Saturday, September 4, 2010

Jobs Report Created False Hope

John Weisenthal of Clusterstock discussed his thoughts on Friday's job figures and put up an image of the scariest jobs chart ever (HT: RĂ©al):

The key thing to realize about today's good jobs report is that it was only good relative to expectations. Private sector job creation of 67,000 is not that impressive in any real sense.

And indeed, the latest update of the scariest jobs chart ever from Calculated Risk -- which shows how deep these jobs losses are compared to past recessions -- shows this comeback still isn't anything like past comebacks, and it will be ages before we get back to even.
Private sector job creation is the key to any sustainable recovery, but as the chart above shows, you need to create a lot of jobs to repair the devastation since 2007. In that sense, today's figures are not that impressive, but one can only hope they're indicating better days ahead.
Phil Izzo of the WSJ provided reaction to today's figures from a number of economists:
It is a sigh of relief. The labor market in August was lethargic, but better than feared reducing the fears of a double-dip recession. Private payrolls went up 67,000 even though the overall nonfarm payroll fell 54,000 due to the census layoff. –Sung Won Sohn, Smith School of Business and Economics

The August employment report confirms the “Big Stall” rather than outright contraction in the economy… Saying the economy isn’t about to contract is not, unfortunately, the same thing as saying that growth momentum has returned. If anything, a read into the details of the report indicates the extent of the economy’s stall. The growth in private payrolls was confined to Healthcare & Social Assistance (which seems to go up every month regardless), temp workers plus construction — of which 10,000 of the 19,000 were returning strikers. Everything else summed to zero and all of these sectors reported numbers that were marginally on one side or the other of zero. –Steven Blitz, Majestic Research

The soft patch for jobs may have been extended for a fourth month today, but momentum in the economy is building and we can rule out a double-dip. –Christopher Rupkey, Bank of Tokyo-Mitsubishi

Government employment losses in August more than offset the gains in private-sector employment. Most of the drop in public-sector payrolls is explained by the departure of 114,000 temporary Census workers. However, state and local government payrolls also continued to shrink in August. Since the start of this year state and local public-sector payrolls have fallen 135,000, or almost 17,000 per month. These job losses are almost certainly linked to the expected end of federal fiscal relief under the Administration’s stimulus program. –Gary Burtless, Brookings Institution

Nonfarm [private] payrolls expanded by 67,000 in August… 67,000 jobs is just not enough and it cannot be spun otherwise. At the same time, the economy does continue to add a modest amount of jobs — since December 2009, private employment has increased by 763,000 jobs. This is not enough, especially so given the 8+ million jobs shed during the recession, but it is something. Given the increase in corporate profits among U.S. corporations, ongoing gains in payrolls should not be surprising. –Dan Greenhaus, Miller Tabak

In August, job creation occurred across a number of sectors, including health care, construction, mining, and temporary help services for professional and business services. Despite the decline in total jobs, this report was mildly positive, as private sector jobs helped alleviate some of the Census losses. A recovery is clearly underway, although it will be a slow one for the job market. –Jason Schenker, Prestige Economics

Construction employment registered an uptick for the first time since April. The nonres category accounted for all of the gain. This may be related to a ramping up of infrastructure projects. Manufacturing employment fell for the first time since December but this reflected a seasonal unwind of the rise in auto industry jobs that was evident in July. Moreover, the average workweek in the manufacturing sector ticked up 0.1 hours, so we see a manufacturing activity excluding motor vehicles up a sharp 0.8% in August –David Greenlaw, Morgan Stanley

Private payrolls increased by 67,000 last month, down from 107,000 in July. However, that apparent slowdown may just be an illusion. Employment at vehicle manufacturing plants jumped by 22,000 in July and then fell back by exactly the same amount in August. We suspect this is a distortion caused by the unusually small number of plant shutdowns this summer. Strip that out and private employment growth actually pick up a little bit last month. –Paul Ashworth, Capital Economics

It looks like the momentum in employment has been roughly steady in recent months at a modest pace that will not be enough to hold the unemployment rate steady. At current rates of labor force participation, the economy needs to generate 100,000 jobs to hold the unemployment rate steady. –Julia Coronado, BNP Paribas

Viewed in isolation, a 67,000 private payroll increase this far into the recovery is very poor. But viewed against low expectations and against fears that the economy may be tumbling into a double-dip recession, today’s report is good news. It suggests that the recovery may be wobbly but that it is still staggering forward. –Nigel Gault, IHS Global Insight

The fact that the labor market did not stall in August as many had feared suggests the recovery is sustained, if not robust. The increase in temp hiring suggests that employers, while suspicious about the strength of demand, see orders strong enough to justify taking on more help. The most recent Challenger report also suggests that companies have cut payrolls so deeply that any increase in demand will require more hiring. Businesses have squeezed as much as they can from their current workforces; once the economy gains some momentum, more permanent hiring is sure to follow. –Sophia Koropeckyj, Moody’s

Not a double dip, but still pretty anemic. So, stronger-than-expected, yes. Strong, no. –Stephen Stanley, Pierpoint Securities

The small amount of job gains during the past few months not only reflects the response to slow output growth, but also a lack of confidence going forward. While this expansion might seem similar to recent post-recession periods, it is in fact much different. The economy as a whole has been weakened by a dismal housing market and slow consumption, which especially hamper small and medium- sized enterprises. Modest gains in private sector jobs, coupled with the large decline in government employment, are consistent with our forecast for continued sluggish growth. –Bart van Ark, The Conference Board

The labor market has entered a holding pattern. After relatively mild improvements earlier this year, the key indicators of the strength of the labor market have shown virtually no improvement in recent months. The private sector has added an average of 78,000 jobs each month for the past three months, not nearly enough to begin to reduce unemployment. –Heather Boushey, Center for American Progress

Hourly earnings post their biggest rise since January of this year at 0.3% month-over-month, this translates into a 1.7% month-over-month in wages. Hours worked which are still low remained at 34.2; we would look for this to improve further before we started to see any real aggressive in additions to payrolls. Temporary help also resumes additions, we like this as a leading indicator as temporary workers are far more flexible and firms are more willing to take them on in the early stages of a recovery. In a labour force of 154 million, these increases are not going to set the world alight (or more importantly drive strong consumer spending), but people will take encouragement where their can find it especially heading into a holiday weekend. –David Semmens, Standard Chartered Bank

The largest increases in unemployment were among African Americans who saw their overall rate rise 0.8 percentage points to 16.3 percent, near the recession peak. The unemployment rate for black teens jumped 4.8 percentage points to 45.4%. Unemployment for Hispanics edged down to 12.0 percent, a full percentage point below its year-ago level. –Dean Baker, Center for Economic and Policy Research
Dean Baker is also predicting a 10% decline in house prices for the year and recently wrote this comment in counterpunch, Burning Down the House:
The howls of surprised economists were everywhere last week as the government reported on Tuesday that July had the sharpest single-month plunge in existing home sales on record. The next day the Commerce Department reported that new home sales hit a post-war low in July.

All the economists who had told us that the housing market had stabilized and that prices would soon rebound looked really foolish yet again. To understand how lost these professional error-makers really are it is only necessary to know that the Mortgage Bankers Association (MBA) puts out data on mortgage applications every week. The MBA index plummeted beginning in May, immediately after the last day (April 30) for signing a house sale contract that qualified for the homebuyers tax credit.

It typically takes 6-8 weeks between when a contract is signed and a house sale closes. The plunge in applications in May meant that homebuyers were not signing contracts to buy homes. This meant that sales would plummet in July. Economists with a clue were not surprised by the July plunge in home sales.

What should be clear is that the tax credits helped to pull housing demand forward. People who might have bought in the second half of 2010 or even 2011 instead bought their home before the tax credit expired. Now that the credit has expired, there is less demand than ever, leaving the market open for another plunge in prices. The support the tax credit gave to the housing market was only temporary.

It is worth asking what was accomplished by spending tens of billions of dollars to prop up the market for a bit over a year with these tax credits. First, this allowed millions of people to sell their home over this period at a higher price than would have otherwise been the case. The flip side is that more than five million people bought homes at prices that were still inflated by the bubble. Many of these buyers will see substantial loses when they resell their house.

The banks also had a stake in this. The homebuyers tax credit prevented prices from declining as rapidly as would have been the case otherwise. This allowed millions of homeowners to be able to sell their home at a price where they could pay off their mortgage. This made banks who could have been holding underwater mortgages very happy.

Of course someone had to issue the mortgage to all those people who bought homes at prices that are still inflated by the bubble. The overwhelming majority of the mortgages issued in the last year and a half are insured by the government, either through Fannie Mae and Freddie Mac, or through HUD. So, taxpayers are carrying the risk that further price declines will push these mortgages underwater, not banks or private investors.

The further plunge in house prices will have serious implications for the course of the recovery. By my calculations, the decline in house prices through the first half of 2009 eliminated $5-6 trillion of the $8 trillion of housing equity created by the bubble. Look to the further declines in the rest of this year to eliminate most or all of the remaining bubble equity.

The loss of this wealth will further dampen growth. This should drive home the fact that house prices, like the NASDAQ following the tech crash, are not coming back. Homeowners will have to come to grips with this massive loss of wealth. While many commentators (no doubt the surprised ones) complain that consumption is low, the reality is that consumption is still at an unusually high level relative to disposable income.

Furthermore, with a huge cohort of baby boomers approaching retirement with almost no wealth, there will be more need to save than ever. This need to save is accentuated by the plans of those in the Obama Administration and the congressional leadership to cut Social Security.

This means that we should expect consumption spending to weaken sharply in the second half of 2010 and into 2011 as the savings rate rises into the 8-10 percent range, further slowing economic growth. This comes against a backdrop where final demand had only been growing at a 1.2 percent average rate over the last four quarters.

Final demand is GDP, excluding inventories. Growth was boosted over the last year by the restocking of inventories. This process is largely completed, which means that we should expect GDP growth to be pretty much equal to final demand growth going forward.

Starting with a 1.2 percent growth rate, then throwing in weaker consumption due to further house price declines, state and local government cutbacks, and the winding down of stimulus, it is questionable whether growth will even remain positive over the next four quarters. Given all these negative factors, it is very hard to construct a story showing the economy on a healthy growth path, even though many economists still seem to think it is. Of course these economists were probably surprised by last month’s home sales data.
These are sobering thoughts from an economist who was among the first to predict the US housing crisis. Even if job creation picks up, it will do little to dent the fall in house prices. So while today's figures were better than expected, much more is needed to get the US economy back on solid footing. Below, I leave you with an overview of the August jobs report.

Pacing a More Realistic Job Growth Estimate

Recently there has been a surge in cherry picked employment charts highlighting that the Obama administration has done a great job in rescuing the economy. The premise goes: after dropping to as much as 700K+ jobs lost per month, the administration has managed to pull off a miraculous recovery and now we are riding on a wave of 8 consecutive "private jobs" beats in a row. This argument is so shallow we won't even bother with it. Perhaps the "economists" who espouse this theory will be so kind in their next iteration of their charts to overlay the monthly US debt issuance side by side with the jobs number. Because you see if you drown the economy in unrepayable debt, while using transfer payments to fund the digging of trenches by every man, woman and child who makes up the labor pool, then yes - you may get 0%, or even negative, unemployment overnight. Will it bankrupt the country (even faster)? Why, of course. But whoever said those who discuss politics subjectively ever care about the long-term implications of reality. So in the vein of sharing pretty charts, here is one: we show job losses since the beginning of the Recession (excluding for the impact of census hiring), juxtaposed to the natural growth rate of the Labor Pool (and not the artificial one, which according to the BLS is the same now as it was a year ago). We discover that i) 7.6 Million absolute jobs have been lost since the beginning of the Recession; ii) that a record 10.5 Million jobs (and you won't find this statistic anywhere), have been lost when factoring in for the natural growth of the Labor Pool of 90-100K a month (we use the lower estimate, which also happens to be the CBO's estimate), and that iii) assuming we expect to return to the jobs baseline level as of December 2007 (or an unemployment rate of 5%) by the end of Obama's second term (and we make the big assumption there will be a second term), Obama needs to create 230,000 jobs each and every month consecutively from September through November 2016 in order for the total jobs lost to be put back into the labor force, and that iv) an optimistic (if more realistic) projection of jobs returning to the work force means the return the baseline will occur in 2019, some 7 years after the start of the last recession. The point of these observations is not to cast political blame on either party: we are in this predicament due to the combined stupidity, corruption and greed of both parties. The question is how do we get out of here. And unfortunately for all those hoping that a return to a normal, baseline past is possible, please forget it (i.e., the New Normal is really real), at least for the next 7 years. This also means that any charting, technical analysis and other "reversion to the mean" approaches of forecasting the future will all end up sorely lacking and misrepresenting the final outcome.
Chart 1: a simple baseline chart that shows where we were, where we are, and where we are going, with the assumption of recovering all labor force growth-adjusted jobs losses from December 2007 through the end of Obama's second term. The conclusion: the economy needs 229,300 jobs per mont (incidentally, for the simplistic read on the labor force which does not account for demographic changes, which economists tend to conveniently forget all too often, a 230K jobs pick up a month, means a recoupment of baseline jobs lost in June of 2013).

Chart 2: We demonstrate that the cumulative jobs lost since December 2007, are in fact materially greater when adjusting for a realistic change in the labor force, instead of that presented by the administration, which naively expect people to believe that the labor force in August 2010 (154,110) was lower than that in August 2009 (154,426). That in the meantime the US population grew by 2.5 million seems to make no difference to the administration. Which only means that sooner or later this labor force participation will catch up to the numbers. Either way, we factor for it, and assume that the labor force was growing by 90K every month since the start of the recession, and add the cumulative differential to the jobs lost. The result: in the 33 months through August, the US has lost not 7.6 million jobs, but 10.5 million: a stunning 38% delta.

Obviously, all these projections are unrealistic. So let's take them down to some version of reality... even if it is Bank of America's. We take the most optimistic Wall Street projetions we could find - traditionally those belong to Bank of America's Ethan Harris. In a note released to clients, Harris discusses his revised jobs forecast:

Under the weaker growth trajectory we are now penciling in:
  • Private payrolls manage tepid monthly gains of just 25,000 through the end of 2010. As the growth recession fades in the second half of 2011, gains in private payroll employment should accelerate. We expect average monthly gains of 125,000 in the fourth quarter of 2011.
  • Therefore, for most of 2010 and 2011, employment growth is not expected to keep up with the rise in the labor force, which means the unemployment rate heads north. We expect a steady increase to 10.1% by the second quarter with a slow fall slightly below 10.0% by the end of 2011.
So let's adjusted the chart using Bank of America's projections, which assumesa gradual increase in the unemployment rate to 10% by Q3 2010 and a decline since then. We chart these projections on the chart below. According to this adjusted case, the payroll number will never return to the December 2007 baseline for the duration of Obama's term, even if one assumes 200K job pick ups beginning in January 2012 and continuing every month thereafter (as we have done). In November 2016 we forecast an unemployment rate of 5.7% using these assumptions. They are presented visually below:

And just to demonstrate what the recession will look like assuming even this quite optimstic assumption, here is the famous post WW2 recession comparison chart adjusted for an expansion of the depression (let's not split hairs here) labor force, that started in December 2007: it is shaping up to be 7 years before the jobs lost finally are put back into the system. And that's for those optimistically inclined.

So before everyone gets all political on who has done a more bang up job of destroying the economy, perhaps both sides can explain how they each got the US to a point where even wildly optimstic projections assume that the length of the most recent economic slowdown will take 85 months to resolve (and, in all reality, far, far longer).

Scariest Jobs Chart Ever

Friday, September 3, 2010

David Rosenberg Points Out Something Fishy With Latest Economic Data

The latest batch of data has been highly confusing, to say the least. The chain store sales data were skewed by one-offs, such as retroactive jobless benefit checks that were mailed out in early August and the growing number (17 this year) of States offering sales tax holidays. We estimate that absent these influences, year-on-year sales growth would have been closer to 1% than 3%.
The spending data also belied the information contained in the Conference Board’s consumer confidence survey, as the facts-on-the ground ‘present situation’ index sagged to 24.9 in August from 26.4 in July — only 5% of the time in the past has it been so low. The ISM manufacturing index, which really got the ball rolling on this ‘take out the double-dip’ trade, managed to spike even though the three leading sub-indices — new orders, backlogs and vendor performance — all declined in what was a 1-in-100 event.
Not only that, but the employment component of the ISM surged to its highest level since December 1983, and yet the manufacturing employment segment of the payroll survey fell 27,000 — the first decline this year and the sharpest falloff since last October. Furthermore, the manufacturing diffusion index slumped to a seven-month low of 47 from 53 — in other words, fewer than half of the industrial sector was adding to staff requirements last month. It begs the question as to what exactly the ISM is measuring.
The list of inconsistencies in the data didn’t stop there. The entire increase in private sector employment in August was in the service sector — mostly health and education, which says little about the cyclical state of the economy. Yet 90 minutes after the jobs number was released, we got the ISM non-manufacturing survey and it flashed a contraction in services employment to a seven-month low of 48.2 from 50.9 in July.
Just a tad confusing, but the newly found bullish view of the economy is sort of corroborating evidence.
The employment report did not detract from the view that the economy is losing steam. The fourth quarter of a recovery typically sees real GDP growth of over 6% at an annual rate, but in this post-bubble credit collapse, what we got this time was 1.6% at an annual rate in Q2.
Moreover, there is nothing in the data to suggest anything but a further slowing in Q3, and the only reason why there is no contraction this quarter is because it looks as though we are getting another lift from inventories — though now the buildup looks involuntary, which will cast a cloud on fourth-quarter GDP barring a sudden reversal in the declining trend in real final sales.
Private payrolls were +247,000 when the equity market peaked in April, it slowed to +107,000 by July and was +67,000 last month. What does that suggest about the trend? Ditto for goods-producing employment, which was +67,000 in April, subsequently softened to +37,000 by July, and in August was the grand total of zero.
One can easily draw the conclusion from the data that we have dodged a bullet. But that does not mean we are out of the woods. Employment is a coincident indicator. Leading indicators, such as the ECRI, continue to deteriorate and to levels still consistent with nontrivial double-dip risks. Keep this in mind — private payrolls came in at +97,000 in November 2007 and the “Great Recession” began the next month. In other words, the +67,000 tally we saw today basically tells you nothing about how the pace of economic activity is going to unfold as we move into the fall.

Citi's Robert Buckland Declares the End of the "Equity Cult"

Citi's Robert Buckland is out with the must read report of the weekend, especially for all the optimists who believe that despite the ongoing depression (and as many have demonstrated, all the talk about a double dip is moot, as America has never left the depression, or as Rosie calls it a period of prolonged economic subpar activity: the latest NFP number merely reinforces the theme of economic deterioration), and despite the 17 weeks in retail equity outflows (which would be a contrarian signal if there was hope that retail would ever feel safe enough to return in stocks. After nearly 5 months of no change in trend, the debate can be put to rest, if at least for 2010) there is still hope. There very well may not be - Citi has just pronounced the "Equity Cult" dead: "It has taken 10 years, and two 50% bear markets, to reverse this cult. European and Japanese equities are already trading on dividend yields above government bond yields. US equities are almost there as well. An immediate reincarnation of the equity cult seems unlikely. Global corporates, especially the mega-caps,  rushed to exploit cheap financing as the equity cult inflated. They have been slow to redeem equity now that the cult has deflated. Equity oversupply remains a drag on share prices." And as more and more companies and investors shift to a de-equitization theme, the trendline in allocation for the US pension assets will soon revert to that seen when the "Equity Cult" began, or roughly 20% of all assets, with bonds taking on an ever greater precedence of asset allocation (incidentally the UK is already back to the equity/debt relative investment levels of the early 1960s). What does this mean for capital flows? "A reduction in equity holdings back to pre-1959 levels (around 20% of total assets) would indicate considerable selling pressure to come. For US private sector pension funds alone, that would imply a further $1900bn reduction in equity weightings. The evidence suggests that there could still be considerable institutional selling to come."
So let's recap what the medium- and long-term trends for the market are:

  • $2 trillion in equity sales from pension funds alone as capital flows normalize now that the "Equity Cult" is dead
  • A seemingly endless push into fixed income by an aging demographic meaning billions more in ongoing monthly domestic stock mutual fund redemptions
  • Hedge funds which are underperforming the market massively, and which will see an explosion in redemption letters as the end of Q3 approaches
  • An inevitable change in the tax regime over the next 4-5 months, which as Guggenheim pointed out, will force investors to sell billions in stock to catch a sunsetting beneficial capital gains tax.
And yet what happens - the market surges on a negative NFP number that was negative but better by a factor of noise, compared to whisper expectation, as robotic traders pick up on the positive feedback loops to take the market higher one more time as soon everything collapses.
For all those who believe in 17x forward P/Es (expecting a 20% rise in corprate earnings in 2011 with a flat GDP indicates a serious overdoes on medicinal hopium) - Good luck chasing the bouncing ball.
For all those others, who feel like micturating upon the grave of the "Equity Cult" here are the highlights from the Citi report.
Bond vs Equities - Then and Now (this will be familiar to all those who have read Albert Edwards' recent pieces):
In July, global equities rebounded despite continued falls in government bond yields. This defied the strongly positive relationship between equities and bond yields seen since 2000. Many equity investors worry that this decoupling will be resolved by the bond markets being proven “right”. The implications of this are worrying — the last time US treasury yields were down at these levels, the S&P (currently 1050) was nearer 800.

We have pointed out that equities actually have a decent track record when these decouplings have occurred in the past1. Certainly Citi’s equity and bond market forecasts suggest that this current breakdown in the relationship is more likely to be resolved through rising bond yields than falling equity prices. However, we also understand that many investors think we will be proven wrong.

We can’t help but suspect that this hot debate about the relative attractions of bonds against equities — whether one is pricing in the double dip but the other is not, whether one is pricing in deflation but the other is not — is mere froth on top of a much more profound reassessment of the merits of the two asset classes. In particular, has the “cult of the equity” been replaced by the “cult of the bond”? To answer this we first take a look at the origins of the cult of the equity.

The rise of the cult of the equity is reflected in institutional asset allocations. Figure 3 shows the weighting of US private sector pension funds in equities and fixed income as derived from the Fed’s Flow of Funds data. Back in 1952, US private sector pension funds held just 17% of their assets in equities compared to 67% in fixed interest. Over the next 50 years, these weightings reversed — at the peak in 2006, the same funds held 69% in equities and 18% in fixed interest. Of course, some of the increase in equities will reflect the outperformance over the period.

The picture looks similar in the UK (Figure 4). Back in 1962, ONS data suggest that UK pension funds held more in bonds than equities. That reversed in the 1960s, as equity weightings increased aggressively. At the peak in the early 1990s, UK pension funds held 76% of assets in equities compared to just 12% in bonds. It seems that UK pension funds embraced the cult of the equity more enthusiastically than their US counterparts, perhaps as a result of a desire to buy equities as a hedge against the UK’s more significant inflation problems.

We can also see the rise (and fall) of the equity cult in mutual fund flows. Figure 5 shows US mutual fund equity inflows going back to 1984. These peaked above $300bn in 2000. European fund inflows peaked in the same year at €180bn (Figure 6). US equity inflows recovered as markets rallied in 2003-07. European equity inflows did not.
Why the cult is now dead?
It seems that the cult of the equity began in the late 1950s. Why? Many justifications have been put forward. Most obviously, the 1950s marked the beginning of a welcome period of peace and prosperity following a tumultuous 50 years that included two world wars and a major economic depression.

The rise in equity weightings coincided with Markowitz’s first considerations of modern portfolio theory. This promoted the belief that a well-diversified equity portfolio could achieve superior returns while helping to reduce risk. It was clearly the view of George Ross Goobey, manager of the Imperial Tobacco pension fund who was generally perceived to be the godfather of the cult of the equity in the UK. Ross Goobey liquidated his entire fixed interest portfolio in the 1950s and invested the proceeds in equities. This was highly controversial at the time — he was banned from teaching students at the UK Institute of Actuaries.

Other factors may have helped to promote the cult of the equity. Most pension funds were relatively immature back in the 1950s, so giving them a better ability to absorb short-term equity volatility in search of longer-term returns. Equities were seen as a good match against the wage-driven liabilities of defined benefit pension schemes. Equities offered a decent inflation hedge long before index-linked bonds were ever invented. This characteristic was particularly attractive in the 1970s and 1980s. The list of academic justifications goes on and on.


But perhaps most convincing is the argument that the cult of the equity was the product of a period of spectacular  outperformance from the asset class. This became self-fulfilling. Pension funds bought more and more equities because they kept outperforming. Insurance companies (except in the US, where their exposure to equities has been limited by law) and retail  investors couldn’t resist the same trade. Figure 7 shows the annual returns from US equities and government bonds divided into decades since the 1920s. We also show the annual returns for the total period.

Since 1920, even including the dreadful experience of the last decade, US equities have generated a healthy annual return of 10.9% compared to a bond return of 6.1%. The most spectacular equity performance (especially relative to bonds) was not in the roaring 1920s, 1980s or 1990s, but in the 1950s. Perhaps this is what brought investor attention back to equities. It took  many years for the wounds of the 1929 crash to heal — US equities only managed to regain their pre-1929 crash levels in 1954. But from there, a new 40-year love affair with equities began. The 1970s were tricky, but equities did no worse than bonds. Indeed, by the end of the 1990s, the long-term outperformance of equities over bonds looked truly spectacular. $100 invested in US equities in 1950 would have been worth $58,380 at the end of 1999 versus $1,651 in treasuries. Those two numbers probably say more about the cult of the equity than any long academic study.
Why Is There A Cult Switch?
The evidence suggests that the cult of the equity began in the 1950s and peaked in the late 1990s — that’s a 40-year bull market. Since then, it seems that the investor love affair with equities has soured.

Many of arguments associated with the cult of the equity have since come under attack. Inflation seems much less of a problem. Equities have never been particularly good at hedging inflation anyway, and now index-linked bonds can do a much better job. The long duration of the equity asset class becomes less desirable for pension funds as populations mature and retirement dates approach. Defined contribution investors (where the individual takes the risk) may be less willing to tolerate volatile equity returns than the old defined benefit plans (where the employer takes the risk).

But most importantly, it is dreadful returns that are increasingly putting investors off equities. Since the end of 1999, global equities have returned just 4% in total. Not only have equity returns been trivial, but the volatility has been brutal. Having two 50% bear markets in one decade is enough to test the patience of the most determined equity cultist. Just as strong returns helped to build the cult of the equity in the 1950s, so weak returns are tearing it down now.

Investor appetite for global equities is falling. Figure 3 shows that in 2009 US private sector pension funds held 55% of total assets in equities compared to 70% in 2006. Figure 4 suggests that UK pension funds cut their equity weighting to 39% in 2009, down from the 76% high in 1993. The 2009 rebound in equity prices has helped to reverse some of this decline in equity weightings, but most investor intention surveys suggest that the secular reduction in equity weightings is likely to continue.
How much worse will it get?
How far could this go? A reduction in equity holdings back to pre-1959 levels (around 20% of total assets) would indicate considerable selling pressure to come. For US private sector pension funds alone, that would imply a further $1900bn reduction in equity weightings. The story looks similar amongst retail investors. Equity inflows into US mutual funds have not recovered from the 2007-09 bear market (Figure 5). European equity inflows never recovered from the 2000-03 bear market (Figure 6).

The evidence suggests that there could still be considerable institutional selling to come. Developed market pension funds have cut their equity weightings from peaks but there is still a long way before they get back down to pre-cult levels. For a broader global comparison, we look at the 2010 Towers Watson Global Pensions Assets Survey (Figure 8). Given different data samples, this might not correspond with the long-term historical data series that we have already shown for the US and UK, but it is a useful guide to regional variations.
What does Japan teach us?
Japan may be a useful guide to an unwinding equity cult. According to Towers Watson, in 1998 Japanese pension funds held 55% in equities, still remarkably high given the dire performance of the Japanese market through the decade. Japanese pension funds now hold 36% of total assets in equities and that number seems likely to head lower. Bonds have been the key beneficiaries of equity outlflows. Elsewhere in the world, Australian pension funds have a high equity weighting although our local strategists have argued that the compulsory superannuation fund structure has embedded the equity culture more firmly than in other parts of the world. Continental European funds are already firmly tilted away from equities towards bonds, so the scope for further equity outflows might be more limited.

Emerging Markets remain one bright area amidst the gloom. Figure 9 shows annual global equity inflows as measured by EPFR. This confirms the sorry state of developed market inflows, but it also shows that the appetite for Emerging Markets equities has been much more robust.
The cult is dead. Long-live the cult
As the cult of the equity fades, it is being a replaced by a new cult of the bond. It is argued that bonds are more appropriate in a world where deflation, not inflation, is the main threat. Liability Driven Investing (LDI) advocates usually promote the liability-matching benefits of bonds over equities. Ageing populations would seem to favour bonds over equities — most “lifestyle” pension schemes automatically switch equities into bonds as a worker approaches retirement age. Perhaps most importantly, bonds have handsomely outperformed equities in the past decade. Since 2000, global equities have returned 4% (0.3% per year), while global government bonds have returned 103% (6.9% per year). The list of factors favouring bonds is as long as that favouring equities back in the 1990s.

These arguments are reflected in rising pension fund bond weightings (Figure 3 and Figure 4). We can also see that mutual fund inflows now favour bonds, although not yet as consistently and heavily as they favoured equities in the late 1990s (Figure 5 and Figure 6).
But even if there is no bond cult, the stock chasing era is over: Conclusion
Of course we can (and will) carry on arguing about whether bonds or equities will be proven “right” after the recent decoupling. We can (and will) carry on arguing about the likelihood of a double-dip in the global economy. We can (and will) carry on arguing about whether the developed world is heading into a Japan-style deflationary spiral. Each outcome should have meaningful implications for the direction of global equity and bond prices.

However, we can’t help wondering if this misses the point. With the notable exception of Emerging Markets, what is really going on is a long-term shift in investor appetite for equities and bonds. It will take more than the avoidance of a double-dip to turn the equity outflows around. Sure equity prices would probably rise in the short term if that were to happen, but a sustainable rerating could only be achieved if investors were to be attracted back to the asset class. Although likely to be painful in the short run, an inflation-inspired global bond sell-off would probably offer the best chance of that happening. That still seems pretty unlikely for now.

The Citi view on the outlook for the global economy could be best described as “uninspiring, but not disastrous”. But rather than furiously arguing about whether that view is right and if it is already reflected in share prices, perhaps we would be better served by accepting that, from a valuation perspective, it is what it is. For all sorts of reasons, both cyclical and structural, equities are likely to remain “cheap” against bonds for some time yet.

So it is what it is. Investors are unlikely to pile back into global equities any time soon. It looks like they are likely to sell weightings down and move further into bonds. This is convenient for government bond issuers given that they have such vast amounts of bonds to sell. Equity and bond valuations will continue to reflect these flows. Maybe global equities can move higher with rising profits but, outside Emerging Markets, the prospect of a 1980/90s-style rerating still seems a very long way off.
Indeed, it is what it is: you can't fund a trillion dollar bond bubble, and see equity allocations at the same time. There is a reason why Albert Edwards sees the S&P in the 400 range: you can't have an increasingly more frugal investors buying both, and you can't have central banks buying everything without risking a completel collapse in the faith of all currencies. In retrospect, it is really simple. There are those who believe they are immaculate daytraders, and believe they can make money chasing everything dip in stocks. We wish we had their skill. Since we don't we would rather put our bet on where the age old adage of follow the money says stocks willl end up going. And that is much, much lower.
Full must read report.

ECRI Drops Below 10.0 to Signal Recession Yet Again

The ECRI Leading Indicator Index just came at -10.1%, a drop from last week's -9.9%, once again inflecting into double dip territory.

Service ISM Causes a Pause in the Rejoicing

from Fox Business:

Wall Street remained in positive territory Friday afternoon, leaving the Dow on track for its best pre-Labor Day week in two decades, as the markets focused on a stronger-than-expected jobs report rather than a gloomy service-sector index.
Today’s Markets
As of 12:30 p.m. ET, the Dow Jones Industrial Average rose 71.60 points, or 0.69%, to 10391.78, the S&P 500 gained 8.50 points, or 0.78%, to 1098.60 and the Nasdaq Composite picked up 19.48 points, or 0.88%, to 2219.42. The FOX 50 added 5.02 points, or 0.64%, to 792.30.
While the markets were still solidly in the green and on track for a rare four-day winning streak, the Dow had been up as much as 130 points before the weaker-than-expected service-sector data. After initially rallying, economically-sensitive stocks like General Electric (NYSE:GE) pared their gains and crude oil turned sharply negative.
This week’s rally, which is on pace to become the Dow's best pre-Labor Day performance since 1990, has largely been sparked by new data on labor, manufacturing and home sales that, while still weak, suggest fears of a double-dip recession may have been overblown. Wall Street has also received a boost from the latest M&A action, including Friday’s $3.4 billion acquisition of Australia’s Andean Resources by Goldcorp (NYSE:GG).
Most of the Dow's 30 components were solidly higher Friday morning, led by Caterpillar (NYSE:CAT), JPMorgan Chase (NYSE:JPM) and Boeing (NYSE:BA). The index's worst performers were defensive plays AT&T (NYSE:T) and Verizon (NYSE:VZ).
The Nasdaq Composite outperformed the broader markets, gaining 1% as technology stocks like SanDisk (NASDAQ:SNDK) and (NASDAQ:AMZN) rallied.
U.S. markets began their ascent immediately after the Labor Department said the U.S. lost 54,000 jobs in August, beating forecasts from economists for a loss of 100,000 jobs. The government also said the U.S. added a stronger-than-expected 67,000 private-sector jobs last month, further boosting market sentiment. The unemployment rate ticked up 0.1 percentage points to 9.6% as job seekers reentered the labor markets and the government sharply cut its job-loss estimate from July.
While Friday’s jobs report significantly beat consensus forecasts and Wall Street’s low expectations, it is important to remember the labor picture remains very gloomy. At the end of the day, fewer people held jobs in August than did in July and the fact the U.S. is still losing jobs at this point of the recovery is discouraging.
In contrast to this week’s stronger-than-expected reports, the Institute for Supply Management said service-sector growth slowed down in August. ISM’s non-manufacturing index slid from 54.3 in July to 51.6 last month, missing forecasts for 53.0. A reading above 50 indicates expansion. Digging into the report, the business activity and employment components stood at their lowest levels since January and the new orders components fell to December 2009 levels.
After initially rallying on the jobs report, crude oil turned sharply negative. Crude was recently down $1.33 a barrel, or 1.77%, to $73.69. Copper sank 0.01% a pound to $3.4950. Gold dropped $1.80 a troy ounce, or 0.14%, to $1,251.60.

Solid Analysis of NFP by Goldman's Economist Jan Hatzius

Better than Expected Despite Rise in Unemployment

BOTTOM LINE: Report clearly better than expected, especially in survey of establishments, though hiring remains below the rate needed to keep jobless rate stable. Unemployment rate rises as workers reenter labor force, though broadest measure of underemployment also increases. Wages rise more than expected.

Nonfarm payrolls -54k in August vs. GS -125k, median forecast -105k.
Private payrolls +67k in August vs. GS flat, median forecast +40k.
Unemployment rate up 0.1pt to 9.6% in August vs. GS and median forecast 9.6%.
Average hourly earnings +0.3% in Aug (mom, +1.7% yoy) vs. GS and median forecast +0.1%.

1. Firms in the private sector added 67,000 workers to their payrolls in August, modestly more than the median forecast and much firmer than our anticipation of no change. Census layoffs, at 114,000 were in line with our expectations, as was the additional 7,000 drop in permanent government jobs.

2. The composition of the August job gains had offsetting surprises, as manufacturing payrolls fell 27,000 despite a high reading on the ISM's index of employment while construction jobs rose 19,000 in the face of multiple readings of weak activity in that sector. Temporary workers-a lead cyclical sector-posted a 17,000 increase in jobs. The lion's share of the gains, however, were in education and health (+45,000)-a mainstay of growth through most of this cycle.

3. Upward revisions to prior numbers added to upside surprises in this reports as 123,000 additional workers were added to the July level of total payrolls. However, only about half of this (66,000) was in the private sector.  The magnitude of this revision, coupled with better-than-expected wage increases, was enough to prompt a 2-point judgmental adjustment to our US-MAP score for nonfarm payrolls.

4. The survey of households featured a rebound of 550,000 in the labor force, split almost equally between increases in employment (290,000) and unemployment (261,000). As a result, the unemployment rate conformed to expectations, rising to a "high" 9.6% (9.642%). The rebound in the labor force was slightly less than ½ the cumulative loss registered over just the past three months. This underscores the difficulty of bringing unemployment down; if more increases are in the offing, as seems likely on trend, the trend in net hiring-perhaps best measured by private payrolls-will not prevent further increase in unemployment. Over the past three months, private payrolls have risen just 78,000 on average. And, despite last month's large increase in the labor force, the broadest "U6" measure of underemployment also went up, to 16.7% from 16.5%.

5. Wage gains were another bright spot in the report, rising 0.3% overall-more than expected by virtually all economists. That said, the year-to-year trend remains subdued, at 1.7%, and actually edged down 0.1 point from July.

6. The index of hours worked was unchanged in August, as the nonfarm workweek held steady. It is tracking into the third quarter at just short of a 2% annual rate, implying little change in productivity if our 1.5% estimate for annualized real GDP growth is on the mark.

More Jobs Details

from Zero Hedge (highlighted figures are worrisome):

Private payrolls come in at +67K as Birth Death adds 115K, compared to just 6K previously, as U-6 rises from 16.5 to 16.7%, highest since April. Total Part time workers (all industries) increased by 401k from 18,157 to 18,558; part time workers for economic reasons increased by 331K. Workweek unchanged month over month at 34.2 hours, with average hourly earnings up slightly from 0.2% to 0.3%. 42% of the unemployed were out of a job for 27 weeks or longer, compared to 44.9% previously; average duration of unemployment at 33.6 weeks.

Other than the highlighted items, the rest looks like a modest improvement. 

"Nonfarm payroll employment changed little..." BLS

Stocks futures are leaping higher. This will be a big day in trading! The media is spinning this are full speed ahead! I don't buy it, and I don't think most Americans do, either. I know small business doesn't!

Headline at WSJ:
Fox Business:

Overnight Commodity Recap

  • * Raw sugar hits 6-month highs; coffee near 13-year peak
  • * Wheat rallies a second day as Russian export ban stays 
  • * Copper closes off 4-month highs; oil off peaks too 
  • * Coming Up: U.S. jobs data for August on Friday 
(Updates prices, markets activity to close of U.S. session; changes dateline to New York, previously SINGAPORE) By Barani Krishnan NEW YORK, Sept 2 (Reuters) - Raw sugar surged to six-month highs on Thursday and coffee and wheat rallied too as supply concerns pushed up prices of most agricultural commodities ahead of key U.S. jobs data. Copper hit four-month highs for a second day in a row and oil rose on Hurricane Earl's possible impact on East Coast refineries. Both markets settled off their highs despite strong U.S. pending home sales that should have been positive for industrial commodities. Investors had been encouraged lately by U.S. manufacturing and other macroeconomic data suggesting the country may not be headed for a douple-dip recession. Attention is now on August jobs numbers, due on Friday, for proof of this. "What we see in the home sales data and factory orders is all evidence that we are not going to implode and won't go into a double dip, for now," said Howard Simons, strategist at Bianco Research in Chicago. "We know we are weak and we are not coming out of this in a 'V' shaped recovery. At best we will have an 'L'." The 19-commodity Reuters-Jefferies CRB index settled up almost 1 percent at a three-week high as agricultural, metals and energy markets rose broadly for a second straight session. (Graphic: Sugar futures hit their highest levels since March and arabica coffee hovered near a 13-year high, both in New York. U.S. raw sugar futures for October settled up 0.32 cent, or 1.6 percent, at 20.81 cents a lb after touching a six-month high at 20.94 cents. Analysts said the sugar market looks to be establishing itself at above 20 cents a lb, after breaking resistance at 20.37 cents on Wednesday and scaling 20.79 peak Thursday. Futures prices are supported by expectations that the global sugar market is likely to be in equilibrium rather than deficit in 2010/11, dealers said. "With new recent highs being posted in the futures markets, it may not be too long before the main fund players who participated last year and early this year return to the fray," said Nick Penney in a report for Sucden Financial Sugar "The consensus at the moment indicates that supplies at the end of the year and into early 2011 are likely to be tighter than expected as a result of inclement weather in various parts of the world." Arabica coffee were within sight of the near 13-year high of $1.8865 a lb touched last week, supported by diminishing stockpiles at coffee exchanges. Although a surplus of arabica beans is expected in 2010/11, dealers said this would not necessarily boost exchange stocks as differentials on the physical market for high quality arabica beans could be more attractive to sellers. Arabica coffee for December settled up 2.5 cents, or 1.4 percent, at $1.8485 a lb. U.S. wheat rallied after Russia said it would keep its grain export ban in place until after the 2011 harvest, boosting long-term prospects for U.S. supplies on the world market. "The Russian drought certainly changed the landscape of the wheat situation and the global picture for the time being," said Mark Schultz, chief market analyst for Northstar Commodity Investment Co. "They are out of the export market." U.S. wheat futures for December settled up 5 cents at $7.13-1/2 a bushel in Chicago. The September wheat contract, which expires on Sept. 14, finished up 5-1/4 cents at $6.80-3/4 a bushel. (Reporting by Barani Krishnan; Editing by Marguerita Choy)

IEA Says Dependence on OPEC to Increase!

NEW DELHI—The global dependency on the members of the Organization of Petroleum Exporting Countries for oil will rise in the next five to 10 years as production by non-OPEC nations declines, the chief of the International Energy Agency said Friday.
"We have seen an increase in non-OPEC supplies. But in the mid-term, non-OPEC production will decline," Nobuo Tanaka, the agency's

Thursday, September 2, 2010

Gold Approaches Fresh New All-Time Record High

As long as Obama keeps spending money we don't have and the Fed's Bernanke proclaims that he will do whatever it takes to create inflation, gold's allure will never tarnish.

Long or Short Commodities

by Jeff Nielson:

Given the decades of rampant manipulation of the precious metals markets on the “short” side of trading, it is more than ironic that as the U.S. CFTC (“Commodity Futures Trading Commission”) ponders restrictions on commodities markets, it has expressed the most public concern about “speculators” on the “long” side of investing.
This comes with HSBC (HBC) sitting with the largest concentrated-position in the gold market in history (“short”), while JP Morgan (JPM) sits with the largest concentrated-position in the history of the silver market (also “short”). Furthermore, these concentrations (in proportionate terms) are far larger than anything seen in the history of all commodities markets.
Nonetheless, we continue to hear endless rhetoric about “speculators” disrupting markets (especially the crude oil market) – through “competing” with the buyers who actually consume these commodities through their own operations. Such “disruptive speculation” is often referred to (disparagingly) as “hoarding”.
Before I get into a direct analysis of this economic phenomenon, it would be helpful to review some basic economic fundamentals, and then first apply those fundamentals to the “short” side of commodities trading. Regular readers will be familiar with one of my economic mantras on commodities markets: anything which is under-priced will be over-consumed.
In fact, this isn’t really “economics”, but merely an expression of common sense. If chocolate bars were suddenly re-priced at a dime apiece, store shelves would be cleaned-out in days. Manufacturers’ inventories would then quickly be drained. This would soon be followed by acute shortages in the global cocoa market, and very possibly the sugar market as well.
At some point, not too far down the road, such warped pricing (totally against economic fundamentals) would create utter havoc in these markets – as acute shortages occurred – leading (inevitably) to a massive price-shock, not only to the chocolate bar market, but also with the cocoa market, and likely the sugar market, too. These price-shocks, in turn, would cause serious disruptions in other markets which rely upon these commodities.
In short, excessively low prices are at least as damaging and disruptive to markets as excessively high prices – and arguably much more so, since they lead to two massive distortions to markets: first over-consumption (which depletes inventories and stockpiles), followed by a massive price-shock (the only way to curb demand to a sustainable level).
If we replace the words “chocolate bar” (in our example) with the word “silver”, we see what utter havoc has been created in this market, through JP Morgan being allowed to accumulate and hold the largest, concentrated (short) position in the history of commodities market.
Noted silver authority Ted Butler has estimated that 90% of global stockpiles of silver have been used-up, thanks to decades of this market-manipulation by JP Morgan – along with smaller, but equally nefarious allies in this market. With decades of manipulation behind us, and global inventories and stockpiles already decimated, we have gone through the period of “over-consumption” and are rapidly approaching the massive price-shock – which became inevitable the day that JP Morgan (and fellow banksters) embarked upon this permanent-manipulation scheme. It is the years of ceaseless manipulation, combined with JP Morgan misrepresenting their activities in this market which makes this more than merely "illegitimate", but also illegal.
Not surprisingly, growing numbers of investors are gravitating toward this market. They are investing in a commodity which has become genuinely “scarce”, due to the nefarious (and illegal) manipulation of this market by JP Morgan and allies. How is the brain-dead media reacting to these market events?
Far from condemning the indefensible conduct of the bankers (on the short side), it is silver investors who are depicted as “speculators” – which as I explained earlier, is a “four-letter word” in the eyes of the U.S. regulator. And rather than describing the activity of these “speculators” as the very sensible decision to stock-up on a commodity in short supply, the media depicts this activity as “hoarding” – yet another term with negative connotations.
To display how this attitude is not simply “warped”, but totally mistaken, let’s back-up a bit. JP Morgan attempts to “justify” its illegal manipulation of the silver market as part of the legitimate activity of “hedging”. Simple arithmetic proves JP Morgan is lying. By definition, hedging is an activity to help restore balance to a market – through offsetting long positions in that market.
More importantly, the mechanism through which hedging restores balance is price. At this point, analysis becomes simple: if the hedging is legitimate it will produce a price which leads to balance between supply and demand in this market. The simple fact that the (supposed) “hedging” (i.e. shorting) by JP Morgan led to a 90% drop in global stockpiles, and a corresponding 90% plunge in global inventories (in just 15 years) is – by itself – conclusive proof that JP Morgan’s short-position could not possibly represent legitimate hedging.
JP Morgan created the severe imbalance in this market, through overly depressing the price with its manipulative shorting. This has led (directly) to destruction of stockpiles, which also leads (directly) to the massive price-shock toward which we are heading. Let’s compare this activity to the (long) “speculation” which the CFTC has mistakenly identified as a more serious problem.
Let’s assume that the level of long-investment (i.e. “speculation”) leads to tightening supplies for a particular commodity. Let’s go even further, and raise the level of “speculation” to the point where there is a serious “spike” in the price of that commodity. What happens then?
The spike in price causes demand to plummet. This causes the price to fall (rapidly) irrespective of the conduct of “speculators”. After bouncing-around a bit (as the pendulum swings back and forth), the price returns to an equilibrium level – and there has been only one disruption to this market.
Conversely, with the excessive shorting of JP Morgan (et al), first this leads to over-consumption. In the case of a metal like silver, with countless useful chemical/metallurgical properties, this means numerous businesses incorporate silver into their business/production model (at a price which cannot possibly be sustained over the long-term). Thus, when the inevitable collapse in supply occurs (and a default, or severe supply disruption in this market), far too many businesses have not only become dependent on silver, but dependent upon cheap silver.
This means that the original supply-crunch will have an horrendous impact on these businesses. However, that impact is nothing compared to the harm of the massive price-shock – made inevitable by excessive consumption. Because under-pricing led/leads to massive over-consumption, demand would have been (artificially) pushed to grossly excessive levels – maximizing the total damage from the price-shock.
Conversely, in a market which only has long-speculation, there is no artificial demand created first. What this means is that a price-shock created by “over-speculation” must (as a matter of simple arithmetic/logic) cause less problems than an imbalance caused by excessive-shorting.
Let’s reinforce the distinction that “hoarding” is the noble activity, while “shorting” is the evil which must be controlled. This can be easily illustrated by looking at the “supply” of various species of animals, in the animal kingdom. Here, the concept of hoarding does not even exist. Rather, we encounter a word with a much different connotation: “conservation”.
When a particular species of animal becomes “endangered” due to “over-consumption”, the people who protect the supply of such species are widely viewed as heroes. We can easily export this analysis to the world of commodities, by simply reviewing the evolution of the silver market.
First, JP Morgan engages in grossly-excessive (and illegal) shorting of the silver market. This causes the price to drop to a totally artificial level (which is what causes over-consumption). Thus, what the market needs is higher prices – to push demand back down to sustainable levels. Enter the silver investors.
The moment that these investors start buying-up significant amounts of silver, this causes the price to rise (and curbs demand) sooner than without the intervention of these investors. What this means is that the price-shock occurs sooner than without this investing and (as a result) there is more silver remaining in global stockpiles than without the virtuous influence of these investors. This analysis is by no means unique to the silver sector, but can be applied to any/all commodity markets.
This analysis should also serve to provide readers with proper perspective regarding the individuals (and groups, such as GATA) who have laboured for years to expose the illegal manipulation of the gold and silver markets. The clueless media have depicted these people as a collection of “Don Quixotes”, who are supposedly wrong about both the existence of manipulation in these markets and the urgent need to stamp-out such manipulation ASAP.
Any valid analysis of these markets instantly vindicates these people (and their efforts), while it is the “shorts” (and their defenders in the media and regulatory bodies) whose conduct cannot withstand the slightest analytical scrutiny.
In short, we could easily devise an “I.Q. test” for all would-be “regulators” of the CFTC. We can test them on their understanding of (and the distinction between) hoarding and shorting. Given the rhetoric emanating from this severely-tarnished institution, most if not all of the CFTC’s current “leadership” would flunk such a simple exam – with a similar lack of comprehension to be expected should we test media “experts” on commodities.
Readers must “shun the herd” when it comes to commodities analysis – as there are few signs of intelligent-life here. While silver investors are unlikely to be awarded “medals” for their virtuous conduct, at least we can go to sleep at night knowing that we won’t “burn in Hell” like the silver-shorts of JP Morgan.
Disclosure: I hold no position in JP Morgan or HSBC.

Wall of Worry?

IMF Report Shows G7 Debt Building Toward Calamity

As per the August 31 DTS statement, the US ended the month with a new all time record of $13.45 trillion in debt, and increase of $210 billion from the beginning of the month (or $225 billion in public debt, net of intragovernmental holdings). With just 30 days left in fiscal year 2010, the US has added $1.54 trillion in the eleven months ended August 31, a monthly average increase of $140 billion. As a point of reference, the US has received $1.53 trillion in withheld income tax over the same period, confirming that the US continues to issue more than one dollar in debt for every dollar it receives via income tax revenue. This balance will likely be tipped soon courtesy of changes to the tax law, which will adversely impact the withheld tax line, implying even more funding has to come in the form of debt.

Additionally, the US rolled another $513 billion in short-term debt: a number which continues to be persistently high, even as the total amount of short term debt as a percentage of total has declined steadily from 30%+ of total to around 20% as we have written elsewhere. Another $106 billion in Notes was rolled as well, with the intramonth cash balance dropping to a dangerous sub-$5 billion.

For the 11 months ending August 30, the US has paid $180 billion in interest expense in a time of record low interest rates.
At the current rate, we expect that the statutory, and completely irrelevant, debt limit of $14.3 trillion will be breached in the first two months of 2011. At that point total federal debt as a % of US GDP will be roughly 100% in its purest definition, and the inevitable greenlighting by Congress to raise the ceiling then will means that America is fully sliding into a debt-to-GDP ratio of >1.

Mind-Numbing Debt Continues to Mount

from Zero Hedge:
As per the August 31 DTS statement, the US ended the month with a new all time record of $13.45 trillion in debt, and increase of $210 billion from the beginning of the month (or $225 billion in public debt, net of intragovernmental holdings). With just 30 days left in fiscal year 2010, the US has added $1.54 trillion in the eleven months ended August 31, a monthly average increase of $140 billion. As a point of reference, the US has received $1.53 trillion in withheld income tax over the same period, confirming that the US continues to issue more than one dollar in debt for every dollar it receives via income tax revenue. This balance will likely be tipped soon courtesy of changes to the tax law, which will adversely impact the withheld tax line, implying even more funding has to come in the form of debt.

Additionally, the US rolled another $513 billion in short-term debt: a number which continues to be persistently high, even as the total amount of short term debt as a percentage of total has declined steadily from 30%+ of total to around 20% as we have written elsewhere. Another $106 billion in Notes was rolled as well, with the intramonth cash balance dropping to a dangerous sub-$5 billion.

For the 11 months ending August 30, the US has paid $180 billion in interest expense in a time of record low interest rates.
At the current rate, we expect that the statutory, and completely irrelevant, debt limit of $14.3 trillion will be breached in the first two months of 2011. At that point total federal debt as a % of US GDP will be roughly 100% in its purest definition, and the inevitable greenlighting by Congress to raise the ceiling then will means that America is fully sliding into a debt-to-GDP ratio of >1.

Wednesday, September 1, 2010

Forex Volume Hits All-Time High

Forex volume has hit a new all-time high, even while stock market volume hits a fresh low. Forex on Friday hit a new high of $4 trillion in volume for a single day!

The Path of the Republic

Problem Banks Continue to Increase

Dollar Gets Massacred Overnight

Is this the beginning of the consequences of Fed interventions? John Hussman said last week that Dollar devastation would be inevitable. There are whisper rumors that the Fed is buying, or soon will begin buying, directly in the stock market. The Japanese have been doing so for years. If so, inflation is going to escalate. Michael Pento is predicting that the Fed will, either openly or not, directly intervene to buoy up stocks.

Excerpts from Zero Hedge:

"...Michael Pento makes the case that as opposed to the occasional market intervention via the President's Working Group, Bernanke will soon make stock purchases an outright policy of the Federal Reserve as its last ditch attempt to engender inflation before the hundreds of billions of Commercial Real Estate and other bank debt start maturing in 2011/2012. Bernanke is running out of time and he knows it. And once the Fed becomes the bidder of last resort in stocks, all bets are off, as the Central Bank will become the defacto only market in virtually every risky category. And the only safe vehicle, once the market then begins to price in Fed driven asset-price hyperinflation, will be gold..
Pento also provides some perspectives on the Fed's balance sheet, which he anticipates will expand in a "great fashion", but a much bigger concern to the recent Euro Pacific Capital addition, is the possible surge in M2: "That base money can expand, M2 which is currently running around 8.5 trillion all the way up to nearly 25 to 30 trillion dollars of money supply and that's enough obviously to send prices through the roof." All Bernanke needs to do is light the "alternative asset purchasing" match and all those who wonder what left field hyperinflation could come out of, will get their answer.

Pento also goes into explaining why housing is facing a "deflationary depression," and a further collapse in pricing, why inflation benefits only those closest to the money, i.e., the banks and the military complex, why it destroys the middle class (we are sure Buffett ca. 2003 could say something about that too... the current, far more senile and captured Uncle Warren, not so much), the impact on discretionary purchases, on unemployment, real incomes, and all other items which tend to "follow the money."
Lastly, Pento concludes with an analysis of what would have happened had the government allowed the deflationary depression to occur two years ago, without the tens of trillions in bank bailouts. We protracted, and elongated the depression. But instead of having the benefit of falling prices, you have rising prices." And if Pento is right, the price rise has only just begun.

Tuesday, August 31, 2010

Natural Gas Looks Like Its Close to a Bottom

Natural gas may be carving out a bottom; we’re suggesting longs in futures with tight stops or purchasing call spreads in the month of November.

Cocoa Continues to Drop

I've been watching and waiting some time to buy cocoa. It appears that moment may soon be upon us.

Aug 31 - Cocoa futures on ICE fell to the lowest levels in more than one-year on Tuesday, weighed both by generally favourable crop prospects in West Africa and broad-based losses in oil and other commodities.

Daily News Alerts
Arabica coffee and raw sugar futures on ICE were also lower as concerns about the economic outlook triggered losses in global equity markets.
Liffe markets reopened on Tuesday following a U.K. holiday with cocoa quickly setting an 11-month low.
"Clearly, for the short-term at least, the more bearishly-inclined have the upper hand (on cocoa), driven partly no doubt by the flow of news stories and comments forecasting a much better 2010-11 crop out of Ivory Coast," ABN AMRO said in a report issued on Tuesday.
"As prices have retreated, industry buying has stepped up significantly, suggesting industry cover has been rather lower than might have been imagined," the report added. December cocoa futures on ICE fell $17 to 0.6 percent to $2,697 a tonne by 1147 GMT after earlier slipping to $2,690, the lowest level for the second month since mid-July 2009.
Prices in London also fell with December down 10 pounds at 1,921 pounds a tonne after earlier hitting an 11-month low of 1,915 pounds.
Dealers also noted the nearby premium continued to decline as concern about tightness in available supplies to tender against September diminished.

August Slump to Bring September Swoon?

from WSJ:

Dreadfully-Down Dow

The Dow closed down 4.3% for August, and the worst August for all three major stock indexes since 2001. At least we were up a squeaker today, holding the 10,000 level by the skin of our teeth!

Gold Is Now Futures' Longest-Running Rally

Gold is now only about $20 from another new high.

Trying to Lift Stocks Off Support

Consumer Confidence Surprises, Grinds Higher

Consumer confidence comes in at 53.5 in August versus 51.0 in July: somehow the fact that the economy officially double dipped in the month was lost on the 6 or 7 top CEO respondents in the Conference Board rolodex.
Below is the chart of consumer confidence coming in 23 points below the 5 year average. Green shoots indeed... if by confidence one measures just how sure consumers are they are about to get royally raped.

Case/Shiller Rises by End of June

This data is so old that it is virtually worthless, but the financial markets will take it as a sign of hope.

The two month delayed Case Shiller index came in at 4.4% for Q2, after having fallen 2.8% in the first quarter. Nationally, home prices are 3.6% above their year-earlier levels. In June the Y/Y change for the Composite 20 portion of the index was 4.23% on expectations of 3.6%, with the previous 4.61% revised to 4.64%. Again, as this index shows how the economy performed almost a quarter ago, this can and should be completely ignored.

PMI Plunges to New 2010 Low

The Chicago August PMI just came out at a new 2010 low of 56.7, missing expectations of 57.0, and a plunge from the prior read 62.3. The decline was across all key subindices, with Employment (55.5), New Orders (55.0), Prices Paid (57.2), and Production (57.6) all coming in below the prior prints.

Monday, August 30, 2010

IMF Raises Borrowing Facility to Infinity

Since the United States is the largest donor nation to the IMF, the American people have just had infinite liability put on their shoulders. A calamity is certain!

JPM Predicts Crude Oil Drop Because Manufacturing Will Be Cut in HALF!

SAN FRANCISCO (MarketWatch) -- J.P. Morgan Chase & Co. has lowered its price target for crude-oil futures, saying the recent bounce is likely temporary and forecasting prices around $65 a barrel by October.
The firm has tweaked its third-quarter price forecast to $75 a barrel, from $77 a barrel.
Investors should view the recovery in prices in the coming week as "a selling opportunity," analysts at Morgan wrote in a note to clients.
Prices are likely to "move into the mid $60s before (the Organization of the Petroleum Exporting Countries) meets in October," they said.
Oil futures rose 2.5% on Friday, with the October contract adding $1.81 to $75.17 a barrel on the New York Mercantile Exchange. Oil gained 1.8% this past week, which comes after two straight weeks of losses.
"With global manufacturing growth set to halve over the coming months and projections of developing market growth being ratcheted down, it is hard to argue that this will be any more than a temporary bounce," Morgan said.

Dalls Fed Manufacuting Drops

Nothing good to report out of the Dallas Fed, today's last key economic data point, which came in at -13.5%, missing expectations of -10.0%, although a modest rebound from the prior disastrous plunge to -21.0% in July.

Fed QE Runs Risk of Mistiming and Backfiring!

by Chadd Bennett at Index Universe:

In order to get a sustainable recovery, the private markets, riding the momentum of the government’s stimulative measures in 2009, were supposed to be taking over right about now.
Instead, the opposite is happening, even as the Fed has decided to continue to pump money into the system. This represents, in my opinion, an admission that the window for the handoff to the private markets was missed, and now could be years away. That’s mostly because given the current state of the economy, it will be very difficult to duplicate the kind of economic and market momentum established after the government’s initial efforts to revive the economy after the financial meltdown of 2008.
Chadd Bennett
If you agree with this notion that the Fed’s stimulative efforts failed to give the economy the escape velocity it needed to make the recovery self-sustaining, and furthermore, believe the Fed itself realizes that it missed this chance, then it should be safe to assume that there’s no turning back for the Fed. The confirmation came on Friday when Ben Bernanke said the Fed will be there for support in the face of any signs of deflation.
What’s important about this development is that this has caused the Fed to become the marginal buyer of U.S. Treasurys in a big way. Just as the government bailed out Fannie Mae and Freddie Mac, it’s now fast becoming the largest source of government funding.
This has placed the Fed in a difficult position of making current and future policy decisions more akin to a long-term portfolio manager rather than a central bank. As if it didn’t have a big enough challenge already, it’s now directly influenced by the moves it makes with current and future bond holdings rather than just the changes in interest rates it controls.
I believe this explains in large part why investors are more comfortable buying bonds at these levels. If you have a constant bid from a long-only market participant with unlimited buying power, what’s the risk?
The past few weeks have seen a surge in demand for fixed-income assets that rivals the run seen in equities during the tech boom. Bloomberg reported last week that “investors poured $480.2 billion into mutual funds that focus on debt in the two years ending June, compared with the $496.9 billion received by equity funds from 1999 to 2000.” It cited data compiled by it and the mutual fund industry’s Washington-based trade group, the Investment Company Institute.
Another relatively new and strong bidder for Treasurys, especially over the past year, is the U.K. or Bank of England. Looking at the Federal Reserve custody account shows U.K. Treasury holdings have more than tripled to over $350 billion over the past 12 months. 

UK Treasury holdings 6/09 to 6/10

While foreign demand in general, at least for Treasurys, has been steady, according to the Fed’s custody account, watching how these flows evolve is important when considering the sustainability of recent fixed-income price movements.

US Treasury vs. Federal agency securities: 12/02 to 7/10

It’s hard to imagine, for example, that the accumulation of Treasurys by the U.K. and mutual funds will continue at the same exponential rate for much longer. Could U.K. holdings of Treasurys again triple, let alone rise another $230 billion, as they did in the past year? Not likely, in my view.
Also, it’s nearly impossible to measure the real implications of the Fed becoming the biggest holder and future financer of U.S. government. It’s this uncertainty that I think is and will be underestimated by the market. Part of this reasoning is that the harder and longer the Fed pushes with measures like quantitative easing, the fatter the hyperflationary tail becomes.
If and when this probability grows to a point where the market cares, it could cause a sudden shift in rates to the upside that would catch many off guard.
So, whether you agree or disagree with where bonds are priced right now, it’s tough to argue that the trade isn’t crowded at least in the near term. The potential reversal we saw in equities and yields last Friday is a possible sign that things need to revert to the mean a bit before they continue on their paths.