Monday, October 14, 2013 - Canned Goods and Cigarettes

Canned Goods and Cigarettes

by Sinclair Noe

DOW + 64 = 15,301
SPX + 6 = 1710
NAS + 23 = 3815
10 YR YLD + .01 = 2.69%
OIL + .12 = 102.14
GOLD + .10 = 1274.30
SILV - .07 = 21.37

Earlier today President Obama warned that if the standoff is not resolved by Thursday’s deadline to raise the debt ceiling, “we stand a good chance of defaulting.” And then he postponed a scheduled meeting with congressional leaders. That's the good news.

No, seriously, that's the good news; Senate leaders were closing in on a deal to raise the federal debt ceiling and end the 2 week old government shutdown, so the president stepped aside to let the legislators work a deal.

Senate Majority Leader Harry Reid said on the floor that he was “very optimistic” about what he called the “constructive, good-faith negotiations” aimed at avoiding the nation’s first default on its debt. Senate Minority Leader Mitch McConnell said he expected that “we’re going to get a result that will be acceptable to both sides.”

Of course, if they don't reach a deal by tomorrow, you might want to stock up on canned goods and cigarettes; there's a good chance cigarettes will be more valuable than gold in the debt-pocalypse. And the meltdown could start prior to the actual deadline of Thursday; folks will wait it out tomorrow, but before the close of the markets on Wednesday, if there is no deal, it could get ugly. So stock up on the canned goods and cigarettes tomorrow.

If this whole mess seems surreal, it is, but that doesn't mean you know how it works. So, allow me to provide the Readers' Digest version of everything you need to know about the federal deficit.

When the government spends more than it collects in tax revenue it must borrow to finance the difference. The national debt now stands at $16.7 trillion dollars; that's the total amount the federal government has borrowed throughout the years to finance cumulative cash deficits; plus the money it owes to itself, primarily the Social Security Trust Fund. The publicly held debt is owed to a wide variety of investors, including international investors, domestic private investors, the Federal Reserve, and state and local governments. The federal government has carried debt throughout its history. Typically the nation has run up deficits during wars and recessions, but then paid down the deficit when the war ended or the economy recovered. In recent years however, sharp increases in deficits have driven the debt to historic levels even as government spending was poised to explode to care for an aging population.

The debt ceiling sets a legal limit on borrowing by the federal government. Legislation to raise the debt limit usually leads to some partisan political posturing but little real drama. The past few years have been different. The United States hit its 16.7 trillion debt ceiling in mid-May. Treasury Secretary Jack Lew started to borrow from retirement funds from federal workers, a move that has bought a few months before he hits a point where he will be unable to borrow more to continue to pay the nation's bills. If Congress does not vote by Thursday to raise the limit, Secretary Lew says the government will default on its obligations.

House Republicans have demanded a number of concessions in exchange for granting the Treasury an additional year of borrowing authority. Among their concessions demanded for not shutting down the government was the repeal of the Affordable Care Act, also known as Obamacare; they then merged the shutdown concessions into the debt ceiling concessions, only to slowly but surely abandon those concessions as they realized they were running into a brick wall; The next concession to fall was a one year delay in implementation of Obamacare; which they have now abandoned as impossible; then a demand for repeal of the medical device tax which was a part of Obamacare, and nobody quite understands it or care about it unless you happen to sell medical devices. President Obama says he will not negotiate over the debt limit. Congress passed the spending measures that racked up the debt and now they have to pay the bills.

In its effort to extract concessions from Democrats in exchange for opening the government, the GOP has faced a fundamental strategic obstacle: They don't have the votes. A majority of the members of the House have gone on record saying that if they were given the opportunity to vote, they would support what's known as a "clean" continuing resolution to fund the government, in other words a resolution that deals only with the debt ceiling and doesn't have all sorts of concessions tacked on.

But a funny thing happened right as the government was shutting down; on September 30, the House Republicans passed a measure that prevents anyone other than the Speaker of the House from bringing the clean CR to a vote. Which means Speaker John Boehner is the only person who can bring this mess to a vote in the House of Representatives, and Boehner is still holding out for something; nobody knows exactly what, but it might involve cigarettes.

Now, you might think there is no rational reason to shut down the government to preclude what is essentially a Republican-designed health law, first pitched by Newt Gingrich in response to HillaryCare, the original version of ObamaCare was actually created by the Heritage Foundation, and then implemented by a Republican governor in Massachusetts, only to be abandoned in pursuit of a White House run, which ironically resulted in a less than winning 47% of the vote. The conservative health care plan that would create the conditions for finally attaining universal health coverage in the United States, a goal that all the other advanced nations have achieved decades ago. In particular, the alternative to “Obamacare” proposed by the GOP is nonexistent, and basically means leaving millions of Americans without proper medical care.

On top of that, the shutdown, together with the previous sequestration, and the overall contractionary fiscal stance, will most likely make the very slow recovery even slower, maintaining an unnecessarily large portion of the labor force unemployed.

The debt ceiling, which we are still approaching, even if at a slower pace because of the shutdown, will make matters even worse. How much worse? Nobody knows; somewhere between bad and debt-pocalypse.

And then this afternoon, came word of progress, maybe, sort of. Wall Street traders were optimistic that a deal might be reached; there was a quick round of buying that pushed the major indices into positive territory. We may get a deal, maybe not, but again, if nothing is worked out by tomorrow afternoon, it's probably a good idea to load up on canned goods and cigarettes, and maybe some single malt Scotch.

Three Americans were awarded the Nobel prize in economics Monday for work that helped answer this crucial question: What determines the prices of an asset, whether a stock, bond or a house?

The winners of the $1.23 million prize were Eugene Fama and Lars Peter Hansen of the University of Chicago and Robert Shiller of Yale. Their work has led to everything from low-fee index mutual funds to a deeper understanding of why home prices can become irrationally high, as they did in the last decade.

Fama and Shiller are considered direct opposites in their views of how markets sort out the prices of financial assets. Fama is a father of the "efficient markets hypothesis," the idea that because markets are very good at incorporating all known information about the value of an asset, it can be a fool's errand to try to predict in what direction the price of a stock or bond will go. Shiller is a leading proponent of the idea that markets, driven as they are by human psychology, can create large and sustained mispricings, such as in the late 1990s when excessive optimism drove the stock market into bubble territory. He is a student of "behavioral economics," the study of how quirks in human psychology can create results that traditional economic theory would not predict.

Fama's "efficient markets hypothesis" holds that investors can do just as well or better by investing in stock index funds as they can by trying to time the market and pick individual stocks. Anything they think they know about the future prospect of a company, in other words, is almost certainly already reflected in its share price.

Shiller challenges some key aspects of the efficient markets hypothesis. In a 1981 paper, for example, he demonstrated that stock prices are much more volatile than the underlying trends in the dividends they pay would suggest. He went on to show that periods when stock prices are high relative to corporate earnings tend to be followed by periods of below-par returns, and vice versa.

Hansen built on Shiller's work in important ways by using new statistical methods to test what exactly was driving all that stock price volatility. Hansen's work established more strongly the idea that the mispricings Shiller identified had to do with fluctuations in how much appetite for risk people had. When times are good more investors are willing to pay high prices for assets, and when times are bad, investors become more cautious. Today Shiller said the Federal Reserve's economic stimulus and growing market speculation were creating a “bubbly” property boom.

So, it just seems like a prudent thing to load up on canned goods and cigarettes and Scotch. Better safe than sorry.

Tuesday, October 08, 2013 - Low Probability High Consequence

10082013 Script

Low Probability High Consequence

by Sinclair Noe

DOW – 159 = 14,776
SPX – 20 = 1655
NAS – 75 = 3694
10 YR YLD un = 2.63%
OIL + .53 = 103.56
GOLD – 3.50 – 1319.90
SILV - .06 = 22.39

The Dow Industrials are down for 11 of the past 14 sessions, posting a loss of nearly 900 points. It's not exactly a crash; Wall Street is still expecting a resolution to the debt ceiling and the shutdown. The debt ceiling will likely be resolved with some short-term band-aid, but there is a chance that the idiots will mess it up and there will be a default. There is a low probability of default but a high consequence; that's a nasty mix and the reason I don't play Russian Roulette.

Most financial markets are only slowly getting worried about the possibility of a debt default, but in one tiny corner of the bond market things are starting to look a little panicky.

Today, investors dumped one-month Treasury bills due for payment after October 17, the date the Treasury Department has warned it will no longer have the cash to pay all of its obligations unless Congress raises its borrowing limit, known as the debt ceiling. Every day that passes after that date raises the risk the government will default on some of its debt. These short-term bills will probably be the first to go unpaid. Interest rates and bond prices move in opposite directions; so as prices dropped today, rates spiked, which means the government is paying more to borrow for one month than it does to pay for one year, a freak occurrence. Yep, everything is going exactly according to plan.

President Obama held a news conference today, calling on Republicans to both fund and reopen the government and to raise the nation’s borrowing limit as the federal shutdown entered a second week. President Obama phoned Speaker Boehner earlier this morning to urge him to allow a House vote on a budget bill without conditions, as Mr. Boehner called on the president to come to the negotiating table to resolve a spending standoff that has shuttered the government for eight days.

So far this whole shutdown hasn't been working out. What has been accomplished? Damage the livelihood of millions of Americans? Check. Government secretaries, food-truck operators, cleaners who work in motels near national parks: They’re all hurting. Waste billions of taxpayer dollars? Check. It costs a lot to shut agencies, Web sites and parks, and it will cost a lot to reopen them. Meanwhile, the House has voted to pay the salaries, eventually, of hundreds of thousands of employees whom it has ordered not to work.

And the lack of accomplishment just reinforces intransigence. In private, it appears Speaker Boehner has told his allies that he won’t bring up a clean CR, and he’s hopeful that as the deadline nears, President Obama will deal. It'd be nice to read that in private, there was some more conciliatory language, but at the moment, all of the private rhetoric is about hardening people's positions and convincing the team that the other side will cave.

In 1860, Abraham Lincoln had some choice words for Southerners who charged that he, not they, would be to blame for secession if Lincoln refused to compromise on the extension of slavery. Lincoln said: “A highwayman holds a pistol to my ear, and mutters through his teeth, ‘Stand and deliver, or I shall kill you, and then you will be a murderer!’ ”

So, while there may be a low probability of default, you still have to consider who's got a finger on the trigger. The debt ceiling is considered leverage, not a bullet to the skull.

And even if there is a stop-gap resolution to the debt ceiling and the shutdown, we still have other issues to deal with. The international Monetary Fund today issued a warning to central banks to move with extreme caution as they wind down emergency stimulus, warning that a botched exits risk setting off an asset crash in emerging markets and worldwide contagion.

The report said a witches’ brew of sliding currencies and excess credit could spin out of control. “Thin markets could amplify price movements and kick off sale spirals. Contagion effects could both amplify and broaden asset price movements and capital outflows as investors flock out of emerging market economies.”

Oh yeah, the taper!

The Supreme Court is in session again. I'm not sure how that works in a government shutdown. Maybe they pay the stenographer with an IOU, or a gift card to Wal-Mart. Today they heard arguments in a very important case,  McCutcheon v. Federal Election Commission, a case that maybe you could call Citizens United 2.0. 

 Here's the background. During the 2012 election season, Shaun McCutcheon, an electrical engineer who lives in Alabama, started making donations to all the candidates he supported. He made many donations, always staying under the donation limit of $2,500. Eventually, though, McCutcheon went over a different limit: the cap on the overall amount of money a single donor can dole out. Political donors can give no more than $123,200 during the two-year election cycle—$48,600 to federal candidates and $74,600 to political parties and related committees. McCutcheon believed the aggregate limit was unreasonable and unconstitutional, and so, with the backing of the Republican National Committee, a coplaintiff in his case, he sued his way to the Supreme Court.

At stake in McCutcheon is whether it's constitutional for the government to cap overall donations made by a single political donor. McCutcheon, his lawyers, and their conservative allies say the limit curbs First Amendment rights and does little to guard against corruption or the appearance of corruption, the court's justification for placing limits on political giving and spending. On the other side, campaign finance watchdogs and their lawyers say ending the aggregate limit would create a system in which wealthy donors could cut multimillion-dollar checks to candidates and parties, making Republicans and Democrats alike even more beholden to wealthy contributors.

The Supreme Court's landmark 1976 case Buckley v. Valeo upheld the overall contribution limit, at the time set at $25,000 for every two-year cycle. The court held that limiting the amount of contributions imposed only a marginal restriction on speech since the important thing was the act of contributing, not the amount). And the court said the government's interest in preventing corruption and the appearance of corruption justified that marginal restriction.

Fast forward to Citizens United, which overturned a couple of previous decisions that argued that some donation limits are constitutional. What happens if the overall cap is eliminated? A single donor could give nearly $3.7 million by maxing out his or her donations to every candidate of a preferred party, plus the state committee, the national party and its affiliated committees. With the overall limit scrapped party operatives could create mega-fundraising committees that can solicit seven-figure checks and then spread the money far and wide within their party at the federal and state level.

But wait, there's more! The Supreme Court has agreed to let a lawyer for the Kentucky Republican Seantor Mitch McConnell argue before the court. McConnell, the Senate minority leader is a vehement foe of campaign finance regulations; he led the fight to overturn the 2002 McCain-Feingold law with his suit, McConnell v. FEC, which he lost, and he has repeatedly filibustered Senate bills to beef up disclosure of dark money spending in our elections.

This time, McConnell wants to go even farther than McCutcheon;today the attorney for McConnell argued that the court should revisit the underlying legal principle that justifies whether there should be any limits on contributions to candidates. The aggregate contribution limits, he said, force candidates and political parties to compete for an "artificially limited pool of money." That seems a strange argument in light of Citizens United which allows an individual, like Mr. McCutcheon, to say whatever he wants and spend as much as he wants on independent, campaign related messages.

The FEC will have a tough row to hoe before the Roberts Court. The FEC seems to be arguing against an overall cap, but if an individual can give a few thousand to 23 different candidates, why not give the same amount to a 24^th candidate? Based upon today's arguments, that is probably what will decide the issue, but it misses the point. This is not a case about freedom of speech. One thing the Court has not truly explained is how spending a boatload of money is considered free speech. Of course, one should be free to speak about the government and politics, but I don't think that should include the ability to buy politicians and then bribe them to look after one's special interests.

James Madison wrote that government should be dependent on the great body of the people and not an inconsiderable proportion, or a favored class of it. There was a time, in the late 19th Century I believe, when business moguls actually put bags of cash on the desks of politicians to buy favors. Money has always been involved in this country's electoral politics, but many of the most blatently corrupt practices were reigned in during the 20th Century. Now, we seem to have returned to the age of the robber barons and to politicians who are for sale to the highest bidder. At every level, bottom to top, campaign contributions are a bribe. And what the Supreme Court is deciding is the difference between a democracy and an oligarchy; unfortunately that is not what they will consider, and that is part of the shame.

The justices will issue their opinion in McCutcheon before the end of June.

Friday, November 30, 2012 - We're All Just Muppets Living in a Fairy World

We're All Just Muppets Living in a Fairy World

by Sinclair Noe

DOW + 3 = 13,025
SPX +0.23 = 1416
NAS – 1 = 3010
10 YR YLD - .01 = 1.61%
OIL + .88 = 88.95
GOLD – 10.60 = 1716.20
SILV - .85 – 33.54

October 31 Closing Numbers:      

DOW                                                13096
SPX                                                 1412
NAS                                                 2977
10 YR YLD                                      1.69%

OIL                                                   88.51
GOLD                                              1721.20
SILV                                                 32.36

So for all the talk about the fiscal cliff, the election, Hurricane Sandy, The Euro-Debt Crisis, the unrest in the Middle East; for all that and more, the markets gave a big yawn in the month of November.

So, yesterday afternoon the House Republicans told reporters that the White House plan to avert the fiscal cliff was nothing more than a “joke”, an “insult”, and a “complete break from reality.” Mitch McConnell said he “burst into laughter. John Boehner said: “It was not a serious proposal.”  The plan, or the opening salvo from the White House calls for $1.6 trillion in tax increases spread out over ten years, $50 billion in additional stimulus spending, and $400 billion in spending cuts over ten years, plus an extension of the 2 percentage point payroll tax deduction or something comparable to it, and a permanent extension on the debt ceiling.

Meanwhile, the Republican plan is, well, it's still something of a mystery but we know they want cuts to entitlement programs, and no they're not referring to the corporate welfare programs that allow $1.5 trillion in corporate profits to be booked offshore, or the other corporate welfare loopholes. No, the Republicans are kinda-sorta arguing for the Ryan Budget, with its deep cuts to entitlements and other spending, and with a zero percent chance of getting through the Senate, just as the Obama plan has a zero percent chance of getting through the House. We are still in the initial phase of negotiating; it's all about tactics, not final numbers.

And so President Obama hit the road today to rustle support for his side. He traveled to Pennsylvania to make the case that Congress should immediately extend the Bush-era tax cuts on income under $250,000 per year. He went to a toy manufacturer in Hatfield, PA, the obvious graphic being that his plan will mean a tax break for most, that the companies depend on consumer spending, and that the extension of the tax cut will help keep the company making toys and employing workers; everybody gets a Merry Christmas, and toys under the tree.

Adding to the discussion today, a New York Times article that says most Americans in 2010 paid far less in total taxes — federal, state and local — than they would have paid 30 years ago. The combination of all income taxes, sales taxes and property taxes took a smaller share of their income than it took from households with the same inflation-adjusted income in 1980.

Households earning more than $200,000 benefited from the largest percentage declines in total taxation as a share of income. Middle-income households benefited, too. More than 85 percent of households with earnings above $25,000 paid less in total taxes than comparable households in 1980.

Lower-income households, however, saved little or nothing. Many pay no federal income taxes, but they do pay a range of other levies, like federal payroll taxes, state sales taxes and local property taxes. Only about half of taxpaying households with incomes below $25,000 paid less in 2010.

The analysis shows that the overall burden of taxation declined as a share of income in the 1980s, rose to a new peak in the 1990s and fell again in the 2000s. Tax rates at most income levels were lower in 2010 than at any point during the 1980s.

This week the Euro-Union, and specifically Germany's parliament approved a debt restructuring plan that essentially allowed Greece to hit the pause button on its debt. It didn't resolve the Greeks debt problem and it didn't create a plan for rebuilding the Greek economy, but it kicked the can down the road. The Euro-zone's crisis is far from over. Today, European Central Bank President Mario Draghi said Euro-zone members must tighten budgets and form a banking union to leave behind the “fairy world” that allowed problems to grow.

Draghi's call for reform was echoed by International Monetary Fund chief Christine Lagarde, who said implementing a banking union with powers to supervise all banks in the Euro-zone should be the currency bloc's top priority. The economic data from the EU today was bleak. Another 173,000 people joined the ranks of the jobless in October, and German retail sales and French consumer spending dropped more than expected.

And the Greek deal is looking like it might not hold together, as banks and pension funds balk at fresh losses, raising fears that the package could unravel before a deadline in mid-December.The International Monetary Fund said it would not disburse funds under its part of the EU-IMF package unless the euro-zone delivers on a bond "buy-back" scheme, which is supposed to cut Greece’s burden by 10% of GDP. The dispute comes as Moody’s said the EU-IMF deal to unlock $56 billion in bail-out payments to Athens merely papers over cracks and does little to alleviate Greece’s "extreme economic and social fragility". Moody's says: "We believe that the country’s debt burden remains unsustainable."

Leaked documents have already cast serious doubts on that Greece can reach its debt reduction target, much to the irritation of the IMF, which fears that its own credibility is being damaged by the continued fudge over figures that appear to be extracted out of thin air and have repeatedly proved wide of the mark over the past two years.

There is mounting irritation among the Asian and Latin American members of the IMF Board - as well as the US - at the failure of the Europeans to deploy their full wealth to clean up an internal EMU problem. It is a long way away from the permanent fix that the IMF had been insisting upon. It is just one more big kick of the can down the road. And so, Draghi is calling for a banking union to leave behind the fairy world.

Sometimes this economic stuff makes sense, sometimes it doesn't.

The Chinese government would like to develop Shanghai into a major gold trading center; to that end, beginning Monday, they will allow over-the-counter gold trading between banks for the first time. The introduction of interbank trading is intended to develop China into a liquid market such as London, and demonstrates the government’s readiness to open the market to greater participation by international banks. Chinese banks already play a significant role in determining international gold prices, so the move will have a limited impact on prices.

China offers a massive gold market, albeit one that is tightly controlled. The country is the world’s biggest gold producer and ranked as the No. 2 gold consumer in the third quarter of this year. It has official gold reserves of 1,054 metric tons, the world’s sixth-largest. But gold exports are banned and only a handful of banks hold import licenses.

Until now, member banks have been able to trade physical gold between themselves on the Shanghai Gold Exchange, but the absence of an over-the-counter market restricted them from becoming market makers in gold. In an over-the-counter market, transactions are quoted and conducted between parties on a principal-to-principal basis rather than being traded through a broker on an exchange.

So, you're looking around for a nice place to invest these days. Where do you go? Subprime mortgage indexes have rebounded substantially – one is up 39% already this year. Goldman Sachs is telling its clients to invest in some of the ABX subprime mortgage indexes that it helped create back before the crisis. What could go wrong? Wait a minute, you say, aren't those the same subprime garbage Goldman Sachs bet against? Well, yes, but they paid a $550 million dollar fine for selling toxic collateral debt obligations and then betting against their own clients; and $550 million is a big fine, it's a couple of days work for Goldman. I know what you're thinking; these guys are still the same Muppet milking masters of the universe they used to be; they would sell their own grandmother to Somali pirates if they held credit default swaps on her. And its not like they had to admit wrongdoing, so they can just go back to the same old, same old. Everything is cool now.