Posts
March 21, 2012
Simple question but difficult to answer. Here is the long answer.
I still think that we are getting near a tipping point with both the economy and the markets. The “economy continues to improve” groups are basing their argument on headline numbers. For example,
1. Auto sales are up slightly but inventories are even higher;
2. or an average 200,000 jobs have been created over x months but that is not enough and half the jobs are part-time and for lower wages;
3. Or manufacturing and service indexes are over 50 and therefore show “modest growth,” but are higher inventories good for the economy or just GDP index.
4. Corporate profits are high (decades high levels) and going higher (implies margins will continue to expand), but many indications that margins will contract (rising costs, gasoline hurting consumers, increasing housing foreclosures mean people have to move and pay rent rather than spending their mortgage payment on restaurants and cars, etc.)
5. The warm whether is also a factor being ignored by the Fed’s models.
At the same time, the money the Federal Reserve and deficit spending have pumped into the economy is going into the markets as Bernanke wants to get them animal spirits going; and he is being helped by the media: consumer sentiment is improving and the VIX (volatility or risk measure) is now extremely low (what risk can there be?)
“Darth Vader” on the other hand is looking at the fact that the pace of money supply(the key driver of GDP) has started to contract and that means decline for the GDP by June/July unless there is a new stimulus program or QE3+.
I think the Fed is looking for an “excuse” to print more money but it can’t look like a political move so he needs some economic data to point to in order to pull the trigger. This could be some bad economic numbers or a market correction along with a correction in gold and silver. Or it could be done through stimulus as we prepare for to engage in another war.
Net/Net: The economy remains in recession and looks to stay there for some time because we have not addressed any of the issues that brought us into this recession or are keeping us there (spending, debt, central planning, printing money, government interference in the economy and markets, etc. etc.
But, the $8 trillion dollars pumped into the economy has helped GDP’s and increased assets. This is what politicians (including Fed Reserve politicians) do. It seems to be the only thing they know how to do. Therefore, I expect another round of stimulus or money printing in time to help the elections and before the new debate on the debt limit ceiling which will likely be reached by October.
Investments must be flexible (risk on, risk off) because the exact shape and timing of the markets are unknown; and tradable (for protection and opportunities) until the longer trend becomes known.
Net/Net: The short answer is that the market is at the top of its range and can only be held there by more action from the government.
Friday, March 30, 2012
Friday, March 9, 2012
Is It Decision Time for the 2012 Economy?
The media has been reporting for some time, based on "expert" opinions, that we are in a recovery and that the economy is slowly getting better. There are some data points that are getting better. Afterall, we should get some nominal improvement after the government spent about $10 trillion in the last three years (40% of it borrowed) and the Federal Reserve printed another $3 trillion over the past four years. But, the problem is that it's only temporary. The improvement only lasts as long as the printing presses are running. The net is that the market is being held up by printing money but the economy itself is not improving much.
Now however, we are running out of previously printed money. Quantitative Easing (QE1 and QE2) and the Feds "Twist Program" are winding down. So going forward, we can't get an increase in nominal GDP growth. Therefore, GDP will now start to decline. For example, Goldman Sachs revised its estimate of GDP in the first quarter down twice lat Friday and Bank of America is now at 1.8% for the first quarter. We must print more money to get an increase in GDP.
Yes, both political parties know this and the Federal Reserve knows this as well. But, with current debt at close to $16 trillion, some people are saying no to more debt. Therefore, the government needs to "prove" we need more money printing. After all, elections will be here soon. So, the Federal Reserve needs some bad numbers now to justify printing more money. I wonder about Friday's jobs number. Maybe if gold and silver dropped in value, it would show that debasing the dollar by printing money wasn't the reason for its rise in value. Or maybe a quick hit to the stock market would generate enough fear to do the trick. And, oil needs to come down in price because you can't start a war with oil over $100 per barrel. Or?
The net is this; we could be at a tipping point. Either we side back into recession or we print more money and "jump start" the economy, again.
Now however, we are running out of previously printed money. Quantitative Easing (QE1 and QE2) and the Feds "Twist Program" are winding down. So going forward, we can't get an increase in nominal GDP growth. Therefore, GDP will now start to decline. For example, Goldman Sachs revised its estimate of GDP in the first quarter down twice lat Friday and Bank of America is now at 1.8% for the first quarter. We must print more money to get an increase in GDP.
Yes, both political parties know this and the Federal Reserve knows this as well. But, with current debt at close to $16 trillion, some people are saying no to more debt. Therefore, the government needs to "prove" we need more money printing. After all, elections will be here soon. So, the Federal Reserve needs some bad numbers now to justify printing more money. I wonder about Friday's jobs number. Maybe if gold and silver dropped in value, it would show that debasing the dollar by printing money wasn't the reason for its rise in value. Or maybe a quick hit to the stock market would generate enough fear to do the trick. And, oil needs to come down in price because you can't start a war with oil over $100 per barrel. Or?
The net is this; we could be at a tipping point. Either we side back into recession or we print more money and "jump start" the economy, again.
Sovereign Bond Risks to Increase Significantly
February 21, 2012
If you remember, we were frightened when the U.S. Government threw out two hundred years of settled law when they arbitrarily threw out the superior claims of General Motors' bondholders in favor of the subordinated claims of the shareholders and unions. But, we have since dismissed this incident as being just against one company; and besides it was politically expedient.
However, we did the exact opposite in the financial crisis when we saved the bondholders with public funds. Again, it was politically expedient.
Saturday, the European Central Bank (ECB) did something they may regret later. They exchanged their existing Greek bonds for "New Greek" bonds that are not subject to the "collective action clause" (which allows a supermajority of bondholders to agree to a debt restructuring.) Now, under the new terms, the ECB has first claim to Greek assets over all other bondholders. They did this without the other bondholders consent and without objection from other European nations.
In other words, the ECB can now retroactively change the terms of any bond contract. For example, who has the superior claims against assets, the interest rates, the maturities, etc. at any time it's to their advantage and without bondholder acceptance. No rule of law. No judicial appeal.
Bond buyers will now have to reassess the current value of European bonds for this new risk and then evaluated them against U.S. Treasuries where we have had the rule of law. This increased risk should have an impact on Europe and on our markets.
If you remember, we were frightened when the U.S. Government threw out two hundred years of settled law when they arbitrarily threw out the superior claims of General Motors' bondholders in favor of the subordinated claims of the shareholders and unions. But, we have since dismissed this incident as being just against one company; and besides it was politically expedient.
However, we did the exact opposite in the financial crisis when we saved the bondholders with public funds. Again, it was politically expedient.
Saturday, the European Central Bank (ECB) did something they may regret later. They exchanged their existing Greek bonds for "New Greek" bonds that are not subject to the "collective action clause" (which allows a supermajority of bondholders to agree to a debt restructuring.) Now, under the new terms, the ECB has first claim to Greek assets over all other bondholders. They did this without the other bondholders consent and without objection from other European nations.
In other words, the ECB can now retroactively change the terms of any bond contract. For example, who has the superior claims against assets, the interest rates, the maturities, etc. at any time it's to their advantage and without bondholder acceptance. No rule of law. No judicial appeal.
Bond buyers will now have to reassess the current value of European bonds for this new risk and then evaluated them against U.S. Treasuries where we have had the rule of law. This increased risk should have an impact on Europe and on our markets.
The Drums Of War
February 20, 20012
Everyday there are additional stories about the dangers in the Middle-East and the threats posed by Iran. The next day, an even louder response. Then, came the sanctions on Iran and now the U.S. and NATO have began to tighten those sanctions. From an economic point of view, Iran gets 60% of its income from the sale of oil. These sanctions now include restrictions on who can buy Iran's oil in an effort to reduce their revenues and at the same time, the U.S. has put a hold on Iran's sovereign bank accounts. Logic tells you that if the sanctions work and Iran sees the "situation" as hopeless, they have nothing left to do but surrender or strike out. We know they have recently threatened to close the Strait of Hormuz.
We also know there is a rule of thumb that says currency wars (which are going on world wide now) lead to trade wars (more and more talk about tariffs, etc.) and trade wars eventually lead to real wars.
Therefore, if sanctions against Iran become crippling and they close the straits of hormuz for even five days, the price of oil would significantly increase and if something more severe would happen like the disruption of oil for 30 days, oil could jump to $200 or so. Who knows how high it could go.
Everyday there are additional stories about the dangers in the Middle-East and the threats posed by Iran. The next day, an even louder response. Then, came the sanctions on Iran and now the U.S. and NATO have began to tighten those sanctions. From an economic point of view, Iran gets 60% of its income from the sale of oil. These sanctions now include restrictions on who can buy Iran's oil in an effort to reduce their revenues and at the same time, the U.S. has put a hold on Iran's sovereign bank accounts. Logic tells you that if the sanctions work and Iran sees the "situation" as hopeless, they have nothing left to do but surrender or strike out. We know they have recently threatened to close the Strait of Hormuz.
We also know there is a rule of thumb that says currency wars (which are going on world wide now) lead to trade wars (more and more talk about tariffs, etc.) and trade wars eventually lead to real wars.
Therefore, if sanctions against Iran become crippling and they close the straits of hormuz for even five days, the price of oil would significantly increase and if something more severe would happen like the disruption of oil for 30 days, oil could jump to $200 or so. Who knows how high it could go.
Friday, February 3, 2012
Headlines Can Be Deceiving
Today, the January Jobs Report indicated that the economy created 243,000 jobs in January and the unemployment rate dropped to 8.3%. That sounds good and most of the “experts” were screaming that this more proof that the economy has turned around and job growth will continue. What they didn’t do is look beyond the headline.
First, I was startled when I heard the headline numbers. Here is the context behind the numbers. Last week, Chairman Bernanke said the economy was soft and lowered his GDP growth estimate, extended the zero interest rate program through 2014 and implied that he was ready to intervene with more money creation if necessary. That doesn’t sound like the environment for “surging” new job growth.
So here is some information behind the headline.
1.A record 1.2 million people fall out of the labor force (these are people who are no longer looking for a job.)
2.This means that the percent of the population that would like to work dropped to 63.7%. The long-term, historic percent is 65.8%. This is important because this is the number they use to determine the unemployment rate. This is 5 million people less looking for work than is normal; and with 5 million less people you get a much lower unemployment rate. And baby boomers are not retiring like many assume, In fact, their participation rate in increasing.
3.Part-time workers increased by 699,000 and full time jobs increased by 80,000 jobs. So about 10 percent of jobs were full time.
I am not saying there is a conspiracy to improve the numbers. It is the way the math model works. But it does demonstrate that you must look beyond the headlines to get the real story.
First, I was startled when I heard the headline numbers. Here is the context behind the numbers. Last week, Chairman Bernanke said the economy was soft and lowered his GDP growth estimate, extended the zero interest rate program through 2014 and implied that he was ready to intervene with more money creation if necessary. That doesn’t sound like the environment for “surging” new job growth.
So here is some information behind the headline.
1.A record 1.2 million people fall out of the labor force (these are people who are no longer looking for a job.)
2.This means that the percent of the population that would like to work dropped to 63.7%. The long-term, historic percent is 65.8%. This is important because this is the number they use to determine the unemployment rate. This is 5 million people less looking for work than is normal; and with 5 million less people you get a much lower unemployment rate. And baby boomers are not retiring like many assume, In fact, their participation rate in increasing.
3.Part-time workers increased by 699,000 and full time jobs increased by 80,000 jobs. So about 10 percent of jobs were full time.
I am not saying there is a conspiracy to improve the numbers. It is the way the math model works. But it does demonstrate that you must look beyond the headlines to get the real story.
Thursday, January 26, 2012
Why Is The Market So Optimistic? What’s Changed?
It’s not the economy. Not much has changed there except for a few of the many antidotal data points that are published each month. The expert’s points to three or four of the 30 reports published every month and conclude that they signal that the economy is recovering. Most don’t look at the context surrounding the data point so they don’t know what it means (do you think the guy writing headlines knows how the CPI index is adjusted for quality improvements verses price increases) or even if ”that data point” can be used to forecast the future.
There are two things that have changed. One, we continue to pile up debt (now exceeding 5 times our revenues) at a rate of $4 billion per day increasing the probability that we will have to eventually default on our sovereign debt. Two, the Federal Reserve continues to print money in increasing amounts and in many different ways like helping the European Central Banks with liquidity, or running a “Twist” program here to bring down long term rates, or the Zero Interest Rate Program (ZIRP) to help the banks and hurt savers (and force them into higher risk investment to earn any return on their investment.)
Then, yesterday, Chairman Bernanke announced that he intends to keep ZIRP in place through most if not all of 2014. Remember, both political parties were angry with Chairman Greenspan for the housing bubble because he held interest rates at one percent for a year. Bernanke intends to hold rates at zero for four years! And then, just to make things worse, he said he would be willing to “be more accommodative or in English, print more money) if the economy gets worse. Oh, by the way, he revised his estimate of GDP growth down another quarter percent.
Money supply data shows that the Federal Reserve has continued to increase the money supply and has increased the pace in the past month. In spite of what Bernanke says, this is money printing (QE3) pure and simple. Since we know that increasing money supply is how you increase GDP, the markets are pricing in the increased money supply.
There are two things that have changed. One, we continue to pile up debt (now exceeding 5 times our revenues) at a rate of $4 billion per day increasing the probability that we will have to eventually default on our sovereign debt. Two, the Federal Reserve continues to print money in increasing amounts and in many different ways like helping the European Central Banks with liquidity, or running a “Twist” program here to bring down long term rates, or the Zero Interest Rate Program (ZIRP) to help the banks and hurt savers (and force them into higher risk investment to earn any return on their investment.)
Then, yesterday, Chairman Bernanke announced that he intends to keep ZIRP in place through most if not all of 2014. Remember, both political parties were angry with Chairman Greenspan for the housing bubble because he held interest rates at one percent for a year. Bernanke intends to hold rates at zero for four years! And then, just to make things worse, he said he would be willing to “be more accommodative or in English, print more money) if the economy gets worse. Oh, by the way, he revised his estimate of GDP growth down another quarter percent.
Money supply data shows that the Federal Reserve has continued to increase the money supply and has increased the pace in the past month. In spite of what Bernanke says, this is money printing (QE3) pure and simple. Since we know that increasing money supply is how you increase GDP, the markets are pricing in the increased money supply.
Monday, January 16, 2012
We Must Change The Way We Look At The Economy
Until WWI, America was a booming Free Market economy. By 1890, American manufacturing output surpassed that of Great Britain. In 1913, Henry Ford paid his employees $5 per day which equates to $10,000 per month in today’s inflated money.
America thrived because Free Markets are driven by entrepreneurs making decisions based on the knowledge they have, how they viewed the future and their willingness to take risk. Unavoidably however, not every economic decision can be correct; therefore Free Market business cycles are prone to some excesses and recessions. Without government interference, these shallow business cycles were generally short-lived and produced tremendous economic growth.
Today’s economy and markets are fundamentally different than those of the past. Expanding government interference in the economy has slowly changed our economy from a market based, entrepreneurial economy to one that is Centrally Planned. America’s current economy is driven by politicians and their friends: favored corporations and their lobbyists who are often referred to as “capitalists.” One result of this transformation from a Free Economy to a Centrally Planned economy is that short, self-correcting cycles have evolved into volatile bubbles and busts.
The individual, economic decisions of 320 million citizens that drove the Free Market economy has been supplanted by an elite gang of politicians and their favored corporations. The economic “experts, ” the pundits and the media prove this every day with their constant calls for the government “to do something” - to solve the debt crisis, to create jobs, to invest in green energy, to fix the housing problem. The American economy is being transformed from an entrepreneurial-based, manufacturing economy to a financially based services economy dominated by the political class and their favored, financial institutions.
Central Planning is bringing our economy to the edge of disaster
Markets are no longer focused on companies and their future prospects, but on media headlines made by our Central Planners. Yet it has been proved over and over that central planning does not work no matter how much the politicians want to help. It is impossible for a few elite politicians to know the wants, needs and preferences of 320 million people, let alone the complexities of a $60 trillion dollar global economic system.
Central planners make decisions based on political concerns and personal agendas. As a result, they interfere with the economy based upon political expediency, not fundamental economic reasoning. Their political concerns create a paradigm of decisions that are naturally shortsighted, and they generally get fiscal and monetary policy wrong. The hubris and power of the Central planners means they can never admit they were wrong, which leads to more interference, more short-sighted decisions and more damaging fiscal and monetary policy decisions. The Central planners are leading us to the edge of disaster.
The Yellowstone National Park fire
The Yellowstone fire of 1988 provides an excellent analogy of what has been going on since WWI. Yellowstone National Park was created in 1882 and is managed by The National Park Service in Washington, D.C. There are about 35 forest fires each year caused by lighting and about 6-10 fires caused by man.
Until the mid-1960’s, any fire was thought to be detrimental to the park and forests. Fire Management Policy was to suppress all fires as quickly as possible. The beneficial, ecological role of fires was ignored (fires cleaned out the understory and dead plant matter, helped fertilize the soil and allowed new tree species and plants to grow.) Doesn’t this sound like the role of recessions?
In the late 1960’s, Washington D.C. slowly began to see the benefits of the fires and began to change its policy to allow some fires to burn out. But, by this time, the forest was very mature and a significant fire hazard. A crisis was imminent.
In 1988, lightning started a fire on a very dry June day. It quickly grew out of control and soon the wind spread to different parts of the forest. The fire burned for months even though 9,000 fire fighters and 4,000 military personal were used. The fire was eventually extinguished in late fall by rains and snow. About 73,000 acres or 36% of the park was affected and fighting it cost $220 million in today’s dollars.
Our centrally planned economy may be headed for the same kind of fate.
A few central planners can never replace the value of millions of entrepreneurs. Government’s “management plan” of trying to stimulate every little dip in consumer spending with borrowed money has led us to an unsustainable debt level and pending crisis. Yet, the government refuses to face this issue and others.
Studies have shown that when sovereign debt exceeds 5x revenues or when interest payments exceed 10% of revenues, repayment of the debt goes from almost no risk to risk. Once there is a perception of risk, it becomes more difficult to raise additional money. Generally, deficit spending continues, debt mounts and interest rates begin to rise. For example, U.S. 10-year bonds carry an interest rate of 1.98% - at this time, Italy’s 10-year bond as an interest rate of 7% (and the rate increased from 4% to 7% in just a few days), Greece’s 10-year bonds have an interest rate of 37%. Untreated, interest expenses will eventually consumes all revenues. Then, the sovereign is left with three choices: severe austerity, default on the debt or default by inflation.
America thrived because Free Markets are driven by entrepreneurs making decisions based on the knowledge they have, how they viewed the future and their willingness to take risk. Unavoidably however, not every economic decision can be correct; therefore Free Market business cycles are prone to some excesses and recessions. Without government interference, these shallow business cycles were generally short-lived and produced tremendous economic growth.
Today’s economy and markets are fundamentally different than those of the past. Expanding government interference in the economy has slowly changed our economy from a market based, entrepreneurial economy to one that is Centrally Planned. America’s current economy is driven by politicians and their friends: favored corporations and their lobbyists who are often referred to as “capitalists.” One result of this transformation from a Free Economy to a Centrally Planned economy is that short, self-correcting cycles have evolved into volatile bubbles and busts.
The individual, economic decisions of 320 million citizens that drove the Free Market economy has been supplanted by an elite gang of politicians and their favored corporations. The economic “experts, ” the pundits and the media prove this every day with their constant calls for the government “to do something” - to solve the debt crisis, to create jobs, to invest in green energy, to fix the housing problem. The American economy is being transformed from an entrepreneurial-based, manufacturing economy to a financially based services economy dominated by the political class and their favored, financial institutions.
Central Planning is bringing our economy to the edge of disaster
Markets are no longer focused on companies and their future prospects, but on media headlines made by our Central Planners. Yet it has been proved over and over that central planning does not work no matter how much the politicians want to help. It is impossible for a few elite politicians to know the wants, needs and preferences of 320 million people, let alone the complexities of a $60 trillion dollar global economic system.
Central planners make decisions based on political concerns and personal agendas. As a result, they interfere with the economy based upon political expediency, not fundamental economic reasoning. Their political concerns create a paradigm of decisions that are naturally shortsighted, and they generally get fiscal and monetary policy wrong. The hubris and power of the Central planners means they can never admit they were wrong, which leads to more interference, more short-sighted decisions and more damaging fiscal and monetary policy decisions. The Central planners are leading us to the edge of disaster.
The Yellowstone National Park fire
The Yellowstone fire of 1988 provides an excellent analogy of what has been going on since WWI. Yellowstone National Park was created in 1882 and is managed by The National Park Service in Washington, D.C. There are about 35 forest fires each year caused by lighting and about 6-10 fires caused by man.
Until the mid-1960’s, any fire was thought to be detrimental to the park and forests. Fire Management Policy was to suppress all fires as quickly as possible. The beneficial, ecological role of fires was ignored (fires cleaned out the understory and dead plant matter, helped fertilize the soil and allowed new tree species and plants to grow.) Doesn’t this sound like the role of recessions?
In the late 1960’s, Washington D.C. slowly began to see the benefits of the fires and began to change its policy to allow some fires to burn out. But, by this time, the forest was very mature and a significant fire hazard. A crisis was imminent.
In 1988, lightning started a fire on a very dry June day. It quickly grew out of control and soon the wind spread to different parts of the forest. The fire burned for months even though 9,000 fire fighters and 4,000 military personal were used. The fire was eventually extinguished in late fall by rains and snow. About 73,000 acres or 36% of the park was affected and fighting it cost $220 million in today’s dollars.
Our centrally planned economy may be headed for the same kind of fate.
A few central planners can never replace the value of millions of entrepreneurs. Government’s “management plan” of trying to stimulate every little dip in consumer spending with borrowed money has led us to an unsustainable debt level and pending crisis. Yet, the government refuses to face this issue and others.
Studies have shown that when sovereign debt exceeds 5x revenues or when interest payments exceed 10% of revenues, repayment of the debt goes from almost no risk to risk. Once there is a perception of risk, it becomes more difficult to raise additional money. Generally, deficit spending continues, debt mounts and interest rates begin to rise. For example, U.S. 10-year bonds carry an interest rate of 1.98% - at this time, Italy’s 10-year bond as an interest rate of 7% (and the rate increased from 4% to 7% in just a few days), Greece’s 10-year bonds have an interest rate of 37%. Untreated, interest expenses will eventually consumes all revenues. Then, the sovereign is left with three choices: severe austerity, default on the debt or default by inflation.
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