Tuesday, September 17, 2013 - Everything is on Hold at a Bad Level

Everything is on Hold at a Bad Level

by Sinclair Noe

DOW + 34 = 15,529
SPX + 7 = 1704
NAS + 27 = 3745
10 YR YLD - .02 = 2.84%
OIL + .22 = 105.64
GOLD – 3.90 = 1311.00
SILV- .08 = 21.84

Market players are focusing on the Fed right now. Yesterday, Larry Summers withdrew his name from consideration to be the next Fed Chairman; maybe it doesn't matter who the next Fed chair is, they are likely to continue on the same path. Today, Jim Rogers said the role of Fed Chair is nothing more than a lapdog for the establishment. Harsh, but not necessarily inaccurate. Still, the Fed Chair is a powerful role and it looks like a woman almost nobody knows will soon take over. Give yourself 3 points if you know her name and her current job title. (Janet Yellen, Fed Vice Chair)

The Federal Open Market Committee, the FOMC, was meeting today; they'll continue meeting tomorrow to determine monetary policy. It's widely expected the FOMC will announce taper, in part because of logistics. The FOMC meets tomorrow, another meeting in October, another meeting in December, and then Bernanke retires. Market participants are expecting taper, and the Fed usually avoids surprises. September and December are the two most likely times for an announcement, in part because the October FOMC meeting does not include a scheduled press conference to explain any significant changes; also October will be right in line with budget battles If there is a negative market reaction to taper, it's probably better to have it in September rather than December, heading into the holidays.

The decision to QE or not QE doesn't seem to be based upon economic progress; the economy has improved but it is still a long, long, long, long way from healthy, especially in the labor markets. A new report from the Census Bureau today confirms the economic weakness. Last year, for the first time in half a decade, median household income did not fall and poverty did not rise. The report depicts an economy that has failed to improve the lot of most households and left about 46.5 million Americans living in poverty in 2012.

Median household income, adjusted for inflation, fell slightly for the fifth straight year to $51,017, the lowest level since 1995. That is down about 9 percent from an inflation-adjusted peak of $56,080 in 1999, though the economy has grown by about 28 percent since then. Income is also down about 8.3 percent since 2007, when the economy started to contract. The census data shows that the top 5 percent of earners — households making more than about $191,000 a year — have recovered most of their losses and took in about as much in 2012 as they did before the downturn. But those in the bottom 80 percent of the income distribution are, on average, making considerably less.

More than 20% of homes headed by a college grad and 24 percent of Americans working full-time can't make ends meet. Those statistics indicate that economic insecurity extends beyond the unemployed or little-educated. It also indicates that poverty is a much bigger problem than you probably think. The good news is that everything’s on hold, but at a bad level. Don’t expect things to change until the American economy begins to generate more jobs. And tomorrow the Fed is probably going to whistle past that graveyard.

Instead the Fed, according to their minutes, is afraid of asset bubbles and frothy markets. Also, the FOMC recognizes that the efficacy of QE is fading; $85 billion a month in asset purchases just doesn't have the same punch it once delivered. One more consideration is that the deficit is shrinking. That means the Treasury issues less and less debt to cover government spending. Right now, purchases of government debt by way of QE account for the majority of new debt issued by the Treasury, and if the Fed continues buying at the current pace they could reduce the supply of Treasuries available to other market participants. This could be a problem because Treasuries are one of the few remaining Triple-A rated financial instruments, which is sometimes a requirement for collateral; and without that collateral a whole bunch of deals never get done. So, if the Fed keeps up QE they risk choking out the financial system's ability to lend and create possible destabilization in the Treasury market..

We'll see what happens tomorrow.

If you can give a reasonably simple definition of QE, congratulations. You are a very smart person. Slap a gold star on your forehead. A new Reuters Ipsos poll finds  just 27 percent of US adults could pick the correct definition of quantitative easing from among five possible answers. Quantitative easing, or QE for short, is when the Fed buys bonds in order to push down interest rates and boost the economy.

Fed officials have stressed how important it is that the public does not equate a reduction in quantitative easing with a rise in interest rates. Even though the Fed's well telegraphed intention to pare back its bond buying has raised interest rates over the last five months. Two conclusions: The Fed at times has not done a very good job of explaining what it is up to. Also, it's also fair to say that the state of financial literacy in the United States has room for improvement.

The other big news this week was the mass shooting at the Navy Yard in Washington D.C.; you've heard all about it and it is another tragic story and the only thing I can add is that nothing will change.

The other big news this week has been the flooding in Colorado; there are a few little sidebar stories here that you probably haven't heard. The rain and flooding washed out roads and bridges. To assess the damage a Colorado company that makes drones started flying the drones to photograph the damage, making maps. Within a couple of hours they were delivering high resolution, georeferenced maps; that's very helpful for emergency responders. Very helpful, especially because the drones can fly even when manned airplanes and helicopters can't fly because of bad weather. Or at least the drones could fly until last Saturday, when FEMA showed up and closed the drones down.

The other thing you haven't heard about from the Colorado floods is the natural gas rigs that were flooded. Some gas wells were submerged, some tanks were ripped from their stands. Leaking tanks have been spotted floating down rivers. There is a huge amount of toxic gas leaking into the water. I haven't heard anything about it on mainstream media.

The inflation adjusted U.S. gross national product, the most comprehensive measure of U.S. economic activity, grew by 2.5 percent in 2012, according to the Commerce Department. We're now getting some breakout by city. San Francisco had the fastest growing economy in the country, up 7.4%, and Houston grew at a 5.3% clip, followed by LA at 3.1% growth.

JPMorgan Chase has agreed to pay about $800 million to a host of government agencies in Washington and London — and make a groundbreaking admission of wrongdoing — to settle allegations stemming from a multibillion-dollar trading loss. This is technically accurate and shows some refreshing tough-mindedness among regulators in how they are negotiating with JP Morgan over its London Whale trades. JP Morgan had risk controls that were way way short of industry standards, and bank executives, including Dimon himself, lied flagrantly to the media about the nature and severity of the case for a troublingly long time after it became public. And we learned later that the bank was exceptionally high-handed and dishonest in its dealings with regulators.

The FBI and the Manhattan prosecutor’s office are still investigating criminal charges and the CFTC is continuing with its own probe. Unlike the SEC, the trading commission has examined whether JPMorgan amassed a position so large that it “manipulated” the market for financial contracts known as derivatives. And the proposed settlement opens the door for private litigation. But the big win for JPMorgan is that senior executives are avoiding charges despite blatant and well-recorded lies. Martha Stewart is probably foaming at the mouth.

A grand jury has indicted two former JPMorgan traders at the center of the bank's "London Whale" scandal. Javier Martin-Artajo and Julien Grout were accused of hiding hundreds of millions of dollars of losses within JPMorgan's chief investment office in London by marking positions in a credit derivatives portfolio at inflated prices. The two men were charged by prosecutors last month. Eventually, if the regulators maintain backbone, they will eventually find employees willing to cut a deal and roll-over on senior executives, but for now the code of “omerta” is alive and well in the banking industry.

Even with the settlements in the trading loss case, the bank’s regulatory problems are far from resolved. JPMorgan faces inquiries from at least seven federal agencies and two European nations. The authorities have cast a wide net, examining everything from the bank’s hiring practices in China to mortgage loans it sold to investors in the financial crisis. Prosecutors and the F.B.I. in Manhattan are also examining whether JPMorgan did not alert authorities to suspicions about Bernie Madoff's ponzi scheme. Then there's the probe by the Federal Housing Finance Agency, which has accused JPMorgan of selling shoddy mortgage securities to Fannie Mae and Freddie Mac. Then there is the comptroller's office and the Consumer Financial Protection Bureau's investigation into the way the bank collected credit card debt from customers. I'm sure there's something I'm forgetting, but that's enough for now.