Notes From Underground

The potential for a big market-moving story was in the works but the usually aggressive, boisterous Jim Cramer, in his interview with Treasury Secretary Timothy Geithner, resembled a tea party at an American Girl store. It seems that when Cramer fears being audited he goes quiet. The questions about Europe were milquetoast, leading to ridiculous answers–“I am sure Europe will be there in three years.” It proved to be worthless and provided little clarification on the issues of “THE TWIST” and how the U.S. was going to act in concert with the Europeans to help resolve the effects of the severe credit crisis that is impinging global financial institutions and certainly European economic growth.

The U.S. has been missing in the European discussion. Is this because the U.S. did not view Europe as a big enough threat? Does the U.S. have a view on the Chinese efforts to buy influence in Europe by throwing around its DOLLAR reserves in a very BUFFETT-like fashion? The eagerly anticipated interview turned into another round of sycophancy as the established media again seeks to curry favor with those it deems to be powerful and therefore untouchable.

Quick Hitter #1: This afternoon the RBNZ announced their OIR and decided to leave lending rates at 2.5%. Alan Bollard, Governor of the RBNZ, cited the weakness in the global economy and the strength of the New Zealand dollar as the most significant reasons for holding rates steady. “However, the outlook for NZ’s trading partners has deteriorated MARKEDLY. There is a real risk that global economic activity slows sharply.” The high level of the NZ dollar is having a dampening influence on some parts of the tradable sector and on imported inflation.

The RBNZ‘s statement is very clear and heavily oriented toward the global economy, which makes the DEVELOPED NATIONS on the PERIPHERY so very important to understanding the state of the world economy. In capitalism, everything of significance happens on the margins which is why I try to keep NZ, Canada, Australia and others on the radar. Also, do your technicals on the KIWI AND THE KIWI CROSSES TO DETERMINE IF THE NZ DOLLAR HAS BECOME OVEREXTENDED in the rebuild of New Zealand after the Christchurch earthquake.

Quick Hitter #2: If the FED and Treasury decide to embark on a “TWIST” of the curve what will the impact be on the BOND MARKET? The 30-year BOND has maintained a bid as many in the market are assuming that with the 10-YEAR NOTE trading at 2%, the FED will look to the 30-YEAR where rates are 3.33% and push hardest to drive the longest tradable instrument lower. There will be interest in selling the LONG BOND when the FED decides, but I caution that if the FED “TWISTS” the longest end, a CONVEXITY PROBLEM is going to arise for mortgage holders.

This will also be a problem if the Treasury were to do a massive REFI. Holders of RMBS will be awash in money on a massive REFI program and investors will have to rush to lock up rates at whatever price available, thus putting even greater downward pressure on yields. The TREASURY market is badly disoriented by the QE programs and now the introduction of the “TWIST.” Let the situation clear before being committed to any shorting of BONDS. There will be a time to short the DEBT of the U.S. but let the technicals be your guide.

Quick Hitter#3: A very good article on BLOOMBERG by Yalman Onaran, “Deposit Flight at European Banks Means Risk Piling Up at ECB.” The article details a very large problem in Europe. A problem further compounded by the actions of the Swiss National Bank. As Europeans in the PIIGS worry about their domestic banks, they take their EUROS and place them on deposit at banks in stronger financial positions. It was the effect of the inflows from the PIIGS that drove the SWISS FRANC to such dizzying highs, forcing the SNB to act to curtail its appreciation. As the banks in Greece, Italy, Spain, France and Ireland need to raise cash they exchange sovereign bonds with the ECB, thus making the central bank the ultimate holder of questionable collateral.

The more runs on banks, the more collateral the ECB is forced to accept. As Desmond Lachman points out in the article, “IF there are sovereign defaults, the ECB will be left with the garbage that has been accepted as collateral. It’s putting EU taxpayers’ money at risk in a very non-transparent way. But there’s no alternative. The ECB is the only game in town.”

What is happening here is that Germany’s hand will be forced to support Europe by underwriting the ECB. The longer the CRISIS plays out the more sovereign collateral will be placed on the ECB‘s books–fiscal centralization by stealth. The quiet bank runs have lead to the call by Christine Lagarde for Europe to recapitalize its banks. As banks need liquidity it is the ECB that provides, but will the Germans agree to be the GUARANTOR?

Tags: 10-year note, 30-year, Alan Bollard, bond market, CNBC, convexity problem, Dollar, ECB, Fed, Germany, Jim Cramer, Kiwi, PIIGS, QE, RBNZ, refi, RMBS, SNB, Swiss Franc, the Twist, Timothy Geithner, U.S.

This entry was posted on September 14, 2011 at 6:55 pm and is filed under Europe, Federal Reserve, New Zealand. You can follow any responses to this entry through the RSS 2.0 feed. You can leave a response, or trackback from your own site.