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The US Federal Reserve Bank has been easing quantitatively (QE) for 4 years now, since 2009.  Over this period, average daily trading volume in the US Treasury market has reduced from 500bln 10yr equivalents per day to 350bln 10yr equivalents.  350bln 10yr equivs may still seem like a big number…but this is a 30% decrease in trading volumes, and that is a reduction not only in volume, but liquidity.  Some readers out there might think”so what?” or “whats the big deal if the US Treasury market is less liquid than it used to be?”  The answer rests in the ultimate lenders of capital, and the structure of the Treasury market which is of great concern to participants of this market.  Investors (yes, a rarely used word these days) prefer to invest in assets that are liquid, especially when that asset is designated as a “risk free” asset.  Liquidity = ability to enter / exit at tight spreads without affecting the market price for the security.  The US treasury market used to be the deepest most liquid bond market in the world.  This characteristic of the UST market has significantly faded as QE has run its course, and the result is a reduction in actual “investors” of US government debt.  This is partly why the US Fed is still doing QE.  If the Fed doesn’t buy US govt bonds…who will?  The value of the USD has been cheapened by QE, and that significantly increases the risk in holding UST debt.  Think about that for a moment..the US Fed’s actions have increased the risk of holding UST paper.  UST paper is supposed to be the “risk free” asset against which everything else is judged.  If the “risk” of holding the “risk free asset” increases…how are investors to measure “risk.”

 I will leave it to the reader to draw parallels to the situation as it is currently playing out in Japan.

The Fed engaged in QE for 4 specific goals.

1)  Push investors out the credit curve (from UST –> corp bonds –> Stocks)
2)  Reduce / keep down interest rates to fund US Govt spending
3)  Increase inflation (for example, prop up the housing market)
4)  Decrease unemployment

Of these 4 goals, #s 1-3 are credible.  #4 is not so clear.

#5 is not a “goal” but an unintended side effect.
5) Reduced secondary market net supply while increasing supply of the currency  = reduced trading volume = reduced liquidity

I suppose i could repeat the phrase, “when the only tool you have is a hammer…every problem looks like a nail”

Here is a direct example of #5

This week is the refunding for long term UST debt (10yr notes and 30yr bonds).

With the QE induced reduction in trading volume and liquidity, expect the remaining market trading participants to continue selling UST’s ahead of the auctions…to “make room” before bidding on bonds in the upcoming auctions (remember, primary dealers are required to bid for their pro-rata share of every auction…so about 5% each).   As the US Fed continues to print USD to buy UST, the world incrementally loses trust in the value of the USD. Think of the tipping point (currently taking place in Japan as well).

Of course, there has been talk and speculation of the Fed reducing / ending their QE program.  Unfortunately, there is no way for the US Fed to “exit” their QE program.  The only exit option is to wait for the debt to mature and swap IOU’s with the US Treasury.

The market is a discounting function, in that it discounts future expected values in the current price of assets.  This means that ultimately, when the market realizes that the Fed cannot exit its QE position (i’m amazed this hasn’t happened yet), the discounting function requires the price of UST debt to drop, yields to rise, and the currency to cheapen.  And here is where the Fed holding a sizable portion of all outstanding UST debt becomes both a problem, solution, and problem again.

1) Problem:  QE reduces value of the currency, and thus (reduces desire / increases risk) of holding long term US govt debt.
2) Solution: the central bank steps in and buys the long term debt, inflating financial assets
3) Financial asset inflation translates into consumer price inflation
4) Problem:  –> see problem #1

5) The modern world hasn’t figured out #5 yet, however Japan is on the path to experience #5 before the US.

It is hard to imagine life in the US falling over due to financial failure, as happened in Greece and Cyprus.  Of course in the US it would be slightly different, as the US can print money and inflate away certain problems.  The scary part is when those who have been inflated out of being able to survive get hungry enough to riot…that is when chickens in the US will come home to roost.  This is a slowly building phenomenon…it does not happen overnight.  And every slowly building phenomenon has a “tipping point.”

Back to the markets….

As volume and liquidity decrease with the path of QE, we continue to get closer to the moment when the market actually discounts this reality.  This is the only reason US bond yields are as low as they are (the same could be said for European Govt bonds).  The market hasn’t fully discounted this “non-exit exit.”  Similar statements could be said about the situation in Spain, France and Italy.  Amazing our ability for cognitive dissonance, no?

While this all sounds oddly familiar to a ponzi scheme (the kind that goes along fine until one day it implodes)…the effect today is a reduction in both liquidity and trading volume which has created “volatility gaps” or “bifurcated volatility”  This is simply recognizing the path that we are currently on.  I don’t expect the govt (US, Europe, China or Japan) to reverse course…its just important to recognize where we are on the path.

Here is the real purpose of this article….how should i change my trading strategy to adapt to this new volatility regime?

Until recently, the average daily trading range for 10yr note futures (the most liquid UST security) was 20 ticks or about 8 bps (a tick here is 1/32nd of 1 USD of face).  Of course when we say “average” that implies some daily vol ranges are bigger than 20 ticks…and some are smaller.  Days with significant ECO data (NFP, FOMC, large duration auctions, Housing data,  CPI, ect..) expect larger than average trading ranges and volatility.  Days with less significant ECO data expect less volatility and smaller trading ranges.  This basic concept still holds true today…but the gap in average volatility between a big vol day and a small day has increased (much like the gap between the rich and the poor).   In today’s market, a large vol day might see a 12-16bp range…and a “normal” small vol day might see only 3-5bp trading range.  5 years ago, these vol range were more like 5-8bps and 10-18 bps.  The result is that during the intermittent “slow periods” the market is extraordinarily slow..and during high vol events, the market reprices so fast that large entities do not have the ability to change their position before the market has significantly repriced.  This is what we call a reduction in liquidity.  As a small individual trader, you may think this does not have a significant impact on your day-to-day life.  But as an investor in the institution (do you have a bank account?  do you have a pension fund?…then you do have a stake here) this affects us all as the cost of hedging interest rate risk has significantly increased.

So, as a day trader, how do we respond to this change in the structure of market volatility?  It means that the average mean reversion trades have much smaller ranges.  If you “need” to make X dollars per day trading…and intraday vol is reduced, then you must therefore trade larger size, with more
leverage to make up for the reduction in average volatility.  This poses a problem to our internal risk manager.  Increased size / leverage on your account means tighter stops in terms of price ranges (for example, risking 5k to make 15k).  With larger size you will lose 5k faster if the market moves against you.  So, this increases the probability that you will get stopped out, and thus decreases the expected value of your mean reversion trading strategy.  An option is to not increase your trading size / leverage.  However, with the smaller vol ranges, this implies that you will not be able to hit your revenue targets, and this has caused banks and hedge funds to look elsewhere for their trading / liquidity providing business.  This is why trading volatility has decreased…market participants have simply gone elsewhere…which reduces not only trading volume but liquidity.

These conditions are what drive traders (liquidity providers) out of an illiquid market, and into a different, more liquid market.  Illiquid Markets tend to be “sticky” when trading volumes are small..and “gap” when trading volumes increase.

So, what is my advice?  You could either take your stake, pull out and go find another more liquid venue to trade (FX perhaps?).  Trust me….you would not be the first.  For the remaining traders…there is still opportunity..but that opportunity comes with increased risk.  This is the hallmark of an emerging market (yes, we are still talking about the US Treasury market).   This all sounds reminiscent of stories about traders who blew up when volatility “gapped.”  LTCM is the most famous, but there are numerous others.

To be clear, i’m not advocating traders leave the UST market..i’m simply pointing out that market structure has changed…and in order to survive, we as traders (intraday liquidity providers) must either change with it….or be pushed into insolvency.

So how do we change our trading strategy with this decreased average volatility?  We need to be more aggressive.  This applies both during the slow mean reversion trading days, as well as the trending trading days.  Gone are the days where you can sell a good pop…or buy a good dip.  Now, you need to figure out your intended direction, and initiate trade closer to the middle.  This of course increases the risk that you will get stopped out if you are making such decisions on a random basis.  You have to “know” what will happen next.  Does this describe how you “feel” about the US Treasury market?

Yup…still talking about the US Treasury market here.  Surprised??

-GovtTrader

 

http://govttrader.blogspot.com/

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via Zero Hedge http://feedproxy.google.com/~r/zerohedge/feed/~3/YT4iK2akOMY/story01.htm govttrader

• China Pledges Greater Role for Market in Economy (WSJ), China vows ‘decisive’ role for markets, results by 2020 (Reuters)
• China expected to cut growth target to 7% (FT)
• World Trade Center Tower Debuts in Manhattan Leasing Test (BBG)
• Job Gap Widens in Uneven Recovery (WSJ)
• Khamenei’s conglomerate thrived as sanctions squeezed Iran (Reuters)
• Swiss referendum on wages of high earners stirs debate (FT)
• Obama to Nominate Massad to Head CFTC (WSJ)
• Japan readies additional $30 billion for Fukushima clean-up (Reuters)
• Shadow banks reap Fed rate reward (FT)
• Airlines Run From Onboard Gabfests as Gadget Use Embraced (BBG)
• Target Fills Its Cart With Amazon Ideas (WSJ)
• Apple Said Developing Curved IPhone Screens, New Sensors (BBG)
• GE Printing Engine Fuel Nozzles Propels $6 Billion Market (BBG)
• Rolex Daytona Sells for Record $1.1 Million at Christie’s (BBG)

 

Overnight Media Digest

WSJ

* Initial reports suggest that fewer than 50,000 people successfully navigated the troubled federal health-care website to enroll in private health-insurance plans as of last week, two people familiar with the matter said.

* America’s jobs recovery is proceeding on two separate tracks – a pattern that is persisting far longer than after past economic rebounds and lately has been growing worse. Despite three years of steady job gains, and four years of economic growth, many Americans have yet to experience much that could be described as a recovery. That sort of pattern isn’t unusual in the aftermath of a recession, but it usually eases as growth picks up steam.

* Hedge funds are making a large bet on municipal debt, bringing aggressive tactics to a $3.7 trillion market long known as humdrum.

* Freddie Mac and Bank of America are in settlement talks to resolve disputes over more than $1.4 billion in faulty mortgages Freddie has said Bank of America should have to take back.

* Federal prosecutors and the SEC’s internal watchdog recently probed the personal financial holdings of some SEC employees in New York, a move that could again shine a spotlight on the agency’s internal compliance efforts.

* Just a handful of companies have taken goodwill write-downs this year on past acquisitions that have soured. Last year U.S. companies slashed the value of their past acquisitions by $51 billion because the deals didn’t pan out as expected, according to a study set for release Tuesday. That was the highest yearly total for such write-downs since the financial crisis.

* Sotheby’s said its third-quarter loss narrowed as the auction house logged an increase in private sale commissions and auction commission revenue.

* Target has come up with an answer to Amazon.com . Copy it. The discount chain’s latest online offerings have a distinct Amazon feel-from recurring deliveries for diapers to on-demand streaming video.

* Google said it will begin allowing Nielsen to measure audiences for ads on its YouTube website, a decision that could give ad buyers more confidence to shift dollars to online video.

 

FT

Industrial and Commercial Bank of China (ICBC), the world’s biggest bank by market capitalisation, has been added to the list of banks that must hold extra capital to counter the risk they pose to the financial system, the Financial Stability Board (FSB) said on Monday.

Rupert Murdoch’s News Corp reported a 3 percent decline in revenue in its first results since its separation from 21st Century Fox, blaming weakness in its Australian newspaper division.

Non-bank lenders, known as “shadow banks”, which often fall outside the remit of regulation, have emerged as among the biggest beneficiaries of the Federal Reserve’s ultra-low interest rates with three specialist categories increasing their assets by almost 60 percent since the height of the financial crisis.

Transocean Ltd said it reached an agreement with activist investor Carl Icahn that would see the offshore driller raise its dividend, step up its cost cuts and spin off some of its assets in a new partnership.

British retailer Marks & Spencer said on Monday it planned to make India its biggest foreign market, with “at least” 44 new outlets in the country by 2015, up from 36, as it seeks to stem a sales decline in parts of its UK business.

London-listed drugmaker Shire Plc said on Monday it had agreed to buy ViroPharma for $4.2 billion to strengthen its rare disease treatment business.

 

NYT

* Some major health insurers are so worried about the Obama administration’s ability to fix its troubled health care website that they are pushing the government to create a shortcut that would allow them to enroll people entitled to subsidies directly rather than through the federal system.

* The new video game consoles from Sony and Microsoft about to hit store shelves are almost certain to be hot holiday gifts this year. The uncertainty for the games business is: What happens after Santa leaves? Sales of a new generation of consoles could be dented by tablets, smartphones and Facebook, which offer games at lower prices.

* Sunday was a bad day for Fantex, the fledgling company promoting initial public offerings of National Football League stars, as its first two prospects were sidelined.

* Liquidators seeking to recover money for investors in two hedge funds filed a lawsuit on Monday against Standard & Poor’s, Fitch and Moody’s.

* A new trial expected to start this week will determine how much Samsung has to pay for an important suit it lost against Apple.

* Bitcoin’s emergence has brought a field of competitors. Already, dozens of ideas are jockeying for the market. The online payment system viewed by many insiders as having the best chance of supplanting bitcoin is Ripple. Ripple holds out the promise not just of a new currency, but also of a novel method to send money around the world.

* The Justice Department’s prosecution of SAC Capital Advisors raises the question of who the victims of a violation are.

* After several years of lackluster performa
nce, the hedge fund industry is increasingly turning to self-help programs, sometimes referred to as “mindware” products, to try to improve its game.

* Several ideas about using financial instruments and a for-profit approach in the world of non-profits are now taking hold.

 

Canada

THE GLOBE AND MAIL

* Fairfax Financial Holdings Chairman Prem Watsa, who recruited BlackBerry Ltd’s new interim chief executive, says he did not ask former CEO Thorsten Heins to leave.

* Manitoba is being criticized for making it easier to take polar bears from the icy shores of Hudson Bay and place them in captivity. The province – home to the polar bear capital of Churchill – has quietly lifted restrictions that had been in place for 30 years and which allowed only bears under the age of two to be put in zoos.

Reports in the business section:

* Betting that businesses are more interested in renting than buying software and online storage space, two of Canada’s biggest cloud computing companies, Mitel Networks Corp and Aastra Technologies Ltd, are joining forces to create a home-grown competitor to companies such as Oracle and Google.

* Canadian home renovation retailer Rona Inc is acquiring 49 percent of Groupe Coupal Inc for an undisclosed price from the Doucet family, which has run the 99-year-old business since 1971. Quebec-based Rona has held a majority stake in Coupal for nearly eight years.

NATIONAL POST

* Dating portal Ashley Madison has delivered a harsh legal counterattack to a former employee who is suing the company for $20 million for injuries sustained while typing up fake profiles of women for the adultery site, releasing pictures of the woman playing on a jet ski after her alleged injury.

* In the six months after the Canadian Senate began investigating the expense claims of some of its members, about two-thirds of senators claimed less than they had in the same six-month period before the Senate spending issue came to light.

FINANCIAL POST

* The last lifeline for Gabriel Resources Ltd’s controversial mining project in northwestern Romania went dead on Monday, after a parliamentary commission voted down a draft bill that would have allowed Europe’s largest open pit gold mine to move forward.

* Australia said it would allow Saputo Inc to bid for Warrnambool Cheese and Butter Factory Holdings Ltd, removing a key obstacle for the deal aimed at consolidating the country’s dairy industry as global demand surges.

 

China

CHINA SECURITIES JOURNAL

– China’s Ministry of Land and Resources said in recent meetings that it will restrict the use of land for industrial production to alleviate oversupply in certain industries. The areas of concern include iron and steel, cement, plate glass and shipping, among others.

– The Chinese central government provided 4.1 billion yuan ($673.1 million) in subsidies to cover the yearly costs of rural financial institutions in 2012, up by 74 percent from the year before, the finance ministry said. The funds supported the development of new types of rural financial institutions and strengthened basic financial services.

CHINA DAILY

– China will fine-tune its 30-year-old family planning policy, but changes will be made in a prudent and coordinated way, and serve to maintain a low birth rate, said Mao Qun’an, spokesman for the National Health and Family Planning Commission.

– China needs 75,000 executive managers with global experience in the next five to 10 years, but only 3,000-5,000 people in the local market meet necessary criteria, research by the Center for China and Globalisation shows.

SHANGHAI DAILY

– Shanghai’s Communist Party chief Han Zheng said the city could handle slower GDP growth, and looking ahead development would focus on reforms to make the economy more efficient, protect the environment, and improve the well-being of city residents. Shanghai’s GDP grew by 7.7 percent in the first nine months of the year. The government target for 2013 is 7.5 percent.

SECURITIES TIMES

– Guangdong will launch a pilot lending business that would allow domestic companies to obtain loans or credit from domestic financial institutions with a guarantee from external institutions or individuals, according to the People’s Bank of China Guangzhou Branch. This would help to expand the means of financing for private companies and small businesses.

 

Fly On The Wall 7:00 AM Market Snapshot

ANALYST RESEARCH

Upgrades

BioCryst (BCRX) upgraded to Neutral from Underperform at BofA/Merrill
Cinemark (CNK) upgraded to Buy from Neutral at Janney Capital
Comerica (CMA) upgraded to Market Perform from Underperform at Raymond James
Crosstex Energy LP (XTEX) upgraded to Outperform from Neutral at RW Baird
Crosstex Energy LP (XTEX) upgraded to Outperform from Sector Perform at RBC Capital
E-House (EJ) upgraded to Buy from Neutral at Goldman
EQT Corporation (EQT) upgraded to Buy from Hold at Stifel
Embraer (ERJ) upgraded to Neutral from Sell at Citigroup
Emulex (ELX) upgraded to Overweight from Neutral at Piper Jaffray
Heartland Express (HTLD) upgraded to Overweight from Neutral at JPMorgan
Kite Realty Trust (KRG) upgraded to Market Perform from Underperform at Wells Fargo
LeapFrog (LF) upgraded to Outperform from Market Perform at BMO Capital
MedAssets (MDAS) upgraded to Buy from Neutral at B. Riley
Regal Entertainment (RGC) upgraded to Buy from Neutral at Janney Capital
SeaWorld (SEAS) upgraded to Buy from Neutral at Citigroup

Downgrades

Clean Harbors (CLH) downgraded to Neutral from Outperform at Credit Suisse
Costco (COST) downgraded to Neutral from Buy at UBS
FARO Technologies (FARO) downgraded to Hold from Buy at Stifel
Gogo (GOGO) downgraded to Neutral from Buy at UBS
Heartland Payment (HPY) downgraded to Neutral from Outperform at RW Baird
Hologic (HOLX) downgraded to Hold from Buy at Canaccord
Hologic (HOLX) downgraded to Sector Perform from Outperform at RBC Capital
Innospec (IOSP) downgraded to Hold from Buy at KeyBanc
Randgold Resources (GOLD) downgraded to Sector Perform from Outperform at RBC Capital
Symantec (SYMC) downgraded to Neutral from Outperform at Macquarie

Initiations

Atmel (ATML) initiated with an Outperform at Oppenheimer
Container Store (TCS) initiated with a Buy at Stifel
Qualcomm (QCOM) initiated with a Buy at Jefferies
Star Bulk Carriers (SBLK) initiated with a Hold at Stifel
TriMas (TRS) initiated with a Buy at Deutsche Bank
Twitter (TWTR) initiated with a Neutral at Susquehanna
Voxeljet (VJET) initiated with a Neutral at Citigroup
Voxeljet (VJET) initiated with a Neutral at Piper Jaffray

HOT STOCKS

Baker Hughes (BHI) declared force majeure in Iraq
GlaxoSmithKline (GSK) said heart disease drug misses primary endpoint
Vale (VALE) selling Norsk Hydro shares
Heartland Express (HTLD) acquired Gordon Trucking for $300M
Assured Guaranty (AGO) approved $400M share repurchase authorization

EARNINGS

Companies that beat consensus earnings expectations last night and today include:
Achillion (ACHN), Third Point Reinsurance (TPRE), DISH (DISH), RDA Microelectronics (RDA), Assured Guaranty (AGO), Premier (PINC), TG Therapeutics (TGTX), Hologic (HOLX), Sotheby’s (BID), ESCO Technologies (ESE)

Companies that missed consensus earnings expectations include:
Dolan Co. (DM), Gran Tierra (GTE), Global Brass & Copper (BRSS), Northern Tier (NTI), Vocera (VCRA), Cray (CRAY), News Corp. (NWSA), BIOLASE (BIOL), Rackspace (RAX)

Companies that matched consensus earnings expectations include:
Fontegra Financial (FRF)

NEWSPAPERS/WEBSITES

• Target Corp. (TGT) has come up with an answer to Amazon.com (AMZN): Copy it. The discount chain’s latest online offerings have a distinct Amazon feel—from recurring deliveries for diapers to on-demand streaming video and free shipping and discounts for its members, the Wall Street Journal reports
• Hedge funds are making a large bet on municipal debt, bringing aggressive tactics to a $3.7T  market. The strategies include demanding high interest rates in return for financing local governments, buying the debt of struggling municipalities on the cheap, and trying to profit on rising volatility, the Wall Street Journal reports
• Tyco International (TYC) is approaching global private-equity firms to sell its Korean security unit Caps Co. in entirety, sources say, the Wall Street Journal reports
• Russian crude oil producer Rosneft said its board approved deals to sell oil product cargoes to BP (BP) worth over $6B, in addition to a previous deal to sell oil worth $5.3B, Reuters reports
• John Malone’s Liberty Global (LBTYA), the European cable operator, is in talks to acquire Intel’s (INTC) online pay-TV service under development. Malone would use Intel’s system outside the U.S., sources say, Bloomberg reports
• UBS’s (UBS) China venture plans to offer more computerized-trading services as it bets on a surge in demand from institutional money managers in the biggest emerging market, Bloomberg reports

SYNDICATE

Allison Transmission (ALSN) announces sale of 15M common shares by holders
Booz Allen (BAH) files to sell 10M shares of Class A common stock for holders
Fiesta Restaurant (FRGI) files to sell $100M in common stock
Preferred Apartment (APTS) files to sell 3.23M shares of common stock
QuickLogic (QUIK) files to sell common stock
T-Mobile (TMUS) files to sell 66.15M shares of common stock

via Zero Hedge http://feedproxy.google.com/~r/zerohedge/feed/~3/fUlanwzDq2k/story01.htm Tyler Durden

Following a brief hiatus for the Veterans Day holiday, the spotlight will again shine on treasuries and emerging markets today. The theme of higher US yields and USD strength continue to play out in Asian trading. 10yr UST yields are drifting upwards, adding 3bp to take the 10yr treasury yield to 2.78% in Japanese trading: a near-two month high and just 22 bps away from that critical 3% barrier that crippled the Fed’s tapering ambitions last time. Recall that 10yr yields added +15bp in its last US trading session on Friday, which was its weakest one day performance in yield terms since July. USD strength is the other theme in Asian trading this morning, which is driving USDJPY (+0.4%) higher, together with EM crosses including the USDIDR (+0.6%) and USDINR (+0.6%). EURUSD is a touch weaker following a headline by Dow Jones this morning that the Draghi is concerned about the possibility of deflation in the euro zone although he will dispute that publicly, citing Germany’s Frankfurter Allgemeine Zeitung who source an unnamed ECB insider. The headline follows a number of similar stories in the FT and Bloomberg in recent days suggesting a split in the ECB’s governing council.

In China, a few hours ago we saw the end of the “historic” Third Plenum session of the ruling party’s Central Committee which many anticipate will produce a blueprint for a wideranging set of Chinese economic reforms. Hardly, but there will be many promises. According to initial reports, the communist party has promised even more, greater reforms (like in Europe, promising reforms is easy, it is actually doing them that everyone fails, everywhere), and that the market will play a “decisive” instead of just “basic” role in China’s reform path. Whether this means that the SHCOMP will become just as manipulated as the S&P remains to be seen.

Looking at today’s calendar, the data docket again looks relatively thin with German and UK inflation numbers in Europe. Across the Atlantic, there is the NFIB small business optimism survey for October and the Chicago Fed National Activity Index for September. The usually-hawkish Richard Fisher from the Dallas Fed will be speaking shortly after we go to print. The Fed’s Lockhart and Kocherlakota will be speaking on the economy and monetary policy at separate events in the second half of the US trading session. We may hear more from China’s third plenum meeting later today.

Today’s US Data Docket

• US: NFIB small business optimism, cons 93.5 (7:30)
• US: Chicago Fed Nat activity index, cons 0.15 (8:30)
• US: $1.25-$1.75bn POMO (11:00)
• US: Fed speakers Kocherlakota (13:00), Lockhart (13:50)
• US: $30 billion 3 Y note sale (13:00)

Overnight news bulletin from Bloomberg and RanSquawk

• Treasuries extend last week’s post- payrolls decline, with 5Y yield at highest since Oct. 15, 7Y-10Y at highest since mid-Sept. as market participants recalibrate expectations for Fed tapering.
• 3Y notes to be sold today yield 0.650% in WI trading; drew 0.710% at October auction and 0.913% in Sept., which was highest since May 2011
• Fed’s Fisher, speaking in Melbourne, said monetary accomodation is getting riskier by the day, doesn’t see inflation risk right now
• China’s leaders said markets will play a “decisive” role in the world’s second-largest economy after concluding a four-day policy summit designed to chart a course for sustaining long-term growth
• U.K. inflation slowed more than economists forecast in October and is now the closest it’s been to the Bank of England’s 2 percent target since September 2012
• The number of people enrolled in private insurance plans through Obamacare’s exchanges may total less than 100,000, a lower-than-projected tally that could threaten the program’s     viability
• Talks on limiting Iran’s nuclear program, which broke up Nov. 9 without an initial agreement, have been criticized by Israeli Prime Minister Benjamin Netanyahu for considering steps to ease some economic sanctions without first ensuring a halt to Iran’s uranium enrichment
• Russia is negotiating its biggest weapons deals with Egypt since the Cold War as it seeks to capitalize on Obama’s decision to cut defense aid to the military-backed government
• Sovereign yields mostly higher, EU peripheral spreads widen. Nikkei +2.2%, Shanghai +0.8%. European stocks, U.S. equity-index futures decline. WTI crude, copper and gold lower

Market Re-Cap

Positive sentiment that was evident overnight in Asia failed to carry over into the European session and stocks traded lower, with basic materials underperforming its peers amid a firmer USD (+0.33%). However in spite of the cautious sentiment, as well as dovish comments by ECB’s Asmussen and Nowotny, Bunds and USTs trended lower, underpinned by the looming supply from Eurozone, as well as the US, with the US Treasury auctioning off USD 30bln in 3y notes later today and Germany, as well as Italy coming to the market tomorrow. ECB’s Asmussen said that the ECB has not yet reached limit on what it can do on interest rates depending on inflation developments, while ECB’s Nowotny stated that stagnation and not inflation is real risk now. As a result, combination of favourable interest rate differential flows and a firmer USD ensured that USD/JPY remained on an upward trend, which also saw the pair advance to its highest level since mid-September. Looking elsewhere, Gilts outperformed its peers, with short-sterling curve reversing some of the bear steepening yesterday following the release of softer than expected UK CPI data, which also saw GBP/USD slip to its lowest level since early September. Going forward, market participants will get to digest the release of the latest NFIB small business optimism survey for October and the Chicago Fed National Activity Index for September. The Fed’s Lockhart and Kocherlakota will be speaking on the economy and monetary policy at separate events in the second half of the US trading session.

Asian Headlines

China may cut growth target next year to 7% in a sign of the government’s determination to push through structural reforms and steer the economy on to a more sustainable path, according to CICC.

According to Xinhua, China’s Third Plenum has delivered a decision on “major issues concerning comprehensively deepening reforms”.

As a guide, historically, such third plenary sessions of a newly installed Central Committee have acted as a springboard for key economic reforms and this one will also serve as a first test of the new leadership’s commitment to reform.

EU & UK Headlines

ECB’s Draghi is said to be concerned about deflation in the Eurozone, but would dispute that statement publicly, according to sources.

ECB’s Asmussen says ECB has not yet reached limit on what it can do on interest rates depending on inflation developments according to a the New Osnabruck Newspaper.

He added that he would be very careful about moving to negative deposit rate, but would not rule it out. Might be possible in future to drop minimum ECB reserve requirement for banks, this would boost liquidity.

ECB’s Nowotny says sees very low inflation rates in Eurozone for a time to come and that stagnation, not inflation is real risk now.

The EU is expected to open an in-depth review of the German economy, according to sources. The sources added that the EU sees the German current account and trade surplus as a potential excessive imbalance.

UK CPI (Oct) Y/Y 2.2% vs. Exp. 2.5% (Prev. 2.7%) – Lowest since 2012.

UK CPI Core (Oct) Y/Y 1.7% vs. Exp. 2.0% (Prev. 2.2%) – Lowest since Sep 2009. ONS says fall in CPI rate driven by motor fuels, air fares, second-hand cars and university tuition.

UK RPI (Oct) Y/Y 2.6% vs. Exp. 2.9% (Prev. 3.2%)

Ge
rman CPI (Oct F) Y/Y 1.2% vs Exp. 1.2% (Prev. 1.2%)

German Wholesale Price Index (Oct) M/M -1.0% (Prev. 0.7%)

Bank of France Business Sentiment (Oct) Y/Y 99 vs Exp. 97 (Prev. 97)

US Headlines

House Republicans hope to keep the White House on the defensive over ObamaCare this week with a vote on legislation allowing people to keep their existing health plans. The GOP has scheduled five healthcare-related hearings over the next three days, each of which is designed to keep the administration on its back foot.

Equities

Positive sentiment that was evident overnight in Asia failed to carry over into the European session and stocks traded lower, with basic materials underperforming its peers amid a firmer USD (+0.33%). At the same time telecommunications related stocks led the move higher, as market participants used yesterday’s selling pressure as a buying opportunity. of note, despite missing services revenue growth estimates which consequently resulted in a lower open, Vodafone shares reversed and moved into positive territory as focus turned on the proposed USD 9.6bln plan to upgrade its networks around the world.

FX

USD/JPY trended higher this morning, underpinned by a firmer USD and favourable interest rate differential flows as market participants positioned for supply from the US Treasury this week. Elsewhere, softer than expected UK CPI data resulted in broad based GBP weakness, which also saw the major pair fall to its lowest level since early September.

Japanese finance minister Aso and US Treasury Secretary Lew reaffirmed the G7 and G-20 commitment on FX according to a Japanese Ministry of Finance official. Separately, US Treasury Secretary Lew says China needs to move faster toward market-set FX rate and Japan needs to respect G-20 pledge against targeting FX.

Commodities

The IEA have boosted their 2020 world gas demand forecast by 0.8% to 3,975bcm. Finally, the IEA has said that the US is to surpass Saudi Arabia as the top oil producer by 2016.

OPEC output stable in October at 29.89mln BPD, near two-year low

According to the NCB, Saudi crude production is set to fall this month and heading into next year due to falling demand in OPEC oil.

Credit Suisse sees current oil prices close to floor for Q4.

According to the chairman of All India Gem and Jewellery Trade Federation, India’s efforts to curb gold imports are expected to bring down inflow of gold from overseas in Q4 2013 by 71.23% vis-a-vis last year. Q4 is the time of the year when gold demand increases in India.

Chilean copper concentrate export agreements rose 6.3% in September this year, compared with agreements in August, according to a report by the Chilean Copper Commission (Cochilco).

Chinese Oct crude oil output is close to its 3 year high at 4.27mln bpd according to data released by The National Bureau of Statistics.

SocGen’s key FX macro themes:

In the eurozone, reports yesterday claimed that a six-man “revolt” on the ECB led the opposition against the 25bp rate cut last week. We will hear today from Messrs Nowotny, Asmussen and Weidmann (probable dissenters) of what they make of the very low inflation data and what benefit there was in their view of waiting until the December forecasts are completed. The EUR perked up on the report of dissent but bids should prove short-lived if the three members clarify that the cut was only a matter of timing and does not scupper the possibility of the ECB conducting another LTRO in the New Year. Given the renewed strength of US incoming data, risks are skewed towards further EUR weakness, not renewed strength. Keep an eye on support in the 1.3350 area as US trading resumes.

UK CPI data is due today and will kick off a busy three-day period for sterling. Brian Hilliard, our UK economist, forecasts a fall in annual CPI to 2.3% from 2.7%, 2ppts below the consensus of 2.5%. M&A flows (Shire purchase of Viropharma) helped to deflate GBP/USD yesterday below 1.60 and softer inflation data could see further profit taking and a test of the early November low (1.5904). However, conviction is unlikely to keep bidding EUR/GBP higher ahead of a more hawkish Inflation Report anticipated tomorrow. The pullback in GBP/CHF too below 1.4700 should prove short-lived. For our latest GBP slide pack (“GBP: Echoes of 1997”), please click here.

DB’s Jim Reid concludes the overnight recap

A key test for US rates and the dollar comes on Thursday when Yellen testifies before the Senate Banking Committee. Yellen has not discussed monetary policy publicly since April and Thursday will mark her first public appearance on Capitol Hill as Obama’s official Fed chair nominee. As we wrote yesterday, we think it may be a politicised hearing and one where Yellen may have to be more balanced than her natural dovish tendencies to broaden her appeal to the members. On the political point, the WSJ’s Hilsenrath highlights that Republicans are increasingly frustrated at one of the Fed’s open issues at the moment, and one that will be raised again on Thursday, which is the current vacancy for the Fed vice chair of supervision. It is up to President Barack Obama to nominate a candidate for the job, a new role within the seven-member Fed board created by the Dodd-Frank law more than three years ago. But it’s a seat that has remained vacant ever since (WSJ).

Coming back to markets, the Veteran’s Day holiday meant that volumes and volatility were low across a number of markets. Indeed the S&P 500 (+0.07%) traded in just a 2.5pt band for almost the whole day, matching the Stoxx 600 (+0.45%) which traded in a 1.5pt range. However a number of cyclical sectors including oil & gas, tech and financials were able to outperform yesterday. A report by CNN suggested that this year’s US holiday sales are shaping up to be the weakest since 2008 as weak consumer confidence weighs on the consumer wallet. We note that the UofMichigan consumer sentiment survey has dropped 13points since reaching a cyclical high in July but we will get a better picture of US consumer spending with the Thanksgiving and Cyber Monday sales at the end of this month. In contrast to this, there were reports of record high online retail sales during China’s “November 11” retail day yesterday which is the equivalent of the US’ Cyber Monday sales. Elsewhere, gold lost 0.44% yesterday and is now on track for its 10th daily loss of the last eleven. This streak included a couple of big drops last week off the back of the bumper US Q3 GDP and payrolls data prints. EM equities are on a similarly weak run of late which has spurred the MSCI EM equity index (-0.23%) to record its 8th consecutive fall yesterday. European government bond markets managed to erase some of last week’s losses, led by a 14bp rally in Portuguese yields attributed to Moody’s positive outlook change.

In China, today marks the end of the Third Plenum session of the ruling party’s Central Committee which many anticipate will produce a blueprint for a wideranging set of Chinese economic reforms. Officials have been tight-lipped so far as they meet in Beijing, but a number of snippets have been picked up domestic Chinese media. Indeed, the China Daily ran a story yesterday suggesting that private investors could soon buy direct minority stakes in state-owned enterprises but this was denied by the state-owned holding company SASAC. Our economists have written extensively on what they expect from this meeting. DB’s Michael Spencer thinks an emphasis on rapid financial sector liberalization is likely to be one of the most significant elements of the reforms. This offers the prospect of a redirection of credit away from inefficient SOEs towards hitherto capital-constrained but much more efficient private enterprises.

Looking at today’s calendar, the data docket aga
in looks relatively thin with German and UK inflation numbers in Europe. Across the Atlantic, there is the NFIB small business optimism survey for October and the Chicago Fed National Activity Index for September. The usually-hawkish Richard Fisher from the Dallas Fed will be speaking shortly after we go to print. The Fed’s Lockhart and Kocherlakota will be speaking on the economy and monetary policy at separate events in the second half of the US trading session. We may hear more from China’s third plenum meeting later today.

via Zero Hedge http://feedproxy.google.com/~r/zerohedge/feed/~3/fkt-8YM1A8M/story01.htm Tyler Durden

By Andrew Huszar, also posted at the WSJ.  Mr. Huszar, a senior fellow at Rutgers Business School, is a former Morgan Stanley managing director. In 2009-10, he managed the Federal Reserve’s $1.25 trillion agency mortgage-backed security purchase program.

Confessions of a Quantitative Easer

We went on a bond-buying spree that was supposed to help Main Street. Instead, it was a feast for Wall Street.

I can only say: I’m sorry, America. As a former Federal Reserve official, I was responsible for executing the centerpiece program of the Fed’s first plunge into the bond-buying experiment known as quantitative easing. The central bank continues to spin QE as a tool for helping Main Street. But I’ve come to recognize the program for what it really is: the greatest backdoor Wall Street bailout of all time.

Five years ago this month, on Black Friday, the Fed launched an unprecedented shopping spree. By that point in the financial crisis, Congress had already passed legislation, the Troubled Asset Relief Program, to halt the U.S. banking system’s free fall. Beyond Wall Street, though, the economic pain was still soaring. In the last three months of 2008 alone, almost two million Americans would lose their jobs.

The Fed said it wanted to help—through a new program of massive bond purchases. There were secondary goals, but Chairman Ben Bernanke made clear that the Fed’s central motivation was to “affect credit conditions for households and businesses”: to drive down the cost of credit so that more Americans hurting from the tanking economy could use it to weather the downturn. For this reason, he originally called the initiative “credit easing.”

My part of the story began a few months later. Having been at the Fed for seven years, until early 2008, I was working on Wall Street in spring 2009 when I got an unexpected phone call. Would I come back to work on the Fed’s trading floor? The job: managing what was at the heart of QE’s bond-buying spree—a wild attempt to buy $1.25 trillion in mortgage bonds in 12 months. Incredibly, the Fed was calling to ask if I wanted to quarterback the largest economic stimulus in U.S. history.

This was a dream job, but I hesitated. And it wasn’t just nervousness about taking on such responsibility. I had left the Fed out of frustration, having witnessed the institution deferring more and more to Wall Street. Independence is at the heart of any central bank’s credibility, and I had come to believe that the Fed’s independence was eroding. Senior Fed officials, though, were publicly acknowledging mistakes and several of those officials emphasized to me how committed they were to a major Wall Street revamp. I could also see that they desperately needed reinforcements. I took a leap of faith.

In its almost 100-year history, the Fed had never bought one mortgage bond. Now my program was buying so many each day through active, unscripted trading that we constantly risked driving bond prices too high and crashing global confidence in key financial markets. We were working feverishly to preserve the impression that the Fed knew what it was doing.

It wasn’t long before my old doubts resurfaced. Despite the Fed’s rhetoric, my program wasn’t helping to make credit any more accessible for the average American. The banks were only issuing fewer and fewer loans. More insidiously, whatever credit they were extending wasn’t getting much cheaper. QE may have been driving down the wholesale cost for banks to make loans, but Wall Street was pocketing most of the extra cash.

From the trenches, several other Fed managers also began voicing the concern that QE wasn’t working as planned. Our warnings fell on deaf ears. In the past, Fed leaders—even if they ultimately erred—would have worried obsessively about the costs versus the benefits of any major initiative. Now the only obsession seemed to be with the newest survey of financial-market expectations or the latest in-person feedback from Wall Street’s leading bankers and hedge-fund managers. Sorry, U.S. taxpayer.

Trading for the first round of QE ended on March 31, 2010. The final results confirmed that, while there had been only trivial relief for Main Street, the U.S. central bank’s bond purchases had been an absolute coup for Wall Street. The banks hadn’t just benefited from the lower cost of making loans. They’d also enjoyed huge capital gains on the rising values of their securities holdings and fat commissions from brokering most of the Fed’s QE transactions. Wall Street had experienced its most profitable year ever in 2009, and 2010 was starting off in much the same way.

You’d think the Fed would have finally stopped to question the wisdom of QE. Think again. Only a few months later—after a 14% drop in the U.S. stock market and renewed weakening in the banking sector—the Fed announced a new round of bond buying: QE2. Germany’s finance minister, Wolfgang Schäuble, immediately called the decision “clueless.”

That was when I realized the Fed had lost any remaining ability to think independently from Wall Street. Demoralized, I returned to the private sector.

Where are we today? The Fed keeps buying roughly $85 billion in bonds a month, chronically delaying so much as a minor QE taper. Over five years, its bond purchases have come to more than $4 trillion. Amazingly, in a supposedly free-market nation, QE has become the largest financial-markets intervention by any government in world history.

And the impact? Even by the Fed’s sunniest calculations, aggressive QE over five years has generated only a few percentage points of U.S. growth. By contrast, experts outside the Fed, such as Mohammed El Erian at the Pimco investment firm, suggest that the Fed may have created and spent over $4 trillion for a total return of as little as 0.25% of GDP (i.e., a mere $40 billion bump in U.S. economic output). Both of those estimates indicate that QE isn’t really working.

Unless you’re Wall Street. Having racked up hundreds of billions of dollars in opaque Fed subsidies, U.S. banks have seen their collective stock price triple since March 2009. The biggest ones have only become more of a cartel: 0.2% of them now control more than 70% of the U.S. bank assets.

As for the rest of America, good luck. Because QE was relentlessly pumping money into the financial markets during the past five years, it killed the urgency for Washington to confront a real crisis: that of a structurally unsound U.S. economy. Yes, those financial markets have rallied spectacularly, breathing much-needed life back into 401(k)s, but for how long? Experts like Larry Fink at the BlackRock investment firm are suggesting that conditions are again “bubble-like.” Meanwhile, the country remains overly dependent on Wall Street to drive economic growth.

Even when acknowledging QE’s shortcomings, Chairman Bernanke argues that some action by the Fed is better than none (a position that his likely successor, Fed Vice Chairwoman Janet Yellen, also embraces). The implication is that the Fed is dutifully compensating for the rest of Washington’s dysfunction. But the Fed is at the center of that dysfunction. Case in point: It has allowed QE to become Wall Street’s new “too big to fail” policy.

via Zero Hedge http://feedproxy.google.com/~r/zerohedge/feed/~3/weShrLPonm0/story01.htm Tyler Durden

By Andrew Huszar, also posted at the WSJ.  Mr. Huszar, a senior fellow at Rutgers Business School, is a former Morgan Stanley managing director. In 2009-10, he managed the Federal Reserve’s $1.25 trillion agency mortgage-backed security purchase program.

Confessions of a Quantitative Easer

We went on a bond-buying spree that was supposed to help Main Street. Instead, it was a feast for Wall Street.

I can only say: I’m sorry, America. As a former Federal Reserve official, I was responsible for executing the centerpiece program of the Fed’s first plunge into the bond-buying experiment known as quantitative easing. The central bank continues to spin QE as a tool for helping Main Street. But I’ve come to recognize the program for what it really is: the greatest backdoor Wall Street bailout of all time.

Five years ago this month, on Black Friday, the Fed launched an unprecedented shopping spree. By that point in the financial crisis, Congress had already passed legislation, the Troubled Asset Relief Program, to halt the U.S. banking system’s free fall. Beyond Wall Street, though, the economic pain was still soaring. In the last three months of 2008 alone, almost two million Americans would lose their jobs.

The Fed said it wanted to help—through a new program of massive bond purchases. There were secondary goals, but Chairman Ben Bernanke made clear that the Fed’s central motivation was to “affect credit conditions for households and businesses”: to drive down the cost of credit so that more Americans hurting from the tanking economy could use it to weather the downturn. For this reason, he originally called the initiative “credit easing.”

My part of the story began a few months later. Having been at the Fed for seven years, until early 2008, I was working on Wall Street in spring 2009 when I got an unexpected phone call. Would I come back to work on the Fed’s trading floor? The job: managing what was at the heart of QE’s bond-buying spree—a wild attempt to buy $1.25 trillion in mortgage bonds in 12 months. Incredibly, the Fed was calling to ask if I wanted to quarterback the largest economic stimulus in U.S. history.

This was a dream job, but I hesitated. And it wasn’t just nervousness about taking on such responsibility. I had left the Fed out of frustration, having witnessed the institution deferring more and more to Wall Street. Independence is at the heart of any central bank’s credibility, and I had come to believe that the Fed’s independence was eroding. Senior Fed officials, though, were publicly acknowledging mistakes and several of those officials emphasized to me how committed they were to a major Wall Street revamp. I could also see that they desperately needed reinforcements. I took a leap of faith.

In its almost 100-year history, the Fed had never bought one mortgage bond. Now my program was buying so many each day through active, unscripted trading that we constantly risked driving bond prices too high and crashing global confidence in key financial markets. We were working feverishly to preserve the impression that the Fed knew what it was doing.

It wasn’t long before my old doubts resurfaced. Despite the Fed’s rhetoric, my program wasn’t helping to make credit any more accessible for the average American. The banks were only issuing fewer and fewer loans. More insidiously, whatever credit they were extending wasn’t getting much cheaper. QE may have been driving down the wholesale cost for banks to make loans, but Wall Street was pocketing most of the extra cash.

From the trenches, several other Fed managers also began voicing the concern that QE wasn’t working as planned. Our warnings fell on deaf ears. In the past, Fed leaders—even if they ultimately erred—would have worried obsessively about the costs versus the benefits of any major initiative. Now the only obsession seemed to be with the newest survey of financial-market expectations or the latest in-person feedback from Wall Street’s leading bankers and hedge-fund managers. Sorry, U.S. taxpayer.

Trading for the first round of QE ended on March 31, 2010. The final results confirmed that, while there had been only trivial relief for Main Street, the U.S. central bank’s bond purchases had been an absolute coup for Wall Street. The banks hadn’t just benefited from the lower cost of making loans. They’d also enjoyed huge capital gains on the rising values of their securities holdings and fat commissions from brokering most of the Fed’s QE transactions. Wall Street had experienced its most profitable year ever in 2009, and 2010 was starting off in much the same way.

You’d think the Fed would have finally stopped to question the wisdom of QE. Think again. Only a few months later—after a 14% drop in the U.S. stock market and renewed weakening in the banking sector—the Fed announced a new round of bond buying: QE2. Germany’s finance minister, Wolfgang Schäuble, immediately called the decision “clueless.”

That was when I realized the Fed had lost any remaining ability to think independently from Wall Street. Demoralized, I returned to the private sector.

Where are we today? The Fed keeps buying roughly $85 billion in bonds a month, chronically delaying so much as a minor QE taper. Over five years, its bond purchases have come to more than $4 trillion. Amazingly, in a supposedly free-market nation, QE has become the largest financial-markets intervention by any government in world history.

And the impact? Even by the Fed’s sunniest calculations, aggressive QE over five years has generated only a few percentage points of U.S. growth. By contrast, experts outside the Fed, such as Mohammed El Erian at the Pimco investment firm, suggest that the Fed may have created and spent over $4 trillion for a total return of as little as 0.25% of GDP (i.e., a mere $40 billion bump in U.S. economic output). Both of those estimates indicate that QE isn’t really working.

Unless you’re Wall Street. Having racked up hundreds of billions of dollars in opaque Fed subsidies, U.S. banks have seen their collective stock price triple since March 2009. The biggest ones have only become more of a cartel: 0.2% of them now control more than 70% of the U.S. bank assets.

As for the rest of America, good luck. Because QE was relentlessly pumping money into the financial markets during the past five years, it killed the urgency for Washington to confront a real crisis: that of a structurally unsound U.S. economy. Yes, those financial markets have rallied spectacularly, breathing much-needed life back into 401(k)s, but for how long? Experts like Larry Fink at the BlackRock investment firm are suggesting that conditions are again “bubble-like.” Meanwhile, the country remains overly dependent on Wall Street to drive economic growth.

Even when acknowledging QE’s shortcomings, Chairman Bernanke argues that some action by the Fed is better than none (a position that his likely successor, Fed Vice Chairwoman Janet Yellen, also embraces). The implication is that the Fed is dutifully compensating for the rest of Washington’s dysfunction. But the Fed is at the center of that dysfunction. Case in point: It has allowed QE to become Wall Street’s new “too big to fail” policy.

via Zero Hedge http://feedproxy.google.com/~r/zerohedge/feed/~3/weShrLPonm0/story01.htm Tyler Durden

Just over four years ago, we highlighted a recently declassified top secret 1968 telegram to the Secretary of State from the American Embassy in Paris, in which the big picture thinking behind the creation of the IMF’s Special Drawing Right (rolled out shortly thereafter in 1969), or SDRs, was laid out. In that memo it was revealed that despite what some may think, the fundamental driver behind the promotion of a supranational reserve paper currency had one goal in mind: allowing the US to “remain masters of gold.”

Specifically, this is among the top secret paragraphs said on a cold night in March 1968:

If we want to have a chance to remain the masters of gold an international agreement on the rules of the game as outlined above seems to be a matter of urgency. We would fool ourselves in thinking that we have time enough to wait and see how the S.D.R.’s will develop. In fact, the challenge really seems to be to achieve by international agreement within a very short period of time what otherwise could only have been the outcome of a gradual development of many years.

This then puts into question just what the true purpose of the IMF is. Because while its stated role of preserving the stability in developing, and increasingly more so, developed, countries is a noble one, what appears to have been the real motive behind the monetary fund’s creation, was to promote and encourage the development of a substitute reserve currency, the SDR, and to ultimately use it as the de facto buffer and intermediary, for conversion of all the outstanding “barbarous relic” hard currency, namely gold, into the fiat of the future: the soon to be newly created SDR. All the while, and increasingly more so as more countries converted their gold into SDR, such remaining hard currency would be almost exclusively under the control of the United States.

Well, in the intervening 44 years, the SDR never managed to take off, the reason being that the dollar’s reserve currency status was exponentially cemented courtesy of both the great moderation of the 1980s and the derivative explosion of the 1990s and post Glass Steagall repeal 2000s, when the world was literally flooded with roughly $1 quadrillion in USD-denominated derivatives, inextricably tying the fate of the world to that of the dollar.

However, back in 1974, shortly after Nixon ended the Bretton Woods system, and cemented the dollar’s fate as a fiat currency, no longer convertible into gold, the future of the SDR was still bright, especially at a time when the US seemed set to suffer a very unpleasant date with inflationary reality following the 1973 oil crisis, leading to a potential loss of faith in the US dollar.

Which brings us to the topic of today’s article: the international monetary system, reserve currency status, SDRs, and, of course, gold… again.

Below is a memo written in 1974 by Sidney Weintraub, Deputy Assistant Secretary of State for International Finance and Development, to Paul Volcker, when he was still just Under Secretary of the Treasury for Monetary Affairs and not yet head of the Federal Reserve. The source of the memo was found in the National Archives, RG 56, Office of the Under Secretary of the Treasury, Files of Under Secretary Volcker, 1969–1974, Accession 56–79–15, Box 1, Gold—8/15/71–2/9/72. No classification marking. A stamped notation on the note reads: “Noted by Mr. Volcker.” Another notation, dated March 8, indicates that copies were sent to Bennett and Cross. It currently resides in declassified form in Document 61, Foreign Relations Of The United States, 1973–1976, Volume XXXI Foreign Economic Policy, and is found at the Office of the Historian website.

The memo is a continuation of the US thinking on the issue of the then brand new SDR, the fate of paper currencies, and the preservation of US control over reserve currency status. Most importantly, it addresses several approaches to dominating gold as well as the US’ interest of banning gold from monetary system and capping the free market price, contrasted by the opposing demands of various European deficit countries (sound familiar?) on what the fate of gold should be at a time when the common European currency did not exist, and some European countries were willing to fund their deficits with gold: something the US naturally was not happy about.

While we urge readers to read the full memo on their own, here the two punchlines.

First, here is what the S intentions vis-a-vis gold truly are when stripped away of all rhetoric:

U.S. objectives for world monetary system—a durable, stable system, with the SDR [ZH: or USD] as a strong reserve asset at its center — are incompatible with a continued important role for gold as a reserve asset.… It is the U.S. concern that any substantial increase now in the price at which official gold transactions are made would strengthen the position of gold in the system, and cripple the SDR [ZH: or USD].

In other words: gold can not be allowed to dominated a “durable, stable system”, and a rising gold price would cripple the reserve currency du jour: well known by most, but always better to see it admitted in official Top Secret correspondence.

We continue:

To encourage and facilitate the eventual demonetization of gold, our position is to keep the present gold price, maintain the present Bretton Woods agreement ban against official gold purchases at above the official price and encourage the gradual disposition of monetary gold through sales in the private market. An alternative route to demonetization could involve a substitution of SDRs for gold with the IMF, with the latter selling the gold gradually on the private market, and allocating the profits on such sales either to the original gold holders, or by other agreement…. Any redefinition of the role of gold must be based on the principle stated above: that SDR must become the center of the system and that there can be no question of introducing a new form of gold– paper and gold–metal bimetallism, in which the SDR and gold would be in competition.

And there, in three sentences, you have all the deep thinking behind the IMF’s SDR: simply to use it as a vehicle through which a select few can accumulate gold (namely those who can create fiat SDRs d novo), while handing out paper “profits” to the happy sellers.

And just in case it was not quite clear, here it is again, point blank:

Option 3: Complete short-term demonetization of gold through an IMF substitution facility. Countries could give up their gold holdings to the IMF in exchange for SDRs. The gold could then be sold gradually, over time, by the IMF to the private market. Profits from the gold sales could be distributed in part to the original holders of the gold, allowing them to realize at least part of the capital gains, while part of the profits could be utilized for other purposes, such as aid to LDCs. Advantages: This would achieve our goal of demonetization and relieve the problem of gold immobility, since the SDRs received in exchange could be used for settlement with no fear of foregoing capital gains. Disadvantages: This might be a more rapid demonetization than several countries would accept. There would be no benefit from the viewpoint of financing oil imports with gold sales to Arabs (although it is not necessarily incompatible with such an arrangement).

One wonders just who in the “private market” would be stupid enough to convert their invaluable paper money into worthless, barbaric relics?

And finally, was there the tiniest hint of a proposed alternative system to the PetroDollar. Namely, PetroGold?

There is a belief among certain Europeans that a higher price of gold for settlement purposes would facilitate financing of oil imports… Although mobilization of gold for intra-EC settlement would help in the financing of imbalances among EC countries, it would not, of itself, provide resources for the financing of the anticipated deficit with the oil producers. For this purpose, it would be useful if the oil producers would invest some of their excess revenues in gold purchases from deficit EC countries at close to a market price. This would be an attractive proposal for European countries, and for the U.S., in that it would not involve future interest burdens and would avoid immediate problems arising from increased Arab ownership of European and American industry. (The Arabs could both sell the gold and use the proceeds for direct investment, so that the industry ownership problem would not be completely solved.) From the Arab point of view such an asset would have the advantages of being protected from exchange-rate changes and inflation, and subject to absolute national control. 

One wonders if the price of gold is “high enough” now for Arab purposes, and just where the Arabs are now in their thinking of converting oil into gold… or alternatively into a gold-backed renminbi. And if not now, soon, once the pent up inflation in the Fed’s $4 trillion, and rising, balance sheet inevitably start to leak out?

The full Volcker memo can be found here.

h/t Koos Jansen

via Zero Hedge http://feedproxy.google.com/~r/zerohedge/feed/~3/8Mbvw19GVME/story01.htm Tyler Durden

Just over four years ago, we highlighted a recently declassified top secret 1968 telegram to the Secretary of State from the American Embassy in Paris, in which the big picture thinking behind the creation of the IMF’s Special Drawing Right (rolled out shortly thereafter in 1969), or SDRs, was laid out. In that memo it was revealed that despite what some may think, the fundamental driver behind the promotion of a supranational reserve paper currency had one goal in mind: allowing the US to “remain masters of gold.”

Specifically, this is among the top secret paragraphs said on a cold night in March 1968:

If we want to have a chance to remain the masters of gold an international agreement on the rules of the game as outlined above seems to be a matter of urgency. We would fool ourselves in thinking that we have time enough to wait and see how the S.D.R.’s will develop. In fact, the challenge really seems to be to achieve by international agreement within a very short period of time what otherwise could only have been the outcome of a gradual development of many years.

This then puts into question just what the true purpose of the IMF is. Because while its stated role of preserving the stability in developing, and increasingly more so, developed, countries is a noble one, what appears to have been the real motive behind the monetary fund’s creation, was to promote and encourage the development of a substitute reserve currency, the SDR, and to ultimately use it as the de facto buffer and intermediary, for conversion of all the outstanding “barbarous relic” hard currency, namely gold, into the fiat of the future: the soon to be newly created SDR. All the while, and increasingly more so as more countries converted their gold into SDR, such remaining hard currency would be almost exclusively under the control of the United States.

Well, in the intervening 44 years, the SDR never managed to take off, the reason being that the dollar’s reserve currency status was exponentially cemented courtesy of both the great moderation of the 1980s and the derivative explosion of the 1990s and post Glass Steagall repeal 2000s, when the world was literally flooded with roughly $1 quadrillion in USD-denominated derivatives, inextricably tying the fate of the world to that of the dollar.

However, back in 1974, shortly after Nixon ended the Bretton Woods system, and cemented the dollar’s fate as a fiat currency, no longer convertible into gold, the future of the SDR was still bright, especially at a time when the US seemed set to suffer a very unpleasant date with inflationary reality following the 1973 oil crisis, leading to a potential loss of faith in the US dollar.

Which brings us to the topic of today’s article: the international monetary system, reserve currency status, SDRs, and, of course, gold… again.

Below is a memo written in 1974 by Sidney Weintraub, Deputy Assistant Secretary of State for International Finance and Development, to Paul Volcker, when he was still just Under Secretary of the Treasury for Monetary Affairs and not yet head of the Federal Reserve. The source of the memo was found in the National Archives, RG 56, Office of the Under Secretary of the Treasury, Files of Under Secretary Volcker, 1969–1974, Accession 56–79–15, Box 1, Gold—8/15/71–2/9/72. No classification marking. A stamped notation on the note reads: “Noted by Mr. Volcker.” Another notation, dated March 8, indicates that copies were sent to Bennett and Cross. It currently resides in declassified form in Document 61, Foreign Relations Of The United States, 1973–1976, Volume XXXI Foreign Economic Policy, and is found at the Office of the Historian website.

The memo is a continuation of the US thinking on the issue of the then brand new SDR, the fate of paper currencies, and the preservation of US control over reserve currency status. Most importantly, it addresses several approaches to dominating gold as well as the US’ interest of banning gold from monetary system and capping the free market price, contrasted by the opposing demands of various European deficit countries (sound familiar?) on what the fate of gold should be at a time when the common European currency did not exist, and some European countries were willing to fund their deficits with gold: something the US naturally was not happy about.

While we urge readers to read the full memo on their own, here the two punchlines.

First, here is what the S intentions vis-a-vis gold truly are when stripped away of all rhetoric:

U.S. objectives for world monetary system—a durable, stable system, with the SDR [ZH: or USD] as a strong reserve asset at its center — are incompatible with a continued important role for gold as a reserve asset.… It is the U.S. concern that any substantial increase now in the price at which official gold transactions are made would strengthen the position of gold in the system, and cripple the SDR [ZH: or USD].

In other words: gold can not be allowed to dominated a “durable, stable system”, and a rising gold price would cripple the reserve currency du jour: well known by most, but always better to see it admitted in official Top Secret correspondence.

We continue:

To encourage and facilitate the eventual demonetization of gold, our position is to keep the present gold price, maintain the present Bretton Woods agreement ban against official gold purchases at above the official price and encourage the gradual disposition of monetary gold through sales in the private market. An alternative route to demonetization could involve a substitution of SDRs for gold with the IMF, with the latter selling the gold gradually on the private market, and allocating the profits on such sales either to the original gold holders, or by other agreement…. Any redefinition of the role of gold must be based on the principle stated above: that SDR must become the center of the system and that there can be no question of introducing a new form of gold– paper and gold–metal bimetallism, in which the SDR and gold would be in competition.

And there, in three sentences, you have all the deep thinking behind the IMF’s SDR: simply to use it as a vehicle through which a select few can accumulate gold (namely those who can create fiat SDRs d novo), while handing out paper “profits” to the happy sellers.

And just in case it was not quite clear, here it is again, point blank:

Option 3: Complete short-term demonetization of gold through an IMF substitution facility. Countries could give up their gold holdings to the IMF in exchange for SDRs. The gold could then be sold gradually, over time, by the IMF to the private market. Profits from the gold sales could be distributed in part to the original holders of the gold, allowing them to realize at least part of the capital gains, while part of the profits could be utilized for other purposes, such as aid to LDCs. Advantages: This would achieve our goal of demonetization and relieve the problem of gold immobility, since the SDRs received in exchange could be used for settlement with no fear of foregoing capital gains. Disadvantages: This might be a more rapid demonetization than several countries would accept. There would be no benefit from the viewpoint of financing oil imports with gold sales to Arabs (although it is not necessarily incompatible with such an arrangement).

One wonders just who in the “private market” would be stupid enough to convert their invaluable paper money into worthless, barbaric relics?

And finally, was there the tiniest hint of a proposed alternative system to the PetroDollar. Namely, PetroGold?

There is a belief among certain Europeans that a higher price of gold for settlement purposes would facilitate financing of oil imports… Although mobilization of gold for intra-EC settlement would help in the financing of imbalances among EC countries, it would not, of itself, provide resources for the financing of the anticipated deficit with the oil producers. For this purpose, it would be useful if the oil producers would invest some of their excess revenues in gold purchases from deficit EC countries at close to a market price. This would be an attractive proposal for European countries, and for the U.S., in that it would not involve future interest burdens and would avoid immediate problems arising from increased Arab ownership of European and American industry. (The Arabs could both sell the gold and use the proceeds for direct investment, so that the industry ownership problem would not be completely solved.) From the Arab point of view such an asset would have the advantages of being protected from exchange-rate changes and inflation, and subject to absolute national control. 

One wonders if the price of gold is “high enough” now for Arab purposes, and just where the Arabs are now in their thinking of converting oil into gold… or alternatively into a gold-backed renminbi. And if not now, soon, once the pent up inflation in the Fed’s $4 trillion, and rising, balance sheet inevitably start to leak out?

The full Volcker memo can be found here.

h/t Koos Jansen

via Zero Hedge http://feedproxy.google.com/~r/zerohedge/feed/~3/8Mbvw19GVME/story01.htm Tyler Durden

With Bitcoin ranging from $395 to $295 and back up to $370 in the last 24 hours, keeping an eye on where exactly the "selling" and "buying" is coming from may prove useful to some. As Liberty Blitzkrieg's Mike Krieger highlights, there is a site for that "FiatLeak.com," which uses data from the three major Bitcoin exchanges for which data is published, Mt. Gox, Bitstamp and BTC China to show you which countries and which currencies are moving in and out of bitcoin in real time.

 

As the site notes,

fiatleak – watch the world's currencies flow into BTC in realtime

 

When one of the fiat currencies listed below is used to purchase BTC on any of the major bitcoin markets (MT.GOX, BITSTAMP, BTCChina) a bitcoin is sent from the currency counter in red to the country on the map. The total BTC value is listed in green and plotted across the map.

 

Refreshing the site will cause all data to be reset to 0, allowing you to track different periods in time.

Source: FiatLeak.com

via Zero Hedge http://feedproxy.google.com/~r/zerohedge/feed/~3/tO5RmZUre3A/story01.htm Tyler Durden