Notes From Underground: Schaeuble Proves Why 2+2=5

In the realm of loving and promoting the irrational over the rational expectations of the MODEL BUILDERS, there is no better poster child than German Finance Minister Wolfgang Schaeuble. As I warned Mario Draghi to unpack his speedo, today BLOOMBERG NEWS ran an article, “SCHAEUBLE DECLARES MARKETS WRONG AS EUROPE COASTS INTO VACATION.” This is the German finance minister who has the audacity to proclaim that the markets are wrong and head off for vacation. It seems that the German hierarchy is convinced that all is well because the BUND market is healthy. Is Schaeuble so naive as to think that strong BUNDS reflect the health of Europe? Don’t German policymakers understand that the BUNDS and SCHATZ are at absurdly low levels because many other Europeans are “packing their suitcases” with EUROS so as to transfer their wealth to the perceived safety of the German financial system and thus for its haven status? It is astounding that the EUROCRATS believe that the markets will wait for the decision makers to return before any further market action will take place.

I will remind my readers that in August 2003, more than 14,000 French elderly died in a massive heat wave. Everyone was too busy on vacation to deal with those poor stragglers left behind in Paris (SEE WIKIPEDIA). Hey Europe, delay the crises now that the bureaucrats have a scheduled vacation … WOW. The GOLD seemed to understand the insanity that prevails and looks to be breaking out of a long contained range against the EURO. As mentioned yesterday, why accept negative interest rates on sovereign debt when various commodities with a possibility of appreciation can serve the role of collateral? One day does not a trend make, but as always, check the technicals and set your risk parameters according to your trading style.

There have been many false breakouts of late so this one needs watching to see where the LINE IN THE SAND APPEARS. According to Herr Schaeuble, the GOLD rise is as wrong as the recent increase in Spanish yields, but to prove the GOLD wrong the Europeans will have to raise real yields on sovereign debt, thus rendering the markets correct in pushing up Spanish borrowing costs … HMMMMM

***Tuesday’s big story that received scant attention with the large equity selloff on top of rising Spanish yields, was news that CNOOC (Chinese National Oil) was seeking to purchase NEXEN Energy of Canada. The Chinese have been searching for global energy companies in an effort to secure long-term supply and as away to put its large trove of DOLLARS to work by purchasing real assets with great utility value. CNOOC tried to buy UNOCAL several years ago, but was rebuffed by U.S. oversight groups fronted by CIFIUS. U.S. politicos and their paymasters were concerned that UNOCAL was a strategic asset and thus should not be allowed to be under Chinese ownership. The fear of being locked out of global energy development sent the Chinese in quest of other countries and regions to acquire energy consortiums. Canada has always appealed to the CHINESE because of the great shipping ports located on the Canadian Pacific Coast. It is easy to transport energy from Alberta to Shanghai and Canada also offers stability and a sound rule of law.

The U.S. decision on the KEYSTONE PIPELINE will prove to have negative ramifications for Canada supplying energy to its southern neighbor. The CNOOC/NEXEN deal will take some time to complete as the U.S. and U.K. will also have to approve because of NEXEN’S deepwater assets in the Gulf of Mexico and its holdings in the North Sea. The deal does have hurdles but supposedly the Canadians have voiced approval removing the biggest obstacle as most of the reserves are in Canada. The CANADIAN DOLLAR OUGHT TO HAVE RALLIED ON THE VERY LARGE PURCHASE, but Tuesday being a RISK-OFF DAY, plausible solid fundamentals were cast aside. The CANADIAN DOLLAR needs to be watched to see if foreign investment can overwhelm the RISK-OFF/RISK-ON paradigm. Canadian currency strength in the face of EQUITY WEAKNESS will provide a good indicator.

***Wednesday, BLOOMBERG ran a piece written by Jeff Black and Zoe Schneeweiss, reflecting the thinking of ECB member and Austrian CENTRAL BANK chief, Ewald Nowotny. It was this piece that precipitated the rally in GOLD, EURO and EQUITIES. Under the subject of ESM to get banking license the article states:

“Granting a banking license to Europe’s permanent fund, the ESM, would give access to ECB lending, easing concerns … the cash pot won’t be enough if Spain and Italy require aid. While ECB President Mario Draghi said on May 24 that such a move amounts to central bank financing governments, which is prohibited by EU law, publicly owned credit institutions such as the European Investment Bank (EIB) are exempt.”

The markets got the sense that by making the ESM a BANK, Brussels would be able to do an end run around the possible intransigence of the German block of austerity firsters. The markets accepted the possibility, especially with Chancellor Merkel and FM Schaeuble headed for vacation.

***Look at why the European EUROCRAT POLICYMAKERS BETTER NOT TRAVEL TOO FAR. In looking at the flattening U.S. 2/10 Yield Curve for the last 52 weeks, the curve has gone from 256 basis points to Tuesday’s low of 117 basis points. This is a big flattening for an economy with full control of its monetary policy and shows why U.S. banks profits are falling. The reward for surfing the yield curve is falling and banks don’t see businesses and consumers with enough confidence to begin advancing credit to finance purchases and new capital expenditure. Fewer profits and a conservative loan profile do not a robust banking sector make. As Richard Koo would maintain, THE BALANCE SHEET RECESSION IS PREVENTING EXPANSION OF THE ECONOMIES RISK PROFILE. NERVOUS CONSUMERS AND MANUFACTURERS ARE REBUILDING BALANCE SHEETS EVEN DURING TIMES OF ULTRA LOW INTEREST COSTS. Throw in the FED‘s programs over the las year and the sideways action of the S&Ps and the YIELD CURVE compression is not having the MODEL’S intended effect.

The U.S. yield curve led me to look at the Spanish 2/10 curve, which also proved interesting for what it revealed. The recent contraction in the Spanish 2/10 curve–in March the curve was a positive 299 basis points–and on Tuesday it flattened down to around 80 basis points as the yield on Spanish 2-YEAR NOTES rose 88 basis points, flattening the curve. This was deemed a warning sign as the luster of the LTRO had worn off and the 2-YEAR NOTE was not finding the needed cash for buyers. The problem with the present levels in the SPANISH 2/10 CURVE IS THAT IT IS GETTING BACK TO THE AREA THAT SET THE NOVEMBER 30 MASSIVE CENTRAL BANK DOLLAR SWAP LINES INTO ACTION  TO AID EUROPE (FED, BOE, BOJ, SNB, BOCECB) FOLLOWED ON DECEMBER 21 with the ECB’S FIRST LTRO (long-term refinancing operation).

The 2/10 SPANISH YIELD WENT FROM 71 BASIS POINTS ON NOVEMBER 25 TO 300 BASIS POINTS ON MARCH 21 as the rates on 2-YEAR NOTES DROPPED WITH ECB FUNDING EUROPEAN BUYING OF SHORTER TERM DEBT. As of yesterday, the SPANISH CURVE IS APPROACHING THE LOW LEVELS OF NOVEMBER 2011, which helped prompt two large programs of CENTRAL BANK INTERVENTION.

IF SCHAEUBLE HAS ANY RESPECT FOR THE POWER OF MARKETS IT APPEARS THAT A STAYCATION IS MANDATED!

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2 Responses to “Notes From Underground: Schaeuble Proves Why 2+2=5”

  1. danny Says:

    Yra,

    What are the prospect for QE3 in the immediate term? My thinking may be flawed but it goes as follows:

    (1) The Fed prefers to remain politically neutral (especially in an extremely partisan election year) thus there must be overwhelming evidence that QE3 is needed AND a consensus that QE3 can mitigate the current headwinds i.e. outweigh negative unintended consequences –> the Fed will wait.

    (2) If congress fails to effectively prevent the fiscal cliff from taking a serious negative toll on the economy, the effectiveness of QE3 will be substantially mitigated which potentially destroys the cost benefit analysis in the first place –> the Fed will wait.

    (3) The worse the economy gets the more effective monetary stimulus becomes – thus IF congress decides to let us jump off the fiscal cliff…QE3 will provide much more benefit ONCE the negative impacts of the fiscal cliff are well underway–> the Fed will wait.

    What am I missing? I just don’t see how the Fed could act on QE3 now, with an irrational and incompetent congress at the helm. Acting now would surely yield QE3 impotent AND make the monetary policy ammo box get that much more thin IF this congress can’t get their act together. Plus, and I could be wrong, it seems like monetary stimulus is more likely to have a positive impact on the economy when it is not wasted mitigating incremental economic deterioration brought about by NEW bad policy errors.

    If you agree with the gist of my logic…do you think the market is setting itself up for a let down if the Fed doesn’t act now?

    Thanks for your time.

    Danny

  2. yra harris Says:

    Danny–I don’t think the FED is planning on any move on Wednesday except a chance of extending the language for FED zero out to 2015.Why would Bernanke succumb to the idiotic remarks of Chuckie Schumer –you are the only game in town—Bernanke believes that a QE3 at this time would let the clowns off the hook on the Fiscal Cliff—as I will blog about tonight,it is more of passing interest that Geithner is heading to Europe tonight foe meetings with Schaeuble and Draghi in Germany.This may be important as if Draghi pressures Geithner it may mean that Obama will offer to get serious on the Fiscal Cliff and show leadership going into the election—let’s pay close attention

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