Tag: finance

Back in February, Fed governor Jeremy Stein warned of overheating (read: bubble conditions) in credit markets. Nobody cared. A few months later, while observing among other things the ongoing credit bubble, none other than the central banks’ central bank said the “central banks must head for the exit and stop trying to spur a global economic recovery” and that the “monetary kool-aid party is over.” It wasn’t, and naturally nobody cared either – as we would find out a few months later the party would go on as it turned out banks have no other choice but to keep the kool-aid flowing. Then over the weekend, just in case, the BIS tried once again, this time “sounding the alarm over record sales of PIK Junk Bonds” combining what it said previously together with Jeremy Stein’s warnings (of course, nobody would care this time either).

Bloomberg summarized the BIS report (linked) as follows:

Record sales of high-yield payment-in-kind bonds are triggering uneasiness among international regulators concerned that investors may suffer losses when central banks tighten monetary policy.

 

Issuance of the notes, which give borrowers the option to repay interest with more debt, more than doubled this year to $16.5 billion from $6.5 billion in 2012, according to data compiled by Bloomberg. About 30 percent of issuers before the 2008 financial crisis have since defaulted, the Bank for International Settlements said in its quarterly review.

 

Companies are taking advantage of investor demand for riskier debt as central bank stimulus measures suppress interest rates and defaults approach historic lows. The average yield on junk-rated corporate bonds fell to a record 5.94 percent worldwide in May, Bank of America Merrill Lynch index data show, while global default rates dropped to 2.8 percent in October from 3.2 percent a year earlier, according to a Moody’s Investors Service report.

 

“Low interest rates on benchmark bonds have driven investors to search for yield by extending credit on progressively looser terms to firms in the riskier part of the spectrum,” according to the report from the Basel-based BIS. “This can facilitate refinancing and keep troubled borrowers afloat. Its sustainability will no doubt be tested by the eventual normalisation of the monetary policy stance.”

Warning, shmarning: the truth is that as long as the Fed continues pushing everyone into the riskiest assets (so essentially forever), the demand for High Yield, aka Junk Bonds will rise. Although technically, “High Yield” is no longer the appropriate name for the riskiest credit issuance since the average coupon has declined to where Investment Grade used to trade in the years before the New Normal. It is therefore only appropriate that as part and parcel of this record high yield bond issuance surge levering the riskiest companies to the gills with low interest debt, that there is also a scramble between underwriters to become as competitive as possible. And, sure enough, as Bloomberg Brief reports, “the underwriting fees disclosed to Bloomberg on U.S. junk bond deals average 1.276 percent for the year to date, the lowest since our records began. The prior low was set in 2008, when fees averaged 1.4 percent.” 2008… that was when the last credit bubble burst on unprecedented demand for junk bonds: we are confident the bubble apologists will find some other metric with which to convince everyone that reality, and the Fed’s Stein, have it all wrong.

In the meantime, this is what a real bubble, if not so much in underwriting fees, looks like.

And by underwriter:

Source: BloombergBriefs.com

Finally, as a courtesy reminder what happened the last time the credit bubble hit such epic proportions, here again is the BIS:

The trend towards riskier credit was fairly general. It spurred, for example, the market for payment-in-kind notes. …This rise occurred despite evidence of the riskiness of payment-inkind notes: Roughly one third of their pre-crisis issuers defaulted between 2008 and mid-2013.

via Zero Hedge http://feedproxy.google.com/~r/zerohedge/feed/~3/MZVu4vuYV60/story01.htm Tyler Durden

Submitted by Charles Hugh-Smith of OfTwoMinds blog,

Inflating serial asset bubbles is no substitute for rising real incomes.

Why are we stuck with an economy that only generates serial credit/asset bubbles that crash with catastrophic consequences? The answer is actually fairly straightforward. Let's start with the ideal conditions for an economy that depends on consumer spending.

1. Rising real income, i.e. after adjusting for inflation/currency depreciation, wages/salaries have more purchasing power every year.

2. An expanding pool of new households, i.e. young people who move away from home or graduate from college, get a job and start their own household. New households buy homes, vehicles, furniture, appliances, kitchenware, tools, etc., driving consumption far more than established households.

Neither of these conditions apply to today's economy. Income for the bottom 90% has been stagnant for forty years, and has declined 7% in real terms since 2000.

This stagnation is not the "new normal": the new normal is much worse, as labor's share of the national income has fallen off a cliff:

Household formation has also stagnated. That spike circa 2004-07 was caused by the housing bubble, which created new jobs and collateral that could be leveraged into new home purchases.

Since 2008, the Federal Reserve has bought $3.2 trillion in mortgages and Treasury bonds, and the Federal government has borrowed and blown $7 trillion in deficit spending. That $10 trillion in stimulus (not counting $16 trillion in Fed loans to banks and trillions more in other loans/subsidies), household formation has only recovered to the sub-1 million a year level.

In an economy of 316 million people, that isn't enough to generate "growth" in a $16 trillion economy.

With these organic sources of growth moribund or declining, the Fed and Federal government have resorted to other ways of stimulating more borrowing and spending, the sources of leveraged, high-risk "growth":
1. Lower interest rates so stagnant income can leverage more debt (and thus more spending)

2. Generate asset bubbles in stocks and housing that boost "the wealth effect," i.e. the emotional sense of being wealthier as a result of one's assets rising sharply in value, and the collateral available to support more debt.

If a house rises by $100,000 in value in a few short years, the owner has $100,000 more collateral to support new debt. The gargantuan expansion of home equity lines of credit (HELOCs) as the housing bubble expanded was the goal of the status quo, as asset bubbles create collateral that supports new borrowing and spending.

Now that interest rates are near-zero and mortgage rates are rising from historic lows, there is no more juice to be squeezed from low rates.
As for asset bubbles, they always burst, destroying collateral and rendering borrowers and lenders alike insolvent.

Without organic demand from rising real income and new households with good-paying jobs and low levels of debt, the consumer-debt based economy stagnates.This has left the economy dependent on serial asset bubbles that create phantom collateral that can support new debt, albeit temporarily.

Inflating serial asset bubbles is no substitute for rising real incomes and new households that aren't burdened with high levels of debt from student loans.

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

Submitted by Charles Hugh-Smith of OfTwoMinds blog,

Inflating serial asset bubbles is no substitute for rising real incomes.

Why are we stuck with an economy that only generates serial credit/asset bubbles that crash with catastrophic consequences? The answer is actually fairly straightforward. Let's start with the ideal conditions for an economy that depends on consumer spending.

1. Rising real income, i.e. after adjusting for inflation/currency depreciation, wages/salaries have more purchasing power every year.

2. An expanding pool of new households, i.e. young people who move away from home or graduate from college, get a job and start their own household. New households buy homes, vehicles, furniture, appliances, kitchenware, tools, etc., driving consumption far more than established households.

Neither of these conditions apply to today's economy. Income for the bottom 90% has been stagnant for forty years, and has declined 7% in real terms since 2000.

This stagnation is not the "new normal": the new normal is much worse, as labor's share of the national income has fallen off a cliff:

Household formation has also stagnated. That spike circa 2004-07 was caused by the housing bubble, which created new jobs and collateral that could be leveraged into new home purchases.

Since 2008, the Federal Reserve has bought $3.2 trillion in mortgages and Treasury bonds, and the Federal government has borrowed and blown $7 trillion in deficit spending. That $10 trillion in stimulus (not counting $16 trillion in Fed loans to banks and trillions more in other loans/subsidies), household formation has only recovered to the sub-1 million a year level.

In an economy of 316 million people, that isn't enough to generate "growth" in a $16 trillion economy.

With these organic sources of growth moribund or declining, the Fed and Federal government have resorted to other ways of stimulating more borrowing and spending, the sources of leveraged, high-risk "growth":
1. Lower interest rates so stagnant income can leverage more debt (and thus more spending)

2. Generate asset bubbles in stocks and housing that boost "the wealth effect," i.e. the emotional sense of being wealthier as a result of one's assets rising sharply in value, and the collateral available to support more debt.

If a house rises by $100,000 in value in a few short years, the owner has $100,000 more collateral to support new debt. The gargantuan expansion of home equity lines of credit (HELOCs) as the housing bubble expanded was the goal of the status quo, as asset bubbles create collateral that supports new borrowing and spending.

Now that interest rates are near-zero and mortgage rates are rising from historic lows, there is no more juice to be squeezed from low rates.
As for asset bubbles, they always burst, destroying collateral and rendering borrowers and lenders alike insolvent.

Without organic demand from rising real income and new households with good-paying jobs and low levels of debt, the consumer-debt based economy stagnates.This has left the economy dependent on serial asset bubbles that create phantom collateral that can support new debt, albeit temporarily.

Inflating serial asset bubbles is no substitute for rising real incomes and new households that aren't burdened with high levels of debt from student loans.

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

As bonds and stocks soar, and Europe’s leaders continue to proclaim victory, despite Draghi’s downbeat jawboning as EUR surges to growth-crushing levels, it is well known that the employment situation remains abysmal in the real economy. However, what is worse that the red-flashing-headlines of record youth (and total) unemployment is, as Bloomberg’s Niraj Shah notes, 125 million people in the EU were at risk of pverty or social exclusion. According to Eurostat, that is 24.8% of the population. Almost half of Bulgarians faced economic hardship and Greece had the highest poverty rate in the euro area at 34.6% (though if Stournaras was to be believed this weekend, their problems are solved).

 

 

Source: Bloomberg Brief (@economistniraj)

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

Today, we get December’s second (out of three) Double POMO amounting to just about $5 billion. Any questions?

And in case there are, here it is straight from the Treasury, explaining how the market performs on days in which there is over $5 billion in POMO:

via Zero Hedge http://feedproxy.google.com/~r/zerohedge/feed/~3/Fn99rmKZKso/story01.htm Tyler Durden

Today, we get December’s second (out of three) Double POMO amounting to just about $5 billion. Any questions?

And in case there are, here it is straight from the Treasury, explaining how the market performs on days in which there is over $5 billion in POMO:

via Zero Hedge http://feedproxy.google.com/~r/zerohedge/feed/~3/Fn99rmKZKso/story01.htm Tyler Durden

Silver prices are up over 1.5% this morning and gold +0.6% as the PMs play catch-up to Friday’s post-NFP ‘goldilocks’ performance in stocks. Whether this is also fallout from Baidu’s Bitcoin decision is unclear but gold did spike in early Asia trading.

 

 

 

Charts: Bloomberg

via Zero Hedge http://feedproxy.google.com/~r/zerohedge/feed/~3/5RABzKlBevg/story01.htm Tyler Durden

Silver prices are up over 1.5% this morning and gold +0.6% as the PMs play catch-up to Friday’s post-NFP ‘goldilocks’ performance in stocks. Whether this is also fallout from Baidu’s Bitcoin decision is unclear but gold did spike in early Asia trading.

 

 

 

Charts: Bloomberg

via Zero Hedge http://feedproxy.google.com/~r/zerohedge/feed/~3/5RABzKlBevg/story01.htm Tyler Durden

I originally wrote this in September 2013. It is just as relevant now in December.

 

The big news in America is that the rate on the 10-year Treasury bond has risen dramatically from around 1.6% to over 2.9% [now on December 5, 2.84%]. This is 130 basis points from a starting point of 160, or an increase of more than 80%!

So naturally, the financial media are discussing the “essential” issues. They have commentators philosophizing about whether the tapering of Quantitative Easing is “priced in” (an invalid question, as I argue in my in the Theory of Interest and Prices). They credulously entertain the view that it signals “economic recovery”. If the economy were really recovering for four years, there would be no need for such hype.

On CNBC this week, Larry Kudlow’s guest was a sell-side analyst. He worried that either the absolute level of the rate, or the speed with which it has risen, will interrupt the bull market in stocks. Why is he concerned? Higher rates may discourage companies from borrowing to buy back their shares and issue dividends. I have previously written about this madness.

It is a strange politically correct world that makes it a taboo to say the simple truth. Unfortunately, freedom of speech in America is slipping—at least on controversial topics that matter. It may still be legal, but there is a very real chilling effect. In a crony system, one’s career is at risk to say the unpopular. So the gentlemen in the club safely confine their discussion to the M1 and M2 measures of the money supply, and the number of angels that can dance on the head of one pin.

Let’s take a step back from the noise. In the real world, every change in the interest rate destroys capital. To avoid this, firms hedge using derivatives. The good gentlemen in the club do sometimes acknowledge the derivatives problem, but never the cause, never why derivatives grow and grow and grow until they are now estimated to be approaching one quadrillion dollars. Those who sell these hedges must, themselves, hedge. They can push risk around and around in a circle of the big multinational banks. They cannot eliminate it.

Historically, the Federal Reserve has exhibited what I’ll call “bipolar interest rate disorder”. They vacillate between bingeing and purging. First they try to encourage the economy to “grow” by offering a buffet of too much credit, dirt-cheap. Then with pangs of regret if not guilt, they try to “fight inflation” by raising the price of credit. This leads to a bogus debate among economists: which evil should the Fed be pursuing at any given moment. Wall Street, of course, has a strong bias towards more credit, dirtier and cheaper. So do politicians seeking reelection.

Today, these two false alternatives are called “stimulus” and “austerity”. Fans of the latter sometimes fantasize about a mythological place, like Atlantis or El Dorado, called the “Exit”. Unfortunately, the Fed cannot sell their bonds. If they reversed from big buyer to even a small seller, it would reignite the very conflagration they fought in 2008. Leveraged market players would be unable to sell new bonds to pay their old bonds when due, and would therefore be forced into default. Talk of a Fed “exit” is a smokescreen.

Let’s take a further step back. The collapse of the Soviet Union proved that central planning doesn’t work. It can’t even deliver simple goods like food. The Fed is the central planner of something much bigger and vastly more complex. Money and credit are the foundation of our economy, and everything else depends on them.

The issue is not what the Fed should do next!

We should be discussing how to transition from irredeemable currencies to a free market based on gold without collapsing the financial system. I wrote a paper proposing how to do this. There may be others with good ideas. Let’s begin the discussion. Unfortunately, few want to risk their careers. I am not sure what would be worse: the cowardice of remaining silent in the face of a Big Lie, or the fact that saying the truth would indeed jeopardize one’s career in finance or economics.

We should be talking about the evolution of the Fed. Let’s not get distracted by conspiracy theories, stories about ancient banking families and creatures from islands with unfortunate names. And no, the Fed is not a “private cartel”.

The Fed began in 1913; it was the liquidity provider of last resort. If a bank needed gold, it could take Real Bills to the Fed, who would buy them at a discount. The government should have no role in the financial system at all, but Fed v1.0 was not the destroyer of markets as Fed v8.2 is today.

Subsequently, they began to buy government bonds. Incrementally, over many decades, the Fed evolved into the central planner it is today. Some of these steps were by presidential decrees, some were Acts of Congress, and of course the Fed took new powers for itself at opportune moments.

Today, there are many distribution channels, but the Fed is the only provider of credit of any resort. Should they cease issuing new credit, every bond market in the world would seize up followed immediately by the default of every bank, insurer, annuity, and pension. Despite the Fed’s record pumping of credit effluent, some bond markets are beginning to collapse anyway, along with the national currencies backed by those bonds.

We face a bitter dilemma. Without credit, large-scale production is not possible. The economy would devolve into medieval villages, with subsistence production done on family farms and workshops. On the other hand, continuing a system based on ever more counterfeiting will destroy more and more capital until the economy collapses.

Markets are being slammed back and forth between “austerity” and “stimulus”, between credit contraction and credit expansion. The number of units of the Fed’s credit paper required to buy an ounce of gold has long been rising. In other words, those units of credit were falling in value. But in the past few years, one has needed fewer of them to trade for gold. One day, traders are borrowing freely to speculate in the markets, driving prices up. The next, they are squeezed in a vice, desperate to roll over their liabilities, or if they cannot, to sell assets, especially assets that do not have a yield.

In conclusion, here is what I think the Fed should do. The Fed should go on buying bonds and doing what it has to do to keep the system going. No one wants the system to collapse. We should all be clear that the Fed is doing nothing more than buying time.

We need to use that time to transition to the gold standard, to begin the process of gold and silver to circulate, to develop a market for lending and borrowing gold. We need to repeal the capital gains, VAT, GST, and any other taxes that make it impractical to use gold. We need to repeal laws that force creditors to accept paper as payment in full. We need to develop the institutions such as gold banking and Real Bills.

via Zero Hedge http://feedproxy.google.com/~r/zerohedge/feed/~3/52YEtARhxi0/story01.htm Gold Standard Institute

Having discussed market microstructure and the parasitic impacts of high-frequency-trading for the last 5 years, it comes as no surprise that the block-trade-sniffing algos have had very significant impacts on the way institutional investors trade now. As WSJ reports, in fact the big boys are conducting more “upstairs trades,” in which deals are executed among big institutions, bypassing the broader market, because the proliferation of algorithmic trading and other structural issues, including the fragmentation of the market, are hurting their ability to get the best prices and execute large trades quickly. While the concerns aren’t all new, big investors say the cat-and-mouse games are growing more elaborate – and counterproductive – by the day.

 

Via WSJ,

Some of the world’s biggest investors are changing the way they trade in U.S. markets in response to what they say are rising risks for institutions of their size.

 

The strategies include conducting more “upstairs trades,” in which deals are executed among big institutions, bypassing the broader market, as well as other sophisticated order-routing techniques designed to avoid pitfalls that have become increasingly apparent to investment managers.

 

Investors say such measures are increasingly necessary because the proliferation of algorithmic trading and other structural issues, including the fragmentation of the market, are hurting their ability to get the best prices and execute large trades quickly.

 

A trade has the possibility of wending its way through 13 exchanges and more than 40 “dark pools,” off-exchange trading venues that don’t publicly display stock trades. A trade could also be executed inside a large broker-dealer that matches buyers and sellers from its own holdings.

 

…

 

The intricacy of the equity markets creates unnecessary steps for large investors and distracts portfolio managers from increasing returns, said Mr. Brooks of T. Rowe Price.

 

“It’s like trying to fill up your gas tank, but you have to go to 15 gas stations,” Mr. Brooks said. “By the time you get to the 15th one, they’ve increased the price because they’ve heard you were coming. Wouldn’t someone rather go to two or three stations and fill up the tank in blocks?”

Still believe HFT provides liquidity and makes the market ‘more’ efficient?

via Zero Hedge http://feedproxy.google.com/~r/zerohedge/feed/~3/Hby72OkKZhU/story01.htm Tyler Durden