Thursday, August 22, 2013 - Nasdaq Freezes, Goldman Expresses Interest

Nasdaq Freezes, Goldman Expresses Interest

by Sinclair Noe

DOW + 66 = 14,963
SPX + 14 = 1656
NAS + 38 = 3638
10 YR YLD + .07 = 105.10
OIL + .04 = 2.90%
GOLD + 9.30 = 1377.10
SILV + .30 = 23.29

A few weeks ago, I told you that August has a tendency to be a volatile month in the markets. Volatility can be positive or negative. So far it's been rough sledding. And even when the markets have an up day, it was a mess, a big frozen mess. The Nasdaq shut down for about 3 hours today; trading was halted. More on that in a moment.

The volatility has been largely tied to the Federal Reserve and the idea that they will taper off the $85 billion a month securities purchases known as QE. Probably. The best bet now is that they will start to trim purchases by $15 billion a month in September, and by the middle of 2014, they will try to stop the QE purchases. Once, we thought it would be tied to the unemployment rate or the inflation rate, but now that's just a technicality. Of course, the Fed might not actually stick to this course, but that's the betting for now.

Nasdaq said trading was halted in shares it lists because of problems at its Securities Information Processor, the feed that disseminates quotes and prices. So they stopped all transactions. Boom, a little after Noon Eastern. Buying and selling in some of the most heavily traded shares in the country ground to a standstill. During the halt, nearly every trading firm on Wall Street scrambled to determine what to do with orders for Nasdaq-listed stocks. Under normal conditions, if an exchange has problems, traders can direct their orders to other public exchanges. But because the problems involved the data feed from which prices are derived, all exchanges stopped trading Nasdaq stocks

Options markets were bombarded with erroneous orders two days ago when an internal computer at Goldman Sachs malfunctioned. Options officials at Nasdaq as well as NYSE Amex and CBOE Holdings spent almost a day reviewing orders for cancellation. Some kind of programming error triggered unintended option orders. And within 17 minutes after the markets opened, the damage was done. By some estimates, Goldman could lose up to $100 million.

Goldman’s computers sent “expressions of interest” down to the exchanges; that's what they called it - “expressions of interest”. However, the expressions of interest weren’t what was transmitted. What got fired instead were real orders. The orders were to buy and sell options. Of the estimated 400,000 contracts on 51 different stocks that got executed, and of the 500 biggest orders, 405 orders were sent down on targeted stocks whose tickers start with the letter H, I, J, K, or L. Of those 405 orders, some 130 orders were for 1,000 or more contract lots each. In other words, this was some type of “program.”

The options prices at which Goldman ended up buying and selling were so far outside where the options were actually trading that they lost maybe $100 million. Very un-Goldman-like trading. Goldman has gone a whole quarter without a single day of trading losses. They just don't lose $100 million in a day. And indeed they won't. They are canceling most of the bad trades; not all the bad trades, just most of them.

Now, about that “Expression of interest” thing. Maybe you have bought or sold stocks or even options. Did you ever send out an expression of interest? Nope. What Goldman really did was try to rig the market. They sent out ridiculously low sell orders, for example an order to sell for $1.00, when the current trade was $3.35. They never meant to send a real order though. They were pinging the market, sending fake bids and offers to get market-makers and traders to move their quotes to trigger trades. And ...ooops, somebody hit the trades. It's all part of the high frequency trading game played by the institutional investors and it has nothing to do with legitimate trading, just trying to fleece the unsuspecting sucker that wonders into the casino known as Wall Street.

When things don’t go your way it is really a learning experience – life is like that sometimes. We all have to accept that life isn’t fair and sometimes we lose despite what we think should happen, except for Goldman Sachs, which just goes in and cancels the trades, unwinding the position. And if Goldman was losing on that position, someone stood to profit, except now Goldman is canceling that guys profit, because Goldmann doesn't like to lose. The person who made the opposite bet of Goldman should give them the money back because Goldman was supposed to win. The market is never wrong, never.

Nasdaq has a long history of trading glitches, including squirrels touching off power failures and computer bugs crashing trades; and yes, they've been hacked, and flash crashed. In May, Nasdaq agreed to pay $10 million to settle Securities and Exchange Commission charges related to the initial public offering of Facebook. Regulators cited it for its “poor systems and decision-making” during the IPO in May 2012 that was delayed when software the collects orders fell into a loop. Nasdaq agreed to the settlement without admitting or denying the SEC’s findings. Part of the deal though was to shore up systems and try to avoid further problems. Yea, that didn't happen.

So, now the speculation begins. We've seen a bunch of websites going down over the past couple of weeks: NYTime, Washington Post, CNN. A security flaw is not out of the question. A hardware problem doesn't really make sense because of the redundant nature of the hardware systems.

So, August is normally a volatile month in the markets and this month the blue chips are getting shredded. Many stocks have dropped since the market peak a few weeks ago, but the Dow has managed to lead the drop. While the S&P 500 is down about 3.75% since the beginning of August, the Dow has dropped nearly 4.7%; that's more than 700 points, in case you're keeping track. After this month's hiccup, the Dow is now trailing the S&P on the year. Now the Dow is just 30 stocks, but they are big stocks and they are all down; all 30; every single Dow component has traded lower since August 2^nd.

That doesn't qualify as a catastrophe or a crash or anything nearly so dramatic; just some downside volatility.

So, I'm preparing for today's broadcast and I'm looking at all this nonsense about Nasdaq freeze up and Goldman Sachs trying to rig the markets and then refusing to pay when they screw up, and it hits me that most people really don't care about this. We just let the institutional traders play their games on Wall Street, and maybe this is why more and more people are moving away from the stock market; or getting squeezed out of the markets. It's a rigged game.

And there is a slow and steady movement away from the Wall Street casinos, toward what is sometimes referred to as alternative investments; things we can touch; things that are more local; things we can control. And then it strikes me that most people are just trying to get along from day to day, from paycheck to paycheck, and that's a tough job and getting tougher all the time.

The average American household is earning less than four years ago, which marks the official end of the recession. Based upon Census Bureau data, median household income, once adjusted for inflation, has fallen 4.4 percent in that time. The median, or midpoint, income in June 2013 was $52,098. That's down from $54,478 in June 2009, and it's below the $55,480 that the median household took in when the recession began in December 2007. Nearly every group is worse off than four years ago, except for those 65 to 74. Some groups have experienced larger-than-average declines, including blacks, young and upper-middle-aged people and the unemployed.

Of course, some groups have been extraordinarily fortunate during hard times, the CEOs. It may not be long before companies finally have to disclose the ratio of how much their average worker makes in comparison to their CEO. Reportsin recent weeks have said the long-delayed rule proposal, which was part of the Dodd-Frank law that passed three years ago, could finally arrive this summer. And speaking at a Senate Banking Committee hearing in late July, Securities and Exchange Commission Chairwoman Mary Jo White said she hoped the rule would be completed in the next month or two.

The rule in question is expected to require companies to report CEO compensation as a multiple of median worker pay, revealing the actual ratio between CEO pay and employee pay at individual companies. It is a number that has long been told in the aggregate.

The Economic Policy Institute released a report in June showing that CEOs recently made 273 times the typical 20-to-1 ratio that existed in 1965. (Those numbers are calculated using realized options rather than granted options to calculate executive pay.)

The AFL-CIO puts the multiple at 354 for what the average U.S. CEO makes compared to U.S. workers, and compares that number to other countries around the world. The ratio in France, for instance, is 104; in Japan, it’s just 67.

Some people claim our CEOs are worth it, but actual research proves that is not the case; it really boils down to the idea that they can get paid disproportionately more because the tax laws allow it, and they have set it up that way.

Wednesday, August 21, 2013 - Ticking Away the Minutes

Ticking Away the Minutes

by Sinclair Noe

DOW – 105 = 14, 897
SPX – 9 = 1642
NAS – 13 = 3599
10 YR YLD + .04 = 2.85%
OIL + .04 = 105.00
GOLD – 4.20 = 1367,80
SILV - .14 – 22.89

Stocks slid, clawed back to breakeven, then sold aggressively into the close. News of the day in the form of FOMC minutes showing policymakers are talking about pulling away the Quantitative Easing punchbowl. The Dow closed below 15,000 for the first time since July 3; the Dow is now down for six sessions; the S&P ended negative, dragged by utilities and financials; techs held up relatively well. Yields on the benchmark 10-year Treasury hit a fresh session high of 2.88%. The dollar held up against most currencies, and most emerging market currencies continued to take a beating.

So, what did the Fed say in the FOMC minutes? Nothing unexpected. Policy makers were “broadly comfortable” with Bernanke's plan to start reducing bond buying later this year if the economy improves, with a few saying tapering might be needed soon. But they weren't saying they had to taper right this moment.

The central bankers did not signal as to whether such a taper of the $85 billion-per-month bond purchase plan would come in September, October or December, the three remaining meeting dates for 2013, but they indicated they would like to have it tapered down by the middle of next year.

“A few members emphasized the importance of being patient and evaluating additional information on the economy before deciding on any changes to the pace of asset purchases,” the minutes show. “Almost all participants confirmed that they were broadly comfortable” with the committee moderating “the pace of its securities purchases later this year.”

Some participants indicated that “overall financial-market conditions had tightened significantly,” the minutes said. “They expressed concern that the higher level of longer-term interest rates could be a significant factor holding back spending and economic growth.”

Several others said the rise in rates “was likely to exert relatively little restraint.” In addition, these participants thought that rising stock prices and easier bank lending standards would offset the impact of higher borrowing costs. Some of the officials welcomed the rise in rates “insofar as those developments were associated with an unwinding of unsustainable speculative positions.”

In other words, there was concern about the stock markets and housing markets, or pick a market... overinflating; possible asset bubbles. One area of concern for the Fed is probably its own balance sheet. The Federal Reserve has set a new record, but it’s not one exactly worth celebrating. For the first time ever, the Fed owns more than $2 trillion in US debt, which is to say, in US Treasuries. On Dec. 31, 2008 that statistic consisted of less than a half-trillion in Treasury securities, but efforts undertaken by the Fed to revive the economy — so called “quantitative easing” — have instead left the bank to bear record amounts of national debt. China, the second place holder with regards to US debt, was owed $1.27 trillion by the US as of late June.

There is another problem for the Fed; if, when, or as the Fed winds down QE and they reduce purchases of mortgage backed securities then interest rates will rise and bond prices will fall. That could raise the federal deficit (because the government would have higher borrowing costs) and slow the housing market (because mortgage rates could rise further). The basic math is that prices fall when interest rates rise, and the longer the maturity the more severe the price drop. This is a big deal with the Fed. As of August 15th, it owned mortgage-backed securities worth $1.264 trillion as well as notes and bonds worth $1.9 trillion. In effect, by tapering the Fed will force down the current value of its own securities portfolio.

The FOMC minutes also revealed the Fed is considering other tools, such as a new overnight reverse repo facility. They also discussed lowering the 6.5% unemployment rate threshold. That's the target they set for an exit from QE. So, they think the economy is headed for lower unemployment. Maybe, but will that mean better jobs? Maybe not.

Businesses are hiring at a robust rate. The only problem is that three out of four of the nearly 1 million hires this year are part-time and many of the jobs are low-paid. Employers say part-timers offer them flexibility. If the economy picks up, they can quickly offer full-time work. If orders dry up, they know costs are under control. It also helps them to curb costs they might face under the Affordable Care Act, or at least that has become an easy scapegoat. Obamacare is only one factor. The surge in part-time employment also reflects an economy that has struggled to maintain decent growth.

In a paper published last month, the San Francisco Federal Reserve Bank said uncertainty over fiscal and regulatory policy had left the U.S. unemployment rate 1.3 percentage points higher at the end of last year than it otherwise would have been. The jobless rate stood at 7.8 percent in December; it has since fallen to 7.4 percent.

Maybe part-time hiring and the low wages environment will fade away as the economy regains momentum, starting in the second half of this year and through 2014. Maybe not. Businesses have learned how to function with fewer workers. One study found that profit per employee at privately held companies jumped to more than $18,000 in 2012 from about $14,000 in 2009. Private employers are either able to make more money with fewer employees or have been able to make more money without hiring additional employees. The lesson learned for businesses during the downturn was to have lean operations. There are limits to running a lean operation, and the big question is whether we are now at those limits.

Many of these part time, low paying jobs, aren't really part time, low paying jobs. In the small “d” depression of the past few years, good jobs were transformed into bad jobs, full-time workers with benefits were transformed into freelancers with nothing. From the end of an “average” American recession, it ordinarily takes slightly less than a year to reach or surpass the previous employment peak. As of June 2013, four full years after the official end of the Great Recession, we had recovered only 6.6 million jobs, or just three-quarters of the 8.7 million jobs we lost.

One of the tricks to running “lean operations” was to dump entire departments and reorganize them so that the same work, the same jobs, requiring the same skills, would henceforth, in good times and bad, be done by contingent workers. One sign of that: during the course of the downturn, corporate profits went up by 25%-30%, while wages as a share of national income fell to their lowest point since that number began to be recorded after World War II. This is more than a matter of factories firing and burger joints and Wal-Mart hiring; this was a switcheroo; the good jobs were transformed into bad jobs, and if that wasn't good enough, the other option was no job.

Eventually the hours will start to creep back up, and at some point labor will gain strength, or maybe even flex muscle, but not today. Until then, be careful you don't become a part-timer, without even trying.

Still, the FOMC minutes reveal Fed policymakers optimistic about the job market. The June Job Openings and Labor Turnover Survey (JOLTS) data released by the Bureau of Labor Statistics paint a grim picture of job opportunities in the labor market. The “hires rate”—the share of total employment accounted for by new hires—is an important comprehensive measure of the strength of job opportunities because it incorporates two components: 1) net new hires, and 2) new hires that are due to “churn”, i.e., hires that are replacing vacated or lost positions. In June, 3.1 percent of all jobs were hires. This was a substantial drop from May, when the hires rate was 3.3 percent.

The JOLTS data are a regular reminder that there is always a great deal of “churn” in the labor market. In July, the economy added 162,000 jobs, net. Over the last year, an average of 4.3 million workers were hired every month and an average of 4.2 million workers either left their jobs voluntarily or were laid off every month. These hires and separations numbers, however, are currently very low; when the labor market is stronger, there is much more churn. Nowadays, employed workers are less likely to quit the job they have. Back in 2006, about 3 million workers quit their job each month. Last June, 2.2 million workers voluntarily quit their jobs. Because leaving a job for a better opportunity can be an important way for workers to advance, this persistent depressed rate of voluntary quits represents millions of lost opportunities.

Unemployed workers far outnumber job openings in every major sector. This means the main problem in the labor market is a broad-based lack of demand for workers—not, as is often claimed, available workers lacking the skills needed for the sectors with job openings.

The Federal Reserve might be ready to taper, but the reasons for taper are more about the Fed's balance sheet and asset bubbles than about the strength of the economy, and certainly the labor market. And maybe QE hasn't and can't do anything to improve the labor market, but it would have been nice if the FOMC minutes had actually covered the mandate regarding full employment.

Tuesday, August 20, 2013 - 10 Year and Jackson Hole

10 Year and Jackson Hole

by Sinclair Noe

DOW – 7 = 15,002
SPX + 6 = 1652
NAS + 24 = 3613
10 YR YLD - .07 = 2.81%
OIL - .77 = 106.33
GOLD + 5.30 = 1371.90
SILV - .16 = 23.13

One number keeps standing out from the daily scorecard. The yield on the 10 year note. That is the benchmark for interest rates. As a standalone figure, of course, the yield on 10-year Treasuries is small. But the amount of money it impacts worldwide is flat-out staggering. Out of the estimated $1.5 quadrillion dollars' worth of derivatives on the planet right now, roughly $500 trillion is specifically related to interest rates. So you can see why the 10-year gets so much attention.

Many investors believe the Fed controls interest rates. That's not true; they merely influence them. Rates are set by trades in the market. And if interest rates rise much further, the support the Fed is counting on in the bond markets may not be there. In fact, it may be running the opposite direction. Foreign custody holdings of US Treasuries continue to decline, which implies that our trading partners are not comfortable with treasuries, so they're moving to other assets.

Meanwhile, emerging markets from Brazil to Indonesia have raised borrowing costs in 2013 to try to aid their currencies as the prospect of reduced US monetary stimulus curbs demand for assets in developing nations. The $3.9 trillion of cash that flowed into emerging markets over the past four years has started to reverse since taper talk started back in May. Asia still has potential in the next three years or more, but in the shorter term, momentum has turned a bit.

Institutional managers - read pension fund administrators, foreign banks, and ETFs - who would have normally been big buyers, are paring back because they don't want the exposure that comes with 10-year paper or longer-term assets in a rising rate environment.

Money managers are seeing extremely high levels of redemption requests and withdrawals from bonds. PIMCO, for example, experienced a $7.5 billion hit last month as money headed for the exits. The presumption is that the money is rotating into stocks, but the data suggests a solid portion is simply going back under the mattress. Somebody has to make up the gap; the only one big enough is the Fed. But if $85 billion a month isn't good enough, you've got to wonder how much is.

So, this week the Fed policymakers are headed to Jackson Hole Wyoming for an annual retreat. The Fed heads will talk about their role; the Fed followers will cogitate; the economic thinkers will theorize about the critical information regarding potential shifts in macroeconomic policy. Investors look to the meeting to bring a healthy, if fleeting, shot in the arm to the markets and share prices. Nearly any unexpected remark or errant word coming from the proceedings has the ability to rock the markets.

The markets have come increasingly unglued from economic reality, and are really just responding to Bernanke's speeches. Typically we see a bump folllowing the Jackson Hole get together. In each year, with each speech given in the Grand Tetons, the Dow has experienced triple-digit jumps: 119 points in 2007, 197 points in 2008, 155 points in 2009, last year it was a 151 point gain.

Perhaps unsurprisingly, in each instance but one (in 2009, when he announced the worst of the Great Recession was over), Bernanke spoke about or reiterated the Fed's willingness to intervene in difficult economic circumstances. These words were promptly followed up with a demonstration, most recently with the never-ending rounds of quantitative easing. Clearly, the markets love this talk, the markets have become addicted to the Fed juicing the markets, even if the juice hasn't spilled over to Main Street.

Bernanke has spoken at every Jackson Hole meeting since he took over the chairmanship. Chairmen Ben won't be in Jackson Hole this week. Bank of England Governor Mark Carney won't be there. The ECB Pres, Mario Draghi won't be there. Larry Summers won't be there. Janet Yellen will be there but she isn't scheduled to give a keynote speech. The conference still might move the markets, or it might prove a bit of a snoozer. As exciting as Jackson Hole has been for investors over the past three decades, it wouldn't be wise to plan for any triple-digit jumps this year. Anyone looking for a quick bump out of Jackson Hole should look elsewhere. Specifically, look to the next Fed meeting Sept. 18-19, when Bernanke has another press conference.

That's the sanguine outlook. Not much happens in Jackson Hole. But the Fed and talk of taper has been the prime mover in the market for the best part of the year (you could easily argue that it's been longer),

Thin summer volumes, bull trap head-fake and slightly better data exposed treasury market weakness; it’s no longer just fear of tapering but also uncertainty regarding the next Fed Chair. This past week the US rates market displayed unusual behavior as it didn’t require much in order for bonds to get crushed. We wait for the FOMC minutes and other key Fed events ahead to gauge what lies ahead for treasuries. The biggest risk to the bond market and tactical bullish trades is the combination of tapering fears and the election of a more hawkish Chairperson. In such a scenario it wouldn’t be surprising that investors just sit on the sidelines and see how high rates can go if a hawkish Fed nominee is announced, with an overshoot meaningfully above 3% possible. Stocks then would be under pressure as bonds become enticing again and asset allocation adjustments eventually reverse the flows back into bonds, at least on a short-term trade.

Intermediate, as in to the year end, there is a widespread expectation for us to pop out of the summer doldrums and enjoy a year end rally. When everyone expects something, anything can happen, and it's not always what everyone expects. In other words, we're starting to hear rumblings that the Fed is losing control of the bond markets, and as 10-year yields tap dance toward 3%, there is speculation and rumor, and some of the arguments are compelling, but only to a point.

Bottom line? The Fed is ultimately in control, contrary to what some are claiming. Might just be a little lag time in tamping down rates, that’s all. The lessons from the BOJ should be enough to quell those who doubt this. And the BOJ can do nothing that our Fed can’t do on this side of the pond. If the Fed wants a 2, 3 or 4% 10 yr treasury note then they’re damn well going to get just that. Maybe the FOMC likes rates at 2.8%. Maybe they like them at 3.5%. I just don’t think they like the parabolic rise. That can be fixed in due course if they so desire.

What else is going on in business? Well Barnes & Noble just reported stunning losses for the last quarter. At a conference call following the release of results, analysts called the company's leaders slow and ineffective. They zeroed in on the company's Nook e-reader as a sign of failure, demanding payout for "long-suffering" shareholders. Barnes & Noble reported a loss of $87 million in the last quarter, and it attributed about $54.6 million of that to its Nook unit. The struggle over the Nook comes at a time when e-books have decimated the traditional publishing business. The Nook has also struggled to compete with other tablets and e-readers, most notably the iPad and Kindle.

Retailers had a hard day today. JC Penney same store sales down 11% from a year ago in the quarter to August 3 as the department store posted a $586m net loss. But its shares, which closed 6 per cent higher, were bolstered by assurances from management that business was not as bad as it once was.

Best Buy, the electronics retailer, met a better reception from investors as cost cutting helped it to report its first net profit in a year, even though like-for-like sales – at stores open at least a year – fell 0.6 per cent. Its shares closed 13.2 per cent higher.

Meanwhile a bankruptcy judge has approved Kodak's plan to emerge from court oversight, paving the way for it to recreate itself as a new, much smaller company focused on commercial and packaging printing. Kodak said it hopes to emerge from bankruptcy protection as early as Sept. 3. Founded by George Eastman in 1880, Eastman Kodak Co. is credited with popularizing photography at the start of the 20th century and was known all over the world for its Brownie and Instamatic cameras and its yellow-and-red film boxes. The new company won't make cameras anymore.

The long, painful process for Detroit’s bankruptcy is under way.  Unlike corporations that file for Chapter 11 bankruptcy protection, municipalities and other governments seeking to file for Chapter 9 are required to prove that they are eligible. A trial to consider Detroit’s eligibility for bankruptcy is scheduled for Oct. 23. I think everyone conceded that Detroit was a municipality as required by the statute. But the public employees union did argue that Chapter 9 itself is unconstitutional

First is the argument that Michigan’s Constitution prohibits modification of the pensions, and thus prohibits a Chapter 9 filing, where they might be modified. What Michigan’s Constitution actually provides is that pension benefits “shall be a contractual obligation thereof which shall not be diminished or impaired thereby.” By calling the benefits a contract, the state’s Constitution invokes the federal Constitution, which has a Contracts Clause that prohibits the states from passing any law impairing contracts. The same kind of provision also appears in Article I, Section 10 of the Michigan Constitution. Then there is debate about whether pensioners or bondholders should be paid. There will be a lot of talk about morality as well as contractual obligations. I'd like to say this will be interesting, but the truth is it will just be sad.

Monday, August 19, 2013 - Not Attending Jackson Hole

Not Attending Jackson Hole

by Sinclair Noe

DOW – 70 = 15,010
SPX – 9 = 1646
NAS – 13 = 3589
10 YR YLD + .05 = 2.88%
OIL - .51 = 1365.20
GOLD – 11.60 = 1366.60
SILV - .07 = 23.29

It don't know where Ben Bernanke is. I know he is not scheduled to be in Jackson Hole, Wyoming this week. Most of the Federal Reserve policy makers will be at Jackson Hole for the annual economic get-together to debate whether the Fed should pull back from its $85 billion dollar per month asset purchase plan known as Quantitative Easing, also known as QE, also known as Stock Market Rocket Fuel. QE has lifted the markets to record highs this year, and talk of exiting QE has dropped the markets from highs the past couple of weeks.

Egypt continues to slip into a dark place as the military continues its bloody crackdown on civilian protesters. Just don't call it a coup; that specific designation would require an end to foreign aid. Egypt has been one of the biggest recipients of US foreign aid over the years. Egypt gets about $1.3 billion a year in aid. The money is not sent directly to Egypt; it goes to defense contractors who then send military equipment and expertise to the Egyptian military.

The biggest recipients of foreign aid to Egypt are Lockheed Martin, pulling in more than a quarter billion a year, followed by several others pulling in tens of millions, including DRS Technologies, L-3, Deloitte & Touche (apparently to keep track of everything), Boeing, Raytheon, and many more. The products include F-16s, surveillance equipment, Apache helicopters, Stinger missiles, motors, spare parts, and even teargas grenades.

The latest news out of Egypt is that a court has ordered the former dictator, Hosni Mubarak be released from custody. Mubarak has been detained on a variety of charges since his ouster in 2011. The courts say let him go. Not today, but maybe in a couple of weeks. Don't hold your breath. Actually, the court order means more volatility for Egypt; probably more protests; more protests means more teargas, so if you were in Cairo – hold your breath.

You may recall that when the Arab Spring began, Mubarak used some of the military equipment against protesters, including teargas grenades that proclaimed “Made in the USA”. This turned out to be a very bad marketing strategy. The Muslim Brotherhood then won the election and you have to wonder if the anti-US propaganda was a part of that. The Muslim Brotherhood turned out to be very bad at governing Egypt; the military, equipped with US made equipment, has now taken over the government. Just don't call it a coup.

You may also recall that one of the many factors in the Arab Spring was the release of Wikileaks diplomatic cables showing widespread political corruption. Wikileaks has just created its own “insurance” policy; sort of. Wikileaks is the website founded by Julian Assange; the site has released huge amounts of classified documents, also known as data dumps, detailing all sorts of governmental and diplomatic shenanigans. Assange has sought asylum at the Ecuadorian Embassy in London. WikiLeaks has released about 400 gigabytes' worth of mysterious data in a series of encrypted torrent files called "insurance." And no one can open it. File encryption means that the data is hidden and no one can see what's in the shared files without a key to unlock them, which hasn't been publicly released.

What is the meaning of calling it “insurance”? Is it meant to protect Bradley Manning (who has just been sentenced to 60 years), Edward Snowden, Julian Assange, or someone else? We don't know. The bigger question is what is in the “insurance” data dump? We don't know. It might be the identities of every secret agent working for the US around the world; it might be incriminating video; or everything that Edward Snowden had collected from his job with the NSA; it might be nothing more than a mumbo jumbo of code. It might even be the long anticipated data dump on the wrongdoing by the big banks.

For JPMorgan it appears bad habits, potentially illegal habits can't be broken. Last week, two junior level traders were criminally charged in connection with the London Whale losses. The bank is under investigation by eight agencies; add one more. The US Securities and Exchange Commission (SEC) is investigating whether JPMorgan's Hong Kong office hired the children of China's state-owned company executives with the express purpose of winning underwriting business and other contracts.

US law does not stop companies from hiring politically connected executives, but hiring people in order to win business from relatives can be bribery, and the SEC is investigating JPMorgan's actions under the US Foreign Corrupt Practices Act. If it's not one thing it's another.

The big banks seem to get away with..., everything. That's not always the case with the hedge fund managers; they tend to be viewed in a slightly different light; they are not considered systemically important; Bernie Madoff was sent to the big gray house. Steven Cohen saw his hedge fund charged, although Cohen wasn't personally charged. Today, the SEC announced a deal against Phil Falcone which includes an $18 million penalty, and Falcone must admit wrongdoing, and he will be banned from the securities industry for at least 5 years.

In June 2012, federal regulators had accused Falcone of manipulating the market by improperly using $113 million in fund assets to pay his own taxes and to favor some customer redemption requests secretly over others, among other things. His actions, “read like the final exam in a graduate school course in how to operate a hedge fund unlawfully.”

Falcone and his Harbinger hedge fund entities engaged in serious misconduct that harmed investors, and the SEC says their admissions leave no doubt that they violated the federal securities laws. For Falcone, who is currently engaged in two battles over LightSquared, a broadband company in bankruptcy he is fighting to maintain control over, the settlement appeared to be a positive turn of events. He struck a more upbeat note than the regulator saying he was, “pleased that we were able to reach a settlement to resolve these matters with the S.E.C.”

Following the financial crisis, the Federal Reserve, which is actually a regulator of banks; we forget that some times; the Fed, in addition to its other mandates of price stability and maximum employment, the Fed regulates banks, even though they don't really have their heart in it. The Fed in the role of regulator is kind of like a Pope who doesn't believe in religion. Anyway, following the financial crisis, the Fed started conducting stress tests on the big banks. They graded on a curve.

These annual financial health checkups continue and today the Fed described some significant shortcomings in the banks’ responses to the so-called stress tests. Despite the severity of the recent housing bust, the Fed said some banks weren’t taking into account the possibility of falling house prices when valuing certain mortgage-related assets for the tests. In other cases, banks assumed they would be strong enough to take business away from competitors in stressed times.

The Fed appeared most concerned that banks were applying the tests too generally. In other words, such banks didn’t pay enough attention to the risks that were particular to their assets and operations. Banks excluded material that was relevant to the bank’s “idiosyncratic vulnerabilities.” Under the tests, the banks have to assume weakness in the economy and turmoil in the markets, and then calculate the losses they would suffer under such conditions. The banks then subtract those losses from capital, the financial buffer they maintain to absorb losses. If the assumed losses cause capital to fall below a regulatory threshold, the banks effectively fail the test.

As part of the stress tests, banks have to carefully lay out capital plans to show regulators that they would have the strength to operate through tough times. The Fed says the banks are, in essence just trying to pass the test without really addressing the problems.

The stress tests have created tension between the Fed and the banks. One reason is that the tests can determine how much a bank is allowed to pay out in dividends or spend on stock buybacks.

President Obama is meeting with regulators today to get a status report on the progress of the Dodd-Frank reform act, the financial reform legislation that appears to have stalled after three years. This fall, the president will face a host of renewed efforts for financial reform, including housing finance reform. Just a reminder that September will mark the 5 year anniversary of the bankruptcy of Lehman Brothers, and so maybe it's time to get around to some reforms to prevent another Lehman Brothers collapse.

The Dodd-Frank law, which Congress passed in response to the meltdown, called for hundreds of new rules, including new oversight of the massive swaps market, mortgages and consumer financial products, and large nonbank financial firms. Regulators have missed deadlines on many of the most controversial requirements. The rules are about 40 percent complete. For example, the so-called Volcker rule to forbid banks from making risky trades with their own money is more than a year behind schedule, as five different agencies struggle to agree on a single rule. Despite that, the Dodd Frank act has grown while shrinking; grown from 848 pages of statutory text to 13,789 pages – more than 15 million words of regulation.

The White House meeting features the heads of major financial regulatory agencies, including the Treasury, Comptroller of the Currency, Securities and Exchange Commission, Commodity Futures Trading Commission, and the Consumer Financial Protection Bureau, among others.

Friday, August 16, 2013 - Who Knows?

Who Knows?

by Sinclair Noe

DOW – 30 = 15,081
SPX – 5 = 1655
NAS – 3 = 3602
10 YR YLD + .07 = 2.83%
OIL + .62 = 107.95
GOLD + 11.10 = 1378.20
SILV + .25 = 23.36

The Dow fell 2.2 percent for the week, its biggest decline since June 2012, while the S&P 500 dropped 2.1% for the week and the Nasdaq dropped 1.6%; their biggest weekly losses since June, 2013. It was a second week of losses for the major indexes. The yield on the 10 year note climbed to the highest level in 2 years. Gold settled at its highest price in almost two months.

The productivity of US workers rose more than projected in the second quarter. The measure of employee output per hour increased at a 0.9% annualized rate, after a 1.7% decline in the prior three months. Even with the second-quarter pickup, productivity was unchanged in the 12 months ended in June, below the average 2.4% annual gain in the 2000-2011 period. Businesses are reaching the limit of how much efficiency they can squeeze from their existing staff. So, we're at a point where any increase in demand could prompt more hiring, but we're not seeing an increase in demand.

The Thomson Reuters/University of Michigan's preliminary reading on the overall index on consumer sentiment slipped to 80.0 from 85.1 in July. We're all consumers aren't we; that's how we are measured; that is our value to corporate America. Earlier this week I repeated the old idea that consumer spending is 70% of overall economic activity. One listener took me to task, writing: “Why do you keep perpetuating the lie that consumer spending makes up 70% of GDP when the federal government alone accounts for more than 20% State and local government accounts for more than 10%. Then there is business spending.  You are supposed to be the one busting these lies.”

By the way, if you would like to take me to task, the email is sinclair@moneyradio.com

The consumer spending thing is like a whole bunch of other statistics, which is to say, it's not very accurate. What government statistics call consumer spending is not what most people consider consumer spending. Most of it isn’t, anyway. Lots of that so-called consumer spending is in fact government spending; Medicare and Medicaid, for instance, are lumped in there, as is most health-care spending, which amounts to about $2 trillion a year,which might tend to throw the consumer-spending numbers off a bit. Health-care spending isn’t really driven by consumers but by insurance companies, government, and other non-consumer enterprises. Something on the order of 15 percent of health-care spending actually comes out of consumers’ pockets.

Other examples of not really consumer spending include money spent by nonprofits, for instance, along with political parties and campaigns. I think that bank fees and such are included in consumer spending numbers, and who knows what else, and it's a certainty that interest compounded into the economy accounts for about 30% of what we pay for everything; and I really don't know how the consumer spending numbers try to reconcile that data.

Never mind, for the moment, that a big chunk of that actual consumer spending goes to things like clothes and electronics and shoes made abroad, and the consumption of stuff made in China has little direct impact on domestic economic activity, the truth is that consumer spending, in reality, represents less than half of US economic activity, probably around 40 percent.

There is a formula for consumer spending, and almost anything can get tossed into the mix, and the formula has changed over time. It's estimated consumer spending was around 75% of the economy in 1929; it grew to 83% in 1932, largely because business spending dropped. Consumer spending dropped to 50% in World War II because of large expenditures by government and very low expenditures by individuals.

I think this gets back to the idea of whether demand or production drives consumption, and as a consequence, economic growth. I tend to think it is demand. Otherwise, the Fed's spending a couple of trillion dollars on Quantitative Easing would have resulted in real economic growth, rather than just inflating asset bubbles. A few trillion in Fed monetary stimulus never really found its way from Wall Street to Main Street. But back to original complaint; you have a point, the consumer spending numbers are skewed. But then GDP is also skewed; if someone buys cigarettes and gets cancer; the cost to treat the cancer is considered as part of GDP, as if it is adding to the growth of the economy rather than watching a part of the economy die. Meanwhile, they are just starting to factor in movies as having some economic value; and we're still a long way from having a poem contribute to GDP. So, yea, the consumer spending numbers are a myth and every economic number is skewed. You and me, we're kind of stuck with the numbers we get.

Anyway, today on Wall Street, retailers took a beating. From Wal-Mart and Gap to Macy’s and McDonald’s, chains that cater to middle- and lower-income Americans. Nordstrom, the luxury department store chain, reported lower-than-expected revenue in its second quarter Thursday, prompting the company to trim its full-year sales and profit forecasts. Nordstrom's has products in their stores, they just aren't finding demand for those products.

Everyone wants to talk about recovery, but it's more like the unrecovery. Look no further than Macy's for a snapshot of the consumer. For its namesake mid-tier department stores, Macy's reported the first decline in same-store sales in nearly four years this week, and said shoppers had been gravitating to its less expensive items. That's a contrast with Macy's upscale Bloomingdale's, which came in with strong results.

The trend also turns up in results posted on Thursday by Wal-Mart, which emphasizes low pricing. Its sales at stores open at least a year unexpectedly fell 0.3 percent last quarter, a second decline in a row, prompting the world's largest retailer to lower its sales forecast for the year.

Last week, a group of retailers including Costco and Gap reported modest gains in July same-store sales, thanks largely to bargains. Adding to the pressure, Macy's said many shoppers are redirecting their spending to their cars, housing and home improvement.

Automakers reported a 14 percent sales increase in July from a year earlier. Home improvement chain Home Depot is expected to report same-store sales rose 7 percent. Outside of home improvement and cars, many retailers say economic conditions were less than ideal.

In July, U.S. employers slowed their pace of hiring, with the number of jobs outside of farming increasing less than economists expected. The average price for a gallon of gasoline in the United States was still high: at the end of July, it was $3.67 compared to $3.51 a year earlier, according to the Lundberg survey. And the problems in Egypt could push the price at the pump into an upward spiral at any moment.

As of May, 47.6 million Americans, or one in seven, received food aid - highlighting the ongoing strain on Americans struggling to make ends meet. That was 1.1 million more than a year earlier, and 7 million more than in 2010. Real wages are also stagnating: they fell 0.1 percent between June 2012 and June 2013, according to the Bureau of Labor Statistics, excluding inflation and civil servants and military personnel.

Wal-Mart Chief Financial Officer Charles Holley told reporters on a call: "The consumer doesn't quite have the discretionary income, or they're hesitant to spend what they do have."

A recent government report showed 5.7 percent of Americans who had jobs in July could not get enough hours to qualify as full-time workers, the same percentage as in June. While the unemployment rate has fallen steadily over the last year, the share of part-time workers who want more hours has barely dropped, according to BLS statistics. Workers are not doing well. They're losing ground because wages are not growing in real terms.

And so, consumers are holding onto their purses. Macy's said shoppers at its namesake chain were holding back on anything nonessential, adding it didn't expect to make up the sales shortfall this year and cut its forecasts. Kohl's said comparable sales had slid for purchases paid for with a credit card, transactions typically made by people on a budget. And both Wal-Mart and Costco said sales of higher-ticket items such as electronics and games have been soft. Several companies have said shoppers are waiting longer to buy back-to-school items, suggesting they are waiting for deals and that they see no urgency to hit stores. This week's results may presage more of the same next week, when big chains like Target, J.C. Penney and Sears report earnings.

Consumer spending may not account for 70% of the economy but the consumer is weary these days. If there really is a recovery, it hasn't made it to Main Street, and without demand, there won't be growth. And for now, the beatings will continue until morale improves.

Thursday, August 15, 2013 - Who's in Control?

Who's in Control?

by Sinclair Noe

DOW – 225 = 15,112
SPX – 24 = 1661
NAS – 63 = 3606
10 YR YLD +.04 = 2.75%
OIL + .41 = 107.26
GOLD + 29.60
SILV + 1.14 = 23.11

Let's start with the economic data:

The Labor Department said its producer price index (PPI) remained flat in July, surprising economists who were expecting a rise of 0.3%. Meanwhile, core prices, which exclude food and energy costs, edged 0.1% higher -- less than the 0.2% climb projected by economists. By comparison, June saw gains of 0.8% and 0.2%, respectively.

Meanwhile, the consumer price index (CPI) showed retail prices rose a seasonally adjusted 0.2% on gains for gasoline, housing, clothing and food, among other goods. Excluding energy and food, the core consumer-price index also rose 0.2%.

The core CPI increased 1.7% in July from the same period in the prior year, slightly up from June’s annual growth. Overall consumer prices have increased 2% over the past 12 months. That year-over-year growth in the overall CPI has trended higher in recent months.

Just the other day, James Bullard,  the St. Louis Fed president said he is concerned about low inflation levels, which he said will be a factor in whether the Fed will scale back its bond-buying program. Bullard said: "There has not been much indication, so far, that it has been ticking back up toward target."

Also, the number of people who applied for new regular state unemployment-insurance benefits fell 15,000 to 320,000 in the week that ended Aug. 10, hitting the lowest level of initial claims since October 2007.

Who's in control? 

The headlines at the Wall Street Journal this morning said:  "Stock and bond prices tumbled after stronger-than-expected economic data ..." The share of our national income which goes to corporate profit is the highest it's been since they started tracking it in 1929, while the share going to people -- as salary and wages -- is the lowest. And the percentage of that corporate profit which goes to Wall Street is also the highest on record.  We're becoming a financialized economy. Never before has the manipulation of money counted for so much and the real-world economy of people and consumer goods counted for so little.

Why would good news about the economy cause the stock market to fall? The sentences continues: "... raised investor anxiety about a pullback next month in central-bank support for financial markets... "

Investors had been relying on the Federal Reserve to keep pumping up the stock market's record run, but some mildly favorable economic reports raised fears that the Fed's market-friendly interventions might come to an end.

Who's in control?

Stocks had the biggest one-day percentage drop since late June; trading volume was higher than the recent averages; there were poor results and outlooks from Dow components Wal-Mart and Cisco.

Wal-Mart Stores' shares fell on a surprise decline in quarterly same-store sales and Cisco Systems shares dropped one day after the network equipment maker announced it was cutting 4,000 jobs. The Wal-Mart earnings report could be considered a macro indicator, almost a proxy for gross domestic product data. It shows that consumer spending isn't that strong yet; inflation is rising, wages are not, and unemployment is still pretty high as witnessed by the news from Cisco.

There's a conundrum in the labor market. Over the past 3 years the number of job openings has risen by almost 50% but actual hiring has gone up by less than 5%. Companies advertise job openings but they don't fill the openings. There may be several possible reasons. Some look at the possible skills gap, the mismatch between the work companies need done and the skills the workers have. Maybe that explains a few of the unfilled job openings but not all. Openings in the retail sector have doubled over the past 3 years but hiring has been flat. They can't find someone with the skills to work at JCPenney?

A second explanation is that employers are offering jobs at wages that are too low to attract good applicants. The long term high unemployment rates have put no upward pressure on wages and companies haven't adjusted their wage offers.

And yet another explanation is that the nature of the financial crisis, rooted in the housing market crash, made it very difficult for many people to move for a job, suggesting that companies respond by filling openings from within. The jobs are advertised, but they go to people already with the company. The final explanation is that companies advertise jobs without much intent to fill the jobs; they don't have to recruit; they don't have to look for talent; it comes to them, cheap and easy.

Everybody's worried about what the Fed might do, unless you followed the “Best Six Months, Worst Six Months” plan, which called for you to get out in May and stay away through October. Actually, the refined version said to get out on May 24^th. In July, that looked like a bad move, now it looks smart. Sell In May doesn't always work, and it might not work this year, but it works with enough regularity to warrant consideration. Why does it work? Go figure.

Who's in control?

More and more the answer is not who you think.

Websites belonging to the Washington Post, CNN, and Time have been attacked, apparently by supporters of Syrian President Bashar Assad. Some links on the sites were redirecting readers to the website of the Syrian Electronic Army (SEA).

The breaches have been blamed on a third-party link recommendation service that all three sites used. The SEA has hit several media companies in recent months, mostly via social media. In this attack, the group was able to manipulate links served by content recommendation service Outbrain, which has now been taken offline.

Yesterday, the New York Times website was knocked out of service, maybe it was just a celebration of the great Northeastern Blackout of 2003, which you may recall was caused by a software bug that failed to detect and respond to a power surge when a tree limb hit a power line. Yep, 55 million people cast into darkness because a tree limb was too close to a power line.

I don't know why the Times had a problem yesterday, they say it was a problem with scheduled maintenance. Maybe. They started out by tweeting the blackout. Then they started posting stories on their Facebook page.

Facebook may have been convenient, but that meant that the Times was no longer in control of its content. Facebook is not hosting this material for the sake of the Times or for people who want quality journalism. Facebook itself is an increasingly threatening competitor to the journalism industry, and it serves its own needs first.

The situation also highlighted a reality all news organizations, and all of us who rely on the web for much of what we read and say, need to understand better. Technology can be fragile. It can be hacked. And even if you don't get your news content from the web, remember that all it takes is an unpruned tree limb, and the power could be out. In other words, we all need a Plan B.

Who's in control?

In Egypt, the control appears to be tenuously hanging with the military, at a great cost. The death toll surpassed 600 today during Egypt’s bloodiest crackdown on supporters of its deposed Islamist president, as violent new protests erupted in the country and world condemnation widened, including an angry response by President Obama and calls for a suspension of European economic aid.

Egypt’s Interior Ministry warned protesters that police officers were authorized to use lethal force to protect themselves. The ministry also promised to punish any “terrorist actions and sabotage” after at least two government buildings were burned. It was easily the most violent of the three deadly suppressions since Morsi was forcibly removed from power by the armed forces six weeks ago, plunging the country into its worst crisis since the ouster of Mr. Morsi’s authoritarian predecessor, Hosni Mubarak, in the 2011 revolution.

 Mr. Obama strongly condemned the Egyptian government’s use of brute force to crush the protests and said the United States had canceled military exercises with the Egypt’s armed forces scheduled for next month. Mr. Obama also warned of further unspecified steps if Egypt’s interim leaders continued down what he called a “more dangerous path.”

But he said nothing about cutting the $1.3 billion in annual military aid that the United States provides to Egypt and acknowledged that the United States had historically regarded the country as a friend and a “cornerstone for peace in the Middle East.”

In Europe, some officials called for a suspension of aid by the European Union, and at least one member state, Denmark, cut off funds.

So, to recap. The military staged a coup. The civilian regime was a façade. The military's attempt to destroy the Muslim Brotherhood guarantees a violent future, likely including terrorism and perhaps ending in civil war. Despite having dumped $75 billion worth of "aid" into Cairo's coffers over the years, Washington has no "leverage."

Yet the Obama administration continues to mouth meaningless platitudes. President Barack Obama said that the violence "must stop." To make that happen he said the US was pulling out of planned joint military maneuvers with Egypt. Yea, that's not going to get it done.

Who's in control?