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Saturday, January 17, 2009

Hyperinflation First, Then Global War

Watch the clip from Ron Paul explaining the consequences of destroying a currency...

Then read this book: The War of the World by Nial Ferguson.

Ferguson develops a theory to explain the brutal violence of the 20th century. He postulates that ethnic unrest is prone to break out during periods of economic volatility and uncertainty. Severe economic distress has the tendency to suddenly unravel even advanced processes of ethnic assimilation which then rapidly escalate into full-scale conflict. The catalyst for catastrophe is always the decline of great economic and political powers and more importantly the emergence of new powers.

One of many examples analyzed by Ferguson is the Second World War where empires in decline clashed with those on the rise while the global economy convulsed wildly.

Fast forward to the present. The "descent of the West" is now obvious. New economic and political blocs such as China and India are struggling define their global identities. A truly massive philosophical, ideological and religious struggle has gone from a 'cold war' to controlled 'hot war' on a global scale pitting Individualism against Collectivism, Science against Religion, and Christianity against Islam.

The current global economic instability will almost certainly be the final spark to set the entire world aflame.

"According to historian Professor Niall Ferguson, we need to rethink our understanding of the 20th century. There were not, he says, two world wars and a ‘cold’ war, but a single Hundred Years' War. It was not nationalism that powered these conflicts, but empires. The driving force was not class or socialism – race was. And finally, it was not the West that triumphed; in fact, power slowly and steadily migrated towards the new empires of the East." -The War of the World

Channel 4 showed The War of the World: A new history of the 20th Century in June - July 2006:

Friday, January 16, 2009

The Fly Show: Asshat of the Year 2008

[ NSFW - language ]

Oversold Bounce Time

Oversold bounce time. Nothing to see here. Move along.

Global Stocks Rise; MSCI World Gains First Time in Eight Days: “Stocks in Europe and Asia rallied, sending the MSCI World Index to its first gain in eight days, and U.S. futures rose after Bank of America Corp. received a $138 billion lifeline and Intel Corp. said profitability may rebound. UBS AG increased 3.7 percent as the U.S. government agreed to invest $20 billion more in Bank of America and guaranteed $118 billion of assets to help the lender absorb Merrill Lynch & Co. Citigroup Inc. rose 5.2 percent after saying it will split in two. Infineon Technologies AG and Hynix Semiconductor Inc. added more than 3 percent, while Intel gained 4.1 percent.”

Good Bank, Bad Bank: The Rich Win Again

So let’s see if I understand this brilliant brain fart correctly…

Citigroup (C) and Bank of America (BAC) reported earnings so dismal it gave momentum to the whole “Bad Bank” plan. The plan would split the walking dead into a “Good Bank” and a “Bad Bank”. Investors of course would only be exposed to the “Good Bank”. The government would purge the banks of all the illiquid toxic assets and place those in the “Bad Bank”. Taxpayers would own the bad bank.

Translation: People with money, so the wealthier component of society would continue to have a stake in the “Good Bank” via investments in common, preferred, or bonds. They would be exposed to all the upside potential. The people with the least amount of money, the average taxpayer who doesn’t have the money to even buy a handful of shares, would get all the downside risk. They will fund the losses via higher taxes without the benefit of being long the “Good Banks” as an offset. The middle class gets raped again… as expected. Amazing.

The rich own the “Good Banks” voluntarily and the poor own the “Bad Banks” by dictate. The rich win again. What a fun game.

Citigroup Reports $8.3 Billion Loss, Split Into Two Businesses: “Citigroup Inc. posted an $8.29 billion fourth-quarter loss, completing its worst year, as the credit crisis eroded mortgage-bond prices and customers missed more loan payments. The stock rose after the company announced plans to split in two.

The net loss of $1.72 a share compared with a loss of $9.8 billion, or $1.99, a year earlier, the New York-based company said in a statement today. Excluding a $3.9 billion gain from the sale of a German consumer bank and other results from discontinued operations, the bank’s loss was $2.44 a share. On that basis, the loss was more than twice as wide as the $1.08 average estimate of analysts in a Bloomberg survey.

As Citigroup plunged 77 percent last year in New York trading, the bank was forced to accept $45 billion of U.S. government rescue funds. Chief Executive Officer Vikram Pandit agreed this week to cede control of the Smith Barney brokerage to Morgan Stanley. He also said today he plans to eventually sell the CitiFinancial consumer-lending unit and Tokyo-based Nikko Asset Management Co., after moving them into a new unit called Citi Holdings.

“It looks like a kitchen-sink quarter,” said Peter Sorrentino, who helps manage $16 billion at Huntington Asset Advisors Inc. in Cincinnati, including Citigroup shares. “Sweep it all in there and get this behind us.”

Citigroup climbed to $4.26 in New York from $3.83, after plunging 23 percent yesterday on concern the bank may have to seek more aid from the government.

Spokesman Mike Hanretta declined to comment on whether the bank is in discussions over an additional infusion.”

Bank of America Posts Quarterly Loss After Bailout (Update2): “Bank of America Corp., the largest U.S. bank by assets, posted its first loss since 1991 and cut the dividend to a penny after receiving emergency government funds to support the acquisition of Merrill Lynch & Co.

The fourth-quarter loss of $1.79 billion, or 48 cents a share, compared with net income of $268 million, or 5 cents, a year earlier, the Charlotte, North Carolina-based company said in a statement today. Results didn't include a $15.3 billion loss at Merrill, acquired this month.

The losses, coupled with the government lifeline of $138 billion, raise doubts about the future of Chief Executive Officer Kenneth D. Lewis, who engineered takeovers of unprofitable New York-based brokerage Merrill and ailing mortgage lender Countrywide Financial Corp. during the worst market slump since the Great Depression. Bank of America plummeted 75 percent in New York trading through yesterday since the Merrill deal was announced in September.

“This thing is unraveling so fast Lewis may know his job is lost,” said Paul Miller, an analyst at Friedman Billings Ramsey Group Inc. in Arlington, Virginia, who has an “underperform” rating on Bank of America. The management team has “lost credibility,” he said before results were announced.

“You will see the benefits” when the economy improves, Lewis told investors during a conference call today. The bank doesn't comment on “uninformed gossip,” spokesman Robert Stickler said.

U.S. ‘Bad Bank’ Plan Gets Momentum to Revive Lending (Update2): “Renewed questions about U.S. banks’ viability are pushing regulators toward a new plan that would remove toxic assets from bank balance sheets, in what may become the biggest effort yet to unfreeze lending.

President-elect Barack Obama’s advisers see an increasingly grave banking crisis and are considering proposals far more sweeping than any steps that have been taken so far, according to people who’ve discussed the outlook with them.

“They need to do something dramatic,” said Harvard University Professor Kenneth Rogoff, a former chief economist at the International Monetary Fund, and member of the Group of Thirty counselors on financial matters, a panel that includes Treasury Secretary-designate Timothy Geithner and Lawrence Summers, incoming director of the National Economic Council.

Federal Reserve officials are focusing on the option of setting up a so-called bad bank that would acquire hundreds of billions of dollars of troubled securities now held by lenders. That may allow banks to reduce write-offs, free up capital and begin to increase lending. Paul Miller, a bank analyst at Friedman Billings Ramsey & Co. in Arlington, Virginia, estimates that financial institutions need as much as $1.2 trillion in new aid.

Other steps that may be under consideration include providing further guarantees for toxic assets that remain on the banks’ books, as officials did for Citigroup Inc. in November and with a $118 billion backstop for Bank of America Corp. today, or purchasing selected investments. Federal Deposit Insurance Corp. Chairman Sheila Bair yesterday played down the alternative of nationalizing lenders.”

Thursday, January 15, 2009

Banking Index: Chose Never

I explained how it was make or break time for the financials in December 2008 in the post Banking Index: Now or Never.

The banking index chose never. Now you know.

Time to test them there lows. You can thank BAC and C for that.

First Major Distribution Day of 2009: Bearish

29.28:1 Down / Up Volume Ratio. This is the first Major Distribution Day in 2009. Combined with the completion of a bearish pattern, this does not look good for the panic lows of 2008.

Hood River Trader put up some excellent charts in Trending Lower that discuss a similar bearish situation, broken down by sector.

The Death of the Largest Credit Ponzi Scheme

I drew inspiration for this chart from a post over at Sudden Debt titled End of an Era:

"Yes, most people may wish the party to go on, but deep down they know it's over. And this knowledge affects their behavior very significantly. When it's over, it's over."

I couldn't agree more. The death of the world's largest credit ponzi scheme does not look pretty on the charts... but it will look much much worse out on the streets.

Real Estate: Vornado, Dividend Cuts,

Expect more of these. Dividends cuts until there are no more dividends as vacancies skyrocket, asset prices drop and financing continues to shrivel up.

Vornado (VNO) is a component of Real Estate iShares (IYR). Ninjas trade IYR via the ProShares UltraShort Real Estate ETF (SRS).

Vornado Pays 60% of Dividend in Stock, Saves Cash (Update1): “Vornado Realty Trust, the fourth-biggest U.S. real estate investment trust, will pay part of its quarterly dividend in stock to preserve cash.

The 95 cent-a-share dividend payable on March 12 will be made 40 percent in cash and 60 percent in stock, according to an e-mail today from the company.

“In recognition of the current state of the economy and capital markets, the Board of Trustees has determined to augment the company's best-in-class balance sheet by paying this dividend in a combination of cash” and shares, the company said.

Vornado last year lost almost a third of its market value as financing to purchase real estate dried up in the credit crisis. Paying part of the dividend in stock will “protect against uncertainties in the capital market,” the REIT said.

Today's announcement will save Vornado about $390 million of capital, it said. Shares fell $3.53 to $50.65 in New York Stock Exchange composite trading.”

IYR: "I've started scaling into SRS because I'm not confident that IYR will make it that much higher." -01/07/09 TheFinancialNinja

SRS: "Picked some up below $50. Looking to scale in... " -01/07/09 TheFinancialNinja

Short Real Estate: Looking Good: A drop to $30 on the Real Estate iShares (IYR) is probable before an oversold bounce becomes a possibility. The ProShares Ultrashort RealEstate (SRS) ETF is an easy, fun and dangerous way to play out your most Bearish fantasies for real estate.

Related Posts:
Short Real Estate: Looking Good
Nibbling Short Real Estate, Again

Wednesday, January 14, 2009

Financial Play: Long Preferreds, Short Common?

Interesting comment from the post Financials: Breakdown. Test of Panic Lows Pending:

SC: "What do you think of long PGF vs short XLF? Invest along side Uncle Sam and be prepared for common equity dilution and dividend cuts."

Since the start of the financial crisis, this would certainly have been a profitable trade. Preferreds are further up the capital structure and are therefore safer. They pay decent dividends that are also more robust. Because of where they are in the capital structure, they are less likely to be diluted. It is definitely a trade worth exploring.

The chart is a simple one. Short $1 of XLF for every $1 long of PGF. There could be a better ratio of PGF to XLF, so some backtesting is in order.

Bear Wedgie: Breakout!

I first warned about it in Good Start to the Year: Beware the Bear Wedge and mentioned it again in Non-Farm Worst Since 1945: Market Likes It.

In Bear Wedge: Breakout? I wrote: “This raises the POSSIBILITY of a breakout of the Bear Wedge. Confirmation is still required, but it already feels good…”

Well, "breakout confirmed" would almost be an understatement...

Nortel Networks: Bankruptcy

I used to ‘daytrade’ Nortel back during the heady days of the Technology Bubble, churning hundreds of thousands of shares a day. Nortel (NT.TO) was THE Canadian success story back then… the answer to Silicon Valley. Ottawa was a boom town thanks to Nortel and dubbed "Silicon Valley North".

The slide into the Abyss has been long, with a split adjusted high of $1245 a share in July of 2000 to yesterday’s close of $0.385. Eight agonizing years for shareholders of one of the widest held stocks in Canada.

After surviving the bursting of the Technology Bubble, a serious accounting scandal in 2003 revealed that the profits of the bubble years were nothing but a giant illusion.

Amazing really.

Peak Market Capitalization: $366 billion (HUGE for anything Canadian!)
Peak Employment: 95, 000

Nortel Plunges on Report Bankruptcy Filing Planned (Update1): “Nortel Networks Corp., North America’s biggest maker of phone equipment, plunged in European trading after the Globe and Mail reported the company will file for bankruptcy protection as early as today.

The board met last night to deal with “a financial crisis,” the newspaper reported, citing people working with Nortel and its creditors. Nortel will file in Toronto and an undisclosed U.S. location, the Globe and Mail reported. The company faces a $107 million interest payment tomorrow, the newspaper said. David Silke, a Nortel spokesman in Ireland, didn’t immediately return a call for comment.

In German trading, Toronto-based Nortel fell as much as 5.93 U.S. cents, or 19 percent, to the equivalent of 26.07 cents, from the close of 32 cents in the U.S. yesterday. The stock traded at 30.8 cents as of 12:28 p.m. in Frankfurt. The stock lost 24 percent in New York Stock Exchange composite trading yesterday.

Nortel was working with Lazard Ltd. and law firm Cleary Gottlieb Steen & Hamilton on options, including a possible bankruptcy filing, people familiar with the situation said last month.

Since Chief Executive Officer Mike Zafirovski took over in 2005, the company has lost almost $7 billion. Nortel, whose predecessor was founded more than a century ago, has lost 97 percent of its market value in the past year as customers reined in spending and switched to newer technology from Cisco Systems Inc. and other rivals.

Zafirovski, 55, had sought to revive Nortel’s fortunes by cleaning up the balance sheet and reducing the workforce by 18 percent since he started. Demand for Nortel’s equipment, mainly based on older code division multiple access technology, has waned as customers move to faster systems.”

Tuesday, January 13, 2009

Bailout Nation: FHLBs Next?

Uh oh… it looks like these clowns are going to have to get bailed out next.

No biggie though… “the FHLB system has $1.25 trillion of debt, making it the largest U.S. borrower after the federal government.”

My ninja senses tell me that 2009 is going to be one wild year.

Seattle FHLB Likely Short of Capital on Mortgage Debt (Update1): “The Federal Home Loan Bank of Seattle joined its San Francisco counterpart in suspending dividends and “excess” stock repurchases, after the declining value of mortgage bonds likely led to a regulatory capital shortfall.

The shortfall is being caused by “unrealized market value losses” on home-loan securities without government backing, the Seattle bank cooperative said in a filing with the U.S. Securities and Exchange Commission today.

The Federal Home Loan Banks, or FHLBs, face potentially “substantial” losses, and in a worst-case scenario only four of the 12 would remain above capital minimums, Moody’s Investors Service said last week. Citigroup Inc., JPMorgan Chase & Co., and the other U.S. financial companies that own and borrow from the government-chartered bank system may have higher financing costs as a result, a Keefe, Bruyette & Woods analyst said yesterday.

“Systemic weakness in the FHLBs, which may require federal action, could have a number of implications for U.S. banks and thrifts, including: higher costs of FHLB borrowings, reduced value of FHLB stock, and increased demand for alternative sources of liquidity,” Frederick Cannon, an analyst at Keefe, Bruyette in San Francisco, wrote in the report.

The San Francisco FHLB reported Jan. 8 that it also was suspending dividend and repurchases of shares in excess of what is required for members’ current loans because of losses on so- called private-label, or non-agency, mortgage bonds. It didn’t say whether it expects to still be above capital requirements.

The FHLB system has $1.25 trillion of debt, making it the largest U.S. borrower after the federal government. Moody’s said it’s unlikely to cut the system’s Aaa grades because of their government support, and that the banks are unlikely to suffer actual losses as large as those reported under accounting rules.”

Financials: Breakdown. Test of Panic Lows Pending

Things aren’t looking pretty for the financials. Citigroup (C) for example got whacked for almost 20% yesterday alone, breaking decisively through all support. There now is nothing but a giant air pocket all the way down to the $3.00 panic low.

Bernanke continues to try really really hard… feeding more of the same into he system.

Bernanke Urges ‘Strong Measures’ to Stabilize Banks (Update1): “Federal Reserve Chairman Ben S. Bernanke warned that a fiscal stimulus won’t be enough to spur an economic recovery and that the government may need to buy or guarantee banks’ tainted assets to revive growth.

“Fiscal actions are unlikely to promote a lasting recovery unless they are accompanied by strong measures to further stabilize and strengthen the financial system,” Bernanke said in the text of a speech today at the London School of Economics. “More capital injections and guarantees may become necessary to ensure stability and the normalization of credit markets.”

Bernanke’s remarks indicate he may be seeking to influence deliberations among lawmakers and President-elect Barack Obama’s economic aides on how to deploy the next $350 billion of the financial-rescue fund approved in October. While some Democrats have focused on offering aid to troubled homeowners, the Fed chief’s comments show he’s more concerned about a continued choking off of credit to companies and households.

The Fed chairman recommended three approaches on troubled assets. Public purchases of the bad assets are one possibility, as was originally planned under U.S. Treasury Secretary Henry Paulson’s Troubled Asset Relief Program.

The government could also agree to absorb, in exchange for warrants or a fee, part of the losses on a specified portfolio of troubled assets, he said. Regulators used that method recently with their bailout of Citigroup Inc.

Another measure “would be to set up and capitalize so- called bad banks, which would purchase assets from financial institutions in exchange for cash and equity in the bad banks,” he said.

While the U.S. Treasury has already channeled $350 billion in taxpayer funds to recapitalize banks and rescue companies including American International Group Inc. and Citigroup, financial stocks have been hammered in recent days amid deepening concern about credit losses.”

Eurozone: Spain's Ratings, Fate of the Euro?

The European monetary union isn't likely to survive the stresses of this crisis. The economies, cultures and politics of member states are so diverse (and some historic animosities so great) as to make the kind of cooperation required to get thru this crisis almost impossible.

Abandoning the USD in favor of the higher yielding Euro is a dangerous trade. The risks of the Euro unraveling are growing larger by the day.

Recent volatility in the foreign exchange markets should definitely raise eyebrows. In the end, the USD is still the undisputed reserve currency of the world.

Spain and Italy are the most likely candidates for sovereign default.

The Short View: “If the euorzone could find a way to deal with a member country’s national default, that might confirm the euro’s status as the world’s next reserve currency. But if a solution could not be found, and a country excited, any such ambition would be over, says John Authers.”

Spain’s Long-Term Sovereign Ratings May Be Cut by S&P (Update4): “Spain’s top AAA long-term sovereign ratings may be cut by Standard & Poor’s, putting Spain at risk of its first downgrade from the credit rating company as the country suffers its first recession in 15 years.

S&P cited “significant challenges” facing the Spanish economy and said it would probably decide on the rating this month. Credit-default swaps linked to Spanish debt saw the biggest one-day gain in almost three months, a sign that investors attached a higher risk to Spanish assets.

“Everyone knew that Spain was in trouble, but this is one of the triggers that investors were waiting for,” said Ivan Comerma, head of treasury and capital markets at Banc Internacional-Banca Mora in Andorra. “This is the worst timing as Spain is about to start with its funding plan for this year and the country’s lenders are about to start selling government- backed bonds.”

Spain’s economy, which outpaced the euro region for more than a decade, entered a recession in the second half of last year as the global credit crunch deepened the collapse of a debt- fueled domestic housing boom, sending the unemployment rate to the highest in Europe. The government has announced some 90 billion euros ($120 billion) of stimulus measures, on top of steps to support banks, while tax revenue is falling.”

Monday, January 12, 2009

Ambrose Evans-Prichard Explains the Bond Bubble

Ambrose Evans-Prichard nails it.

The tricky part, as always, is the timing of it all.

The Bond Bubble is an Accident Waiting to Happen:

“The bond vigilantes slumber. As the greatest sovereign bond bubble of all time rolls into 2009, investors are clinging to an implausible assumption that China and Japan will provide enough capital to keep the happy game going for ever.

They are betting too that debt deflation will overwhelm the effects of near-zero interest rates across the G10 and nullify a £2,000bn fiscal blast in the US, China, Japan, Britain, and Europe.

Above all, they are betting that the Federal Reserve chief Ben Bernanke will fail to print enough banknotes to inflate the US money supply, despite his avowed intent to do so.

Yields on 10-year US Treasuries have fallen to 2.4pc – a level that was unseen even in the Great Depression. This is "return-free risk", said bond guru Jim Grant.

It is much the same story across the world. Yields are 1.3pc in Japan, 3.02pc in Germany, 3.13pc in Britain, 3.26pc in Chile, 3.47pc in France, and 5.56pc in Brazil.

"Get out of Treasuries. They are very, very expensive," said Mohamed El-Erian, the investment chief at the Pimco, the world's top bond fund, in a Barron's article last week.

It is lazy to think that China, Japan, the petro-powers and the surplus states of emerging Asia will continue to amass foreign reserves, recycling their treasure into the US and European bond markets.

These countries are themselves bleeding as exports collapse. Most face capital flight. The whole process that fed the bond boom from 2003 to 2008 is now going into reverse.

Woe betide any investor who misjudges the consequences of this strategic shift.

Russia has lost 27pc of its $600bn reserves since August. The oil and metals crash has left the oligarchs prostrate. China's reserves fell $15bn in October. Beijing has begun to fret about an exodus of hot money – disguised as foreign investment in plant. The exchange regulator is muttering about "abnormal" capital flows out of the country.

China's $1,900bn stash of foreign bonds is a by-product of holding down the yuan to boost exports.

This mercantilist ploy is no longer necessary, since the currency is weakening. Beijing needs the money at home in any case to prop up the Chinese economy – now in trouble. Even Japan has slipped into trade deficit.

Clearly, the US and European governments cannot rely on Asia to plug the $3,500bn hole in their budgets this year.

Asians are just as likely to be net sellers of their bonds. Which implies that central banks may have to "monetize" our deficits.

James Montier, from Société Générale, has examined US bonds back to 1798. Yields have never been this low before, except under war controls in the 1940s when the price was set by dictate.

That episode is not a happy precedent. The Fed drove the 10-year bond down to 2.25pc, much as it is doing today with mortgage bonds. It helped America win World War Two, but ended in tears for bond holders in 1946 when inflation jumped to 18pc.

Mr Montier said yields have averaged 4.5pc over two centuries, with a real return of around 2pc. By that benchmark, the market is now banking on a decade of deflation.

Investors have drawn a false parallel with Japan's Lost Decade, when bond yields kept falling, forgetting that Tokyo waited seven years before resorting to the printing press. Mr Bernanke has no such inhibitions. He has hit the nuclear button in advance.

"Today's yields are woefully short of the estimated fair value under normal conditions. There maybe a (short-term) speculative case for buying bonds. However, I am an investor, not a speculator," he said

Of course, we may already be so deep into debt deflation that bonds will rally regardless. Fresh data suggest that Japan's economy contracted at a 12pc annual rate in the fourth quarter of 2008; the US, Germany, and France shrank at a 6pc rate, and Britain shrank at 5pc.

If sustained, these figures are worse than 1930, though not as bad as the killer year of 1931. The UK contraction from peak to trough in the Slump was 5pc. Gordon Brown will be lucky to get off so lightly.

The Fed's December minutes reek of fear. The Bernanke team is no longer sure that stimulus will gain traction in time.

The Fed's "Monetary Multiplier" has collapsed, falling below 1. This is unthinkable. We are in a liquidity trap.

So yes, printing money is not as easy as it looks, but to conclude that the Fed cannot bring about inflation is a leap too far.

The Fed has only just started to debauch in earnest, buying $600bn of mortgage bonds to force home loans down to 4.5pc. US mortgage rates have dropped 150 basis points in two months.

My tentative guess is that Bernanke's blitz will "work" – perhaps later this year. Markets will start to look beyond deflation. They will remember that the Fed is boosting its balance sheet from $800bn to $3,000bn, and that it sits on an overhang of bonds that must be sold again.

"The euthanasia of the rentier" will wear off, to borrow from Keynes. That is when the next crisis begins.”

Short Real Estate: Looking Good

IYR: "I've started scaling into SRS because I'm not confident that IYR will make it that much higher." -01/07/09 TheFinancialNinja

SRS: "Picked some up below $50. Looking to scale in... " -01/07/09 TheFinancialNinja

A drop to $30 on the Real Estate iShares (IYR) is probable before an oversold bounce becomes a possibility. The ProShares Ultrashort RealEstate (SRS) ETF is an easy, fun and dangerous way to play out your most Bearish fantasies for real estate.

China: Increase Bad Loans, Relax Credit to Save the Economy

Another brilliant plan! Easy credit caused the mess… and easier credit is supposed to fix the mess? WTF?

Chinese policy makers must have gone to the same damn schools that unleashed the same pump monkeys who destroyed the American economy.


The Fiscal Insanity Virus (FIV) will eventually devour everything.

China to Tolerate More Bad Loans, Relax Credit Rules (Update2): “China will tolerate an increase in bad debt this year as it eases rules governing bank lending to revive the slowing economy, the nation’s banking regulator said.

The China Banking Regulatory Commission will drop its target of reducing the balance and ratio of bad loans after five years of declines, and instead aim to prevent a “massive and rapid rebound” in soured debts, Chairman Liu Mingkang said in Beijing today. A transcript of his speech was obtained by Bloomberg News.

Bank of China Ltd. and Industrial & Commercial Bank of China Ltd. fell in Hong Kong trading today. Looser requirements may fuel concerns about a surge in bad loans, four years after China finished a cleanup of its banking system that cost more than $500 billion. Lenders will likely face weaker asset quality, rising defaults and “significant” constraints on profits in 2009, Standard & Poor’s said Jan. 7.

“What we’re concerned about is whether banks will, after government interference, boost lending without properly recognizing the risks,” said Liao Qiang, the rating company’s Beijing-based analyst, in an interview. “Governments tend to relax prudential regulatory requirements in difficult times. The key is how banks react.”

Measures to boost credit include allowing banks to lend to businesses afflicted by temporary financial woes because of the global recession but with sound fundamentals, Liu said. Lenders can also restructure loans and “scientifically” adjust the types and maturities of debt, and the regulator will support the sale and securitization of loans, he said without elaborating.”

Sunday, January 11, 2009

Really Scary Fed Charts: The Master Plan

The M1 money multiplier (MULT) has gone into free fall and is now below 1. Translation: Now each $1 increase in the monetary base (AMBNS) results in the money supply increasing by LESS than $1. This is further evidence of OBSCENE hoarding by the banks.

The Federal Reserve is desperately attempting to increase the monetary base (AMBNS) by injecting liquidity into the banking system via additional reserves. The banks on the other hand are stockpiling this liquidity as excess reserves (EXCRESNS) and therefore not passing it on.

The monetary base has exploded because of excess reserves have exploded. On January 2009 the monetary base was $1 692.63 billion and excess reserves $767.42 billion. Subtracting excess reserves from the monetary base would result in a base of $925.21 billion. This number is very nearly inline with the level ($870.99 billion) and rate of change (1%) of the monetary base prior to the implementation of the Quantitative Easing policy.

The velocity of money is collapsing.

The Quantity Theory of Money holds the following:

“The determinants and consequent stability of the velocity of money are a subject of controversy across and within schools of economic thought. Those favoring a quantity theory of money have tended to believe that, in the absence of inflationary or deflationary expectations, velocity will be technologically determined and stable, and that such expectations will not generally arise without a signal that overall prices have changed or will change.”

M * V = P * Q

M is the total amount of money in circulation in an economy during the period.
V is the velocity of money in final expenditures.
Q is an index of the real value of final expenditures.
P is the price level associated with transactions for the economy during the period.

Example (1):

Let’s do some simple math:
M = $100. That is all the money in this economy.
V = 2. This economy turns things over fairly briskly.
Q = $100. This is the real value of all the stuff produced by this economy.

To solve for P we must re-arrange the formula:

P = (M * V) / Q
P = ( $100 * 2) / $100
P = 2

In this simple test economy the velocity of money has resulted in a doubling of the price level (P). Therefore, inflation is 100%. The money moves so fast in this economy that it creates the PERCEPTION that there are really $200 dollars in this economy chasing $100 dollars of real value and the goods and services are end up trading accordingly… at inflated prices!

Now let’s crash the velocity of money, but leave EVERYTHING else the same. Ceteris Paribus.
Example (2):

M = $100. That is all the money in this economy.
V = 1. This economy turns things over much more slowly now.
Q = $100. This is the real value of all the stuff produced by this economy.

P = (M * V) / Q
P = ( $100 * 1) / $100
P = 1

Simply by reducing the velocity of money we have reduced the price level (P). In this economy there is now ZERO inflation!

The Ivory Tower Academics over at the Federal Reserve know this all too well…

After a credit bubble AND asset price bubble of obscene proportions the Federal Reserve is desperately seeking to avoid deflation at all costs. They cannot bear contemplating the consequences of deflation on the enormous debt left behind.

The Federal Reserve has very little direct control over the velocity of money (V). They can only encourage the faster turnover of money and not coerce it. The usual trick is to cut rates and provide liquidity. However, when economic agents are stuffed, they’re stuffed. It’s that simple. If economic agents can’t find a profitable way to deploy these funds, they will simply refuse to do so… zero interest rates and ample liquidity be damned!

Since the main objective is to prevent deflation first and cause inflation second, the Federal Reserve must maintain and even increase the general price level in the economy (P).

The Federal Reserve is the monopoly provider of money (M). Having direct control over this variable allows them to manipulate it at will. They can do all sorts of fancy stuff, but in the end all they’re doing is digitally “printing” money.

Now let’s double the amount of money (M) in the economy from the previous example (2), Ceteris Paribus.

Example (3):

M = $200. That is all the money in this economy.
V = 1. This economy turns things over much more slowly.
Q = $100. This is the real value of all the stuff produced by this economy.

P = (M * V) / Q
P = ( $200 * 1) / $100
P = 2

Doubling the money supply to $200 brings the price level (P) back to the original level when the velocity of money (V) was higher as in the first example (1).

The real world of course is much more complex. We do know that the velocity of money (V) has cratered as can be seen in such variables as MULT. The Federal Reserve is clearly trying to pick up the slack by increasing the supply of money as can be seen in such variables as AMBNS.

However, it STILL isn’t nearly that simple. The Federal Reserve creates what is called High Powered Money. For that money to be useful it needs to be transmitted into the economy. If the transmission mechanisms don’t work, it is utterly useless. Bank hoarding on a grand scale is just such a failure to transmit. Printing without transmission cannot result in inflation. (ZERO velocity = ZERO money)

FUN FACT: Ben “Helicopter” Bernanke is well aware of this problem. In a famous speech he posited that to circumvent this problem all the Federal Reserve had to do was employ “A money-financed tax cut [which] is essentially equivalent to Milton Friedman's famous “helicopter drop” of money.” Basically print money to finance a tax cut. This immediately puts money directly into the hands of consumers. Hence the famous nickname “Helicopter Ben”.

To make matters worse technology and financial innovation has resulted in what is now referred to as the Shadow Banking System. Since money and debt are fungible, that is to say that money is debt and debt is money, non-bank financial institutions were able to borrow, leverage up and then lend out on the grandest scale ever in human history. With such financial innovations as securitizations, new accounting gimmicks such as off balance sheet accounting, and new vehicles such as structured investment vehicles, this system literally PRINTED money! The broadest measures of money supply increased dramatically.

As part of the current de-leveraging of the ENTIRE financial system this money is being DESTROYED as they are called in and liquidated or go into outright default. This has the added consequence of smashing the very asset prices the shadow banking system used as collateral.

The Federal Reserve is therefore also in the race to merely REPLACE the amount of money (M) being destroyed as the shadow banking system implodes. To actually increase the money supply AND make up for the reduction in money velocity (V) the Federal Reserve has to print AND transmit truly astronomical amounts of money.

This is a race no central bank can win. Deflation cannot be avoided. Unfortunately, neither can the ultimate tsunami of inflation that will sweep across the globe after.

There you have it. The Federal Reserve Master Plan: Print money to offset collapsing velocity and the money/debt currently being destroyed and transmit it at all costs to keep asset prices from falling.


M1 Money Stock (M1): The sum of currency held outside the vaults of depository institutions, Federal Reserve Banks, and the U.S. Treasury; travelers checks; and demand and other checkable deposits issued by financial institutions (except demand deposits due to the Treasury and depository institutions), minus cash items in process of collection and Federal Reserve float.

Adjusted Monetary Base (AMBNS): The sum of currency in circulation outside Federal Reserve Banks and the U.S. Treasury, deposits of depository financial institutions at Federal Reserve Banks, and an adjustment for the effects of changes in statutory reserve requirements on the quantity of base money held by depositories. This series is a spliced chain index; see Anderson and Rasche (1996a,b, 2001, 2003).

M1 Money Multiplier (MULT): The M1 multiplier is the ratio of M1 to the St. Louis Adjusted Monetary Base.

Deflation: Billionaire Blowups of 2008

In the beginning of a deflationary spiral massive amounts of both debt and wealth are visibly and publicly destroyed. This is what that part of the process looks like:

Billionaire Blowups of 2008: “Dozens of the world's wealthiest lost billions in recent months, but these 10 distinguish themselves for some of the biggest flops.

It was a dreadful year for the world's wealthiest as markets and currencies around the world tumbled.

More than 300 of the 1,125 billionaires we tallied on our annual list last March have since lost at least $1 billion; several dozen lost more than $5 billion. The 10 richest from our 2008 rankings dropped some $150 billion of wealth, dragged down by steel tycoon Lakshmi Mittal, estranged brothers Mukesh and Anil Ambani and property baron K.P. Singh, who together dropped $100 billion. America's 25 biggest billionaire losers of 2008 lost a combined $167 billion.

But even in such an awful year, the stories of a few billionaires and now former billionaires stand out as particularly dreadful.”

Setting the Ultimate Bull Trap

“The Fed is punishing savers and the Prudent Man by manipulating interest rates to zero. You can sit in cash and earn zero or you can be forced out on the risk spectrum just so you can keep up with inflation or your benchmark. Forcing money into risky assets is perhaps the most dangerous experiment ever done, and is so large in scale and so unprecedented that we have no idea how it will end. I expect it to end poorly and with hyper-inflation. The funneling of assets into risk is masking the deteriorating fundamentals and giving the appearance of a market that has bottomed. But this is sleight of hand, an illusion.

The Fed has declared a war on savers, a war on prudence and provided the ultimate Moral Hazard Card - and with our money no less. They are also setting up the ULTIMATE BULL TRAP - a trap so large that when it is sprung, perhaps as early as the end of the first quarter/beginning of second quarter, there will only be sellers left.” -Prieur du Plessis, Setting the Bull Trap

Monkey on your back: To have an addiction, especially a drug addiction.
-Urban Dictionary