Nov 7. Italy edging into the forefront…
–Not much reaction to employment data, though euro$ curve continues to flatten. Red/green (2nd/3rd yr) pack spread made a slight new low at 41 bps. US ten year yield down a couple of bps to 204. EDH12/EDH13 settled -1 bp, new low, and probably on its way much more negative.
–The situation in Greece remains fluid, as Papandreou resigned and a new gov’t needs to be formed. It probably can’t get much worse there. However, a big factor in “helping” Greece was to create a firewall for Italy…the flames have jumped. Italy yields continue to rise, and Berlusconi refused IMF aid…I think I saw somewhere that he said Italy’s fine, “…The restaurants are full, the planes are fully booked and the hotel resorts are fully booked as well.” Wake up and smell the espresso… http://ftalphaville.ft.com/blog/2011/11/07/729571/
–A piece on Reuters last week notes that Chinese citizens have been “venting their anger online, demanding their leaders sort out China’s own problems before bailing out Europe.”
–While the financial crisis has center stage, the Washington Post has an article today saying that Iran is in the final stages of capability to produce nuclear weapons. I’ve seen several passing references recently to possible attacks on Iran by Israel; worth paying attention.
–In the US, Seattle PI notes that many people are falling off the unemployment data because their extended benefits have run out. So THAT ought to help the rate edge lower. (But food stamp usage is at all time high). Also, a longer term, but rather interesting link on CEO and CFO confidence is here (gyst is that quarterly CEO reading portend worsening economy). http://www.contraryinvestor.com/mo.htm
Nov 3. Sarkozy tells Greece, “no more drachmas for you”
–(Reuters) – European leaders were preparing Thursday for Greece to leave the euro zone to preserve the 12-year-old single currency.
–Greek referendum set for Dec 4; it looks like Greece will finally exit, with Italy next up as Berlusconi is apparently behind schedule on implementing growth reforms. Sarkozy vowed not one more drachma…
–The Fed again revised future growth estimates down. It would be funny if it weren’t sad that the only dissent on the FOMC is now for further accommodation…I guess the protesters camped out across the street from the Chicago Fed on LaSalle really struck a nerve for Evans. The Fed’s unemployment forecast trends down over the next couple of years which hardly squares with recent empirical data. (For 2013 est was raised to 7.8-8.2%, longer term 5.2-6.0%, still quite high).
–After surging Tuesday, implied vol in treasuries fell back towards Monday levels. (Atm Jan TY straddle from 326 to 307). The Fed’s downbeat assessment with a stale pledge to do more if necessary probably caps yields, I’m not quite sure if true european stress is priced into the treasury curve…for now tens seem comfortable at 2%.
–The ‘kink’ in the curve after June 2013 (until which time the Fed promises to keep zero rates) has become less pronounced. EDH13/EDM13 spread is only 3.5 bps; it was 6-6.5 in the latter part of October. EDM12/13 is also only 3.5 bps, but even the following one year spread of EDM13/14 is less than 1/2% at 48.5.
–Today’s news includes Jobless Claims at 400k, Factory Orders -0.2% and Non-mfg ISM, expected to rise slightly to 53.5.
Nov 2. FOMC day….
–Ten year note yield fell back to 2.00%, having been as high as 2.40 last week. German and French stocks have fallen over 10% from the highs set last week, US stocks down about 6.5% over the same few days.
–New recent lows in many euro$ one-year calendar spreads, for example EDM2/M3 fell 2.5 to 4.5. Red/green pack spread fell nearly 8 bps to just over 43. Heavy buying of blue call spreads again.
–FOMC result today (and ADP data). Dissent among the ranks isn’t just a european problem; there doesn’t appear to be much agreement within the Fed either, even though several have spoken about the need for further QE. If my trading history is any guide, the Fed will probably announce a cut in reserve interest and that they are buying Italian debt three years and under…just the actions that would have bailed out MF before the blow-up…the move always happens just AFTER my options expire.
–A lesson from Keynes was that investment doesn’t necessarily equal intended investment. That is, shocks could leave producers with unwanted inventories, leading to job cuts, which might not necessarily reverse as predicted by classical economists (so gov’t plugs the hole). With up to the second technology on inventories, you would think that adjustments would be fairly smooth. But now, gov’t actions across the world almost act as a series of exogenous shocks, perhaps adding to uncertainty. Everyone knows the problem is too much debt, now one must handicap global gov’t responses and lags. A true exogenous shock like the earthquake/ Fukushima nuclear problem is almost ignored, even though it is flaring up again. (I really can’t fathom how continuing nuclear disaster leads to a stronger yen). This uncertainty and malaise is evident in the term structure of rates, with US 5 year yield now at only 91 bps.
Nov 1. Warp speed…but in reverse
–Hitting on all cylinders, but going in reverse. In Europe, Papandreou is putting the Greek plan to referendum (could ultimately cause Greece to withdraw from the euro), causing a stock slide (DAX down over 10% from high set 3 days ago). In Asia, China PMI fell to 50.4, just above the expansion line. Japan intervened yesterday. Australia cut rates. In the US, MF Global bankruptcy filing is reverberating, (I was surprised to read that it would be in the top 10), and now there are disclosures that customer money was not completely segregated from the firm’s own cash. MF is a stunning reminder of just how quickly things can turn, but the reversal of sentiment just days after the european plan is also shocking. Markets will likely be thin going into the end of the year.
–ISM today expected 52,0 from 51.5. FOMC result expected tomorrow. The promise to keep rates low is wearing thin, leaving QE3 on the discussion table and making it tough to be short treasuries.
–Longer yields plunged yesterday, with tens down 14 bps to 217. 2/10 fell 11 from 202 to 191. Red/gold dropped 10.5 to 210. Near eurodollar calendar spreads again threaten to invert, with EDH2/H3 down 5 to just 2 bps. There’s some hefty open interest in blue Nov and Dec 9825 thru 9862 calls…underlying EDZ14 9836.5s yest…looks like a target of 9850 to 9862.5 is reasonable. Red/green eurodollar pack spread is 51, while green/blue is 81…worth considering a sale of green/blue to pick up roll going into end of year.
Oct 31. Italian bond yields aren’t following the “bailout” script
Oct 31. “Obviously, it is up to the European countries themselves to tackle their financial problems. But China can do within its capacity to help as a friend.” (Reuters quoting China news).
–Not surprisingly, the solution for europe involves saving the banking system with a taxpayer backstop, in the form of an SIV (Structured Investment Vehicle). If you recall, many banks had SIV’s which thoroughly unraveled in late 2007. The structure was to set up an SIV, implicitly backed by the parent bank, which issued its own Commercial Paper at a low rate, then levered up, buying longer dated assets. When the markets’ confidence in the (MBS) assets waned, the CP market dried up and banks were forced to bring SIV’s back to their own balance sheets. But this time the risk burden falls obviously on the Germans (the parent bank). And while many european banks have rallied 50% off the lows as risks appear to shift to the state, and as the prospect of having to pay out on CDS shorts lessened with the Greek debt ‘voluntary’ writedown, the value of the underlying assets, e.g. Italian bonds, didn’t improve. Italy 10 yr debt traded over 6% Friday. The investors that the eurocrats hope will buy the CP (and thereby fund the SIV), China, and Brazil, aren’t oblivious to these facts…
–Eurodollars rallied Friday as did treasuries. The ten year yield fell 8 bps to 231. If a primary purpose of eurodollar and treasury futures is to provide a hedge against higher rates, then one might conclude the need for such insurance (for example against a dollar funding crunch) is evaporating with yet another example of gov’t sponsorship to aide “private” banks. And going into this week’s FOMC amid chatter of need for more QE, the thought of shorting treasuries loses some of its allure.
–In my opinion, it’s only a matter of time for a true default, with real writedowns that aren’t gently negotiated, occurs. But the timing is hard to nail down. For example, most people accept the idea of “peak oil”, but the worst predictions have failed to come true. Of course, human ingenuity and alternative energy sources can perhaps avert a power crisis. But the only thing that gets rid of debt is write downs. Speaking of oil, here’s a snippet from “Things that make you go Hmmm”: The so-called “Arab Spring” uprisings in countries such as Egypt and Libya are forcing these and other major oil producing nations to spend more of their oil revenue on social assistance programs. For example, as a result of newly announced social spending in Saudi Arabia, it is forecast by The Institute of International Finance, Inc. that the budget balancing price of Saudi oil will jump from $68 per barrel in 2010 to $85 per barrel in 2011 and then continue to rise, but at a slower pace, to $110 per barrel by 2015.
Oct 28. Stocks explode Thursday, yields rise
–Explosive reaction to the European debt deal. Stocks soared about 3%. The magnitude and time of of the rally is similar to the late July early August plunge, I would expect consolidation here with wide interday swings for the next few sessions.
–The curve steepened dramatically. 2/10 treasury spread blew out 17 bps to 208, easily the widest since the last FOMC when operation twist was announced. Red/gold moved an equal amount, out to 222. Ten year note to TIP (inflation indexed note) has been edging higher as well, now out to 219 (though this spread had been much higher earlier in the year, 240-250 in June). Ten year yield climbed 19 to 239.
–Many other commodities had huge moves. Crude made a new recent high near $94/bbl. Dec Silver rallied nearly $2 to 35/oz. The silver curve is just about flat; near contracts are again starting to trade at a premium to deferred.
–BBG item says US GDP finally surpassed the last qtr of 2007 ($13.33 T) to $13.35T. However, the article also notes that at the end of ’07 138 million people had jobs, compared to 131.3 now. I would also note that at the end of 2007 US govt debt as % of GDP was under 55%, and is now around 100%. Not much of a multiplier effect… And stocks (using SPX, are where they were in early 2008, on the way down, and the middle of 2006, on the way up).
Oct 27. European agreement
Global markets are staging a strong rally on the European rescue agreement. The 50% haircut for Greek bonds is not being called a ‘credit event’, which is difficult to understand. Also, with Greek GDP of 230 bln euro and declining fast (according to ZH) against outstanding debt which still stands at 250 bln after the write off, I think this solution will prove temporary. Italy debt to GDP is 118%, which is the current source of concern, and Greece is only coming down to a similar level. In any event, markets are encouraged by the liquidity.
–US news today includes Q3 GDP expected 2.5%. Treasury auctions 7 year notes.
–Good buying of EDZ12/EDZ13 yesterday for 30 (settled there). The year spread in front, EDU12/EDU13 is only 16 bps. Red/green pack spread still only just above 50. All of these calendars are very cheap if indeed the market perceives success in addressing financial imbalances.
Oct 26. Skepticism and risk returning
–Amazon was down 4% yesterday, but fell another 10% after hours on a disappointing earnings report. This market has blithely accommodated higher prices, but skepticism comes back with a vengeance on negative news. One drop of wax and highfliers have crashed to earth like Icarus. NFLX -75% in 3 months. GMCR -44% in a month. As agreement for a european solution looks increasingly elusive, jarring volatility may ensue on a larger scale. (A small example was yesterday’s reaction to news that today’s finance meeting had been cancelled; stocks sank and bonds soared). Yesterday’s plunge in consumer confidence to 39.8 (nearing crisis levels) is indicative of fragility. Germany doesn’t want the ECB used as an open ended backstop. Plans for a Special Investment Vehicle (SIV) appear shaky, with Brazil already saying it’s not interested. (Reuters) The SPIV would be open to private capital, sovereign wealth funds and the IMF to add their funds, according to the proposal seen by Reuters….. A third official said the IMF was ready to set up an administrative account for the EFSF with the Washington-based international institution. IMF shareholders and possibly sovereign wealth funds could put money into the account to help the euro zone.
–More tangible evidence of weakness: Iron ore with 62-percent iron content fell 7.2 percent to $128.50 a tonne on Tuesday, according to Platts. (Had been between 165 and 180 this calendar year). Slowing demand from China is to blame. I guess the move in US Steel (X) from 64 in Feb to 22.50 now is also telling.
–(Reuters) Obama plans to accelerate a plan to cap student loan payments at 10 percent of income, bringing it forward to start in 2012 instead of 2014. I don’t know if that’s going to lock up the student vote, but it did bring down Sallie Mae stock (SLM) 13% yesterday.
–In eurodollars, calendar spreads compressed, for example EDU12/EDU13 fell to a new recent low of 14 bps, down 5.5 on the day. Red/gold pack spread had been on a fairly steady climb for the last month from 180 to Monday’s level of 209.6; it fell nearly 10 yesterday to 200. 2/10 fell from 195 to 188.
–Tens had appeared to be in a long bear flag, which was shattered to the upside yesterday. Yield fell from 223 to 213. There are likely some significant shorts caught here…
–Today’s US news includes Durables, expected -1.0% and New Home Sales. (By the way, for three years, the US has tried to stop the downward trajectory of the housing market, and it is just now perhaps stabilizing. How can europe fix its financial problems in a few months?) Five year auction this afternoon.
Oct 25. Europe still grasping for solutions in front of tomorrow’s summit
–Quiet trade yesterday. Curve has a steepening bias, with 2/10 out a couple of bps to 195. In eurodollar options there was a buyer of 15k E2Z 9900c for 13-13.5, (new) and E3X (blue nov) 9825/9850c 1×2 (also new). Good seller of 5k FVF 121.5/122.5 strangle at 60.
–NY Fed’s Dudley says the Fed has not run out of bullets. Stocks embrace the idea that if the Fed has ammo, it will keep blindly shooting and providing liquidity. Perhaps it all keeps running, though Netflix would appear to be a cautionary tale…many bears were carried out as it rallied 50% from 200 to 300 from the start of year through July. Now it’s at 86 after another bad report yesterday.
–Europe still grasping for a solution… may ask the IMF for help in issuing bonds.
–Near crude oil contract was up $4 yesterday, and ZH notes that CLZ11/CLZ12 has gone into backwardation (near contract higher in price). It wasn’t too long ago that the glut of supply as evidenced by full tankers idling by ports had near contracts at a steep discount as there was no room for storage.
–Continuous reminders of fiscal tightness in the municipal arena. The state of PA is getting ready to take over the capital city’s finances (Harrisburg) in a fiscal emergency. Cook County is raising all sorts of sin taxes and cutting jobs to fill a $315m gap in $3 bln budget. I especially like the idea that it will cost $4.75 to park at the Cook County Criminal Courthouse for a citizen fulfilling jury duty service and making $17. Note that state and local govts are 17% of GDP; reduced budgets are a very real drag.
Oct 17. Re-capital (as opposed to Das Kapital)
–G20 is pushing for decisive action on the european crisis by Oct 23. Germany’s Schaeuble is pushing for a larger, more realistic write-down of Greek debt. Bigger haircuts mean banks’ capital raising requirements increase. Private investors are probably not encouraged to double down on their bets, realizing that further deterioration lies in store. Which leaves the sovereigns to recapitalize the banks, and as the trend of private debts being shifted into the public sector increases, the end result is that countries are exposed to credit downgrades. In the beginning, this process was more or less opaque, but now everyone knows it. We are likely not at a tipping point yet, but the risks have become stark, and in a way the protests going on in US cities are an extension of this dynamic, a grawing feeling that government is a lot more mindful of treating capital better than labor when asking to plug fiscal holes, even though many of these holes were created by gov’t actions. And now, no less than President Obama is jumping on the protestors’ bandwagon. Which should finally make the movement sputter and die, Like Solyndra.
–Today’s news includes Empire State Mfg -3.25 from -8.82. Industrial Production expected +0.2.
–Tens ended near 2.25% Friday and 2/10 rose 8 bps to 197. I think 2.28-2.30 should be a strong support level in tens after the recent yield back up. Almost seems crazy to write this, but 2% tens are likely an appropriate level in this environment.
