. South Korea’s won led Asian currencies higher as regional shares gained.
“Dollar sentiment is particularly bad,” said Sean Callow, a senior foreign-exchange strategist in Sydney at Westpac Banking Corp., Australia’s biggest lender by market value. “A lot of Treasuries are held by foreign investors and any concern about the value of U.S. debt will have a massive impact” on the U.S. currency.
The dollar declined to $1.3930 per euro as of 12:45 p.m. in Tokyo, after dropping to $1.3955, the lowest since Jan. 5. The U.S. currency has slumped 3.2 percent this week, heading for the biggest loss since the five days to March 20.
The yen rose to 94.12 per dollar, after reaching 93.87, the strongest since March 19. The yen traded at 131.18 per euro from 131.15. The won gained 0.6 percent to 1,240.90 per dollar.
The dollar weakened versus 14 of the 16 most-traded currencies after U.S. Treasury yields yesterday rose the most in two weeks on concern the government will not be able to fund its fiscal spending.
“The urgency for money managers with large U.S. dollar holdings to diversify could well intensify,” analysts led by Callum Henderson, global head of currency strategy in Singapore at Standard Chartered Bank, wrote in a note today. “The first considerations will likely be hard currencies that are liquid. On these counts, the likes of the euro, yen, Australian dollar and Canadian dollar will win out.”
The cost to protect buyers of U.S. sovereign bonds for five-years climbed to a two-week high, indicating deteriorating investor perception of the nation’s credit quality. U.S. credit- default swaps rose to 37.745 yesterday, the highest since May 4, from 34 on May 20, according to CMA DataVision. The five-year CDS price for Japan fell to 50 from 50.06 on May 20.
The dollar touched a four-month low of 1.0895 Swiss francs from 1.0936. The U.S. currency fell to C$1.1335 from C$1.1374 yesterday, after reaching $1.1328, the weakest since Oct. 14.
The U.S. currency also fell for a fifth day versus the euro after Bill Gross, the co-chief investment officer of Pacific Investment Management Co., said the U.S. will “eventually” lose its AAA rating.
“The markets are beginning to anticipate the possibility” of a U.S. credit rating-cut, Newport Beach, California-based Gross said in an interview yesterday on Bloomberg Television. “It’s certainly nothing that’s going to happen overnight.”
The pound traded at $1.5859 from $1.5844 yesterday. It earlier climbed to $1.5897, the highest level since Nov. 6. The currency slumped as much as 1.5 percent yesterday after S&P lowered its outlook on U.K.’s credit rating and said the nation faces a one in three chance of a rating cut.
Investors also sold the dollar after the failure of BankUnited Financial Corp. added to concern the banking system in the world’s biggest economy remains weak.
BankUnited was in an “unsafe condition” and the quality of its loan portfolio had deteriorated, the Office of Thrift Supervision, the lender’s main regulator, said yesterday. BankUnited joined 33 U.S. banks and at least five credit unions that have gone under since January.
The administration of President Barack Obama will sell a record $3.25 trillion of debt in the fiscal year ending Sept. 30, according to Goldman Sachs Group Inc. The U.S. Treasury reported the first budget deficit for April in 26 years, recording a $20.9 billion shortfall.
The Dollar Index, used by the ICE to track the U.S. currency versus the euro, yen, pound, Swiss franc, Canadian dollar and Swedish krona, declined 0.3 percent to 80.327 after dropping to 80.21, the lowest since Dec. 29.
The yen headed for a thirdly weekly gain versus the greenback after Japan’s Finance Minister Yosano said the “government isn’t considering currency intervention at this point.” Policy makers haven’t fully analyzed why the yen is gaining, he said at a press conference today in Tokyo.
“We are seeing the appreciation of the yen, but mainly because of the negative views on the U.S. economy,” said Susumu Kato, chief economist in Tokyo at Calyon Securities, the investment banking unit of Credit Agricole SA. “It would be hard for the Japanese government to change the direction of the market because it’s more of a dollar-weakness issue rather than a yen-strength issue.”
The Bank of Japan kept its target lending rate at 0.1 percent at a policy meeting today and raised its economic assessment for the first time since July 2006. The central bank also said it will accept foreign debt owned by banks as collateral for loans.
The Korean won headed for a weekly gain as overseas investors added to their holdings of the nation’s shares for a sixth straight day.
“The won’s attempt to break the 1,230 level is under way,” said Ko Yun Jin, a currency dealer at Kookmin Bank in Seoul, the nation’s biggest lender. “There has been a tug of war between importers and exporters, which will keep the currency in a relatively narrow range” between 1,230 and 1,260.
The currency rose 1.3 percent this week, taking its gain for the past three months to 21 percent, Asia’s best performer.
(from Bloomberg, May 21, 2009)
- Soros Fund Management LLC, billionaire investor George Soros’s hedge-fund company, cut stakes in Petroleo Brasileiro SA and Potash Corp. of Saskatchewan, its biggest holdings in the first quarter, according to a filing.
- The New York-based fund sold 5 million U.S. shares of Petrobras, (PBR) as the company is known, during the quarter, according to a filing today with the U.S. Securities and Exchange Commission. Soros’s remaining 32 million shares of the Brazilian state-controlled oil company were valued at $963 million at the end of the quarter.
- The fund also held 5.6 million shares of Saskatoon, Saskatchewan-based Potash (POT) at the end of the first quarter, compared with 5.9 million shares as of Dec. 31.
- Soros bought 968,000 shares of Entergy Corp (ETR)., the second- largest U.S. operator of nuclear power plants, and 3.59 million shares of Houston-based Plains Exploration & Production Co.(PXP) in the first quarter. Soros sold off its stake in Schlumberger Ltd.,(SLB) the world’s largest oilfield-services provider, and U.S. coal producer Consol Energy Inc.
- Soros’s company oversees about $21 billion. Its Quantum Endowment Fund returned 7.2 percent in the first quarter.
(from SeekingAlpha, May 21, 2009)
John Paulson, the hedge fund manager who made an estimated $3.7bn (£2.4bn) shorting the US housing market ahead of its collapse, is placing a firm bet on a medium-term property recovery with the launch of a new fund.
Paulson & Co. is in the early stages of raising money for the new fund. In a departure for the firm, which tends to be more focused on running hedge funds, the new venture will be a private equity fund.
Documents recently filed with the Securities and Exchange Commission will allow Paulson & Co. to begin talking to investors about the fund for the first time – with fundraising expected to begin shortly.
Although a cap on the fundraising has not been decided, it is expected that the initial size of the fund will be a couple of hundred million dollars.
Mr Paulson has hired Mike Barr, a former managing director in Lehman Brother’s $25bn-plus real estate private equity practice in New York, to manage the fund.
Mr Barr is being assisted by former colleague Jonathon Shumaker in managing the fund, which will be known as the Paulson Real Estate Recovery Fund.
The life of the fund is expected to be seven years, with investments to be made in both the residential and the commercial property sectors.
By investing at what Paulson appears to believe is the bottom of the market, the fund will hope to reap the eventual upturn in ravaged property prices.
As well as investing in existing property, Mr Barr will work with Tom Noon, a former executive with US house builder DR Horton, who will source residential land developments.
The new fund will compliment Paulson’s recently established recovery fund, which is focusing on investing in ailing financial institutions, while his main mergers and arbitrage fund continues to grow.
Stringing together the recent SEC filings of John Paulson, makes one thing clear: he is betting big on the reflation trade. Paulson’s latest 13-F filing shows large positions in Anglogold, Kinross gold ( KGC 18.68 ↑6.93%), Gold Fields (GFI 12.95 ↑4.02%), market vectors gold ETF and the S&P gold ETF.
At first, the news of large gold purchases early last month were seen as potential armageddon plays based on Paulson’s big bets on the collapse of the economy last year, but it’s now clear that Paulson is betting big on inflation in the coming years.(from Telegraph and The Pragmatic Capitalist, May 20, 2009)
Wednesday, May 20, 2009
(Bloomberg, May 20, 2009)
Saturday, May 16, 2009
Robert Prechter: "the difficulties will probably last through about 2016... There will be plenty of rallies along the way."
Longtime technical analyst Robert Prechter, who forecast the 1987 stock market crash, predicted this week that U.S. equities may plunge to half their lows hit in March as a deflationary depression bites.
Oil and U.S. Treasury bonds are also locked in long term bear markets, while corporate bond prices will plunge precipitously by next year as broad economy, banking system and company earnings sustain more damage from a financial crisis that's akin to the Great Depression, he said.
The U.S. S&P 500 stock index's .SPX rebound by nearly 40 percent since it sagged to a 12-year closing low of 676 points on March 9 is not sustainable, Prechter said in an interview with Reuters.
"It's not the start of a new bull market," said Prechter, chief executive at research company Elliott Wave International in Gainesville, Georgia. "Our models are (showing) right now that it is a much bigger bear market than most people realize, something along the lines of 1929-1932," he told Reuters in a wide ranging interview. "It's a very rare event," he added.
"I think the next leg down will be at least as severe if not more severe than what we just experienced. So you want to stay on the side of safety," he said.
As in his 2002 book "Conquer the Crash," which warned of the dangers of a U.S. debt bubble and deflationary depression, Prechter continues to advocate safer cash proxies such as Treasury bills.
SEVEN MORE YEARS?
Riskier assets such as commodities, corporate bonds, and stocks which are currently anticipating that the severe global economic downturn may be bottoming, are likely to have short lived intense rallies, but within an inexorable long-term decline that may last another seven years, he said.As banks continue to accumulate losses and corporate earnings fall, "the difficulties will probably last through about 2016," he said. "There will be plenty of rallies along the way."
Oil may rally further from current levels just below $60 per barrel but the upside will be capped at about $80 per barrel as the commodity is locked in a long-term bear market, he said.
In July, U.S. crude oil hit a record peak above $147 per barrel and was just above $57 per barrel around noon on Thursday.
"Deflation is coming, it's going to lead to a depression. We're not at the bottom yet," Prechter said. "I think we are going to have bouts of deflation separated by recoveries."
Prechter also painted a bleak picture for commodities like silver and is largely unenthusiastic about gold, believing the precious metal made a major peak when it rose above $1,000 last year.
While gold may have already topped at above $1,000 an ounce in March 2008, Treasury bond prices are likely to fall in a long term bear market, with huge government debt issuance being the main catalyst.
The benchmark U.S. 10-year Treasury note yield, which moves inversely to its price, hit a five-decade low of 2.04 percent in mid-December.
"People got very enamored with bonds and very enamored with gold and I don't like to be invested in markets that are over subscribed," Prechter said.
"The Treasury (Department) has taken on so much bad debt" at a time tax receipts are falling, that "there will be a slow, but very steady change in the way people will view the U.S. government," said Prechter. As a result, investors in Treasury notes and bonds will ultimately demand higher yields, he said.The U.S. central bank will not be able to control the government bond market and prevent yields from rising, regardless of how much money the Fed uses to buy Treasuries, he added.
Next year, U.S. corporate bond prices will probably fall below their extreme price lows of December during the market panic of 2008 when investors fled riskier assets, he said.
"Corporates in terms of price have the big wave down coming. This has been a prequel," Prechter said.
"Many corporations who (now) say we can borrow more money and take more risks: those are the ones who will get in trouble," he said. "Many municipalities will default," he added.
(from Reuters, May 14, 2009)
The principal cold gale causing green shoots to wither will probably be the inexorable rise in long-term interest rates. This has already begun; the 10-year Treasury yield is up from its low of 2.07% in December to around 3.3% today. However, the enormous Treasury financing requirement and the increasing visibility of inflationary signals will cause yields to go much higher. In the 1990s, when average inflation was 2.9%, the same level as the recently announced first-quarter GDP deflator, and the federal budget deficit averaged a mere 2.3% of GDP, the 10-year Treasury yield averaged 6.67%. That level may seem very high currently, but in fact is likely to be passed fairly rapidly, on the way to Treasury bond yields of 10% or more as deficits and inflation provide a howling adverse gale for the T-bond market. The rise in interest rates will be prolonged and initially quite slow, but we can probably expect 10-year Treasurys to yield more than 6% a year from now.
If rising interest rates are the gale causing green shoots to wither, inflation will be the frost causing them to die. Federal Reserve Chairman Ben Bernanke has enjoyed a period in the public eye, even before his January 2006 ascension as Fed chairman, largely punctuated by self-delusion on an extraordinary scale. It began with his discovery of a hitherto undetected dire deflationary threat in 2002, continued with his announcement of the "Great Moderation" in February 2004, just as his lax monetary policy was sending housing policies into orbit, continued with his accusation that evil Asian savers had caused the 2007-08 explosion in commodity prices and has now settled into an indelible conviction that, however "unorthodox" and Weimarite his monetary policies may be, inflation is far less of a danger than deflation.
It will be a race between soaring interest rates and grimly rising inflation to kill the green shoots of recovery and plunge the U.S. economy into renewed downturn. Both factors will reinforce each other as buyers of Treasury bonds, appalled by the price declines in their holdings, will come to realize that inflation as well as soaring interest rates has made long-term Treasurys the ultimate sucker's bet. Zhou Xiaochuan, governor of the People's Bank of China, will no doubt be especially withering in his condemnation, discovering a hitherto little-known treatise on sound monetary policy in his copy of the "Thoughts of Mao Zedong."
(from Prudent Bear, May 11, 2009)
"We have a little problem with the first $350B of $700B TARP money", admitted Elizabeth Warren, Harvard Professor of Law. Bill Maher sat down with her at his HBO "Real Time" on May 15, because she chairs the Congressional Oversight Panel overseeing how the TARP money is spent. It turns out, that Hank Paulson gave this first $350B to banks with no strings attached. Consequently, the panel couldn't really track how the banks used the TARP money. And, now, interestingly, long-time republican FDIC Chairman Sheila Bair fights for tax payers interests against democrats Geithner and Summers.
And here, in retrospect, "If You Believe Banks Are Recovering …" asked by James Quinn on May 5 in Prudent Bear:
I believe I have uncovered the largest conspiracy in history. The government wants you to believe that banks are recovering, housing has bottomed, stimulus works, borrowing leads to prosperity and war leads to peace. President Obama and his cronies at Treasury and the Federal Reserve are trying to mislead the public regarding the health of our banking system. If you believe their spin on these issues, I have a structurally deficient bridge in Brooklyn I'd like to sell you.
The government has something up its sleeve this time. They are perpetrating the greatest fraud in the history of the world. The conspirators are Barack Obama, Timothy Geithner and the Treasury Department, Ben Bernanke and the Fed, Sheila Baer and the FDIC, and Barney Frank and the Democratic Congress.
They have colluded to commit taxpayer funds to enrich bankers that brought down the financial system, without getting congressional approval. They have delayed foreclosures and have tried to artificially prop up the housing market. They have poured billions of stimulus pork into the states praying for some of it not to be wasted. They have confiscated billions in taxpayer funds, bestowed them on reckless banks and forced them to lend it to anyone with a pulse, again.
The outrage from the public during the Trouble Asset Relief Program (TARP) confiscation made it crystal clear to courageous congressmen they didn't want to vote on something requiring fortitude and bravery again. They have outsourced their obligation to safeguard their citizen's tax dollars to unelected bureaucrats at Treasury and the Federal Reserve. They have already sacrificed their obligation to declare war to the Presidential branch. What is the point of having a Congress?
Nothing up their sleeve
Barack Obama and his henchmen in Treasury and the Fed have chosen to play for time, pretend the banking system is solvent, and hope that the average American doesn't care. As long as the ATM still spits out $20 bills, everything is OK. The International Monetary Fund has estimated total credit write-downs of $4.1 trillion, with $2.7 trillion in U.S. institutions. McKinsey has concluded that there are still $2 trillion of toxic assets sitting on the books of U.S. banks. Economist Nouriel Roubini, who has been correct from the beginning, estimates total losses on loans made by U.S. financial firms and the fall in the market value of the assets they are holding will reach $3.6 trillion ($1.6 trillion for loans and $2 trillion for securities). The U.S. banks and broker dealers are exposed to half of this figure, or $1.8 trillion; the rest is borne by other financial institutions in the U.S. and abroad. With $2 trillion of write-offs to go, how could Treasury Secretary Geithner make the following statement to a Congressional panel late last month, "Currently, the vast majority of banks have more capital than they need to be considered well capitalized by their regulators."? Is he lying or shading the truth? Does it matter?
Roubini's estimate of $1.8 trillion more losses for U.S. banks will cause a slight problem for the U.S. banking system. The entire U.S. banking system has only $1.4 trillion of capital. Therefore, the U.S. banking system is effectively insolvent. Mr. Geithner would contend that he was not lying. There are 8,500 banks in the United States. The top 19 banks control 45% of all the deposits in the country. These are the banks that are insolvent.
Mom & Pop Bank in Louisville, Ky., didn't create toxic loan instruments that infected the worldwide economic system. The vast majority of the 8,500 banks in the country are in good shape. Citigroup, Bank of America, Wells Fargo and the other "Too Big To Fail" banks destroyed the economic system. The Fed, Treasury, and FDIC are already backstopping or supplying 70% of the entire banking system balance sheet. It is time to allow the well-run banks to take the deposits of the horribly run banks. The $1.8 billion of future losses do not include the commercial real estate losses, credit card losses and losses from the next wave of mortgage resets in 2010 that will wash over these banks.
Of course we all know that the "Too Big To Fail" banks all reported profits better than expected in recent weeks. CNBC said so. Let's examine these tremendous profits at one of the banks, Bank of America. It reported profits of $4.2 billion. This included: $1.9 billion came from the gain on sale of CCB shares; $2.2 billion came from marking to market adjustments of Merrill Lynch notes; and non-performing assets that were $25.7 billion compared to $7.8 billion one year ago, a 329% increase in one year. Without these convenient accounting adjustments, Bank of America would have lost money.
Andrew Ross Sorkin pointed out in a recent New York Times article: "With Goldman Sachs, the disappearing month of December didn't quite disappear (it changed its reporting calendar, effectively erasing the impact of a $1.5 billion loss that month); JP Morgan Chase reported a dazzling profit partly because the price of its bonds dropped (theoretically, they could retire them and buy them back at a cheaper price; that's sort of like saying you're richer because the value of your home has dropped); Citigroup pulled the same trick."
In other words, the first-quarter bank profits were faked. They were manufactured as a public relations effort to convince the country that the big banks are in fine shape.
If the banks are in such good shape, why has the government had to use taxpayer funds to rollout the two dozen rescue plans? And now we breathlessly await the results of the stress tests. The FSP (Financial Stability Plan for those not in the know) rolled out by Geithner was supposed to save our banking system. The plan was described by Treasury as:
Increased Transparency and Disclosure: Increased transparency will facilitate a more effective use of market discipline in financial markets. The Treasury Department will work with bank supervisors and the Securities and Exchange Commission and accounting standard setters in their efforts to improve public disclosure by banks. This effort will include measures to improve the disclosure of the exposures on bank balance sheets. In conducting these exercises, supervisors recognize the need not to adopt an overly conservative posture or take steps that could inappropriately constrain lending.
Coordinated, Accurate, and Realistic Assessment: All relevant financial regulators — the Federal Reserve, FDIC, OCC, and OTS — will work together in a coordinated way to bring more consistent, realistic and forward looking assessment of exposures on the balance sheet of financial institutions.
Forward Looking Assessment – Stress Test: A key component of the Capital Assistance Program is a forward looking comprehensive "stress test" that requires an assessment of whether major financial institutions have the capital necessary to continue lending and to absorb the potential losses that could result from a more severe decline in the economy than projected.
It is fascinating that in the first paragraph they specifically state they don't want to be overly conservative. Which of the top 19 banks in the country have run their businesses in an overly conservative manner in the last 10 years? Has the Federal Reserve been overly conservative in the last 10 years? Have the SEC and FDIC been overly conservative in the last 10 years? Have consumers, homebuilders, credit card companies and retailers been overly conservative for the last ten years? If there was ever a time to be overly conservative, it is now.
It is also nice to know Treasury wants accuracy and better disclosure, but then twists the arm of the Financial Accounting Standards Board to relax mark-to-market rules, so banks can continue to lie about the value of "assets" on their books. They allow Goldman Sachs to bury the fact that they left December out of their financial results deep in their footnotes. Shockingly, Goldman lost $1.5 billion in December. They continue to allow banks to report one time gains as part of ongoing operations, but billions in losses that are recorded quarter after quarter are not from ongoing operations. The folks at CNBC report whatever the banks say, no questions asked.
This brings us to the stress tests for the 19 biggest banks in the land. The most stressful conditions are supposed to be 10% unemployment and a 20% further fall in home prices. That doesn't sound too stressful to me. Considering the government reported figures are a manipulated lie, we already have unemployment between 15% and 20% in the real world. A 20% further decline in home prices is a given. The Case Shiller futures index forecasts that the New York Metro area will fall by 31% by the end of 2010. The massive overhang of housing inventory, the coming onslaught of mortgage resets in 2010, and the millions of foreclosures in the pipeline guarantee at least 20% further downside in housing prices. I have a feeling these 19 banks are going to need to study a little harder for their test. Professor Geithner is giving them an open book take home exam and gave them the answers. They will still flunk.
William Black is a former senior bank regulator. He is currently an associate professor of economics and law at the University of Missouri. Mr. Black held a variety of senior regulatory positions during the S&L crisis. He managed investigations with teams of examiners reporting to him, redesigned how exams were conducted, and trained examiners. He calls the stress tests conducted on the 19 biggest banks in the country a complete sham. In his own words:
- "You can't conduct a meaningful stress test without reviewing (sampling) the underlying loan files and it seems likely that the purchasers of securitized instruments (not just mortgages) do not even have the loan file data. Moreover, loss ratios vary enormously depending on the issuer, so even a bank that originates (or has purchased a bank that originates) similar product cannot simply take its own loss rate and extrapolate it to the measure the risk on the value of securitized credit instruments.
- "It is vastly more difficult to examine a bank that is engaged in accounting control fraud. You can't rely on the bank's books and records. It doesn't simply take more, far more [employees]. It takes examiners with experience, care, courage, and investigative instincts and abilities. Very few folks earning $60,000 are willing to get in the face of the CEO and CFO making $25 million annually and tell them that they are running a fraudulent bank and they are liars. FYI, this is one of the reasons why having "resident examiners" never works.
- "Examiners certainly can't do the stress testing that Geithner describes or evaluate the reliability of a large bank's proprietary stress test. If they were serious about constructing reliable stress tests, which they aren't, you'd require their analytics to be made public. You'd have the industry fund independent investigations by rocket scientists chosen by a committee selected by the regulators of the soundness of the analytics. You'd also have the industry fund competitions to rip them apart (a bit like we hire legit hackers to test security by trying to defeat it) and show where they produce absurd results. The concept that there are 100 examiners with these skills, suddenly freed up from all other duties, assigned to CONDUCT stress tests is a lie."
On Thursday, we will see how much transparency and disclosure the Treasury and Fed will provide regarding the not-so-stressful tests. Obama's minions have been hinting that six banks have failed. Sheila Baer stated that the $110 billion left in the TARP kitty should be enough to cover the capital shortfalls. This is a lie.
As we saw previously, the U.S. banking system will need close to $1 trillion more capital to stay viable. If the Fed was so keen on disclosure and transparency, why hasn't it released the names of the banks that have borrowed from them, and the collateral provided for the loans? Because the Fed has taken worthless toxic paper onto their books and loaned newly printed dollars against the worthless paper. The taxpayers are on the hook.
Friday, May 15, 2009
I read dozens of earnings reports every week. The one consistent trend I have seen over the past 2 years has been a steady deterioration in earnings from industry to industry. First it was the housing stocks. Then the retailers. Then the restaurant stocks. Then the banks. So on and so forth. But two areas have held up relatively well - agriculture and healthcare names. Although the world is in the middle of the worst post-war recession many of these companies continue to post outstanding earnings. When you consider the big picture trends surrounding the ag names it’s hard not to like the potential long-term returns of companies in the Ag sector. That doesn’t mean they won’t face some tough sledding in the coming 18 months, but the long-term trends are overwhelmingly positive.
The incredible stability in food production and the projected explosion in global population makes the likelihood of much higher food prices very good. These basic long-term trends explain why many of these firms are sitting on very strong balance sheets despite a horrific “hundred year storm” in the financial markets.
Click for larger image
Click for larger image
It’s hard to imagine a scenario in which ag companies don’t continue to crank out strong earnings considering the big picture trends. After all, food is the ultimate consumer staple.
(from THE PRAGMATIC CAPITALIST, May 14, 2009)
Faber points to a weak build in agricultural stocks (supplies) during the bumper harvest year of 2008. Low stocks, declining productivity, and increased demand persist from a long term perspective says Faber and will drive prices higher. Population growth is rising until 2030 and will have produced an additional billion mouths to feed between 2000 and 2012 alone.
Faber is well known for highlighting long term trends in asset prices through a careful read of history. He points to the Green Revolution between 1976 to 1986 as the era when growth in food production transitioned from increased land usage to higher yielding agricultural methods yet those benefits have run their course. Productivity fell by almost half between 1990 and 2007 and will continue that trend over the next decade.
Faber recommends only one-third allocation to commodity futures products due to the negative carry costs in those markets and also warns against farmland companies due to poor yields. One third of investor capital should go to listed agricultural companies and the other third to private companies. The long term opportunity is now.
(from Financial Post, May 12, 2009)
Wednesday, May 13, 2009
Harvard University, the richest U.S. college, raised its holdings of exchange-traded funds that track stocks in Brazil, China and Mexico in the first quarter as emerging markets outperformed U.S. equities.
The biggest new purchase reported by Harvard Management Co., which oversees the school’s $28.8 billion endowment, was 1.74 million shares of iShares MSCI South Korea Index Fund valued at $49 million, according to a filing yesterday with the U.S. Securities and Exchange Commission. Its largest stake was 8.28 million shares of iShares MSCI Emerging Markets Index valued at $205 million.
The quarterly 13F filing, which doesn’t reflect all of Harvard’s equities, offers a glimpse of how the Cambridge, Massachusetts, school is navigating the worst financial crisis since the Great Depression. The MSCI Emerging Market Index rose 0.52 percent in the quarter, while the Standard & Poor’s 500 Index, a benchmark of U.S. stocks, fell 12 percent.
Harvard Management Co. reported buying 61 U.S. listed securities in the quarter and selling off 28, leaving 90 issues. The value of its holdings rose 35 percent to $771 million.
Harvard’s endowment fell 22 percent from July 1 through Oct. 31, and is headed for its worst performance in at least four decades. The fund has been run since July by Jane Mendillo, former chief investment officer of nearby Wellesley College.
The report doesn’t show the school’s investments in stocks outside of the U.S. or in hedge funds, private equity, commodities and real estate. In addition, more than half of the endowment is overseen by outside firms. John Longbrake, a Harvard spokesman, didn’t respond to an e-mail seeking comment.
Harvard added to its ETF holdings in the quarter by buying 2.27 million shares of Vanguard Emerging Markets, as well as 1.5 million shares of iShares MSCI Brazil Index Fund and 1.14 million iShares FTSE/Xinhua China 25 Index Fund.
Exchange-traded funds typically are designed to mimic the performance of market indexes. Unlike mutual funds, whose shares are priced once daily after the end of each trading session, ETFs are listed on an exchange where shares are bought and sold throughout the day like stocks.
Harvard’s new purchases during the quarter include 1.47 million Class A shares of News Corp., the media company run by Rupert Murdoch, and 1 million shares of wireless phone company Sprint Nextel Corp. The school sold all 722,000 shares of GenCorp Inc., a manufacturer of aerospace and defense products; 605,000 shares of Heckmann Corp., which sells bottled water in China; and 575,000 shares of Columbus Acquisition Corp., a company set up to make acquisitions.
Harvard, projecting an endowment loss of as much as 30 percent, has frozen hiring and salaries and fired staff. Harvard raised cash by issuing $2.5 billion in bonds in December after failing to sell $1.5 billion in private-equity stakes.
Harvard Management in February said it planned to fire as many as 50 workers, including investment professionals, as part of an effort by Mendillo to “rebalance and reengineer the organization,” Longbrake said at the time.
(from Bloomberg, May 14, 2009)
The epoch of the US housing bubble may be over, but “the pressure for repeated injections of cheap finance is not.”
Reflecting on Hyman Minsky moment and voices from the Summer of 2007 ...
Enter Hyman Minsky. The late US economist offered a theory of the behaviour of lenders, which many have re-examined in recent weeks.
He said credit conditions became increasingly lax in times of good economic health. Then the credit supply would dry up (through such measures as the tightening of lending standards). Then liquidity dries up as lenders call in loans and borrowers sold liquid assets to comply. The final "moment " came when central banks cut rates to avert economic collapse.
The theory was drawn to fit a world where, as in 1929, the decision whether to extend credit rested with bankers. Now, it rests with the markets. But its potential relevance to current circumstances is clear.
George Magnus of UBS suggests reasons to believe a Minsky Moment can be deferred. First, housing problems take a while to unfold. Second, companies have cleaned their balance sheets and are not heavily leveraged. Third, there is still much liquidity in the world system. High energy and commodity prices suggest petro-dollars will not go away.
Finally, there is still no clear evidence of economic weakness, as the most recent data underscore, or of a significant return by inflationary pressures.
All these factors could change quickly. But even with credit valuations back to earth, markets believe Minsky's Moment of reckoning can be deferred further.
Panic follows mania as night follows day, says the FT’s Martin Wolf, back from summer leave with fresh insights into the present market upheavals. “The great 19th-century economist and journalist, Walter Bagehot, knew this better than anybody. ‘Lombard Street’, his masterpiece, is dedicated to the phenomenon. It is devoted, too, to how central banks should deal with its results”, he says.
Ours has been a world of “confidence, cleverness and too much cheap credit”, says Wolf: “This is not new… The late Hyman Minsky, who taught at the University of California, Berkeley, laid down the canonical model. The process starts with ‘displacement’, some event that changes people’s perceptions of the future. Then come rising prices in the affected sector. The third stage is easy credit and its handmaiden, financial innovation.”
“The fourth stage is over-trading, when markets depend on a fresh supply of ‘greater fools’. The fifth stage is euphoria, when the ignorant hope to enjoy the wealth gained by those who came before them. The warnings of those who cry ‘bubble’ are ridiculed, because these Cassandras have been wrong for so long. In the sixth stage comes insider profit-taking. Finally, comes revulsion.”
In the latest cycle, notes Wolf, “displacement began with the huge cuts in interest rates in the early 2000s, which drove up prices in housing”. The easy credit was stimulated by innovations that allowed lenders to regard their service as somebody else’s problem. Then people started to buy dwellings to resell them. Subprime lending was a symptom of euphoria. “So, in a different way, was the rush of bankers into hedge funds” and of the big institutions into financing them. “Then came profit-taking, falling prices and, last week, true revulsion”.
This was what George Magnus of UBS bank calls a “Minsky moment” , notes Wolf: “The moment when credit dried up even to sound borrowers. Panic had arrived”.
The correct policy response is also well known, and was laid down by Bagehot himself, notes Wolf: “The central bank must save not specific institutions, but the market itself. It must advance money freely, at a penal rate, on good security.”
In providing money to the markets, the ECB, the Fed, the Bank of Japan and other central banks have been doing their jobs, says Wolf. But, “whether the terms on which they have done this were sufficiently penal is another matter”.
Financial markets, and particularly the big players within them, “need fear”, says Wolf. “Without it, they go crazy.” Moreover, he adds, “it is impossible for outsiders to regulate a global financial system riddled with conflicts of interest and dominated by huge derivatives markets, massive trading by highly leveraged hedge funds and reliance on abstruse mathematics and questionable statistical models. These markets must regulate themselves. The only thing likely to persuade them to do so is the certainty that the players will be allowed to go bust.”
The world has witnessed four great bubbles over the past two decades – in Japanese stocks in the late 1980s, in east Asia’s stocks and property in the mid-1990s, in the US (and European) stock markets in the late 1990s and, finally, in key housing markets in the 2000s, notes Wolf. “There has been too much imprudent finance worldwide, with central bankers and ministries of finance providing rescue at virtually every stage.”
Unfortunately, there is every chance of repeating mistakes, he warns. “A bail-out has already occurred in Germany, far from the epicentre. More are likely. US legislators want Fannie Mae and Freddie Mac to bail out the mortgage markets.”
The pressure on the Fed to cut interest rates will also grow, Wolf predicts. And, as Larry Hathaway and Mr Magnus of UBS note, this looks a much more significant event than the LTCM implosion in 1998, he adds. The consequences cannot be “ring-fenced”, as were those of LTCM. “Trust in counterparties and financial instruments has fled. The likelihood is a period of recognising losses, tightening credit conditions and deleveraging.”
Such a period, “desirable in itself”, will lead to strong pressure for swift declines in interest rates, at least in the US, and so for another partial bail-out of a crisis-prone system, predicts Wolf. But such pressure “should be resisted as long as possible.”
Yet, he concludes, “the underlying challenge confronting the world’s central banks remains”: huge surplus savings in key parts of the world; corporate sectors that do not need to borrow and so limited categories of creditworthy and willing borrowers, households in rich countries foremost among them. The epoch of the US housing bubble may be over, but “the pressure for repeated injections of cheap finance is not.”
(from FT.com, August 15, 2007)
In a hearing not covered by the so-called "mainstream media" but covered on Cspan, Liddy, AIG's CEO, in response to a question by Rep Kaptur said:
"When The Fed set up Maiden Lane they took on responsibility for settlement of all of the CDS."
Specifically, I quote: "The Federal Reserve decided we should pay 100 cents on the dollar", but Mr. Issa nailed the truth on this in a followup - they could have purchased those contracts for far less in the open market at the time.
The bottom line is that the testimony was that The Fed decided to settle the contracts in a non-economic manner that resulted in screwing the taxpayer by transferring more than $100 billion dollars of taxpayer money out to these banks when the cash value at the time was FAR LESS.
(Mr. Issa, by the way, is one of the Congress folks who actually does understand securities - and it shows. He refused to let this go until he hammered it into the ground and got the answer in plain, irrefutable English.)
Is it any wonder how the banks managed to "report decent profits"?
The allegation just made by Liddy is that The Fed literally stole $100 billion dollars from you by intentionally overpaying on the settlement of these contracts!
(from market-ticker.org, May 13, 2009)
Housing market hasn't bottomed... I am worried about inflation two years from now... Fed should slow rate at which it increases the money growth
Monday, May 11, 2009
Munger: the financial companies spent $500 million on political contributions and lobbying efforts over the last decade
“This is an enormously influential group of people, and 90 percent of that influence is being spent to gain powers and practices that the world would be better off without,” Munger, 85, said yesterday in an interview with Bloomberg Television. “It will be very hard to accomplish the kind of surgery that would be desirable for the wider civilization.”
Munger said policy makers should seek to impose limits on banks that are deemed “too big to fail” after financial institutions worldwide suffered more than $1 trillion in losses. The U.S. government and the Federal Reserve have spent, lent or committed $12.8 trillion, an amount that approaches the value of everything produced in the country last year, to stem the recession.
“We need to remove from the investment banking and the commercial banking industries a lot of the practices and prerogatives that they have so lovingly possessed,” Munger said. “If they are too big to fail, they are too big to be allowed to be as gamey and venal as they’ve been -- and as stupid as they’ve been.”
Berkshire paid $5 billion in September for preferred stock and warrants in New York-based Goldman Sachs, which was the world’s most profitable and highest paying securities firm before converting to a bank holding company. Goldman is now the fifth-biggest U.S. bank by assets.
Berkshire’s second-largest holding by market value after Coca-Cola Co. is Wells Fargo, the sixth-biggest U.S. bank. Berkshire also owns stakes in Bank of America Corp., the biggest U.S. bank by assets, as well as U.S. Bancorp, M&T Bank Corp. and SunTrust Banks Inc.
Munger said the financial companies spent $500 million on political contributions and lobbying efforts over the last decade. They have a “vested interest” in protecting the system as it exists because of the high levels of pay they were earning, he said. The five biggest U.S. securities firms, only two of which still exist as independent companies, paid their employees about $39 billion in bonuses in 2007.
“They would like to get back as closely as possible to business as usual, and they have enormous political power,” he said.
(from Bloomberg, May 2, 2009)
Friday, May 8, 2009
David Rosenberg, one of North America's leading economists, will be joining the Gluskin Sheff + Associates as Chief Economist and Strategist.
"We are thrilled to add someone of David's calibre, strategic ability and global understanding to our team," stated
Jeremy Freedman, Deputy Chief Executive Officer. "We see this as a terrific marriage of our long-term track record of successfully identifying undervalued individual securities with David's proven ability to analyze and foresee global trends and opportunities. The insight that he will provide to our investment and asset mix teams will bring strong added value to our clients."
David has ranked first in economics in the Brendan Wood International Survey for Canada for the past seven years and was on the Institutional Investors All American All Star Team for the last four years. He ranked second overall in the 2008 Survey. Prior to joining Merrill Lynch, David held senior positions at the Bank of Canada, BMO Nesbitt Burns and the Bank of Nova Scotia.
David will report to William (Bill) Webb, the Company's Deputy Chief Investment Officer.
Founded in 1984, Gluskin Sheff + Associates Inc. is one of Canada's pre-eminent wealth management firms serving high net worth private clients and institutional investors. Gluskin Sheff offers equity and fixed income investment portfolios and is one of the largest alternative investment managers in Canada. The Company's Subordinate Voting Shares are listed on the Toronto Stock Exchange under the symbol "GS". For more information about the Company, please visit our website at www.gluskinsheff.com.
from Gluskin Sheff + Associates Inc., March 24, 2009
2) Never be a slave to the data – they are no substitute for astute observation of the big picture.
3) The consensus rarely gets it right and almost always errs on the side of optimism – except at the bottom.
4) Fall in love with your partner, not your forecast.
5) No two cycles are ever the same.
6) Never hide behind your model.
7) Always seek out corroborating evidence.
8) Have respect for what the markets are telling you.
9) Be constantly aware with your forecast horizon – many clients live in the short run.
10) Of all the market forecasters, Mr. Bond gets it right most often.
11) Highlight the risks to your forecasts.
12) Get the US consumer right and everything else will take care of itself.
13) Expansions are more fun than recessions (straight from Bob Farrell's quiver!)
Thursday, May 7, 2009
Market likely to peak the end of the week
Just as the clock is winding down on my tenure at Merrill Lynch, the equity market is winding up with an impressive near-40% rally in just nine weeks. For those that were still long the equity market back at the March 9 lows, a good ‘devil’s advocate’ exercise would be to ask yourself the question whether you would have taken the opportunity, if the offer had been presented, to have sold out your position with a 40% premium at the time. What do you think you would have said back then, as fears of financial Armageddon were setting in? We haven’t conducted a poll, but we are sure at least 90% of the longs at that point would have screamed “hit the bid!”
Are we at risk of missing the turn?
Fast forward to today, and within two months optimism seems to have yet again replaced fear. Are we at risk of missing the turn? What if this is the real deal — a new bull market? This is the question that economists, strategists and market analysts must answer.
Risk is much higher now than it was 18 weeks ago
The nine-week S&P 500 surge from 666 at the March lows to 920 as of yesterday has all but retraced the prior nine-week decline from the 2009 peak of 945 on January 6 to the lows on March 9. We believe it is appropriate to put the last nine weeks in the perspective of the previous nine weeks. To the casual observer, it really looks like nothing at all has happened this year, with the market relatively unchanged. But something very big has happened because the risk in the market, in our view, is much higher than it was the last time we were close to current market prices back in early January, for the simple reason that we believe professional investors have covered their shorts, lifted their hedges and lowered their cash positions in favor of being long the market.
Employment, output, income, sales still in a downtrend
Considering what transpired from an economic standpoint, the decline in the first nine weeks of the year was rather appropriate in the midst of the worst threequarter performance the economy has turned in roughly 70 years. The rally of the past nine weeks appears to be rooted in green shoots. While it may be the case that the pace of economic decline is no longer as negative as it was at the peak of the post-Lehman credit contraction, the reality is that employment, output, organic personal income and retail sales are still in a fundamental downtrend.
Need to see an improvement in the first derivative
We have evidence that the consumer, after a first-quarter up-tick that was frontloaded into January, is relapsing in the current quarter despite the tax relief (didn’t we see this movie last year?). Not until improvement in the second derivative morphs into improvement in the first derivative with respect to the important economic data will it really be safe to declare what we are seeing as something more than a bear market rally, as impressive as it has been.
This is a bear market rally that may have run its course
The investing public is still holding tightly to their long-term resolve, but much of the buying power at the institutional level seems to have largely run its course, in our view. That leaves us with the opinion, as tenuous as it seems in the face of this market melt-up, that this is indeed a bear market rally and one that may well have run its course. We have “round-tripped” from the beginning of the year and there is real excitement in the air about how these last nine weeks represent evidence that the economy will begin expanding sometime in the second half of
Growth pickup will likely prove transitory
While it is likely that headline GDP will improve as inventory withdrawal subsides and fiscal policy stimulus kicks in, our view is that whatever growth pickup we will see will prove to be as transitory as it was in 2002, when under similar conditions the market ultimately succumbed to a very disappointing limping post-recession recovery. So yes, there may well be some improvement in the GDP data, but it is based largely on transitory factors. We strongly believe it is premature to totally rule out the end of the vicious cycle of real estate deflation – residential and now commercial – that we have been experiencing since 2007. Balance sheet compression in the household sector will continue to pressure the personal savings rate higher at the expense of discretionary consumer spending. This is a secular development, meaning that we expect it will last several more years.
Chances of a re-test of the March lows are non-trivial
To reiterate, it seems to us likely that the risk in the market is actually higher today than it was back at the same price points in early January, and we say that with all deference to the stress tests (which given the less-than-dire economic scenarios, along with the changes to mark-to-market accounting, were destined to reveal healthy results). While the consensus seems gripped with the burden of trying to decide if there is too much risk to be out of the market, we actually still believe that the chances of a re-test of the March lows are non-trivial, especially if the widely touted second-half economic rebound fails to materialize.
Market may have a fully invested condition of ‘smart money’
While many pundits point to ‘dry powder’ on the sidelines that is ready to be put to work, our sense is that we now have to consider the prospect that we actually have a fully invested condition of ‘smart money’ in the market. If there is a risk that is not being widely discussed, it is the risk that profit-taking by the big-money investors (many who share our outlook but have been quick to take advantage of this monumental bounce in equity prices), will not be met with enough demand from the fundamental bulls. And if we ever do see the capitulation from the retail investor – this has yet to occur – then this flow-of-funds scenario can certainly trigger a re-test of the lows.
We are happy to buy these sell-offs in Treasuries
When you look at Charts 1-3, you really have to wonder whether or not the markets have been too hasty in pricing out deflation risks. There has never been a time in the post-WWII era where the 12-month trends in wages, producer costs and consumer prices were all in negative territory at the same time. This is the new reality. As the markets focus on the noise from green shoots, we are focusing our attention on the fundamental trends and the end-game. We are more than happy to buy these sell-offs in Treasuries and add scarce safe income to the portfolio. Take profits in equities and scale into Treasuries This move to 3.20% on the 10-year note resembles that inexplicable move to 5.35% back in the summer of 2007, in our view. Yes, yields are much lower today, but the inflation rate is 300 basis points lower too and the unemployment rate is 400 basis points higher. If we recall back in that summer of 2007, the equity market was hitting new highs just as bond yields were. The trade then was to take profits in the former and scale into the latter. After a near-40% surge in the S&P 500 and a near-60% surge in bond yields off their recent lows, it would seem logical to us to embark on a similar shift this time around.
Bond yields do not bottom until well into the next cycle
Even if the recession is to end soon, and that is still very debatable, bond yields do not typically bottom until we are well into the next cycle, as inflation continues to decline even after the downturn ends. So just like further upside potential in equity prices seems extremely unlikely over the near and intermediate term, further downside risk Treasury note and bond prices is also less of a risk today, in our view.
We would like to see a retest of the March 9 low
To emphasize, it could well be that we saw the market lows back on March 9. But we would like to see a successful retest before making that conclusion. The inevitable test will be the thing. But do not confuse green shoots for a sustainable recovery. After a credit collapse and asset deflation of the magnitude we just witnessed, the markets, housing prices and equities can be expected to take years to fully recover.
The data flow is less relevant this cycle than in the past
This was not a manufacturing inventory cycle, which makes the data flow less relevant than in the past. Real estate values are still deflating and the unemployment rate is still climbing; these are critical variables in determining the willingness of lenders to extend credit. And as we just saw in the Fed’s Senior Loan Officer Survey, while there may be a ‘thaw’ in the financial markets, banks are still maintaining tight guidelines. In fact, the weekly Fed data are now flagging the most intense declines in bank lending to households and businesses ever recorded. The best case is that this is a bear market rally All of this has not precluded an elastic band bounce from an egregiously oversold low in the S&P 500, and perhaps we will even test the 200-day moving average of 960 (as the 10-year note yield and NASDAQ just did). But we still do not believe what we are seeing fits the hallmark of a new bull market. In our view, the best case is that this is a bear market rally, but one that clearly has more legs than its predecessors this cycle.
Providing clients with a historical perspective
At this time, we believe it is necessary to provide clients with some historical perspective from the last colossal credit collapse in the 1930s, understanding that there were similarities as well as differences. It was extremely difficult for equity investors to make money in the decade following the June 1932 bottom. After the three-month rally (+75%) off the bottom in 1932, equity markets were extremely volatile and largely sideways for the next nine years. Keep in mind that the jury is still out as to whether the March 2009 lows were in fact the bottom, as was the case in 1932.
If March 9 was the low, what does it mean for the outlook?
It doesn’t say much, actually. The same goes for corporate spreads. The S&P 500 bottomed in mid-1932 and soared nearly 75% in the next three months. Anyone who bought at that point and hung on to their position saw no capital appreciation for nine years. Baa spreads also hit their widest levels at 724 basis points in mid-1932, a year later they were down to 380 basis points. While the initial the surge in the stock market and the tightening in corporate spreads from stratospheric levels presaged the bottom in GDP in the third quarter of 1932, the reality is that the Great Depression did not end until 1941 (and the next secular bull market did not commence until 1954). The prior peak in GDP was not reattained until the end of the 1930s, fully seven years after the introduction of the New Deal stimulus. By then the unemployment rate was still at 15%, consumer prices were deflating at a 2% annual rate and government bond yields were on
their way to sub-2% levels.
Our preference is to stick with fixed-income securities
Be careful about jumping into the stock market with both feet after this monumental rally. Consider whether or not it would be more appropriate to take advantage of the run-up to reduce equity exposure. Our preference is to stick with fixed-income securities, which we believe will work much better from a total return standpoint, as they did for years after the economy hit bottom back in the early 1930s. When we are finally coming out of this epic credit collapse and asset deflation, we should expect that the trauma exerted on household balance sheets will have triggered a long wave of attitudinal shifts toward consumer discretionary spending, homeownership and credit. The markets have a long way to go in terms of discounting that prospect.
Monday, May 4, 2009
In point of fact, our fractional reserve financial system is just a gigantic Ponzi scheme. It can only survive as long as it expands, which is to say, as long as new debt is flushed through the system to finance old debt. But like all Ponzi schemes, the larger it grows the more unstable it becomes. Eventually, it collapses of its own weight.
With this in mind, government should be concerned with paying down debt, not expanding it. Deficit-financed bailouts and stimulus only increase the size of the Ponzi. The bigger it grows, the harder it will crash.
My thoughts came back to this recently when I looked at FDIC’s 12/31/08 balance sheet. Note at the bottom of that link the estimate for total insured deposits: from Q3 to Q4 it increased only a smidge, to $4.8 trillion from $4.6 trillion.
Odd, no? Why such a small increase even though FDIC dialed up deposit insurance limits so significantly during Q4? FDIC Senior Banking Analyst Ross Waldrop told me during an interview last week that it’s because so-called “temporary” increases in deposit insurance are excluded. If included, these would boost total insured deposits from $4.8 trillion to $6.2 trillion.
If you include debt issued prior to the new year under FDIC’s “Temporary” Liquidity Guarantee Program, FDIC’s total commitments would increase an additional $224 billion to $6.4 trillion *
In early October, FDIC boosted deposit insurance limits for individual non-retirement accounts to $250k, which, according to Waldrop, added $713 bilion to total insured deposits. He also noted that new insurance on non-interest bearing transaction accounts added $684 billion to the total.
Waldrop wouldn’t comment on the validity of excluding temporarily insured amounts from the total.
It seems intellectually dubious, if only because there’s little chance FDIC will actually allow the temporary increases to expire. Doing so would risk sparking depositor panic, precisely what FDIC is trying to avoid.
What does this have to do with Ponzis? When Bernie Madoff’s scheme collapsed, he owed somewhere north of $50 billion to his investors but had only a tiny fraction left in the bank. FDIC’s potential liabilities as of Q4 were $6.35 trillion. It has but a tiny fraction of that amount—$19 billion—in the Deposit Insurance Fund. Readers might argue that comparing the two is unfair; FDIC has an open line of credit on the U.S. Treasury. So FDIC’s credit is as good as Uncle Sam’s.
But how good is his? Already, the federal government has committed $12.8 trillion to fight this financial fire (a figure that doesn’t include FDIC’s $6 trillion worth of insurance commitments). Then there’s the trillions of unfunded liabilities for private and public pension schemes that Uncle Sam may be forced to absorb. Also there’s Obama’s budget deficits, which will commit us to borrowing trillions more over the next decade. Finally and most importantly, our unfunded liabilities for Medicare and Social Security surpass $50 trillion.
At the end of the day, after borrowing and money printing have been maxed out, the federal government’s credit is limited by the taxes it can collect from the American people. No way no how can Americans pay for all of the above. It would cost every one of us hundreds of thousands of dollars today. Yet society still feeds the collective delusion that government liabilities are “risk-free” because it has a printing press. But printing is just default by another name: inflation. And the more we come to rely on government guarantees, the more unstable they become…
With this in mind, it is foolish for government to promote debt expansion, but that is precisely what government “guarantees” are designed to do. They are designed to boost lending.
Fannie and Freddie were just the most obvious examples of how terribly this can backfire. Perhaps trillions of dollars flowed through Fan/Fred into the mortgage market as a result of the government’s implicit (now explicit) guarantee of their debt. This helped inflate a bubble that is now bursting spectacularly.
FDIC deposit insurance is an even more insidious guarantee, the “crack cocaine of American finance” as Martin Mayer put it in his definitive book on the S&L crisis. He showed how deposit insurance was to blame for that episode as risky bankers leveraged FDIC insurance to attract funding to finance ill-conceived investments.
Depositors didn’t care how much risk bankers took with their money. It was federally-insured. Might as well go with the bank offering the highest interest rate. One of my favorite contemporary examples is the ad I see for GMAC’s above-market CD rates in WSJ’s A section every week. GMAC is insolvent. It’s asinine for depositors to keep funding them.
The government is encouraging precisely that with $5 billion of TARP bailout money and the protective wrap of FDIC deposit insurance. GMAC now operates courtesy of the government’s promise to insure its creditors. This is true of the entire banking system at this point…
The dirty little secret, as noted above, is that the government has no reserves with which to fund its guarantees. As they become payable, its only recourse is to borrow.
This guarantee shell game continues only because Uncle Sam has borrowing capacity to keep it going. That capacity derives not from balance sheet strength (again, no reserves) but from the dearth of investors’ options. Everyone worldwide knows Uncle Sam is broke. But government-insured accounts remain the last refuge for their accumulated paper wealth, which—in a fractional reserve banking system—is largely an illusion to begin with. In such a system, paper wealth exists only to the degree that debts are serviced. And debts are serviced only to the degree that credit continues to expand. Remember, it’s just one giant Ponzi scheme.
This is not hard to grasp, actually.
The vast majority of the economy’s wealth exists only on pieces of paper that record the accumulated funds stored in financial accounts. Contemplate your own bank statement for a moment: what does the balance figure at the bottom represent? Money that you previously gave the bank that it has since shoveled out the door to borrowers. In other words, your paper wealth only “exists” to the extent that bank borrowers pay back their debts. Money and debt are mirror images of each other: your money is someone else’s debt.
Here we have arrived at the cause of the present crisis. Credit expanded so spectacularly during the recent asset bubble that paper wealth itself expanded spectacularly. But this wealth was an illusion of course. As debtors default, paper wealth disappears. The Ponzi unravels.
Ponzi schemes aren’t “solved” through continued expansion. This delays the day of reckoning, sure. But only at the cost of magnifying losses fantastically. No one would have suggested extending Madoff investors a government guarantee. Why then are we offering guarantees for customers of Chase, Citi, BofA and Wells Fargo, far larger Ponzi financiers all of them?
The answer, of course, is they are “too big to fail.” Had Madoff been sporting a trillion-dollar balance sheet, you can bet the government would have offered bailout funding to prevent a disorderly collapse.
But there’s a fine line between too-big-to-fail and too-big-to-rescue. Ask the folks in Iceland, Ireland, and most of Eastern Europe. The Ponzis at work in their financial systems grew so large there is simply no orderly way to unwind them. We risk the same fate here in the U.S. by offering open-ended guarantees to bank customers.
The fact is, a bank run can be a healthy thing as it discourages investors and depositors from allocating too much cash to unstable institutions. Unfortunately, by removing all discipline that the possibility of failure provides, we have permitted our financial institutions to grow totally unchecked. The just desserts of moral hazard you might say.
A counter-argument here is that government guarantees have actually prevented capital flight. Without all these new guarantees, the system would have crashed back in October as investors and depositors raced to cash out simultaneously. But the guarantees we’ve extended haven’t prevented that, they’ve merely delayed it.
The longer the government leaves its various guarantees in place, the more capital will flow to guaranteed investments, much as it did to Fannie and Freddie. The Ponzi will continue to expand until confidence in Uncle Sam’s balance sheet is itself destroyed. At that point, the unwind will be far uglier that if we had paid down the national debt while executing a proper bank recapitalization, i.e. wiping out shareholders and forcing losses onto creditors.
What was true for Madoff is true for the U.S. financial system: In order to contain collateral damage, it’s best to unwind Ponzis as soon as possible.
(from RGE Monitor, Rolfe Winkler | May 4, 2009)