January, Tuesday 24, 2012

DOW – 33 = 12,675
SPX – 1 = 1314
NAS + 2 = 2786
10 YR YLD unch = 2.06%
OIL -.37 = 99.21
GOLD -9.90 =1666.40
SILV -.30 = 32.15
PLAT -11.00 = 1554.00

Greece's private creditors are negotiating how much of a discount they will take on Greek bonds. Under the agreement drawn up in October, bondholders would take a 50 percent write-down on the notional value of their Greek holdings; in other words, they would swap their bonds for new bonds worth 50 cents on the dollar. Last week the two sides were converging on an agreement that would see private creditors accepting a real loss of 65 to 70 percent and new bonds with 30-year maturity. This week the negotiations seem stuck on the interest rate the new bonds would pay – 4% or 3.5%. Private creditors say a 4% coupon is their final offer; the Greeks say they can only go 3.5%.

The idea is that the bond swap would allow Greece to cut its debt from around 160% of GDP to 120% of GDP over the next 8 years. The clock is ticking on a deal because Greece has more than 14-billion Euro in bond redemptions that come due in March. Without a deal, Greece would be forced into a hard default, which would freak out the Eurozone. If they can come to a deal, then Greece is looking at a selective default, meaning they swap the bonds and nobody freaks out. A deal needs to be struck soon. Everything must be in place by March 5^th, and then there will be an April 8^th deadline for elections. All the negotiating is really what you might expect, so why the big worry? Well, the stock market has been up for about 5 days, so it was due for a pullback. Also, the longer the negotiations drag out, the greater the possibility the Greek people might figure out that getting screwed by the technocrats and the bankers, and they might just say “no” to the whole mess. It probably won't happen, but it could.

And then came news that the International Monetary Fund was concerned the Eurozone debt crisis might spread beyond Europe. Three months ago, the IMF forecast 2012 global growth at 4%; now they say it will be just 3.3%, and warned it could drop as low as 1.3 percent if Europe lets the crisis fester for much longer.  The IMF's chief economist warned, “There is an even greater danger, namely that the European crisis intensifies, and in this case the world could be plunged into another recession. With the right set of measures, the worst can definitively be avoided and the recovery can be put back on track," he said. "These measures can be taken, need to be taken, and need to be taken urgently."

So, the idea is that the IMF and the ECB and the Fed and the technocrats know how to avoid a collapse but they're losing patience and they're getting a little annoyed. The IMF's Global Financial Stability Report also pointedly warned against complacency by the US, they say our economy is susceptible to a range of shocks from the euro-zone crisis, including attacks on the financial sector. The IMF is concerned deleveraging could cause a credit crunch in Europe that would reverberate around the globe, pulling trade and investment out of emerging and developing economies, and squeezing the US. The IMF report said, the “potential spillovers could include direct exposures of U.S. banks to euro-area banks, or the sale of U.S. assets by European banks.”

Meanwhile, the Federal Reserve is meeting. Tomorrow, the FOMC will issue a statement on interest rates and for the first time, Fed officials will release forecasts for their best guess of the path of short-term rates for coming years. They will also provide the likely time of the first rate hike and will also disclose qualitative assessments of the role of the balance sheet ahead. We'll see how this works out. If nothing else, it will give us a written forecast, and in a year or two, we can look back and laugh, or maybe cry. Anyway, don't expect too much transparency.

For example, don't expect the Fed to come out and announce that QE3 is underway, even though it probably is. The central bank has purchased somewhere in the neighborhood of $2.3 trillion of mortgage and government bonds in two rounds of Quantitative Easing, or QE. In September, they announced Operation Twist, the plan to sell $400 billion of short-term debt and use the proceeds to buy an equal amount of longer-maturity securities. And Operation Twist has worked, sort of, as long-term rates have dropped and mortgage rates have moved to historic lows. Now, it is widely expected the Fed will be buying up more home loan debt, maybe $500 billion to $600 billion during the first half of the year. Such a move might allow greater chance for success for programs such as HARP, or even for principal reduction plans, but unfortunately, it doesn't do much to build demand.

Fed Chairman Bernanke says that as of the end of the second quarter of 2011, there were 2 million vacant homes for sale, with about 500,000 units owned by banks or by the mortgage giants Fannie Mae and Freddie Mac; some estimates of shadow inventory are twice as high and some estimates go as high as 8 to 10 million. One thing is certain, the number of foreclosed properties is big and growing. There is a large chunk of money, billions of dollars, sitting on the sidelines waiting to see what kind of program the government comes up with. Even if we don't hear details from the Fed tomorrow, we might get a hint tonight in President Obama's State of the Union Address.

The foreclosure crisis is impeding a housing recovery and holding back the entire economy. Obama is expected to suggest more incentives to encourage lenders to help homeowners refinance. It remains to be seen if the nation will return to historical patterns of home-ownership. There is still a demand problem, and this goes directly to the high rate of joblessness. The depressed economy leaves many people who would normally be buying homes either unable to afford them or too worried about job prospects to take the risk; still others that might typically move from one house to another find they're stuck, effectively locked into their home. The economy is depressed, in part because of the housing bust. The converse is that an improving economy will lead to an increase in home purchases, and more purchases will lead to more home starts, and that strengthens the economy, and the circle is unbroken; by and by Lord, by and by. And there may be a better world awaiting as unemployment claims are down and the economy is growing (even if modestly) and home sales are inching higher, and builder confidence is getting off the floor.

We are very likely to see a push from the Federal Reserve and the administration to stimulate the economy through the housing market; this will be the conduit for QE3, this will be the pipeline for election year stimulus.

According to a new global survey from the Edelman Group, and the survey covered 1000 people in 25 countries, and further included at least 200 people considered “highly informed”: of all industries, and for the second year in a row, banks and financial services are the least trusted and trusted even less than last year. Banks went from 50% favorable response to 47%; financial services from 48% to 45%. CEOs are slightly more credible than politicians and regulators (in a reversal from the year before) but overall, still not credible. Only 38% of respondents thought that they could trust the CEO as a source of information on a given company. Last year this stood at 50%. Technology remained the most credible sector, with a 79% favorable response. The most credible source of information on a company were seen as academics and experts (68%) and also technical experts (66%). The “average employee” was chosen as the most credible source of info on a company. Who else is credible? Why, you are. The category “People like yourself”shot up in favorable response among the “informed public” by 22 percentage points to 65%.

When asked, “How much do you trust government leaders to tell you the truth, regardless of how complex or unpopular it is?” 46% of respondents said that they did not trust them at all. Only 29% of the informed public saw government officials and regulators as a credible source of information on a given company (vs. 43% in 2011). And yet… Almost half of respondents (49%) believed that government did not regulate business closely enough. When asked what the government’s most important role in business is 31% said consumer protection and 25% said to ensure responsible corporate behavior. Only 4% said that government should not play a role in business.

The public’s disgust with Congress has been confirmed in poll after poll; the only consensus is that the 11% of Americans who think Congress is doing a good job need therapy. A headline in the congressional newspaper The Hill announces, “K Street Headhunters Enamored with Upcoming Class of Retiring Lawmakers.” Lobby shops and law firms in DC are scouting the talent and formulating their “mock draft” as at least 25 representatives and senators have announced their plans to leave office at the end of their current terms. Former senators could expect to earn somewhere between $800,000 and $1.5 million in annual salary next year at lobby firms, while ex-House members could earn between $300,000 and $600,000, headhunters estimated.

Tonight, you'll hear both parties talking about the economy and jobs but you won't hear this story mentioned in polite company. But remember, it's not just the lawmakers, it is the corporations that are paying the K Street legal firms and the retired politicians. The corporations expect a return on their money, and they get it. Companies can hire armies of high-paid lawyers and accountants to mold the tax code in their favor. Once upon a time, this type of activity was called graft and corruption. Now it's just par for the course.

The headline jobless rate is 8.5% for December, down form 8.7% in November. Today we got a few additional details on the December jobs report. The jobless rate fell in 37 states and Washington, D.C. States hit hardest by the housing crisis continue to suffer the most. Nevada again notched the highest jobless rate at 12.6%, followed by California at 11.1%. States with abundant natural resources performed the best, including North Dakota at 3.3%, Nebraska at 4.1% and South Dakota at 4.2%. In Arizona, the rate is 8.7%.

The FOMC tomorrow will tell us at what level they want to price fix the short term cost of money and for how long. This forecast from each individual member will be based on their economic forecasts. While these forecasts will be useful from a market perspective as the Fed’s words alone can influence rates, relying on Fed forecasts as something close to ultimately being accurate has historically proven to be dangerous.

For a quick instant replay check over the past 10 years, the Fed believed the US economy was on the cusp of deflation in ’02 thru ’04 and it’s why they lowered the fed funds rate to 1% and kept them there for a full year. This forecast of deflation of course was wrong as one of the great commodity bull markets of all time began in early 1999. We also know this cheap money below the rate of inflation enabled the credit bubble. The other Fed forecast of major consequence was said by Ben Bernanke to Congress on March 28th 2007, “At this juncture…the impact on the broader economy and financial markets of the problems in the subprime markets seems likely to be contained.” My point is that the extra transparency the Fed will give us today is irrelevant if they get the underlying policy wrong and the chances are they will.

There's a paradox to economic policy. The more it succeeds at prolonging short-term prosperity, the more it inspires long-run destabilizing behavior by businesses, banks, consumers, investors, and government. If they think basic stability is assured, they will assume greater risks – loosen credit standards, borrow more, engage in more speculation, relax wages and price behavior that ultimately make the economy less stable. Long booms threaten deep busts.

January, Monday 23, 2012

DOW – 11 = 12,708
SPX + 0.6 = 1316 
NAS – 2 = 2784
10 YR YLD +.04 = 2.07%
OIL + 1.61 = 99.94
GOLD + 9.30 = 1677.30

SILV + .15 = 32.45
PLAT +25.00 = 1567.00

The stock market is off to its best start in a good 15 years. Stock market sectors leading the rally include:materials, homebuilders, semiconductors, and financials. The 50 worst performing stocks in 2011 are up over 10% so far this year; the 50 best are up a mere 2%. Bonds are off to their worst start since 2003 with the 10-year note yield back up to 2%. The S&P 500 is now up 20% from the early October low and just 3.5% away from the April 2011 recovery high (in euro terms, it has rallied 30% and at its best level since 2007).

Meanwhile, a new report from Bespoke Investment Group says stocks are trading at their cheapest levels since at least 1990, according to such commonly used valuations as price-to-earnings and price-to-book ratios as well as dividend yield. Also, the manufacturing sector has been a pocket of strength, while the employment picture is really beginning to show improvement. To start 2012, the S&P500 had an earnings multiple of 13, the lowest since 1990 and below the 80-year average of 15. It would take a move back to 1,484 to get the benchmark back to this long-term mean P/E. The price-to-book ratio is 2.05, below the average since the late 1970s of 2.43. To get back to that average P/B, the S&P would need to increase to 1,491.

The ECB has been throwing money at the Euro-banks, and they have been buying time. The insolvent countries have been bailing out the insolvent banks, and in return, the insolvent banks have been bailing out the insolvent countries. If you can just suspend logic for a while, it almost makes sense. What has happened is that the Eurozone has managed to avert a crash and they will likely throw more money into the EFSF, the European Fubar Slush Fund. And Italy and Spain held bond auctions and they had plenty of buyers, and do you remember that failed German bond auction from 2 months ago? Of course not – that's ancient history.

The labor picture has been improving. The unemployment rate is still dreadfully high and under-reported but it is getting better. The Federal Reserve will likely start throwing even more money at the economy in the form of QE3. You can argue that they are already doing this, but the new stimulus will probably be directed at the housing market and mortgage paper.  And already we've seen a little improvement in housing sales and starts (I won't go so far as to say “recovery”, but again, things are getting better).

The Fed is meeting again this week. The Fed's new mode of communicating by providing the median FOMC forecast of where the funds rate is heading is widely expected to show a sustained near-zero level through 2014. The Fed will introduce new communications policies on Wednesday. While the changes could make it easier for the Fed to move ahead with another round of asset purchases later this year, by helping to explain why the economy needs additional stimulus, officials have indicated that any such plans remain on the back burner. The mere fact that the Fed is paying attention to communications means they are not absorbed in crisis.

I've been cautiously bullish since September, and I must say all this good news is starting to scare me. Bernanke's plan is working; Americans are abandoning capital accumulation (savings) in favor of consumption or trying for a higher yield in risk assets such as stocks and real estate. Now the explicit policy of the nation’s private central bank (the Federal Reserve) and the federal government’s myriad housing and mortgage agencies is to punish saving with essentially negative returns in favor of blatant speculation with borrowed money. Official inflation is around 3% and savings accounts earn less than 0.1%, leaving savers with a net loss of about 3% every year. Even worse -- if that is possible -- these same agencies have extended housing lenders trillions of dollars in bailouts, backstops and guarantees, creating institutionalized moral hazard on an unprecedented scale.

Moral hazard means that the relationship between risk and return has been severed, so risk can be taken in near-infinite amounts with the assurance that if that risk blows up, the gains remain in the hands of the speculator. Another way of describing this policy of government bailouts is “profits are private but losses are socialized.” That is, any profits earned from risky speculation are the speculator’s to keep, while all the losses are transferred to the public.

While the housing bubble was most certainly based on a credit bubble enabled by lax oversight and fraudulent practices, the aftermath may be fairly summarized as institutionalizing moral hazard. Fed Board members suggest that the Fed’s stated policy of punishing savers with a zero-interest rate policy (ZIRP) is outwardly designed to lower the cost of refinancing mortgages and buying a house. The first is supposed to free up cash that households can then spend on consumption, thereby boosting the economy. With savings earning a negative yield, consuming more becomes a tangibly attractive alternative. (How keeping the factories in Asia humming will boost the American economy is left unstated.)

This near-complete destruction of investment income from household savings yields a rather poor return. Plausible estimates of the total gain that could be reaped by widespread refinancing hover around $40 billion a year, which is not much in a $15 trillion economy.

There are real-world limits on this policy as well. Since the Fed can’t actually force lenders to refinance underwater mortgages, millions of homeowners are unable to take advantage of lower rates. From the point of view of lenders, declining household incomes and mortgages that exceed the home value (so-called negative equity) have lowered the creditworthiness of many homeowners.

As a result, the stated Fed policy goal of lowering mortgage payments to boost consumer spending has met with limited success. Somewhat ironically, the mortgage industry’s well-known woes -- extended time-frames for involuntary foreclosure, lenders’ hesitancy to concede to short sales (where the house is sold for less than the mortgage and the lender absorbs a loss), and strategic/voluntary defaults -- may be putting an estimated $80 billion in “free cash” that once went to mortgages into defaulting consumer’s hands. Crazy but true: defaulting on a mortgage has done more to stimulate the economy than the Fed-backed refinancing plans to date.

So, the Fed will keep interest rates at around Zero for a couple more years. The Fed’s desire to boost home sales by any means available is transparent. By boosting home sales, it hopes to stem the decline of house valuations and thus stop the hemorrhaging of bank losses from writing down impaired loan portfolios, and also stabilize remaining home equity for households, which has shrunk to a meager 38% of housing value. The Fed’s strategy is to stabilize the housing market through subsidizing the cost of mortgage borrowing by shifting hundreds of billions of dollars out of savers’ earnings with ZIRP.

By some accounts, literally 99% of all mortgages in the U.S. are government-issued or -guaranteed. If any other sector was so completely owned by the federal government, most people would concede that it was a socialized industry.Yet we in the US maintain the fiction of a “free market” in mortgages and housing.

To establish a truly free and transparent market for mortgages and housing, we would have to end all federal subsidies and guarantees/backstops, and restore the market as sole arbiter of interest rates -- remove that control from the Federal Reserve.

But things are getting better. Bernanke has a plan for the Eurozone; he has a Zero Interest Rate Policy for America; he says he is 100% sure he can arrest any inflation he generates from getting out of control.

What could go wrong?

A draft settlement between the big 5 mortgage lenders and states' Attorneys General has been sent to state officials for review. President Obama wants to be able to point to the settlement in Tuesday's State of the Union as a measure of progress towards more Wall Street accountability. But the deal on the table is appalling, especially when compared to 2011 big bank bonuses.

Proposed total restitution for the millions of Americans who lost their home due to illegal foreclosure tactics:$20 billion. 2011 big bank bonuses:$144 billion. Something is very wrong with this picture.

$20 billion is only a fraction of what is needed to reduce principal balances on millions of underwater homes; Right now big banks are sitting on an unprecedented mountain of cash: over $1.6 trillion parked with the Federal Reserve. As part of the deal, about 1 million homeowners could also get the principal amount of their mortgages written down by an average of $20,000. One in four homeowners with a mortgage — or roughly 11 million people — owe more than their home is worth. These  "underwater" borrowers have little chance at refinancing. Those who lost their homes to foreclosure are unlikely to get their homes back or benefit much financially from the settlement.

A New Report Shows we Need to Spend more on Coffee (I read this at Time Mag)

A new report estimates that the average American worker drops nearly $1,100 annually on coffee. That’s not much less than what the average worker spends to commute to the job.

The Consumerist cites data indicating that the average worker in the U.S. currently coughs up over $20 a week on coffee, working out to a grand total of $1,092 annually. The average commute, meanwhile, reportedly runs $1,476 per year.

The costs for each individual, of course, are highly variable. And it goes without saying that statistics can be sliced and viewed in many different ways, yielding what appear to be very different results. A Mint.com post from last spring, for instance, estimates that the average consumer spends just $14.40 per month in coffee shops, or less than $175 annually. Mind you, that doesn’t include the costs of drinking coffee at home. But it makes the $1,100 figure seem pretty high.

A Bundle.com report from 2010, meanwhile, had it that the most expensive commutes around the nation still wound up costing under $700 or $800 for gas and auto expenses annually.

So, clearly, there are plenty of variables at work. In any event, it’s still fun to check out average spending data for all sorts of expenditures and see where you stack up. Here are a few more interesting figures:

Gasoline: In 2011, the average household spent $4,155 on gasoline. That’s an all-time high, as was the year’s average price for a gallon of regular: $3.53.

Overall Driving Costs: A 2011 AAA study estimates that, after accounting for insurance, gas, depreciation, and other expenses, the average car that’s driven 15,000 miles per year costs $8,776 annually.

Christmas: The average American shopper spent a bit over $700 on holiday gifts and purchases. The average rich American, mind you, dropped closer to $2,300 on gifts during the 2011 holidays.

Cell Phone: According to one recent estimate, the average cell phone costs $605.95 annually. That’s the total for recurring monthly charges, taxes, overages, and such, and that doesn’t include the cost of the phone itself. And that’s for an average cell phone, not a smartphone. The costs related to using an iPhone can easily top $1,900 per year.

Electricity: Partly due to the rise in gadget use, the average U.S. household paid $1,419 for electricity in 2010, up about $300 from five years prior.

Health Insurance Premiums: In 2011, the cost of the average U.S. family’s employer-arranged health insurance premium topped $15,000 for the first time: $15,073 per year, up from $13,770 in 2010.

(MORE: The Number of ‘Improving’ Housing Markets Nearly Doubles)

Pets: According to the American Pet Products Association, the average dog owner spends $1,542 annually, while the average cat owner spends $1,183.

Shoes: Estimates for what the average woman spends on shoes range from $370 per year ($16,410 over 67 years), up to $25,000 over a lifetime.

Watching Sports: The average pay TV subscriber chips in roughly $100 per year for sports programming, and they pay that much whether they watch sports a lot or not at all.

Beverages: The average U.S. Household $850 per year on soft drinks alone; that works out to a total of $65 billion annually. A total of $101 billion was spent on beer in 2010.

The total cost for a household to drive a car, enjoy Christmas, talk on a cell phone, feed the dog, wear shoes, keep the lights on, pay the health insurance premiums, and drink sodas, beer, and coffee comes to a grand total of $30,527. you'll note that the total doesn't include mortgage/rent, clothes, food, and a bunch of other things that most of us consider important.

They say the best things in life are free, with the exception of coffee.

January, Friday 20, 2012

DOW +96 = 12,720
SPX +1 = 1315
NAS -1 = 2786
10 YR YLD +.06 = 2.03%
OIL -2.19 = 98.19
GOLD + 10.30 = 1668.00
SILV +1.56 = 32.30
PLAT +11.00 = 1541.00

Today, Wall Street was just muddling along. GE and Google posted weak earnings. The Dow advanced and the broader market were flat. Still, stocks have posted three weeks of gains to start the New Year on weak volume. Nobody wants to believe the rally; maybe they've decided it's safer to sit it out. Stocks may muddle higher but it is difficult to sustain gains on light volume and it leaves the market vulnerable to selling pressure.

Nihil sub sole novum. That's Latin for nothing new under the sun. It seems to prove the point when you say it in a dead language. And so, we go from archaic to the contemporary medium for information sharing, the internet. If you think the internet is only about sharing new, original, unique, and innovative information the you really need to move into the 20^th century (for starters). There are many things that are inequitable about current copyright and patent laws, but even if we gloss over that discussion, the idea that legislators wanted to make it illegal to share information over the internet was remarkably stupid.

It seems several legislators just lined up to do the bidding of their corporate paymasters, without regard to the consequences. The SOPA and PIPA legislation was bipartisan stupidity. The bills were championed by former democratic Senator Chris Dodd, who is now working as a lobbyist for the movie industry. PIPA co-sponsor Florida republican Sen. Marco Rubio pulled his name from the bill Wednesday, and SOPA co-sponsor Arizona republican Rep. Ben Quayle pulled his name Tuesday. Texas Representative Lamar Smith closed his website for maintenance after it was noted he had stock photography without attribution or payment to the photographer. In other words, he was in violation of the law he was co-sponsoring.

Both the Stop Online Piracy Act, or SOPA and the Protect Intellectual Property Act or PIPA are now indefinitely postponed. Two days ago, Wikipedia blacked-out  its site; several other sites supported the protest. It worked. It was a pretty remarkable process in several ways. First, it was remarkable that Congress failed to recognize that censorship is bad. We witnessed the power of  the old media in the halls of Congress, again. It isn't surprising but it continues to disappoint when Congress lines up with corporate interests in direct opposition to the rights of citizens.  It really shouldn't be so easy for politicians to embrace censorship for a fistful of dollars. It is both surprising and disgusting when reporters embrace censorship to appease their paymasters.

We also saw the strength of the internet. The legislation crashed once details surfaced – on the internet. We are most likely experiencing an internet revolution or perhaps an internet reformation, a movement that might actually usher in fundamental changes, just as the Gutenberg printing press helped usher in the Reformation and the Age of Enlightenment. This week we saw how an internet blackout can shine a light on bad legislation.

An interesting sidebar to this is that the US government shut down a foreign file server website called MegUpLoad, which apparently was a site where you could download films and music, and where some of the downloads were allegedly illegitimate. So apparently, these newly proposed laws were extraneous to existing laws, which are already on the books and are already being enforced without the need for censorship. And then in what looks like a horrendous case of bad timing, Anonymous hacked and shut down the sites of the main corporate copyright enforcers, including the Motion picture Association of America, the Recording Industry Association of America, Universal Music, EMI, the US Copyright Office, the Department of Justice,the FBI, and the French copyright agency.

And that brings us to another point; the internet may be big and important and may change the world, but our politicians don't have a clue how it works.

Protesters are occupying courthouses in more than 100 cities  to protest the second anniversary of the landmark Supreme Court decision “Citizens United v. FEC” that removed most limits on corporate and labor spending in federal elections. The protests are part of larger demands to overturn the decision, and amend the Constitution to state the obvious - that corporations are not people and money is not speech.

I also want to look at another important item from Wednesday; the World Bank issued a rather unique report that revised GDP growth estimates for 2012 downward very sharply, warned that Europe could be on the verge of a devastating financial crisis, and declared that the rest of the world better “prepare for the worst.” This is not the kind of language that you would normally expect to hear from the stuffed suits at the World Bank. Obviously things have gotten bad enough that nobody is even really trying to deny it anymore.

The report claims: “An escalation of the crisis would spare no-one. Developed- and developing-country growth rates could fall by as much or more than in 2008/09.”  The report concludes the “importance of contingency planning cannot be stressed enough.”

So are you ready?

The economy could fall into a gigantic, gaping abyss but if it doesn't, things are looking better. Spain and Italy had fairly successful debt auctions this week. There were some concerns  about the large amounts of debt Italy and Spain were scheduled to sell in the first month or two of this year. The European Central Bank conveniently broadened its collateral rules so that banks could gobble up the new Spanish and Italian issuance, take it to the ECB as collateral, and take care of their financing needs. It's a pretty neat little operation, when it comes down to it. Italian banks are estimated to have taken care of about 90% of their financing needs for 2012. Their rush to solve their own money problems helped the Italian government through a tight spot. Based on the way these activities have played out so far, the ECB's LTRO looks like a big success.

Can you spot the problem? Demand was pushed forward and that means demand for sovereign debt will likely dry up soon and yields will start rising again and soon. A lot of the liquidity directed to the banks has been parked back at the ECB as reserves, and that means the banks are playing it safe by cutting loans to the private sector. While that's the case, the euro-zone economy will continue to contract, and they won't grow their way out of the crisis, and a long-term solution to the crisis will prove elusive. But the rates in Spain and Italy are still a bit too high; Portugal and Greece are basket cases, and there's no indication Europe has turned the corner to success.

Meanwhile, the US labor market has been quietly improving. New filings for state unemployment benefits dropped 50,000 last week, in the biggest weekly drop since September 2005. Yes, there are still 13 million unemployed workers, and another 10 million underemployed or discouraged workers, and there are probably many more who have dropped off the radar screen. And unemployment expectations are a leading indicator for jobless claims – and the expectation is that there will be fewer layoffs in the coming weeks. And the optimistic among us think we may be entering the sweet spot for jobs, the virtuous-cycle stage of recovery: Better demand is generating more jobs that add more income to finance more demand.

Here's the problem: in the US and in Europe we're still just muddling along and that means we remain vulnerable.

January, Thursday 19, 2012

 

DOW + 46 = 12,625
SPX + 6 = 1314
NAS + 18 = 2788
10 YR YLD +.07 = 1.97%
OIL -.28 = 100.30
GOLD – 2.20 = 1657.70
SILV + .12 = 30.74
PLAT – 3.00 = 1525.00

The robo-signing scandal, in which mortgage servicers, that is – the big banks, were accused of initiating foreclosures based on inaccurate and sometimes fraudulent documents, "exposed a whole slew of problems in servicing these mortgages that need to be fixed." Now, the Department of Housing says it's close to a $25 billion dollar settlement with servicers. Such a deal could result in principal reductions for up to one million homeowners and the settlement would provide cash payments to a smaller number of families who were directly harmed by the servicers' conduct. One of the big hold-ups to a settlement is that many of the state's that started out in the settlement talks have since bailed out on a settlement, because the settlement was turning into a sweetheart deal for the big banks.

More earnings reports today: Morgan Stanley reported a loss of $227 million, compared with a profit of $871 million a year earlier.  Bank of America posted a profit of $1.99 billion, or 15 cents on a per-share basis, compared to the prior-year loss of $1.24 billion, or 16 cents. The results were in line with estimates, however the results were full of asset sales and one-time charges and gains, and accounting prestidigitation so prodigious as to transmogrify transparency into something beyond the pale of obfuscation.

Allow me to explain. There is no explanation for the earnings reports. They make it up and create a name for whatever they want the numbers to be. Debt becomes earnings; trash becomes cash. There is no fundamental reason to own the banks. For all practical purposes the big banks are insolvent. They don't have the reserves to cover a big loss, like the kind of loss described by the World Bank yesterday. If we broke up the big banks and got back to traditional banking and got back to smaller, more competitive investment banking – it is possible the big banks would not be dragging down the economy. As is the economy is muddling along, showing some signs of life but not a strong recovery.

On the employment front, the number of people seeking unemployment benefits dropped by 50,000 last week to 352,000, the fewest since April 2008.  For all of 2011, the economy added 1.6 million jobs. That was up sharply from 940,000 in 2010. The consumer price index was flat in December for the second straight month.  Excluding food and energy costs, so-called "core" prices rose 0.1%. Core prices rose 2.2% in 2011.  Food prices rose 4.7%. A separate report showed that average hourly wages, adjusted for inflation, fell 0.9% last year.

But let's go back to the idea of a big settlement for the banksters. It remains to be seen if the banks could have one settlement and resolve all their problems, in part because they have so many problems, in so many different places. Massachusetts is suing; Nevada is suing; a new lawsuit has been filed in Central California – and this is separate from the multi-state Attorneys General deal - accuses JP Morgan Chase of widespread, systematic residential mortgage documentation fraud. The suit alleges procedural abuses as servicers and foreclosure mill lawyers tried to cover up for the fact that in many cases, mortgage notes were not transferred properly to securitization trusts. The case asserts that fabricating documents was very helpful to JP Morgan, enabling it to file successful proofs of claim and motions for relief of stay 95% of the time. And why did JP Morgan do this? The case asserts that it needed to do so to pretend that borrower promissory notes really had been transferred to mortgage securitizations, otherwise, JP Morgan would be stuck with liability.

The complaint states: “Rather than incur the cost of ‘proving up’ its own standing or the standing of its principal Mortgage Backed Security Trust, Chase systemically misrepresents Chase or a designated MBST to be a creditor in tens of thousands of bankruptcy cases by utilizing manufactured documents.”

Now, whether this case in California gains traction remains to be seen, but what it tells you is the banksters have real problems.

So, put on your thinking caps. I want you to stop for just a moment, and think – what is the implication? What does it mean?

Well, the Federal Reserve has been driving down long-term interest rates and the Fed has been buying up mortgage backed securities, and the recent uptick in economic growth is not real strong and might not be sustainable, and the Fed wants to show they still have monetary tools that can alter the economy, and with Europe on the edge of the roof, and with the World Bank warning that there might be a credit crunch and governments need to pre-finance to avoid the pain of a crunch, and the Fed just last week finally came out with a White Paper which finally acknowledged the housing problem five years too late, and they called for easing mortgage credit terms and conditions, and don't forget this is an election year, and what does it all mean?

Let's say it together: QE3. The White has has finally figured out that the economy is not going to get on track with the massive housing problems. They know the dysfunction in the mortgage market is a stumbling block for economic expansion. They know that the past sins of the banksters can't be patched up any more than you can make apples out of apple sauce, and so they will have to come out with fresh mortgages, a whole new crop. They will have to cut interest rates for a huge swath of homeowners who are underwater; They will have to reduce principal for a few homeowners who have been egregiously wronged. They will have to sop up the backlog of shadow inventory. They know that Congress would block anything and everything and they know the only way to get anything done is through the back door of monetary policy. And the only way to do all that is QE3.

The Fed has another FOMC meeting next week. They can't raise or lower the target for interest rates, and they might not make an official announcement about QE3, but it is a safe bet that Fed will start handing out somewhere between $750 billion to $1 trillion dollars to clean up the housing mess.

And if you're wondering why the stock market has been in a nice little uptrend despite the threat of financial Armageddon around every corner – the reason for the positive trend is QE3. Remember the stock market loves free money. So, the trend is up, but there are plenty of reasons to be cautious.

January, Wednesday 18, 2012

DOW + 96 = 12,578
SPX + 14 = 1308
NAS + 41 = 2769
10 YR YLD +.05 = 1.90%
OIL +.39 = 101.09
GOLD +7.30 = 1659.90
SILV + .46 = 30.62
PLAT +4.00 = 1527.00

"The global economy is entering into a new phase of uncertainty and danger," so says the World Bank's chief economist, Justin Yifu Lin. "The risks of a global freezing up of capital markets as well as a global crisis similar to what happened in September 2008 are real."

The bank cut its growth forecast for developing countries this year to 5.4% from 6.2% and for developed countries to 1.4% from 2.7%. For the 17 countries that use the euro currency, it forecast a contraction, cutting their growth outlook to -0.3% from 1.8%. For the United States, the bank cut this year's growth forecast to 2.2% from 2.9% and for 2013 to 2.4% from 2.7%.

In the event of a major crisis, "no country will be spared." "The downturn is likely to be longer and deeper than the last one." Many governments are in a weaker position than they were to respond to the 2008 global crisis because their debts and budget deficits are bigger.

The World Bank said slower growth is already visible in weakening trade and commodity prices. Global exports of goods and services expanded an estimated 6.6% in 2011, barely half the previous year's 12.4% rate, and the growth rate is expected to fall to 4.7% this year. Commodity exporters should brace for a fall in oil and metal prices of almost a quarter.

The bank says that "While contained for the moment, the risk of a much broader freezing up of capital markets and a global crisis similar in magnitude to the Lehman crisis remains. The willingness of markets to finance the deficits and maturing debt of high-income countries cannot be assured. Should more countries find themselves denied such financing, a much wider financial crisis that could engulf private banks and other financial institutions on both sides of the Atlantic cannot be ruled out. The world could be thrown into recession as large or even larger than that of 2008-09."

The consequences would be dire for 30-odd countries with external finance needs above 10pc of GDP. The bank advised these states to "prefinance" their needs while the credit markets are still open, reducing the risk of a sudden crunch.

I don't recall a similar warning from the World Bank. Maybe it's a response to the criticism against financial institutions that completely and wholly missed the crisis of 2008. It is rare to hear such strong words from an organization like the World Bank. And that makes the impact a bit more disconcerting. Bottom line – hope for the best and prepare for the worst.

Elsewhere, the International Monetary Fund is asking member countries to pony up an extra $500 billion dollars to stomp down the world's spreading fiscal emergencies. The IMF figures they will need to have about $1 trillion dollars for bailout loans over the next two years. The IMF didn't specify where the demand for $1 trillion dollars would come from, but it's a good bet that Eurozone countries will have their hands out for most of it.

Negotiations continue between Greece and its private sector creditors; still no agreement. The bond holders are willing to accept 50% haircuts, but even then Greece would be stuck with a debt load equal to 120% of economic output by 2020. In other words, the deal really sucks for Greece; and that means it is more and more likely that Greece will default; and the time-line for default is getting closer and closer. What would the default look like? We'll have to wait and see but it will affect a few big banks in the US. New estimates of net exposure of Tier 1 Common equity shows Citigroup with more than $16 billion still at risk, JPM facing losses of more than $15 billion, BofA at $13 billion, and Goldman Sachs at about $2.5 billion.

If you're having a hard time figuring out where to invest, you're not alone. The Masters of the Universe – Goldman Sachs was hit by global uncertainties. Goldman reported fourth quarter net earnings came in just above $1 billion, and the firm’s earnings per share of $1.84 were down 51% from a year earlier. For the full year, Goldman earned $4.4 billion, or $4.51 per share, down 65% from the prior year, on $28 billion in revenue.

GS + 6.63 = 104.31

Why was Goldman up 7%? Why was the S&P up 14 points?  Sometimes it seems traders are whistling past the graveyard. Maybe the traders are just trying to fill their pockets before they have to get out. Have you ever been in a bar at closing time? The bartender calls out “last call” and some people just finish up and leave, but there's always someone who orders two drinks and then chugs them down. Wall Street traders are a lot like those late night drunks; it's a short walk from gluttony to greed.

I'm familiar with the idea that Wall Street climbs a wall of worry, but I haven't quite figured out where the money for the current rally is coming from.  Over the first 11 months of 2011, plain-vanilla savings and checking accounts attracted eight times the money as stock and bond mutual and exchange-traded funds, and in September, October, and November the pace accelerated to 13 times the money going into checking and savings compared to stocks and bonds and funds. Most recently, investors took $9.35 billion out of equity funds — including more than $7 billion of U.S.-based funds — for the week ended Jan. 4.

And it appears that investors are just parking cash in money market funds, despite the Federal Reserve's Zero interest Rate Policy that means money markets pay essentially nothing. Bernanke has declared war on savers; he is pushing them out the door in search of higher returns, but it doesn't look like savers want to become investors. For many people, there's not enough Pepto to cover the volatility in equities. That Zero Interest Policy means that investing in bonds returns a negative interest rate after accounting for inflation.  Today the Producer Price Index showed core wholesale prices rose .3% last month, and 3% for the past 12 months. Overall, prices including food and energy were up 4.8% in the past year.

And then we learn that optimism is high. The American Association for Individual Investors sentiment survey is running at 49 percent bulls against just 17 percent bears. And the markets grind higher even though volume and breadth are not confirming the rally. Go figure.

For the past few months I have been cautiously bullish. I'm shifting toward more caution.

On March 20, 2003 silver traded at the fairly modest price of $4.35 per ounce. One year later, silver hit $8.00, for a gain of 83%. Put on your thinking cap and remember what happened in March 2003. The US invaded Iraq. Fast forward to 2012. The US is playing chicken with Iran in the Strait of Hormuz. And Iran is not Iraq. Iran is a much bigger player in the oil market. Iran is better connected with Russia and China and other Middle Eastern countries. If there is an armed conflict between the US and Iran we should all be worried. I pray it does not happen. But now you know why many people consider gold and silver to be a form of insurance for their portfolios. This does not mean that you invest 100% of your portfolio in gold or silver. It means that it is prudent to put a little into precious metals. In a crazy world, prudence is important. Hope for the best and prepare for the worst.