The world is carrying on in its design of vast pools of liquidity in a “sea of tranquility” … for the moment. Are Europe’s problems solved as the FRENCH ROOSTER Nicholas Sarkozy has crowed? Absolutely not. The travails of debt plagued economies will begin for the nations living on the IBERIAN PENINSULA. As I have argued for a long time in this BLOG, Spain is a far worse problem then Italy but Italian BONDS suffered as they were the only FUTURES HEDGE AVAILABLE FOR THE PROBLEMS OF THE GIIPS.
The shorts in the BTPs have gotten caught as the crisis has quieted and it has come to many investors intention that while Spain has less PUBLIC DEBT than Italy. It has much more PRIVATE DEBT that is suffering as the real estate boom is caught in the vice of deleveraging and exceedingly high unemployment. The Spanish cannot DEVALUE its currency to attract foreign real estate buyers–as has the U.S.–which has helped buoy prices in New York and Miami. It is difficult to time the IBERIAN CREDIT INQUISITION but the European situation will probably boil after the FRENCH ELECTIONS IN MAY.
Another European situation to watch will be in Germany where the SPD-controlled government of North Rhine-Westphalia failed to pass its budget and will lead to the collapse of the ruling coalition. When Chancellor Merkel was at her weakest, North Rhine-Westphalia was lost to the SPD for the first time in decades and was an indication of the unhappiness of the German populace with the European debt crisis. If an early election is called, it will be a barometer of Merkel’s strength and German feelings about recent outcomes in Brussels.
***On Wednesday, the Norwegian Central Bank unexpectedly cut its LENDING RATE to 1.5%, citing the concerns of the damage of the very strong KRONER on Norwegian industry. While cutting the rate, the NORGE BANK acknowledged that the housing sector is overheating as credit is expanding and the unemployment rate is 3%. Norway’s credit explosion is similar to the problem in Canada as low interest rates spur borrowing, especially in the housing market. Watch for some type of MACRO PRUDENTIAL regulation to stem the credit-fueled rapid rise in housing costs (something that the GREENSPAN FED failed to do but will become a model for the GLOBAL ZIRP environment).
February 5th blog is below:
Notes From Underground: Unemployment Gains Manufacturing a Recovery
The Obama administration had much to cheer as the NONFARM PAYROLL number exceeded almost all the pundits and FED‘s projections. Just before the release, CNBC analysts were in herd formation all gathered around the “BULL” of safety and predicted around a 100,000 job gain. Job gains came in at roughly 250,000 even as state and local governments continued to shed employees. Earlier, the Canadian data was tepid, but again, the Ontario manufacturing sector added jobs and is mirroring the increase in manufacturing seen in the U.S. Whether the predictors of the release are right or wrong makes no difference to traders or investors for the most important pundit is the market’s reaction.
By day’s end, it seems that the EQUITY markets performed well as money that has been safely sitting on the sidelines is hearing the clarion call of growth and beginning to feel the pain of non-participation. The BOND MARKET had a sizable selloff as the 30-year bond took the brunt of the selling as it has been the darling of the sideliners.
Importantly, it should be noted that even with the robust unemployment data, the 10-YEAR FUTURES CONTRACT AT THE CME CLOSED DOWN A WHOLE TWELVE TICKS. FROM MY PERSPECTIVE THAT IS AN INSIGNIFICANT MOVE FROM WHAT HAS BEEN A VERY SUSTAINED RALLY. I only emphasize this because it reflects the impact the FED‘s active buying continues to have on the BOND MARKET’S ABILITY TO BEHAVE AS AN INDICATOR OF ECONOMIC ACTIVITY.
It also means that there is a great deal of money in the BOND markets and if the stocks continue to rally the investors in SAFE HAVENS will be forced into REALLOCATION MODE. One of my favorite technical indicators is the S&P/US ratio, a FED favorite–which, for the first time in MANY MOONS, has broken above the 200-day moving average, so it bears watching to see if it can be sustained. Also, the fact that the GOLD underperformed COPPER, SILVER AND PLATINUM should also be a warning that the mere HAVEN-BASED ATTRACTORS MAY BE LAGGARDS AS GLOBAL INVESTORS FEEL MORE COMFORTABLE IN MODERATELY RISKIER ASSETS.
***This weekend the London Telegraph ran an article that predicts that the BANK OF ENGLAND (BOE) will move on Thursday to increase its BOND BUYING PROGRAM (QE) by another 50 billion pounds. The recent strength in the U.K. CURRENCY would objectively argue against this action by the BOE. Also, the Bank’s Governor, Mervyn King, will probably want to wait for Europe to move on its next tranche of LTRO before the BOE commits to any additional action.
If the BOE moves too early it may create a situation where the ECB feels it does not need to be as aggressive with its liquidity program. If the present negotiations with the TROIKA are any indication, the BANKS IN EUROPE WANT THE ECB TO BE OVERLY GENEROUS WITH THE SECOND TRANCHE of LTRO. Taking the pressure off of the ECB would result in the usual pattern of not doing enough to truly alleviate the funding pressures. Mervyn King: Be patient and this time be reactive to European events.
If the LTRO is larger than the now-predicted 450 BILLION EURO PROGRAM, the EURO will come under selling pressure as the ECB will be deemed to be serving the concept of debt repudiation rather than worrying about inflation. Will an increased LTRO also be accompanied with a EURIBOR RATE CUT? The March 2012 EURIBOR contract is trading at 9910, thus inferring a cut of 25 basis points sometime between now and the MARCH ECB MEETING. There are a great deal of behind the scenes negotiating going on between EU political leaders, the ECB and the IMF. Mario Draghi is a man who seems to be attentive to what the markets have to say and does not hide behind the cloak of arrogance like his predecessor … what was his name? Oh yes, J.C. Trichet. Does anybody miss that arrogant idiot??
***A quick heads up on the possibility for platinum. The ANC PARTY in South Africa is going to propose a 50% resource-rent tax on mining operations. The tax is a compromise position from the party leadership as the younger members had been pushing for outright nationalization of South African mines. The outcome of the party’s tax is not guaranteed but with South Africa being the world’s largest miner of Platinum it is something to watch. Automobile companies may begin restocking PLATINUM and palladium so as not wanting to be caught short of supplies, especially as AUTO production is beginning to increase. Something to be aware of as we watch for indicators that U.S. growth will be leading to various asset reallocations.
***COLLATERAL AND ITS IMPORTANCE IN THE GLOBAL CREDIT MARKETS. Many readers of NFU have been asking the question as to why I call the BOND MARKET BROKEN. The FED now has a balance sheet of $2.9 TRILLION OF ASSETS, mostly MBS and U.S. Treasuries. The FED buys high quality assets to put in its portfolio. The QE programs are not like the TARP and other programs that took basically any collateral (see MAIDEN LANE of the AIG BAILOUT). Chairman Bernanke laid out his plan, THE PORTFOLIO BALANCE CHANNEL, in August of 2010 and the FED‘s QE should result in the FED crowding out BOND INVESTORS and FORCING INVESTORS into RISKIER ASSETS.
If the Bernanke plan is assumed to be the mode of action, then by definition the FED has broken the INDICATIVE POWER of the DEBT MARKETS. Some pundits argue that the BONDS ARE NOT MISPRICED AS THE 10-YEAR NOTE WOULD BE AT 1.9% regardless of FED action. This argument fails to take into effect the impact of the new for high level collateral that is necessary for the REPO TO PERFORM. Friday’s Financial Times had a front page article “Risky debt use on repo market hits 2008 levels.” The article is inconclusive as to why the shadow banking market is resorting to a lower grade of collateral.
“The reason behind the resurgence is difficult to pinpoint, Fitch said. It may reflect a shortage of SAFER SECURITIES or the need to secure funding for an inventory of assets. ‘It could reflect a thawing of structured finance’ said Mr.Grossman.’ But it could also be a strategy to increase yield, or a combination of things.’” Again, the FED needs to be very cognizant that there best intentions have important unintended consequences and ONE OF THE KEY OUTCOMES MAY BE A SEVERE DISRUPTION OF THE U.S. TREASURY MARKET.