Friday, December 14, 2012 -

A Sad Day

by Sinclair Noe

DOW – 35 = 13,135
SPX – 5 = 1413
NAS – 20 = 2971
10 YR YLD -.02 = 1.71%
OIL +.97 = 86.86
GOLD – 1.10 = 1697.20
SILV - .23 = 32.31

A total of 27 people dead at school in Newtown, Connecticut; 20 children, 6 adults, and the shooter; the kids were between the ages of 5 and 10. There was possibly another person shot before the massacre at the school. The shooter's mother was a teacher at the school and she was killed, but it is pretty clear this was more than just an attack on the mother.

So, if you see the flags at half mast today, this is why. We've seen it before at Columbine, at Virginia Tech, at Aurora, and just earlier this week in a mall in Portland. This time it was especially horrible because it was mostly children; the innocents. It is estimated that there are 87 gun related deaths per day in the US, and this week it was kids.

I understand that tragedy is a part of life. I understand that other places in the world experience tragedy. What is happening in Syria is tragic, what is happening in the Sudan is tragic. What is happening in Afghanistan is tragic. None of that discounts the tragedy in Connecticut. Thoughts and prayers and consolation for the victims are appropriate and comforting to some extent, but there should be something more. Something is wrong in this country.

I have no great expectations. The politicians in Washington don't engender expectations of greatness. Sometimes I wonder how they manage to install their shoes on the feet each morning. The current debate over the fiscal cliff keeps sliding back to accusations and fear mongering. These aren’t normal negotiations in which each side presents specific proposals, and horse-trading proceeds until the two sides converge. By all accounts, Republicans have, so far, offered almost no specifics. They claim that they’re willing to raise $800 billion in revenue by closing loopholes, but they refuse to specify which loopholes they would close; they are demanding large cuts in spending, but the specific cuts they have been willing to lay out wouldn’t come close to delivering the savings they demand. Part of the problem is that they want to cut Social Security, Medicare and Medicaid, but those are popular programs. If you tell someone that they are going to lose “X” dollars each month from their Social Security check, they'll get angry. So the talks are stuck.

Jamie Dimon, the CEO of JPMorgan Chase would like to see the fiscal cliff talks get unstuck. He says he's even willing to pay higher taxes on his own income of about $23 million a year. But JPMorgan, the bank, is not willing to pay more. The bank has spent millions on lobbyists to avoid paying tax on its foreign income. The corporate tax break is known as the "active finance exception," and it allows multinational companies to earn interest on overseas lending and defer paying taxes to the U.S. government indefinitely. Technically, the "active finance" exemption expired at the end of 2011, but Congress is expected to extend it once again at the urging of lobby groups.

Citizens for Tax Justice reports that a little more than half of the companies in the Fortune 500 have at least $1.6 trillion-dollars in untaxed profits parked offshore. Just 20 of those companies, including multinational behemoths like Apple, GE and Microsoft, have nearly half of the total, or $794 billion, in untaxed offshore profits.

If the federal government could tax that $1.6 trillion at the statutory 35 percent tax rate, then it could raise $560 billion -- more than enough to cover the cost of making all of the Bush tax cuts permanent. The government isn't able to tax that money at 35 percent, of course, partly because companies can deduct the amount of money they have already paid overseas. After all, nobody wants to tax companies twice for the same income. The trouble is that these companies never bring that money back home, and the IRS gets nothing.

So, the companies are hiring lobbyists to try to change what's known as the territorial tax system. The idea is that companies wouldn't pay any US taxes on overseas profits as long as they could prove they paid foreign taxes. Here's how it works. Last year Apple paid 1.9% in foreign taxes; the year before they paid 2.5% in foreign taxes. A territorial tax system means that they wouldn't have to pay US taxes on that money because they already paid the foreign tax.

You've heard about the Fix the Debt campaign; 82 companies that sent representatives to Washington to look for a bipartisan solution to the debt problem, as long as it doesn't mean they have to pay their fair share of taxes; because if a territorial tax system is put in place just 63 of those 82 companies would save approximately $135 billion.

In a Bloomberg BusinessWeek article, Leslie Patton writes about a McDonald's employee in Chicago. His name is Tyree Johnson. The 44-year-old has worked at the fast food chain for two decades, yet still makes just $8.25 an hour, and doesn't get 40 hours a week of work. So Johnson has jobs at two Chicago McDonald's. Twice a month he goes to church food pantries to stock up on cereal, soup and powdered milk. Johnson would have to work for 1.1 million hours to earn the $8.8 million that McDonald's CEO James Skinner was paid last year. If he worked for 40 hours a week, every week of the year, that would take five centuries.

The Department of Labor reports Americans earning hourly wages didn’t see their average pay go up at all over the last year. Not even a little bit. Real average hourly earnings and real average weekly earnings were unchanged at 0.0 percent over the past year, adjusting for inflation.

The number of people who applied for new U.S. unemployment benefits last week fell below Pre-Sandy levels and were near a four-and-a-half-year low. So, there are apparently some jobs, just not money.

Don't despair, prices dropped. The Labor Department also says the consumer price index dropped a seasonally adjusted 0.3% last month. Gas prices were lower. The Commerce Department reports retail sales rose 0.3% last month after declining 0.3% in October, but when you factor in falling gas prices, sales were actually more than twice as strong. Instead of paying more at the pump, consumers bought a variety of goods such as autos, electronics, appliances, building materials, clothing, meals and liquor, home furnishings and personal-care products. Retail spending has climbed 3.7% in the past 12 months, a pace consistent with a U.S. economy expanding at about 2% a year. When we get it we spend it.

Yesterday, we talked about the Federal Reserve's new target, or guidepost specific monetary policy; they'll continue quantitative easing until the economy hits 2.5% inflation or 6.5% unemployment. Yesterday, I questioned how that would work without triggering a rush for the exits. Today, Dallas Federal Reserve President Robert Fisher said he was extremely concerned that it would become increasingly difficult to exit the Fed’s accommodative monetary policy.

Fisher said: “We are at risk of what I call a ‘Hotel California’ monetary policy, referring to the Eagles’ song, where we can check out any time we want from this program, but we can never leave.”

So, Fisher gets the quote of the day award.

Thursday, December 13, 2012 - Federal Reserve Targets

Federal Reserve Targets

by Sinclair Noe

DOW – 74 = 13,170
SPX – 9 = 1419
NAS – 21 = 2992
10 YR YLD +.03 = 1.73%
OIL - .67 = 86.10
GOLD – 14.30 = 1697.30
SILV - .91 = 32.64

What happens when the unemployment rate gets to 6.7%? Or when the inflation rate gets to about 2.4%%? Yesterday, the Federal Reserve announced it would keep interest rates at super-duper low levels and they would buy about $85 billion dollars a month in mortgage backed securities and Treasury bonds until the unemployment rate drops to 6.5% or until inflation kicks up to about 2.5%. So, what happens when the unemployment rate hits 6.7% or inflation hits 2.4%?

The next question, and it is probably going to turn into an obsession for market traders trying to figure which target gets hit first, inflation or unemployment. Of course, that is working on the assumption that Fed policy will improve the jobs picture and that the Fed's policy will result in inflation. Maybe. What we know with greater certainty is that the Fed's policy is a boon for banks. They can offer loans and keep a very wide spread, also known as a profit. And the banks can be very particular about the quality or vintage of loan they make; which in turn keeps the spread high. The banks don't really need to make mortgage loans to consumers;Ttey can get an even bigger spread on high interest credit card accounts; they can get an even higher interest on payday loans (yes, some of the biggest banks are involved in payday lending, not in their own name, but they make short-term loans at rates that would make Tony Soprano blush), and of course, the banks can make really big spreads gambling on derivatives. (Remember the London Whale?)

Low interest rates should lower the cost of capital, and that should encourage businesses to borrow money for expansion and hiring. The problem is that businesses only expand and hire when they are growing their business, not just because money is cheap. You don't hire a new employee because interest rates are at historic lows, you hire a new employee because you need to fill an order. The problem is that most businesses aren't getting new orders because consumers are holding onto their dollars until the eagle grins. The only way to get more business is to have more people in more jobs earning more money. While there have been jobs added to the economy since the Meltdown of 2008, there are just enough jobs to keep up with the population growth, and the median wage keeps dropping.

Corporate profits keep growing; they're at the highest share of the overall economy than at any time in the post World War II era, but wages are taking the smallest share than at any time since the post World War II era. So, the Federal Reserve has stepped into the breach with a fairly clear cut definition of their job responsibilities; their dual mandate is price stability and maximum employment; even though the employment part has largely seemed an afterthought for most of the history of the Fed. Nonetheless, Fed Chairman Bernanke sounded sincere when he said yesterday: "The conditions now prevailing in the job market represent an enormous waste of human and economic potential."

And the Fed's plan to buy Treasuries and MBS doesn't really go to the heart of the problem. So what happens when the inflation rate gets to about 2.4% or the unemployment rate gets to about 6.7%? Well, first off, it is highly unlikely that both the inflation rate and unemployment rate will move with pure synchronicity. If inflation picks up but hiring doesn't, well tough luck job seekers. And if the jobs picture improves without sparking inflation, why not just keep the policy in place and see if we can find a job for everyone who wants to work?

Previously, the Fed had promised to keep rates near zero until mid-2015. Fed officials still think that’s the earliest they’ll tighten, but feel more comfortable tying that decision to the state of the economy than the calendar. Yesterday, Bernanke claimed that the target isn't really a target, saying: “What it is, is a guidepost [to] when the beginning of the reduction of accommodation could begin. It could be later than that, but at least by that time, no earlier than that time. So it's really more like a reaction function or a Taylor rule, if you will -- I'm ready to get the phone call from John Taylor. It is not a Taylor rule, but it has the same feature that it [says] how our policy will evolve over time as the economy evolves.”

By the way, the Taylor Rule isn't really a rule, it's more like a guidepost, and it says the central bank should change the nominal interest rate in response to changes in inflation, output, or other economic conditions, and the basic rule of thumb is that for each one-percent increase in inflation the central bank should raise the nominal interest rate by more than one percentage point.

I'm sure Mr. Bernanke has given this careful consideration but we haven't really heard how the Fed will get out of this mess. If thresholds were simply another way to express the liftoff date for the Fed funds rate, it really wouldn't be a big deal. But set against several steps taken earlier this year, it's actually a fundamental re-positioning of how the Fed operates. It began in January when the Fed articulated that unemployment and inflation would get equal consideration in deciding when and how much to adjust interest rates. In September came the application of this new way of thinking; they announced the Fed would buy $40 billion a month of mortgage backed securities by creating money (“quantitative easing”, or QE) until the labor market had improved “substantially.”

With the latest decision it has quantified “substantially”; it is 6.5% unemployment..., or 2.5% inflation. What all these steps do is attempt to harness the public's expectations to leverage the stimulative effect of monetary policy. If investors believe the Fed will tolerate inflation above target, they will drive long-term interest rates lower even in the face of inflationary pressure. If the public believes the Fed is serious about unemployment, they will spend and invest more, helping to bring lower unemployment about. At least in theory.

But what if it is not at all clear the Fed's tools can deliver the lower unemployment it wants. If the public shares that skepticism, the expectations effect won't work. The Fed did say it would step up QE to $85 billion a month, and the markets responded with a yawn and actually closed down on the news yesterday. What if QE4, or whatever we're not supposed to call it, suppose it doesn't work. Or consider the analogy from PIMCO's Mohamed El-Erian, who said: “Consider ... the competing emotions a patient feels when confronted with news of a new drug that is yet to go through clinical testing. Professional investors welcomed the news that the Fed is "all in" when it comes to trying new drugs to stimulate the economy. And they fully understand that the transmission mechanism runs right through the equity markets. As Bernanke has stated, the Fed is looking to "push investors to take more risks." Hence the initial positive reaction to the announcement...As the day proceeded, investors realized that, like any experimental drug, there is a material risk of complications. After all, the Fed's operational modalities are not straightforward; the analytical underpinnings are far from robust; and the Fed's prior experimental measures have not succeeded in generating sustainable growth.”

Even Fed Chair Bernanke seemed to have doubts; he said: “the ability to provide additional accommodation is not unlimited.” In other words, this better work, or the whole thing is going to get ugly, and the Fed has limited tools, or at least tools that the Fed is not willing to display to the public. The truth is that the Fed is clothed in immense monetary power, and they have many, many more tools at their disposal, although some of those tools are extremely controversial. Still, you have to think this was a way for Bernanke to say to the knucklehead politicians that they need to get their acts together.

And on top of that, there has been no answer to the question: what happens if or when inflation gets to 2.4% or unemployment gets to 6.7%? At some point the Fed has to exit QE to infinity and beyond. And now the markets have a specific target, or at least guideposts. And you've got to suspect the bond vigilantes are sitting back and waiting to pounce. Unemployment near target? Look for a massive short on Treasuries, look for credit default swaps to jump, look for stocks to take a nose-dive, which in turn would cause businesses to batten down the hatches, freeze hiring, and possibly crater the economy. It's possible that by setting a target, we'll never get there. Of course, it's not easy for the bond vigilantes; remember it is not just the Fed but really all the central banks of the world have come together; and remember the old saying, don't fight the Fed.

Wednesday, December 12, 2012 - Life is Beautiful and Easy

Life is Beautiful and Easy

by Sinclair Noe

DOW – 2 = 13,245
SPX +0.64 = 1428
NAS – 8 = 3013
10 YR YLD +.05 = 1.70%
OIL +.99 = 86.78
GOLD + 1.20 = 1712.60
SILV +. 45 = 33.55

And now, the DC Players present: The Grinch Who Stole Christmas, starring John Boehner.

Speaking to reporters this morning, Boehner said: “We’re going to stay here right up until Christmas Eve, throughout the time and period before the New Year, because we want to make sure that we resolve this in an acceptable way for the American people.”

Yesterday, we told you reporters in Washington were optimistic a deal could be reached; and we told you that story literally dripping with sarcasm, because we were fairly certain it was just idiot reporters projecting their own fantasy that they could spend the holidays with family and people posing as friends; it was a last gasp hope to shame inept and incompetent politicians to get a deal done. It didn't work.

Republicans and the White House appeared no closer to a deal, as both sides pressed each other to cede ground. Republicans want to extract spending cuts from the White House while the Obama administration is demanding that taxes go up for the wealthiest 2% of Americans.

Wow, I just had a feeling of deja vu. It's almost like I've heard this before.

Washington has a way of diverting the nation's attention on tactical games over partisan maneuvers that are symptoms of a few really big problems, but we almost never get to debate or even discuss the big problems because the tactical games overwhelm everything else. The bigger debate is over whether we should be embracing austerity economics and reducing the budget deficit in the next few years (which has been tried in Europe with alarming failure) or, alternatively, using public investments to grow the economy and increase the number of jobs, which increases demand, which forms a virtuous circle.

Even this larger debate is just part of of a bigger debate; why we still have poverty, why median wages continue to drop at the same time income and wealth are becoming ever more concentrated at the top, and what can and should be done to counter the trend.

With a shrinking share of total income and wealth, the middle class and poor simply don't have the purchasing power to get the economy back on solid footing. The wealthy don't spend enough of their income or assets to make up for this shortfall, and they invest their savings wherever around the world they can get the highest return. As a result, consumer spending, 70 percent of economic activity, isn't up to the task of keeping the economy going. This puts greater pressure on government to be purchaser of last resort.

So why are none of our political leaders looking beyond the cliff, planning for what happens next? Far from having a debate about how to grow the economy, all they're currently talking about is how to preserve the status quo; and as we all know, the status quo is that life is beautiful and easy. I'm sure we can all agree.

Why is life so beautiful and easy? Because there is a man, a jolly old man with a white beard; yes Virginia there is a Federal Reserve Chairman, and today he promised that he will fly in a sleigh, all across the land, throwing out gobs of money until the unemployment rate drops to 6.5%. Yes, the jolly old elf himself, Ben Bernanke announced QE4, but don't call it that. Whatever you're not calling it, the Federal Reserve sent its clearest signal to date that it will keep interest rates super-low to support the economy even after the job market has improved significantly. The Fed said it plans to keep its key short-term rate near zero until the unemployment rate reaches 6.5 percent or less – as long as expected inflation remains tame. Unemployment is now 7.7 percent.

That plan adds detail to what the Fed had said before: that it expects to keep the rate low until at least mid-2015. For the first time, the Fed is making clear to investors and consumers that it will link its actions to specific economic markers. Bernanke said, "This approach is superior" to setting a timetable for a possible rate increase, "It is more transparent and will allow the markets to respond quickly and promptly to changes" in the Fed's economic outlook.

Bernanke made clear that even after unemployment falls below 6.5 percent, which will probably happen in 2015; at least that is the guess. It is kind of a gloomy guess. It means all the stimulus doesn't really kick in like a V8 motor, more like a MoPed. And that means the economy is so weak that even a boost of $85 billion a month isn't enough to get us rumbling down the highway. Or maybe it means that the $85 billion a month isn't going to the right places to stimulate the economy. Undeterred, the Fed might decide that it needs to keep stimulating the economy well past 2015 or well past 6.5% unemployment. Other economic factors will also shape the Fed's monetary policy decisions.

Surely, one consideration is whether any of the Fed's machinations can actually get money to start moving through the economy with a little more velocity than a poorly tuned scooter. Part of the idea behind suppressing interest rates is to spur lending, but if you're not borrowing now, nothing from today's announcement will get you to borrow; the other motivator is to force investor cash off the sidelines and into the stock market, or into anything.

The Fed updated its forecasts anticipating unemployment to remain at least 7.4 percent next year and 6.8 percent by the end of 2014. The earliest it sees unemployment dropping below 6.5 percent is the end of 2015. The Fed predicts the economy will grow no more than 3 percent next year before picking up to as much as 3.5 percent growth in 2014 and as much as 3.7 percent in 2015. Now, we all know the Fed's prognosticating abilities are roughly on par with the bicycle riding abilities of a fish, but let's look on the bright side. They have a printing press and they are not afraid to use it.

In a statement after its final policy meeting of the year, the Fed said it will also keep spending $85 billion a month on bond purchases to drive down long-term borrowing costs and stimulate economic growth. The Fed will spend $45 billion a month on long-term Treasury purchases to replace a previous bond-purchase program of an equal size. And it will keep buying $40 billion a month in mortgage bonds.

The latest bond-buying program would replace an expiring program called Operation Twist. With Twist, the Fed sold $45 billion a month in short-term Treasurys and used the proceeds to buy the same amount in longer-term Treasurys. Twist didn't expand the Fed's investment portfolio, it just reshuffled the holdings. But the Fed has run out of short-term securities to sell. So to maintain its pace of long-term Treasury purchases and to keep long-term rates low, it must spend more and increase its portfolio. So, the Twist is being replaced by out-and-out purchases. So, in a way, it is just a continuation of the Twist; the level of bond buying remains the same, just that the Fed's portfolio looks a little ugly, but when you have a printing press, you really don't have to worry about aesthetics.

With its new purchases of long-term Treasurys, the Fed's investment portfolio, which is nearly $3 trillion, will swell to nearly $4 trillion by the end of 2013 if its bond purchase programs remain fully in place. Plus everyone gets cookies and oranges in their Christmas stocking because life is beautiful and easy.

As long as we don't go over the cliff.

If the politicians go over the cliff, Bernanke says there will be pain; sharp tax increases and government spending cuts cannot be overcome by misdirected stimulus. Just the thought of the fiscal cliff threatens economic well-being and a possible recession.

So clear your mind of all negative thoughts, it just drags down the economy. Remember, life is beautiful and easy.

Tuesday, December 11, 2012 - If Banks Could Kill They Probably Will

If Banks Could Kill They Probably Will

by Sinclair Noe

DOW + 78 = 13,248
SPX + 9 = 1427
NAS + 35 = 3022
10YR YLD +.03 = 1.65%
OIL +.09 = 85.65
GOLD – 2.20 = 1711.40
SILV - .27 = 33.10

If all goes according to plan, in about 13 days, a star will rise in the east somewhere over Washington DC, signaling the birth of a new budget deal. If you're waiting for three wise men, don't hold your breath, because they couldn't find them in our nation's capitol. With just days to go before the nation slides down the fiscal Cliff Clavin of tax increases and spending cuts mandated by our confederacy of dunces to take effect with the passing of the arbitrary date on a calendar, there are signs that a deal to avoid the slide is near.

Pert' near every reporter in Washington says a deal is imminent. Just this Sunday, Obama and Boehner met in secret, well, not exactly a secret, and they did something, maybe they came up with a deal, maybe they barbequed some brats and watched some football, but their silence on the subject speaks volumes. Their silence almost provides proof positive that a bipartisan deal must be something that might have possibly been a part of the silent conversation, or not; but hey, it looks like a deal, except for all those pesky details. And it only took two years, possibly, of unnecessary uncertainty and sovereign debt downgrades to hammer out an agreement to whup the economy upside the head with a two by four without totally destroying it, rather than figuring out a way to grow the economy. Hallelujah, we have something that might be close to a deal, but nobody is saying anything.

Meanwhile, the Fed is meeting to consider monetary policy; and you never know what those wild and crazy guys will come up with. Meanwhile, the Treasury Department is dusting off its book of magic monetary incantations which includes “extraordinary measures” in the event the politicians do a lemming imitation and run off the cliff, and fail to come to a consensus on the debt ceiling, which means paying the bill for money already spent. The extraordinary measures would allow the Treasury to continue to send out checks for things like Social Security, military salaries and other payments. The U.S. was about $67 billion under the $16.394 trillion debt ceiling as of Friday. That’s small change in a world of trillion-dollar deficits and billions in monthly borrowing.

Treasury expects to bump up against the cap, which is set by Congress, very near the end of this month. Lawmakers may not raise it before then — the debt limit has become entangled in fiscal cliff talks. The White House wants to be able to raise the debt ceiling without political drama, though Republicans see their authority over the cap as a crucial bargaining chip. So, the Treasury could play with the numbers and some bonds and keep the government open for a few weeks. After that, who knows? Maybe the government will have to force PBS to fire Big Bird. Maybe the government could shorten the workweek for the Coast Guard; you know, an unpaid furlough. Maybe, they could raise the cost of a fishing license to $50,000. I know some people who would pay. Maybe they could get a loan from a big insurance company.

The Treasury Department says it plans to sell its last remaining shares in AIG, the insurance giant that would have toppled in 2008 without a federal takeover. Washington essentially nationalized AIG in a fit of financial panic, out of fear that AIG's collapse would have taken much of the financial system with it. Instead, the government committed $182 billion to AIG, making it the largest bailout of any single company. The General Motors bailout, at about $52 billion, cost less than one-third what the feds provided to AIG. Treasury expects the government to earn a net profit of $22.7 billion on the AIG bailout, once it sells its remaining shares. That amounts to roughly a 3 percent annual return

The ugliest part of the AIG bailout was the discovery in 2009 that $62 billion in taxpayer funds disbursed to AIG ultimately went to big banks that had contracts with AIG, including Goldman Sachs, Merrill Lynch, Bank of America and even a few foreign firms. They paid off AIG trading partners at 100 cents on the dollar, when those same partners would have gotten a fraction of that amount if AIG had declared bankruptcy. This is when we learned the great untold secret about AIG; it isn't really an insurance company; no self-respecting insurance company would ever pay 100 cents on the dollar for any claims. Instead, we learned that AIG was just a conduit to funnel taxpayer money from Washington to Wall Street.

But, hey, the deal was done, and now the Treasury can sell a few more shares and turn a profit. All's well that ends well.

Not exactly.

Nearly one-third of the AIG stock that the Treasury is selling came from the Federal Reserve, not from the Treasury's bailout program. Plus, there was a little side deal that was a part of the bailout that gives AIG a waiver on billions in future tax payments. I'm not saying I wanted to see AIG destroyed, but it was painful to see the bailout and then the lavish bonuses, and to never see anybody from AIG go to jail for anything. We shoulda had at least one perp walk for our money. But, a global financial meltdown was averted and it won't happen again..., because, umm...., because maybe we'll get lucky next time?

Right now, the Federal Reserve is regulating AIG because AIG owns a small bank, but AIG is planning to sell the bank, and when that is done there will be no government regulator of AIG's non-insurance financial activities, which was the problem that almost destroyed AIG. There may be one option; if the Fed declares AIG to be a systemically important financial institution, then they would continue to be regulated, presumably.

Of course, systemically important financial institution is just another way of saying too big to fail, which is another way of saying too big to jail. Case in point; HSBC. The Treasury Department notes that HSBC allowed “hundreds of millions of dollars” from Mexican drug trafficking organizations to flow though accounts in the U.S” even though the bank had “substantial resources” to limit money-laundering risks.

Specifically, $881 million in drug trafficking proceeds by the Sinaloa Cartel in Mexico and the Norte del Valle Cartel in Columbia were laundered through HSBC’s U.S. unit without being detected by the bank. The British banking giant had to pay a $1.9 billion dollar fine for money laundering with Iranians, Mexican drug cartels and such; it sounds like a lot of money, but it's really like a traffic ticket for you or me.

Today, the NY Times quotes anonymous government officials who say they were skittish about indicting HSBC because formal charges would amount to a "death penalty" for the bank, potentially roiling the financial system. Which reminds me of a quaint old saying: “With liberty and justice for all,” or maybe it was “equal protection under the law,” or some such nonsense because if you are a big bank, the law does not apply.

Not a single HSBC individual faces criminal prosecution. Nor have any individuals been charged at the five other big European banks that have also managed to dodge formal money-laundering charges in recent years, including British bank Standard Chartered, which entered its own deferred prosecution agreement on Monday. Apparently, all of this constant money laundering was done by robots.

The message is clear, if you are going to launder money to terrorists and drug cartels, do it under the protective umbrella of a large bank, because apparently the government is afraid of the big bad banks. And that means that if you are a bank and you're big enough, you're basically going to get away with creating and selling toxic securities while also betting against them and trigger a global depression without having to worry about doing any jail time. If you are part of a big bank you can get away with everything short of murder. Bankers can't actually murder people, all they can do is launder dirty money for terrorists and drug cartels which do the actual murdering. It's a technicality, but it is worth noting.

Meanwhile, Italy is still Italy. Over the weekend, Italian Prime Minister-slash-technocrat-slash-commisar, decided to resign. There was great wringing of hands and gnashing of teeth; how could Italy survive? Worse still, would former Italian Prime Minister Silvio Berlusconi rise up from his bunga bunga bed to make a run at the post? Would Monti's resignation usher in an era of instability in Europe's third largest economy? Which is a little crazy considering the unemployment, and protests, and riots, and instability throughout much of Euro-land, including Italy.

New figures out this week showed Italy’s gross domestic product down 2.4% from the year-ago period — the fifth quarterly decline in a row; and industrial production off 1.1% in October from the previous month, the 14th consecutive monthly decline. Under Monti, unemployment in Italy has risen to more than 11% and youth unemployment tops 36%, with countless more young Italians leaving the country for better opportunities elsewhere.

The austerity policies, designed to reduce the deficit by raising taxes and reducing government spending, are having trouble reaching their deficit targets because the GDP keeps falling, and so the debt to GDP ratio grows, even as spending is cut to the bone. Italy’s debt-to-GDP ratio has swollen to an estimated 126% this year. So, most of the politicians that are thinking about running for Prime Minister have pretty much fallen in line with the Euro-powers-that-be in Brussels. And Italian voters who have lived with an unelected government for the past year will soon have a choice of pre-approved candidates. Let's hope they choose wisely.

According to the Public Company Accounting Oversight Board, the nation's top accounting regulator, accounting firms have a problem with actual accounting. The PCAOB report released yesterday "said the eight biggest accounting firms failed in 22% of the audits it reviewed last year to gather enough evidence to support opinions issued by the firms that claimed a company's internal controls were effective."

Actually, that explains a lot.

Monday, December 10, 2012 - The Fed After the Twist, Italy After Monti, China After 2030, Warming After Doha

The Fed After the Twist, Italy After Monti, China After 2030, Warming After Doha

by Sinclair Noe

DOW + 14 = 13169
SPX +0.48 = 1418
NAS + 8 = 2986
10YR YLD -.01 = 1.62%
OIL -.25 = 85.68
GOLD + 8.10 = 1713.60
SILV + .16 = 33.37

Economic reports due this week are not likely to be market movers. Tomorrow we'll see data on wholesale trade, plus the trade deficit; a report on how many new job opening exist. Later in the week, we'll find out about retail sales. The big event this week is the Federal Reserve FOMC meeting Tuesday and Wednesday. The Fed will be looking at the unemployment numbers from Friday. The unemployment rate fell to 7.7% from 7.9%, but that was because more people dropped out of the labor force. Usually that’s not a good sign because it means jobs are harder to find. Ultimately the Fed wants to see the jobless rate fall to 6% or less, the same levels that prevailed before the 2008 meltdown.

Nobody seems to think there will be a big uptick in new jobs. Lackluster hiring means consumer spending is unlikely to rocket higher. Too many people remain out of work and the growth in the average worker’s paycheck isn’t even keeping up with the low increase in annual inflation. Business are waiting for the consumer to spend, consumers are waiting for businesses to hire. Something needs to happen to kick start the economy, a jolt of stimulus, but don't hold out for any major announcements from this week's FOMC meeting. Bernanke should be able to point to the fact that a much-needed recovery in the housing sector has taken hold. And that's partly due to the Fed's effort to reduce mortgage rates and keep them low. Hiring has continued at a modest pace; in other words, nothing that would cause the Fed to do anything dramatic.

The Fed will need to make a decision on Operation Twist. The policy, set to end this month, let the Fed sell short-term Treasuries it already owns in order to buy longer-term bonds. The basic goal of Twist has been to lower long-term interest rates without having to increase the dollar amount of the assets on its books. Here's the problem though. The central bank is quickly running out of short-term bonds available for it to swap in a one-for-one exchange. So, the Fed might just look at some kind of an outright bond purchase program.

The Fed could double down on its purchase of mortgage-backed securities, which currently totals $40 billion a month. That program puts downward pressure on mortgage rates. The Fed announced this third round of quantitative easing, or QE3, in September.

Or, the Fed might say it will buy more Treasury bonds as a way to keep longer-term interest rates low, maybe $45 billion a month in bond purchases. Treasury purchases without offsetting sales would expand the Fed's bond portfolio, pumping more cash into the economy but also making it more difficult to eventually sell the bonds to head off inflation.

Or, the other option is the Fed waits until the new year and to see how Congress handles the fiscal cliff, and then they'll know whether they need to do something dramatic or not.

President Obama and House Speaker Boehner held closed door meetings at the White House yesterday. No announcements were made; your guess is as good as mine. President Obama traveled to Michigan today to push for his proposed extension of tax cuts for middle class earners. The president's message in Michigan will be that the economy is rebounding and Congress should not risk that progress to save tax cuts for the rich. Meanwhile, there is a political battle in the state about union recognition.

President Obama threw his support behind labor unions opposed to a Republican-led drive for "right-to-work" laws in Michigan, saying efforts to pass such measures were not about economics but about politics. Obama used a visit to an auto plant to weigh in on the controversial push in the state legislature to impose new restrictions on unions.

Obama told a crowd of workers at the Daimler Detroit Diesel plant in Redford, Michigan: "What we shouldn't be doing is trying to take away your rights to bargain for better wages and working conditions. These so-called right-to-work laws, they don't have to do with economics, they have everything to do with politics. What they're really talking about is giving you the right to work for less money."

Union members and others opposed to Michigan becoming a right-to-work state plan major protests in the state capital, Lansing, this week. Organizers expect thousands at a rally tomorrow when the state legislature reconvenes. With Republicans in control of the legislature and the Republican governor committed to sign the laws, Michigan could become the 24th right-to-work state by the middle of the week.

The rest of the world watches to see if the fiscal cliff can be resolved, and with the International Monetary Fund's managing director Christine Lagarde warning of "zero growth" in the US as a worst case scenario: The International Monetary Fund has already lowered its growth estimate for next year for the United States to 2.1%, and Lagarde reiterated that the implications of going over the cliff would be precipitous. She said, "If the US economy was to suffer the downside risk of not reaching a comprehensive deal, then growth would be zero."

Italian equities and bonds sank after Prime Minister Mario Monti's decision to resign stoked concern about who will lead the euro zone's third biggest economy out of its debt crisis. The euro initially weakened on the news out of Italy, but it managed to rebound against the dollar and pared most losses versus the yen; the reaction to Monti's resignation may have been overdone. Monti announced over the weekend he would resign once the government's 2013 budget is approved, potentially bringing forward an election due early next year. Monti became an investor favorite over the past year as he spearheaded a reform agenda to rescue Italy from the threat of a Greek-style collapse.

Commodities markets rose on data that showed factory output in China, the world's No. 2 economy accelerated to an eight-month high in November. Copper prices hit their highest level in almost two months.

A new intelligence report says that by 2030 Asia will overtake North America and Europe combined in global power based on gross domestic product, population, military spending and technological investment.

China alone will probably have the largest economy, surpassing that of the United States a few years before 2030. Meanwhile, the economies of Europe, Japan, and Russia are likely to continue their slow relative declines.

The report, "Global Trends 2030: Alternative Worlds,"  www.dni.gov/nic/globaltrends. was issued by the National Intelligence Council, an analytical arm of the U.S. government's Office of the Director of National Intelligence. The report says that despite the economic power of China, the United States is expected to retain its superpower status because it still is the only country able to pull together coalitions and mobilize efforts to deal with global challenges.

The report claims China isn't going to replace the US on a global level,and while being the largest economic power is important, it isn't necessarily the largest economic power that always is going to be the superpower.

China recognizes that it cannot play that role of organizing across regions and across state-nonstate boundaries. The health of the global economy increasingly will be linked to progress in the developing world rather than the traditional West.

HSBC is apparently ready to settle money laundering charges for $1.9 billion. The settlement with HSBC stems from accusations that the British banking giant transferred billions of dollars on behalf of sanctioned nations like Iran and enabled Mexican drug cartels to launder money through the American financial system. The deal will force the bank to forfeit more than $1.2 billion in ill-gotten gains and pay additional penalties.

Since January 2009, the Justice Department, Treasury and the Manhattan prosecutors have charged six foreign banks, including Credit Suisse and Barclays. In June, ING Bank reached a $619 million settlement to resolve claims that it had transferred billions of dollars in the United States for Cuba and Iran.

Earlier today, federal and state authorities announced a $327 million settlement with Standard Chartered. The British bank, which in August agreed to a larger settlement with New York's top banking regulator, admitted to processing thousands of transactions for Iranian and Sudanese clients through its American subsidiaries. To avoid having Iranian transactions detected by Treasury Department computer filters, Standard Chartered deliberately removed names and other identifying information

The Doha Climate Change Conference wrapped up this week. As Doha kicked off, we had just seen the effects of Hurricane Sandy, meanwhile environmental groups were prepared with a lineup of grim studies on just how far the world has fallen short on its environmental efforts. Carbon dioxide emissions hit a record high last year. Yet nations around the world, despite a formal treaty pledging to limit warming, and 20 years of negotiations aimed at putting it into effect, have shown little appetite for the kinds of controls required to accomplish those stated aims. There were no new emissions targets up for discussion at Doha. Commitments of monetary aid have been drying up.

Friday, December 7, 2012 - A Date Which Will Live in Infamy, Plus the Jobs Report

A Date Which Will Live in Infamy, Plus the Jobs Report

by Sinclair Noe

DOW + 81 = 13,155
SPX + 4 = 1418
NAS – 11 = 2978
10 YR YLD +.05 = 1.63%
OIL - .27 = 85.99

GOLD + 4.50 = 1704.50
SILV + .08 = 33.11

Today marks the 71^st anniversary of the attack on Pearl Harbor. There were of course, memorials in Hawaii and around the country. I've seen a few of the pictures. Each year the number of Pearl Harbor survivors that attend these memorials, their number grows smaller and their ranks thin. If you know a veteran of World War II, be sure to take time to recognize their stories, be sure to say thanks.

Today's major economic data was the monthly jobs report; widely expected to be weak due to the effects of Hurricane Sandy. Instead, it came in relatively strong. The headline numbers: the economy added 146,000 jobs in November, and the unemployment rate dropped to 7.7%, a four year low. The Labor Department claimed that the effect of Sandy on the report was minimal, saying in a statement, “Our analysis suggests that Hurricane Sandy did not substantively impact the national employment and unemployment estimates for November.”

In other words, we should not look at this report as surprisingly good given the effect of the hurricane. Rather, the Labor Department claims that the jobs numbers should be analyzed without taking the storm into account at all. And by that standard, not only were the job numbers weak, there were some underlying problems. To be counted, a person would needed to have been out of work for three weeks or so on Nov. 12. The storm hit Oct. 29. Only a few workers met the length criteria. So, some of the storm's negative effects will likely show up next month.

This month's number beat expectations of 75-80,000 jobs, but that was considering the hurricane. Taking out the effects of the hurricane the number was below the average job growth per month of about 150,000 over the past two years. It is growth but it is sluggish and not enough.

First, this is the initial report; there will be revisions. Each month, the Labor Department issues its estimate for the previous month’s job growth, but it also issues revisions for the two months prior to that as well. And this report showed a net downward revision of 49,000 jobs. So really this report gave us a net job gain of 97,000 — a much less impressive figure than the headline 146,000; and there will be revisions.

The report also showed a decrease in construction employment of 20,000 jobs. If Sandy did in fact have a minimal effect on the report then this is strange, because recent housing start data has been positive; just this week the Commerce Department announced that construction spending increased in October, showing the continuance of a positive trend. So, if construction spending is increasing it should show up as jobs, unless construction spending isn't really increasing or perhaps because Hurricane Sandy had a bigger impact on these numbers than the Labor Department’s statement suggests.

After showing a solid 0.3% gain last month, the participation rate — or the percentage of adult workers in the workforce — declined once again by 0.2%. That drop in the participation rate appears to be the primary reason the unemployment rate dropped to 7.7%, as the household survey actually showed a net decline in jobs. While some of the overall decline in the participation rate has been driven by demographic reasons — an older country is going to have fewer people able to work — that only tells part of the story. Some of the decline in participation is undoubtedly a product of a depressed economy, and a true jobs recovery would have this number moving upwards, rather than the other way around.

Roughly 350,000 Americans left the labor force in November, lowering the rate, partly due to bad weather keeping Americans from working. The ranks of the long-term unemployed—those without a job for 27 weeks or more—fell only slightly to 4.8 million from 5 million.

One thing not indicated in the report is a negative effect of the fiscal cliff. But November's figures also show that jobs are growing too slowly to significantly lower unemployment or boost the economy's overall growth, which faces headwinds. To keep up with population growth, the economy needs to add about 120,000 new jobs every month just to keep the unemployment rate from rising. While any slowdown could prove temporary, even a brief stall will hurt job creation—one of the main things keeping consumers confident.


A survey by the University of Michigan, also released Friday, suggests consumers this month are already feeling markedly less optimistic about the economic outlook, after being more confident than they have been in five years. The Thomson-Reuters/University of Michigan consumer sentiment index's preliminary reading for December slumped to 74.5 compared with 82.7 at the end of last month.

The jobs report revealed a bifurcated economy. Service-related businesses, a broad category including retail, health care and other areas, are fueling much of the nation's job growth. Retail employment alone added more than 50,000 jobs last month. However, the goods-making part of the economy, manufacturing and the housing market, didn't contribute to job growth in November. Construction employment fell by 20,000 and manufacturing lost 7,000 jobs. Government hiring was roughly flat, but declined by about 50,000 in October.

An unusually high number of workers—more than 1 million—worked part-time instead of full-time because of bad weather, the government said. That suggests that some of the 350,000 decline in the labor force, and the drop in the unemployment rate, could be linked to Sandy.

In February, 2011, President Obama went to Silicon Valley and participated in a breakfast meeting of high tech bigwigs. Obama interrupted Steve Jobs to ask what it would take to make iPhones in the USA. Jobs answered: “Those jobs are gone and they're not coming back.”

Well, time change, and a few of those jobs are coming back. Apple will resume manufacturing in the US next year, not much but a few Mac computers will be made here, about $100 million in manufacturing.

Meanwhile, GE is spending some $800 million to re-establish manufacturing in its giant, and almost abandoned facility at Appliance Park, in Kentucky. In February 2012, GE opened an all-new assembly line to make water heaters. In March 2012, GE started a second assembly line to make refrigerators. Another assembly line is under construction make a new stainless-steel dishwasher starting in early 2013. Whirlpool is bringing mixer-making back from China to Ohio. Otis is bringing elevator production back from Mexico to South Carolina. And Wham-O is bringing Frisbee-molding back from China to California.

Chinese wages are five times what they were in 2000 and are expected to keep rising rapidly. And labor is a steadily decreasing percentage of the cost of manufacturing.  Oil prices are three times what they were in 2000. Natural gas in the US is a quarter of what it is in Asia. By moving manufacturing back to the US, time to market also improves dramatically. As a result, that water heater that GE makes, they can now sell it for 20% less.

We have seen a very short-term and I think very poor decision by companies to outsource labor in pursuit of maximizing shareholder gain; and in the short-term it worked, but there was a cost. These executives also outsourced innovation and design and quality, and they decimated the core of their domestic customer base, and they debased their good name and reputation in exchange for a quick pop to the spreadsheet and a boon for bonuses. Most of these firms that outsourced didn't consider the externalities, the hidden costs.

They missed the fact that management needs to have a close working relationship with workers to insure quality and innovation. They also missed the costs and risks of an international supply chain, which is increasingly out of step with the shorter, faster product cycles; and as labor becomes an ever smaller part of the overall process, labor savings become less and less relevant. As products become more high-tech, production is more complicated, and the quality, rather than the cost of labor, becomes a priority.

As it turns out, maximizing shareholder value in the short-term leads businesses to do things that detract from maximizing long-term shareholder value, such as outsourcing, favoring cost-cutting over innovation, the destruction of brand equity, and excessive executive compensation. Outsourcing isn't an isolated event. It's the result of the underlying philosophy of shareholder value.

Fiscal cliff negotiations have devolved into direct talks between President Obama and John Boehner, cutting other congressional players out in effort to streamline the talks. House Speaker John Boehner and House Minority Leader Nancy Pelosi sparred in dueling press conferences today.

Boehner declared there was no progress in the talks. He accused the White House of enacting a deliberate strategy of”slow-walking” the economy toward the fiscal cliff. Pelosi took umbrage at that term. She said Republicans are the ones who have not acted on a bill that’s cleared the Senate, which would extend the Bush-era tax cuts for 98% of the population. Mitch McConnell was apparently too befuddled and so he just filibustered himself.

Today’s jobs report shows an economy that’s still moving in the right direction but way too slowly, which is why Washington’s continuing obsession with the federal budget deficit is insane. Jobs and growth must come first. The fact is some 350,000 more people stopped looking for jobs in November, and the percent of the working-age population currently employed continues to drop — now at 63.6%, almost the lowest in 30 years. Meanwhile, the average workweek is stuck at 34.4 hours.

The slowness of the jobs recovery isn’t because of Hurricane Sandy, and it’s not because of any uncertainty over the looming “fiscal cliff.” Businesses won’t create more jobs without enough customers. But consumers can’t and won’t spend because they don’t have the money. Until the private sector is able to boost the economy we need to invest in the economy. Now is the time to invest. The cost of borrowing is low; the yield on the ten-year Treasury is near historic lows, and the need for more jobs and better wages so high, and our infrastructure needs repair. We need to invest in infrastructure to improve productivity, and that means an investment in jobs.