miércoles, 12 de septiembre de 2012

miércoles, septiembre 12, 2012


The Bear's Lair
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Interest Diverging Like It's 1929
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by Doug Noland

September 07, 2012






Spanish 10-year yields dropped 123 bps this week to 5.57%. Yields are now down 194 bps from July 24 highs (7.51%). Italian 10-year bond yields sank 80 bps this week to 5.02%, and are down 153 bps from July highs (6.55%). Spanish stocks (IBEX) have rallied 34% off July lows, slashing its 2012 loss to only 8%. And after its 32% rally from July lows, Italian stocks (MIB) now sport a 6.8% y-t-d gain. The German DAX has gained 14% from July lows, increasing its 2012 gain to 22.3%.



Here in the U.S., tens of Trillions of (government, corporate, and mortgage-related) bonds are priced at or near record high levels (low yields). The S&P 400 Mid-Cap equities index, up 14.3% y-t-d, is only 0.4% below its all-time high. The small cap Russell 2000 (up 13.7% y-t-d) is 0.6% below its record high. The S&P 500 traded this week to the highest level since May 2008. The Nasdaq (“NDX”) 100 now enjoys a 2012 gain of 24.0% - and traded this week to its highest level going all the way back to 2000. Junk bond spreads traded this week to a 13-month low.




As regional and global economic downturns gain momentum, the ECB this week significantly lowered its forecasts for Eurozone growth. ECB staff now project 2012 economic activity to contract in the range of between 0.2% and 0.6%. Thursday the Organization for Economic Cooperation and Development (OECD) revised downward its estimates for G7 economic growth. The German economy is now projected to slip into recession, with Q3 GDP forecast at an annualized negative 0.5%. Economic activity is expected to weaken further to negative 0.8% in Q4. The French economy is expected to contract 0.4% in Q3, before recovering for 0.2% growth in Q4. The Italian economy is forecast to contract 2.9% during Q3 and 1.4% in Q4. The British economy is seen contracting 0.7% in Q3, before recovering for 0.2% growth in Q4. Japan’s economy is now expected to contract 2.3% (annualized) in Q3. U.S. growth is expected to improve mildly to a 2.0% rate during Q3 and 2.4% in Q4. Outside of the G7, the Greek and Spanish economies are unmitigated disasters.




With the financial world fixated on Draghi, Bernanke and endless QE, global markets now wildly diverge from economic fundamentals. Many are content to celebrate, holding firm to the view that financial conditions tend to lead economic activity. Markets discount the future, of course. And, traditionally, an easing of monetary policy would loosen Credit and financial conditions - spurring lending, spending, investing and stronger economic activity.




Importantly, traditional rules and analysis no longer apply. Monetary policy has been locked in super ultra-loose mode now entering an unprecedented fifth year. Here in the U.S., financial conditions can’t get meaningfully looser. The Federal Reserve has pushed corporate and household borrowing costs to record lows. Liquidity abundance will ensure near-record 2012 corporate debt issuance. “Loose money” has already had too long a period to impact decision making throughout the economy – with decidedly unimpressive results. Arguably, previous unfathomable monetary measures some time ago created dependencies and addictions that are increasingly difficult to satisfy.




Clearly, monetary policy is exerting a much greater impact on the financial markets than it is on real economic activity. In the U.S. and globally, market gains are in the double-digits, while economic growth is measured in dinky decimals. The vulnerability associated with elevated securities markets has tended to only compound the issue of systemic fragility, and policymakers have responded to heightened stress with only more extraordinary policy measures. Recent weeks have provided important confirmation of the Bubble Thesis.




Amazingly, in the face of exceptionally buoyant securities markets and an expanding economy, the Federal Reserve is apparently about to embark on yet another round of quantitative easing (“money printing”). Few expect this to have much impact on the real economy, but it is clearly having a major impact on already speculative financial markets.



I’ve always feared such a scenario: Severely maladjusted Bubble Economies responding poorly to aggressive monetary stimulus, spurring policymakers into only more aggressive stimulus measures. Meanwhile, financial fragility mounts, as Credit systems continue to rapidly expand non-productive debt. Securities markets become dangerously speculative and detached from underlying fundamentals.




Students of the late-1920s appreciate how late-cycle policy-induced market and economic distortions laid the groundwork for financial collapse and depression. Especially in 1928 and early-1929, highly speculative financial markets diverged from faltering global economic fundamentals. Our nation’s business came to be precariously dominated by “money changers,” financial leveraging and market speculation.




But we don’t have to look back to late-cycleRoaring Twentiesexcess for examples of the danger of markets disconnecting from fundamentals. From April 1997 to July 1998 the Nasdaq Composite jumped 90%. The marketplace had turned quite speculative, although excesses were beginning to be wrung out during the August-October 1998 Russian collapse and LTCM crisis. Fatefully, the Federal Reserve bailed out LTCM and the leveraged speculating community, while orchestrating a liquidity backstop for financial markets generally. The consequences continue – and they’re no doubt momentous.




Rather than chastened, the speculator community was emboldened back in late-1998. Not surprisingly, loose monetary policy combined with a central bank market backstop had the greatest impact on the fledging Bubble at the time gathering momentum in technology stocks. The Nasdaq Composite then rose from about 1,000 in early-October 1998 to its historic March 2000 high of 4,816.



It’s certainly not uncommon for individual stocks - or markets - to enjoy their most spectacular gains right as they confront rising fundamental headwinds. Indeed, whether it was the Dow Jones Industrial Average in 1929 or technology stocks in late-99/early-2000, deteriorating fundamentals actually played an instrumental role in respective dramatic market rallies. In both cases, bearish short positions had been initiated in expectation of profiting from the wide gulf between inflating stock prices and deflating fundamental backdrops. In both cases, short squeezes played a prevailing role in fuelingblow offspeculative rallies.




Actually, the most precarious backdrops unfold during a confluence of serious fundamental deterioration, perceived acute systemic fragilities, aggressive monetary policy easing and an already highly speculative market environment. This was the backdrop during 1929 and 1999, and I would argue it is consistent with the current environment. Excess liquidity and rampant speculation drove prices higher in ’29 and ’99, as the unwinding of short positions (and the attendant speculative targeting of short squeezes) created rocket fuel for a speculative melt-up. Over time, intense greed and fear and episodes of panic buying overwhelmed the marketplace. Would be sellers moved to the sidelines and markets dislocated (extraordinary demand and supply imbalances fostered dramatic spikes in market pricing and emotions). Market dislocations - and resulting price jumps - were only exacerbated when those watching prudently from the sidelines were forced to capitulate and jump aboard.




The technology Bubble was spectacular – but it was also more specific to an individual sector than it was systemic. Today’s Bubble is unique in the degree to which it encompasses global markets and economies. Systemic fragilities these days make 1999 appear inconsequential in comparison. The backdrop has more similarities to 1929 – and, not coincidently, policymakers are absolutely resolved to avoid a similar fate. Thus far, policy measures have notably succeeded in fostering over-liquefied and highly speculative markets on a manic course divergent from troubling underlying fundamentals.




The Draghi Plan was unveiled this week, and expectations have the Fed coming imminently with QE3. I don’t anticipate measures from the ECB or the Fed to have much effect on economic fundamentals. At the same time, Drs. Draghi and Bernanke already have had huge impacts on global risk markets. Their policies have dramatically skewed the markets in the direction of rewarding the “bulls” and severely punishing the “bears”. History will not be kind. Policies have, once again, incentivized speculation and emboldened speculators. Policymakers have further energized the expansive globalgovernment finance Bubble.




There are many articles discussing the details of the Draghi Plan. I will instead focus my attention on the interplay between ECB and Federal Reserve policymaking and dysfunctional global markets.




The markets’ immediate response to Friday’s weak U.S. payrolls report was telling: bonds rallied strongly, the dollar weakened, gold jumped, and the stock market melt-up ran unabated – as markets readied for QE3. Ongoing dollar devaluation is critical for sustaining the inflationary bias throughout global commodities and non-dollar securities markets - not to mention incredibly inflated bond and fixed income prices. Fed policymaking seemingly ensures ongoing enormous trade deficits that expel liquidity around the globe. Fed-induced weakness also works to stemsafe haven” and speculative inflows to the dollar, flows that have risked inciting problematic capital flight and risk aversion in markets around the world.




For some time now, the global speculator community has been successfully positioned for ongoing dollar liquidity abundance and devaluation. For the past two years, the unfolding European debt crisis has repeatedly been at the precipice of unleashing powerful global de-risking/de-leveraging dynamics. The Draghi Plan is being crafted specifically to backstop troubled Spanish and Italian debt, faltering markets that were in the process of inciting a catastrophic crisis of confidence in the euro currency.




In unsubtle terms, the Draghi Plan has directly targeted those with bearish positions in European debt instruments and the euro. In this respect, it has been both effective and destabilizing. Draghi has dramatically skewed the marketplace to the benefit of the longs and to the detriment of the shorts – throughout European debt, equity and currency markets. And with simultaneousopen-ended QErhetoric from the Bernanke Federal Reserve, shorts have suddenly found themselves in the crosshairs worldwide. A huge short squeeze has unfolded, fomenting market dislocation – and an only wider divergence between inflating market prices and deteriorating underlying fundamentals. Panicked covering of short positions and the unwind of derivative hedges has thrown gasoline on already wildly speculative securities markets.




In previous CBBs I have noted how asymmetrical central bank policymaking and market backstops over the past two decades nurtured a multi-trillion global leveraged speculating community. I have also explained how massive central bank liquidity injections have bypassed real economies on their way to be part of an increasingly unwieldy global pool of speculative finance. I have further noted how global markets have regressed into one big dysfunctionalcrowded trade.” And now the Draghi and Bernanke Plans have dealt a severe blow to those positioned bearishly around the globe. We can now contemplate the behavior of highly speculative and over-liquefied markets perhaps operating without the typical checks and balances provided by shorting and bearish positioning.



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Draghi and European policymakers must be giddy watching the bears get completely run over. The truth of the matter, however, is that the shorts are in no way responsible for what ails Europe. Indeed, the deep financial and economic structural deficiencies were created during environments where long-side debt market speculation was rife – and the resulting over-abundance of mispriced finance sowed the seeds for future crises. Regrettably, this process remains very much alive, as policymaking ensures Bubble Dynamics become further embedded in all corners of the world.




From my perspective, the key issue is not whether the ECB finally has a (Draghi) plan that will resolve Europe’s debt crisis - the coveted big bazooka. Monetary policy won’t solve Europe’s deep structural problems anymore than QE will resolve U.S. economic maladjustment and global imbalances. Indeed, there is little doubt that the Draghi and Bernanke Plans will only exacerbate global systemic fragilities. They have bought some additional time, but at rapidly inflating costs. We desperately needed global policymakers to work assiduously to extricate themselves from market interventions and manipulations. They’ve again done the very opposite.

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