On The Impossibility Of A Soft Landing

Submitted by David Stockman via Contra Corner blog,

While the robo-traders play tag with the chart points, it is worth considering how it will all end. After all, at today’s close the broad market (S&P 500) was valued at 24.3X LTM earnings per share. That is, valuations are in the nosebleed section of history, but financial history has tumbled into the sub-basement of future possibilities.

Stated differently, every first year spread-sheet jockey knows that what drives LBO models and NPV calculations is the assumed terminal year growth rate. Get imaginative enough about the possibilities out there, and you can come up with a swell return on today’s investment even if the next few years look a little rocky—-or even alot so.

So never mind that earnings have fallen five straight quarters and at $86.53 per share are now down 18.5% from their September 2014 LTM peak. Also ignore the fact that this quarter will be down 10% and that there is no rational basis for a rebound any time soon.

But somewhere behind the robo-machines which line the casino there is a corporals guard of carbon units buying what Wall Street is dumping. And whether they know it or not, at 24.3X they are betting on one whopping big terminal growth rate on the far side of the deflationary turmoil now afflicting the global economy.

Here’s the thing, however. The current deflationary wave is not a one-time detour which will pass in due course. Per the above analogy, we do not have merely two years of bad numbers in a 10-year LBO model with a robust terminal value at the end.

What we have, instead, is merely the initial shock waves from the actions of central banks which are trashing the joint. Lurking on the other side, therefore, is unfathomable risk, not extraordinary growth.

In a word, the stock market is not worth even 15X its current earnings or 1300. At length, the carbon units out there catching today’s bouncing dead cats will thank their lucky stars if their losses are only 40% from here.

The historical dead-end ahead is dramatically evident in the case of the BOJ and its lunatic detour into NIRP. And Japan is only following central bank policies recommended by Keynesians from the West and which are being followed, except for small nuances of degree, by the ECB and the Fed as well.

The very last place on earth that can afford negative interest rates, however, is Japan. It’s an old age colony lapsing toward fiscal bankruptcy. In hardly a few years it will desperately need buyers for its government bonds who don’t count their wealth in yen.

Yet Kuroda-san has just reiterated to the Japanese parliament that he can go deeper into NIRP if necessary or buy more securities under QEE——even if that turns out to involve upwards of $50 billion per year of ETFs in lieu of scarce Japanese government bonds.

And “scarce” is hardly an adequate term. The BOJ is now buying more than 100% of Japan’s new fiscal debt issues, and those in turn account for nearly 50% of current spending. Yet after the madmen at the BOJ have purchased their monthly quotas, there are few bonds left to be found.

So the 10-year government bond is trading at negative 13 basis points. It has become so scarce that there is occurring a comical chase for yield in what remains of the Japanese government bond market. To wit, in order to find “positive” yield Japanese institutional investors are racing out towards the very end of the yield curve, where they are scooping up 40-year bonds at a yield of just 29 basis points.

That’s just plain hideous. Here is what the old age colony on the Pacific Rim looks like 40 years from now. Already baked into the demographic cake is a 40% reduction in the size of Japan’s working age population.

Japan’s current working age population of 75 million is already staggering under the weight of current taxation and high living costs. But when it reaches just 45 million by 2060 the math will become prohibitive.

Japan’s Demographic Dead End

In other words, the cult of ultra-low interest rates and the specious Keynesian axiom that prosperity can always be had with more debt is literally destroying Japan’s capacity for rational governance. In fact, what Japan needs is just the opposite of NIRP—–that is, high interest rates and unusually strong rewards for deferral of current consumption.

In preparation for its built-in demographic time bomb, for example, Japan’s politicians should be running fiscal surpluses. And they might be far more inclined if they faced the proverbial posse of bond vigilantes, not a herd of desperate bond managers chasing 29 basis points of yield into financial oblivion.

Likewise, Japan’s households should be salting away extra-ordinary amounts of savings, but just the opposite has occurred. By 2015 Japan’s famed high rate of household savings, which had been nearly 20% in the early 1980s, had hit the zero bound.

So at some point not too far down the road Japan Inc. will need to borrow from foreigners, but there will be no takers at 29 basis points for 40 year debt owed by a an old age home that was once a nation. In short, Japan’s financial system is virtually guaranteed to collapse, making trillions of government debt worthless, among much other carnage.

Yes, the BOJ might even cancel the trillions of JGBs it holds when the crisis becomes desperate in some Keynesian rendition of the Debtors Jubilee. But that’s just the point—-the mayhem on the other side does not bespeak a world in which terminal growth rates merit a 24.3X multiple.

Indeed, when Japan becomes the first to default from too much Keynesian goodness, no sovereign bond on the planet will be investible at anything near today’s absurdly low yields. So the embedded losses in the world’s bond markets are already in the tens of trillions.

The ridiculous state of Japan’s government bond market is explained more fully in a nearby post, yet there is nothing extraordinary about it. It’s all part of the daily fare emanating from all points on the planet.

Another such dead-end is found in the story on the mother of all payables stretches now happening in the Red Ponzi. Struggling under $30 trillion of unpayable financial debt accrued during what amounts to a historical heartbeat of frenzied borrowing, China’s businesses are now coping with the inexorable morning-after deflation by means of a time-tested maneuver of last resort.

To wit, they are attempting to pay their bankers by stiffing their suppliers. As shown below, payables now average an incredible 192 days in China’s business system. And that’s why its whole house of cards is likely to collapse with a bang, not a Beijing managed whimper. At some point, this daisy chain of billions of unpaid claims will far exceed even the capacity of China’s state-deputized bankers and its growing fleet of paddy wagons to keep in line.

-1x-1 (2)

Indeed, this surge in payables has two untoward implications. The first is that the myth of Beijing’s capacity for omniscient and unfailing economic governance will be shattered. All along, it has been a case of mistaken identify—–a failure by Wall Street propagandists of “growth” to understand that doping out trillions of credit through a state controlled banking system merely funds recordable spending and delivers fixed assets; it does not generate efficient growth or sustainable wealth.

But the red suzerains of Beijing are already proving in spades that when the music of credit expansion finally must stop, they will have no clue about what to do or capacity to execute if they did. In that respect, it now appears that in the first quarter China’s banking system generated new credit at a $4 trillion annual rate or nearly 40% of GDP.

In turn, China’s so-called “iron rooster” was given a new lease on life as a result of even more artificial demand for capital investment and infrastructure that is already massively overbuilt. Accordingly, during March, China’s steel production hit an all-time high, causing prices to temporarily rise, and closed mills to re-open.

So much for the credit restraint promised by China’s central bank and for the 150 million tons of capacity closures announced by the apparatchiks in Beijing a few months back. In lashing itself to Mr. Deng’s printing presses, the Chinese communist party made a pact with the financial devil. But now it is far too late to stop the Ponzi, meaning that another central bank driven debt implosion is fully scheduled and waiting to happen.

And it won’t be contained within the boundaries of the Middle Kingdom. In a post we entitled “Red Ponzi Imploding—-How It Will Turn The EM Into A Wasteland”, author Douglas Bulloch explained,

Massive Chinese infrastructure investment created the temporary illusion of wealth while global debt levels grew relentlessly. The commodity curse then undermined real economic progress around the world, as elites chased diminishing surplus for patronage and popularity. This has left producers exposed; one – Venezuela – rapidly becoming a wasteland. In other countries, what limited democracy there was has been hollowed out, leaving Russia in a state of egregious industrial and demographic decline, and Brazil confirming stereotypes about Latin American corruption. All because the orders are drying up and the money has run out. Both Brazil and Russia are facing the possibility of imminent collapse. India, by contrast, is its own story, a perpetual tale of slow promise that plays tortoise to China’s hare.

 

The only real story behind the BRICs was always just the ‘C,’ as in China, and the huge investment boom that powered commodity prices towards the fantasy of a ‘super-cycle’ – another word we don’t hear much anymore – drove the whole world mad. There was money for social programs in Brazil to lift up the poor, money for Putin’s new model army in Russia to restore imperial prestige, and money for the Olympics and World Cup in both countries. Then there was money for London palaces, money for Panamanian bank accounts, money for small wars and some leftover for the supposed institutions of a ‘new world order,’ since deferred.

 

Now, China’s policy dilemma belongs to everyone. Having spent 15 years sucking consumption and investment from everywhere, China now has a productive capacity it cannot possibly sustain, and faces a world reluctant any longer to make up for the deficiencies in Chinese demand. It therefore confronts a build up of debts it will struggle to pay and investors who expect a return they may not receive.

Only the most dunderheaded bull could argue that the US economy is decoupled from the entirety of China and the great EM supply chain which has feasted on its excesses. But for want of doubt, just consider its implications for another deflationary Q1 earnings announcement from this morning.

To wit, Coca-Cola (KO) reported that Q1 sales were down 4% from prior year and that’s Coke’s 12th quarterly sales decline in the past 13 quarters.  Likewise, net income fell by more than 5%.

But KO is not trading at 27X earnings because the punters think America’s aging baby-boomers are going to suddenly reacquire a yearning for Coke. Instead, it trades at current nosebleed levels because they believe that the inhabitants of China and the EM in their billions will get hooked on KO’s sugary fizz.

Needless to say, even a hint that the great China/EM credit boom of the last 20 years is rolling-over into a deflationary slump would swiftly drain the fizz out of the KO stock price. That’s because what lies beneath is deflationary financial results flattered by the wildly inflationary PEs now extant in the casino.

During the last four years, Coke’s sales and net income have steadily declined. Yet its PE has surged from an already hefty 17X to 27X. That is, going backwards it generated $50 billion of higher market cap.

KO Market Cap Chart

KO Market Cap data by YCharts

As we said, mind the terminal growth assumption. The warning signs are everywhere that what lies on the other side is not a world of 24.3X valuations.

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The SUNE Finally Sets: SunEdison Files For Bankruptcy

It’s over. After months of arguing that everything will be ok as investors flee the troubled company, it is now officially over:

  • *SUNEDISON FILES FOR BANKRUPTCY AFTER ACQUISITION BINGE

As Bloomberg notes, Terraform Power and Global are not part of the filing.

 

The company reported between $10-50 billion in assets and $10-50 billion in debt.

Not a great day for David Einhorn…

 

As part of its filing, SunEdison reports its has obtained a $350MM DIP loan:

WHEREAS, the Company, as borrower, has requested that one or more potential financing sources (which may include certain lenders or noteholders under certain of the Company’s existing secured indebtedness) (collectively with any agent, arranger and letter of credit issuer under any DIP Facility (as defined below), the “DIP Lenders”) arrange, backstop and/or provide one or more debtor-in-possession superpriority credit facilities, including (i) a new money term loan facility (the “DIP NM TL Facility”), which may include a roll-up of up to $350 million aggregate principal amount of the Company’s existing second lien loans and second lien convertible notes, to the extent required by the applicable DIP Lenders and authorized by the Bankruptcy Court (the “DIP TL Roll-Up Facility”), and (ii) a roll-up or refinancing of the Company’s existing first lien letter of credit facility (up to an amount equal to the full principal amount outstanding thereunder, any unused commitments thereunder and the face amount of issued and undrawn letters of credit thereunder) to provide for the extension and renewal of existing letters of credit (and, to the extent agreed by the applicable DIP Lenders, the issuance of new letters of credit thereunder) and/or additional letter of credit facilities to provide for the issuance of new letters of credit and/or backstop or replacement of existing letters of credit (collectively, the “DIP LC Facility” and collectively with the DIP NM TL Facility and DIP TL Roll-Up Facility, the “DIP Facilities”) subject to exceptions and limitations to be set forth in any orders of the Bankruptcy Court concerning any of the DIP Facilities (the “DIP Financing Orders”);

*  *  *

Full filing…

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ECB Releases Full Details Of Its Corporate Bond Buying Program

Moments ago the ECB finally unveiled the long-awaited details of its corporate bond buying program. Here are the details.

ECB announces details of the corporate sector purchase programme (CSPP)

  • The CSPP aims to further strengthen the pass-through of the Eurosystem’s asset purchases to the financing conditions of the real economy.
  • Purchases will start in June 2016.
  • The CSPP will be carried out by six national central banks acting on behalf of the Eurosystem, coordinated by the ECB.
  • In combination with other non-standard measures, the programme will provide further monetary policy accommodation and help inflation rates return to levels below, but close to, 2% in the medium term.

Further to its decision of 10 March 2016 to add a corporate sector purchase programme (CSPP) to the asset purchase programme (APP), the Governing Council of the European Central Bank (ECB) today decided on the main technical parameters of the programme.

The Eurosystem’s collateral framework – the rules that lay down which assets are acceptable as collateral for monetary policy credit operations – will be the basis for determining the eligibility of corporate sector securities to be purchased under the CSPP. The following technical parameters will apply:

– The programme will start in June 2016.

– Outright purchases of investment-grade euro-denominated bonds issued by non-bank corporations established in the euro area will be carried out by six Eurosystem national central banks (NCBs): Nationale Bank van België / Banque Nationale de Belgique, Deutsche Bundesbank, Banco de España, Banque de France, Banca d’Italia, and Suomen Pankki/Finlands Bank. Each NCB will be responsible for purchases from issuers in a particular part of the euro area. The ECB will coordinate the purchases.

– The purchases will be conducted in the primary and secondary markets, but no primary market purchases will involve debt instruments issued by entities that qualify as public undertakings.

– Debt instruments will be eligible for purchase, provided they fulfil all the following criteria:

they are eligible as collateral for Eurosystem credit operations, based on the requirements defined in the Guideline on the implementation of the Eurosystem monetary policy framework (ECB/2014/60);

  • they are denominated in euro;
  • they have a minimum first-best credit assessment of at least credit quality step 3 (rating of BBB- or equivalent) obtained from an external credit assessment institution according to Guideline ECB/2014/60;
  • they have a minimum remaining maturity of six months and a maximum remaining maturity of 30 years at the time of purchase;
  • the issuer is a corporation established in the euro area, defined as the location of incorporation of the issuer. Corporate debt instruments issued by corporations incorporated in the euro area whose ultimate parent is not based in the euro area are also eligible for purchase under the CSPP, provided they fulfil all the other eligibility criteria;
  • the issuer of the debt instrument:
    • is not a credit institution,
    • does not have any parent undertaking (as defined in Article 4(15) of the Capital Requirements Regulation) which is a credit institution (as defined in Article 2 (14) of Guideline ECB/2014/60),
    • is not an asset management vehicle (as defined in the Bank Recovery and Resolution Directive and Single Resolution Mechanism Regulation) or a national asset management and divestment fund established to support financial sector restructuring and/or resolution.

– Purchases under the CSPP will be conducted with counterparties that are eligible for the Eurosystem’s monetary policy operations or counterparties that are used by the Eurosystem for the investment of its euro-denominated portfolios.

– The Eurosystem will apply an issue share limit of 70% per international securities identification number (ISIN) on the basis of the outstanding amount. However, in specific cases a lower issue share limit will apply, e.g. for securities issued by public undertakings, which will be dealt with in a manner consistent with their treatment under the PSPP.

– A benchmark will be defined at issuer group level. The benchmark will be neutral in the sense that it will reflect proportionally all outstanding issues qualifying for the benchmark. This also implies that market capitalisation provides a weighting for each of the jurisdictions of issuance within the benchmark. Issuer group limits will be based on the benchmark to ensure a diverse portfolio, while at the same time they will offer sufficient leeway to build up the portfolio.

– The Eurosystem will conduct appropriate credit risk and due diligence procedures on the purchasable universe on an ongoing basis.

– The volume of CSPP holdings will be published on a weekly and monthly basis. A breakdown of primary and secondary market purchases will also be published every month.

– The CSPP holdings will be made available for securities lending by the relevant NCBs.

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In “Unprecedented Snub” Saudi Arabia Demands “Recalibration Of Relationship” With U.S.

As Obama concludes his fourth and supposedly final meeting to Saudi Arabia as U.S. president, the White House was quick to explain where relations with the Saudi Kingdom lay, and as CNN reported this morning, moved to tamp down suggestions that ties with Saudi Arabia are fraying, with administration officials saying that President Barack Obama “really cleared the air” with King Salman at a meeting Wednesday.

Which is strange because that is not how the other side saw it: even as White House officials stressed that the leaders made progress, a prominent member of the Saudi royal family told CNN “a recalibration” of the U.S.-Saudi relationship was needed amid regional upheaval, dropping oil prices and ongoing strains between the two longtime allies.

There is going to have to be “a recalibration of our relationship with America,” former Saudi Intelligence Chief Prince Turki Al-Faisal told CNN’s Christiane Amanpour. “How far we can go with our dependence on America, how much can we rely on steadfastness from American leadership, what is it that makes for our joint benefits to come together,” Turki said in a significant departure from usual Saudi rhetoric. “These are things that we have to recalibrate.”

The prince made his “unprecedented” in the words of CNN, comments as Obama landed in Riyadh “to a reception that social media critics termed a snub, but U.S. officials strongly disputed.” The Saudi government dispatched the governor of Riyadh and Foreign Minister Adel Al-Jubair to shake Obama’s hand, a departure from the scene at the airport earlier in the day when King Salman was shown on state television greeting the leaders of other Gulf nations on the tarmac.

A U.S. official said Salman’s absence upon arrival was not taken as a snub and noted that Obama rarely greets foreign leaders when they land in the U.S. for meetings. Obama went immediately to the Erga Palace to meet the King shortly after landing, but the perceived slight on his arrival was seen as one more sign that a relationship long lubricated by barrels of oil is encountering friction.

Fawaz Gerges, an expert on Islamic-Western relations at the London School of Economics, called their current dynamic “an estrangement” but not a break that would end U.S. involvement in the Middle East.

CNN adds that statements after the meeting made clear that deep differences remain on several of these points, with the two sides agreeing to disagree and a U.S. official characterizing the encounter as the start of a discussion rather than a venue for solutions. However, as we expected, none of the core issues that have emerged in the past few days, were even brought up: the two leaders glossed over some of the thorniest matters, including a Saudi threat to dump U.S. assets if Obama signs into law a bill that could make the kingdom liable for damages stemming from the September 11 terror attacks.

So what was addressed? According to Reuters, Obama allayed Gulf countries’ fears over Iranian influence and encouraged them to douse sectarian tensions in an effort to confront the threat posed by jihadist militants like Islamic State. The same Islamic State which the same administration admitted had been initially funded by Saudi Arabia.

Meanwhile, tensions remain high: Most of the GCC states, which also include Kuwait, Qatar, Bahrain and Oman, have been bitterly disappointed in Obama’s presidency, during which they believe the United States has pulled back from the region, giving more space to Iran.

 

They were also upset by Obama’s remarks in a magazine interview that appeared to cast them as “free-riders” in U.S. security efforts and urged them to “share” the region with Tehran.

There was the usual made for TV drama, with CNN adding that “for all the crosscurrents buffetting U.S.-Saudi relations, analysts and former officials say the two countries aren’t at the end of a love affair so much as in an unhappy marriage in which both sides, for better or worse, are stuck with each other.”

“Despite all these differences, Saudi Arabia and America are not getting divorced,” said Bruce Riedel, director of the Intelligence Project at the Brookings Institution and a former CIA official. “We need each other.”

Which is also why none of the much demanded revelations by the US public about Saudi involvement in the Sept 11 bombing will ever be revealed.


U.S. President Barack Obama meets with Saudi King Salman at Erga Palace
upon his arrival for a summit meeting in Riyadh, Saudi Arabia April 20, 2016

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Euro Bund Yields Spike As Draghi Does Not Reveal Any New Bazookas

While expectations were for nothing new, it appears positioning was for moar as Draghi’s lack of bazooka-ness has sent European stocks lower as EUR spikes against the USD and German Bund yields soar…

EUR surging…

Bank of America is not happy at this move…

EUR move higher may not last and there is nothing new so far in Draghi’s words that would justify it, BofAML strategist Athanasios Vamvakidis writes in e-mailed comments.

 

Statement dovish, consistent with recent tone; it shouldn’t have sustained market impact. Emphasis is on open ended policies for as long as it takes.

Bund yields spiking…

 

As once again they overshot…

 

We’re gonna need a Draghi jawbone speech tomorrow to save the world.

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Philly Fed Dead-Cat-Bounce Dies Plunges Back Into Contraction

Remember March and all those hopefull regional fed survey bounces? They are over! Philly Fed just printed -1.6, back into contraction for the 8th month of last 9, missing expectations of a +9.0 print. Every subcomponent weakened (aside from prices paid and received) but what saved the headline from further collapse was an unexpected surge in optimism for six-months ahead (right after the election?).

Spot the odd data point out…

 

The full breakdown shows everything weaker (except for prices paid)

 

The diffusion index for current activity decreased from 12.4 in March to -1.6 this month.

The index had turned positive last month following six consecutive negative readings. The current new orders and shipments indexes also fell this month. The percentage of firms (23 percent) reporting a rise in new orders was exactly offset by the percentage reporting a decline. The current new orders index decreased from 15.7 to zero this month, while the current shipments index fell precipitously, from 22.1 to -10.8. The unfilled orders and delivery time indexes suggested weakness, as both indexes were in negative territory this month. Firms continued to report overall declines in inventories.

 

The survey’s indicators of employment corroborate weakness in the other broad indicators this month. The employment index decreased 17 points and registered its fourth consecutive negative reading. Nearly 62 percent of the firms reported no change in employment this month, but the percentage reporting decreases rose from 17 percent in March to 27 percent this month. Firms reported a notable decline in average work hours: The index decreased 22 points and returned to negative territory after last month’s first positive reading in three months.

But, of course, hope is soaring as current conditions collapse…

 

The survey’s future indicators bucked the trend of weakening current indicators this month.

The diffusion index for future general activity increased from a reading of 28.8 in March to 42.2 this month. This is the highest reading for the index in 15 months (see Chart 1). The largest share of firms (51 percent) expect an increase in activity over the next six months, while only 9 percent expect declines. The future indexes for new orders and shipments also moved higher this month, increasing 10 points and 7 points, respectively. The future employment index also increased, from 6.3 to 14.2. More than 25 percent of the surveyed firms expect to increase employment levels over the next six months. This is slightly higher than the 22 percent that increased employment last month. The indexes for future prices paid and received edged higher this month, increasing 12 points and 8 points, respectively.

So to summarize – every current indicator is pointed to further weakness but for some reason, everything will be fixed in six months? How has that optimism worked out previously?

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Initial Jobless Claims Crashes To Lowest Since 1973

Dear Janet – it doesn’t get any better than this…

At 247k, initial jobless claims are the lowest since November 1973 – how does that compute given the “fear and anger” among America’s electorate?

 

We assume Intel’s layoffs will be seasonally-adjusted out of this time series?

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