Monday, February 28, 2011

We've Moved

This blog has received great feedback and more traffic than originally anticipated.

There is a story that needs to be told and a typical blog format is no longer sufficient.

- Please visit us at our new home -


Check Back During The Day Today

- We'll be launching our new site sometime today -  


Fed's Bullard Hints At End To QE Early

I'm surprised at this but reading commentary from Bullard's interview on CNBC this morning one of his quotes says it all.  Bullard sees the economy improving and thus thinks an early end (not just an end in June as originally suggested) is in order.  Bullard has been the outspoken advocate for QE.  Very interesting comment if in fact it's true.  No reason to believe this is not a direct comment from him.

"Policy is a continuous process," he said. "I would see it as possibly finishing the program a little bit shy of where we intended initially then go on pause for a while, let more information come in on the economy, see how things develop.

"If things continue to go as well as I think they will in 2001 then we can start the process of getting the balance sheet back to normal and getting interest rates up there eventually."


USD Testing Multiyear Support

This does not look good for the USD as it tests multiyear support right now.  If this does not bounce today and breaks further then there is much downside ahead.


Sunday, February 27, 2011

Coming Soon

In a few days this blog will post a redirect to something I think many will find very useful and informative.  Make sure to check back.  We have a story to tell!


Interesting Commentary From China Regarding The RMB

Part if not all of the goal of quantitative easing is to force China's hand at revaluing the RMB, thus making US exports more competitive and bringing jobs back home.  China has refused to revalue and as a result has faced growing inflation at home.  Bernanke has even hinted at times that if countries do not like the results of "our" monetary policy they should adjust "their" currency.  That's about as direct a central banker can be without writing down a country's monetary policy for them.

The choices for China are rather difficult.  Inflation, especially in the face of the global unrest that has developed recently threatens instability within their country.  Rice has now started to move up in price as well adding further pressure.  Tiananmen Square was partly a result of inflation concerns and the last thing China wants as they try to become a more dominant player in the world are pictures of tanks rolling in the street at protesters.

Should China decide to raise the value of the RMB they can fight inflation, to some extent but they risk losing jobs.  Is there much of a difference between higher inflation with a job or lower inflation without a job?  Additionally China is trying to slow down its own economy to manage what many see as a bubble in asset prices.  Chinese Premier Wen Jiabao seems somewhat concerned with the precarious situation China finds itself in a recent speech (from Reuters).

"Rapid price rises have affected the public and even social stability," Wen said.

Wen said maintaining social stability was also central to the country's foreign exchange policy, requiring a step-by-step increase in yuan flexibility so that Chinese businesses could adapt to the changes.

"If the yuan saw a one-off large appreciation, that would cause many closures of our processing enterprises and make many export orders shift to other countries and many of our workers will lose jobs."

"Let them think about that: if businesses go bankrupt, workers become unemployed and rural migrant workers go home, then what do we have to expand domestic consumption, where will increased consumption come from?"

"I have in fact said before that if price rises become linked to the problems of graft and corruption, that will be enough to spark public discontent, and even create serious social problems," Wen said.

The war between Bernanke and China is clearly on per Wen's comments.  He seems to take a soft tone and almost concedes that China will revalue the RMB over time but I suspect their timeline is not that of Bernanke who needs jobs in the US immediately, not in two years.  No one ever holds all the cards in a negotiation but clearly Wen is showing a weaker hand, something  that may unfortunately inspire Bernanke to continue QE in June.

Lastly, another comment regarding growth forecasts was rather interesting and clearly shows China is concerned about an overheating economy and managing a goldilocks scenario which many have tried and I don't think any have succeeded.

Wen also said the official GDP target was 7 percent per year for the 2011-2015 developmental plan. That rate is significantly below the average annual 11.2 percent growth during the last five-year period, but growth targets tend to undershoot actual performance.


Saturday, February 26, 2011

COT Report Week Ending 2/22

For the period ending February 22, 2011, the weekly COT report showed very few surprises.  Commercial positions do confirm the move down in copper. Commercial traders continue to be positioned for pending SPX weakness and the divergence continues to expand.    The 30 year treasury did pullback in yield (higher price) this past week but commercial traders are positioned for further 30 year treasury price weakness (higher yield).  While oil did pullback after the Egyptian crisis,  commercial traders actually increased their net short position implying a further rise in oil prices.


Irish 2011 Elections And The Winner Is...

No one knows yet... They are still counting.  Do they hand count these things?  An exit poll was released though last night and shows Fine Gael and Labour together having enough of a majority to push back on the IMF and ECB bailout.  Both parties have already vowed to work towards senior bondholders taking a haircut.  Senior bondholders include to a very large extent German and French banks which means these bailouts of any PIIGS nation is a bailout of the German and French banks.  I'm working from memory here but I think Ireland exposure alone is north of 100 billion euros.

The Irish  Times released the following poll results last night.

According to the poll, Fine Gael is on 36.1 per cent, Labour is on 20.5 per cent, Fianna Fáil has slumped to 15.1 per cent, Sinn Féin is on 10.1 per cent, the Green Party were on 2.7 per cent and Independents and Others were on 15.5 per cent. The poll of 3,500 voters was carried out yesterday. The margin of error was 2.5 per cent.


Friday, February 25, 2011

This Market Is All Long

After being beaten for months, shorts have truly capitulated as represented by NYSE short interest.   We've seen endless short covering rallies the past few months but those rallies are running out of fuel.  What happens when the market begins to roll over?  Longs are all invested with cash levels at record lows, while shorts have covered.  Who puts a bid in the market?

When this market corrects and it will happen someday,  there will literally be no one to squeeze.  The bulls will have to rally the market themselves and not the bears for a change.


GDP Q4 2010 Revision

Today's Q4 GDP revision was far below expectations.  Originally reported at 3.17%, real GDP for the fourth quarter was revised down to 2.79% growth.  Government, once a form of stimulus for economic growth has now become a drag at (.20%) of GDP.  The consumer, thought to be strong came in weaker and was revised down as well by .16% although still contributing to growth.

Below is a summary of the original GDP versus the revisions.  Overall, for an economy two years out of recession having experienced trillions in stimulus, this is not a good report.  The data reported by BEA is real GDP and to convert from nominal to real the BEA uses two different inflation measures.  They use a less aggressive number on the overall report yet on the import component which per the formula is a drag on GDP a more aggressive number.   This questionable number many would argue easily overstates real GDP and in fact growth is far lower than reported.


Irish Elections Begin Polls Close At 10PM Local Time

Today is a big day in the world of assigning risk. Senior bondholders have been protected for years but today may be the start of a shift in forcing those to profit, to also assume risk. Fine Gael is expected to win today and from their quote below, senior bondholders should be concerned. I don't suspect the results to be "news worthy" for some time, at least not in this "market."  Irish banks are bleeding both from falling asset prices and dwindling deposits.  They've resorted to the last straw of issuing bonds to themselves and using those as collateral.

Irish Independant

Opinion polls have put Fine Gael well in the lead to head the next government, securing as much as 40pc of the popular vote - potentially allowing for a single-party government propped up by independents.


Fine Gael leader Kenny, 59, said this week his priority will be to renegotiate the 5.8 percent interest rate on the bailout. The party has said it may seek European agreement to share the burden of rescuing the country’s financial system with senior bank bondholders.


Thursday, February 24, 2011

The Fed And DC's Next Move

I don't think many realize the complicated, twisted, interconnected situation we are in right now and figuring out how all of this plays out is beyond difficult.  A vast majority of those in risk assets right now have been conditioned for two years that you buy anything and just hold it.  Don't sell, don't buy protection, just sit on hands while fully invested. The longer this game goes on the smarter they feel.  They are truly oblivious to the world around them.

Anyone who has traded long enough knows the worst thing that can happen to you when starting out is to make money.  You begin to think things are easy and ignore the warning signs.  As Bill Fleckenstein says, "nonsense becomes knowledge."  Those who have not participated in this market or worse tried to short this market are frustrated beyond words right now.  We spend our days studying why the market is wrong and arguing with those who are "right."

I truly believe we have an amazing opportunity ahead of us.  The fiat currency based, debt fueled, rampant fraud financial system is near collapse.  The ponzi scheme has outlived its shelf life.  As investors, the opportunity is to make a lot money.  As a society, the opportunity is to reset our moral and financial compass.  Recession is a normal part of the economic cycle.  It is no different than a forest fire that results from excessive, unsustainable growth.  Not until the excess is removed, can new life form.

Depressions are to a society, what recessions are to an economy.  Talk to anyone from the great depression and you see someone who values money, hard work, the little they have in their lives.  Our society has lost its moral and financial compass.  We need a reset.  Since the 2008 financial crisis we have not removed the excess in our economy. Consumers have not learned how to live within their means.  We are literally using debt to pay debt.  We may have finally run out of a greater fool to hold up the system.

If you are in cash and not participating I think time is better spent understanding the world we truly live in.  I suspect in the not so distant future we will look back at this time as the quiet before the storm.  We know about the headwinds.  We know the banks are insolvent.  We know the economy is on life support.  The question is though, what course does the Fed and Federal government choose to take us on.  As hated as Bernanke is, he understands the tough choices facing him.  As political as DC is, they understand their endless budget deficit game is coming to an end.   Those in power do not go down without a fight, without deceit, without one last effort to hide the truth.  Every week we witness a different regime in the Middle East being brought down, yet their strategy to hold onto power is no different.

Gold and silver are the new flight to safety trade.  They have replaced the USD and possibly US Treasuries.  The Fed and Federal government must face the threat of losing reserve currency status and higher, uncontrollable interest rates beyond one year maturity.  The printing press cannot be removed.  Bernanke and DC are capable of anything to retain power.  Keynes believed "gold was a barbarous relic."  The demand for gold and silver is so strong that future markets are in historic backwardation.  The Comex is literally ready to blow up and JPM is massively short silver.

The Middle East is erupting right now.  Regimes are changing and the threat to oil, the fuel of the global economy is rising.  Every passing day countries are slowly moving military assets into the region.  The global economy will do all it can to protect the flow of oil.  Iran will not sit and watch the world move in while their own people revolt.  Al Qaeda is losing importance in the region and desperately wants another base to operate out of. Israel is facing renewed threats from Hamas and Hezbollah.

The US is experiencing its own revolution.  Although peaceful, that can change fast. Wisconsin was the beginning but protests have spread to other states.  The global revolution started in Tunisia and very quickly grew throughout the Middle East.  Never underestimate the power of those with nothing.  They will fight to the end for they have nothing else to lose.

China is fighting massive inflation and eventually another Tiananmen square.  Bernanke is exporting inflation and hoping that will pressure the Chinese to strengthen the RMB. Their choice is either high inflation or weaker growth.  Bernanke wants jobs back from China.

  • If the Fed continues QE they risk pushing bond yields to unsustainable levels.  
  • If the Fed ends QE, who will buy treasuries?  Ending QE will take pressure off China to revalue the RMB something neither Bernanke nor DC wants.
  • If the Fed continues QE they will strengthen gold and silver which will put more pressure on those like JPM and on the future of the fiat currency system.  
  • If Fed ends QE there will be no stimulus left for the economy and it will double dip just like it was going to last summer.
  • If the Fed continues QE they will raise interest rates putting more pressure on bank balance sheets, on the 500 trillion interest rate derivative market and choke off what little demand is left in the economy.
  • If the Fed ends QE they will no longer be able to inflate the US economy.

This post has become far too long as this is no easy question to be answered.  Do we see war in the Middle East?  Are gold and silver the best long term investments?  Will the global revolution move fast enough to stop more reckless moves by world leaders?  I'll leave you with Hank Paulson's quote about the 2008 financial crisis for comfort on our leaders ability to make the right decisions.

"We had no choice but to fly by the seat of our pants, making it up as we went along."


SPX Update

The SPX pierced the trend line going back to August.  Considering how much the SPX has moved down in just three days a close below the trend line would have been rather difficult due to short term oversold conditions.  It was a warning shot though that a trend may in fact be changing.  Irish elections are on Friday and that may very well be a warning shot of its own to senior bondholders.


The Moment Of Truth Approaches

1,300 has been holding for a while today but without a bounce soon an inevitable test of the trend line that has held since August is soon to be in play.  I would expect a bounce off that level at least one or two times.


Oil Is NOT The Only Headwind

Stay focused as we have far more headwinds than just oil.  I'm reading articles and hearing pundits say that once the uncertainty in Libya passes then markets will move up. The upheaval in the Middle East is far from over.  In fact should Gaddafi "pass along" then with over 130 tribes in that country civil war is almost certain.  Beyond the Middle East though, tomorrow we have elections in Ireland with Fine Gael expected to win (possibly a 40% majority) and the risk to senior bondholders will be huge.  Portugal is now in need of a bailout as well.  I won't go into all the headwinds facing the global economy right now.  Just a reminder that risk is not simply contained in Libya.  


SPX Number To Watch

The up trend going back to the creation of the Bernanke put in August has held to date. In fact the last time the lower bollinger was touched was on August 25.  We have not touched it since, amazing.  Today the trend line stands at roughly 1296-97.   Oil is the wildcard in terms of how successful (if any) test is.


USD Ready To Test Long Term Support

The USD is down $.32 as I write this article.  This is while Asian and European markets are down and precious metals up.  Oil is over $100 (Brent hit $120).  The dollar is now only $.20 from testing long term support.

It has failed to bounce significantly off the prior test.  Considering the fact that the fear trade is no longer denominated in the USD this coming test does not bode well for success.  The Fed has killed the USD and is killing the treasury market.  Mind boggling how one man (sure it's a committee but you really don't vote against your boss) controls in many instances global monetary policy and answers to nobody nor is subject subject to an audit.

As Bernanke tries to increase inflation to stimulate demand, he runs the risk of demand being offset by a consumer barely able to buy food to feed their family and gas to drive to work (or the unemployment office).  The race to stimulate or choke the economy is on.


Wednesday, February 23, 2011

AAII Investor Sentiment - Week Ending 2/22

WOW!  Check out the reversals in market sentiment over the past week.  The AAII report is through Tuesday so Libya would be "priced" in here.  Still, the moves are massive. Bullish sentiment dropped to 36.6% from 46.6%.  Bearish sentiment rose to 36.1% from 25.6%.   Buying the dip may be out of favor for a period of time as fear has really crept back into the market.

The SPX has correlated very well with the AAII data as shown below.  The divergence between the two is pretty large right now.  Time will tell if the red line or blue line is wrong.


Bank Profitability Rises FDIC Report

The FDIC issued a report today on the strength of bank earnings in Q4 2010 versus Q4 2009.  Earnings are up $23.5 billion.  Sounds great right?  Banks are recovering as clearly the headlines states.  CNBC reports the following.

"The banking industry continues to recover from the 2007-2009 financial crisis but lending will need to pick up if progress is to continue, Federal Deposit Insurance Corp Chairman Sheila Bair said on Wednesday.

Industry profits were up considerably from a year ago standing at $21.7 billion in the fourth quarter of 2010, which compares to a net loss of $1.8 billion a year ago, according to the quarterly banking report released by the agency.

Most of the increase was due to banks putting aside less to guard against loan losses.

Banks put aside $31.6 billion in the fourth quarter for losses, about 50 percent less than a year ago."

In case you missed it, banks put aside 50% less for reserves against credit losses in Q4 2010 versus Q4 2009.  In Q4 2009 approximately $60 billion was charged to reserves for credit losses.  In Q4 2010 the number was $31.6 billion.  The graph below shows the percent reserved for credit losses for JPM, WFC, C, BAC.  Notice the improving trend, meaning they are reserve less as a percent of total credits.  

Improving credit quality?  What?  Banks are not extending credit because they already have enough homes coming back to them.  Interest rates are rising putting further pressure on home prices.  About 40% of CRE to be rolled in 2011 does not meet rating agency standards (do rating agencies really have any standards in the first place?).

  • BAC just restated goodwill impairment and credit card losses retroactively from 2009 through 2010 by an additional 10 billion.
  • The CFO of WFC abruptly left in the midst of an internal review of their credit quality.  Is there a reason he could not finish the review and sign off on the audit.  I mean he is only 60 and makes north of $5 million.  He actually took an unpaid sabbatical for a few months at which point retirement is more financially beneficial.
  • Home prices have begun double dipping, meaning higher strategic defaults.
  • The volume of homes to go from delinquent to REO is growing.
  • Second tier credits still have yet to be marked down.
  • Didn't the Fed just tell all banks to stress test against a GDP decline and unemployment at 11%?

Don't fall for it.  Read beyond the headlines from CNBC.  Banks are a mess and at some point, their bullish bet on improving credit quality will result in them taking a massive hit to earnings.  


The Global Revolution


Libya Worse Than Being Reported


SPX 1296 Test

I'm not a intraday trader, too much noise for my liking. Still, I do follow intraday activity and right now SPX is looking weak but the critical test should it happen today would be 1296 (rough number) which is support going back to the August ramp.   For now the market is still in an uptrend but should that level be breached, then longs will be forced to consider their positions.  Banks looking weak here as is copper, treasuries.


Quantitative Easing and The Treasury Market

The slide in treasuries continues again and it is clear the Fed has lost any control of the entire curve beyond a one year maturity.   Equity markets are at a very critical juncture right now with QE2 expected to end in June.  The reality is equity markets may very well begin pricing the end of QE in the near future, if you consider the Jackson Hole speech hinted at QE2 in August and saw equities price in the policy three months ahead of the November 2010 meeting.

There is no shortage of people calling for endless QE (easily 80% of those voices truly don't even understand QE).  The environment now though has changed making the options to Fed monetary policy more limited.  Probably the biggest headwind facing the Fed is rising interest rates.  The federal funds rate is at 0-25 bp and QE was intended to push down rates further out on the curve and it did work for a while.  The Fed conditioned all of us for low rates with their continual use of "extended period" with each FOMC statement.

The Fed needs to be careful moving forward.  The bond market has clearly signaled they are concerned about inflation, loss of confidence in the Fed and US fiscal policy.  The US is competing with other sovereign nations for capital at the same time they are increasing their supply with growing deficits.  Imagine a shock even to the US economy.  The US is in no position to use emergency stimulus without risk of truly blowing out yields.

Two Year Treasury

After catching a little bid last week the two year has given up all its gains and looks to test the lows again.  The shorter end of the curve had stayed relatively low in yield but has risen more than any other maturity recently causing a bear flattening (higher rates and a flatter curve).  Not favorable for banks or those on the wrong side of interest rate swaps (which is a $458 trillion market).

Ten Year Treasury

Has bounced along a multi year trend line after failing last week.  Looks like it too is set up for failure.  This is not good for housing which is already under pressure and double dipping.  A 100 bp rise in 10 year yield equates to about an 11% drop in home prices.


Tuesday, February 22, 2011

Tuesday's Market

I've been a little quiet in the posting category.  I spent the entire weekend and then some editing code for a new site that will launch next week and expand upon the blog.  More to come on that in the following days.

Today's market action was nice to see for a change.  As always, down days have massive volume versus up days.  Anything is possible, and this market may set new highs in a few days again but the risk / reward is getting far more skewed to the risk side of the equation.

The bond market caught somewhat of a bid today but still is not showing any real bullish tendencies.  The 2 year auction today saw a bid to cover around 3.03 versus the 3.40 trend of late so that does not bode well for treasury demand, especially with the recent run up in yields.  The implications to risk sensitive assets (swaps, housing, CRE, etc) are huge and the Fed has to be careful how much they push future QE.

The USD is done, put a fork in it.  Precious metals are the new reserve currency, flight to safety.  I won't call them a flight to safety trade, because they really are not a trade. They are another form of currency.  When you go all cash in your trading account, that is not considered a trade, nor should owning precious metals.   Ever hear anyone talk about how their cash balance takes a hit when the USD is weak or rejoices when the USD is strong?  For some precious metals is a trading vehicle but for most it is a hedge against a dying fiat currency system.

Copper has really begun to roll over as are emerging markets, DOW Transports, Utilities. The VIX was up huge today and the AD line was heavily in the declining category.  The only thing catching a bid is oil and the headwinds from rising prices will hurt the cash strapped consumer.

Libya is only going to grow in violence with Gaddafi now preparing to be a martyr.   Bahrain is continuing to boil over and I read reports that Iran may see protests as early as Tuesday or Wednesday of this week.  The global revolution is even happening in the US. First Wisconsin now Ohio and Indiana. Expect many other states to protest just how the budget gaps will be filled.

Ireland elections are on Friday and no one seems to be talking about it.  Angela Merkel was handed quite the set back in this weekend's elections as well.  Neither bode well for senior bondholders staying whole.  Italy had to close its stock market today, Japan has been put on credit watch negative, Spain is acknowledging how bad their banks are finally, The UK is contracting (oh yeah, Japan too), Korea is a seeing a bank run (oh yeah Ireland too).  I am sure I missed something but you get the point.

If this market is going to turn, don't think the dip buyers will give up without a fight.  A majority of traders and investors have made money for two years by literally doing nothing but holding stocks.  It was an easy way to make money and they won't give up without a fight.  They will pour money into any weakness as they have been conditioned. They will focus on the Bernanke put which in reality expires soon unless QE3 is hinted at in the next few weeks. Today had the sign of a buy the dip trade working yet again but failed. It may still work but one thing  is for sure, one day it won't work.  Stay focused on the issues that the media is not covering.  The issues are real and the opportunities to profit from them are very large indeed.


Bank Of America Credit Quality Deteriorating

This most recent earning season saw all of the large banks quote improved credit quality as the basis to reduce reserves for credit losses and subsequently beat on the bottom line.  Recently that has been called into question with the departure of Howard Atkins, CFO of WFC.  This weekend's actions by BAC further question the improving credit quality assumption.

Feb. 22 (Bloomberg) -- Bank of America Corp., the biggest U.S. lender by assets, almost doubled a goodwill impairment for its credit-card unit to $20.3 billion to reflect increased defaults and an almost 2-year-old change in rules.

The bank restated federal regulatory filings to record the writedown to its FIA Card Services unit in 2009’s first half, the firm said yesterday in a statement. The non-cash charge, which replaced a $10.4 billion impairment booked on the unit last year, doesn’t affect “the financial results, safety and soundness or the capital position” of the Charlotte, North Carolina-based parent company, said Robert Stickler, a spokesman.

In November, the bank said some measureswould cut annual revenue by $1 billion, undermining efforts by Chief Executive Officer Brian T. Moynihan, 51, to improve returns for investors. The firm yesterday said the act and “deteriorating credit quality” caused the revision.

With deteriorating home and commercial real estate prices, rising unemployment (read beyond the BLS headlines), a rising interest rate environment and a US economy stuck at stall speed, BAC very likely will be forced to begin adding to reserves for credit losses in the coming quarters as the truth about "improving credit quality" is exposed.  Don't confuse the recent dead cat bounce in this stock as a sign of corporate health.


Monday, February 21, 2011

Oil Production By Country

Below is a chart of the top 30 oil producing countries.  The data varies considerably based on sources although this source seems to be most consistent (CIA The World Factbook).  Libya is fairly far down the ranking at 18 and so far oil disruptions appear to be relatively small.  Iran and Saudi Arabia are the big question marks though.  It will be very interesting to see over the next few days what if anything comes out of Iran.

The global revolution is moving so fast and government responses have been as illogical as their style of government.  No one really understands the Middle East and Iran plays a large role in destabilizing the area.  Saudi Arabia is now surrounded by protests which cannot be a positive for stability in that country.  One also has to wonder where Al Qaeda is right now.  What role will they play in shaping the future of the Middle East?  Will they attempt to overthrow a weakened government or fill a power vacuum?  Israel is possibly more isolated now than ever before.  Hezbollah has declared they are ready for a new war with Israel and the ability of the US to maneuver in the region has been weakened.

The future of the US and global economies right now are in the hands of the global revolution. If oil production is impacted in Iran and or Saudi Arabia the shock to the system will be massive.  Consumers already squeezed from rising food prices will spend any remaining discretionary income to heat their homes, fuel their cars.  Treasuries so far are failing to rise in the face of geopolitical risk which will only put greater pressure on the US economy (a 100 bp rise in yields equates to an additional $140 Trillion in interest expense annually).   There are so many moving parts right now all of which are intertwined.

It's quite possible the Fed injects greater levels of QE to offset any shocks.  They may be forced to do all they can to hold up asset prices but that very action will further weaken the USD and treasuries.  The Fed may have entered a negative feedback loop they cannot get out of unless they wish to finally confront the structural issues facing the US economy.

Watch Iran for signs of the 2009 revolution awakening.


Data Overload And The Global Economy

The stock market is going to face data overload at the opening bell on Tuesday.  How the market reacts will be interesting.  Perhaps the dip will get bought.  It's become laughable at this point how inefficient this market has become at pricing in reality and risk.   The amount of risk hitting the global economy is mind boggling right now.

  • South Korea is experiencing a run on their banks.
  • On Tuesday Iran will send two navy ships through the Suez canal for the first time since 1979, while Israel views this move as provocative.  
  • Ireland elections are on Friday which threaten to force senior bondholders to incur a loss. Irish banks are experiencing an accelerating bank run and have resorted to issuing debt to themselves and then using that debt as collateral for additional funding.
  • Libya is falling into civil war which puts about 2% of oil production in jeopardy.
  • Revolutions continue in Bahrain, Algeria, Yemen.  Saudi Arabia is now surrounded by revolutions.
  • Iran is facing their own very serious revolution since the 2009 uprising.  Iran will not fall like Egypt fell.  It's been very quiet in Iran the past few days and one has to wonder when that country will erupt.  It's quite possible Iran sending ships through the Suez canal is meant to deflect attention from their own efforts to suppress the pending protests.
  • The USD is falling while gold and silver rally.  The USD reserve currency and fiat currency as a whole are dying.
  • Oil has risen over 10% in the past 48 hours.  If oil moves higher or at least holds these levels, the impact to the global economy will be devastating.  
  • Moody's just downgraded Japan to credit watch negative from stable.
  • China is raising reserve requirements to slow growth.
  • Equity markets have seen a parabolic rise on dwindling volume and rising margin.  Margin debt now stands at pre Lehman levels.
  • Food and energy inflation is rising to an unsustainable level worldwide.
  • The US is experiencing its own revolutions in Wisconsin and now Ohio as the reality of massive budget gaps is realized.
  • The US appears to be headed for a government shutdown as the debt ceiling fight lingers and the clock ticks.


USD Relative Weakness

This is amazing.  In the face of even greater geopolitical risk, the USD is up  a whopping 2 cents.  To put it in perspective

  • Futures down 13 handles
  • Oil up 5%
  • Gold over $1,400
  • Silver approaching $34

The days of the USD being the flight to safety appears to be coming to an end.  Bonds as well are not catching much of a bid.  The Fed is in quite a pickle here.  US Fiscal policy and Fed Monetary policy had a big assumption, that being low interest financing of debt would always be readily available.  If they don't stop the QE nonsense soon, that will be yet another failed Fed assumption.  Imagine if Saudi Arabia and or Iran sees more protests.


Sunday, February 20, 2011

Middle East, Ireland and Rick James

Middle East

The world has quite the week ahead of itself.  What is evolving in the Middle East is inspiring, sad and extremely explosive.  Tunisia was truly a microcosm of the global revolution now taking place.  Tunisia and Egypt fell far faster than anyone imagined and the same will be true with the coming Middle East revolution.  It is truly sad though to see the level of brutality governments will use to maintain power.  Hundreds have been killed this weekend and unfortunately that number will probably grow quickly.

Few, if any truly understand the Middle East.  With each passing day it is becoming even more complex.  On Monday we will see the Iranian navy pass through the Suez canal, Israel has threatened a response and Saudi Arabia is now surrounded by protests.  In Egypt even though the Mubarak regime has been toppled, banks still cannot open nor can the stock market.   The global economy cannot handle a shock event and should the Middle East explode as it appears it is headed, the effects on oil prices could be devastating.


Friday we will see the Irish Elections and right now it appears Fine Gael and Labour will win a majority of the vote with Fine Gael possibly winning the 40% majority on their own. This will further threaten Irish bailouts and hopefully force losses upon senior bondholders.   It also appears the Irish banks are truly on life support right now as they are faced not only with falling assets prices but a growing run on deposits.

The global equity markets are completely ignoring geopolitical risks right now.  Just like the global revolution has evolved faster than anticipated, so to may be the repricing of risk in the capital markets.

Rick James

With all due respect to the late "super freak," what western star do you think Gaddafi, the modern "super freak" has modeled himself after?


Saturday, February 19, 2011

COT Report Week Ending 2/15

This week's Commitment Of Trader report has a few notable divergences but overall sends a somewhat mixed message on short term market direction.  

Oil V Copper

The past few weeks copper has continued to show far greater strength than oil, setting new highs almost regularly.  Oil appears to be rolling over and then another Middle East country erupts causing a spike, that is subsequently sold off.  I present this chart below to simply show how the two have begun show a larger divergence than normal.

Copper V Commercial Net Positions

A few weeks back commercial net positions had become more net long indicating pending copper weakness, but that trend has changed.  This chart would imply copper will continue to show more strength.  The only note I would add is the chart of copper appears to be forming a top similar to April 2010.  It is also notable that the net short position for commercial is reaching its prior highs.  

Oil V Commercial Net Positions

A pretty large divergence is showing here.  Oil is moving down while commercial net positions are increasingly net short.  This is by far the highest net short position commercial traders have had in over a year.  No real conclusion can be drawn from this chart.

SPX V Commercial Net Positions

Last week I pointed out the growing divergence between these two data points.  It has continued to grow and based purely on the prior correlations would imply pending SPX weakness.

USD V Non Reporting Net Positions

Understanding USD direction has become almost impossible.  In the face of geopolitical tension, the fear trade has not resulted in USD strength as in prior times.  The only notable comment to draw from this chart is it appears non reporting positions are ahead of the price action in the USD.  Since this group of traders is almost always wrong, continued USD weakness is quite possible.  The USD is also setting up for another test of a multi year trend line.

30 Year Treasury V Commercial Net

Commercial net positions have continued their move towards net long implying further treasury weakness (higher yield) which would also support the technicals on the treasury price action of late.


Friday, February 18, 2011

The Fear Trade

The Middle East is heating up fast with reports of troops firing on protestors in Bahrain and Libya.  Iran has formally requested passage of its navy through the Suez canal and Israel has threatened to attack if they do in fact pass through.  So the news grows as we head into a three day weekend in the US and we see precious metals and oil catching a bid while the USD sells off.  This never would have happened a few years ago but it is a sign of the times and the lack of confidence in the USD.



Oil (Nymex)


Philadelphia Fed Survey

The Philly Fed Survey reported on Thursday blew away the estimate of 22 with a reading of 35.9.  Although the headline number was positive a worrying sign is the drop in new orders which does not bode well for future surveys.  I came across the following survey within the report though and wanted to highlight an interesting trend.

The first part of the survey (section a) asks who has raised prices on finished good. 56.5% report a price increase from 0-10%.  Looking at the second part (section b) the trend continues with 59.2% expecting to further raise prices over the next three months.

Bernanke tells us that price increases are due purely to supply and demand but his argument is not supported by the third part of this survey.  When asked "are you currently experiencing shortages or delayed delivery of any critical raw or intermediate products" 67.1% reported NO. Input costs continue to rise very quickly, yet supply is keeping up with demand.  This would imply costs are being driven more by speculation than a strengthening global economy.


Thursday, February 17, 2011

Future Bank Earnings

The chart below is very interesting and supports the recent commentary by Chris Whalen that banks are sitting on far bigger losses than they are reporting.

The volume of foreclosure sales has stayed relatively flat yet the serious delinquent category has grown much faster.  Foreclosure inventory has not kept up with the growth in delinquency either.

I've heard reports of people not paying a mortgage for months, in some cases over a year.  That would be a delinquent credit, yet the banks in those instances are ignoring this non-performing credit.  Unless notice is given, the credit is performing and not delinquent.   Why do that? Why would a bank let someone not make a mortgage payment for months? Why does the foreclosure process take up to 19 months for the top banks?

It's all part of extend and pretend.  When a credit is delinquent, the bank is still accruing interest on that note even though the probability of collecting that accrued interest is very low. Additionally the asset is marked at full value.  When a bank finally seizes a property it becomes an REO (Real Estate Owned) and that is when the hit to the balance sheet for the value of the asset and the income statement for the accrued interest happens.

What we have seen the past few reporting seasons is banks reducing their reserves for credit losses when in fact there is a mismatch between their realized losses and future losses.   They claim improving credit quality and perhaps that is true but they still are under reserved.  Should housing take another leg down, strategic defaults will occur and this problem will grow.  For now banks are balancing their dwindling profit with balance sheet write downs.  This, is why the US economy is being held hostage by the TBTF banks.  The last thing they want to do is extend credit to anyone without a perfect credit score and very low LTV .


MERS Is Slowly Going Away

I'm not an attorney and don't know the full implications but I do no the most recent MERS action is not a positive for an already struggling housing market.  MERS (Mortgage Electronic Registration System) was created by the mortgage banking industry as a way to "streamline" the securitization process and make home loans more affordable.  In reality, it was created to bypass recording fees across the country.

If memory serves, MERS is involved in about 50% of all mortgage transactions.  This means that half of land transactions in the US have not been recorded at the state level and therefore only MERS knows who owns what.  I'm not making this stuff up.  MERS has been ruled against a number of times during foreclosure proceedings and as a result has issued a 90-day comment period ahead of a stoppage of foreclosure under MERS.

"Mortgage Electronic Registration Systems, or MERS, told its members Wednesday not to foreclose on residential mortgages in its name."

The amount of fees bypassed over the years is in the billions (possibly hundreds of billions).  With states facing over 200 billion this year alone in budget gaps, it is only a matter of time before they proceed with their own suit to reclaim these lost revenues.

During judicial state foreclosures (about half the states in the US), MERS was shown as holder of the title and not the note which is a problem in itself.  Equally problematic that the courts will not allow is lack of endorsement of title and note.  MERS is now asking to not be involved in any future foreclosure proceeds.  This begs the question then, who holds the mortgage?  Are the true holders in theory unsecured creditors?  The problem facing the industry is very simple in eyes of the law, there is no sign of who sold what and therefore who owns the note and the mortgage.  As to how this is remedied, no one really knows.  But one thing for sure, this action by MERS today has made the solution even more confusing.


Consumer Prices - CPI

Today's CPI release shows inflation hitting the non-discretionary items like food and not the discretionary items like motor vehicles.

Look at the increases in "Food at Home," groceries.   January saw a month over month increase of .5% versus an average month over month increase the prior six months of .1%.  Here's a quote from the report.

"The index for food at home posted its largest increase in over two years with all six major grocery store food group indexes rising."

"All items"  continues trending higher as well, registering a .4% increase (MoM) in January as in December.

Lastly, motor vehicles continue to have no pricing power as prices continue to deteriorate.


Wednesday, February 16, 2011

AAII Investor Sentiment - Week Ending 2/15

This week's AAII Investor Sentiment (asks of one's market view over the next six months) is out and still in the bullish camp.  Those answering bullish dropped 2.8% this week to a still above average 46.6%.  Those answering bearish dropped 1.3% this week to a still below average of 25.6%.

The SPX continues to ignore prior correlations and the AAII sentiment data is yet another.  The charts below speak for themselves as the divergence over the past few months continues to grow new levels.


Treasury, USD And The Fed

The Fed continues to ignore inflation which is truly mind boggling.  They know it is here, they want it but they refuse to acknowledge it.  Bernanke will quote the TIPS break even (TIPS minus Treasury Yield of similar maturity) as the inflation expectation yet ignore all other signs as demonstrated in today's FOMC minutes.  

"Despite further increases in commodity prices, measures of underlying inflation remained subdued and longer run inflation expectations were stable."

The Fed is playing a very dangerous game here with the bond and currency markets. Today saw the biggest threat in the ongoing Middle East crisis with Hezbollah ready to wage war on Israel and Iran sending their navy through the Suez canal for the first time since 1979.  The flight to safety trade, albeit short was very concerning as bonds and the USD did not catch a bid, but rather precious metals.  Precious metals are quickly becoming a new currency.  At least 20% of US states are passing legislation that would allow another currency in addition to the USD.  

It's quite possible the days of the USD being the reserve currency have passed.  The implications are massive.  Equally massive is the bond market and the signal it is giving to the Fed and DC.  It is concerned about inflation. It is concerned about the lack of Fed credibility.  It is concerned that DC continues to put politics ahead of fiscal policy.  The market is speaking and Bernanke appears ready to continue his aggressive and reckless policies.

10 Year Treasury
Appears to be consolidating ahead of another leg down.  The implications to housing are massive.  A 100 bp move equates to roughly a 11% drop in home prices.  

5 Year Treasury
The National Debt is rolled about every four years.  With 14 trillion in debt, a 100 bp move in yield equates to $140 billion USD additional interest expense.  Imagine tacking on another $140 billion in debt?  There will be no more stimulus to the economy.  The Federal and State governments will now drag economic growth.  

2 Year Treasury 
The short end of the curve had stayed low but not anymore.  The yield curve is flattening as the shorter maturities rise faster.  So not only do banks face a flattening curve but higher rates throughout all maturities.

USD - Need I say more?  It cannot catch a bid.  The world is speaking and they no longer believe in the strength of the US economy.  A sad day indeed.

My apologies if I sound like an alarmist.  As a father of two children, I truly worry about the future facing them.  I worry about the massive levels of unemployment that are ignored through government accounting and spin.  There are many people hurting in this country and throughout the world.  A global revolution has begun.  Let us hope that they and the markets can speak loud enough to force a true "change we can believe in."


JPM Sued By Allstate

The banking sector is a mess.  Every day a judicial ruling goes against them, a lawsuit is entered, you name it.  Today was no different with Allstate now suing JPM (it has already filed suit against BAC) claiming reps and warranty violations on RMBS purchased.  JPM catches a bid in the face of a nearly 700 Million suit.  Pure comedy.

This suit is similar to that Allstate filed against BAC, as it uses statistical sampling to quantify put back amounts.  BAC had argued they would force anyone requesting a put back to go loan by loan but in a prior ruling a judge said no.  We are not talking a few loans that violates reps and warranties.  We are talking upwards of 70% if not more.

The market continues to ignore any negative banking news.  Either because the reality is too difficult to understand or people simply believe it will go away on its own.  It won't. Stay focused on the issues facing the banking sector.  If not for a longer term short trade, then at least a reason not to invest in any of these true zombie banks.  We are a credit event away from another financial crisis and the banks are weaker now than they were in 2008.  


The Flight To Safety Trade

This is pretty interesting to watch the USD sell off while gold and silver catch a bid in the face of tension between Israel and Iran.  This is more of a sign that the USD is truly losing its reserve currency status.  This does not bode well for a USD bounce in the short term.


The Importance Of Understanding The Bigger Picture

A few weeks back after the banks reported earnings, I compared the reserve rates for the top four banks.  Clearly, WFC stood out as having a lower reserve as a percent of total loans and leases.

With the recent and sudden departure of the WFC CFO rumors began circulating as to why Howard Atkins left a high paying job, very suddenly and at a relatively young age. Well today one of the best bank analysts is shedding light as he questions the validity of WFC's disclosure process.

"The departure of Atkins, we are led to believe, was not merely the result of personal issues, but reflects an ongoing internal dispute within [Wells Fargo's] executive suite regarding the bank's disclosure," 

There is a lot of noise in the market right now.  Bank stocks seem to catch and endless bid but the problems have not gone away.  Understanding and staying focused on the bigger picture, beyond the day to day noise is critical.  You are better prepared to understand how to respond to the WFC news today and determine if the sell off is an overreaction or in fact true pricing of real risk at WFC.


January Producer Prices

Producer prices are starting to really show the inflation that the Fed tells us is not here. Companies have one of two choices:

  • Pass along higher prices to a struggling consumer which risks choking off the already limited demand.

  • Not pass along the higher prices and internally manage tighter margins through reduction in labor (which further reduces demand).

The bond market has really sold off in the face of this news today.  Interest Rate Derivative risk will be a very strong QE headwind in the face of this continued bond market weakness.


Tuesday, February 15, 2011

Housing - Two Big Developments

It is human nature to ignore problems versus understand them.  The housing market is no different.  There has been almost zero coverage of two very large developments over the past few days.  Many have failed to understand robo-signing or mortgage-gate in the first place.  The media has stopped almost all coverage of the subject so the majority of investors think this issue has gone away.  Well, it has not.  

In courtrooms across the country rulings are being made almost every day that continue to find fault at the mortgage servicing industry as it relates to foreclosure and mortgage back securities.  This problem is not going away, it is festering but until the market euphoria wears off, these issues will not be priced in.  Still, as investors our edge is in understanding the issues now so we can act when the time is appropriate.

Development 1:

A NY bankruptcy court ruled that the process used by MERS to transfer title is invalid.  Plain and simple, the law is the law and MERS violated it.  The implications are massive as the judge states but the law is clear and it was violated.  

“MERS’s theory that it can act as a ‘common agent’ for undisclosed principals is not supported by the law,” Grossman wrote in a Feb. 10 opinion. “MERS did not have authority, as ‘nominee’ or agent, to assign the mortgage absent a showing that it was given specific written directions by its principal.”

Development 2:

Legislation is passing through the state of Arizona, similar to the findings above that if a foreclosing party cannot show clear endorsement of title and thus ownership, then foreclosure cannot happen, period! Anyone who is being foreclosed upon can use this legislation to halt the foreclosure and seek attorney fees and damages.

I find it funny that today JPM is up over 2% at one point as were BAC, WFC.  Just last week the rating agencies issued a report claiming RMBS put back risk to JPM, WFC, BAC and C was 60 billion and yet again the bank stocks rose.   As a trade, OK as an investment?  No way!


Commercial Real Estate

The commercial real estate (CRE) delinquency rate as a percent of total loans and leases is showing no sign of letting up from its truly parabolic rise.  This level of delinquency pretty much wipes out all of the net income from performing credits.  A recent report from one of the rating agencies said that over 30% of CRE to be rolled in 2011 did not meet the required standards, whether it be loan to value ratios, debt service, occupancy, etc. Making matters even more difficult is the rising interest rate environment thanks to QE and a struggling consumer.

Howard Davidowitz recently had the following to say about the surplus commercial real estate in the US which helps explain why this delinquency rate will continue to grow.

Online sales have to lead you to question the whole retail selling strategy. We have 21 square feet of selling space for every man woman and child in this country. We already have double of what we need. With the explosion of online sales, what happens to all these retail malls and shopping centers which are marginals? Huge changes are going to be taking place as people continue shopping online.... In the end what do you do with the retail space...This is going to be a huge question for retail in the next ten years, that's why Walmart is starting to build smaller stores, that's why Walmart is building more overseas than they are building here. It's going to be the biggest retail change that we've ever seen."