Guest post by Peter Tchir.
With part of NYC under water this week, I can’t shake the image of the Statue of Liberty from the end of the Planet of the Apes. In that case, the devastation was something mankind had done to itself. In many ways, it is hard to imagine people making such a big mistake – and in the real world we have avoided it – so far. Yet, in Europe we are back to a situation where the weakness of people may push us over the edge once again.
Greece Highlights the Foibles and Follies of the EU
Greece remains a small country. The entire Athens stock market has a market cap of about €25 billion, about the amount Apple swings in any two days. And even that market cap is misleading since 25% of it, is the Coca Cola Hellenic Bottling Company which I think is moving its listing. So I’m not particularly worried about the moves in the Greek stock market (which many have been pointing to), but I am concerned by the noise that is coming out of Greece, and more specifically about the noise coming out of the Troika regarding Greece.
The ECB doesn’t want to take a loss. The IMF can’t reduce rates. The ESM or EFSF could take a loss, but politicians don’t want to see that. Who are they kidding? Greece has no ability to pay its debt. It has nothing to do with some magical 120 in 2020 Troika guideline. It is too much principal and interest due now. They can talk about the PSI bonds, but that is just plain stupid. €60 billion of debt, with a 2% coupon and no maturities within 10 years is NOT the problem. These bonds trade at 25% to 32% of par for a reason – they don’t offer good coupons to the investors. These bonds also have good documentation – they aren’t Greek law bonds – so harder to fool with this time around. Also, they are largely owned by strong hands who have taken the mark to market hit. That means they will fight.
Even A Risk on/Risk Off World Isn’t This Simple, Or Is it?
This is the S&P 500 since July. We’ve had earnings, elections, open ended QE, attacks on embassies, doubts about the viability of social media as a business, weak economic data out of China, bouts of strength with U.S. economic data, budgets, and stress tests, yet I would argue that the ECB has had the single biggest influence on the market.
While it is impossible to tell what drove the overall trend, let alone any given day, there is a strong case to be made that the ECB has played the biggest role in the “risk on” trade, and for that matter, even the recent “risk-off” trade. The moment Draghi said he was prepared to do “whatever it takes” the market rallied. The ECB press conference immediately after was a bit of a disappointment, but reading between the lines, and the odd use of “transmission” by two ECB members was a good sign that something was in the works.
OMT was announced, and while not the full and easy QE we get out of the U.S. Fed, it was fairly impressive. My initial reaction was to give it an A for Effort but C for Execution. It was the first clear sign that the ECB was looking to take new actions and was working hard to address market concerns. It would rely on the ESM to play a role and was a little short on details, but seemed good.
Spanish unemployment climbed to a record in the third quarter as a deepening recession left one in four workers jobless, adding pressure on Prime Minister Mariano Rajoy to seek a second European bailout.
Unemployment, the second highest in the European Union after Greece, rose to 25.02 percent from 24.6 percent in the previous quarter, the National Statistics Institute said in Madrid today. That is the highest since at least 1976, the year after dictator Francisco Franco’s death ledSpain to democracy.
“The situation is serious,” Ricardo Santos, an economist at BNP Paribas SA in London, said by telephone. “There is still room for a deterioration in unemployment. Activity is weak and the government will reduce jobs as there are strict targets to adjust the number of public-sector temporary workers, especially in health and education.” (Full read here).
Meanwhile, the not so popular Mr Rato is about to get some uncomfortable questions with regards to the collapse of Bankia….
Edward Hugh is one of the Economists that truly understands the European situation, especially the Spanish economy and the problems on the Iberian Peninsula. Below is an excerpt from a must read piece via A Fistful of Euros.
Legendary hedge fund supremo Ray Dalio is in ebullient mood. Following a series of moves by Mario Draghi to underpin European government financing Dalio told Bloomberg that, in his opinion, the euro will now “likely” stay together because existing growth-constraining austerity measures will henceforth be balanced by money printing over at the European Central Bank. His statement was, of course, a response to ECB President Draghi’s save the Euro pledge.
This story starts back in July, when Mario Draghi calmly informed a London investors conference that, “Within our mandate, the ECB is ready to do whatever it takes to preserve the euro. And believe me, it will be enough.” Since that time, of course, this gamechanging statement has been qualified and clarified, and re-qualified and re-clarified innumerable times, but still the essence remains unchanged. The ECB President wasn’t talking, remember, about any specific programme of bond purchases or exceptional liquidity measures, he was talking about doing “whatever it takes”, and Ray Dalio for one is taking him at his word.
What Bridgewater’s founder was getting at when he made this assessment is that there is now no meaningful limit being placed on what the ECB might eventually do. Naturally there is the mandate to work around, but the mandate can always be changed if Europe’s political leaders see fit, and who at this point in the crisis still doubts that if needs must they will see fit.
Guest post by Peter Tchir.
Overnight we are hitting new lows with S&P futures touching 1414, a level not seen since early September and pre OMT and QEX. Nasdaq 100 futures are even worse, hitting levels last seen in early August, right after the “whatever it takes” speech finally got some traction.
Credit indices have been wider than this, even in October, so they are either about to take the next leg down or a sign of hope. I’m going with the view they are about to underperform since IG19 is trading 5 bps rich to intrinsic in a market where single name offers are hard to come by.
Crowded safe trades may be in jeopardy and high yield bonds seem particularly fragile. The total lack of fear about junk companies at low yields, issuing dividend deals while big companies are seeing hits to earnings is a little reminiscent of LCDX in 2007 (as I wrote on Saturday). There is still no obvious catalyst for a sell-off, but there never is. If retail has had enough and real default risk fears spark any selling, I can’t think of many institutions set up to buy rather than forced to sell to protect themselves.
Claiming Mahatma Gandhi, Karl Marx, and Che Guevara as inspirations, but also “anonymous people who think differently,” Sánchez Gordillo defends his protest actions as “symbolic, designed to show who is to blame and who is the victim” in the country’s deepening crisis. He rails against the supermarket practice of throwing out food when people are going hungry and accuses the stores of setting artificially low prices for farmers’ produce to reap huge profits. He claims that Spain’s current financial woes, in general, stem not from “excessive debt, but from excessive theft” with, in particular, “the banks buying money [from the European Central Bank] at 0.75 percent and lending it to the state at 7 percent.” This, he says, constitutes “a swindle within a swindle” and is abetted by both the main political parties. (He’s slightly out of date as the lending rate has shrunk to 6 percent.)
Fernando López Noguero, a professor in the sociology department of the University of Pablo Olavide in Seville, says protests such as theirs “with great media resonance” are needed. But he’s concerned that if the crisis worsens, “they could slip into ‘the law of the jungle’ where the domain of law is no longer respected.” He worries that “violent demands may begin to spread, thanks to the breach opened by the crisis.”
Guest post by Peter Tchir.
Europe has played a dangerous game of catching falling knives. Do nothing. Markets weaken. Have some meetings and vague plans. Markets turn more negative. Complain about speculators. Market starts to panic and economies constrict. Politicians and Central Bankers talk more. Markets swing up and down between hopes of some new solution and fears that they don’t do anything. Big summit, big announcement, big rally then back to doing nothing.
It is a cycle we have seen over and over in Europe. It seems as though we are entering another phase where we likely see some weakness. The summit was disappointing, but the market will take some time to challenge the resolve of the EU and ECB. The “whatever it takes” pronouncement culminating in the OMT “modality” was too painful for shorts.
I think the bailout of Spain is largely priced in, which means that even in a perfect world, most of the upside is there, and more and more, it looks like we won’t get some big plan, but another set up modalities and conditionalities that leave the bailout in constant doubt.
Eventually Europe will act too late and the falling knife will really hurt someone. The other problem is the growing number of politicians who seem to think that exits won’t cause contagion – I think they are horribly wrong, but we move closer to the day one of the people in power thinks they can pull it off.
No need to be long Europe here, and I would be short Spanish and Italian bonds here. Greek bonds remain more interesting just because the next phase really has to be write-downs of the official sector debt, which should benefit the PSI bonds.
Market commentary by Hussman Funds.
For anyone who works to infer information from a broad range of evidence, one of the important aspects of the job is to think carefully about the structure of the data – what is sometimes called the “data-generating process.” Data doesn’t just drop from the sky or out of a computer. It is generated by some process, and for any sort of data, it is critical to understand how that process works.
For example, one of the moments of market excitement last week was the reported jump in new housing starts for September. But later in the week, investors learned that there was a slump in existing home sales as well. If we just take those two data points at face value, it’s not clear exactly what we should conclude about housing. But the story is clearer once we consider the process that generates that data.
One part of the process is purely statistical. The housing data that is reported each month actually uses monthly data at an annual rate, so the jump from 758,000 to 852,000 housing starts at an annual rate actually works out to a statement that “During September, in an economy of about 130 million homes, about 100 million which are single detached units, a total of 9,500 more homes were started than in August – a fluctuation that is actually in the range of month-to-month statistical noise, but does bring recent activity to a recovery high.” Now, in prior recessions, the absolute low was about 900,000 starts on an annual basis, rising toward 2 million annual starts over the course of the recovery. The historical peak occurred in 1972 near 2.5 million starts, but the period leading up to 2006 was the longest sustained increase without a major drop. In the recent instance, housing starts bottomed at 478,000 in early 2009, so we’ve clearly seen a recovery in starts. But the present level is still so low that it has previously been observed only briefly at the troughs of prior recessions.
Guest post by Peter Tchir.
Let’s Get Europe Out of the Way
I would love to be able to say that Europe is fixed. It isn’t and this particular summit was particularly disappointing. They announced some vague plan to plan a bank supervisor. I still don’t understand why people really think a bank supervisor would change anything. Just think about the Spanish bank bailout. Money was supposed to be available in July, then August, then September and as far as I can tell, not a single distribution has been made. This problem is even more complex than other ones, because Germany is part of the problem. Germany may be the land of luxury automobiles and industrial efficiency but it is also fertile ground for state sponsored Zombie Banks.
Spain is not asking for a bailout yet, and allegedly it wasn’t even discussed. I cannot tell whether it would be worse if it wasn’t discussed or that they are lying to us and it was discussed but no conclusion was reached.
Talk about various ways to manipulate the Greek debt problem. Plans range from further punishing the PSI bonds which I think would meet with incredible resistance and accomplishes nothing, to ways to get the ECB off the hook and dump losses on ESM. I am not sure there is any particularly good solution to the official sector problem because owning 10’s of billions of mismarked bonds and loans is a difficult problem to overcome.