I first read about it a few days ago when a comment on the Zero Hedge blog mentioned it. Then, the blog posted about it. Now, major news websites are mentioning it.
NEW YORK (TheStreet) -- It may just be the summer doldrums, or the ominous occurrence of a Friday the 13 in mid-August, but the Hindenburg Omen -- a technical indicator of an impending stock market crash -- is suddenly as important a market mover as testimony from Federal Reserve chairman Ben Bernanke.
The blog Zero Hedge, writing in a vein that seems made for professional boxing or WWE pay-per-view event hype, describes the Hindenburg Omen as "Easily the most feared technical pattern in all of chartism (for the bullishly inclined). Those who know what it is, tend to have an atavistic reaction to its mere mention."
In case you hadn't heard, Thursday's action on the New York Stock Exchange registered a technical anomaly known as the Hindenburg Omen. Read: just like the doomed German airship, the markets are fated to crash and burn. Still worse, Wednesday's trading action almost sparked Hindenburg Omen conditions. It takes two Hindenburg Omen trading days within a 36 day window to trigger the end of life in the markets as we know it.
Writing on RealMoney.com, Rev Shark notes of the market voodoo that "the logic behind this ominous-sounding indicator is this: When there are internal inconsistencies in the market that are causing a simultaneously high level of new highs and new lows, a greater risk exists that the resulting confusion and uncertainty will cause market players to exit... When the herd is confused and moving in two different directions, internally that is going to cause some problems."
But first the facts. There was a correction in the markets this week, and the sell-off triggered the Hindenburg conditions. The Hindenburg Omen occurs when an unusually high number of companies in the New York Stock Exchange reach 52-week highs and lows at the same time. The proportion of NYSE stock highs and lows must both exceed 2.2% of the total listed on the exchange. The Hindenburg Omen last occurred in October 2008, according to UBS data.
Additionally, the Hindenburg Omen is only valid in a rising market -- as measured by the NYSE composite rolling average over the past 10 weeks; the number of stocks at a 52-week high must not be more than twice those stocks at a 52-week low, and the Hindenburg set of apocalyptic conditions must occur twice in a 36 day period.
And that's not all. The Hindenburg Omen perfect storm must also include a negative measure in the NYSE McClellan Oscillator, a measure of market momentum. If it sounds like the flux capacitor of Back to the Future, you just don't know how to trade the charts.
The Hindenberg Omen does have a decent track record. A UBS strategist told Bloomberg that the Hindenburg Omen signaled itself seven times in 2008, before the S&P posted its biggest annual drop since the Great Depression. A confirmed Hindenburg Omen has occurred prior to every major stock market crash since 1985, according to various market sources with their finger on the panic button.
Jason Goepfert at Sentimentrader.com told RealMoney's Rev Shark that the Hindenburg Omen does have a fairly good track record of predicting weakness, especially when there are a cluster of such Omen days in a short time frame. The average return of the S&P 500 three months after the Omen is triggered is a loss of 2.6%, and the market was positive only 29% of the time.
In the mood for some more Hindenburg Omen doomsday numbers? The probability of a move greater than 5% to the downside after a confirmed Hindenburg Omen was 77%, according to historical data quoted on Benzinga. It usually takes place within 40 days of the first Hindenburg event. The probability of a panic sellout was 41% and the probability of a major stock market crash was 24%.
That said, there are plenty of Hindenburg false alarms, too -- and, for that reason, some analysts claim that it requires not just two, but between three and five Hindenburg events within a 14-day window to really send the signal to take the chips off the market table.
Anyone ready for a game of craps or roulette? Maybe we should just put all the money under the mattress at this rate and hope the Hindenburg doesn't crash over our houses.
Some fear that the Hindenburg Omen is a self-fulfilling prophecy. Convince enough investors that the Omen exists and they will start selling en masse, causing a market crash.
One can argue that regardless of the Hindenburg Omen or not, more accepted technical indicators are not looking particularly good, so any equity investor out there who isn't already cautious probably will watch their portfolio crash and burn.
Putting market voodoo aside for the moment, the Standard & Poor's 500 Index decline between Tuesday and Thursday was its largest since July 1. Federal Reserve chairman Ben Bernanke recently described the economic outlook as "unusually uncertain," and this week when the Fed decided to directly stimulate the economy for the first time in a year, it gave as a reason that growth "is likely to be more modest" than previously forecast.
These aren't exactly the type of comments that one would describe as fanning the flames of market paranoia, but they could add a little hot air to the zeppelin's ride.
-- Written by Eric Rosenbaum from New York.
Saturday, August 14, 2010
Coverage of Hindenburg Omen Gathers Steam
What I'm Looking to Do for 8/16/10
Cocoa -- looking to buy around 2800
Natural Gas -- looking to buy around 4265
Staggering FDIC Losses Being Hidden from Public
109 U.S. banks have failed so far this year, 23 in this quarter alone. These failures may not cost depositors, but they do come at a steep cost to the FDIC. As discussed here with ValuEngine’s Richard Suttmeier, the FDIC Deposit Insurance has already spent $18.93 billion this year, “well above the $15.33 billion prepaid assessments for all of 2010.”
The situation is likely even worse than the FDIC portrays, says William Black Associate Professor of Economics and Law at the University of Missouri-Kansas City.
“The FDIC is sitting there knowing that it has both the residential disaster and the commercial real estate disaster [and] knowing it doesn’t have remotely enough funds to pay for it,” he says.
What the FDIC should really be doing, Black argues, is raise its assessments to better reflect the true state of the banking system. However, that would turn an already precarious position into crisis as it would cause more banks would fail. The other option, though not politically plausible, would be to ask the Treasury Department or Congress for more funds.
Therefore, we’re left in our current situation. “That also means we’re following a Japanese type strategy of hiding the losses,” he says. “This is a really stupid strategy and it’s ours.”
It’s also not a money-making strategy for stock investors. Black reminds us Japan’s Nikkei is still worth about 75% less than it was before their bubble burst in late 1989.
partial interview transcript:
AAron Task: Should we be surprise there are not more bank failures?
William Black: Not Surprised,we should be upset there are not more bank failures. The industry has used its political muscle to get Congress to extort the financial accounting standards board to gimmick the accounting rules so that banks do not have to recognize their losses.
Aarron Task: In practical terms, what does the gutting of that rule mean for the banks?
William Black: Capital is defined as assets minus liabilities. If I get to keep my assets at inflated bubble values that have nothing to do with their real value, then my reported capital will be greatly inflated. When I am insolvent I still report that I have lots of capital.
Aaron Task: You are saying the FDIC is intentionally keeping foreclosures down because it knows it does not have enough money to pay off depositors who are insured by the FDIC?
William Black: That is correct and that is going to make ultimate losses grow. It also means we are following a Japanese type strategy of hiding the losses and we know what that produces - a lost decade, which is now two lost decades. Your listeners and viewers if they are stock types, look at the Nikkei. It lost 75% in nominal terms and has stayed that way for 20 years. I real terms it lost 85% of its value. This is a really stupid strategy. And it's ours.
Aaron Task: You can just keep kicking this down the road and have stagnant economic growth?
William Black: Geithner's original estimate was $2 trillion and of course things got much worse that their original estimates. The IMF estimates were in the $3 trillion range. So, there are trillions of dollars of unrecognized losses under these guy's scenarios. There is a huge slug, far more than they can pay for. What they are doing instead is these stupid subsidies for the biggest banks, with essentially no political oversight. It works, for the banks but it's really bad for the economy. It diverts moey from small businesses, large businesses, and entrepreneurs.
Aaron Task: What does it say to you that Tim Geithner and Larry Summers are still on the job?
William Black: Well I said it from the beginning, Geithner and Summers were selected and promoted, and the same is true with Bernanke, because they are willing to be wrong and have a consistent track record of being wrong. That's useful for senior politicians but disastrous for the country.
Jeff Harding on FrankenDodd, Part 3
Regulation of Derivatives and ABS
Recall that one of the major themes behind the Act is that the “murky” world of “exotic” instruments such as credit default swaps and asset backed securities (ABS) added unacceptable risk to the financial system. The goal of the Act is to provide “transparency” and “accountability” for those engaged in such instruments.
The SEC and Commodity Futures Trading Commission (CFTC) will regulate derivative markets. The CFTC is involved because they regulate the futures and options markets which are included within definition of “derivatives.”
The new rules:
The Wall Street Journal ran an article exploring the world of farmers and futures contracts. Farmers rely on forward contracts to hedge their risks. What was interesting is the conclusion of the article: “There is no real understanding if the Act will exempt, say farmers who use futures as a hedge, or make it more difficult for them to hedge.”
- Require securitizers of ABS to maintain 5% of the credit risk in assets transferred, sold, or conveyed through the issuance of ABS … The new rules must allocate the risk retention obligation between securitizers and originators. The retained risk may not be hedged. [The “skin in the game” rule.]
- Banks must spin off “riskier” swaps dealing activities but can still conduct such activities through separately capitalized affiliates.
- All standardized swaps must be cleared and exchange-traded.
- End users [i.e., those who use derivatives for actual commercial hedging purposes] are exempt from the clearing requirement …
- The banking regulators, the SEC and the CFTC, will set margin and capital requirements for uncleared swaps.
- Security-based swap dealers and major security-based swap participants will be required to comply with SEC-prescribed business conduct standards. … [They] will have a duty to communicate with counterparties in a fair and balanced manner based on principles of fair dealing and good faith and other standards and requirements prescribed by the SEC. [If you read The Big Short, you might say that this is the “Goldman Sachs Rule.”]
- It imposes new liability on securitizers for the underlying mortgages originated by third parties.
Office of Credit Ratings
To regulate credit rating agencies, a new Office of Credit Ratings is established. The most significant outcome of the Act is that investors are allowed to sue the rating agencies. They are now treated like other “experts” such as lawyers and accountants and are subject to the same liabilities.
There are basically only three credit rating agencies, Standard & Poor’s, Moody’s Investor Service, and Fitch Ratings. They are referred to as Nationally Recognized Statistical Rating Organizations (NRSROs) under the Act. These private companies are sanctioned by the SEC and the Treasury to give credit ratings. A kind of monopoly if you will. Basically you can’t sell a security to the public without a rating from one of these companies.
When the rating agencies figured out what the legislation was doing to them, they promptly notified their clients that they couldn’t use their ratings in ABS securities registrations. That apparently put a halt to the ABS market and caused Ford to pull a pending offering. This caused the SEC to postpone the rules for six months until they figure out what to do.
This rule is actually a good thing in my opinion within the current regulatory structure. The failures of the rating agencies were part of the problem with the mortgage backed securities market. It is apparent that it wasn’t just that they didn’t understand the risk involved, rather they ignored it. If a lawyer gave an opinion that caused investors to lose money because of the lawyer’s negligence, the lawyer gets sued. Why not the rating agencies?
Office of Investor Advocate
A new Office of Investor Advocate is set up within SEC; plus there is an Investor Advisory Committee.
There are a number of provisions promoting “corporate democracy” such as allowing shareholders to nominated directors, to vote a non-binding resolution on executive pay and retirement packages, and establishes new rules governing corporate compensation committees. One of the aims of the legislation was to discourage corporations from paying “excessive” compensation to their executives, in the belief that it encouraged short-term thinking while sacrificing long-term stability.
The most significant rule is that the SEC is granted discretionary rule making authority to establish new standards of conduct for broker-dealers and investment advisers when providing personalized investment advice to retail customers. The concept is that the broker must act in the ”best interest of the customer without regard to the financial or other interest of the broker-dealer or investment adviser providing the advice.” This gets close to making broker-dealers act in a fiduciary capacity to its retail customers.
Bureau of Consumer Financial Protection
A new agency, the Bureau of Consumer Financial Protection, has the task of regulating consumer financial products such as, checking accounts, private student loans and mortgages. The agency will have the authority to “deal with unfair, abusive and deceptive practices.”
The new bureau will set standards for credit cards. Certain penalties are eliminated, reducing bank profits, which will raise costs for consumers in other areas. This has nothing to do with the bust, but rather is an exercise of power by the Democratic majority to impose politically popular “consumer friendly” rules that limit penalties that upset credit card users and borrowers.
New mortgage lending rules are established: prepayment penalties are limited, banks must lend on the basis of the borrower’s ability to repay, borrowers must submit more data showing they have the ability to pay, loan brokers and loan officers can’t be compensated for steering customers to a particular type of loan or rate, and new appraisal regulations establish rules on appraiser compensation.
A new Office of Housing Counseling is established within HUD. This new agency is described as follows:
The [Office] establishes rules necessary for counseling procedures, contributing to the distribution of home buying information booklets, carrying out functions regarding abusive lending practices relating to residential mortgages, providing for operation of the advisory committee, collaborating with community-based organizations with expertise in the field of housing counseling and providing for the building capacity to provide housing counseling services in areas that lack sufficient servicesThe creation of this agency is not encouraging. It is yet another wasteful bureaucracy within a vast federal structure.
The Act increases the requirement to qualify as an “accredited investor,” the kind of investor one must have to avoid SEC registration for private placements. Accredited investors must now have a $1 million net worth excluding the value of their primary residence, whereas the old rule was simply a $1 million net worth.
Federal Insurance Office
This is new. Generally insurance companies are regulated by the states. The reason many insurance companies incorporate separate entities in each state is to avoid federal regulation. But, while most regulation is still relegated to the states, a new Federal Insurance Office can step in and take over a company if it threatens “financial stability”:
The Act creates the Federal Insurance Office (FIO), the primary task of which will be to monitor insurance issues of national importance and give reports to the Secretary of the Treasury and Congress on such issues. The FIO also will advise the Secretary on major domestic and international insurance issues. …Remember AIG? Nothing, it appears, is beyond the reach of federal control. Like other powers granted by the Act, the new FIO can basically regulate any insurance company it finds to be a threat to financial stability.
The Act gives the FIO the authority to supervise … an insurance company, if material financial distress at the company or the activities of the company could pose a threat to the financial stability of the United States. An insurance company subject to the FIO’s supervision will be required to meet certain “prudential standards” concerning its operation. The prudential standards will be more stringent than those applicable to other nonbank financial companies that do not present similar risks to the nation’s financial stability.
The Act provides for the orderly liquidation of companies under the FIO’s supervision if it is determined that they should be put into receivership. The prudential standards concerning the operations of insurers under supervision will be in addition to, or instead of, state insurance regulations. The prudential standards may limit the ability of subject insurance companies to operate with the same level of freedom they now enjoy under the state-based regulatory regime. Overall, the states’ ability to regulate insurance companies under the FIO’s supervision may be more limited as a result of the Act.
Regulation of Investment Advisors
Formerly mildly regulated private investment advisors are now required to file a statement with the SEC describing their activities. The law applies only to those advisers with $150 million under management. Private family offices are exempt.
Hedge Fund Regulation
Large hedge funds and fund advisers ($150 million plus) must “register” with the SEC. Many large funds already register so this will only affect the smaller funds.
Extraterritoriality of the Act
This is one of the aspects of the Act that seems to be passed over by commentators, but the Act grants the regulators the power to extend control over economic activity normally beyond the jurisdiction of the federal government. Gibson Dunn explains the new extraterritorial provisions of the Act as follows:
Securities markets are increasingly global with multinational companies listing securities for trading in the United States and with trading in U.S. securities occurring in overseas markets. At the end of its most recent term, however, the Supreme Court ruled that Section 10(b) of the Securities Exchange Act prohibited fraud only in connection with the purchase or sale of securities listed for trading on a domestic, United States exchange and did not extend to securities listed abroad but traded in the United States through American Depositary Receipts. Morrison v. National Australia Bank, N.A. ___ U.S. ___, No. 08-1191 (June 24, 2010).I am sure this new authority will be tested in the courts, and perhaps the Morrison case may give us hope these vague powers will be deemed unconstitutional, but the intent of the Act is to allow no foreign refuge.
Congress added provisions to the Act which restored the authority of the SEC and of the Department of Justice. In particular, the Act amended Section 22 of the Securities Act, Section 27 of the Securities Exchange Act, and Section 214 of the Investment Advisers Act to confer U.S. court jurisdiction over violations of the three anti-fraud provisions involving (i) conduct within the United States that constitutes significant steps in furtherance of the violation, even if the securities transaction occurs outside the United States and involves only foreign investors, or (ii) conduct occurring outside the United States that has a foreseeable substantial effect within the United States.
The federal government’s extraterritoriality push is part of a larger move toward supranational regulation of financial companies. Since the 2008 crash, countries have been meeting under the auspices of the Bank of International Settlements to discuss international financial stability. One of the outcomes of these efforts will be the new Basel III requirements regarding bank capital and liquidity structures. For example, the minimum Tier 1 leverage ratio for banks worldwide will be 3%.
Is Your Gold Conflict Free?
The Act condemns ‘conflict’ minerals from the Democratic Republic of the Congo, and as such the SEC will draft rules to assure a conflict free chain of custody to prove they are not from sources deemed exploitative such as local warlords. The minerals include gold which is produced by artisanal miners in certain areas. The SEC will produce a map of Congo to aid buyers.
Jeff Harding on FrankenDodd, Part 2
Assumptions Guiding the Act
The Act is guided by several broad concepts:
- Wall Street must be strictly regulated to prevent systemic risk and to promote financial stability.
- Large interconnected international financial companies are inherently risky.
- Excessive leverage leads to systemic risk.
- A lack of transactional transparency impeded necessary regulatory control.
- Investors lacked information to properly understand the nature of complex risky securities.
- Regulators are capable of carrying out the intent of the Act.
Lenders, investment bankers, credit-rating firms, mortgage brokers and others had ample incentive to take risks, often with other people’s money. That led to a bubble in credit: too much borrowing.Description of the Act
The explosion of trading in the shadowy worlds of derivatives and hedge funds hid risks, and perhaps even created new ones, without the transparency essential to well-functioning markets.
Big financial firms lacked sufficient capital cushions to withstand a shock, and assets they could sell quickly to raise needed cash. …
For the inevitable day when another big financial firm gets into trouble, the bill attempts to impose order and punishment—but gives authorities the power to use taxpayer money if they deem it necessary. …
What is obvious from a review of the Act is that the powers granted are very broad, almost unlimited, ill-defined, and yet to be written. The following descriptions of the Act are intended to give you an idea as to the vast scope of the Act and the powers granted. I have picked out some of the more important powers, but the Act is much more invasive and controlling than what I am describing here. I have gone into some detail because I believe that most people don’t understand how pervasive the Act is. Please bear with me here; it will be eye-opening.
Here is a major law firm’s (Gibson Dunn) overview of the Act:
[The Act] … seeks to increase financial marketplace transparency and stability by establishing a Financial Stability Oversight Council (the “Council”) focused on identifying and monitoring systemic risks posed by financial firms and by financial activities and practices. It establishes a new regulatory and supervisory framework for “large, interconnected” banking organizations and certain nonbank financial companies. By a two-thirds vote, the Council can determine which U.S. and foreign nonbank financial companies that are predominantly engaged in financial activities (together “NBFCs”) are to be subject to enhanced supervision (“Supervised NBFCs”) by the [Fed], based on the perceived risk a company poses to financial stability in the United States. Empowering the Fed to implement this regime substantially enhances its powers and responsibilities.As you will see, the Act, while it comprises 2,300 pages, speaks mostly of legislative goals, with specific requirements that require fleshing out by rules and regulations that will follow. For the most part, the actual law will be developed by the mandarins.
The Concept of Financial Risk
The entire Act is built around the concept of protecting the “financial stability” of the economy. The term “financial stability” is mentioned about 80 times in the Act but there is no definition of what it is. The Act assumes that the Council will know it when it sees it.
Instead of defining the term, the Act assigns the new Financial Stability Oversight Council the duty of regulating companies whose activities threaten “financial stability.” The Council is obligated to conduct studies and make findings on which to base new rules and regulations which establish “prudential standards” for regulated companies. It is assumed that out of that process “financial stability” will be defined, but it seems no one really knows what “financial stability” is or what consists of a threat to it. Which is a problem is when you give vast powers to a new agency: it makes their powers almost unlimited.
The likelihood of finding this Act unconstitutional because of vagueness is low. Consider the fact that a Council takeover of a company because it is a “threat to financial stability” will probably only be challenged in the courts during a financial crisis. This puts pressure on judges who have little knowledge of economics. They would be afraid to assume responsibility for the economy. Since the experts testifying in court will most likely be mainstream economists and financiers who believe in current economic thinking that such powers are necessary to save the economy, it is unlikely that courts will believe the testimony of “outliers” such as Austrian theory economists.
The Act thus creates a board of economics czars who will have almost unlimited powers to regulate the financial sector of the economy.
Financial Stability Oversight Council
The Act creates a council of regulators, the Financial Stability Oversight Council, to monitor and regulate companies it believes have the ability to jeopardize financial stability. It is to be chaired by the Secretary of the Treasury. The Fed ends up as the primary regulator of financial firms and oversees the Council.
The idea is to prevent big “interconnected” banks and other large financial institutions such as hedge funds, investment banks, and insurance companies, from blowing up again. The extension of federal power to regulate nonbank financial institutions is a major expansion of federal authority.
The Council has the power to seize and break up financial firms whose collapse would put the economy in danger (“threaten the financial stability of the economy”). The Fed has the responsibility to decide whether the Council should vote on breaking up big companies. A position of a second Fed vice-chair is established to supervise financial firms; the White House appoints him or her (they have nominated Janet Yellen).
How the Rules Will Be Determined
The Council is given the following duties:
- Collect information from member agencies and other regulators, and research the issues.
- Adopt comprehensive regulations to control financial institutions.
- Monitor the financial services marketplace to identify potential threats to U.S. financial stability.
- Monitor domestic and international financial regulatory proposals and developments, including insurance and accounting issues.
- Advise Congress and make recommendations that will enhance the integrity, efficiency, competitiveness, and stability of the U.S. financial markets.
- Facilitate information sharing and coordination among the member agencies and other federal and state agencies regarding domestic financial services policy development, rulemaking, examinations, reporting requirements, and enforcement actions
- Recommend general supervisory priorities and principles.
- Identify gaps in regulation that could pose risks to U.S. financial stability.
- Require supervision by the Fed for nonbank financial companies that may pose risks to U.S. financial stability in the event of their material financial distress or failure, or because of their activities.
- Make recommendations to the Fed concerning the establishment of heightened prudential standards for risk-based capital, leverage, liquidity, contingent capital, resolution plans and credit exposure reports, concentration limits, enhanced public disclosures, and overall risk management for big interconnected banks and big financial institutions.
- Identify systemically important financial market utilities and payment, clearing, and settlement activities.
- Make recommendations to primary financial regulatory agencies to apply new or heightened standards and safeguards for financial activities or practices that could create or increase risks of significant liquidity, credit, or other problems spreading among big banks and other big financial institutions and U.S. financial markets.
- regulations implementing the permitted transactions provisions and any limitations on permitted transactions.
- regulations imposing additional capital requirements and quantitative limits (including diversification requirements) on permitted activities if the Regulators determine these limitations are appropriate to protect safety and soundness of banking entities engaged in permitted activities.
- regulations setting the ownership level in a fund that is “immaterial to the banking entity” which in any event cannot be more than 3% of the banking entity’s own tier 1 capital [Volcker Rule]. The Volcker Rule will apply to any entity deemed to be systemically important nonbank financial companies
- regulations regarding internal controls and record keeping to insure compliance with the Rule.
- rules determining what “similar funds” are to be included in the definition of “hedge fund” and “private equity fund.”
- rules defining the full extent of the definition of “trading account” for purposes of purposes of determining the scope of prohibitions on proprietary trading.
- rules defining additional securities that, if traded by a covered entity as a principal for its own trading account, constitute proprietary trading.
- rules defining additional accounts that count as “trading accounts” for purposes of determining the scope of the prohibition on proprietary trading.
Some of the key rules that apply to large ($50+ billion) interconnected financial companies include:
- The new “prudential standards” to be adopted by the Council may “differentiate” among companies, which means the Council can set “heightened standards” for some companies but not others, as they see fit.
- The new “prudential standards” may include risk-based capital requirements, leverage limits, liquidity requirements, resolution plan and credit exposure report requirements, concentration limits, a contingent capital requirement, enhanced public disclosures, short-term debt limits, and overall risk management requirements.
- The Council can limit a company’s leverage (i.e., debt to equity ratio) to 15 to 1, or less, if the company is found to pose a “grave threat to financial stability.”
- A new requirement requires regulated companies to “maintain a minimum amount of long-term hybrid debt that is convertible to equity in times of financial stress“ (”contingent capital”). In essence, the Council can require a company to convert this debt to equity in the event of a financial crisis. The Council has 2 years to study this and then tell us what this means.
- Regulated companies cannot have a credit exposure to a single unaffiliated firm that exceeds 25% of its capital and surplus.
- The “Volcker Rule” requires banks to limit proprietary trading to 3% of Tier 1 capital; they will have 7 years or longer to wind down such investments. The purpose of the rule is to restore “the Glass-Steagall barrier between commercial and investment banks” and to “update that barrier to reflect the modern financial world and permit a broad array of low-risk, client-oriented financial services.” In other words, banks, for the most part, will be more like utilities.
- A bank or a “systemically important nonbank financial company” is prohibited from acquiring or retaining any ownership interest in or sponsoring a hedge fund or private equity fund.
- Regulated companies cannot acquire any company with $10 billion or more in assets without giving the Fed prior notice.
- Banks must write “living wills” which is a roadmap for dissolution if seized by the government.
- Judicial review of a decision to subject a nonbank financial institution to the Council’s authority is limited to a finding that the decision was not “arbitrary and capricious.”
- To commence an “Orderly Liquidation Authority” (i.e., seizure of a financial institution determined to be in default or about to default), the Council must petition the D.C. District Court. The government only has to prove that (i) the company is in default or about to default, and (ii) the decision was not “arbitrary and capricious.” If the court fails to act within 24 hours of receiving the petition, the order goes into effect. The company affected may appeal the decision to the D.C. Court of Appeals, but the grounds of appeal are limited to the same findings as in the District Court. Once the petition is granted, the case proceeds similar to bankruptcy case.
- Do you recall President Obama’s promise that we taxpayers will never have to pay for bailouts again? That is not true, and they have found a way around unpopular bailouts. According to the Act, while the Fed cannot lend to specific companies it can lend as much as needed to “economic sectors”.
- Ron Paul’s efforts to gain oversight of the Fed were largely ignored, but the Act does prise open a small crack by allowing the GAO to audit certain emergency actions and the Fed must disclose the details of certain loan activity.
Jeff Harding on FrankenDodd, Part 1
Part 1 by Jeff Harding of the Daily Capitalist blog:
More than just a new law, the Dodd-Frank “Wall Street Reform and Consumer Protection Act” (the “Act”) gives government a relatively free hand to set prices and wages, to make business decisions, to promote or eliminate businesses, and to break up businesses. It establishes a large new bureaucracy to enable the government to dictate its wishes to the industry.
A major law firm described the Act as follows:
The Act marks the greatest legislative change to financial supervision since the 1930s. This legislation will affect every financial institution that operates in this country, many that operate from outside this country and will also have a significant effect on commercial companies. As a result, both financial institutions and commercial companies must now begin to deal with the historic shift in U.S. banking, securities, derivatives, executive compensation, consumer protection and corporate governance that will grow out of the general framework established by the Act. While the full weight of the Act falls more heavily on large, complex financial institutions, smaller institutions will also face a more complicated and expensive regulatory framework.The Act isn’t directed just at the financial sector; because of its vast scope, it is directed against everyone.
Startling as it may seem, the Act does nothing significant to prevent the real causes of this or any future boom-bust cycle. At best one may analogize this as the doctor breaking the thermometer to cure a fevered patient. At worst it is a massive federal power grab which will inhibit financial innovation, increase the cost of money, and open wide the gates to a favored few where politicians, politics, and lobbyists, rather than markets, determine the direction of the financial sector of America’s economy.
While the new law has been signed by the President, it has not yet been written. That task will be the job of federal mandarins, the career lawyers and economists inside and outside of government who live off of government regulation. As such the ultimate consequences of this Act are unknown and will not be fully known until years later after the regulations have been written, agencies are established, and power is distributed among the bureaucrats. In other words, the Act’s advocates have no idea how the new law will impact the economy.
The ‘Failure of Capitalism’
The Act assumes that the economic bust was caused by a failure of capitalism and a failure of government to properly regulate the economy.
Upon signing the Act, President Obama said:
“For years, our financial sector was governed by antiquated and poorly enforced rules that allowed some to game the system and take risks that endangered the entire economy,” Mr. Obama said.
The new law, he said, would better protect consumers, empower investors and bring transparency to dark corners of the financial markets.
“The American people will never again be asked to foot the bill for Wall Street’s mistakes,” Mr. Obama said. “There will be no more taxpayer-funded bailouts. Period.”
The President and most politicians, Republicans and Democrats, blame the crisis on capitalism itself, and, rather incredibly, on what they view as unregulated “laissez-faire” capitalism. They ignore the fact that the financial industry is one of the most regulated sectors of our economy. When they say “laissez-faire” what they really mean is that they want to completely control the financial sector.
The President views Wall Street and free enterprise with disdain, repulsed by what he sees as just the latest failure of capitalism and the “old ways and failed policies of yesterday.” He believes, as the benevolent legislator-in-chief, he must step in and protect us from evil predations of Wall Street like a shepherd guarding his flock: only the guiding hand of government can make capitalism safe for society.
The President, like most politicians, lawyers, and economists, believes that the economic bust was caused by greed, excessive compensation, fraud, speculation, complex securities that no one understood, predatory Wall Street practices, and a lack of sufficient regulatory powers. These factors, they say, allowed financial institutions to take unnecessary risks which jeopardized the world’s financial system and almost brought it down.
The problem is that their beliefs are wrong and they make up data to fit their beliefs. Their conventional wisdom fails to satisfactorily explain the actual underlying causes of this boom-bust cycle and the new law will do nothing to prevent another cycle. The factors they blame for the crash always exist in financial markets, and yet, for reasons they do not explain, actors on the financial stage suddenly explode into an orgy of greed directed at the housing market.
There are two questions you should consider while evaluating the Act’s impact and scope that help explain this boom-bust cycle:
- Why did the housing market become a bubble?
- Why would any lender lend money to a home buyer who (i) had a credit score of 500, (ii) made a down payment of 5% or less, and (iii) didn’t have to prove his or her ability to repay?
- Only cheap money drives bubbles and there is only one entity that creates cheap money and that is the Federal Reserve—from 2000 to 2004 the Fed Funds rate went from 6.5% to 1.0% wildly distorting entrepreneurial behavior. This was the cause of this boom-bust cycle.
- No one would lend so carelessly unless they didn’t care. They didn’t care because someone else, in this case the government (Fannie, Freddie, and the FHA), would guarantee repayment.
The Act’s Timing
This chart gives a good picture of the timing for implementing the Act:
Now, the legislation hands off to 10 regulatory agencies the discretion to write hundreds of new rules governing finance. Rather than the bill itself, it will be this process—accompanied by a lobbying blitz from banks—that will determine the precise contours of this new landscape, how strict the new regulations will be and whether they succeed in their purpose. The decisions will be made by officials from new agencies, obscure agencies and, in some cases, agencies like the Federal Reserve that faced criticism in the run-up to the crisis.Law firm Davis Polk Wardwell calculated the number of agencies involved in the rule making process. In the below chart, the “Bureau” is the Bureau of Consumer Financial Protection, the “Council” is the Financial Stability Oversight Council, and the “OFR” is the Office of Financial Research:
The Commodity Futures Trading Commission has designated 30 “team leaders” to begin implementing its expansive new authority over derivatives, and has asked for $45 million for new staff. The Federal Reserve, Federal Deposit Insurance Corp. and Securities and Exchange Commission are also in the thick of the implementation.
The Act will be a siren call to lobbyists, lawyers, accountants, and economists.
Regime Uncertainty and Perfect Wisdom
The initial impact of any new and unwritten law is uncertainty, and uncertainty is what business abhors. “Regime uncertainty,” a concept developed by economist Robert Higgs, says that such legislation causes businesses to pause expansion until they know how the law will affect them. This is apparently already happening:
The timing of Dodd-Frank could hardly be worse for the fragile recovery. A new survey by the Vistage consulting group of small and midsize company CEOs finds that “uncertainty” about the economy is by far the most significant business issue they face. Of the more than 1,600 CEOs surveyed, 87% said the federal government doesn’t understand the challenges confronting American companies.Yet Treasury Secretary Timothy Geithner believes they can regulate us with perfect wisdom:
Treasury Secretary Timothy Geithner vowed the Obama administration would try to avoid choking off economic growth as it implements the financial-regulatory overhaul enacted last month and pursues new reform measures.Mr. Geithner believes in the “just right” Goldilocks philosophy of regulation. I question that any central planner would have the wisdom to supplant the decisions of millions of economic actors without negative consequences. One might say this is a form of arrogance associated with (almost) absolute power.
In his first public appearance before Wall Street executives since the Dodd-Frank bill was signed July 21, Mr. Geithner said the administration would eliminate old “rules that did not work” even as federal agencies are writing the more than 200 new rules required by the regulatory overhaul.
Mr. Geithner said the changes were needed to curtail “too much freedom for predation, abuse and excess risk,” but said it should still seek to “safeguard the freedom, competition and innovation that are essential for growth.”
‘Some Provisions of the Act Are Good’
When we evaluate the Act it would be a mistake to look at its individual parts rather than its whole. To look at one provision and say, “well that sounds reasonable” is a form of political diversion that only serves to obscure the fact that the thousands of provisions in this Act taken together vastly enlarge the power of the federal government and reduce individual freedom. That cannot be good.
I will say that some of the provisions, in light of the Wall Street-Washington Financial Complex’s system of crony capitalism, may actually reduce some risk that we taxpayers will eventually have to pay for. But that ignores the power and influence of Wall Street and its friends within government to influence rule-making to suit their needs (“regulatory capture”).
This revolving door between Washington and Wall Street allows people attracted to power and who are skeptical of the ideals of a free market, to dominate economic policy for their benefit. One way to say this is that it creates a partnership between the financial sector of the economy and the government (which is the controlling partner in this relationship). In the 1930s this type of political system was greatly admired in Washington. Today this system has evolved into “crony capitalism,” an oligarchic structure maintained by the Wall Street-Washington Financial Complex to perpetuate itself.
2-in-3 Odds of Another Contraction
ECRI [Economic Cycle Research Institute, his favorite forecasters] is pointing to 2-in-3 odds of another contraction in real GDP. Whenever we get three straight declines in Household employment, we are in recession or about to head into one fully 98% of the time." David Rosenberg
Philly Fed Survey Forecast Turns Gloomy
"The outlook for growth in the U.S. economy looks weaker now than it did just three months ago, according to 36 forecasters surveyed by the Federal Reserve Bank of Philadelphia. The forecasters see real GDP growing at an annual rate of 2.3 percent this quarter, down from the previous estimate of 3.3 percent. On an annual-average over annual-average basis, the forecasters expect slower real GDP growth in 2010, 2011, and 2013.The forecasters see real GDP growing 2.9 percent in 2010, down from their prediction of 3.3 percent in the last survey."
The downward revision to growth is accompanied by weaker conditions in the labor market. Unemployment is now projected to be an annual average of 9.6 percent in 2010, before falling to 9.2 percent in 2011, 8.2 percent in 2012, and 7.3 percent in 2013. These estimates are higher than the projections in the last survey. On the jobs front, the forecasters have revised downward the growth in jobs over the next four quarters. The forecasters see nonfarm payroll employment growing at a rate of 8,000 jobs per month this quarter and 114,100 jobs per month next quarter. The forecasters’ projections for the annual average level of nonfarm payroll employment suggest job losses at a monthly rate of 45,200 in 2010. Job gains in 2011 are seen averaging 143,800 per month, as the table below shows. (These annual-average estimates are computed as the year-to-year change in the annual-average level of nonfarm payroll employment, converted to a monthly rate.)
WSJ Asks "Is a Crash Coming?"
by Brett Arends at WSJ:
Could Wall Street be about to crash again?
This week's bone-rattlers may be making you wonder.
I don't make predictions. That's a sucker's game. And I'm certainly not doing so now.
But way too many people are way too complacent this summer. Here are 10 reasons to watch out.
1. The market is already expensive. Stocks are about 20 times cyclically-adjusted earnings, according to data compiled by Yale University economics professor Robert Shiller. That's well above average, which, historically, has been about 16. This ratio has been a powerful predictor of long-term returns. Valuation is by far the most important issue for investors. If you're getting paid well to take risks, they may make sense. But what if you're not?
2. The Fed is getting nervous. This week it warned that the economy had weakened, and it unveiled its latest weapon in the war against deflation: using the proceeds from the sale of mortgages to buy Treasury bonds. That should drive down long-term interest rates. Great news for mortgage borrowers. But hardly something one wants to hear when the Dow Jones Industrial Average is already north of 10000.
3. Too many people are too bullish. Active money managers are expecting the market to go higher, according to the latest survey by the National Association of Active Investment Managers. So are financial advisers, reports the weekly survey by Investors Intelligence. And that's reason to be cautious. The time to buy is when everyone else is gloomy. The reverse may also be true.
4. Deflation is already here. Consumer prices have fallen for three months in a row. And, most ominously, it's affecting wages too. The Bureau of Labor Statistics reports that, last quarter, workers earned 0.7% less in real terms per hour than they did a year ago. No wonder the Fed is worried. In deflation, wages, company revenues, and the value of your home and your investments may shrink in dollar terms. But your debts stay the same size. That makes deflation a vicious trap, especially if people owe way too much money.
5. People still owe way too much money. Households, corporations, states, local governments and, of course, Uncle Sam. It's the debt, stupid. According to the Federal Reserve, total U.S. debt—even excluding the financial sector—is basically twice what it was 10 years ago: $35 trillion compared to $18 trillion. Households have barely made a dent in their debt burden; it's fallen a mere 3% from last year's all-time peak, leaving it twice the level of a decade ago.
6. The jobs picture is much worse than they're telling you. Forget the "official" unemployment rate of 9.5%. Alternative measures? Try this: Just 61% of the adult population, age 20 or over, has any kind of job right now. That's the lowest since the early 1980s—when many women stayed at home through choice, driving the numbers down. Among men today, it's 66.9%. Back in the '50s, incidentally, that figure was around 85%, though allowances should be made for the higher number of elderly people alive today. And many of those still working right now can only find part-time work, so just 59% of men age 20 or over currently have a full-time job. This is bullish?
(Today's bonus question: If a laid-off contractor with two kids, a mortgage and a car loan is working three night shifts a week at his local gas station, how many iPads can he buy for Christmas?)
7. Housing remains a disaster. Foreclosures rose again last month. Banks took over another 93,000 homes in July, says foreclosure specialist RealtyTrac. That's a rise of 9% from June and just shy of May's record. We're heading for 1 million foreclosures this year, RealtyTrac says. And naturally the ripple effects hurt all those homeowners not in foreclosure, by driving down prices. See deflation (No. 4) above.
8. Labor Day is approaching. Ouch. It always seems to be in September-October when the wheels come off Wall Street. Think 2008. Think 1987. Think 1929. Statistically, there actually is a "September effect." The market, on average, has done worse in that month than any other. No one really knows why. Some have even blamed the psychological effect of shortening days. But it becomes self-reinforcing: People fear it, so they sell.
9. We're looking at gridlock in Washington. Election season has already begun. And the Democrats are expected to lose seats in both houses in November. (Betting at InTrade, a bookmaker in Dublin, Ireland, gives the GOP a 62% chance of taking control of the House.) As our political dialogue seems to have collapsed beyond all possible hope of repair, let's not hope for any "bipartisan" agreements on anything of substance. Do you think this is a good thing? As Davis Rosenberg at investment firm Gluskin Sheff pointed out this week, gridlock is only a good thing for investors "when nothing needs fixing." Today, he notes, we need strong leadership. Not gonna happen.
10. All sorts of other indicators are flashing amber. The Institute for Supply Management's manufacturing index, while still positive, weakened again in July. So did ISM's new-orders indicator. The trade deficit has widened, and second-quarter GDP growth was much lower than first thought. ECRI's Weekly Leading Index has been flashing warning lights for weeks (though the most recent signals have looked somewhat better). Europe's industrial production in June turned out considerably worse than expected. Even China's steamroller economy is slowing down. Tech bellwether Cisco Systems has signaled caution ahead. Individually, each of these might mean little. Collectively, they make me wonder. In this environment, I might be happy to buy shares if they were cheap. But not so much if they're expensive. See No. 1 above.
An Endless Process of Improvement in Trading Skills
You may not be familiar with the amazing breakthrough one mass marketer of shampoo used to skyrocket sales. It wasn't from nanotechnology or landing a monster account with China. The breakthrough happened when the company added one word to the shampoo bottle:
"Lather, rinse ... repeat."
You and I might not be in the shampoo biz, but we still can benefit tremendously from the strategic use of the word "repeat." When you repeat something in your business, are you getting better at it, or simply repeating? Does your business look like an upward spiral or more like a dog chasing its tail?
If you want to leverage repetition to turbo-charge your business, consider the following six steps:
- Pick a worthy process to improve.
There's not much point in becoming world-class at something that plays a minor role in your business. Use the 80/20 rule to determine what one or two major actions in your business -- if repeated and improved -- could result in a big lift to your bottom line.
In my case, the decision was simple. I'm in the business of buying delinquent loans and then collecting on them with honesty and integrity. Real estate moguls often say that "You make your money when you buy." This is true for buying loans at a discount, and it's no doubt true for many other businesses that buy raw materials or assets. First, focus on your buying process -- or perhaps converting phone leads to paying customers -- and deal with the small fry later.
- Expect imperfection and execute anyway.
We've all heard of analysis paralysis. An even bigger problem that afflicts many businesses is "perfection paralysis." They don't follow the "ready, aim, fire" approach, but instead go "Ready, aim, aim, aim..."
I know the feeling. When I decided to buy my first loans and collect on them, I didn't have a clue about bill collecting (other than from the perspective of a delinquent borrower). I really needed to learn about this industry if I was to succeed. On the other hand, I was highly motivated to get out of the "aim...aim" rut because I was more than broke -- I was a million bucks in the hole.
Don't bet the farm on your early attempts, but don't delay, either: One quick, early action is worth a hundred timid measurements.
- Document and measure.
Here's the boring part. Nobody likes to write down processes and measure them because it seems like a waste of time -- a mere clerical function when you could be taking "real" action elsewhere.
Believe me when I tell you from 40 years of business experience that this boring clerical function can make you millions of dollars. When you lay down a process on paper, suddenly you begin to ask questions: Why do we do it this way? When did we change the procedure? Who's handling this part?; You might even step back and ask: What lunatic ever designed this mess?
It's not the writing down or measuring that will make you money, but instead the questions, answers and changes that will follow. In our case, we measured every one of the 4.5 million loans we settled with customers to see how our original pricing estimate matched up with the reality of what we collected on those loans. It's what allowed us to get so good that we eventually controlled 51% of all delinquent credit card debt in America.
- Trust but verify.
As I said, few companies take the time to document their processes. Even fewer will follow up to ensure the process on paper is what's being executed. Here you are, reading a report and drawing conclusions about sales of the new widget you shipped last month, but no one's had the nerve to tell you that a part was backordered, and Ralph in engineering decided to make a substitution.
Maybe Ralph was right to do so, but you're not right to draw any conclusions about that new widget. I once had a rude awakening when I discovered that several processes were not being followed and no one had informed me. For the following two weeks, my senior staff and I met for hours after 5 p.m. to walk through every line item of every key process in the company to make sure we were looking at the actual processes. Afterwards, I finally felt like I could trust the numbers again and make sound decisions.
- Learn and improve.
This is where you turn the dog-tail chasing into an upward spiral of profits. You know your processes, you're measuring them accurately and you're asking questions. Are you getting better in terms of speed, profit margins, safety or any other critical measures? If not, why not? Who knows the bottlenecks intimately and could suggest improvements? What new technology or approach might strengthen a weak link?
- Never stop.
The bad news is you can never really cross this item off your to-do list. The good news is you should never want to, because it's what separates the world-class companies from all the rest.
Friday, August 13, 2010
"If you don't believe there's going to be a double dip, it's because the first recession never ended."
"If you don't believe there's going to be a double dip, it's because the first recession never ended. If there is going to be a double dip, the odds are certainly higher than 50-50." - David Rosenberg
Rosenberg also said:
- that Q2 GDP is likely to be revised downward to 1% or 1.5%
- Q3 is likely to have growth of 0%!
- Q4 is likely to see GDP contraction
- Inventory-building was 2/3 of growth
- 1/3 was policy stimulus
PIMCO Cutting US Treasury Holdings
Pimco's Total Return Fund has released its July portfolio composition. The most notable difference is the cut in US Treasury holdings from 63% (or $147 billion) in June to "just" 54% in July: an almost $20 billion reduction in UST holdings. And even as he cut his government holdings, Gross kept flat or added to all other asset classes, with MBS increasing from 16% to 18% of AUM, and EM holdings increasing to a record 11% of holdings.
Goldman's Noyce Anticipates "Meaningful Decline" in Stocks
"as discussed in recent client meetings, while the timing is difficult, we remain concerned that a larger topping structure is still being formed on the S&P – which will eventually lead to another meaningful decline."
It's Time to Pay for Keynesian Economics
Keynesian stimulus can’t be blamed for all our problems, but it would have been nice if our politicians hadn’t relied on it so blindly. Debt is debt is debt, after all. It doesn’t matter if it’s owed by governments or individuals. It weighs on the institutions that issue too much of it, and the ensuing consequences of paying off the interest costs severely hinders governments’ ability to function properly. It suffices to say that we need a new economic plan – a plan that doesn’t invite governments to print their way out of economic turmoil. Keynesian theory enjoyed a tremendous run, but is now for all intents and purposes dead… and now it’s time to pay for it. Literally. - Eric Sprott
Healthcare Reform a Paperwork Nightmare for Farmers
U.S. Representative Adrian Smith, R-Neb., believes farmers face an administrative nightmare with President Obama's new health care law. Section 9006 of the law requires that all businesses file a 1099 with the Internal Revenue Service for every contractor from which they purchase $600 or more in goods or services in a calendar year.
During the weekly House Agriculture Committee Republicans feature the Ag Minute, Smith further explained the situation by saying that when a farmer or rancher spends $600 on feed corn, seeds, fertilizer, fuel, tractors or nearly every other expense, they will have to research and prepare a 1099 form for each and every purchase. He said this will prove to be an administrative nightmare for the nation's family farms.
In response, Smith has cosponsored HR 5141, the Small Business Paperwork Mandate Elimination Act, which will repeal this new requirement. According to Smith the nation's farmers and ranchers already have enough headaches when it comes tax time and Congress shouldn't be making them worse to pay for a misguided health care bill.
Hindenburg Omen Noticed by Wall Street Journal
Forget about Friday the 13th. Many on Wall Street took to whispering about an even scarier phenomenon—the "Hindenburg Omen."
The Omen, named after the famous German airship in 1937 that crashed in Lakehurst, N.J., is a technical indicator that foreshadows not just a bear market but a stock-market crash. Its creator, a blind mathematician named Jim Miekka, said his indicator is now predicting a market meltdown in September.
Wall Street has been abuzz about whether the Hindenburg Omen will come to bear, with some traders cautioning clients about the indicator and blogs pondering all the doom and gloom.
Cotton Prices Exploding to Multi-Year Highs
Prices of futures contracts have risen 16% in the past month to the highest since March 2008. The latest rally got underway on widespread concerns that tight global supplies wouldn't be able to keep pace with surprisingly robust demand from textile makers.
Prices got a new boost on Thursday from a widely anticipated report from the U.S. Department of Agriculture quantified the potential damage to the cotton crop in Pakistan, which is likely to boost import volume this year
Fed's Hoenig: Current Policy is "a Dangerous Gamble"
Hoenig is the longest-serving and most experienced Fed Bank president.
WASHINGTON (MarketWatch) -- In perhaps one of the sharpest critiques of Federal Reserve policy ever from a sitting policy member, Thomas Hoenig, the president of the Kansas City Federal Reserve Bank, said zero interest rates were "a dangerous gamble" in a period of moderate growth. In a speech in Lincoln, Nebraska, Hoenig warned that Fed Chairman Ben Bernanke and his allies were trying to use monetary policy as a "cure-all" for "every problem faced by the United States today." Keeping rates too low for too long will only lead to a repeat of the cycle of severe recession and unemployment in a few short years, he warned. Hoenig has dissented at every Fed policy meeting this year. He wants the Fed to commit to a slow and gradual increase in the target Federal funds rate. Hoenig argued that the economic news was not as bad as reported in the media and described by Wall Street experts. The markets want zero rates to continue because they are earning guaranteed returns on free money, he said. Hoenig dismissed fears of deflation.
Rosenberg: Likely to See Double Dip
The odds of a double-dip recession in the U.S. are “certainly higher than 50-50” and the economy could contract again by the end of this year, David Rosenberg, chief economist at Toronto-based Gluskin, Sheff & Associates said on Friday.
“The recession may not have ended last year after all,” Mr. Rosenberg said in a video interview with WSJ.com. “This is a totally different animal than anything we’ve seen in the post-World War II period.”
Mr. Rosenberg has for months been cautioning that the economic recovery would lose momentum and the stock-market rally fizzle, a scenario that has largely unfolded in recent months. Gross domestic product growth has already slowed from 3.7% annualized in the first quarter to 2.4% in the second quarter, according to the Commerce Department, and more recent data suggest the second-quarter figure could be revised lower, closer to growth of just 1%.
That doesn’t leave the economy with much momentum heading into the second half of this year. Mr. Rosenberg expects third-quarter GDP will be “flat” and as for the fourth quarter, he said, “there’s a significant chance that the economy could be contracting again.”
What makes the current downturn much different from its predecessors is “the credit contraction of historical proportions,” he said. “The range of outcomes right now is extremely wide, wider than I’ve seen in my professional lifetime.” Mr. Rosenberg reiterated his view that government and corporate bonds are the best bet for investors in this kind of environment, adding that the stock market is at least 15% to 20% overvalued based on his view of slowing economic growth.
To combat the weakness, he said, policymakers should forgo short-term stimulus policies such as cash for clunkers and instead cut corporate taxes to help foster job creation. “We need a war on unemployment,” Mr. Rosenberg said.
Amazing Overnight Reversal
Europe, with Germany leading the way, is putting its fiscal house in order, and is thus beginning to experience growth and recovery.
Meanwhile, the US, with its destructive progressive programs of monstrous centralized planning, staggering debt, disabling entitlement spending, and crippling regulation, is only beginning to see the consequences of this destructive behavior. This will continue to amplify, just as it did during the FDR regime. We could be faced with a decade or more of stagnant growth even while our black hole of debt buries us in a quagmire of economic putridity! The American people are about to learn that sending a person with a marxist mentality to the White House has terrible consequences that they won't be happy with!
Thursday, August 12, 2010
Dallas Fed Issues Cold Dose of Reality
Compared with no stimulus, the stimulus plan in 2009 alone was expected to increase GDP by 1 to 3 percentage points, raise payroll employment by 500,000 to 1 million jobs and lower the unemployment rate by half a percentage point. At first glance, it doesn’t appear the stimulus achieved these objectives.
In the year after the plan’s passage, the labor market continued to hemorrhage jobs and unemployment climbed above 10 percent. Indeed, the unemployment rate is now higher than it was expected to be without the stimulus plan—and has been every month since the plan’s passage (Chart 5). This seems inconsistent with official estimates of the plan’s performance. The first quarterly report, including data through September 2009, found that the plan had created or saved about 1 million jobs and boosted GDP 2 to 3 percentage points in the second and third quarters.2 Subsequent analysis from the Council of Economic Advisers and several private forecasting firms found even more favorable results, seeing the stimulus on track to save or create the 3.5 million jobs that were originally forecast for the 2009–10 period. How can this be?
The key proviso is this: what might have been. Simply put, there’s no way to know how badly the economy would have performed in the absence of fiscal stimulus and no way to prove how many jobs would have existed without stimulus.
Macroeconomic News Continues Stream of Bad News; Jobless Claims Spike
The number of initial claims for regular state unemployment insurance benefits rose 2,000 to 484,000 in the week ended Aug.7, reaching the highest level since February, the Labor Department reported. Economists polled by MarketWatch had expected a level of 463,000.
"Once again, we can say with near-total certainty that there is no meaningful improvement on the labor front," said Dan Greenhaus, chief economic strategist at Miller Tabak & Co., in an emailed note.
The four-week average of initial claims also increased to the highest level since February.
"We see these big companies starting to issue lower guidance for the rest of the year, and then we have all this bad macro news out of the U.S., with every report coming out worse than expected or worse than the previous month," said Mads Koefoed, market strategist at Saxo Bank.
It's Ugly Out There As Mood Turns More Grim
Obama's luster isn't merely tarnished. It's corroded!
from WSJ:
Americans are growing more pessimistic about the economy and the war in Afghanistan, and are losing faith that Democrats have better solutions than Republicans, according to a new Wall Street Journal/NBC News poll.
Underpinning the gloom: Nearly two-thirds of Americans believe the economy has yet to hit bottom, a sharply higher percentage than the 53% who felt that way in January.
The sour national mood appears all-encompassing and is dragging down ratings for the GOP too, suggesting voters above all are disenchanted with the political establishment in Washington. Just 24% express positive feelings about the Republican Party, a new low in the 21-year history of the Journal's survey. Democrats are only slightly more popular, but also near an all-time low.
The results likely foreshadow a poor showing in November's mid-term for Democrats, whose leaders had hoped the public would grow more optimistic about the economy and, as a result, more supportive of the party agenda. Now, despite the weak Republican numbers, the survey shows frustrated voters on the left are less interested than impassioned voters on the right to in the election.
"Even with Republicans having low numbers, they are the opposition party and are going to benefit from people saying, 'We're ticked off and we want a change,"' said Republican pollster Bill McInturff, who conducted the survey with Democratic pollster Peter Hart. "The way you vote your discontent is to say you're going to vote Republican."
Mr. Hart said the 2010 contest is being pulled by the sentiment associated with the JetBlue flight attendant who fled his plane via the emergency chute after an altercation with a passenger. Calling it the "JetBlue election," Mr. Hart said: "Everyone's hurling invective and they're all taking the emergency exit."
As in recent polls, Americans are split on President Barack Obama's job performance, with 47% approving and 48% disapproving. But a majority disapproves of his performance on the economy. And six in 10, including 83% of independents and a quarter of Democrats, say they are only somewhat or not at all confident that Mr. Obama has the right policies to improve it.
The survey suggests that Democrats should expect little if any appreciation from voters for legislative achievements such as overhauling the health care and financial systems. Six in 10 Americans rated Congress' performance this year as below average or one of the worst. And the economy is dominating voters' worries. Among those who believe the economy will get worse over the next year, 67% want a GOP-led Congress.
"Several months ago I was very hopeful" said Fort Worth, Texas, public-schools administrator Susan Stitt, 63 years old, an independent who leans Republican. "But in May or so, about three months ago, I just started hearing more and more little things on the news that would chip away at my confidence."
Denis Goulet, 59 years old, a contract manager for Verizon from Calvert County, Md., and a Democratic-leaning independent, said the economy made him "feel like Charlie Brown kicking the football."
"Every time things start looking better, they start looking bad again" he said. Mr. Goulet said he has always voted for Democrats, but doesn't know how to vote this year. "I have gotten as wrapped up as anyone else just trying to stay afloat."
On the Afghanistan war, which had been an area of strength for the president since he revamped his military strategy, 68% of Americans now feel less confident the war will come to a successful conclusion. Just 44% approve of the president's job on Afghanistan, down from a majority who approved in March, the last time the poll addressed the topic.
Voters appear evenly split on which party they hope will control Congress after November. But Republicans retain an advantage among those more likely to turn out. Among those most interested in the election, half favor GOP control and 39% support the Democrats. One positive movement for Democrats: That 11-point gap is down from 21 points in June.
Democrats and the president retain strong approval among minorities. But they are losing some groups that helped the party take control of Congress in 2006, particularly working-class whites. Among whites with less than a college education—a group the two parties split in the most-recent midterms—the GOP has a 16-point advantage, 49% to 33%, when voters were asked which party they wanted to control Congress.
Republicans, meantime, are gaining ground on a number of issues that have traditionally been advantages for Democrats. More Americans now think the GOP would do a better job on the economy—an advantage the party last held briefly in 2004 but has not enjoyed consistently since the mid-1990s. On one of the Democrats' core issues, Social Security, just 30% now think the party would do a better job than the GOP, compared to 26% who favor the Republicans. That margin was 28 points in 2006.
"The Republicans don't have a message as to why people should vote for them, but it's pretty clear why you shouldn't vote for the Democrats," said poll respondent Tim Krsak, 33, a lawyer from Indianapolis and independent who has been unemployed since January. "So by default, you have to vote for the other guy."
Housing Recovery Distant As Foreclosures Continue Rising
from 24/7 Wall Street:
Looking back to early 2010, this is about the time of year many economists and real estate experts believed that the housing market would recover. GDP growth in the third quarter, they reasoned, would be at more 3% or 4% if the rebound was robust. Unemployment would begin to improve as a rising tide lifted all ships.
It has not turned out that way. Almost every major government and private sector report shows home values falling, home prices being cut, and the number of underwater mortgages rising from 11 million, which is over 20% of all home loans in the US.
RealtyTrac, which measures home value activity on a monthly basis, reports that foreclosures rose 4% in July compared with June. The firm defines foreclosures as “default notices, scheduled auctions and bank repossessions.” The July number was 325,229, which puts the pace for the year at nearly 4 million. That would be higher than the 2009 number. One in 397 homes were in the foreclosure process last month.“July marked the 17th consecutive month with a foreclosure activity total exceeding 300,000,” said James J. Saccacio, chief executive officer of RealtyTrac. “Declines in new default notices, which were down on a year-over-year basis for the sixth straight month in July, have been offset by near-record levels of bank repossessions, which increased on a year-over-year basis for the eighth straight month.”
Wednesday, August 11, 2010
$165.04 Billion Deficit for July
The U.S. government spent itself deeper into the red last month, paying nearly $20 billion in interest on debt and an additional $9.8 billion to help unemployed Americans.
Federal spending eclipsed revenue for the 22nd straight time, the Treasury Department said Wednesday. The $165.04 billion deficit, while a bit smaller than the $169.5 billion shortfall expected by economists polled by Dow Jones Newswires, was the second highest for the month on record. The highest was $180.68 billion in July 2009.
The government usually runs a deficit during July, which is the 10th month of the fiscal year. So far in fiscal 2010, the government spent $1.169 trillion more than it made. That figure is about $98 billion lower than during the comparable period a year earlier.
For all of fiscal 2009, the U.S. ran a record $1.42 trillion deficit. Fiscal 2010 might run a little higher—the Obama administration sees $1.47 trillion.
Q2 GDP to Be Revised Down to Just 1%
June’s trade deficit swelled 18.8% to $49.9 billion, the highest since October 2008. That was much worse than Wall Street predicted — or what the Commerce Department estimated in the recent Q2 GDP report. The new report, along with recent inventory data, suggest Commerce will revise down Q2 economic growth from the already-sluggish 2.4% annual rate to about 1%, according to Action Economics. Action Economics is looking for stronger retail inventory figures later this week that would imply a 1.4% GDP pace.
Those downward revisions may bolster Q3 figures. Weaker inventory growth in Q2 suggests there will be less of a drop-off in Q3. Q2’s fat trade gap may mean the same.
But there’s no denying that the recovery is losing steam just as head winds hit. The inventory restocking cycle, which had fueled growth in recent quarters, clearly is ending.
Small Business Optimism Index Continues Drop In July
The Index of Small Business Optimism lost 0.9 points in July following a sharp decline in June. The persistence of Index readings below 90 is unprecedented in survey history. The performance of the economy is mediocre at best, given the extent of the decline over the past two years. Pent up demand should be immense but it is not triggering a rapid pickup in economic activity. Ninety (90) percent of the decline this month resulted from deterioration in the outlook for business conditions in the next six months. Owners have no confidence that economic policies will “fix” the economy.
US Is Bankrupt
What it can and must do is radically simplify its tax, health-care, retirement and financial systems, each of which is a complete mess. But this is the good news. It means they can each be redesigned to achieve their legitimate purposes at much lower cost and, in the process, revitalize the economy.
Last month, the International Monetary Fund released its annual review of U.S. economic policy. Its summary contained these bland words about U.S. fiscal policy: “Directors welcomed the authorities’ commitment to fiscal stabilization, but noted that a larger than budgeted adjustment would be required to stabilize debt-to-GDP.”
But delve deeper, and you will find that the IMF has effectively pronounced the U.S. bankrupt. Section 6 of the July 2010 Selected Issues Paper says: “The U.S. fiscal gap associated with today’s federal fiscal policy is huge for plausible discount rates.” It adds that “closing the fiscal gap requires a permanent annual fiscal adjustment equal to about 14 percent of U.S. GDP.”
The fiscal gap is the value today (the present value) of the difference between projected spending (including servicing official debt) and projected revenue in all future years.
Double Our Taxes
To put 14 percent of gross domestic product in perspective, current federal revenue totals 14.9 percent of GDP. So the IMF is saying that closing the U.S. fiscal gap, from the revenue side, requires, roughly speaking, an immediate and permanent doubling of our personal-income, corporate and federal taxes as well as the payroll levy set down in the Federal Insurance Contribution Act.
Such a tax hike would leave the U.S. running a surplus equal to 5 percent of GDP this year, rather than a 9 percent deficit. So the IMF is really saying the U.S. needs to run a huge surplus now and for many years to come to pay for the spending that is scheduled. It’s also saying the longer the country waits to make tough fiscal adjustments, the more painful they will be.
Is the IMF bonkers?
No. It has done its homework. So has the Congressional Budget Office whose Long-Term Budget Outlook, released in June, shows an even larger problem.
‘Unofficial’ Liabilities
Based on the CBO’s data, I calculate a fiscal gap of $202 trillion, which is more than 15 times the official debt. This gargantuan discrepancy between our “official” debt and our actual net indebtedness isn’t surprising. It reflects what economists call the labeling problem. Congress has been very careful over the years to label most of its liabilities “unofficial” to keep them off the books and far in the future.
For example, our Social Security FICA contributions are called taxes and our future Social Security benefits are called transfer payments. The government could equally well have labeled our contributions “loans” and called our future benefits “repayment of these loans less an old age tax,” with the old age tax making up for any difference between the benefits promised and principal plus interest on the contributions.
The fiscal gap isn’t affected by fiscal labeling. It’s the only theoretically correct measure of our long-run fiscal condition because it considers all spending, no matter how labeled, and incorporates long-term and short-term policy.
$4 Trillion Bill
How can the fiscal gap be so enormous?
Simple. We have 78 million baby boomers who, when fully retired, will collect benefits from Social Security, Medicare, and Medicaid that, on average, exceed per-capita GDP. The annual costs of these entitlements will total about $4 trillion in today’s dollars. Yes, our economy will be bigger in 20 years, but not big enough to handle this size load year after year.
This is what happens when you run a massive Ponzi scheme for six decades straight, taking ever larger resources from the young and giving them to the old while promising the young their eventual turn at passing the generational buck.
Herb Stein, chairman of the Council of Economic Advisers under U.S. President Richard Nixon, coined an oft-repeated phrase: “Something that can’t go on, will stop.” True enough. Uncle Sam’s Ponzi scheme will stop. But it will stop too late.
And it will stop in a very nasty manner. The first possibility is massive benefit cuts visited on the baby boomers in retirement. The second is astronomical tax increases that leave the young with little incentive to work and save. And the third is the government simply printing vast quantities of money to cover its bills.
Worse Than Greece
Most likely we will see a combination of all three responses with dramatic increases in poverty, tax, interest rates and consumer prices. This is an awful, downhill road to follow, but it’s the one we are on. And bond traders will kick us miles down our road once they wake up and realize the U.S. is in worse fiscal shape than Greece.
Some doctrinaire Keynesian economists would say any stimulus over the next few years won’t affect our ability to deal with deficits in the long run.
This is wrong as a simple matter of arithmetic. The fiscal gap is the government’s credit-card bill and each year’s 14 percent of GDP is the interest on that bill. If it doesn’t pay this year’s interest, it will be added to the balance.
Demand-siders say forgoing this year’s 14 percent fiscal tightening, and spending even more, will pay for itself, in present value, by expanding the economy and tax revenue.
My reaction? Get real, or go hang out with equally deluded supply-siders. Our country is broke and can no longer afford no- pain, all-gain “solutions.”
(Laurence J. Kotlikoff is a professor of economics at Boston University and author of “Jimmy Stewart Is Dead: Ending the World’s Ongoing Financial Plague with Limited Purpose Banking.” The opinions expressed are his own.)
