Category: zerohedge

On Thursday, we revealed something truly shocking: ISIS is no longer handing out free Snickers bars and Gatorade to its fighters.

Apparently, the cash crunch created by Russia’s unrelenting assault on the group’s illicit oil trafficking operation has left Abu Bakr al-Baghdadi with little choice but to cut salaries by 50% and eliminate some of the perks soldiers have until now enjoyed.

Like free candy bars.

And complementary sports beverages.

For those unaware, ISIS brings in around a billion a year in proceeds from various illicit activities including, but certainly not limited to, illegal crude sales, slave trading, and taxes (and yes, we deliberately lumped taxes in with “illicit activities”, an editorial decision we’re sure readers will agree with).

Those profits are being eroded by the Russian Defense Ministry’s assault on militant oil smuggling routes, and unless Raqqa’s terror-crats can figure out how to extract a commensurate amount of profits from Libya’s oil riches, the caliphate may be set to enter a terminal decline.

As we also noted on Thursday, Islamic State’s balance sheet demise “isn’t a consequence of one airstrike on a Mosul cash center as AP and other Western media would have you believe.”

We were referring to the much balleyhooed strike on an ISIS “bank” in Mosul, Iraq’s second largest city that’s been controlled by ISIS for the better part of two years. “We’re talking about an organization that brings in a billion dollars a year here, so destroying a few million in hard currency isn’t going to make a difference,” we remarked.

Well, don’t look now, but ABC is out with a new piece claiming that “coalition” strikes have destoryed more than a half billion in illegal dollars procured by Islamic State. “The U.S. believes that airstrikes in Iraq and Syria have destroyed more than $500 million in cash that ISIS used to pay its fighters and fund its terror and military operations,” ABC reports. “Ten strikes have been conducted since then with the most high profile being two airstrikes in Mosul, in northern Iraq, targeting facilities that American officials characterized as ISIS banks.” 

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BofA’s HY credit strategist Michael Contopoulos, whose work we have recently presented on several occasions, has been rather dour over the past year on the future of HY debt, as the junk bond market first descended into purgatory, and then right into the 9th circle of hell, courtesy of a collapse in the energy sector unlike anything seen in history…

… a collapse which virtually everyone admits will spread into all other sectors and products: it’s just a matter of time.

However, rarely if ever have we heard Contopoulos as downright apocalyptic as he is in his latest note, “A Minsky Moment”, which has to be read to be believed, if only for the selected excerpts below:

With a view that the market will eventually price in a much worse default environment than it is currently, we are left trying to determine when peak spreads will occur and for how long they will last. Unfortunately, when peak spreads are reached is not consistent across time periods, making it difficult to time the optimal entry. For example, in 1989 spreads peaked 178 days before the default rate peaked, in 2002 it was 165 days after, and in 2008 it was 290 days before (Chart 2). Convoluting the picture today is that the Energy default rate has the potential to skew that of the overall market. For example, if high yield E&P companies realize a 50% default rate this year and the rest of Energy experiences a 25% default rate, the Energy component of the market default rate could be nearly 6ppt. If the rest of the market experiences just a 4ppt rate, the market could realize double digit default rates in 2016, despite a relatively benign  non-commodity contribution.

 

* * *

In our opinion, however, we think the biggest issue in the market is the buildup of corporate leverage without a place for it to go. And what will likely cause peak spreads is not an increase in defaults, but a capitulation moment that creates a rush for the exits. In this way, we think the 1989 and 2008 cycles are more representative of what we could see this go around, as max spreads occur before the highest defaults – whether that is in 2016 or 2017 will depend on the timing of the catalyst.

* * *

Although we have argued for some time that what matters to market performance is underlying fundamental growth, we have further argued that should high yield be the canary in the coal mine for earnings and the macro economy, the ensuing crisis is likely to be one defined by the excessive credit creation in the corporate market. Should a market meltdown be accompanied with a lack of inflationary pressure, the credit creation of the last 5 years will likely be met with a period of significant credit destruction.

 

And in a world where corporate balance sheets are arguably the most unhealthy they have ever been (all-time high leverage in HG and HY) where companies have relied on cheap debt to fund a growth through acquisition strategy, what happens if funding is either unavailable or too expensive to make a growth through acquisition strategy make sense? Same goes for buybacks and special dividends? Then one would have to cut capex. But with little capex to cut, personnel could be cut next (particularly if those people are beginning to cost more). And when coupled with a consumer that is already saving 5.5% of disposable income, should we see layoffs amidst an already low GDP, poor CEO confidence, and banks that are risk averse and perhaps hurting with commodity exposure, things could potentially get messy in such a scenario.

* * *

… perhaps the biggest innovation of the post-GFC years, and potentially the most detrimental and levering, was the massive increase in the Fed’s balance sheet on the back of quantitative easing. As the Fed’s financial engineering created a lack of yield globally, opportunities to invest in corporate debt abounded both within the US and globally. Although consumer and bank balance sheets have been repaired, the post-GFC easy monetary world created an unsustainable thirst for corporate debt that earnings growth never supported (Chart 9 and Chart 10).

 

 

Herein lies our concern for markets and where the fear of a Fisherian debt deflation spiral can become worrisome. Although it is unlikely that the corporate market is enough to cause outright deflation, certainly a corporate credit bust can create disinflation or enhance deflation if it already exists. As liquidation leads to falling prices, dollar strength causes the very debt that needs to be paid down all the larger. Liquidation leads to defaults and layoffs, which, in a post-Volcker world, would likely cause banks to pull back on lending even further. The lack of lending coupled with job losses could create a weak consumer, which would further propagate a negative feedback loop to corporate earnings and further liquidation. Although we stress that this is not the scenario our economists envision for the US economy, we think attention needs to be paid to the potential impact credit markets can have on the macro economy, should the debt deflation cycle kick off.

And in a subsequent post we will lay out the three potential catalysts to the capitulations that BofA believes could unleash the endgame of this particular cycle of central planning. 

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"We are either already in a recession or rapidly moving towards one," warns billionaire investors Sam Zell. A stunned Maria Bartiromo is shocked to hear from Zell that world trade has slowed dramatically and currency wars and election uncertainties have contributed to this. Most shocking of all to the Keynesian pump-primers (and oil bulls) is Zell's remarks that "when I look around the world for prospective demand, it's not there… demand is pretty weak." Markets are not pricing in recession and Zell warns, even with recent declines that "this is pretty frothy" thanks to easy money and he is a seller not a buyer.

Zell warns – "The Fed is out of tools [to save the markets].. and that is going to make this more problematic."

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Submitted by Eric Bush via Gavekal Capital blog,

Stock prices and oil prices have been moving in a more positive correlated fashion recently than at any point since 1980. The 65-day correlation between Brent Crude Oil and MSCI World Index peaked at 52% on 11/13/2015 and has since fallen back a bit to 41%. The 200-day moving average is also at 41% and continues to climb higher. The current correlation of 41% is the highest correlation between stocks and oil prices ever over the history we have for both series.

Of course there have been certain sectors of the stock market that have been highly correlated to the price of oil for quite a while. And fortunately for investors, there have been sectors that have had a negative correlation. In the first chart below, we show GKCI Developed Market cyclical sectors (Consumer Discretionary, Energy, Financials, Industrials, Information Technology, Materials) relative to the overall stock market (blue line). The red line shows the 5-day moving average for Brent Crude Oil. Over the past five years, these two series have had a 85% correlation. As oil has fallen, cyclical stocks have fallen with it.

In the second chart, we show GKCI Developed Market growth counter-cyclical sectors (Consumer Staples and Health Care) relative to the overall stock market (blue line). Once again, the red line shows the 5-day moving average for Brent Crude Oil.

This time we have inverted the right-hand scale so as to better illustrate the relationship. Here, we see growth-counter cyclicals have actually had a NEGATIVE relationship with oil prices. To the tune of a -84% correlation over the past five years. Consequently, growth counter-cyclical stocks have been the best way for investors to buck the drag that oil prices have had on stock prices.

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With 5 of their Top 6 trades for 2016 already stopped out, and their recent heavy losses from swing-trading Gold, one might question the demand for an ETF that tracks Goldman Sachs' hedge fund research tips, but, as Bloomberg reports,  David Kostin's "Hedge Fund Trend Monitor" report – tracking the 50 companies that matter most to hedge funds – is about to be launched.

According to EDGAR filings, the new ETF will be called the Goldman Sachs Hedge Fund VIP ETF and as Bloomberg notes, would mark the first time a Wall Street bank uses its own research report as the basis for an ETF.

While this isn’t Goldman’s own investment calls per se, it does show them looking to leverage one of their greatest strengths in an ETF and differentiate itself from a crowded field of over 1,800 ETFs issued by more than 50 different companies.

 

If these ETFs gather assets, this could turn into a trend for big Wall Street banks, some of whom are new to the ETF market.

Of course, this being Goldman – the company which brought you the Made for Shorting Abacus CDO – the guaranteed way to make money with this ETF would be to short it:

Still prior performance is not necessarily indicative of future results (except it has been)…

Given the dismal performance, one can only imagine that creating this ETF enables Goldman Sachs' clients to offload huge blocks of their positions into a muppet-friendly investment vehicle that every Tom, Dick, and Day-Trader will scoop up.

For now the ETF has not been assigned a ticker symbol – may we suggest 'LOSE' or 'MUPT' or 'FUKT'?

It should be noted that Goldman’s ETF wouldn’t be the first to track hedge funds’ stock holdings. The are a few ETFs that already do this, the most popular being the $120 million Global X Guru Index ETF (GURU).

Finally, if you want to play along at home, here is the latest Goldman VIP list:

The Biggest Hedge Fund Hotels all in one outwardly projecting liquid investment vehicle.

What could possibly go wrong? Since the answer is everything, the trade here is so obvious we won't even lay it out.

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Submitted by Claire Bernish via TheAntiMedia.org,

Canada’s Cape Breton Island has become the unofficial escape option for their neighbors to the south should Donald Trump manage to be elected the next president of the United States. A website promoting the plan greets visitors with the following:

“Hi Americans! Donald Trump may become the President of your country! If that happens, and you decide to get the hell out of there, might I suggest moving to Cape Breton Island!”

What began as a bit of a tongue-in-cheek jab at the surprising support for the brash, xenophobic, and oddly anti-Iraq war billionaire candidate, the website Cape Breton If Donald Trump Wins quickly garnered over 10,00 hits — and a number of serious inquiries.

Local radio DJ Rob Calabrese, who created the site, told CTV Atlantic, “There are millions of people on this continent who, if they knew about the lifestyle here on Cape Breton, they would think, ‘This is for me.’”

According to the website, Cape Breton is experiencing a population decline and would therefore welcome newcomers with open arms. Prominently mentioned among reasons to consider this move to the island on Canada’s eastern coast are state-sponsored healthcare, diversity, weather comparable to New York City, “the most affordable housing market in North America,” and — though unmentioned — no Donald Trump.

A link on Calabrese’s site directs visitors to the site for Cape Breton Island tourism; and Destination Cape Breton CEO Mary Tulle said the link had resulted in more than 2,000 hits on Tuesday, alone — originating from Delaware, Oregon, Texas, and other states around the U.S.

Though Calabrese didn’t necessarily intend to create a flurry of interest in Cape Breton, he explained he will do his best to help those with serious questions about the move — including several concerning the process for legal immigration he’s already received. And he understands why people in the U.S. might be making escape arrangements at the prospect of Trump taking over 1600 Pennsylvania Avenue. As he explained:

“It’s scary. I know I wouldn’t want to live in a country where he’s leader.”

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Having warned – correctly – of the impending collapse of the US credit markets last year, it just seems ironic that Carl Icahn's firm has been downgraded to "watch negative" from stable by S&P, implying a cut to junk may be imminent. Just as we detailed earlier, activist investors have suffered greatly in the oil rout, and S&P cites declining investment values in the firm's portfolio, which have smashed the loan-to-value ratio up to 45% (a crucial threshold for the ratings agency).

Full S&P Statement: Icahn Enterprises L.P. 'BBB-' Ratings Placed On CreditWatch Negative On Declining Portfolio Values And Higher Leverage

Icahn Enterprises L.P.'s investment portfolio has lost a significant amount of value in the last several months.

• The firm's loan-to-value ratio has very likely increased above 45%.

As a result, we are putting our 'BBB-' issuer credit rating and 'BBB-' issue rating on the firm's senior unsecured debt on CreditWatch with negative implications.

We expect to resolve the CreditWatch listing within 90 days once we obtain more performance data and observe investment values over a longer period.

Standard & Poor's Ratings Services said today it placed its 'BBB-' issuer credit rating on Icahn Enterprises L.P. on CreditWatch with negative implications. We also placed our 'BBB-' issue rating on the company's senior unsecured debt on CreditWatch with negative implications.

"The CreditWatch action reflects declining investment values in the firm's portfolio that we believe have very likely led to the firm exceeding a 45% loan-to-value (LTV) ratio, which we previously cited as a key threshold for the rating," said Standard & Poor's credit analyst Clayton Montgomery. Through Feb. 18, 2016, we estimate that the firm has lost at least $1.4 billion in value versus investment values as of Sept. 30, 2015. Although we only have good visibility on the firm's publicly traded majority holdings (since the hedge fund is hedged and can change exposures during the quarter and other holdings are private), we also believe that the hedge fund may have also lost value in the fourth quarter and so far in 2016 due to declining markets and the significant deterioration in commodity-related investments (including Chesapeake, Cheniere, and Freeport-McMoRan).

The firm's LTV ratio could benefit from the successful sale of Fontainebleau over the near to medium term. However, given the magnitude of the decline in the portfolio, this will likely not improve the company's LTV ratio to back below the 45% threshold. Furthermore, we believe that the firm may redeploy The firm's LTV ratio could benefit from the successful sale of Fontainebleau over the near to medium term. However, given the magnitude of the decline in the portfolio, this will likely not improve the company's LTV ratio to back below the 45% threshold. Furthermore, we believe that the firm may redeploy those proceeds back into investments, which would be less beneficial to the firm's LTV ratio than if management kept proceeds in cash. We net all of Icahn's cash against debt in our leverage calculation. 

The firm has started to maintain less cash at the holding company than it has historically. Our historical assumption was that the firm would maintain over $500 million in cash based on statements made by management and the firm's behavior over time. As of Sept. 30, 2015, cash was only $182 million, down from $1.1 billion a year earlier. We believe that cash provides a very visible source of repayment for the firm's debt obligations, especially given the firm's relatively weak income stream that it receives from a few portfolio companies. Thus we view this deterioration negatively. Icahn's next debt maturity is $1.175 billion in senior unsecured notes due in January 2017, which we believe the company has the ability to repay if needed. However, at this point, we view it as more likely that the firm will refinance this maturity.

We believe it is possible that Carl Icahn, the majority shareholder of IEP and Chairman of the Board, could support the company's capitalization at some point in the future through an equity raise. We don't include the assumption of support in the rating, but nonetheless it is a possibility that could improve the firm's leverage ratio and creditworthiness. As of Sept. 30, 2015, Mr. Icahn owned 88.8% of Icahn units. We would view an equity offering positively since it would result in deleveraging, but portfolio deterioration may still outweigh the benefit of this action, if it were to occur.

*  *  *

IEP's bonds have lifted in the last few days off record lows… but we suspect this move may nudge them lower… given this statement from S&P:

we also believe that the hedge fund may have also lost value in the fourth quarter and so far in 2016 due to declining markets and the significant deterioration in commodity-related investments (including Chesapeake, Cheniere, and Freeport-McMoRan).

We will see…

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In recent months, much has been said about how as a result of the rising correlation between oil and equities (and pretty much all other asset classes), crude has been dragging down stocks, and alternatively unelashing furious short squeezes on even the tiniest pop in the price of oil.

But what about the impact of the strong dollar on the S&P 500?

We have some bad news for the bulls, courtesy of JPM’s Kolanovic, who explains how the strong USD is now both a blessing and a curse for equities. But mostly a curse in that the market can’t rally without a stronger dollar… and that it also needs a weaker dollar to rally.

S&P 500 and USD: In our previous report, we explained our view that the market may stop rewarding passive investors (who were winners in recent years). In that light, we are not excited about owning the S&P 500 as core exposure to risky assets. The S&P 500 is capitalization weighted, has high momentum bias, is internet heavy, and is implicitly long USD (when the USD is near historical highs). The current correlation of the S&P 500 to USD is ~30%. One of the reasons behind the positive correlation of the S&P 500 to USD is the high weight in Momentum and Low Volatility stocks in the index, and these stocks’ positive correlation to USD. At the same time, the index has low weight in Value stocks that are negatively correlated to USD (correlation of momentum, value and S&P 500 to USD are shown in Figure 1). When it comes to macro drivers of equities, the S&P 500 may be trapped by USD: it can’t rally to new highs without USD (momentum sectors, FANGs, etc.), and at the same time the strong USD is capping any significant upside due to its negative impact on EPS (via value segments such as multinationals and energy).

 

Summary: the market is now damned if the Fed hikes more, and damned if it doesn’t.

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Rig counts dropped for the 9th straight week but for the 3rd week in a row, US oil rig counts dropped heavily, down 26 this week after -28, and -31 in the last 2 weeks. The 85 rig drop is a 17% plunge over 3 weeks – the fastest pace since Feb 2015, and 2nd fastest since Feb 2009.

• U.S. OIL RIG COUNT DOWN 26 TO 413, BAKER HUGHES SAYS
• U.S. TOTAL RIG COUNT DOWN 27 TO 514 , BAKER HUGHES SAYS

Rig counts continue to track the lagged crude price perfectly…

Here is the regional breakdown:

And yet despite this collapse in rig, why Total crude production has barely dropped.

The reason: rig productivity is soaring.

As we explained yesterday, rig counts are meaningless when efficiency improvements leave hardly any impact on production, when imports are soaring, and when even huge CapEx cuts as shown in the following Goldman chart…

… result in only tiny production reductions.

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Over the past several days, Turkey has been busy putting the world on the course to World War III.

The YPG – which Ankara identifies with the “terrorist” PKK- has contributed to the Russian and Iranian effort to cut off the Azaz corridor, the last remaining supply line to the rebels fighting to oust Bashar al-Assad in Syria.

The Kurdish effort to unite territory the group holds east of the Euphrates with cities it hold west of the river in Syria has infuriated Ankara, which views the YPG advance as a kind of precursor to Kurdish independence in Turkey.

The solution, Turkey says, is a 10 km incursion into Syria, an effort which will establish a “safe zone” for those fleeing the violence that plagues the country’s besieged urban centers. That , of course, is merely an excuse for Ankara to send ground troops into the country, where the Sunni-sponsored effort to overthrow Assad is on its last legs.

The deadly bombing in Ankara that claimed the lives of several dozen people on Thursday is predictably being trotted out as an excuse to put Turkish boots on the ground in Syria. “Months ago in my meeting with him I told him the U.S. was supplying weapons. Three plane loads arrived, half of them ended up in the hands of Daesh (Islamic State), and half of them in the hands of the PYD,” Turkish President Recep Tayyip Erdogan said on Friday. “Against whom were these weapons used? They were used against civilians there and caused their deaths,” he added.

Obviously, that’s completely absurd. Turkey has been funneling guns and money to the Syrian opposition for years. For Ankara to accuse anyone of “supplying weapons” to the Sunni insurgents who are endangering civilians is the epitome of hypocrisy. Turkey is only angry at the US and Russia in this case because Washington and Moscow both support Kurdish elements that Ankara views as threatening to AKP and to Turkey’s territorial integrity. 

At this juncture, the only way to preserve the rebellion and protect the anti-Assad cause is to insert ground troops, a move that both Ankara and Riyadh are seriously considering. The presence of Turkish and/or Saudi boots would mark a meaningful escalation and would put Sunni forces directly into battle against Iran’s powerful Shiite proxy armies, setting the stage for a disastrous sectarian battle that would forever alter the Mid-East balance of power. 

On Friday, in an effort to avert an all-out global conflict, Moscow called for a UN Security Council meeting to discuss Turkey’s plans to send troops into Syria. “Turkey’s announced plans to put boots on the ground in northern Syria undercut efforts to launch a political settlement in the Syrian Arab Republic,” Maria Zakharova said, earlier today.

The announced intentions of Ankara (as well as Riyadh and Doha) are not consistent with the will of Damascus, which has only invited Russia and Iran to the fight against “the terrorists.” Everyone else – including the US, Britain, and France – are effectively trespassing. 

In May of 2014, Russia and China blocked a Security Council resolution to refer the Syria conflict to the Hague. Now, we’ll get to see whether the West will protect its allies in Ankara and Riyadh, or whether someone in the international community will finally step up and say “enough is enough” when it comes to fomenting discord in Syria.

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