Month: February 2014

Submitted by Charles Hugh-Smith of OfTwoMinds blog,

The Fed cannot create a bid in bidless markets that lasts beyond its own buying.

We all know the Federal Reserve (and every other central bank) has one last Doomsday weapon to stop a meltdown in the global financial markets: creating trillions of dollars out of thin air and using the cash to buy assets that are in free-fall. This is known as "the nuclear option"–the direct monetizing of stocks, Treasury bonds, commercial real estate mortgages, student loans, corporate bonds, non-U.S. sovereign bonds, subprime auto loans, defaulted bat guano securities, offshore loans denominated in quatloos–you name it: The Fed could print money and buy, buy, buy to create and maintain a bid in bidless markets.

The idea is to stop a cascade of panic by buying assets in quantities large enough to staunch the avalanche of selling. The strategy is based on one key assumption: that no more than a small percentage of the asset class will change hands in any day or week.

Thus a low-volume sell-off in the $20 trillion U.S. equity markets can be stopped with large index buy orders in the neighborhood of $10 – $100 million–a tiny sliver of the total market value.

But in a real meltdown, popguns will no longer conjure a bid in suddenly bidless markets, and the Fed will have to become the bidder of last resort on a massive scale in multiple markets. We need to differentiate between loans, backstops and guarantees issued by the Fed and actual purchase of impaired assets.

After poring over all the data, the Levy Institute came up with a total of $29 trillion in Fed and Federal bailout-the-financial-sector loans and programs. The GAO found the Fed alone issued $16 trillion in loans and backstops:

The heart of quantitative easing and ZIRP (zero interest rate policy) is the Fed's direct purchase and ownership of assets: residential mortgage-backed securities and Treasury bonds. The Fed has been operating not as the buyer of last resort but as the bidder who buys interest-sensitive securities to keep interest rates near-zero (known as financial repression).

The Fed's purchases of impaired mortgages has also made its balance sheet "the place where mortgages go to die:" the Fed can hold impaired mortgages until maturity, effectively masking their illiquidity and impaired market value. We can see these two major purchase programs in this chart from Market Daily Briefing:

Despite all the talk of "tapering," the Fed's asset purchases on a grand scale continues:

Such a handy word, "taper:"

The Nuclear Option rests on another questionable assumption: markets only go bidless in brief panics, not because the assets have lost all value. The basic model of Fed emergency loan programs and asset-buying is 1907–a financial panic that erupts out of a liquidity crisis.

In a liquidity crisis, the underlying assets supporting loans retain their market value; the problem is a shortage of credit needed to roll over short-term loans on those still-valuable assets.

But what the world is finally starting to experience is not a liquidity crisis: it is a valuation crisis in which assets and collateral are finally recognized as phantom. I explained the difference between liquidity and valuation crises in In a Typhoon, Even Pigs Can Fly (for a while) (January 30, 2014).

Let me illustrate why the Fed's Nuclear Option is a one-way street to oblivion.

What is the market value of a defaulted student loan that has no hope of ever being repaid by an unemployed ex-student debtor? The answer is zero: the "asset" has a value of zero and will always have a value of zero. It is not "coming back."

What is the market value of a commercial mortgage on a dead mall that has no hope of ever being repaid by an insolvent mall owner? The answer is zero: the "asset" has a value of zero and will always have a value of zero. It is not "coming back."

The New York Times recently published an article that nails the core issue in the entire U.S. economy: the top 10% is the only segment able to support additional consumption:The Middle Class Is Steadily Eroding. Just Ask the Business World     (Yahoo news version)

"The Biggest Redistribution Of Wealth From The Middle Class And Poor To The Rich Ever" Explained

This raises an obvious question: can the excess consumption of the top 10% support every mall, strip mall, premium outlet and retail center in the U.S.? Equally obvious answer: no. Most dead malls cannot be repurposed; the buildings are cheap shells, and while the land might retain some value for future residential housing, the coming implosion of the latest housing bubble nixes that hope: WARPED, DISTORTED, MANIPULATED, FLIPPED HOUSING MARKET (The Burning Platform).

What is the value of a company's shares if that company has lost any means of earning a profit? Answer: the book value of the company's assets minus debt.Given the staggering debt load of the corporate sector, the real value of many companies once their ability to reap a real (as opposed to accounting trickery) net profit vanishes is near-zero.

How about the value of Greek sovereign debt? Zero. The value of mortgages on empty decaying flats in Spain? Zero. And so on, all around the world.

This leads to a sobering conclusion:&nbs
p;Should the Fed attempt to create and maintain a bid in bidless markets, it will end up owning trillions of dollars in worthless assets–and the market for those assets will still be bidless when the Fed stops being the bidder of last resort.

Let's assume the Fed's leadership will feel a desperate need to stop the next global financial meltdown in valuations. Offering trillions of dollars in liquidity will not stop sellers from selling nor magically create value in worthless assets. The Fed can only stop the selling by becoming the entire market for those assets.

The list of phantom assets the Fed will have to buy outright with freshly conjured cash is long. Let's start with hundreds of billions of dollars in defaulting/impaired student loans. Once the debtors realize the system is swamped with defaults and can no longer hound them, the flood of defaults will swell.

The Fed can buy as many defaulted student loans as it wants, but it will never raise the value of those loans above zero. The market for worthless student loans will remain bidless the second the Fed stops buying.

The same is true of all the defaulted, worthless commercial real estate (CRE) mortgages on dead malls, decaying strip malls and abandoned retail centers: no amount of Fed buying will create a market for these worthless assets.

Dead Mall Syndrome: The Self-Reinforcing Death Spiral of Retail (January 22, 2014)

The First Domino to Fall: Retail-CRE (Commercial Real Estate) (January 21, 2014)

There is no technical reason the Fed cannot create $10 trillion and buy up $10 trillion of worthless or severely impaired assets; the Fed can become the owner of every dead mall and every defaulted auto loan in America should it wish to.

That would of course render the Fed massively insolvent, as its assets would be worth a fraction of its liabilities. But so what? The Fed can simply assign a phantom value to all its worthless assets and let them rot until maturity, at which point they vanish down the wormhole.

The point isn't that "the Fed can't do that;" the point is that the Fed cannot create a bid in bidless markets that lasts beyond its own buying. The Fed can buy half the U.S. stock market, all the student loans, all the subprime auto loans, all the defaulted CRE and residential mortgages, and every other worthless asset in America. But that won't create a real bid for any of those assets, once they are revealed as worthless.

The nuclear option won't fix anything, because it is fundamentally the wrong tool for the wrong job. Holders of disintegrating assets will be delighted to sell the assets to the Fed, of course, but that won't fix what's fundamentally broken in the American and global economies; it will simply allow the transfer of impaired assets from the financial sector and speculators to the Fed.

Anyone who thinks that is the "solution" should read QE For the People: What Else Could We Buy With $29 Trillion? (September 24, 2012).

The Retail Commercial Real Estate Domino with Gordon T. Long and CHS:

via Zero Hedge http://ift.tt/1buhoUh Tyler Durden

Submitted by Charles Hugh-Smith of OfTwoMinds blog,

The Fed cannot create a bid in bidless markets that lasts beyond its own buying.

We all know the Federal Reserve (and every other central bank) has one last Doomsday weapon to stop a meltdown in the global financial markets: creating trillions of dollars out of thin air and using the cash to buy assets that are in free-fall. This is known as "the nuclear option"–the direct monetizing of stocks, Treasury bonds, commercial real estate mortgages, student loans, corporate bonds, non-U.S. sovereign bonds, subprime auto loans, defaulted bat guano securities, offshore loans denominated in quatloos–you name it: The Fed could print money and buy, buy, buy to create and maintain a bid in bidless markets.

The idea is to stop a cascade of panic by buying assets in quantities large enough to staunch the avalanche of selling. The strategy is based on one key assumption: that no more than a small percentage of the asset class will change hands in any day or week.

Thus a low-volume sell-off in the $20 trillion U.S. equity markets can be stopped with large index buy orders in the neighborhood of $10 – $100 million–a tiny sliver of the total market value.

But in a real meltdown, popguns will no longer conjure a bid in suddenly bidless markets, and the Fed will have to become the bidder of last resort on a massive scale in multiple markets. We need to differentiate between loans, backstops and guarantees issued by the Fed and actual purchase of impaired assets.

After poring over all the data, the Levy Institute came up with a total of $29 trillion in Fed and Federal bailout-the-financial-sector loans and programs. The GAO found the Fed alone issued $16 trillion in loans and backstops:

The heart of quantitative easing and ZIRP (zero interest rate policy) is the Fed's direct purchase and ownership of assets: residential mortgage-backed securities and Treasury bonds. The Fed has been operating not as the buyer of last resort but as the bidder who buys interest-sensitive securities to keep interest rates near-zero (known as financial repression).

The Fed's purchases of impaired mortgages has also made its balance sheet "the place where mortgages go to die:" the Fed can hold impaired mortgages until maturity, effectively masking their illiquidity and impaired market value. We can see these two major purchase programs in this chart from Market Daily Briefing:

Despite all the talk of "tapering," the Fed's asset purchases on a grand scale continues:

Such a handy word, "taper:"

The Nuclear Option rests on another questionable assumption: markets only go bidless in brief panics, not because the assets have lost all value. The basic model of Fed emergency loan programs and asset-buying is 1907–a financial panic that erupts out of a liquidity crisis.

In a liquidity crisis, the underlying assets supporting loans retain their market value; the problem is a shortage of credit needed to roll over short-term loans on those still-valuable assets.

But what the world is finally starting to experience is not a liquidity crisis: it is a valuation crisis in which assets and collateral are finally recognized as phantom. I explained the difference between liquidity and valuation crises in In a Typhoon, Even Pigs Can Fly (for a while) (January 30, 2014).

Let me illustrate why the Fed's Nuclear Option is a one-way street to oblivion.

What is the market value of a defaulted student loan that has no hope of ever being repaid by an unemployed ex-student debtor? The answer is zero: the "asset" has a value of zero and will always have a value of zero. It is not "coming back."

What is the market value of a commercial mortgage on a dead mall that has no hope of ever being repaid by an insolvent mall owner? The answer is zero: the "asset" has a value of zero and will always have a value of zero. It is not "coming back."

The New York Times recently published an article that nails the core issue in the entire U.S. economy: the top 10% is the only segment able to support additional consumption:The Middle Class Is Steadily Eroding. Just Ask the Business World     (Yahoo news version)

"The Biggest Redistribution Of Wealth From The Middle Class And Poor To The Rich Ever" Explained

This raises an obvious question: can the excess consumption of the top 10% support every mall, strip mall, premium outlet and retail center in the U.S.? Equally obvious answer: no. Most dead malls cannot be repurposed; the buildings are cheap shells, and while the land might retain some value for future residential housing, the coming implosion of the latest housing bubble nixes that hope: WARPED, DISTORTED, MANIPULATED, FLIPPED HOUSING MARKET (The Burning Platform).

What is the value of a company's shares if that company has lost any means of earning a profit? Answer: the book value of the company's assets minus debt.Given the staggering debt load of the corporate sector, the real value of many companies once their ability to reap a real (as opposed to accounting trickery) net profit vanishes is near-zero.

How about the value of Greek sovereign debt? Zero. The value of mortgages on empty decaying flats in Spain? Zero. And so on, all around the world.

This leads to a sobering conclusion: Should the Fed attempt to create and maintain a bid in bidless markets, it will end up owning trillions of dollars in worthless assets–and the market for those assets will still be bidless when the Fed stops being the bidder of last resort.

Let's assume the Fed's leadership will feel a desperate need to stop the next global financial meltdown in valuations. Offering trillions of dollars in liquidity will not stop sellers from selling nor magically create value in worthless assets. The Fed can only stop the selling by becoming the entire market for those assets.

The list of phantom assets the Fed will have to buy outright with freshly conjured cash is long. Let's start with hundreds of billions of dollars in defaulting/impaired student loans. Once the debtors realize the system is swamped with defaults and can no longer hound them, the flood of defaults will swell.

The Fed can buy as many defaulted student loans as it wants, but it will never raise the value of those loans above zero. The market for worthless student loans will remain bidless the second the Fed stops buying.

The same is true of all the defaulted, worthless commercial real estate (CRE) mortgages on dead malls, decaying strip malls and abandoned retail centers: no amount of Fed buying will create a market for these worthless assets.

Dead Mall Syndrome: The Self-Reinforcing Death Spiral of Retail (January 22, 2014)

The First Domino to Fall: Retail-CRE (Commercial Real Estate) (January 21, 2014)

There is no technical reason the Fed cannot create $10 trillion and buy up $10 trillion of worthless or severely impaired assets; the Fed can become the owner of every dead mall and every defaulted auto loan in America should it wish to.

That would of course render the Fed massively insolvent, as its assets would be worth a fraction of its liabilities. But so what? The Fed can simply assign a phantom value to all its worthless assets and let them rot until maturity, at which point they vanish down the wormhole.

The point isn't that "the Fed can't do that;" the point is that the Fed cannot create a bid in bidless markets that lasts beyond its own buying. The Fed can buy half the U.S. stock market, all the student loans, all the subprime auto loans, all the defaulted CRE and residential mortgages, and every other worthless asset in America. But that won't create a real bid for any of those assets, once they are revealed as worthless.

The nuclear option won't fix anything, because it is fundamentally the wrong tool for the wrong job. Holders of disintegrating assets will be delighted to sell the assets to the Fed, of course, but that won't fix what's fundamentally broken in the American and global economies; it will simply allow the transfer of impaired assets from the financial sector and speculators to the Fed.

Anyone who thinks that is the "solution" should read QE For the People: What Else Could We Buy With $29 Trillion? (September 24, 2012).

The Retail Commercial Real Estate Domino with Gordon T. Long and CHS:

via Zero Hedge http://ift.tt/1buhoUh Tyler Durden

Precious metals had begun to jump higher before the ADP data hit but once it did – and disappointed – gold and silver spiked (over $1,270 and $20 respectively). Equity markets kneejerk reaction was a spike higher which immediately faded into a crash to recent lows. Dow futures are testing 2014 lows – as are S&P 500 futures. 10Y Treasury yields touched 2.60%; Nikkei futures are once again testing 14,000 as USDJPY breaks below 101.

JPY is in charge as usual – and USDJPY broke 101 again…

But the reaction is clear…

 

Dow futures are testing 2014 lows…

 

Once again – as a gentle reminder – here is a chart showing how crucial this surprise in ADP is to Friday’s NFP surprise…

 

 

 

Charts: Bloomberg and @Not_Jim_Cramer

via Zero Hedge http://ift.tt/1cUs9A9 Tyler Durden

Precious metals had begun to jump higher before the ADP data hit but once it did – and disappointed – gold and silver spiked (over $1,270 and $20 respectively). Equity markets kneejerk reaction was a spike higher which immediately faded into a crash to recent lows. Dow futures are testing 2014 lows – as are S&P 500 futures. 10Y Treasury yields touched 2.60%; Nikkei futures are once again testing 14,000 as USDJPY breaks below 101.

JPY is in charge as usual – and USDJPY broke 101 again…

But the reaction is clear…

 

Dow futures are testing 2014 lows…

 

Once again – as a gentle reminder – here is a chart showing how crucial this surprise in ADP is to Friday’s NFP surprise…

 

 

 

Charts: Bloomberg and @Not_Jim_Cramer

via Zero Hedge http://ift.tt/1cUs9A9 Tyler Durden

Earlier today, we predicted with absolute accuracy what today’s joke of an ADP print would be:

@GreekFire23 ADP just follows the NFP trend. Look for weak number and downward revision of December’s 238K

— zerohedge (@zerohedge) February 5, 2014

And sure enough, the January ADP print missed as we expected, printing at 175K vs the expected 185K, while the December 238K was revised lower to 227K, confirming that ADP is nothing but an NDP trend follower and an absolutely worthless and meaningless data point that does nothing to add relevant data to the economic picture.

For those who care, this was the biggest miss since August and the largest monthly drop since August 2012, and the weakest print since August as well.

 

Here is the actual monthly data. Spot the trend, or alternatively – when the snow started falling.

 

What is truly hilarious is that ADP thought nobody would notice that they revised November from 228K to 289K. We can only assume this was a typo.

The breakdown by sector:

 

So much for the manufacturing renaissance: after 5 months of increases, in January 12,000 mfg jobs were lost while the financial sector added 0 workers:

How ADP compares to NFP – as pointed out it is now merely a lagging indicator with zero predictive value:

 

Finally, for some humor, here is econohack Mark Zandi, explaining the weak number with – what else – winter weather in the winter:

“The U.S. private sector added 175,000 jobs in January, which is in line with the average monthly growth throughout 2013,” said Carlos Rodriguez, president and chief executive officer of ADP. Mark Zandi, chief economist of Moody’s Analytics, said, “Cold and stormy winter weather continued to weigh on the job numbers. Underlying job growth, abstracting from the weather, remains sturdy. Gains are broad based across industries and company sizes, the biggest exception being manufacturing, which shed jobs, but that is not expected to continue.”

Actually what shouldn’t be expected to continue, is for anyone to pay any attention to this made up, worthless employment indicator, and yet people do…

via Zero Hedge http://ift.tt/1cUs7bH Tyler Durden

Earlier today, we predicted with absolute accuracy what today’s joke of an ADP print would be:

@GreekFire23 ADP just follows the NFP trend. Look for weak number and downward revision of December’s 238K

— zerohedge (@zerohedge) February 5, 2014

And sure enough, the January ADP print missed as we expected, printing at 175K vs the expected 185K, while the December 238K was revised lower to 227K, confirming that ADP is nothing but an NDP trend follower and an absolutely worthless and meaningless data point that does nothing to add relevant data to the economic picture.

For those who care, this was the biggest miss since August and the largest monthly drop since August 2012, and the weakest print since August as well.

 

Here is the actual monthly data. Spot the trend, or alternatively – when the snow started falling.

 

What is truly hilarious is that ADP thought nobody would notice that they revised November from 228K to 289K. We can only assume this was a typo.

The breakdown by sector:

 

So much for the manufacturing renaissance: after 5 months of increases, in January 12,000 mfg jobs were lost while the financial sector added 0 workers:

How ADP compares to NFP – as pointed out it is now merely a lagging indicator with zero predictive value:

 

Finally, for some humor, here is econohack Mark Zandi, explaining the weak number with – what else – winter weather in the winter:

“The U.S. private sector added 175,000 jobs in January, which is in line with the average monthly growth throughout 2013,” said Carlos Rodriguez, president and chief executive officer of ADP. Mark Zandi, chief economist of Moody’s Analytics, said, “Cold and stormy winter weather continued to weigh on the job numbers. Underlying job growth, abstracting from the weather, remains sturdy. Gains are broad based across industries and company sizes, the biggest exception being manufacturing, which shed jobs, but that is not expected to continue.”

Actually what shouldn’t be expected to continue, is for anyone to pay any attention to this made up, worthless employment indicator, and yet people do…

via Zero Hedge http://ift.tt/1cUs7bH Tyler Durden

For the past year Abenomics has gotten the “get out of a jail free” card because while the plunging yen was crushing Japanese purchasing power, and sending nominal regular wages ever lower, at least the stock market was higher so (some of the) locals could delude themselves they are getting richer, if only on paper. However, following the most recent 10% correction in the Nikkei which may soon become an all out rout if the 101 level in the USDJPY doesn’t hold (and then 100, and so on), all Japan suddenly has left, is the shock of soaring food and energy prices, and the hangover of declining wages that refuse to drop droppoing. Case in point, last night the Japan labor ministry reported that monthly wages excluding overtime and bonus payments fell 0.2 percent in December from a year earlier to 241,525 yen on average per worker, a series of declines which has now stretched to 19 consecutive months.

The silver lining – overall wages rose 0.8 percent from a year earlier to 544,836 yen, helped by a 1.4 percent climb in winter bonuses and increased overtime pay. However, as Goldman ends, this bonus offset is set to end soon: “We think much of the increase in overtime pay—chiefly in the manufacturing sector—reflects companies accommodating rush demand ahead of the consumption tax hike, and we expect this trend to continue for the next few months. That said, we think overtime hours/wages could drop off sharply after the tax hike, exerting downward pressure on overall wages. We expect the wage boost from overtime pay to drop out from April, and we will be focusing on the extent to which spring wage negotiations are reflected in basic wages at the macro level, including SMEs and nonpermanent employees. ” 

 Furthermore, while bonuses benefit some, just like the rising stock market, most do not get any bonus benefits – in Japan basic wages accounts for around 80% of overall wages and has a big impact on consumer sentiment and future expected income.” Alas, terrified corporations now eyeing the Nikkei’s recent plunge will hardly do much if anything to jeopardize their botom line just as a market plunge may be imminent, leading to all sorts of unpredictable consequences for the country.

Some more perspectives from Bloomberg:

Japan’s base wages adjusted for inflation last year matched a 16-year low in 2009 when the world was gripped by recession, posing a risk to consumer spending as the nation girds for a higher consumption tax.

 

Pay excluding bonuses and overtime payments dropped to 98.9 in 2013 on a labor ministry index released today that takes price changes into account, equaling the level four years earlier. The gauge is based at 100 in 2010 in data back to 1990.

 

Prime Minister Shinzo Abe is calling on firms to boost wages to sustain a reflationary effort so far driven by stimulus and the yen’s 18 percent drop against the dollar last year. Amid a backdrop of market turbulence, business and union leaders met today to start annual pay talks — due to end in March, a month before a 3-percentage-point increase in the sales levy.

 

…

 

Nobuaki Koga, head of Rengo, or the Japanese Trade Union Confederation, said last month it would seek overall base-salary increases of more than 1 percent in spring labor negotiations, and 2 percent for workers at small- and medium-sized companies and non-regular workers.

 

“Base salaries may not rise as much as Rengo has requested” as executives may not be confident enough of Japan’s economic recovery to raise wages, said Yoshiyuki Suimon, an economist at Nomura Securities Co. in Tokyo.

 

…

 

Inflation will accelerate five times faster than wage gains in the year starting April, according to Bloomberg News surveys. Higher prices, coupled with the sales-tax rise, threaten to erode household spending power.

 

Having injected monetary and fiscal stimulus into the economy, Abe’s next challenge is make advances in stripping away regulations to encourage business investment.

 

“Wages might rise a little bit this year, but it won’t be sustainable unless the government pushes through policies to improve productivity,” said Koya Miyamae, a Tokyo-based economist at SMBC Nikko Securities Inc. “It’s easy to boost prices, but it’s much more difficult to have companies raise wages.”

In other words, it appears Abe has at most another 3-4 months before it all unravels. It may be time to corner the Imodium market: recall that the last time the prime minister quit in disgrace as a result of his failed policies he blamed it on explosive diarrhea. Whatever will he blame this time?

via Zero Hedge http://ift.tt/1epNkvE Tyler Durden