Tuesday, January 07, 2014 - No Place Else To Go

No Place Else To Go

by Sinclair Noe

DOW + 105 = 16,530
SPX + 11 = 1837
NAS + 39 = 4153
10 YR YLD - .02 = 2.93%
OIL + .46 = 93.89
GOLD – 6.00 = 1232.80
SILV - .32 = 19.95

Had to happen, eventually I suppose; an up day on Wall Street. Traders waded through the snow and decided to buy something. No place else to go. You can look for a better explanation, but I think that sums it up: no place else to go.

Maybe some folks think we're in bubble territory in stocks. I don't know. A couple of weeks ago, economist Robert Shiller wrote an article in the New York Times claiming we were near a bubble in housing. Being near a bubble and being in a bubble are very different. Shiller has a formula for stock valuations known as CAPE, which stands for cyclically adjusted price earnings ratio. For the past 60 years or so, the CAPE ratio has been around 18.3. If CAPE moves above this estimate of the mean, eventually it will "regress to the mean" and return to the long-term average. If CAPE rises excessively above the mean, then one can argue that a bubble exists in the stock market. Right now, CAPE is estimated to be 25.

Maybe there will be a reversion to the mean by way of prices dropping or maybe there will be a reversion to the mean by way of earnings rising. Either way, the prices of the underlying assets may be high relative to the cash flows that support them for an extended period of time. Which is another way of saying the markets can remain irrational longer than you can remain solvent. Maybe the markets will hit new highs and we'll have another record setting year on Wall Street. Who knows?

The Commerce Department reports the trade gap is getting smaller, a drop in oil imports pushed the trade deficit to the lowest level in 4 years, down 12.9% for November. Petroleum imports were the weakest in three years as advances in domestic extraction put the US on track to become the world’s largest oil producer by 2015. We're still buying stuff from overseas; things like cars, and parts, and other capital goods; the American consumer is still consuming. We're exporting more, especially airplanes. There has been a pickup in US manufacturing, and it's a little more than just a wave of exports; it appears more sustainable.

Energy independence, or at least developing a comprehensive plan to achieve US energy independence could be the single biggest way to boost the economy. Recently, FedEx CEO Fred Smith was quoted as saying “Oil is at the center of everything we do. If we produce more in the US and use less and develop alternatives … you allow the United States within our economy a half a trillion dollars more in GDP."

Six Republicans sided with Democrats on a 60-37 Senate vote to revive expired federal jobless benefits. The legislation would restore benefits averaging $256 weekly to an estimated 1.3 million long-term jobless Americans who were cut off when the program expired Dec. 28. Duration of federal coverage generally ranges from 14 to 47 weeks, depending on the level of unemployment within individual states. The three-month cost to the Treasury is estimated at $6.4 billion. Without action by Congress, hundreds of thousands more will feel the impact in the months ahead as their state-funded benefits expire, generally after 26 weeks.

At issue is a system that provides as much as 47 weeks of federally funded benefits, beginning after the exhaustion of state benefits, usually 26 weeks in duration. The first tier of additional benefits is 14 weeks and generally available to all who have used up their state benefits. An additional 14 weeks is available in states where unemployment is 6 percent or higher. Nine more weeks of benefits are available in states with joblessness of 7 percent or higher. In states where unemployment is 9 percent or higher, another 10 weeks of benefits are available.

Any legislation that clears the Senate would also have to make it through the House. Speaker John Boehner has insisted that any measure to renew unemployment benefits should be paid for, so today's vote was just a hurdle on the way to the battle. And any deals cut on unemployment benefits might spill over into other battles coming up in the next few weeks, including the omnibus spending bill and the farm bill. After that, Congress will face its toughest challenge of the year when Democrats and Republicans will have to find a way to prevent us from defaulting.

The deal to end the government shutdown in October raised the debt ceiling until February 7. The Treasury can employ extraordinary measures to extend the deadline even further. How long is still up in the air; it could come as soon as late February or as late as June depending on the amount Treasury collects in tax receipts.

Details about the JPMorgan-Madoff settlement are coming out today. JPMorgan Chase will pay $2.6 billion to resolve criminal and civil allegations it failed to stop or really even raise a warning flag about Bernie Madoff's Ponzi scheme. The bank will pay $1.7 billion to settle the government’s allegations, $350 million in a related case by the Office of the Comptroller of the Currency, plus $543 million to cover separate private claims. It's apparently the biggest ever bank forfeiture and also the largest ever Department of Justice penalty for violation of the Bank Secrecy Act. JPMorgan officials will not be penalized.

But wait, there's more. JPMorgan has come to the settlement because they turned a blind eye to what was, at a basic level, money laundering. Back in 2007 and 2008 it became increasingly clear that JPMorgan's top executives knew there were problems, and there are emails to support that.

The bank itself was invested with Madoff through a number of feeder funds. In the fall of 2008, a JP Morgan memo laid out what was wrong with Madoff. It questioned his "odd choice of a one man accounting firm, " and said that there were "various elements of this story that" made the bank "nervous." Two weeks later, the bank sent a memo to UK regulators saying that Madoff's returns were suspicious.

That was around October/November 2008, and as that was going on, JP Morgan also took $275 million of its money out of Madoff feeder funds. Madoff was arrested on December 11, 2008. JPMorgan connected the dots when it mattered to its own profit, but wasn’t so diligent when it came to its obligations to report illegal activity.

The financial services industry has grown like an cancer with the help of taxpayer bailouts and ongoing subsidies, all of which increase our debt.  In 2011, the Commerce Department reported the financial sector accounted for 8.4 percent of GDP, and represented 30 percent of corporate profits. If proceeds of US debt had been invested for roads, high speed railroads, new industries, cheap energy, airports, and to fund scientific research, the debt would self-liquidate. But the bailouts came with a huge component of dead-end financing designed to let bankers suck rents from the financial system. The Fed monetizes debt through asset purchases and has been filling gaping holes in bank balance sheets.

Meanwhile, median incomes have continued their seemingly relentless decline; for male workers, income has fallen to levels below those attained more than 40 years ago. In the US, where a growing economic divide – with more inequality than in any other advanced country – has been accompanied by severe political polarization. Maybe we can avoid another round of political bickering that resulted in last year's shutdown. But even if they do, the likely contraction from the next round of austerity – which already cost 1-2 percentage points of GDP growth in 2013 – means that growth will remain anemic, barely strong enough to generate jobs for new entrants into the labor force. A dynamic tax-avoiding Silicon Valley and a thriving hydrocarbon sector are not enough to offset austerity’s weight.

The fundamental problem of the global economy in 2013 remained a lack of global aggregate demand. This does not mean that there is an absence of real needs – for infrastructure, to take one example, or, more broadly, for retrofitting economies everywhere in response to the challenges of climate change. But the global private financial system seems incapable of recycling the world’s surpluses to meet these needs. And prevailing ideology prevents us from thinking about alternative arrangements.

Maybe the global economy will perform a little better in 2014 than it did in 2013, or maybe not. Maybe the stock market will perform better this year or maybe it will crash. I don't know. The problem seems to be that money pours into the market by default or maybe just because the salespeople on Wall Street are effective. There are other places for the money to go, it just isn't going there right now, and that seems to be a wasted opportunity.