Notes From Underground: Three Negatives Can’t Make A Positive

Today in Europe the short-term BILL RATES in Germany, Netherlands and France all had NEGATIVE YIELDS. Think about the meaning of this: The hunger for quality sovereign paper has even driven the FRENCH SHORT RATES negative. (ABSURD as Jean-Claude Trichet might opine.) Again, QUANTITATIVE EASING and the FEAR of non-quality collateral has rendered the BOND MARKETS of the DEVELOPED ECONOMIES MEANINGLESS.
This theme will continue to be portrayed on this blog, but until the facts change the analysis remains. Our task is to try to discern opportunity in the realm of the absurd. The EUROPEAN CRISIS is giving COVER to all sorts of players in the global financial arena. When U.S. corporations miss their earnings targets the reason will be … Europe. When central banks can’t understand why the ZIRPS and QE PROGRAMS are not effectively juicing the economy, there will always be Europe as the reason.
Remember, last year when the recovery sputtered, Ben Bernanke decried it was bad luck as the Japanese tsunami caused all types of problems for global manufacturing supply chains, as the did the floods in Thailand. Well Europe is BAD LUCK, also. Just last week, Mervyn King and the BOE announced a 50 billion pound Increase in its QE program. The reason: “BUT against the background of continuing tight credit conditions and fiscal consolidation, the increased drag from heightened tensions within the EURO AREA [my emphasis] meant that, without additional monetary stimulus, it was more likely than not that inflation would undershoot the target in the medium term.”
Yes, it seems that the credit crisis is the backdrop of the world: RISK ON, RISK OFF. It seems that RISK OFF IS MERELY A SYNONYM FOR DELEVERAGING for when the investing world is nervous it sells all assets and runs to cash only to discover that CASH IS NOTHING BUT TRASH [Steve Miller] and then buy something with a DIVIDEND AND, THUS, WILLFUL RISK. When the market gets nervous the fear factor is great and involves all asset classes. An hour later the market senses that the world is really awash in CB-provided liquidity and its back to seeking yield. This is the ZERO INTEREST WORLD IN WHICH MARKETS DWELL.
***IS the flattening U.S. 2/10 curve a precursor of trouble or merely reflecting the distortion of the TREASURY DEBT MARKET? Historically, flattening curves have portended coming economic slowdowns as investors rushed to lock up longer term rates prior to the economy slowing and the FED lowering rates to soften the effects of a recession.
In today’s world, this is a much more difficult question to answer because of all the problems previously discussed. The FLATTENING CURVE though must be causing Bernanke some sleepless nights as it is impeding BANKS ability to surf the curve for easy profits. Typically, banks would begin looking for other opportunities to lend money, but with bank balance sheets still laboring under stressed real estate loans, very few banks are aggressively seeking riskier loan portfolios.
When the 2/10 U.S. yield curve was 250 basis points, bank balance sheets were being repaired. With the curve presently at 125 basis points there are far fewer opportunities to generate near risk-free returns.,Oh well, there is always the LIBOR market.
***Another problem for Chancellor Merkel: German President Joachim Gauck told Angela Merkel to come clean on the EU debt deal. The German President is not nearly as powerful as the Chancellor in a parliamentary system, but his opinion does carry weight in the realm of public relations and the popular voice.
In a piece by Ambrose Evans-Pritchard, Gauck is quoted: “She has a duty to explain in great detail what it means, and what it means fiscally. There seems to be a lack of energy in telling the people what is really happening.” As domestic political pressure mounts in Germany Frau Merkle is going to have to put an end to the charade of her Clairol moment … “DOES SHE OR DOESN’T SHE? ONLY HER FINANCE MINISTER KNOWS FOR SURE.”
***The SWISS NATIONAL BANK last Friday announced that its FOREIGN RESERVES increased in June to 364.9 billion from 305.9 BILLION SWISS in May. This substantial increase was a result of intervening to maintain the EUR/CHF level at 1.20. The SNB’S accumulation of EUROS is most probably having an effect on the European debt markets as the SWISS invest those EUROS in German, Dutch and other higher quality paper.The Swiss have to protect against the possibility of the Germans leaving the EU and thus being left holding a large amount of devaluing EUROs. Might as well buy German paper and at least be assured of receiving DEUTSCHE MARKS.
This is just one more variable taking place in the global financial system. The SNB probably feels successful in this policy as it seems that the SWISS economy has stabilized rather than going into a deflationary contraction. Today’s Swiss unemployment report showed the UNEMPLOYMENT rate holding steady at 2.9%. The problem for the SNB will continue as the cross remains at 1.2011. Wow, all that buying and still it sits just above the Maginot Line or for some, the Mendoza Line.

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6 Responses to “Notes From Underground: Three Negatives Can’t Make A Positive”

  1. Rob Says:

    Yrah I’m not sure why I keep hearing that Germany would pay off its debts in the new stronger Deutsche Mark if they were to leave the Euro (yes they may actually pay in DMs but only at the new conversion rate to the new ‘Euro Lite’ that will have likely collapsed if they leave, effectively giving a nice haircut to their debt load). I agree that their sovereign debt would obviously be a stronger credit and be more likely to be paid back in full, but wouldn’t they simply pay the debt back in the cheapest way possible for them? Obviously this is what any of the PIIGS would do if they left, that’s most of the reason to leave in the first place getting that nice devaluation haircut. If Germany was angry or scared enough to actually leave I don’t see them trying to ‘do good’ by their creditors, especially foreign ones that had been fleeing into the Bund market. Seems like it could be one way to ‘claw back’ some of all this bailout money they’ve already laid out either via the ECB, ESM/EFSF or even the Target2 balances which are unlikely to be paid off in this scenario.

  2. yra Says:

    Rob–not sure I agree.Germany would likely work out some payment scenario but your core principal would be protected again not return on money but of money.It will be messy but as an investor what do you desire.The SWISS could really be screwed owning a rapidly depreciating EURO which would then get them the weakening FRANC that they are trying to create.China and Japan with the dollar at some point????

  3. arthur Says:

    US treasuries, safest port in a storm? Gillian Tett http://www.ft.com/intl/cms/s/0/cfa767da-c9d0-11e1-bf00-00144feabdc0.html#axzz20F4fZtjj

  4. rob syp Says:

    Yra:
    Sorry to switch gears on your wonderful ability to keep setting the stage about the world’s banking system BUT with MF Global now PFG Best where do we go from here in the commodity-futures industry to be able to try and take advantage of the swing’s in the market without knowing our money is safe at our clearing houses.

  5. yra harris Says:

    ROB SYP–it is of course a pandemic and realyy asks the question–is there no honest people in the financial world–I know there is but it is very easy to throw up your hands and wonder.If the commodities world doesn’t end this disease soon the business will migrate but with the PFG –my question is where is/was the NFA–this was a non-clearing entity and large IB.The bigger problem is that this industry has no concept of how to operate in a ZERO INTEREST RATE environment and made its living on the float—it is time to raise fees until rates return to 3% to insure the firms do not risk all in some silly investment—but in return for my higher fees the firm promises to invest all funds in 180 day treasuries–some variation on that theme

  6. rob syp Says:

    Your reply makes me think of the Three Stooges skit when they head out to find a honest man and the only one to return the wallet was a dog!

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