Monday, February 10, 2014 - Set the Tone

Set the Tone

by Sinclair Noe

DOW + 7 = 15,801
SPX + 2 = 1799
NAS + 22 = 4148
10 YR YLD + .03 = 2.69%
OIL + .12 = 100.00
GOLD + 7.90 = 1276.00
SILV + .07 = 20.18

A little bit of follow up to last Friday’s jobs report, which you recall came in at 113,000 jobs added in January and the unemployment rate dropping to 6.6%. There was a huge discrepancy between the household survey and the business establishment survey; the household survey showed 616,000 new jobs. The household survey can be a bit volatile and is considered less reliable. There is also a discrepancy between the establishment survey and a couple of earlier reports from ISM and ADP. The Institute for Supply Management services index came in at 56.4% in January, indicating a strong month for service jobs. The ADP, or Automatic Data Processing, employment report indicated 160,000 private sector service jobs were created in January, or about 100,000 more jobs than the government reported. It will be very interesting to watch revisions to the jobs report next month.

The major stock indices just loved the lousy jobs report, and this is a head scratcher for many people. Why would bad news on jobs be good news for stocks? Well, a weak job market gives employers the upper hand because most workers will accept lower wages, which translates into higher profits for corporate America. I know that is short sighted because the workers are also customers, but in the short term world of Wall Street, it makes sense.

The other reason is the Fed; and the Fed will likely continue its Zero Interest Rate Policy (ZIRP) as long as the labor market is lethargic. Continued low interest rates encourage corporations to borrow money to buy back their own shares, pushing up values and prices. Buy backs are the last refuge of innovation challenged companies unwilling to invest in research and development in favor of short-term stock performance.

The low interest rate environment also leads to a fairly straightforward comparison between stocks and bonds, with the nagging idea that low rates don’t pay anything now, and when rates go up, prices will go down. And finally, in a bad job market the Fed will be slower to back away from quantitative easing, and Wall Street just loves to see the free flow of easy money.

And so, we’ll all be watching the new Fed Chair, Janet Yellen this week as she goes before Congress for her first Humphrey Hawkins testimony tomorrow before the House and Wednesday before the Senate, and we’ll try to determine if the need for extraordinary measures has abated or not. Likely, we’ll hear something along the lines of, steady as she goes. Don’t expect any big changes, but as a new Fed Chair, she may set the tone a bit.

Before Yellen’s testimony tomorrow, House Republicans will hold a meeting tonight to address raising the debt ceiling. House Republican leaders will try to use the meeting to sell their members on voting for a bill that raises the debt limit but also reverses changes to military retirement benefits. Reversing these changes would add to the deficit, so Republicans would have to find ways to pay for it. One way Republicans are considering paying for the change is to extend the sequester for mandatory spending for one more year. Senate and House Democrats have been firm in demanding a clean debt limit bill — one without additional policy concessions.

There isn’t much time. On Friday, Treasury Secretary Jacob Lew said extraordinary borrowing measures aren’t likely to last past Feb. 27. And the House adjourns Wednesday so Democrats can go to their annual issues retreat. Lawmakers don’t return for a full workday until Feb. 26.

Earnings season has moved into its latter stages, with 54 S&P 500 companies expected to report results this week. Of 343 companies in the S&P index that have reported earnings through Friday, 67.9% beat Wall Street expectations against 67% over the last four quarters, and ahead of the 63% rate since 1994.

Of course, when you hear anything about earnings, you must take it with a grain of salt, or maybe you should just buy a great big salt lick. Public companies are notorious for lowering earnings guidance so they can claim to beat the easier targets. Toss in little tricks like stock buy backs and the earnings season looks less and less like a buying signal and more and more like a management ruse to increase already lofty pay levels.

The dark side of earnings season can be found in the revenue growth numbers. For 2013 it looks like the healthcare sector led the way for revenue growth, up 7.6%; consumer discretionary grew revenue by 3.8%; consumer staples grew revenue by 1.9%.  Industrials up 2.3% and utilities up 4.2%. Technology, the high-growth sector where American ingenuity is still leading the world, revenues rose just 5.4%. And telecom services eked out a barely visible 2.2% revenue gain. Not exactly breath-taking growth figures. Then there were the third and fourth largest sectors: revenues in the energy sector dropped 3.4%; and in the financial sector, they plunged 11.4%.

So, while inflation was 1.5%, the S&P 500 companies that have reported so far, all put together, triumphed with year-over-year revenue growth of 1%. Revenue growth was negative when considering inflation. And don’t forget that last year the S&P 500 was up nearly 30%; it was a great year, as long as you don’t look at top line growth, or lack thereof. Ingenious accounting is one element, financial engineering another. Corporations can borrow nearly unlimited amounts of money in the short-term markets and through bond sales, at little cost, thanks to the Fed’s policies, and load up their balance sheets with borrowed cash, that they then plow into share buybacks.

The doctored EPS growth, and particularly the analysts’ estimates for doctored EPS growth for distant future quarters is bandied about as illusory justification for the gravity-defying ascent of stocks. Eventually the double digit estimates for future quarters is ratcheted down right before earnings are reported, and then the companies can beat the diminished expectations.

Business success, as defined by growth in revenues and net profits and not by financial engineering and fabricated EPS, is crucial to the economy. But for a quarter of a century, corporate profits have been rising at a faster rate than GDP and are now “dangerously elevated by all reasonable measures.

Remember that $13 billion settlement JPMorgan Chase worked out with the Justice Department last November? At the time, we raised some questions about how the deal was worked out between JPMorgan CEO Jamie Dimon and Attorney General Eric Holder. The $13 billion was a record fine for a bank, but just a fairly small fine compared to JPMorgan’s profits, and even though the settlement does not release JPMorgan from potential criminal liability over the mortgages it packaged into bonds, Jamie Dimon seemed eager to act like the matter was a thing of the past; the board of directors at JPMorgan even voted him a big fat bonus, apparently for navigating the legal challenges.

Well, now the non-profit group Better Markets has filed a lawsuit against the Justice to block what it called an "unlawful" $13 billion settlement with JPMorgan Chase over bad mortgage loans sold to investors before the financial crisis. They say they are appalled that the settlement gave the bank "blanket civil immunity" for its conduct without sufficient independent judicial review. In effect, the DOJ acted as investigator, prosecutor, judge, jury, sentencer, and collector, without any check on its authority or actions. And because the DOJ has declared its intention to use the Agreement as a “template” in future similar cases, it is imperative that the DOJ’s unlawful and secretive approach in the settlement process be subjected to judicial review.  

In its complaint, Better Markets alleges the settlement with the bank lacks critical facts that can help justify the deal, such as failing to name any individuals responsible for the wrongdoing, how much damage investors suffered or even "which specific laws were violated."

Of course, this is not the only bad behavior by JPMorgan Chase. A confidential email has emerged that shows a top Chinese regulator directly asked Jamie Dimon, the bank’s chief executive, for a “favor” to hire a young job applicant. The applicant, a family friend of the regulator, now works at JPMorgan. The email was one of several documents that JPMorgan recently turned over to federal authorities as part of an investigation into hiring at the bank. Federal authorities are now investigating whether the hiring at JPMorgan and at least six other big banks, was done explicitly to win business from Chinese companies. The authorities could decide to bring charges against individuals or a bank if they find such activity to be in violation of anti-bribery laws, in connection with the Foreign Corrupt Practices Act.

In recent months five top insurance companies with headquarters in mainland China or Hong Kong have become JPMorgan clients, although there is no direct link between the hiring and the new deals. Until now, it was unclear whether any well-connected job applicants ever met JPMorgan executives in New York.

Meanwhile, the really big investigations are still underway. Remember the Libor rate rigging scandal?  Well maybe something will eventually happen there, but already the investigations have moved over to the Forex, foreign currency exchange markets. The British FCA, or Financial Conduct Authority, are heading up that investigation, as the Forex is centered in London; the FCA says 10 banks are now cooperating in the investigation into how Forex traders colluded in setting certain key exchange rates in the $5.4 trillion a day forex market. The FCA says the allegations are every bit as bad as they have been with Libor.  

Friday, January 24, 2014 - Bulls, Bears, and Bonuses

Bulls, Bears, and Bonuses

by Sinclair Noe

DOW – 318 = 15,879
SPX – 38 = 1790
NAS – 90 = 4128
10 YR YLD - .04 = 2.73%
OIL - .41 = 96.91
GOLD + 4.40 = 1270.00
SILV - .11 = 20.01

The Dow has fallen every day this week, leaving it down more than 3%. That decline is the Dow's worst weekly performance since mid-May 2012. Meanwhile, the S&P 500 is down 2.5% since last Friday. That's the index's worst weekly slide since early November 2012.

All of the sudden, everybody seemed concerned about political and economic problems in Turkey, Argentina, and of course, China. The Turkish lira hit a record low and the South African rand fell to five-year low against the dollar. The Argentine peso had its sharpest decline in 12 years, going back to the 2002 financial crisis in that country; and the government abandoned its long standing policy of intervening to support the peso currency. Such moves are crucial factors for big, institutional foreign investors because exchange rate losses can easily wipe out any gains in stocks and bonds of emerging countries.

Right now, the losses haven’t turned into a rout, but there is concern that the turn may push big institutional investors to cut losses and run as the effect of falling currencies becomes too painful to bear. Every emerging market crisis is first-and-foremost a currency crisis. For example, South African government debt was slightly positive in rand terms in 2013. But in dollars terms, it lost more than 18%. Fund tracker EPFR estimates emerging equity and bond funds have seen outflows of almost $5 billion so far this year, on top of $58 billion of losses seen in 2013. EM equity funds have had 13 consecutive weeks of outflows, the longest run in 11 years.

What we haven't seen in emerging markets is major currency devaluation, a run on government debt or ratings downgrades. Any combination of those would suggest a major move where developing countries could experience sudden stops in their access to global capital, or some event that throws economies into a balance of payments or financial crisis. What we have seen and might continue to see is emerging market currencies falling, possibly big drops, as the yield on the 10 year Treasury note moves higher; which is expected to happen as the Fed cuts back QE3.

For several years, the world’s emerging markets seemed to be the main beneficiaries of two global trends: very rapid growth in China and the Federal Reserve’s various accommodative monetary policies, which injected huge amounts of capital into global markets. Since the Fed officially announced in December that it would ease its bond-buying stimulus, investors in emerging markets have been cautious. There are fears that rising interest rates will choke off growth in countries dependent on foreign lenders.

And for many years emerging markets have been able to sell resources to China, as China emerged as the world’s biggest producer and biggest market for everything from steel to coal to cars, the demand from China for raw materials soared year after year. Investors have committed tens of billions of dollars to emerging market projects aimed at meeting China’s voracious demand, and now Chinese demand is softening. Chinese economic growth slowed to 7.7 percent last year and the latest surveys of manufacturers in China show that with the exception of a few exporters, expectations about future sales are falling. The result in recent days have been waves of cash flowing out of emerging markets and into industrialized countries, notably the United States; but the  money has been going into the safe haven of Treasuries, rather than into the stock market.

It was just a few days ago that most people were bullish. Even the Fed’s taper at the December meeting was hailed as proof that the economy was improving. Earnings season has been less than exciting but we haven’t had massive misses, except for maybe IBM, Best Buy, Coach, Intel, Citigroup, and a few others; but nothing out of the norm. For the most part, Wall Street continues to pump up expectations, and there are still a few high flyers like Netflix, even if they are selling at 326 times earnings with almost zero in actual free cash flow. The Fed FOMC meets next week to determine their next moves on monetary policy and they are expected to continue with more tapering. Equities on Wall Street seem to have been shaken by the same fears that have hit the global equity markets; or maybe that’s just an excuse for a long overdue pullback. Your guess is as good as anybody.

In a TV interview today, Attorney General Eric Holder said no American financial institution is too large to indict and no bank executive immune from criminal prosecution. Holder cited the case of JPMorgan, which in November agreed to a civil settlement under which it would pay $13 billion to end a series of government investigations into its sales of toxic mortgage backed securities. It was an interesting case for Holder to cite because you may recall JPMorgan was not indicted and no major JPMorgan bank executives have faced criminal prosecution.

In December, Holder said the Justice Department plans to bring civil mortgage fraud cases against several financial institutions early in 2014, using the JPMorgan case as a template. Civil not criminal. Today, Holder said: "There are no institutions that are too big to indict," and "There are no individuals who are in such high level positions that they cannot be indicted, criminally investigated." Holder’s timing is delicious.

Jamie Dimon, JPMorgan’s chief executive, just got a big raise. Dimon’s pay increased to $20 million for 2013, up from $11 million the year before. The bank’s board of directors approved the increase even though a steady stream of scandals and a raft of regulatory actions have in recent months cast doubt on Dimon’s leadership at the nation’s largest bank. The big raise for 2013 came in the face of opposition from a vocal minority of board members.

Over the course of the year, the bank agreed to a series of high-cost legal settlements, including the $13 billion claim. Dimon led JPMorgan while it committed what government investigators have identified as over 15 frauds, most of them massive. These frauds represent the greatest financial crime spree the government has ever identified. In January of last year, the Federal Reserve and the Office of the Comptroller of the Currency imposed sanctions on the bank for weak risk and financial controls, as well as deficient safeguards against money laundering and violations of the Bank Secrecy Act, over the 2012 derivatives loss; total legal expenses topped the $20 billion mark.

The bigger the frauds committed by JPMorgan under Dimon’s watch, and the larger the settlements, the greater the value that Dimon brings by way of getting the government to settle cheap, and not tear down the bank and put people in jail. JPMorgan’s board must be really satisfied with Dimon’s ability to negotiate a deal with regulators. The directors don’t bear the cost of Dimon’s bonuses. Dimon negotiations with the government ensure that the shareholders bear all the losses of the obscenity of giving Dimon a raise to reward the crime spree that occurred while he was both the CEO and chairman of the board of JPM.

The regulatory and prosecutorial response to JPM’s crime spree has failed to hold a single senior officer or director personally accountable either civilly or criminally. The officers who control the bank are delighted to use bank funds to negotiate deals in which there are large fines, but the government does not prosecute the officers or seek to claw bank their compensation and seek damages from them. The DOJ treats JPM as “too big to fail.” This means that the DOJ will never require JPM to pay the full cost of its frauds and disgorge the full extent of its fraud proceeds if doing so could even come close to creating a concern that JPM would lack adequate capital. This gives Dimon a crushing negotiating leverage.

Holder has zero prosecutions of the elite bankers whose frauds drove the worst financial crisis since the Great Depression. Holder has zero civil cases, and the banking regulators have zero enforcement actions, that bankrupted an elite bank officer or director whose frauds helped drive the crisis. JPMorgan, Washington Mutual, and Bear Stearn’s boards of directors made the officers who led the frauds wealthy for over a decade through their compensation and bonus deals.

So, I’m not sure what Attorney General Holder was really talking about. There are no criminal indictments; JPMorgan has violated multiple laws with impunity; Jamie Dimon gets a big bonus.

Meawhile, the Financial Stability Board, which coordinates regulation for the Group of 20 leading economies, is reported investigating manipulation in the foreign exchange markets, or Forex, and is working on a reform of interest rate benchmarks after the Libor interbank rate-fixing scandal. Britain's Financial Conduct Authority (FCA) and the US Department of Justice have been investigating allegations that traders at some of the world's biggest banks manipulated the largely unregulated $5 trillion-a-day foreign exchange market. In the foreign exchange probe, groups of senior traders are alleged to have shared market-sensitive information relevant for London fix, which is set at 4 p.m. London time, using actual trades.

Just a reminder that so far, we haven’t fixed anything, and everything, every market is rigged. 

Monday, December 09, 2013 - Corrupt Practices

Corrupt Practices

by Sinclair Noe

DOW + 5 = 16,025
SPX + 3 = 1808
NAS + 6 = 4068
10 YR YLD + .01 = 2.75%
OIL - .41 = 97.24
GOLD + 9.70 = 1241.40
SILV + .30 = 19.94

Next week the Fed FOMC will meet to determine policy. Today, three Fed big wigs gave speeches. We start with James Bullard, president of the St. Louis Federal Reserve Bank; Bullard says: “A small taper might recognize labor market improvement while still providing the [Fed] the opportunity to carefully monitor inflation during the first half of 2014,” and if inflation doesn't return to something approaching a target of 2%, well the Fed could pause the taper.

In separate remarks, Richmond Fed President Jeffrey Lacker said that the central bankers would discuss pulling back the pace of its asset purchase program but gave no indication of how the discussion could go.

 Dallas Fed President Richard Fisher said the central bank should begin to scale back its bond-buying “at the earliest opportunity,” because, “Money is cheap and liquidity is abundant. Indeed, it is coursing over the gunwales of the ship of our economy, placing us at risk of being submerged in financial shenanigans rather than in conducting business based on fundamentals.”

The taper talk spooked Wall Street traders but it's unlikely the Fed will taper at the December meeting. There is little harm in postponing the decision till the new year, particularly compared to the risks of pulling back too soon.

Meanwhile, the Federal Reserve reports that US net worth, a measure of household wealth, rose 2.6% to $77.3 trillion from July through September. Net worth reflects the value of homes, stocks, bank accounts and other assets minus mortgages, credit cards and other debts.

Net worth peaked at $69.1 trillion in Q3 2007, then dropped to $55.7 trillion in Q1 2009, for a loss of more than $13 trillion, and now it is up $21.6 trillion to $77.3 trillion. Adjusted for inflation, net worth is still about 1 percent below its pre-crisis peak, but both the stock market and home prices have continued to increase in the current October-December quarter.  Rising stock prices boosted Americans’ net worth $917 billion. Higher home values added another $428 billion.

The gains haven’t been equally distributed. The wealthiest 10 percent of households own about 80 percent of stocks. And home ownership has declined since the recession, particularly among lower-income Americans.

Total mortgage debt rose 0.9 percent from the previous quarter. Americans are also holding more consumer debt outside of mortgages, in the form of student loans, auto loans and credit cards. Consumer debt rose 6 percent from the previous quarter.

The flow of funds data from the Fed would indicate that QE has had an effect on the economy, it's still accurate to say it has been an unequal redistribution of wealth; with most of the gains going to Wall Street and little to none making it to Main Street. And then there is a question of the sustainability of the gains.

The other day, I talked about the fines in the JPMorgan $13 billion settlement and I raised the question of how the fines were calculated. Well it turns out they weren't really calculated as much as they were negotiated. It looks like the settlement agreement does not quantify the losses that form the basis for the civil penalty, or even provide an indication of how many violations the government determined occurred in connection with the issuance of the mortgage securities; according to the government, JPMorgan bankers regularly included loans in deals that did not meet the bank's underwriting guidelines and were "not otherwise appropriate for securitization." We just don't know the quantity and the actual losses associated with these toxic mortgages.

The breakdown of the $13 billion settlement with JPMorgan includes a $2 billion fine to prosecutors in Sacramento and $4 billion in relief to struggling homeowners in hard-hit areas like Detroit and certain neighborhoods in New York. The government earmarked the other $7 billion as compensation to federal agencies and state attorneys general across the country. In some settlements, the beneficiary of the fines is often the United States Treasury.

But the 8^th Amendment prohibits excessive fines; something the Supreme Court has defined as fines that would be grossly disproportional to the gravity of the offense. The government can look beyond the actual amount involved in the case and also consider the harm done to others, the need for deterrence, and such other matters as justice may require. And since the settlement was negotiated, JPMorgan could hardly argue now that the fines are excessive.

As far as the deterrence factor, the government failed horribly on that front. JPMorgan CEO Jamie Dimon probably had little to no direct involvement in the troubled mortgage deals, even if he did preside over the company and set policies. He did sign off on the annual reports, and under Sarbanes Oxley, he should have had, at the very least, some awareness. Dimon walks scot-free.

But what about the investment bankers who were involved in underwriting and selling the dubious mortgage deals that led to the massive penalty? They appear to be doing just fine as well. Indeed, until last month, three of the top bankers responsible for the deals still worked at JPMorgan. And one of them, the guy in charge of managing risk for the securitization group, is now in charge of the division that monitors risk for the entire bank.

JPMorgan claims that many of the toxic mortgages originated through Bear Stearns and Washington Mutual, the two failed financial institutions that JPMorgan scooped up in the financial crisis. What about the investment bankers who were involved in underwriting and selling the dubious mortgage deals at Bear and WaMu? Well, the head of Bear Stearns' mortgage division (also named in the suit) is now a partner at Goldman Sachs and he's the global head of the bank's mortgage trading division. Another head from Bear's bond business (also named in the suit) is now the head of Deutsche Bank's corporate banking and securities division. Another mortgage chief from Bear ended up as a chief of mortgage products for Bank of America. Other bankers involved in the mortgage scam have retired, but there doesn't seem to be anything in the settlement that would prevent them from continuing in the industry.

So, the bottom line is that there was no individual accountability in the settlement, there was not full disclosure of crimes committed, or any significant attempt to quantify the actual losses, and of course there was no admission of wrongdoing; absent those factors, settlements like these continue to reward and incentivize illegal conduct.

Meanwhile, you'll recall that in August JPMorgan disclosed that the SEC was investigating the bank's hiring practices in China; specifically that the bank favored hiring people from prominent Chinese families in order to win investment banking business. Over the weekend, the New York Times reported that emails uncovered in that investigation appear to clearly indicate that they knew they were crossing the line. In one email, an executive said that hiring sons and daughters of powerful people in China "almost has a linear relationship" with winning assignments. The documents even include spreadsheets that list the bank's "track record" for converting hires into business deals. And the email goes on: “You all know I have always been a big believer of the Sons and Daughters program."

So, the program even had a name, and everybody knew it, except apparently for the upper level executives back in New York, who remarkably remained clueless about the Sons and Daughters program, or the types of trades executed by the London Whale, or the toxicity of the mortgage loans by the mortgage department, or anything else.

Anyway, JPMorgan could be indicted under the Foreign Corrupt Practices Act which prohibits American companies from paying money or offering anything of value to foreign officials for the purpose of "securing any improper advantage."  Under the Act, the gift doesn't have to be linked to any particular benefit to the American firm as long as it's intended to generate an advantage its competitors don't enjoy. Of course, JPMorgan has spreadsheets to prove they got a big bang for their bribery buck. But the point is that the Foreign Corrupt Practices Act is strict.

By comparison, we don't even require that American corporations disclose to their own shareholders the payments they make to American politicians. If a Wall Street bank wants to hire the child of a prominent politician – go ahead. And of course the politicians and the technocrats regularly enjoy the revolving door between Washington DC politics and Wall Street corporate offices.

The list of public officials with past or present ties to Wall Street reads like a government phone book: Treasury Secretary Tim Geithner is now head of Warburg Pincus; budget director Peter Orszag works for Citigroup; Don Regan (Merril Lynch); Robert Rubin (Goldman, Citigroup); Phil Gramm (UBS); Alan Greenspan (Pimco); and that's just a quick sample.

In the Citizens United case, Justice Anthony Kennedy wrote for the majority: “if the First Amendment has any force it prohibits Congress from fining or jailing citizens, or associations of citizens, for simply engaging in political speech.”

Of course, we all know that money talks. JPMorgan has the spreadsheets that prove that money talks in China. And we have to Foreign Corrupt Practices Act to punish bribery. But in the US, we don't have a strict Corrupt Practices Act because the people that write the laws sold us out. Sorry, but you know it's true.

Tuesday, November 19, 2013 - Too Good To Be True

Too Good To Be True

by Sinclair Noe

DOW – 8 = 15,967
SPX – 3 = 1787
NAS – 17 = 3931
10 YR YLD + .04 = 2.70%
OIL + .31 = 93.34
GOLD - .80 = 1276.20
SILV - .06 = 20.44

No record high today; not a surprise; it can't happen every day. So, we'll see if this is a pause or whether we have to wait six years till we have milk and cookies again. Likely the former, but you never know.

JPMorgan Chase and the Justice Department have reportedly finalized a $13 billion settlement and resolves an array of state and federal investigations into JPMorgan’s sale of troubled mortgage securities to pension funds and other investors from 2005 through 2008. The government accused the bank of not fully disclosing the risks of buying such securities which, as we know, failed.

JPMorgan had to acknowledge a statement of facts that outline the bank’s wrongdoing in the case. JPMorgan also backed down from demands that prosecutors drop a related criminal investigation into the bank and largely forfeited the right to try to later recoup some of the $13 billion from the Federal Deposit Insurance Corporation. The $13 billion deal also comes just days after the bank struck a separate $4.5 billion deal with a group of investors over the sale of toxic mortgage-backed securities.

The breakdown of the money includes a $2 billion fine to prosecutors in Sacramento and $4 billion in relief to struggling homeowners in hard hit areas like Detroit and certain neighborhoods in New York. Half of that relief will go to reducing the balance of mortgages in foreclosure-racked areas and offering a so-called forbearance plan to certain homeowners, briefly halting collection of their mortgage payments. For the remaining $2 billion in relief, JPMorgan must reduce interest rates on existing loans and offer new loans to low-income home buyers. The bank also will receive a credit for demolishing abandoned homes in an effort to reduce urban blight.

So, for about $6 billion of the deal, it appears JPMorgan is getting off quite easy; they were unlikely to see much or any of this, with or without a deal. Also, in the past, we've seen how loan mods have tended to favor the banks over the homeowners. And it'll be interesting to see what kind of terms they offer for low-income home buyers.

The government earmarked the other $7 billion as compensation for investors. The largest beneficiary is the Federal Housing Finance Agency. JPMorgan will pay the remaining compensation to a credit union association and state attorneys general in California and New York as well as the Justice Department’s own civil division.

The $13 billion settlement represents the largest amount that a single company has ever paid, even though they won't really “pay” the full amount, and it represents about a half year of profits for JPMorgan. While the deal put numerous civil cases to rest, it would not save JPMorgan from any criminal inquiries into its mortgage practices. Under the terms of the deal, the bank would also have to assist prosecutors with an investigation into former employees who helped create the mortgage investments. So, the biggest settlement ever, and it looks like JPMorgan will be able to hand pick a few lower level executives to throw under the bus for criminal charges.

How the hell is Jamie Dimon still in charge of this vast criminal enterprise? Well, for shareholders, it's just the cost of doing business.

MF Global, the collapsed brokerage firm that was run by former New Jersey Sen. Jon Corzine, must pay back $1.2 billion to ensure customers recover losses they sustained when it failed in 2011. The restitution is being levied following a complaint filed by the Commodity Futures Trading Commission earlier this year that alleges MF Global unlawfully used customer funds to meet the firm's needs in its final weeks; at least that's the quick explanation; more on that point in a moment.

MF Global Holdings, the New York-based parent company, imploded in October 2011 after making big bets on bonds issued by European countries that later fell in value. When it collapsed, more than $1 billion in customer money was reported to be missing. It was later determined the money was used to pay for the company's own operations. It was the eighth-largest corporate bankruptcy in US History. MF Global also faces a $100 million civil penalty due after it has fully paid customers and certain creditors.

MF Global admitted in the consent order that it is liable for some of the allegations pertaining to the acts and omissions of its employees as set forward by the CFTC. The commission is still involved with litigation against MF Global Holdings Ltd.

So, where did the money for restitution come from and where did the money go to when it just sort of vanished two years ago? When the music stopped on Halloween 2011, properly segregated customer funds were dispersed in the custody of a large number of financial institutions (such as JPMorgan), exchanges, clearinghouses, and other third parties in the form of investments and margin accounts and other perfectly permissible uses. Following the collapse, a trustee was appointed and one of the trustee's first tasks was to recover those moneys.

And according to the trustee, the banks were "quite cooperative" when it came to returning properly segregated customer accounts. JP Morgan, for instance, returned more than $1 billion in such funds within weeks of the trustee's appointment, as did BMO Harris Bank. Accordingly, such funds were never counted as composing any part of the $1.5 billion shortfall. The bank funds that took longer to retrieve, were different. These were the funds the banks received during, for the most part, that wild final week of October 2011, when money was being wired all over the place without much to discern what was being wired for what purpose. The origins of those transfers were hard to trace. Many of MF Global's banks handled its proprietary transactions as well as customer transactions, and without satisfying distinction.

So, in a way, the money wasn't exactly missing, it was just a matter of sorting out between assets on hand and outstanding claims against those funds. There were two categories of commodity customer at MF Global, each covered by slightly different CFTC rules. Those trading on domestic exchanges were protected by laws and regulations that very clearly required the broker to maintain segregated customer accounts and to perform certain daily calculations to ensure that sufficient moneys would always be available on hand to liquidate fully each account if needed.

When MF Global began to feel a liquidity crunch in the summer of 2011, its officials inquired into whether they could dip into the regulatory excess to find cash to prop up the proprietary end of their business. And technically speaking, they were allowed to dip into the “regulatory excess” in the foreign exchange accounts but only to the extent that there was an equal amount of “excess segregated funds” on hand for the domestic exchange accounts to make up for it.

On October 26, 2011 the technical line for segregated funds was crossed as MF Global officers dipped into regulatory excess funds, trying to right the ship before the end of the trading day, but that didn't quite work out and MF Global slipped into oblivion, and the funds slipped into oblivion; a shadowy ether not quite in segregated accounts, and somewhere between domestic and international, and nowhere to be found; or rather, the money was found, it just took about two years to find it.

And so the lesson here is that the money in that brokerage account is not quite as safe and secure as you might imagine.

The largest category of victims in the Bernie Madoff Ponzi Scheme will be first in line for compensation from a $2.35 billion fund collected by the Justice Department; this includes clients who lost cash through accounts with various middleman funds.

These so-called indirect investors represent about 70 percent of all the claims filed after Madoff’s arrest in December 2008, and about 85 percent of the claims for out-of-pocket cash losses. But because they were not formal customers of Mr. Madoff’s brokerage firm, they are not eligible to recover anything from the federal bankruptcy court, where the Madoff trustee has so far collected $9 billion to apply toward eligible claims. However, the indirect investors — at least 10,000 people and possibly many times that — are eligible for compensation from the federal Madoff Victim Fund.

Generally, anyone who withdrew less from their Madoff-related account than they paid in will be eligible to recover from the Madoff Victim Fund, even if they invested indirectly through the hundreds of “feeder funds,” investment groups and other pooled investment vehicles that poured cash into Madoff’s hands during his decades long fraud. Apparently, the use of feeder funds is a common tactic of Ponzi schemes, a way of building a network of fresh clients to be funneled into the scheme.

Unfortunately, there are some people who didn't live long enough to get their money back.

And the other connection here is the Madoff/JPMorgan link. JPMorgan was Madoff's banker and there is an ongoing criminal investigation that the bank turned a blind eye to Madoff's Ponzi scheme. The investigation centers on whether JPMorgan failed to alert federal authorities to Madoff’s conduct.

The trustee trying to recover funds for Madoff's victims says the bank generated handsome sums by allowing Madoff’s brokerage firm to “funnel billions of dollars” through its account with JPMorgan, “disregarding its own anti-money laundering duties.” The bank, starting around 2006, also pursued derivatives deals linked to Madoff’s so-called feeder-fund investors, the hedge funds that invested their clients’ money with him.

The case will most likely hinge on a series of e-mails that suggest JPMorgan continued to work with Madoff even as questions mounted about his operation. In one e-mail that surfaced in a separate lawsuit, a JPMorgan employee acknowledged that Madoff’s outsize returns seemed “a little too good to be true.”

Monday, October 21, 2013 - JPMorgan's Deal

JPMorgan's Deal

by Sinclair Noe

DOW – 7 = 15, 392
SPX + 0.16 = 1744
NAS + 5 = 3920
10 YR YLD + .02 = 2.61%
OIL – 1.63 = 99.48
GOLD - .80 = 1317.60
SILV + .28 = 22.34

Apparently, over the weekend, JPMorgan Chase reached a $13 billion settlement with the Department of Justice and the New York Attorney General over the sale of mortgage backed securities back in the days of the housing bubble. We're still waiting for details, but it looks like the tentative deal would resolve charges that JPMorgan misrepresented the quality of loans that had been packaged as mortgage backed securities, including mortgage backed securities packaged by Bear Stearns and Washington Mutual, the two failed institutions acquired by JPMorgan in 2008.

And one of the unique features of this settlement is that it does not end a criminal investigation of the bank. Prosecutors did not want to end the criminal probe before they were sure of its findings. The investigation could take another several months. Ending the criminal probe was a long shot and the bank was not interested in holding up all the other settlements to wait for that. Civil cases require a lower burden of proof than criminal cases, and can often be wrapped up quicker than parallel criminal proceedings. In other words, they knew they could lose; so they took a deal.

Now, $13 billion sounds like a lot of money, and it is for you or me, but not so much for JPMorgan. Still, the bank's legal problems are not going away. JPMorgan has set aside a total of $23 billion to pay for legal issues, and faces more than a dozen probes globally.

The fine of $13 billion is roughly half of what JPMorgan pulled down in 2012 and only about 1.5x what the bank paid its executives through the first nine months of this year. Shares are up over 70% since 2008, trouncing the returns of its banking peers. JPMorgan shares are flat on the day and actually up more than 3% since the company reported its first quarterly lost under Dimon last week after taking a huge hit on legal fees and fines.

The settlement is composed of $4 billion to settle claims that it lied to Fannie Mae and Freddie Mac about the quality of mortgage securities is sold them, $4 billion in consumer relief (which never seems to provide much relief) and $5 billion in penalties. The $4 billion in consumer relief spread among "Americans" more than five years after the fact is less than it may seem. And don't forget that the bank will likely write-off the fines, taking a tax break on any payment and relief.

The Justice Department and JPMorgan are reportedly still haggling over the degree to which the bank has to admit to misbehavior or failure to follow its compliance policies. Additionally, Holder and other enforcement agencies may use the JPMorgan case as precedent to expand their investigation into Wall Street malfeasance, among other things extending the statute of limitations from five to ten years.

Beyond mortgage-related probes, federal prosecutors are looking into whether JPMorgan broke laws in its handling of derivatives bets known as the "London Whale trades" that cost the bank more than $6 billion in trading losses, and more than $1 billion in regulatory fines so far. Also, regulators are examining whether the bank gave jobs to children of executives at Chinese-owned companies to secure business in China. And don't forget the Libor rate rigging scandal; plus, about a dozen more investigations globally. A billion here a billion there and pretty soon you're talking about real money; a legal fund of $23 billion might not be enough.

JPMorgan CEO Dimon has argued to the Justice Department that much of the conduct at issue stems from two firms the bank acquired with the encouragement of the US government during the height of the crisis, Bear Stearns and Washington Mutual. It is unfair to penalize the bank for alleged sins that took place before it owned the two banks, Dimon has complained. He has also said that the investigation will make JPMorgan reluctant to buy troubled institutions again. But Dimon's whining doesn't match recent statements.

In the last couple of annual reports from JPMorgan, Dimon brags that the bank absorbed Bear Stearns and Washington Mutual without hurting its capital levels. That is at least partly because JPMorgan bought both banks at fire-sale prices. The bank bought Washington Mutual essentially for free, paying $1.9 billion for a bank that had $40 billion in shareholders' equity just before the deal, and then turned around and booked an immediate $2 billion profit.

At the time of the deals, JPMorgan estimated that Bear Stearns and Washington Mutual combined would add about $3.5 billion to net income annually. If correct, that would add up to about $16 billion in extra profit since 2008, trumping the $13 billion in fines. But the truth is that JPMorgan has likely pocketed much more than that. Remember the Fed took almost all of the toxic assets, and they left the good stuff. The result is that JPMorgan booked an extra $6 billion in net interest income in 2008 alone.

The government has said it is taking the nature of the WaMu and Bear Stearns acquisitions into account. It is unclear how the fines the bank is expected to pay reflect that. Some legal experts not involved with the talks say that JPMorgan does not have much of an argument when it comes to avoiding civil liability for Bear's and WaMu's mortgage abuses.

The line of argument misses another important point. And it typifies the heads-I-win, tails-you-lose mentality that gets so many Americans angry at Wall Street. When you buy a company, or a piece of property, you don’t just acquire the assets. You acquire the liabilities—the contracts, the leases, the bank debt, the environmental problems. The price you pay isn’t just for the good stuff. You conduct due diligence, and you adjust the price accordingly. JPMorgan execs claimed they were well aware of problems at Bear Stearns, and they were eager buyers; the original offering price on Bear Stearns was $2 per share, but when rival banks showed interest, JPMorgan upped their offer to $10 per share; they also negotiated to have the Federal Reserve cover possible losses from about $30 billion in risky Bear Stearns assets.

And only about 70% of the garbage mortgage backed securities behind the current settlement can be placed at the feet of Bear Stearns and WaMu; 30% of the securities in question came directly from JPMorgan. The fact is that all these bankers were packaging the worst of the mortgages into MBS and selling them to government-sponsored entities such as Fannie Mae and Freddie Mac, as well as large institutional buyers like pension funds; and the banks were claiming the mortgage-backed securities were good, when they knew they were not. That was standard operating procedure for the banks.

The banksters broke the law and they got away with it, and it's been going on for a long time, and even with this weekend announcement of a tentative settlement, they continue to get away with it. The banksters have been considered too big to jail. Lanny Breuer of the DOJ refused to prosecute banksters, probably because he knew he would soon be going back to representing them in the private sector. Attorney General Eric Holder has expressed concerns about the economic consequences of criminal prosecution of big banks or big bank execs. And even with the news that they are keeping the criminal investigations open while reaching a civil settlement, it doesn't mean there will be criminal charges.

How is it possible to have billions of dollars in civil settlements and nobody broke the law along the way? It isn't. And we will never get rid of the illegality in banking until we see someone or several facing criminal charges. Having gotten away for many years with relatively tiny, slap-on-the-wrist fines that were in most cases less than the profits made on the crimes they committed, and fines where they were not required to admit wrong-doing but still got exemption from any future legal action, and fines that they can write-off and deduct from corporate taxes; well, a big $13 billion fine with no criminal side settlement is a different ballgame entirely. If you want to change reckless behavior, the kind of behavior that cost the country more than $15 trillion, and nearly destroyed the global financial system then maybe the punishment should be tougher than the justice meted out to some kid with a joint in his backpack.

So, why the change in attitude toward getting tough with the banksters? And why would Jamie Dimon accept a fairly large civil penalty, without clearing the deck of potential criminal charges? If these were really legacy issues only related to Bear Stearns and WaMu, it is unlikely Dimon would accept a deal quite so easily. You have to consider the possibility that there are still skeletons in the closet, there are still violations, criminal violations that could not only bring down the banks but also multiple bank executives. For a long time, the bankers played hard ball. Now, Jamie Dimon seems to be doing little more than whining. And you also have to consider that if the banksters were involved in illegal activities in 2008, they didn't get religion and clean up their wicked ways. The bad practices have continued and continue to this day.

Right now, the government has leverage, and likely not just against JPMorgan. There’s going to be more of this to come and maybe the JPMorgan settlement will be the template for other banks that were big players in the mortgage-backed securities market, including Citigroup, Deutsche Bank and Royal Bank of Scotland.

Indeed, The Financial Times reports Monday that Bank of America is in talks to pay a $6 billion settlement to the Federal Housing Finance Agency, which oversees Fannie Mae and Freddie Mac; that’s even larger than the $4 billion JPMorgan is earmarked to pay the FHFA, according to numerous reports. 

Friday, October 11, 2013 - We Have Met the Enemy

We Have Met the Enemy

by Sinclair Noe

DOW + 111 = 15,237
SPX + 10 = 1703
NAS + 31 = 3791
10 YR YLD un = 2.68%
OIL – 1.22 = 101.79
GOLD – 13.20 = 1274.20
SILV - .34 = 21.44

The Nobel Peace Prize was awarded to the OPCW, the Organization for the Prohibition of Chemical Weapons, the international chemical weapons watchdog helping to eliminate the Syrian army's stockpiles of poison gas. Its inspectors have just begun working in the active war zone, and the Norwegian Nobel Committee said it hopes the award offers "strong support" to them as they face arduous and life-threatening tasks.

Overall consumer confidence decreased from 77.5 in September to 75.2 in October, according to the Index of Consumer Sentiment published by Thomson Reuters and the University of Michigan. The economic expectations index in the survey also fell from 67.8 in September to 63.9 for October, reaching the lowest level so far this year as consumers reported less optimism about the course of the economy for the next 12 months.

In what has become an almost daily occurrence, Thursday night brought another poll, this one from NBC and the Murdoch Street Journal, showing that Americans really don't like the politicians.

A recap: Only 24% of Americans had a favorable view of Republicans, the lowest figure in the poll’s multi-year history and four percentage points lower than last month. Another low: only 21% had a favorable view of the tea party. Obama's standing was relatively stable, moving from 45% favorable last month to 47% now, within the poll’s margin of error of 3.5 points. Democrats overall were at 39% positive, with congressional Democrats at 36%. And 70% of Americans said Republicans were putting politics ahead of what was best for the country. A lesser 51% said that about Obama.

The poll also shows  the GOP-Tea Party efforts to defund or delay Obamacare—the demand which directly led to the government shutdown—has brought about a seven point increase in popularity of the law. Immediately prior to the shutdown, only 31 percent of Americans believed Obamacare was a good idea. Today, that number is 38 percent.

To paraphrase Pogo, the GOP has met the enemy, and they are it.

It looks like the politicians might be getting closer to some sort of deal to avoid throwing Treasury bonds into a financial abyss. The idea is to combine a government funding bill (which would end the shutdown) along with a debt-ceiling increase (which would avoid a default) along with a repeal of the medical device tax in Obamacare (which has nothing to do with Obamacare and is just a bone to throw at the GOP). The deal would avert default for 6 weeks, and would demand negotiations on a variety of issues including spending levels, means testing for entitlements, chained CPI for Social Security.

President Barack Obama has been adamant that he will not negotiate over anything while the government is shut down and the debt limit is held hostage. According to a New York Times report, Obama thinks the Republicans are demanding too much, saying “The only thing not on their list is my own resignation.” The paper also reported that Obama told a group of Democrats that “If he gives in now, Republican demands would be endless.” The sides would have to figure out some sort of agreement to get past that obstacle. If the House Republicans don't move fast to cut a deal with themselves that the White House can support, the Senate appears ready to step in and take over.

Something might get done. That's what Wall Street traders were betting on yesterday and today. But the important point is that it hasn't happened yet. Which means that average ordinary citizens need to maintain pressure on the politicians, and there are two ways to do that: get drunk and then drink coffee.

Now you can get drunk and dial up Congress in a very random way and spout something so intelligent that your representative will feel compelled to end the partisan nonsense.

Drunkdialcongress.org connects the disgruntled to the House of Representatives. You can enter your phone number into the website and an inebriated voice from a 1-800 number will call you back and ask, “Is this government shutdown making you want to drink?” before transferring to Capitol Hill so that you can “tell them what’s on your mind and tell them to get back to work.”

The site, created by the mobile ad firm, Revolution Messaging, offers talking points like “I can’t watch the panda!” or “Why don’t you make yourself useful and at least mow the lawn?” For those who need help selecting their form of liquid courage, there are also recipes for drinks like “the bad representative” (three parts liquor, one part lemon juice).

After you sober up, you can go get a coffee at Starbucks and sign a petition begging Washington to end the shutdown. Yea, this isn't such a great idea either. I've always thought there was a problem with Starbucks' semantics: “grande” means medium, “tall” means small, and “magna cum laude” means barista, and “barista” means someone who works slightly less than full-time and therefore does not qualify for corporate health insurance. Plus, I'm not sure if the long term solution that Starbucks CEO Howard Schultz wants is the same solution I want. Plus, the coffee tastes like it's been burned.

It's earnings reporting season and today JPMorgan Chase reported a loss of $380 million. This is the first quarterly loss for JPMorgan under the reign of Jamie Dimon. The loss was connected to legal expenses. Dimon tried to explain that, “While we had strong underlying performance across the businesses, unfortunately, the quarter was marred by large legal expense.” The financial press picked up on that and the refrain was … leaving regulatory problems aside... JPMorgan would have turned a profit. But it was more than regulatory problems, it was legal problems. Big difference.

Of course that is a problem encountered by illegal enterprises of all stripes; crime doesn't pay; not in the long run. Earlier this year, when Dimon faced a shareholder referendum over his fitness to serve as both chairman and CEO of the legally besieged bank, some big Wall Street names came to his defense with a flawed rationale: the company was booking record profits; who cares about anything else? Maybe it's time to rethink.

Today, I saw Maria Bartiromo on CNBC trying to say the banks had done everything right and we should blame the regulators for not doing their jobs. That debate should be laid to rest. Just because the cops don't stop the crime, it doesn't mean the criminal is innocent.

And even if you get past the multi-billion dollar legal problems, the banks still have another problem. Mortgage production at JPMorgan Chase and Wells Fargo fizzled in the last quarter as fewer borrowers sought to refinance their home loans amid rising interest rates. Wells Fargo felt the most pain from rising rates. The bank reported $1.6 billion in mortgage banking income for the third quarter, a 43 percent drop from the same period one year earlier.  The slowdown reflects a shift in the housing recovery, which has largely been relying on refinance activity. The number of loans eligible for interest rate reductions dropped and interest rates have been higher, and if the Fed tapers, rates will move higher still. And if the politicians can't come up with some sort of deal over the weekend and if we actually see a default, you don't even want to imagine what will happen to rates.

About one week ago, it started to snow in South Dakota, the wind kicked up to 60 mph, and there was more snow; blizzard conditions; five feet of snow in some places. Cattle ranching is big business in South Dakota, about a $5.2 billion dollar industry. When the freak early snowstorm hit, the cattle hadn't yet grown a winter coat; it killed a lot of cattle, maybe 20,000, plus a yet to be determined number of horses, sheep, and other livestock. Losses like this would be enough to cripple many ranchers even in the best of times, especially with the loss of future calves next spring whose would-be mothers were killed, but with the federal Department of Agriculture still shut down, ranchers are cut off from the livestock insurance that would normally keep them afloat following a disaster like this.

The federal Farm Service Agency's livestock indemnity program, which offers compensation for lost livestock. As long as the government stays shut, FSA offices nationwide will be shut too, leaving ranchers without support.  Even before the shutdown, the insurance program was already threatened by delayed passage  of the new farm bill, which allocates money for a wide range of programs including food stamps and farm subsidies and what is basically insurance for farmers. While the shutdown debate rages, the Senate and House are still hashing out the farm bill, leaving the livestock indemnity program in midair.

There are about 8.5 million people in Switzerland, and of that total more than 100,000 have signed a petition which should result in a vote by the Swiss parliament on a modest proposal to provide a basic monthly income of about $2,800 to each adult in the country. The idea is called universal basic income and the basic idea is, no matter what you do, if you’re a resident, or a citizen you get a certain amount of money each month. And it’s completely unconditional: If you’re rich you get it, if you’re poor you get. If you’re a good person you get it, if you’re a bad person you get it. And it does not depend on you doing anything other than making whatever effort is involved to collect the money.

So far, the biggest opposition to universal basic income is from the left. They fear it threatens the existence of the existing social welfare systems there, because it’s very hard to finance both the full set and full range of social welfare institutions that exist already, and side by side to give people $2,800 a month.