YUCK!!!

Capital Markets

Friday May 31, 2013 ******************** By Lou Barnes******************* Tough, strange week. On Tuesday the trading and investment world returned from golf and beaches with one thought in mind: sell bonds. No new data, no new Fed talk, blow out the 10-year T-note’s Feb-Mar 2.05% high to 2.15%, and 2.19% today. Mortgages are above 4.00% for the first time in more than a year, and for lower-down, middling credit borrowers, 4.25% plus. Enough to slow housing? No. Payments versus prices are still far into all-time-low territory. Will housing heat up as buyers race to beat rising rates? The media loves this concept. A reminder how foolish so much media “analysis.” In a long working life I’ve never once met a not-buying client converted into buying-now because rates are rising. Years ago, most civilians didn’t know there was a Fed. Today, nearly everyone contemplating the largest financial decision of a lifetime is aware of Fed policy and the current prospect of pulling back its assistance, and newly cautious. For now, at these rate levels, other psychology is dominant: both home prices and rates look like great deals, and are. More important — hunch here, more important than all else put together — fear has faded, replaced by tentative optimism. Home prices are rising in the most desirable markets, but even in the price-flat ones, liquidity has returned. One of the most frightening aspects of the last half-dozen years; “Honey, or Realtor says the place is worth about $300,000, but might not sell.” Just being able to sell is a great relief. The Conference Board and the University of Michigan each maintain surveys of “consumer confidence.” No one knows for sure what is measured by the confidence questions, but the surveys do tend to track the overall economy, and both have reached Great Recession highs, the bond market selling off at each new pop. Confidence also seems to track the job market. However — hunch again — I think the housing improvement is the key, and may overstate improvement in the economy, the stock market contributing as well. Impossible to measure, but evident here on the sidewalk working with clients: a lot of households not hurt by the Great Recession nevertheless headed into bunkers in 2008, bolted shut. Now they are coming out, blinking into the light and releasing deferred consumption of all kinds. A relaxation of tension of this kind can jump-start an economy into self-sustaining growth. There is no other evident factor which would have offset the “fiscal drag” of the Cliff tax increase and Sequester, but… really, self-sustaining? Here at the end of pretty good panic in the bond market driven by fear of a Fed exit, an exit because the economy has at last turned the corner, has it really? Most current domestic data look ordinary, consistent with a 2% growth economy not accelerating. Today’s report of personal income in April: no gain. Zero. Personal spending fell 0.2%, which the loopy optimists said reflected lower gasoline prices which is good news! Uh-huh. Declining spending is not good news. The best inflation index available, “core personal consumption expenditure,” excluding food and energy in April was unchanged. Flat. Year-over-year only a 1.1% increase, and tailing. That’s very good news, and disturbing near-deflation news, and no reason at all for bond yields to spike or the Fed to taper. Then there is the world around us. Every bit of it slowing. Japan may be picking up some speed because of the last Banzai! at the Bank of Japan, but the resulting yen devaluation is beggar-all-neighbors. China is slowing on purpose and has its own debt problem. Europe… did you see austerity-demonstrating firefighters in uniform in Spain beaten by police with nightsticks? Nice place, Spain, but those cops look a lot like Franco’s goons in 1936. The emerging dreams are all sliding, Mexico into a housing bubble-bust, Brazil into reality. Next week is big: May ISM on Monday, May payrolls on Friday. The payroll report alone has the capacity to reverse May mortgages to the threes, or rip to 4.50%.

This Is Just Plain Ugly!

Capital Markets

Friday May 24, 2013************************************* By Lou Barnes During the Inquisition, the first step in extracting a confession or recantation of heresy was to show the accused the instruments to be used in the next stage. A glance at tongs, or the rack, and many would sing on the spot. So it was this week. The Fed inflicted no pain at all, just talked about the potential decision ahead, not yet made, considering at some point, maybe, depending, and if made, whenever, just a little pinch. You’d have thought every bond trader on the planet had been hanged upside down by precious body parts. However, even their shrieking was hard to hear though the yammering by the alternate-universe mobs. First reality, then the choirs of confusion. Perfesser Bernanke, visibly exhausted, did very smart things this week. Talk of tapering QE exposes any parties excessively leveraged, deflating the bubble potential in QE. And some are: a group of REITs has a couple-hundred-billion bet on MBS levered with short borrowing, and junk bonds are too hot. Stocks… all you need to know about silliness: today marks the first three-day decline in stocks in all of 2013. NYFed Prez Dudley laid out specifically how the Fed will exit the emergency. First: taper buys of Treasurys and MBS (and he said tapering is even-money with buying in bigger quantity). Second: stop reinvesting payments received on bonds. Third: begin to raise the overnight Fed funds rate. Fourth: maybe, if the economy really runs hot, sell some Treasurys, but in almost all events hold MBS until they mature. Most professional observers chewed on the Fed all week long for sending a garbled message. Look back a ways. Mr. Greenspan was famous for obfuscation except when he really had something to say, and ran a one-man band, all others at the Fed forbidden to speculate on policy. And in his last three years of an over-long 17-year stay failed to listen to others about a credit bubble that damned near killed us. Perfesser Bernanke introduced faculty-club style, everyone allowed to argue opinions and to vent, and far too many Fed-watchers still chase around the outlying speakers the way dim hunting dogs can’t lay off rabbits. The Fed did nothing more this week than to acknowledge new doubts lying in plain sight. Nobody knows the slope or durability of recovery. At best, the economy might be entering the outer edge of self-sustainability. In prior periods when the economy ran away from the Fed, the absolute precondition was a surge in credit, which today without QE is still contracting. Inflation appears to be falling for several reasons, but Bernanke was careful to say this week that long-term expectations are not declining. Doubt creates volatility — true, up-down-up-down. The 10-year T-note, stabilized by QE in the second half of 2012 in the range 1.60%-1.85%, took three months this year to blow up to 2.05%, then 50 days to run all the way back down to 1.65%, then just 20 days to zip back to 2.05%. Expect more short-cycle wockety-tong. Still, mortgage rates have yet to cross 4.00%, even though MBS/10T spreads have widened. You can be certain the Fed does not like that widening, a sign of ongoing distress in markets still preferring ultimate safety, and will trade to keep that spread narrow. Making all of this so difficult to process: the expensive-suited, highly-regarded, and well-connected, so seriously interviewed on the telly, but who may as well be standing behind your head slamming a ladle into a skillet. They’ve just about worn out the money-printing-inflation line, so now ooze to arguing the inevitable failure of central banks. Another group intones the failure of austerity and the need for stimulus, although the world is drowning in the deflationary excess production and debt born of runaway stimulus. One top twit after another imputes Japan’s situation to ours, or to Europe’s, or to China’s, or vice-versa, while all four are very different. The US economy is uncertain enough without adding imaginary threats from overheating or Fed tightening. Or by offering fantasy prescriptions. More volatility, yes, but slow recovery and low rates probably for years ahead.

Those Big Red Bars Are Scary

Capital Markets

Friday May 17, 2013***************** By Lou Barnes********************* Interest rates on long-term bonds and mortgages have stopped their May rise, a little above the halfway mark of the low and high for the year. The tilt seems to be upward, but the trading pattern has been chaotic and artificial, trading on guesses at the Fed’s intentions to continue, trim, or stop QE3 bond-buying. Bond markets everywhere always trade on central bank intentions to ease or tighten money in the future — nothing artificial about that — but the central banks themselves have for five years engaged in artificial, full-scale-emergency-experimental action to prevent a re-run of the 1930s, or worse. Trading on central banks is once-removed from the real drivers: inflation and economic growth. Every interest-rate analyst is always caught in this loop: what does the Fed think of incoming data, and how will it react, right or wrong? Complicated today by this wrinkle: in normal times the Fed attempts pre-emptive action, knowing that its moves take six to eighteen months to have effect; but these times are unprecedented, and no one in or out of the Fed has decent predictive tools. This is a pure, seat-of-the-pants deal, and the Chairman in those pants will retire in seven months. PIMCO has been the largest and most successful bond investment manager of the last generation. This week its CEO, Mohamed El-Erian intoned (condensed): “The global economy will give way to one of two stark alternatives: either sustainable growth, or shortfalls, instability, social tensions, political instability, and debt traps.” Wow. El-Erian usually talks like the Oracle of Delphi, murky thought free of specifics. Buried in the thread: “…in the next three to five years.” Translation: the world’s central banks still can buy time and have room for more heroics. Spitball from the back: “three to five years” means you don’t have any damned idea. El-Erian was joined by PIMCO’s Bill Gross, modern god of bond trading, saying the Fed has “12-24 months” of QE still ahead. Fire another sloppy wad at that guy. Meanwhile the financial press publishes in bold any investment manager with a theory, or political angler, or boondocks Fed official (KC’s Ms. George, Dallas’ Mr. Fisher, and Philly’s Mr. Plosser belong in SNL skits) — a stream of confetti blinding civilians and professionals actually trying to figure this thing out. Avoid analysis, and review as much hard data as you can. In a seat-of-skirt deal, yours is as good as anybody’s. The Fed would like very much to pull back from QE, if only to reduce its political exposure. But it must err on the side of slow exit for fear of an accidental economic abort, and not enough ammunition to reverse it. To pull back, the Fed must be content that the US economy has entered self-sustaining recovery. The job market is obviously not in such recovery. Housing may be, but did not find ignition until the Fed drove mortgage rates to 3.50% only ten months ago. Technology is a strength, and some manufacturing, but the only other general sector doing well is actually a ruinous burden on households: health care. In a spectacular accident, void of leadership, we have achieved the largest fiscal repair of any advanced nation, the Federal deficit cut in half in just two years and falling (the “out-years” are not pretty, but we have time for that). The Fed is justified in easing against that fiscal drag. Inflation is sliding by every available measure (CPI, PCE, chained-mean…), the “core” versions very close to the danger zone below 1%. Gold has dropped 25% since last fall, $1365 today, regaining its position as one of the worlds worst investments. Falling prices are grounds for Fed easing, not tightening. Total bank credit outstanding has just now regained the level of 2008. The US GDP has grown 14% since then, credit support provided entirely by QE. Consumer credit is contracting 1% every 90 days, mostly in mortgage accounts (capping housing recovery), and shrinking despite the hideous explosion in loans to students.

And You Thought Last Friday Hurt!

Capital Markets

Friday May 10, 2013********************************************By Lou Barnes In a week without economic news, markets very quiet, take time for the foibles, flights, fantasies, and filberts of public policy and human nature. Whenever the hard right and hard left agree, duck and cover. One example: the right and left both want to intervene in Syria. The right confuses war with video games, and hasn’t learned a thing since Vietnam. The left is oblivious to contradiction: violence is good if for humanitarian cause, exit optional. On another front, left and right are joined in shouting, one-up competition to see who can do the most damage. To banks, credit, and the economy. The right despises modern banking because it’s a government scheme. The Fed is a conspiracy. Government won’t allow losses, the punishment that keeps people in line. Won’t break up big banks and go back to the good old days of small-town bankers saying “yes” to the right kind of people. And the right hates all those mister-fancy-pants and electronic money. Even the right wearing fancy pants hates the fancy-pants. The left hates banks and bankers because they have money and won’t give it to people who don’t have any. The left has exactly the same fondness for the safe, small-bank world which didn’t supply enough credit, and wasn’t safe. Left and right agree that taxpayers should not bail out bankers. Bankers should pay. And the left hates fancy proprietary trading, securities underwriting, and derivatives, which neither left nor right knows from prostates, undertakers, or dirigibles. No, we’ve got an agenda and we’re stickin’ to it. Fannie and Freddie are now earning profits at a $50-billion annual pace. Shut them down. They will repay the Treasury within three years, and with FHA and VA provide 90% of new mortgages. Shut them down. We don’t like big. Little banks we could let go. Two problems with that: in 1929 we had a lot of little banks, all caught the same disease, and 75% of them died before we thought to stop it. Taxpayers who might have saved everything just by promising a back-stop instead lost everything. You still want to bust up the big guys? Wells, Citi, Chase, BofA, and Goldman (not so big, but everybody hates Goldman)? Want to just dump the pieces on the market? Want another crash? Who is going to buy the pieces? The French. Maybe the French will buy the pieces. Okay, okay… than make them stop doing dangerous things. Like making money? You give deposits to a bank and expect a return, both interest and principal. To make money with your money your bank has to invest in something that you don’t know how to or are scared to or should be. “Make loans,” right and left say. To whom? Safe credits sell their own bonds. Safe stuff — Treasurys — doesn’t pay anything. Every other investment or loan entails risk that must be managed with sophisticated tools. Forcing banks to raise more capital is wise, but in the hands of right and left any good idea gets overcooked. “Risk-based capital” is today such piling-on that banks are forced to shed useful businesses. Both wings are fond of “bail-in,” the European plan for assisted suicide: demand that banks simultaneously raise capital from investors and tell those investors that in the next systemic run they’ll get the Cyprus Haircut. The joint assault on banks misses the one worthwhile target: CEOs, directors and chairmen. Could we import some new, ethical, and polite ones from Canada, where giant banks have worked very well? The new governor of the Bank of England is a Canadian recruit. Send the casino-ego boys packing. Fed governor Tarullo published a paper on the Fed’s site that’s hard to read, but describes the extraordinary and real progress made in reforming banks since 2008, and the exceedingly careful pace. Careful not for benefit of bankers, but depositor-taxpayers and the society. Haste makes new bank runs. Net of huge losses and paying back TARP, US banks have raised $400 billion in new capital in just four years. Never mind. From left and right, Rand Paul to Elizabeth Warren: break them up and shut them down. Business starved of credit hides under desks, eyes wide at the scene.

OUCH!!!

Capital Markets

Friday May 3, 2013 ******************** By Lou Barnes********************** Deep breath. This morning’s news of a better job market has pushed 10-year Treasury yields from 1.63% to 1.73% overnight, and intercepted the mortgage move below 3.50%. Stocks of course to a new high, Dow above 15000. Breathe again. The job market is not really better, just not as poor as could have been — markets were looking for worse and didn’t get it. We did add 165,000 jobs in April and revised up the two prior months, but the average workweek and overtime declined. Wages are rising at a 1.9% annual pace, below even diminished inflation, and another 278,000 people looking for full-time work could not find it and took part-time. The twin ISM surveys both fell in April, manufacturing barely positive at 50.7, down from 51.3, and the service sector to 53.1 from 54.4. The Fed’s post-meeting minutes changed tense: in March it noted “a return to moderate economic growth:” this month “… has been expanding at a moderate pace.” Nobody wants to be a has-been. The Fed also noted, along with everyone else: fiscal drag. One would hope so, given the Cliff tax increases and Sequester, although it’s astounding that we can meat-ax $85 billion out of Federal spending and not notice until the FAA tried to make airports uncomfortable on purpose. Austerity is a calibration deal: we have to do enough of it, better not do too much, but the austerity dial has no level-indicator. Like living through winter with a thermostat arrow-pointer but no temperature marks, and a heating system responding to the thermostat in a random lag of two to 24 hours. That’s how life feels to the Fed. That’s the run-down here in the US: slowing a bit, but okay, housing producing smiles. But the most powerful forces on the US economy, affecting everything from jobs to mortgage rates, lie overseas. All data show slowing in China. Japan’s inflation-inducing experiment is going to take months to evaluate, at the outset doing nothing but pushing down yields on non-Japan bonds. The emerging world churns its way forward by sucking jobs from the West, the means visible in Bangladesh. Europe is back in the forefront of overseas trouble. The soap opera over there has overstayed its welcome, each new episode the same plot as the last, just shuffling the cast, and endlessly foreshadowing conclusions but no end to it. Thus we lose feel for the magnitude of the disaster and its progress. Unemployment across the south is now uniformly above 25%, in Germany 5.4%. Southern bond yields are down from 7% to 4%, but German ones today fell to a new all-time low 1.16%, and business credit in the south is all but unobtainable. South is moving north. French unemployment is 10.8% and rising, and in Holland up to 8.1%, double two years ago. S&P this week reported on housing in Europe: French prices are off 5%, expected to fall another 5% this year and the decline “gaining momentum.” Spain’s prices are off an official 28% since 2008, but no one knows what will happen when it’s bad bank dumps foreclosed inventory. Dutch prices are off 18%, expected to fall another 5% this year and again next, 25% of Dutch mortgages underwater now. German home prices rose 3.5% last year, trend continuing. Apparent German health conceals a fatal illness. Its banks and central bank assume that debt owed to Germany by the others will be paid. In euros. When it could not be more clear that the deutschemark-calibrated euro has crushed all the others. Political stability is holding among the others for now, it seems because having German money in your wallet is worth any amount of damage to your children’s future. Anything but go back to the unreliability of the lira, peseta, or even franc. We have all looked to the weak as the most likely to leave the euro, but it could be someone like Holland, making its way in the world for hundreds of years with a reliable guilder. Mercifully the US has made great progress, especially bank re-capitalization, so much so that we can make it through even a euro-breakup. Meantime, pain there keeps rates low here and assists our own recovery. Quite the world.