Thursday, August 2, 2012

Thursday, August 02, 2012 - ECB Does Nothing - Jobs Tomorrow - Dust Bowl Today

ECB Does Nothing - Jobs Tomorrow - Dust Bowl Today
- by Sinclair Noe

DOW – 92 = 12,878
SPX – 10 = 1365
NAS – 10 = 2909
10 YR YLD -.06 = 1.48%
OIL – 1.58 = 89.27
GOLD - 11.80 = 1589.30
SILV - .31 = 27.23
PLAT – 12.00 = 1391.00

So, last week, you might recall the stock market had a nice little two day rally based largely upon European Central Bank President Mario Draghi claiming within his mandate, he would do whatever it takes to preserve the euro; which turns out to be not so much. Draghi doesn't have a bazooka, or even a pea shooter.  Yesterday, the Federal Reserve did nothing as they concluded their FOMC meeting. Today the ECB and the Bank of England did nothing. Perhaps Bernanke did not want to take center stage away from Draghi today. Could the Fed be playing it close to the vest, keeping their fingers crossed hoping for good employment numbers on Friday? 

For whatever reason, Bernanke is unwilling to try to kick start the economy with more stimulants. Why is he hesitating?  Maybe he’s more scared that additional Fed maneuvers won’t have any real effect than he is scared of a deflationary depression. Maybe he’s more scared that new twisting will have no economic effect. The last thing Bernanke wants is the point of recognition where the Fed is seen to no longer have any effective tools.

If Bernanke actually unleashed QE3 and the market didn’t rally or worse, sold off, he would lose face.  Maybe Bernanke is afraid another round of QE will destabilize prices; maybe he thinks prices are about to be destabilized anyway with the drought hitting both food and energy prices, and sucking the last morsels of resolve and confidence from consumers. Maybe the Fed is afraid of the law of diminishing returns.

Whatever the reason, the Fed did nothing yesterday. And then today, Draghi the ECB wrapped up a policy meeting and announced they would leave interest rate targets at 0.75%. And the ECB will draw up plans in the coming weeks to make outright purchases to stabilize stressed euro zone borrowing costs. Draghi seemed to imply that before the ECB did any buying in the secondary market, a country would have to have approached the euro zone bailout funds for funding and met strict conditions imposed by those institutions. He also conceded that the Bundesbank isn't really on board yet. Actually, Draghi is saying that he is trying to put together a very substantial bailout deal but it won't happen immediately. Of course, the markets were whining for instant gratification. And so there was a sell-off. The euro slipped down to $1.217.

Mohamed El-Erian, the chief executive officer of Pimco, said the world economy is suffering its severest slowdown since the recession ended in 2009.  El-Erian predicted global growth of 2.25 percent over the next 12 months. That’s down from 3.9 percent growth last year. So, the pressure is on the ECB and the Federal Reserve, and maybe they are just waiting, holding onto their ammunition for what they know will be a difficult battle.

Tomorrow's jobs report numbers? Look for a gain of 100,000 new net jobs and for the unemployment rate to hold steady at 8.2%. Actually, the estimates have been slipping from about 110,000 to low range guesses of 95,000. 

The problem of long-term unemployment is an ever increasing threat. There is the very real possibility that the jobs problem could fall into a closed loop from which there is no exit; workers are idled because companies won't hire; companies won't hire because  they can't find a market for what they make; there is no demand for what companies make because the workers aren't working and have no income to spend. It is a form of market failure. Yes Virginia, markets are fallible. And on top of that we have dysfunctional government. If we don't break the loop, it could get ugly. 

Yesterday, algorithmic trading programs went crazy and started trading like drunken bankers. The NYSE halted trade on about 150 stocks and then canceled some trades, but not all trades. The biggest problems were with computers at Knight Capital.  Knight messed up and caused disturbing dislocations and huge volume spikes; within an hour, order had been restored. Knight blamed the mess on faulty software. I said there was a good chance Knight Capital really took a bath on the trading glitch. They did. They lost about $440 million on bad trades. Share price has dropped from more than $10 to less than $3. If the problem is high speed trading, the only way you'll stop it is to let them fail if they screw up. This software glitch has started a debate about the market being more efficient at punishing errors than any regulators. It is a flawed argument. The question is not whether we need regulators, it is whether we need firms like Knight Capital that are basically high frequency traders, scalping pennies off every trade, and providing no discernible value.

On July 10, the city council of San Bernardino, voted to seek bankruptcy protection.  Today, the city officially filed for Chapter 9 bankruptcy. The San Bernardino County sheriff’s office announced a criminal investigation of the city on July 12, apparently looking into “allegations of criminal activity within departments of the San Bernardino city government.” But for now, the city will keep on keeping on as they try to figure out how to pay their bills. All the vital service bills will continue to be paid; city services are running. The only difference is that they're going to start charging a 25 cent royalty for saying the name San Bernardino as a way to pay down debt. I'm already up to a dollar. Let's move along.

The worst drought in 56 years is just getting worse; above-normal temperatures and almost no rainfall parched corn and soybean crops across the Midwest and central Plains. There has been some light, scattered rains but not enough to save most crops, and another buildup of heat is expected next week in the central and western Midwest. More than two-thirds of the country is under some level of drought; one-fifth of the country is dealing with extreme drought. The drought intensified in most major farm states, including Illinois, Nebraska, Kansas, Missouri and Iowa, the top US corn and soybean producer, as temperatures were 5 to 10 degrees  above normal and rains were largely scattered and light.

Crop condition ratings for corn and soybeans have dropped to the lowest levels since the major drought of 1988. The six-state US South region, which includes major cattle and wheat producers Texas and Oklahoma and top rice producer Arkansas, was about 24 percent under extreme drought, up from 21 percent the prior week. A portion of the Texas and Oklahoma panhandle region was classified under exceptional drought along with nearly 45 percent of Arkansas. On Monday, the high temperature hit 111 degrees in Little Rock, Arkansas. That was a new all-time record for July 30th, and it was the third-highest temperature ever recorded in Little Rock.

In the last three months alone, wheat prices are up 41 percent, corn is up 29 percent and prices for soybeans are up 17 percent. Money manager Jeremy Grantham issued a report today claiming we are "about five years into a chronic global food crisis that is unlikely to fade for many decades, at least until the global population has considerably declined from its likely peak of over nine billion in 2050. The somewhat Malthusian assumption is that food production needs to jump by 60 to 100 percent by 2050 to adequately feed caloric intake of the 9 billion-plus people.  

The latest surge has been caused by horrific drought conditions in the Midwest of the United States, but Grantham believes bigger forces than drought are at work here and these price increases are only the beginning. Along with surging demand for food from a rapidly increasing global middle class, Grantham cites falling grain productivity, tainted water, rising costs of fertilizer and fuel, as well as climate change, as reasons for the seismic move to come. The smart move is to buy farmland with a good source of water, and then develop a sustainable, renewable source of energy.

The lights are on again in India, following a massive blackout that left more than 650 million people without electricity. While the exact cause of the collapse will emerge in the next few weeks, it's clear that these outages were due to the basic mismatch of supply and demand. Large power outages can happen anywhere, of course, but India is unique in its dependence on seasonal rainfall.
This year's monsoon season, especially in Northern India, hasn't provided the water that the region's farmers need for their crops. Less rain means that farmers need to pump more water. 

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