Cruising for a bruising......
"The Cacophony Of Fed Confusion," David Stockman Warns Will Lead To "Economic Calamity"
Submitted by Tyler Durden on 03/19/2014 20:22 -0400
"We never should have painted ourselves so deep in this QE corner in the first place," chides David Stockman, "because the whole predicate [of Fed policy] is false." The author of The Great Deformation holds nothing back in this brief 3-minute primer of everything is wrong with the American economic system (and the CNBC anchors definitely did not want to hear). "We are already at peak debt and forcing more into the economy didn't work," and won't work as is merely funds Wall Street's latest carry trade to nowhere and fiscal irresponsibility in Washington. Simply put, "the private credit channel of monetary transmission is busted," so the Fed is exploiting the only channel it has left - "the bubble channel."
"There is a massive bubble inflating on Wall Street"
It's hump-day, grab a wine cooler and listen to 3 minutes of almost uninterrupted truthiness
And here is David on The Keynesian Endgame...
Even the tepid post-2008 recovery has not been what it was cracked up to be, especially with respect to the Wall Street presumption that the American consumer would once again function as the engine of GDP growth. It goes without saying, in fact, that the precarious plight of the Main Street consumer has been obfuscated by the manner in which the state’s unprecedented fiscal and monetary medications have distorted the incoming data and economic narrative.
These distortions implicate all rungs of the economic ladder, but are especially egregious with respect to the prosperous classes. In fact, a wealth-effects driven mini-boom in upper-end consumption has contributed immensely to the impression that average consumers are clawing their way back to pre-crisis spending habits. This is not remotely true.
Five years after the top of the second Greenspan bubble (2007), inflation-adjusted retail sales were still down by about 2 percent. This fact alone is unprecedented. By comparison, five years after the 1981 cycle top real retail sales (excluding restaurants) had risen by 20 percent. Likewise, by early 1996 real retail sales were 17 percent higher than they had been five years earlier. And with a fair amount of help from the great MEW (measurable economic welfare) raid, constant dollar retail sales in mid-2005 where 13 percent higher than they had been five years earlier at the top of the first Greenspan bubble.
So this cycle is very different, and even then the reported five years’ stagnation in real retail sales does not capture the full story of consumer impairment. The divergent performance of Wal-Mart’s domestic stores over the last five years compared to Whole Foods points to another crucial dimension; namely, that the averages are being materially inflated by the upbeat trends among the prosperous classes.
For all practical purposes Wal-Mart is a proxy for Main Street America, so it is not surprising that its sales have stagnated since the end of the Greenspan bubble. Thus, its domestic sales of $226 billion in fiscal 2007 had risen to an inflation-adjusted level of only $235 billion by fiscal 2012, implying real growth of less than 1 percent annually.
By contrast, Whole Foods most surely reflects the prosperous classes given that its customers have an average household income of $80,000, or more than twice the Wal-Mart average. During the same five years, its inflation-adjusted sales rose from $6.5 billion to $10.5 billion, or at a 10 percent annual real rate. Not surprisingly, Whole Foods’ stock price has doubled since the second Greenspan bubble, contributing to the Wall Street mantra about consumer resilience.
To be sure, the 10-to-1 growth difference between the two companies involves factors such as the healthy food fad, that go beyond where their respective customers reside on the income ladder. Yet this same sharply contrasting pattern is also evident in the official data on retail sales.
* * *
That the consumption party is highly skewed to the top is born out even more dramatically in the sales trends of publicly traded retailers. Their results make it crystal clear that Wall Street’s myopic view of the so-called consumer recovery is based on the Fed’s gifts to the prosperous classes, not any spending resurgence by the Main Street masses.
The latter do their shopping overwhelmingly at the six remaining discounters and mid-market department store chains—Wal-Mart, Target, Sears, J. C. Penney, Kohl’s, and Macy’s. This group posted $405 billion in sales in 2007, but by 2012 inflation-adjusted sales had declined by nearly 3 percentto $392 billion. The abrupt change of direction here is remarkable: during the twenty-five years ending in 2007 most of these chains had grown at double-digit rates year in and year out.
After a brief stumble in late 2008 and early 2009, sales at the luxury and high-end retailers continued to power upward, tracking almost perfectly the Bernanke Fed’s reflation of the stock market and risk assets. Accordingly, sales at Tiffany, Saks, Ralph Lauren, Coach, lululemon, Michael Kors, and Nordstrom grew by 30 percent after inflation during the five-year period.
The evident contrast between the two retailer groups, however, was not just in their merchandise price points. The more important comparison was in their girth: combined real sales of the luxury and high-end retailers in 2012 were just $33 billion, or 8 percent of the $393 billion turnover reported by the discounters and mid-market chains.
This tale of two retailer groups is laden with implications. It not only shows that the so-called recovery is tenuous and highly skewed to a small slice of the population at the top of the economic ladder, but also that statist economic intervention has now become wildly dysfunctional. Largely based on opulence at the top, Wall Street brays that economic recovery is under way even as the Main Street economy flounders. But when this wobbly foundation periodically reveals itself, Wall Street petulantly insists that the state unleash unlimited resources in the form of tax cuts, spending stimulus, and money printing to keep the simulacrum of recovery alive.
Accordingly, the central banking branch of the state remains hostage to Wall Street speculators who threaten a hissy fit sell-off unless they are juiced again and again. Monetary policy has thus become an engine of reverse Robin Hood redistribution; it flails about implementing quasi-Keynesian demand–pumping theories that punish Main Street savers, workers, and businessmen while creating endless opportunities, as shown below, for speculative gain in the Wall Street casino.
At the same time, Keynesian economists of both parties urged prompt fiscal action, and the elected politicians obligingly piled on with budget-busting tax cuts and spending initiatives. The United States thus became fiscally ungovernable. Washington has been afraid to disturb a purported economic recovery that is not real or sustainable, and therefore has continued to borrow and spend to keep the macroeconomic “prints” inching upward. In the long run this will bury the nation in debt, but in the near term it has been sufficient to keep the stock averages rising and the harvest of speculative winnings flowing to the top 1 percent.
The breakdown of sound money has now finally generated a cruel endgame.The fiscal and central banking branches of the state have endlessly bludgeoned the free market, eviscerating its capacity to generate wealth and growth. This growing economic failure, in turn, generates political demands for state action to stimulate recovery and jobs.
But the machinery of the state has been hijacked by the various Keynesian doctrines of demand stimulus, tax cutting, and money printing. These are all variations of buy now and pay later—a dangerous maneuver when the state has run out of balance sheet runway in both its fiscal and monetary branches. Nevertheless, these futile stimulus actions are demanded and promoted by the crony capitalist lobbies which slipstream on whatever dispensations as can be mustered. At the end of the day, the state labors mightily, yet only produces recovery for the 1 percent.
What Is The Common Theme: Iron Ore, Soybeans, Palm Oil, Rubber, Zinc, Aluminum, Gold, Copper, And Nickel?
Submitted by Tyler Durden on 03/18/2014 19:53 -0400
If you said a short list of commodities manipulated by the Too Big To Prosecute banks, you are probably right, but the answer we were looking for is that these are all the various, and increasingly more ridiculous, commodities that serve to make up the bulk of China's hot money flow (those flows into China which are not reflected in the current account flows or FDI) facilitating synthetic structures, also known as Chinese Commodity Funding Deals.
Of these the copper "monetary metal" funding pathway is best known, and in fact we covered the inevitable end of the Chinese Copper Financing Deals in gruesome detail last May in "The Bronze Swan Arrives: Is The End Of Copper Financing China's "Lehman Event." What happened next was that despite repeated warnings by the PBOC and SAFE that it would end the hot money inflows masked by funding deals, China not only encouraged more CCFDs but aggressively expanded into other commodities, such as iron ore, and as we now learn, weird and wacky commodities such the abovementioned soybeans, palm oil, rubber, zinc, aluminum, gold and nickel.To be sure this was largely precipitated by the near collapse in the overnight lending market in June of 2013 when China's first and so far only real tapering attempt nearly destroyed the domestic financial system.
So what has changed since last May, in addition to the realization that virtually every hard asset is now being used by China to mask hot money inflows into the Chinese economy taking advantage of rate differentials between the Renminbi and the Dollar? Well, this time around China may finally be serious about normalizing its epic credit bubble, which as we pointed out before, added a ridiculous $1 trillion in bank assets in just the fourth quarter of 2013 alone. Specifically, as Goldman notes in a just released analysts on the future of CCDS, "the recent managed CNY depreciation is a signal that the government wants to increase FX volatility and reduce the hot money inflow pressure gradually."
In other words, the day when the Commodity Funding Deals finally end is fast approaching.
Here is Goldman's take on what will certainly be a watershed event - one which will certainly dwarf the recent Chaori Solar default in its significance and scale.
Financing deal concerns mounting as CNY volatility risesConcerns on an unwind of commodity financing deals trigger selloffThe recent sell-off in copper and iron ore prices reflects the market’s ongoing concerns regarding the impact of a potential unwind of Chinese commodity financing deals, though the weak underlying market fundamentals should not be discounted. The concerns intensified following the recent CNY depreciation which has raised uncertainty regarding the profitability of the deals and the impact on different asset classes were they to unwind. Up to 1mt of copper and 30mt of iron ore could be released were the deals to unwind, which would be bearish given the relatively limited physical liquidity to absorb the shock.CCFDs are facilitating China’s total credit growthWe believe CCFDs are ongoing and facilitating ‘hot money’ inflows into China by providing a mechanism to import low-cost foreign financing. In general, the profitability of most hedged commodity financing deals remains substantial (iron ore is the exception), due to a still positive CNY and USD interest rate differential, limited depreciation in the CNY forward curve and available commodity supply. In 2013, ‘hot money’ accounted for c. 42% of the growth in China’s monetary base of which we estimate that CCFDs contributed US$81-160 bn or c.31% of China’s total FX short-term loans. Given this, it is crucial for the government to manage the immediate impact of ‘hot money’ flow changes on the economy and markets.More commodities are used; a medium-term unwind is bearishAn increasing range of commodities are being used to raise foreign financing,which now includes iron ore, soybeans, palm oil, rubber, zinc, and aluminum, as well as gold, copper, and nickel.CCFDs create excess physical demand and tighten the physical markets artificially; in contrast, an unwind creates excess supply and thus is bearish to prices. We think CCFDs will be unwound over the medium term, mainly triggered by an increase in Chinese FX volatility, as indicated by recent CNY depreciation and PBOC’s latest move to widen the daily trading band. FX volatility could result in a higher cost of currency hedging, effectively closing the interest rate arbitrage. Higher US rates are another likely catalyst for an unwind in the long run. A continuous CNY depreciation in the short term, however, would trigger some deals to be unwound sooner than expected, and hence place downside risks to our short-term commodity price forecasts.
It should now become apparent why the ongoing sharp devaluation of the CNY, far more than merely impacting a few massively levered speculators, and recall that the European Knock In point of maximum vega is about USDCNY 6.20 as discussed previously, will have a far more broad hit to asset levels not just in China but across the world if and when the inevitable moment of CCFD unwind finally begins, and in a reflexive fashion, initial selling begets more selling, more CNY devaluation, greater margin calls, further CCFD unwinds, and so on, until finally the PBOC has no choice but to come in and bail out the financial system one more time.
For those unfamiliar with the concept of CCFD, and too lazy to read our previous article on the topic, here is Goldman's Roger Yuan with a succinct summary of just why these key component of China's shadow funding mechanism are so important on the way up... and down.
Days numbered for Chinese commodity financing deals
As part of a broader shift in China’s funding base from domestic to various foreign funding vehicles, Chinese commodity financing deals have become increasingly prevalent, owing to the combination of the relatively high level of Chinese interest rates and the existence of Chinese capital controls. Financing deals use commodities and other goods as a tool to unlock the interest rate differential, with potential implications for Chinese growth, China’s linkage with ex-China interest rates, CNY volatility and commodity market pricing.
In contrast to some media reports, we find that the bulk of Chinese commodity financing deals are ongoing, facilitating ‘hot money’ inflows into China and providing a mechanism to import low cost foreign financing. In general, the profitability of most currency and commodity hedged Chinese commodity financing deals remains substantial, owing to a still positive CNY and USD based interest rate differential (>4%), limited depreciation in the CNY over the past month (<2%) and the CNY forward curve (limited cost of hedging the currency exposure), and a lack of tightness in the underlying commodity (i.e. limited cost of hedging the commodity). Returns in copper are still >10% (Exhibit 1), and up to 1mt of physical copper could still be tied up in deals (Exhibit 2).
While triggered by concerns about Chinese credit following the Chaori default, an unwind in iron ore financing deals, and concerns about an unwind in copper financing deals, the recent copper price weakness has reflected the combination of sluggish Chinese demand growth and strong global copper supply growth, rather than a financing deal unwind. Supporting this assertion is the fact that nickel (to an even greater extent than copper), and zinc both have a sizeable amount of exposure to financing deals, and their prices have substantially outperformed copper. Further, were this a true copper financing deal unwind, Chinese bonded copper prices would have led the price declines (instead they lagged the domestic Shanghai copper price declines), Chinese bonded stocks would have declined (instead they have risen) and the LME futures curve would likely have moved into contango (it remains in backwardation).
More broadly, the main reason why the government has not shut down ‘hot money’ inflows in an abrupt fashion to date, in our opinion, is that a complete shutdown could have major consequences for China’s short-term liquidity. Indeed, China’s economic growth is increasingly supported by different types of FX inflows, including those from commodity financing deals, as they can bring in low cost foreign funding and increase China’s monetary base, the foundation of both China’s rapid credit growth and solid economy growth. In 2013, we estimate that c.42% of the increase of China’s monetary base can be attributed to the low cost foreign funding or the ‘hot money’ inflows(Exhibit 3).
These FX / hot money inflows are of substantial size and high volatility (Exhibit 4) and the government attempts to smoothly manage the short-term liquidity cycle in response to these flows. When these flows are very strong China tends to respond (Exhibit 5), as in June and December 2013, as well as February/March 2014, with bearish implications for equities and commodities (Exhibit 6).
There are three main drivers of ‘hot money’ inflows: commodity financing deals, overinvoicing exports, and the black market. In this article, we focus on the Chinese commodity financing deal channel, which has by our estimates facilitated roughly US$81-160 bn of FX inflows since 2010, which is c.31% of China’s total FX short-term borrowings (duration < 1 year) (Exhibit 7). Of these deals, gold, copper and iron ore are three leading commodities, followed by soybean, palm oil, natural rubber, nickel, zinc and aluminum.
One reason why the range of commodities and the amount of each of those commodities being used for financing purposes has increased since mid-2013 is that the Chinese government moved to reduce the amount of money that can be borrowed per commodity unit. This reduction in apparent financing deal ‘leverage’6 (to c.3-10 times the value of the commodity from much higher levels a year ago), has meant that larger amounts of commodities are needed to raise the same amount of low cost foreign funding. In copper’s case for example, the amount of copper used in financing deals could have risen from 500kt to 1mt over the past nine months, as shown in Exhibit 2.
Looking ahead, our view is that Chinese commodity financing deals will gradually unwind over the medium term (the next 12-24 months), driven by an increase in FX hedging costs, which would slowly erode financing deal profitability and eventually close the interest rate arbitrage. Indeed, we expect that the government will continue to increase FX volatility in order to manage the hot money inflow cycle, thus increasing FX hedging among broader market participants, and raising the cost of hedging the currency for commodity financing deals. This FX policy outlook would be in line with the government’s policy targets of gradually increasing the CNY trading band before eventually loosening the nation’s capital controls, and is likely to occur before the CNY/USD interest rate differentials close, based on our Economists’ forecasts. Finally, an abrupt government crackdown on Chinese commodity financing deals, even with an offsetting monetary stimulus package, is unlikely in our view, given the potential negative impact this could have on credit and thus economic growth.
With respect to the impact of an unwind in Chinese commodity financing deals on China’s economic growth, we expect that the government will actively manage the impact on domestic credit creation, however we note that this process, if not managed perfectly, will not be without downside risks to Chinese growth.
From a commodity market perspective, financing deals create excess physical demand and tighten the physical markets, using part of the profits from the CNY/USD interest rate differential to pay to hold the physical commodity.While commodity financing deals are usually neutral in terms of their commodity position owing to an offsetting commodity futures hedge, the impact of the purchasing of the physical commodity on the physical market is likely to be larger than the impact of the selling of the commodity futures on the futures market (ZH: unless of course momentum algos take offsetting commodity futures hedge selling in, say, gold and boost, or "ignite" the downward momentum to a far greater degree than the offsetting physical buying, making a recursive pattern whereby buying physical ends up resulting in a lower physical price as has been the case with gold over the past year). This reflects the fact that physical inventory is much smaller than the open interest in the futures market (Exhibit 9). As well as placing upward pressure on the physical price, Chinese commodity financing deals ‘tighten’ the spread between the physical commodity price and the futures price (Exhibit 10).
In this context, an unwind of Chinese commodity financing deals would likely result in an increase in availability of physical inventory (physical selling), and an increase in futures buying (buying back the hedge) – thereby resulting in a lower physical price than futures price, as well as resulting in a lower overall price curve (or full carry) (Exhibit 11).
Will Abenomics ever work - some say it really just " Depends " !
Japanese Stocks Tumble To 13-Month Low Against Dow After 35th Consecutive Trade Deficit
Submitted by Tyler Durden on 03/18/2014 22:20 -0400
After trading well above the Dow at last year's peak (and equal with it at 2013 year-end), the Nikkei 225 is now almost 2000 points below the level of the Dow - a 13-month low. Trading not far off the EM-crisis lows of January, Japanese stocks are fading as JPY can't sustain any offer and carry-trades are unwound. Not helped by yet another in a long and illustrious list of missed trade balance figures since Abe took the helm. Elsewhere in Asia, USDCNY traded up to almost 6.20 (the Maginot line for many derivatives trades) and does not look like the PBOC has it under control and copper has dumped from earlier US exuberance; iron ore is flat; and Chinese stocks are down (along with US futures fading modestly).
35th consecutive trade deficit and 8th miss of last 9... J-Curve any day now... (as exports miss and imports jump - just wait til after the pre-consumption-tax-hike surge is wiped out).
Which leaves the Nikkei at 13-month lows against the Dow...
US futures are leaking lower as JPY cary unwinds...
and USDCNY does not look like the PBOC has it under control...
But apart from that - s'all good ahead of FOMC tomorrow.
Bonus Chart: The much-anticipated $3bn IPO of Japan Display is a disaster!! -17% from its IPO opening and so sign of algo saviors for now...
Things That Make You Go Hmmm... Like Every New Fed Chair Gets A Test
Submitted by Tyler Durden on 03/18/2014 20:35 -0400
Ordinarily Grant Williams would bet the ranch on this spat being defused diplomatically and everybody leaving the negotiating table a little disgruntled (which would mean the outcome was just about perfect); but he suspects that markets have become dangerously conditioned — by one perfectly executed landing after another in recent years — to expect (and position for) the best.
As I was mulling all this over today, a good friend emailed me and asked me my thoughts on exactly this topic.
The man in question is one of the very brightest minds it is my pleasure to be able to call on for advice and counsel, and so I thought, what better way to tidy up this week's many questions than by including the culmination of our email conversation (though with the odd expletive removed and certain names changed to protect the innocent):
On 15 Mar, 2014, at 12:10 pm, Mr. Big <firstname.lastname@example.org> wrote:
apples to apples? ok, so why, how, what to do?
On Sat, Mar 15, 2014, at 12:26 AM, Grant Williams <email@example.com> wrote:
My worry is this (I'm writing about it right now):Markets have become conditioned to Goldilocks outcomes manufactured by CBs & govts over a period of three years when EVERYTHING should have gone wrong but nothing has.The Taper hasn't mattered (yet) because everybody believes that, if the wheels come off, the Fed will blink and crank it up again.China's problems are starting to become too difficult to ignore. (GDP 7.7% & PMI sub-50 for a manufacturing economy? Righto. Don't even get me started on the shadow banking system, which is straining at every seam right now.)Abenomics is just beginning to be shown up for the farce it really is — just in time for the consumption tax hike coming in a few weeks. Abe's fabled "three arrows" are not the ones everybody imagines but rather the kind of arrows with a sucker rather than a point on the end. Actually, in this case, on BOTH ends.Putin is in a corner, and we KNOW he don't take to backin' down none.Obama's approval is at all-time lows with midterms on the horizon, so he needs to look Presidential at home.Draghi is trying to force the BuBa to BEG him for QEbefore turning the taps on, and it is crushing Europe, but he won't blink (I don't think).The Fed meets next week and will taper another $10 bn.That's the broad backdrop. Now, let me ask you this:What if this next $10 bn taper is the "bang" moment when markets suddenly realize that the Fed ARE serious about continuing to wind it down? What if the latent fear over all of the above issues, combined with that next $10 bn and the words of smart guys like Seth Klarman ringing in their ears, tells managers it's "safety time"?At some point the market factors QE at $0 if the Taper continues — and that time ISN'T after they withdraw the last $10 bn.Above all, what if (and the marginal signs have been nagging away at me the last ten days or so) everything goes back to trading how it SHOULD, based on everything we know about markets and economics, instead of lingering in the Magical Fairydust World created by central banks since 2009?Markets have been reacting correctly and beginning to decorrelate over the past several sessions.Where does everything trade if a stimulus level of zero suddenly gets discounted?I don't know EXACTLY, but I'll hazard a guess at "a ****-load lower" to kick things off.Gold is talking loudly, so is copper. JGBs and equities are mumbling, so are bonds.Something is happening, right now, in all the dark corners of the dance hall, and whatever that "something" is, it will NOT lead to an extension of the bull market.Do we "crash"? I think that's the wrong question.The right questions (I think) are these:If a major correction begins, at what stage do they turn on the printing presses again? 10% lower? 15%? 20%?When they DO (and it is WHEN, not IF), what happens now that the last vestige of their credibility has evaporated? A quick spike then a crash, or does the patient flatline on the bed no matter how much juice they pump into it?I'm nervous as hell and feel a sharp disturbance in The Force. We've been here before and pulled back from the brink every time, but this time that outcome is expected again by most, and that is extremely dangerous.Markets are most assuredly NOT ready for reality.What say you, Wise Man?
On Sat, Mar 15, 2014, at 12:33 AM, Mr. Big <firstname.lastname@example.org> wrote:
EVERY new Fed chief gets a serious test. Every one. I have been trying to figure Yellen's. I know this:A weakened/prone US, scared Russia, and nervous China is not good and not priced in.
On 15 Mar, 2014, at 12:42 pm, Grant Williams <email@example.com> wrote:
Agreed 100%.I've been saying for two years that nothing matters to anybody until it matters to everybody, and I have a nasty feeling that the test is this:Suddenly, in one moment, EVERYTHING matters to everybody.That's something even central banks won't be able to stop.
Every new Fed chair gets a test.
Burns had the run on gold that led to Nixon's closing of the window; Miller had the Oil Shock; Volcker had the inflation tiger to wrestle; Greenspan had the '87 crash; and Bernanke had the subprime crisis followed by the 2008 crash.
Now it's Yellen's turn.
After fifteen months of steady and predictable (thanks largely to the Fed's largesse and Draghi's promise to do "whatever it takes"), we are about to enter a period of extreme unpredictability right at the moment when the Fed is about to demonstrate to the markets that, yes, they really ARE serious about continuing to taper $10 bn every month.
The troubles facing the world are far, far broader than just the messy politics of Ukraine; and there is a very real chance that those troubles coalesce into one giant ball of concern that is big enough to shatter the fake sense of calm we've all been lulled into by the passage of time between crises.
If they do coalesce, I can't think of a single asset anywhere in the world that is priced correctly for such a situation.
Full Grant Williams Letter below...