Tuesday, June 19, 2012 - There is No Escape for the Fed - by Sinclair Noe

06192012 Script


DOW + 95 = 12,837
SPX + 13 = 1357
NAS + 34 = 2929
10 YR YLD +.04 = 1.62%
OIL - .12 = 84.23
GOLD – 10.80 = 1618.90
SILV - .32 = 28.52
PLAT – 2.00 = 1487.00


The Federal Reserve FOMC is meeting today and tomorrow to determine monetary policy for the next few weeks. Here is what they will probably say tomorrow. They won't lower interest rates; interest rates are at zero; interest rates are actually already negative when you consider the effects of inflation. Operation Twist is scheduled to expire in about two weeks. The idea behind Operation Twist is that the Fed sells shorter-term securities and buys longer-term securities with the goal of reducing long-term interest rates to encourage borrowing and spending. The yield on the 10-year note is 1.62%, so rates are pretty low even though the Twist hasn't been able to encourage a big round of borrowing and spending. Low interest rates alone have not been enough to create demand. Operation Twist is the Fed pushing on a string – which is to say, supply side economics is a crock.


Here's the conundrum for the Fed – how do they exit Operation Twist without creating a problem, possibly unwinding those nice, ultra-low interest rates? The Fed might announce a limited extension of the Twist, maybe to September or they might just offer a soft extension – saying something like: “we will monitor long-term rates and stand ready to maintain stability”. 


As far as QE3 – not likely. Europe hasn't collapsed, not today; but due to the possibility the Euro economy might implode in the not too distant future, the Fed will keep its powder dry. That's not totally accurate. Just like Operation Twist, QE 1&2 never really included an exit plan. The truth is that the Fed has continued to be the biggest buyer of Treasuries, they are propping up the market, they are pushing on a string and again confirming the fallacy of supply side economics. QE never went away, it just hasn't been effective and the Fed let it expire (in name only) while continuing to maintain an accommodative policy and this way they didn't have to answer questions about why QE was so ineffective. 


Another option for the Fed tomorrow is to announce they will maintain the ZIRP even longer than previously announced. It is already scheduled to last until 2014, they might say it should remain in place until 2015 or until such time as an asteroid destroys life on earth as we know it. Here is the bottom line – the Fed can't exit their easy money policy; if they try to exit, it would get ugly; so, tomorrow they will say something which will indicate they are not trying to exit, and the markets will be somewhere between mild disappointment and moderate pleasure. 


The payrolls report shows job growth has averaged 96,000 in the past three months, well below the 252,000 rate in the three months before that.


The payrolls number is the net change between job additions and separations; the difference between hirings and firings. The Job Openings and Labor Turnover Survey (Jolts) provides some details on the labor markets. The April report  shows the spring payroll weakness reflects a very steep drop in hiring, not a rise in job losses.  According to the Jolts report, new hires fell to 4.18 million in April, down from 4.34 million in March and from 4.44 million in February which had been the highest hire number since October 2008.


Companies also cut back on looking for workers. April job openings fell to 3.42 million, the lowest number in five months.  Job separations actually fell in April, to 4.09 million from 4.17 million in March. Separations including layoffs, firings, quits and retirements have stabilized around 4.1 million over the past year.


Any way you look at it, the Federal Reserve has failed miserably in its mandate to achieve maximum employment.


Meanwhile, Greece is trying to form a coalition government and it looks like the 3 major parties are getting closer. The conservative New Democracy party won the election, narrowly, but the reality is that all the political parties want to renegotiate the bailout because a monkey with a calculator could figure out that the Greeks are getting screwed on the deal. And there seems to be some wiggle room. An IMF spokesperson said: “These economic programs are not static. They do get adjusted.” Germany has been inflexible on allowing any compromise. Then, late this afternoon we heard reports from the G-20 meeting in Mexico that Germany was going to end its opposition to the euro zone’s bailout funds buying the sovereign debt of troubled European nations. The stories have not been confirmed, but who knows? Maybe Merkel discovered the great Mexican invention, the margarita, and maybe she's getting a little loose in Los Cabos.


While this was going on, British Prime Minister David Cameron sparked a war of words with French officials by saying he would roll out the red carpet for French firms if new French President Francois Hollande raised taxes as planned on the wealthy. So it isn't total unanimity.


The G-20 is expected to issue a communique stating that the euro-zone will issue a jobs and growth plan and they will take concrete steps toward a more integrated approach to bank supervision, resolution, recapitalization and deposit insurance. The communique appears aimed, in part, at easing market worries about Spain.


If yesterday was all about Greece, today belongs to Spain. The euro strengthened 0.6 percent to $1.2647 while the yield on Spain's ten-year note dropped 11 basis points to 7.05 percent, after topping 7 percent yesterday for the first time in the history of the euro. The 7% threshold is the level that knocked other smaller countries like Greece and Ireland over the edge. Spain will need a lot more than 100 billion-euro to recapitalize its banks. And even though the bailout is too small to be effective it is still a big number, big enough to add to Spain's sovereign debt, pushing real debt to GDP to more than 146%. This means Spain now has a banking problem and a sovereign debt problem. They are not going to grow their way out of this problem. There doesn't appear to be a bailout plan that could pull Spain out of its downward spiral. It is probably just a matter of time. Of course we could be looking at another year of Spanish misery, and a lot can happen in 12 months, if they can last that long, but the situation doesn't look good. Spain is big enough to wipe out the EU.


There is a great photo of the doors of the Bank of Spain; someone has put up multiple stickers and post-it notes that read: “this is not a crisis, it is a scam.”


Let's look at some quotes that tell the Euro story:
"Spain is not Greece." Elena Salgado, Spanish Finance minister, February, 2010.


"Portugal is not Greece." The Economist, April 2010.


"Greece is not Ireland." George Papaconstantinou, Greek Finance minister, November, 2010.


"Spain is neither Ireland nor Portugal." Elena Salgado, Spanish Finance minister, November 2010.


"Ireland is not in ‘Greek Territory.’" Irish Finance Minister Brian Lenihan. November 2010.


"Neither Spain nor Portugal is Ireland." Angel Gurria, Secretary-general OECD, November, 2010.


"Italy is not Spain” – Ed Parker, Fitch MD, 12 June 2012


"Spain is not Uganda" Spanish PM Rajoy. June, 2012


"Uganda does not want to be Spain" (Ugandan foreign minister) June 13th 2012






Google has put out its latest "transparency report." It includes details of all the "takedown requests" the company received from governments around the world; these are basically government requests to pull something off the internet.  Leading the pack: The government of India, but that's a little misleading because China simply blocked Google. Sometimes Google complies with the takedown request, sometimes they don't.


Wikileaks founder Julian Assange is seeking political asylum at Ecuador's London embassy. Last week the UK's Supreme Court dismissed Mr Assange's bid to reopen an appeal against extradition to Sweden over alleged sex crimes he denies. The Supreme Court gave him until 28 June before extradition proceedings can start.


He says the allegations are politically-motivated. Swedish prosecutors want to question him over allegations of rape and sexual assault made by two female former Wikileaks volunteers in mid-2010 but have not filed any charges. Mr Assange, whose Wikileaks website has published a mass of leaked diplomatic cables that embarrassed several governments and international businesses, claims the sex was consensual.


According to a State Department report, more than 42,000 adults and children were found in forced prostitution, labor, slavery or armed conflict in 2011, a US government report has found. Some 9,000 more victims were identified around the world than in 2010.  But the number is just a fraction of the estimated 800,000 people trafficked across borders every year.


Describing the report as a "clear and honest assessment", US Secretary of State Hillary Clinton said: "The end of legal slavery in the United States and around the world has not meant the end of slavery."


Where the trade in persons was once labelled as human trafficking, Mrs Clinton said: "I think labelling this for what it is - slavery - has brought it to another dimension."


The stories of those enslaved "remind us of what kind of inhumane treatment we are still capable of as human beings. They are living, breathing reminders that the war against slavery remains unfinished."


Now, let's put that in perspective; JC Penney shares fell 8.5% to close at $22.25 one day after Michael Francis, the company's CEO announced a very abrupt resignation. The stock is down nearly 37% year to date. Store traffic fell as Penney shifted toward everyday low pricing and away from marked sales days. Francis walks with about $10 million for nine months work. 

Wednesday, May 02, 2012 - Jobs Report, Euro Elections, California Budget, and Watching Paint Dry

DOW – 10 = 13,268
SPX – 3 = 1402
NAS + 9 = 3059
10 YR YLD -.03 = 1.92
OIL +.14 = 105.36
GOLD – 8.50 = 1654.70
SILV - .32 = 30.75
PLAT – 9.00 = 1569.00

This is shaping up to be a wild weekend. Friday we get the jobs report. Then, in Europe there will be elections in France and Greece. On a personal note, I'm going to paint the patio on my house, so I'll be watching paint dry, just to counterbalance the rest of the world.

The monthly jobs report, already the most highly anticipated data of the month, will be getting a little extra attention this Friday after a disappointing report on GDP late last week. A bad jobs report and a weak GDP report might be enough to trigger another round of Quantitative Easing from the Federal Reserve. The economy is adding and will continue to add jobs; that is not in question. It is the rate of job growth.

Expectations are that there were about 160k to 175k new jobs created in April, up from 120,000 in March, and an unemployment rate that remains steady at 8.2%. The lowball guesses are for only about 125k jobs. With the addition of 120,000 jobs, March marked the 15th straight month of jobs growth, but it broke a three-month streak in which the economy had added more than 200,000 jobs.

Now we are only a couple days away from finding out whether March's report was a fluke or the beginning of a new, disappointing trend of declining growth in the labor market. A not-so-promising sign: The private sector added only 119,000 jobs in April, down from a downwardly revised 201,000 in March and well short of expectations. The ADP report is not always a good indicator for the monthly report.

Manufacturing grew in April at the fastest pace in almost a year, propelled by a pickup in orders that signaled factories will remain a source of strength for the US Expansion; that according to a report yesterday from the ISM. Still the numbers seem disappointing and the outlook less than bright. Overseas demand for US made-goods risks fading as global growth slows.

Spain's economy contracted in the first quarter, putting the euro region's fourth-largest economy into its second recession since 2009, and at some point, you have to consider multiple, rolling recessions are in truth, a depression. S&P downgraded Spain last week,and today the Spanish IBEX traded below the March 2009 closing lows and near the lows of 2003. The US markets didn't seem to be bothered by the problems in Europe. You love to see a market move higher on bad news, but sometimes that is just a chance for the smart money to time an exit.

The U.K. economy shrank 0.2 percent in the first quarter after contracting 0.3 percent in the prior three months as Britain slid into its first double dip recession since the 1970s. Defenders of British policies dismiss any call for a rethinking of these policies, despite their evident failure to deliver, on the grounds that any relaxation of austerity would cause borrowing costs to soar.

In France, the Socialist candidate Mr. Hollande beat out Sarkozy in a runoff a couple of weeks ago and is favored to win this week. Mr. Hollande opposes austerity and will cause more thana few headaches for German chief Angela Merkel. This could be a problem for Merkel or for Mr. Hollande; we'll see.. The bottom line is the market has realized Mr. Sarkozy probably isn't going to win.

The global economy is uneven. The growth has slowed in China and India. And North Americas is a recovering but far from fully recovered economic environment.

There is no recovery. There is a slow grinding improvement, not enough to lift us to that righteous circle of sustainability, but enough to keep us afloat on vast mountains of stimulus, mainly from the Fed. And so we'll watch the results of the jobs report, and we'll see if there is any indication the Fed will move again. Meanwhile, we'll be reminded that the Fed has been acting and not acting on the monetary policy and over on the fiscal policy side, we've seen deadlock for quite some time. Our response has been wrong for quite some time. It isn't just a recession, or the possibility of a double dip. We entered a depression, a small “d” depression, and we failed to recognize it and we failed to respond appropriately; quite a mistake for great student of the Great Depression, Bernanke. We are living in a world of zombie economics, just shuffling along, and very little sign of higher level intellect guiding our path.

Real wages for real workers are not growing and America’s crushing debt is strangling growth, and maybe that means we would be lucky to see 2% GDP growth, maybe we're lucky to see any growth at all. Both political parties can share blame for the trouble; the Republicans want to limit spending and Democrats don’t want to cut programs, and so they are at an impasse. Little is likely to change regardless of this year’s presidential election.

And what we are likely to see in the markets is a slow grinding decline into the summer. Not because the economy is so terrible but because it isn't so great. The Fed has been propping up the markets with monetary policy but that hasn't helped Main Street and it hasn't done much – or rather it hasn't done enough to improve the jobs report. We have the most stimulative fiscal and monetary policy in the history of this country and here we are three years into the recession and it's not ended. Does that mean the policy is a failure or does it mean that we weren't really in a recession but rather in a small “d” depression?

Even in an election year we have to deal with the seasonal nature of the markets. Sell in May and go away. And by the time we come back, we should have a good idea about how this whole austerity issue is working out, and how the 99 percent are fairing against the 1 percent, and how the red and blue are fairing against each other, and how monetary policy is fairing against fiscal policy.

Sometimes, the best choice is to just step aside. Take the summer off. That's about the best investment advice there is, unless your just a high frequency trader with a USB port on the back of your neck. Take some time off, visit the family and friends. Some of you have already started doing this. You've turned off CNBC. Maybe we are finally spitting out the lure.

I heard a great investment analogy this weekend. The idea was that as investors we should act like a trout. The trout tends to take a position in the stream and just hang out waiting for the passing current to deliver a tasty morsel. It's a low energy solution, effective even if it is a little boring - kind of like watching paint dry.

The legislative analyst’s office has a new number for California: $3 billion. That’s the total amount that tax revenue has lagged behind goals set by Gov. Jerry Brown’s administration in the current fiscal year. Much of that gap comes from a disappointing April, the most important month for income taxes. Income taxes were $2 billion short of the $9.4-billion goal, and corporate taxes fell $143 million short of an expected $1.53 billion.

When April's poor results are tacked on to earlier shortfalls, the state has fallen about $3 billion behind tax goals. Yesterday, the ratings agency Standard & Poor's already warned that poor tax revenue was imperiling California's financial recovery. It's unclear exactly how much this year's budget deficit will grow because of the tax shortfall. Brown's administration estimated the gap at $9.2 billion in January, but has since said it will grow. The updated budget proposal that is expected by May 14.

Fitch Ratings, in conjunction with Oxford Economics, issued a new report today and it claims that without the unprecedented stimulus actions by the federal government triggered by the 2008 financial crisis, the Great Recession might still be going on. But those actions came with a price -- soaring budget deficits and rock-bottom interest rates that hurt savers.

The actions by policymakers in Washington -- including the $700-billion bailout fund, the $831-billion stimulus package and the Fed's ZIRP, zero interest rate policy -- continued to boost the nation's total economic output by more than 4% annually two and three years after the end of the Great Recession in mid-2009.

The boost from those policies helped the U.S. gross domestic product increase 3% in 2010 and 1.7% last year, "implying that the U.S. might still be mired in a recession absent this stimulus."

The U.S. economy would have seen little or no growth in the two years after the recession technically ended in June 2009 without the policies. And the stimulus actions appear "to have significantly softened the severity of the decline" in GDP in the year immediately after the recession.

Though the Fed's monetary policy actions were helpful, fiscal stimulus by Congress and the White House "had the strongest positive impact on consumption during the recent recovery.”

The conclusions mirror findings in February by the Congressional Budget Office and a 2010 study on the economic effect of the $831-billion stimulus package known as the American Recovery and Reinvestment Act.

The Fitch analysis looked more broadly at all federal stimulus policies, such as the large-scale asset purchases by the Fed. And although the study said the stimulus policies "appeared to have achieve their intended effect," it warned that the actions have come with negative consequences.

"The very high deficits of the last few years have led to unprecedented levels of government indebtedness, which will weigh on the federal government for years and require contraction in spending. Furthermore, while low rates clearly benefit borrowers, at the same time, they hurt savers."

The deficits, and the inability of the Obama administration and lawmakers to make deep enough cuts in a deal last summer to raise the debt ceiling, led Standard & Poor's to downgrade the U.S. credit rating.

For the past couple of years we've been hearing that the response to a depressed economy is to cut spending and balance budgets. While there is no question that cleaning up indebtedness will take time and effort, the calls for austerity are creating a bigger mess. All around Europe’s periphery, from Spain to Latvia, austerity policies have produced Depression-level slumps and Depression-level unemployment. European leaders spent years in denial, insisting that their policies would start working any day now; three years into its austerity program, Ireland has yet to show any sign of real recovery from a slump that has driven the unemployment rate to almost 15 percent.

There seems to be a shift in sentiment. Several events — the collapse of the Dutch government over proposed austerity measures, the strong showing of the vaguely anti-austerity François Hollande in the first round of France’s presidential election, and an economic report showing that Britain is doing worse in the current slump than it did in the 1930s — seem to have finally broken through the wall of denial. Suddenly, everyone is admitting that austerity isn’t working.

What happens next? The push for national-level austerity across the euro zone is undermining integration and thereby exacerbating the crisis. And the only ones that seem to benefit are the speculators and the bond vigilantes. Ultimately, Spain, Greece, Italy, the Netherlands, and others do have an alternative to endless austerity, one that may be forced on them by events: exit the euro, with all the financial and political fallout that follows. And on the current course, that’s what’s coming. For California, the choice is not a possibility.