Month: August 2014

Thanks to buybacks, multiple expansion has been the driver of equity market strength as non-economic actors know one thing – buying stocks at record highs pays better than 'investing' in Capex or growth. However, the Treasury market's yield curve is sending a message loud and clear that multiple-expansion is due to end. As Wells Fargo's Gina Martin Adams notes, "Index P/E is likely to fall," as the spread between 10Y and 2Y yields compresses. Historical data shows the P/E ratio contracted in seven out of eight periods when the curve flattened since 1975.

 

 

As Bloomberg adds, Martin Adams expects the S&P to close 2014 -7.5% from here at 1850 (tied with Deutsche's David Bianco for lowest prediction among 20 strategists).

 

Source: Bloomberg

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Submitted by Louis & Charles Gave via Evergreen Gavekal,

Last week’s Jackson Hole meeting helped to highlight a simple reality: unlike other parts of the world, the eurozone remains mired in a deflationary bust six years after the 2008 financial crisis. The only official solutions to this bust seem to be a) to print more money and b) to expand government debt. Meanwhile, Europe’s already high (and rising) government debt levels and large budget deficits raise the question whether we should worry about ‘debt thresholds’, past which increasing deficits, and hence growing sovereign debt, no longer add to growth? Such a constraint could come from one of at least two sources:

1) Once the debt level gets high enough, debt service costs (even at very low rates of interest) can eat up so much of the budget that it is impossible to spend new money on anything else. Fortunately, most European countries are not at that point. Take France as an example: at roughly €45bn (or 2.1% of GDP), debt servicing costs are not out of line with its recent past.

 

2) Perhaps more insidiously, if the sustainability of the debt becomes dependent on low rates—as increasingly it is in countries like France— then the government has a powerful incentive to do everything it can to keep rates low so it can pursue its existing policies without facing the threat of fast-rising debt service costs. If the price of keeping rates low is low nominal GDP growth, then so be it. This is where Japan has been for some years, and could be where France is now heading. Though, worryingly for France, when it comes to the sustainability of debt accumulation, the similarities with Japan may end there.

When looking at an over-indebted borrower the most important questions should always be ‘Who owns the debt?’ and ‘Will the owner prove patient or fickle?’ For example, a family in which a father lends money to his children, will, on a consolidated basis, have no debt. Applying this analogy to Japan, it seems that Japanese savers prefer to buy bonds rather than pay taxes  (government debt is nothing but deferred taxes). As a result, 92% of outstanding Japanese Government Bonds are owned by  the Japanese themselves. Thus, in a pinch, Japan could choose to convert its repayable debt into perpetual bonds yielding, say, 1%. Even better, it could transform its debt into pieces of paper called banknotes, which are really perpetual debt yielding 0% (perhaps this is what Japan is already doing?). Another option would be for Japan to impose inheritance taxes of 80%, and very quickly the government debt would melt away…

Of course, such solutions are not consequence free. Financing governments through debt rather than a functioning tax system tends to be debilitating for economic growth. Over time it favors the rentier above the entrepreneur (since the only way to find buyers for the new debt is for its yield to be higher than the growth rate of corporate profits). As Knut Wicksell conclusively showed, this pushes the economy into stagnation. Still, Japan has proved that such stagnation is compatible with economic stability. But is the Japanese option open to France?

The other alternative to growing debt levels is the path trodden by Argentina, Russia and Greece in recent decades. What unites these bankrupt issuers is that a majority of their debt was owned by foreign savers. Indeed, when a country accumulates too much debt and begins to find the roll-overs a growing challenge, it really has just two options: the first is a total or partial default; the second is a large currency devaluation. The second choice begs the question ‘Who prints the currency in which the debt is labeled?’ When a central bank controls and independently prints the currency, then a default is highly unlikely and devaluation a near certainty (which is what is starting to occur in Japan). If the central bank does not control the currency in which the debt is labeled, then the only solution over time is a partial or total default, especially if interest rates are above the nominal growth rate of the economy (debt trap).

This brings us to Mr. Draghi’s speech at Jackson Hole, in which the European Central Bank (ECB) head argued for more fiscal stimulus and more structural reforms before the ECB does more to help out Europe’s failing economies. But, at this stage, more fiscal stimulus in countries like France and Italy would likely mean much higher budget deficits and debt levels. Given the rollover schedule of the next 18 months, those could prove challenging for the bond market to swallow, unless, of course, the ECB is willing to embark on the same kind of exchange program that the BoJ has embraced in the past 18 months, namely trading 0% interest rate bank notes for government bonds. It is a kind of Catch 22: the ECB wants to see more reform before turning on its printing press; however, reforms without growth are particularly tough to deliver. Incidentally, this was the pattern in Japan for 15 years or so: the Ministry of Finance (MoF) pointed the finger at the Bank of Japan (BoJ) for not printing enough, and the BoJ pointed the finger at the MoF for the slow pace of reform in the Japanese economy. Replace MoF with Bercy, and BoJ with ECB and very little has been ‘lost in translation’.

But as we know, there are key differences between Japan and France; differences which bring us to the following conclusions:

Investors who believe that the ECB will always step in to prevent French spreads from blowing out should probably conclude that France is now heading down the Japanese path: that of an underperforming economy whose technocratic elite has a growing embedded interest in keeping interest rates low (and thus nominal growth low), lest a spike in rates trigger a funding crisis.

 

Investors who believe that the ECB will not always step in to prevent French spreads from blowing out will have to conclude that a potential debt restructuring lies in France’s future. However, this restructuring is unlikely to happen until the ECB decides to let France go. And the ECB won’t let France go until conditions in Germany (most likely higher inflation) force the ECB’s hand. Hence, this scenario is not a near term concern.

Very clearly, with French Government Bonds (OAT) yields at record lows, and the euro gapping down, the market is acknowledging these conclusions.

Nothing Mr Draghi said in his Jackson Hole speech changed this reality.

At this stage, the path of least resistance is for the eurozone, and especially France, to continue disappointing economically, for the euro to weaken, and for Europe to remain a source of, rather than a destination for, international capital.

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The S&P 500 has tripled off the March 2009 lows and took a mere 65 days to go from 1900 to 2000 today. As WSJ notes, the S&P needed 11,208 trading days to reach 100 for the first time… Here’s a look at S&P 500 milestones throughout the decades… and how Bernanke predicted 2,000 in March 2013.

 

Source: The Wall Street Journal

Which has left stocks "rich" to The Fed as they have more than priced-in balance sheet expansion that is left…

*  *  *

And If you are surprised by any of this… Bernanke signalled it all way ahead… in March 2013!!!

as we said at the time…

Given his reiteration last week that the Fed is here to stay – and his fellow dovish lapdogs' confirmation that we can all rest assured that our 'wealth' is being protected – we know that the Fed balance sheet will hit around $4 trillion by year-end. Given the hyper-correlation over the past three months between US equity performance and the daily pump of POMO, it appears clear that Bernanke's target for the S&P 500 by year-end is around 2000 (unless of course you think there is even a little bit of market efficiency and discounting left in the world).

Is this what the Princeton Professor is looking for?

 

*  *  *

But it's gonna be over soon.

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Perhaps the only question emerging from this profile of the first document US citizen casualty fighting for the Islamic State, whose name earlier was revealed as Douglas McAuthur McCain, is whether he and John are related.

From NBC:

The battle in itself seemed tragically normal. Two Syrian opposition groups fought and there were heavy casualties on both sides. Then victorious rebels rifled through the pockets of the dead. One contained about $800 in cash — and an American passport.

 

Douglas McAuthur McCain, of San Diego, California, was killed over the weekend fighting for the Islamic State of Iraq and al-Sham (ISIS), according to the Free Syrian Army. Photos of McCain’s passport and of his body — which feature a distinctive neck tattoo — have been seen by NBC News. According to an activist linked to the Free Syrian Army who also saw the body and travel document, McCain was among three foreign jihadis fighting with ISIS who died during the battle.

 

Senior administration officials told NBC News they were aware that McCain was killed in Syria, adding that they believe dozens of Americans have gone there to fight with extremist groups – including, but not limited to, ISIS.

Actually, on second thought it appears there is no relation.

The spin cycle has already been engaged: McCain may be dead, but the treat that countless others like him have returned to the US to perpetrate, gasp, acts of terrorism on US soil is very much alive:

“The threat we are most concerned about to the homeland is that of fighters like this returning to the U.S. and committing acts of terrorism,” a senior administration official told NBC News.

 

NBC News has contacted several members of McCain’s family and dozens of friends – including his mother, sister, aunts and cousins. A woman who said she was McCain’s aunt confirmed that he had “passed” and referred calls to McCain’s mother.

 

McCain, 33, called himself “Duale ThaslaveofAllah” on Facebook and his Twitter bio reads: “It’s Islam over everything.”

…

After he graduated, McCain stuck around the Twin Cities for at least a while. Public records searches show several run-ins with the law. One mugshot of a Douglas McAuthur McCain details an arrest in 2000 at the age of 19 in New Hope on charges of disorderly conduct. Another arrest record – also from New Hope – shows the same man was arrested again in 2006 and booked on charges of obstruction. The mugshot from that arrest also clearly appears to be McCain – and has the same neck tattoo that is seen in Facebook photos of McCain on his “Duale ThaslaveofAllah” account – and the body found on the Syrian battlefield. NBC News confirmed on Tuesday that he was convicted of both charges.

Gradually the profile shifts to religion: “Around 2004, McCain “reverted” to Islam, according to his Twitter feed. “

McCain’s online life also painted the picture of a devout Muslim who deeply loved his family – along with Pizza Hut and hip-hop. His likes on Facebook ranged from “Quaran and Hadith” to “The Khilafah in Universe,” “A Way to Paradise” to “Craziest Street Fights,” “The American Comedy Co.” to “The Black Flag.”

 

“Allah keeps me going day and night. Without Allah, I am no one,” read one photo post. Others took a darker turn – posts featured the black flag of ISIS and other militant propaganda photos. In September 2010, he posted an ominous image: “They are coming back soldiers of Allah.”

 

A MySpace profile linked to Duale – and with the same images as elsewhere on social media – contains similar messages, with pictures of the sometime rapper striking poses. In one photo, he clutches a Quran. “The quran is all I need in this life of sin,” reads another caption.

We also learn about his exciting crusade to reach the promised Islamic land:

On April 3, McCain retweeted the full English translation of the speech of Abu Muhammad al-Adnani – the spokesman for ISIS.

 

Soon after, it appears that McCain’s travels took him to Turkey, a common jihadi route into Syria. Three people told NBC News that they met McCain – who they referred to as Duale – three months ago in in the Istanbul neighborhood of Sultanahmet. Two said they met him at the Burger King, where they ate and talked about the NBA.

 

U.S. officials have said “a small handful” of Americans are believed to be fighting with ISIS. Earlier this month, a new ISIS propaganda video claimed to feature an American citizen. And in July, chilling video emerged purporting to show the first American to carry out a suicide attack in Syria burning his U.S. passport and issuing threats against the West. The video of Moner Mohammad Abusalha, who grew up in Florida, underscored concerns about the flow of foreign fighters to Syria.

Finally NBC goes through McCain’s social networking habits which readers can uncover on their own here.

So the good news: unlike in the UK, so far there are no proposals to automatically assume that anyone traveling to Syria, or Iraq, or Turkey for that matter is a terrorist.

As for the bad news: prepare to be inundated with many more such profiles, because one never knows when the “converted US Muslims” who have returned from the Islamic State, and mingle among the broader population, decide to strike. Which is why it is best to let Uncle Sam handle all of your personal security, and while at it, let’s all just put that NSA “spying on everyone” nonsense in the past: after all without the constant threat that the US-created ISIS “scourge” will come to the US and blow building up and/or hijack airplanes, it may be problematic for the NSA to continue defending its ongoing existence made so public in the aftermath of the Snowden whistleblowing revelations.

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Submitted by Frank Shostak via the Ludwig von Mises Institute,

Despite all the massive monetary pumping over the past six years and the lowering of interest rates to almost zero most commentators have expressed disappointment with the pace of economic growth. For instance, the yearly rate of growth of the European Monetary Union (EMU) real GDP fell to 0.7 percent in Q2 from 0.9 percent in the previous quarter. In Q1 2007 the yearly rate of growth stood at 3.7 percent. In Japan the yearly rate of growth of real GDP fell to 0 percent in Q2 from 2.7 percent in Q1 and 5.8 percent in Q3 2010.

In the US the yearly rate of growth of real GDP stood at 2.4 percent in Q2 against 1.9 percent in the prior quarter. Note that since Q1 2010 the rate of growth followed a sideways path of around 2.2 percent. The exception is the UK where the growth momentum of GDP shows strengthening with the yearly rate of growth closing at 3.1 percent in Q2 from 3 percent in Q1. Observe however, that the yearly rate of growth in Q3 2007 stood at 4.3 percent.

In addition to still-subdued economic activity most central bankers are concerned with the weakness of workers earnings.

Some of them are puzzled that despite injecting trillions of dollars into the financial system so little of it is showing up in workers earnings.

After all, it is held, the higher the earnings, the more consumers can spend and consequently, the stronger the economic growth is going to be.

The yearly rate of growth of US average hourly earnings stood at 2 percent in July against 3.9 percent in June 2007. In the EMU the yearly rate of growth of weekly earnings plunged to 1.3 percent in Q1 from 5.4 percent in Q2 2009. In the UK the yearly rate of growth of average weekly earnings fell to 0.7 percent in June this year from 5 percent in August 2007.

According to Vice Chairman of the US Federal Reserve Stanley Fischer, the US and global recoveries have been “disappointing” so far and may point to a permanent downshift in economic potential. Fisher has suggested that a slowing productivity could be an important factor behind all this.

That a fall in the productivity of workers could be an important factor is a good beginning in trying to establish what is really happening. It is however, just the identification of a symptom – it is not the cause of the problem.

Now, higher wages are possible if workers’ contribution to the generation of real wealth is expanding. The more a particular worker generates, as far as real wealth is concerned, the more he/she can demand in terms of wages.

An important factor that permits a worker to lift productivity is the magnitude and the quality of the infrastructure that is available to him. With better tools and machinery more output per hour can be generated and hence higher wages can be paid.

It is by allocating a larger slice out of a given pool of real wealth toward the build-up and the enhancement of the infrastructure that more capital goods per worker emerges (more tools and machinery per worker) and this sets the platform for higher worker productivity and hence to an expansion in real wealth and thus lifts prospects for higher wages. (With better infrastructure workers can now produce more goods and services.)

The key factors that undermine the expansion in the capital goods per worker are an ever expanding government and loose monetary policies of the central bank. According to the popular view, what drives the economy is the demand for goods and services.

If, for whatever reasons, insufficient demand emerges it is the role of the government and the central bank to strengthen the demand to keep the economy going, so it is held. There is, however, no independent category such as demand that drives an economy. Every demand must be funded by a previous production of wealth. By producing something useful to other individuals, an individual can exercise a demand for other useful goods.

Any policy, which artificially boosts demand, leads to consumption that is not backed up by a previous production of wealth. For instance, monetary pumping that is supposedly aimed at lifting the economy in fact generates activities that cannot support themselves. This means that their existence is only possible by diverting real wealth from wealth generators.

Printing presses set in motion an exchange of nothing for something. Note that a monetary pumping sets a platform for various non-productive or bubble activities — instead of wealth being used to fund the expansion of a wealth generating infrastructure, the monetary pumping channels wealth toward wealth squandering activities.

This means that monetary pumping leads to the squandering of real wealth. Similarly a policy of artificially lowering interest rates in order to boost demand in fact provides support for various non-productive activities that in a free market environment would never emerge.

We suggest that the longer central banks worldwide persist with their loose monetary policies the greater the risk of severely damaging the wealth-generating process is. This in turn raises the likelihood of a prolonged stagnation.

All this however, can be reversed by shrinking the size of the government and by the closure of all the loopholes of the monetary expansion. Obviously a tighter fiscal and monetary stance is going to hurt various non-productive activities.

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By: Chris Tell at: http://ift.tt/146186R

Picture this scenario. A brother and sister squabbling with one another. Something’s gone wrong, they’re blaming each other, fighting, and generally at each other’s throats. Along comes the boy from next door who pokes fun at one of them and starts pestering them. Brother and sister rapidly put aside their differences, join forces and deal with the boy from next door.

The saying, “The enemy of my enemy is my friend” has played itself out many times throughout  history and, while geo-political relationships may not be as close as siblings, the forming of alliances and the repercussions from having joint enemies can be profound.

During the second World War Stalin realized that he needed the Allies to defeat a Nazi invasion, and in turn the Allies realized that the Soviets were necessary for the war effort. In any other scenario the Allies would have been arch enemies of Stalin and vice versa.

During the Cold War a similar setup occurred with the Soviets and Chinese aiding North Korea during the Korean War, and then aiding the Viet Cong during the Vietnam War.

On a country specific basis many a dictator has been propped up and supported by Governments pretending to their citizens that they in fact abhor the acts of such people. A controlled media and messaging ensure that the vast majority of citizens don’t think too much or dig too much. Government, after all, is largely in the business of marketing. Mobuto Sese Seko, Augusto Pinochet, Saddam Hussein, Pol Pot, and currently the Saudi Royal family. All strategic at some point in time.

I’m not picking on any of these for any particular reason other than that they’re choices which everybody knows about, and the relationships are well documented. Government in all instances does this. Nothing unusual. As they say in Thailand, “Same same but different.”

Well, this time it’s same same but different, too. We’re seeing similar alliances forming now. This time Europe and the US forming an alliance against Russia, and China together with Russia moving towards forming and solidifying existing economic alliances.

Consider that in just the last few months I’ve had the following snippets cross my news-feeds:

• Russia, China Sign $400 Billion Gas Deal After Decades of Talks
• Russia, China Agree on More Trade Currency Swaps to Bypass Dollar
• BRICS Setup Bank to Counter Western Hold on Global Finances
• Vladimir Putin Signs Historic $20bn Oil Deal with Iran to Bypass Western Sanctions
• Nigeria Central Bank to Move More Currency Reserves into Yuan

In Europe, Putin, the boy from next door, has distracted the Europeans from their political and economic woes, and the infighting which has been building between the Europeans has taken a backseat to more immediate problems. Taking a look at the news since Ukraine started making headlines shows me that distraction appears to be working. I’m not suggesting this was by design. I don’t think that’s the case. It is, however, convenient for EU policy makers who’ve completely screwed up the European marketplace and are looking for someone to blame. Putin is a Godsend.

Life for Europeans will get worse… much worse. Sanctions with Russia are already destroying European agriculture, but at least Eurocrats can blame the economic decline on external factors. Watch for it. You can bet on it. In the meantime, let’s look at who hurts the most from the Russian ban on US and EU food imports.

Keep an eye on PKO, Bank Polski, Poland’s largest lender. Earlier this year they raised $2.7 B in a bond issuance. Little did they know how lucky their timing was. No way would they be able to sell bonds at levels achieved in January of this year, now. The question is, will they survive as their loan book collapses?

While all this is taking place I have to wonder where and what other opportunities arise from this very large and accelerating power shift. An active move away from the dollar is underway and has been for some time. What is important now is that this is being accelerated by the public sector and not the private sector. Moves such as the BRICS setting up the financial infrastructure to transact away from the dollar is bold indeed.

Actions of this nature, or just the mere consideration of such actions, would have been previously met with threats of tariffs, curtailment of aid or even outright sanctions from the United States. That they are taking place now on a near daily basis shows just how fast the geopolitical landscape is changing. The economic decline evident in the Western, socialist world and the US in particular is evident to anyone not reading CNN. This coupled with Obama’s refusal to curtail the NSA has accelerated both the desire and the fortitude of many countries around the world to proceed to change the status quo.

Talking with my private banker in Singapore I asked what bankers thought of all of the FATCA rules. Her response was, “It won’t be too long.” These absurd rules exist and have to be complied with while the dollar is the reserve currency, but when, not if, alternatives exist then simply choosing not to play in that particular sandpit any longer will be more favourable than the revenues currently being earned by complying. Right now banks make too much money to walk away from the existing financial setup, which is dictated by US banks, US clearing houses and US money.

This is changing. The amount of capital flooding into Singapore and Hong Kong is putting pressure on the banks here and pushing up already crazy real estate prices. There are other sectors we’re interested in and taking advantage of. One of them is private equity, which is our particular niche. Capital flows are very important and we believe that the next big M&A activity will be in Southeast Asia and we are moving aggressively to take advantage of this.

In the meantime, I’m curious what opportunities readers think are opening up. Drop a comment below and let me know.

– Chris

 

“The dollar monopoly in energy trade is damaging Russia’s economy.” – Vladimir Putin

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