Friday, October 26, 2012 - Thank God It's Friday

DOW + 3 = 13,107
SPX – 1 = 1411
NAS – 1 = 2987
10 YR YLD - .08 = 1.75%
OIL -.43 = 88.30
GOLD + .80 = 1712.10
SILV - .02 = 32.19
PLAT – 16.00 = 1551.00

The U.S. economy grew in the third quarter, the GDP grew at a 2% rate, a bit stronger than the 1.7% expected by economists, and up from the 1.3% rate in the second quarter. Consumer spending and federal government spending increased and the housing market and home construction were areas of strength. Business spending continued to be a drag. GDP is the broadest measure of an economy’s health, and represents the value of all goods and services produced in the US. GDP has been positive since the third quarter of 2009, but today's report, although better than expected, really can't be considered more than moderate growth.

Consumer spending increased at a 2% pace. Business investment fell by 1.3% in the third quarter, subtracting 0.1 percentage points from growth. Farm inventories dropped due to the drought and that subtracted 0.4 percentage points from GDP growth. Government spending increased 3.7%, with the lions' share coming from the federal government and a fairly flat spending pattern from local governments. Investment in the housing sector jumped 14.4%. Inflation as measured by the Consumer PCE or Personal Consumption Expenditures Index increased to 1.8% from 0.7% in the second quarter; most of that increase was due to high gasoline prices, which have started moving lower in the current quarter.

Imports dipped 0.2%, reducing the drag on economic growth. Imports subtract from GDP. Conversely, more exports would help GDP, but exports fell an even sharper 1.6%, reflecting the difficulty faced by American companies in selling goods overseas in a global economic slowdown.

Here's a quick rundown of the Euro economic slowdown. Spain's unemployment rate rose to 25 percent in the third quarter, a new record high; one reason for the new record is labor reform making it easier to dismiss workers. One alarming element of today's rise in Spanish unemployment is that most of the country's latest austerity package hasn't kicked in yet; it's just getting started. There are daily street protests throughout Spain. It's hitting the public and private sectors. Today, Bankia, the largest Spanish bank announced 72 senior bankers will have to return their bonus pay from 2011. The bonuses were awarded just weeks before Bankia admitted it needed $30 billion in bailout money.

Fans of Greek deadlines will be keen to know that Athens has been given until Sunday night to achieve full agreement on a $15 billion austerity package. Germany's finance minister has waded into the debate on Greece again, saying there were doubts the country had met its commitments from previous bailouts. Greece has been dealing with 25% unemployment for a while, and 54% among the young; a third of businesses in central Athens are closed, the two old mainstream political parties can't seem to get anything done. The Golden Dawn gained 18 seats in parliament in the last election; that represents less than 10% of the vote, but they continue to gain ground as more and more people lose hope. Violence has broken out even in parliament. Golden Dawn is the Neo-Nazi party and they are moving into the gaps left open by the crippled Greek state.

In the UK and throughout much of Europe there is a move to crack down on tax cheats. Revenues are drying up because unemployed workers don't pay tax, so now governments are going after businesses, and they're starting with foreign firms. The British Prime Minister Cameron is asking for investigations into international companies that have legally paid little or very small amounts of corporate tax on billion s in revenue; Starbucks, Apple, Google, Facebook, and Amazon are among those targeted for investigations.

Remember Silvio Berlusconi, the former Italian prime Minister? He wasn't just a politician, he was also a media tycoon, and he ran a company called MediaSet; he's one of Italy's richest men; and he's been on trial for tax evasion. The court found that Mr Berlusconi and 10 co-defendants were behind a scheme by Mediaset to purchase the rights to broadcast American films on his private television networks through a series of offshore companies, and had falsely declared the payments to avoid taxes.

Prosecutors said that they inflated the price for the TV rights of some 3,000 films as they re-licensed them internally to Berlusconi's networks, pocketing the difference that amounted to 250 million euros. The trial began in July 2006, but was put on hold by a now-defunct immunity law that shielded him from prosecution while he was premier.

Today, Berlusconi was convicted and sentenced to 4 years in prison. The sentence was immediately reduced to one year because of an amnesty law designed to reduce prison overcrowding. His lawyers promise to appeal.

Meanwhile, the director of the Bank of England has called for breaking up the “too Big to Fail” banks. Andrew Haldane said regulators should consider doubling banks’ loss-absorbing capital buffers to around 20%, “placing limits on bank size”, or imposing a “full separation of investment and commercial banking” rather than a ring-fence. Although banks claim to be more efficient the larger they are, the analysis ignores the cost of the implicit taxpayer guarantee that are calculated at $300 billion a year; that's just in implicit guarantees, and that's just in reference to the British banks. Can you imagine what would happen if Ben Bernanke made an announcement like that regarding US banks?

Meanwhile, the Swiss banking giant UBS is getting smaller. They announced they will fire 10,000 workers. Switzerland’s largest bank by assets will significantly shrink the trading side and complexity of its investment bank. UBS reports third quarter earnings next week.

Citigroup has fired two workers; they were internet stock analysts who made unauthorized disclsure related to the Facebook IPO. Citigroup was fined $2 million by the Massachusetts Securities Division for having “failed to prevent or detect the written disclosure of material, nonpublic research information in a restricted period before the Facebook IPO.

Nine more of the world’s major banks are currently under the microscope of US state prosecutors on suspected attempts to manipulate the Libor interest rate.

Bank of America, Bank of Tokyo Mitsubishi UFJ, Credit Suisse, Lloyds Banking Group, Rabobank, Royal Bank of Canada, Société Générale, Norinchukin Bank and West LB have received subpoenas to appear in court from Eric Schneiderman, New York Attorney-General, and George Jepsen, Connecticut Attorney-General.

They are jointly investigating the possible rigging of the Libor – a key bank lending rate which affects different financial instruments and transactions worth more than $300 trillion worldwide.

In August the investigators sent requests for information on the Libor case to Barclays, which has already been fined $450mln for Libor fixing, state-backed lender Royal Bank of Scotland, HSBC, JP Morgan Chase, UBS, Deutsche Bank and Citigroup. The investigators demanded the banks provide documents and records of communications to prove the alleged collusion to fix rates.

I find it absolutely amazing that the big banks continue to act in such reckless manner. If it's not one thing it's another.

I don't like uncertainty and I'm certain you don't like uncertainty and it is absolutely certain, at least according to the financial media and CEO of the biggest corporations in America are convinced that uncertainty is Satan's spawn. Yes, it is uncertainty over the fiscal cliff, not a lack of business that has the CEOs wetting their beds at night. There may be something to it. It's a little hard to imagine Congress being anything but dysfunctional, but we've seen it all before. Remember 1995, when Congress shut down the government – twice? Remember last year, when they avoided the fiscal cliff, even though they couldn't avoid a credit downgrade? I understand that the fiscal cliff is important and it should absolutely be dealt with, but it is not the most important issue in the economy.

And the fix is relatively simple; the politicians can reach a compromise; they can come up with a new plan; they can pass an extension and kick the can down the road for six months or a year; or they can just go over the cliff – which is entirely legal and would result in the best case scenario for reducing the debt. The fiscal cliff would actually raise taxes and cut spending. The reality is that this option is horrid economic policy. The mix of automatic spending cuts and the expiration of Bush-era tax cuts at the end of the year could cut growth next year. We can say with certainty that this is a failing mix because we've seen it applied in Europe and it has been a verifiable failure.

We've been told over and over that stimulus didn't work, even though it actually did, and it has resulted in growth albeit slow growth. But isn't slow, moderate growth better than the 8.5% contraction in GDP we saw in the fourth quarter of 2008? The CEOs know this and they know that if the stimulus spigot gets turned off, they are in trouble. They can talk about the need to fix the debt, but what they are really asking for is more stimulus. It's Orwellian doublespeak of the highest order. Debt to GDP is falling and the economy would tank if we were to reduce the Federal deficit while the economy is deleveraging.

Money is cheaper now than it has been in living memory: the markets are telling corporate America that they are more than willing to fund investments at unbelievably low rates. And yet the CEOs are saying no. That’s a serious threat to the economic well-being of the United States: it’s companies are refusing to invest for the future, even when the markets are begging them to.

Instead, the CEOs come out and start criticizing the Federal government for stepping in and filling the gap. If it wasn’t for the Federal deficit, the debt-to-GDP chart would be declining even more precipitously, and the economy would be a disaster. Deleveraging is a painful process, and the Federal government is easing that pain right now, and the reality is that the CEOs are hooked on the stimulus.

These big companies, on the whole, are losers relative to the rest of the corporate sectors; small and midsized businesses have outperformed and grown, while the big players have deleveraged, yet they have the temerity to preach to the rest of us as if they speak from genuine accomplishment, as opposed to having been lucky or politically savvy enough to assume the leadership of companies with well established franchises. How many of those CEOs were actual founders of those companies? None that I saw. How many were CEOs of financial institutions that received bailouts? About a dozen. And then there was GE, the tax dodger; and Merck, which gets all kinds of funding from various governmental health institutions.  And of course, the other factor working to their advantage is that political influence can be bought for remarkably little.

In any case, both the global economy and the US economy are very fragile right now, and every central banker in the world is begging for help from fiscal policymakers. Which is to say, higher deficits, not lower ones.

Of course, in addition to the uncertainty surrounding the fiscal cliff, we have the uncertainty surrounding the election. The latest Gallup polls show Romney leading by 3%. The latest CBS polls show Obama leading by 2%. The polls are fairly good predictors but not a sure thing. In 2004, Gallup failed to forecast the winner of the popular vote for president, for the second straight election. Halfway through Election Day 2004, various exit polls showed Kerry with the lead. So who will win the election? The polls are split, but the gamblers have placed their bets. And the gamblers are better at this than the pollsters.

In 2004, when the pollsters picked Kerry, 91 percent of bettors on Betfair.com had their money on Bush. The betting markets also were correct on the winner in each of the 50 states. In 2008, 90 percent of gamblers correctly forecast an Obama victory. They were also on the money with 48 of 50 states. In presidential races beginning in 1896, the New York Times, Sun, and World provided daily betting quotes. The papers' sources were bookies who had agents at every stump and whistle-stop to gather intel and quantify popular sentiment. Between 1884 and 1940, the bettors erred on just one of sixteen elections, Wilson's 1916 upset of Hughes.

Now, the betting odds are posted on the internet. The three biggest internet oddsmakers are giving the following odds: Betfair has Obama with a 64 percent chance to win to Romney's 36 percent; Intrade has the president at 58 percent; and the Iowa Electronic Markets have the president at 59 percent.Oddschecker shows bookmakers to be even more bullish on Obama. Still, the consensus among gamblers isn't as strong as in the last two elections. At approximately 3-2 odds, the outcome indicates a tight race, likely hinging on Ohio. And it's not exactly a horse race, which can change in a second; it's more like a marathon, and one-third of all voters have already cast early ballots. We're closer to the finish line than you realize.

There have been plenty of issues that got short shrift in the public discourse during this election cycle. There were 3 presidential debates and I think that all three were lousy. The questions were bad, the answers worse.

Here's my list of questions I would have liked to have heard:

What should we do about the 10+ million undocumented people in this country, more than half of whom came here from Mexico?

Speaking of Mexico, the drug war in Mexico was the most deadly armed conflict in the world last year, killing more people than the war in Afghanistan and the civil war in Syria combined. What should we do about it?

We have run the largest trade deficit in the world every year for roughly the past 20 years. This year, it's half a trillion dollars, again. Other developed countries like Japan and Germany run consistent trade surpluses. What should we do about this?

The United States is the only industrialized country without universal healthcare, paid vacations and paid sick leave. Why is this? What should we do about it?

Climate change obviously is a worldwide issue. Should the United States participate in efforts to mitigate it? If so, how?

There is tremendous suffering now in both Greece and Spain, with unemployment of 25 percent+. Should we do anything to help people in those countries?

In poor countries, three million people die each year of respiratory infections, 2.5 million die each year of diarrhea, and two million die of AIDS. Virtually all of these deaths are avoidable. Should we avoid them?

If you could change one ruling by the Supreme Court, what would you change and how?

Feel free to add to the list.

Have a great weekend.