Remember, the market is designed to fool most of the people most of the time. ~ Jesse Livermoore
Friday, December 24, 2010
John Mauldin explained the risks of EU debt default and/or restructuring in his latest newsletter:
How often did we as young kids go down the street kicking a can? "Kicking the can down the road" is a universally understood metaphor that has come to mean not dealing with the problem but putting a band-aid on it, knowing we will have to deal with something maybe even worse in the future.
While the US Congress is certainly an adept player at that game, I think the world champions at the present time have to be the political and economic leaders of Europe. Today we look at the extent of the problem and how it could affect every corner of the world, if not played to perfection. Everything must go mostly right or the recent credit crisis will look like a walk in the Jardin des Tuileries in Paris in April compared to what could ensue.
From the point of view of not wanting to so soon endure another banking and credit crisis, we must applaud the leaders of Europe. The PIIGS collectively owe over $2 trillion to European and US banks. German, French, British, Dutch, and Spanish banks are owed some $1.5 trillion of that by Portugal, Ireland, Spain, and Greece by the end of June, 2010. That figure is down some $400 billion so far this year, which means that the ECB is taking on that debt, helping banks push it off their balance sheets. For what it's worth, the US holds, according to the Bank for International Settlements, about $353 billion, or 17%, of that debt, which is not an inconsequential number.
Robert Lenzner notes something very interesting about the latest BIS report, out this week:
"What's curious, though, is that for the first time the BIS has broken out a new debt category termed 'other exposures, which it defines as 'other exposures consist of the positive market value of derivative contracts, guarantees extended and credit commitments.' These 'other exposures' - quite clearly meant to be abstruse - amount to $668 billion of the $2 trillion in loans to the PIIGS.
"So, bank analysts everywhere; you now have to cope with evaluating derivative contracts that could expose lenders to losses on sovereign debt. Be on notice!"
What did I write just last week? That it is derivative exposure to European banks that is a very major concern for the world and the US in particular. It is not just a European problem. I predicted in 2006 that the subprime problem would show up in Europe and Asia. This time around, European banks present a similar if not greater risk to the US.
A collapse of a major European bank could trigger all sorts of counterparty mayhem in the US banking system, at least among our major investment banks. And then people would want to know which bank was next. This is yet another reason why the recent financial-system reform was not real reform. We still have investment banks committing bank capital to derivatives trading overseen by regulators who don't really understand the risk. Who knew that AIG was a counterparty risk until it was? Lehman was solid only a month before until it evaporated. On paper, I am sure that every one of our banks is solid - good as gold - because they have their risks balanced with counterparties all over the globe and they have their models to show why you should go back to sleep.
Kicking the Can Down the RoadAnd that is why I applaud the ECB for stepping in and taking some risk off the table. We do not know how close we came to another debacle. Does anyone really think Jean-Claude Trichet willingly said, "Give me your tired, your poor, your soon-to-default sovereign debt?" Right up until he relented he was saying "Non! Non!" He did it because he walked to the edge of the abyss and looked over. It was a long way down. Bailing out European banks at the bottom would have cost more than what he has spent so far. It was, I am sure, a very difficult calculation.
I remember writing a letter not so long ago, quoting Trichet on that very topic. He was vehemently opposed to any ECB involvement in something that looked like a bailout. And then he wasn't. I do hope he writes a very candid memoir. It will be interesting reading. The reality is that there was nowhere else to turn. There were no mechanisms in the Maastricht Treaty for dealing with this situation. What I wrote the following week (or thereabouts) still stands. This was and is a bailout for European banks in order to avoid a banking crisis. Many European banks, large and small, have bought massive sums on huge leverage of sovereign debt, on the theory that sovereign debt does not default. Some banks are leveraged 40 to 1!
The ECB is now earnestly continuing to kick the can down the road, buying ever more debt off the books of banks, buying time for the banks to acquire enough capital, either through raising new money or making profits or reducing their private loan portfolios, to be able to deal with what will be inevitable write-downs. It they can kick the can long enough and far enough they might be able to pull it off.
There is historical precedent. In the late '70s and early '80s, US banks figured out that if you bought bonds from South American countries at high rates of interest and applied a little leverage, you could practically mint money. And everyone knew that sovereign countries would not default. That is, until they did.
Technically, every major bank in the US was insolvent then. I mean really toes-up, no-heartbeat bankrupt. So what happened? Mean old Paul Volker - he who willingly plunged the US into recession to vanquish the specter of inflation - allowed the banks to carry those South American bonds on their books at full face value. He kicked the can down the road. And the banks raised capital and made profits, shoring up their balance sheets.
In 1986 Citibank was the first bank to begin to write down those Latin American bonds. Then came Brady bonds in 1989. Remember those? Brady bonds were as complicated as they were innovative. The key innovation behind their introduction was to allow the commercial banks to convert their claims on developing countries into tradable instruments, allowing them to get the debt off their balance sheets. This reduced the concentration risk to the banks. (To learn more about Brady bonds, and a very interesting period, go to http://en.wikipedia.org/wiki/Brady_Bondsand also google "Brady bonds.")
So it worked. Kicking the can down the road bought time until the banks were capable of dealing with the crisis.
Different Cans for Different FolksThe ECB has chosen a different way to kick that old can (and a large and noisy one it is!), but it is not without consequences. Trichet has let it be known that dealing with sovereign-debt default issues should not be the central bank's problem, it should be a problem for the European Union as a whole. And I think he is right, for what that's worth.
If the ECB were to keep this up, even in a deflationary, deleveraging world it would eventually bring about inflation and the lowering of the value of the euro against other currencies. That is not the stuff that German Bundesbankers are made of. So they have been pushing for a European Union solution.
At first, the political types came up with the stabilization pact in conjunction with the IMF. But this was never a real solution, other than for the immediate case of Greece ... and then Ireland. It has some real problems associated with it. It could deal with Portugal but is clearly not large enough for Spain. It is worth nothing that the political leaders of both the latter countries have loudly denied they need any help. Hmm. I seem to remember the same vows just the week before Ireland decided to take the money.
One of my favorite writers, Michael Pettis penned this note:
"Its official - Spain and Portugal will need to be bailed out soon. How do I know? In one of my favorite TV shows, Yes Minister, the all-knowing civil servant Sir Humphrey explains to cabinet minister Jim Hacker that you can never be certain that something will happen until the government denies it."
Ultimately, the EU has three options. But before they get there - or maybe better said, before there is a crisis that forces them to get there - they will continue to kick the can down the road. They are really very good at it. We will consider those options in a little bit; but first, let's look at just one aspect of the problem that will lend some context to the various paths among which they must choose. And that will take us on a detour back to our old friend Greece, where this all started.
More Debt is NOT the Solution to Too Much DebtGreece is being forced into an austerity program in order to be able to continue to borrow money. But it has come with a cost. Unemployment is now at 12.6%, up from less than 7% just two years ago. And Greek GDP continues to slide. Let's look at some charts and data from my favorite slicer and dicer of data, Greg Weldon ( www.weldononline.comfor a free 30-day trial).
Notice that Greek GDP is down over 7% for the last 9 quarters, and there is no reason to believe there will be a reversal any time soon.
A declining GDP is just not good for the country, but it also makes it more difficult for Greece to get back into compliance with its EU fiscal deficit-to-GDP requirements. The problem is that GDP is declining faster than the fiscal deficit. Normally, a country would devalue its currency (and thus its debt), maybe restructure its external debt (or default), and then try to grow its way out of the crisis.
Let's go back and look at what Iceland did, as compared to Ireland, which is trying to take on more debt to bail out its banks, that is, to bail out German and French and British banks.
This is what I wrote a few weeks ago, and it bears repeating:
Look at how upset the UK got when Iceland decided not to back their banks. Never mind that the bank debt was 12 times Iceland's national GDP. Never mind that there was no way in hell that the 300,000 people of Iceland could ever pay that much money back in multiples lifetimes. The Icelanders did the sensible thing: they just said no.
Yet Ireland has decided to try and save its banks by taking on massive public debt. The current government is willing to go down to a very resounding defeat in the near future because it thinks this is so important. And it is not clear that, with a slim majority of one vote, it will be able to hold its coalition together to do so. This is what the Bank Credit Analyst sent out this morning:
"The different adjustment paths of Ireland and Iceland are classic examples of devaluation versus deflation.
"Iceland and Ireland experienced similar economic illnesses prior to their respective crises: Both economies had too much private-sector debt and the banking system was massively overleveraged. Iceland's total external debt reached close to 1000% of its GDP in 2008. By the end of the year, Iceland's entire banking system was crushed and the stock market dropped by more than 95% from its 2007 highs. Since then, Iceland has followed the classic adjustment path of a debt crisis-stricken economy: The krona was devalued by more than 60% against the euro and the government was forced to implement draconian austerity programs.
"In Ireland, the boom in real estate prices triggered a massive borrowing binge, driving total private non-financial sector debt to almost 200% of GDP, among the highest in the euro area economy. In stark contrast to the Icelandic situation, however, the Irish economy has become stuck in a debt-deflation spiral. The government has lost all other options but to accept the E85 billion bailout package from the EU and the IMF. The big problem for Ireland is that fiscal austerity without a large currency devaluation is like committing economic suicide - without a cheapened currency to re-create nominal growth, fiscal austerity can only serve to crush aggregate demand and precipitate an economic downward spiral. The sad reality is that unlike Iceland, Ireland does not have the option of devaluing its own currency, implying that further harsh economic adjustment is likely."
This is what it looks like in the charts. Notice that Iceland is seeing its nominal GDP rise while Ireland is still in freefall, even after doing the "right thing" by taking on their bank debt.
Greek five-year bonds are now paying 12.8%. It is hard to grow your way out of a problem when you are paying interest rates higher than your growth rate and you keep adding debt and increasing your debt burden.
Each move to deepen government cuts in Greece will result in further short-term deterioration of GDP, which makes it even harder to dig out of the hole. And Greece is a particularly thorny problem. The taxi drivers are outraged that they might have to use meters. Why? Because that means someone could actually track the amount of money they take in. Government workers are striking over 10% pay cuts. And on and on.
It is the same song but with a different verse for the rest of the countries in Europe that have problems. While Ireland is very different from Greece, assuming massive debt in a deflating economy will only turn Ireland into an ever-larger burden unless they can get on the path to growth again. Ditto for Portgual, Spain, and....
Et Tu, Belgium?One country after another in Europe is coming under pressure. This week the debt of Belgium was downgraded, and the accompanying note from Standard and Poor's observed that:
"Belgian's current caretaker government may be ill-equipped to respond to shocks to public finances. The federal government's projected 2011 gross borrowing requirements of around 11 percent of GDP leaves it exposed to rising real interest rates."
At some point, if a country does not get its fiscal deficit below nominal GDP (and this is true for the US as well!) it will run into the wall. Credit markets will no longer lend to it. In Europe, the lender has become the ECB, but that may - and I emphasize may - change with the establishment of a new authority for the European Union to sell bonds and use the proceeds to fund nations in crisis. Under the proposal, each nation would assume a portion of the total debt risk. That may be a tough sale, as it appears there will need to be a treaty change and then country-by-country votes for such a change.
It will also mean that countries that accept such largesse will endure a very stern hand in their fiscal affairs. This is potentially a very real surrender of sovereignty. Some countries may decide it's worth the price. Others, on the funding side of the equation, may decide they have to "take one" for the good of the European team.
This fund is to be launched in 2013, which gives EU leaders some time to flesh out the idea and sell it.
A second choice is for some countries to leave the euro but stay in the EU. Not all members of the EU participate in the eurozone. Leaving would be hugely messy. It is hard to figure out how it could be done without serious collateral damage. Even if Germany were to decide to be the one to leave, which they actually could, as the new German currency would rise over time, it would also mean their exports would be less competitive within Europe.
A third choice (which could be combined with the first choice) is radical debt restructuring. Convert Greek bonds into 100-year low-interest bonds, giving the Greeks (or Irish or Portuguese ...) the time and ability to service the debt, along with real controls on their spending. Of course, that is default by another name, but it allows the fiction. Something like Brady bonds. You hit the reset button and kick the can a long way down the road.
That choice too has political and economic consequences. Someone has to cover the losses on the mark-to-market for those bonds. Who takes the hit?
Let me close with this bit of insight from one of my favorite analysts, MartinWolfe of the Financial Times (www.ft.com):
"This leads to my final question: could the eurozone survive a wave of debt restructurings? Here the immediate point is that the crisis could be huge, since one restructuring seems sure to trigger others. In addition, the banking system would be deeply affected: at the end of 2009, for example, consolidated claims of French and German banks on the four most vulnerable members were 16 per cent and 15 per cent of their GDP, respectively. For European banks, as a group, the claims were 14 per cent of GDP. Thus, any serious likelihood of sovereign restructuring would risk creating runs by creditors and, at worst, another leg of the global financial crisis. Further injections of official capital into banks would also be needed. This is why the Irish have been "persuaded" to rescue the senior creditors of their banks, at the expense of the national taxpayer.
"Yet even such a crisis would not entail dissolution of the monetary union. On the contrary, it is perfectly possible for monetary unions to survive financial crises and public sector defaults. The question is one of political will. What lies ahead is a mixture of fiscal transfers from the creditworthy with austerity among the uncreditworthy. The bigger are the former, the smaller will be the latter. This tension might be manageable if a swift return to normality were plausible. It is not. There is a good chance that this situation will become long-lasting.
"Still worse, once a country has been forced to restructure its public debt and seen a substantial part of its financial system disappear as well, the additional costs of re-establishing its currency must seem rather smaller. This, too, must be clear to investors. Again, such fears increase the chances of runs from liabilities of weaker countries.
"For sceptics the question has always been how robust a currency union among diverse economies with less than unlimited mutual solidarity can be. Only a crisis could answer that question. Unfortunately, the crisis we have is the biggest for 80 years. Will what the eurozone is able to agree to do be enough to keep it together? I do not know. We all will, however, in the fairly near future."
My only small disagreement is on whether it will be in the "near future." World champion can kickers can put off the day of reckoning longer than you might think. On the other hand, when that day does come, it will seem to have come so quickly and with so little warning. There is no way to know what the markets will do about this, so it pays to stay especially vigilant and flexible.
Tuesday, December 21, 2010
WASHINGTON (Reuters) - The U.S. government fell deeper into the red in fiscal 2010 with net liabilities swelling more than $2 trillion as commitments on government debt and federal benefits rose, a U.S. Treasury report showed on Tuesday.
The Financial Report of the United States, which applies corporate-style accrual accounting methods to Washington, showed the government's liabilities exceeded assets by $13.473 trillion. That compared with a $11.456 trillion gap a year earlier.
Unlike the normal measurement of government intake of receipts against cash outlays, accrual accounting measures costs such as interest on the debt and federal benefits payable when they are incurred, not when funds are actually disbursed.
The report was instituted under former Treasury Secretary Paul O'Neill, the first Treasury secretary in the George W. Bush administration, to illustrate the mounting liabilities of government entitlement programs like Medicare, Medicaid and Social Security.
The government's net operating cost, or deficit, in the report grew to $2.080 trillion for the year ended September 30 from $1.253 trillion the prior year as spending and liabilities increased for social programs. Actual and anticipated revenues were roughly unchanged.
The cash budget deficit narrowed in fiscal 2010 to $1.294 trillion from $1.417 trillion in 2009. But the $858 billion tax cut extension package enacted last week is expected to keep the deficit well above the $1 trillion mark for another year.
BUDGET CUT DEBATE
The latest Treasury report should fuel debate in Congress over spending cuts next year as a new Republican majority in the House of Representatives takes office.
The U.S. Senate on Tuesday approved a compromise bill to fund the government until March 4, 2011. After that, Republicans will have the chance to push through dramatic budget cuts.
"Today, we must balance our efforts to accelerate economic recovery and job growth in the near term with continued efforts to address the challenges posed by the long-term deficit outlook," Treasury Secretary Timothy Geithner said in a letter accompanying the report. "The administration's top priority remains restoring good jobs to American workers and accelerating the pace of economic recovery."
Among key differences between the operating deficit and the cash deficit were sharp increases in costs accrued for veterans' compensation, government and military employee benefits and anticipated losses at mortgage finance giants Fannie Mae and Freddie Mac.
The biggest increase in net liabilities in fiscal 2010 stemmed from a $1.477 trillion increase in federal debt repayment and interest obligations, largely to finance programs to stabilize the economy and pull it out of recession.
The federal balance sheet liabilities do not include long-term projections for social programs such as Medicare, Medicaid and Social Security, but these showed a positive improvement.
The report said the present value of future net expenditures for those now eligible to participate in these programs over the next 75 years declined to $43.058 trillion from $52.145 trillion a year ago -- a change attributed to the enactment of health-care reform legislation aimed at boosting coverage and limiting long-term cost growth.
The overall projection, including for those under 15 years of age and not yet born, is much rosier, with the 75-year projected cost falling to $30.857 trillion from last year's projection of $43.878 trillion.
The report noted, however, that there was "uncertainty about whether the projected reductions in health care cost growth will be fully achieved."
by Graham Summers at Phoenix Capital Research:
Monday, December 20, 2010
Rudolph was well into bringing the "Santa Rally" to town when this week he suddenly ran into the ominous sounding "Hindenburg Omen." Beyond that, economic news was mostly positive while markets remain overbought, breadth is dwindling and upward momentum has stalled heading into the lightly traded Christmas week.
- There is a more than 75% probability of a decline of 5% or more after a confirmed Hindenburg Omen.
- Larger selloffs have occured roughly 40% of the time after an omen while the probability of a major crash is approximately 25%
- A Hindenburg Omen has been generated before every major stock market decline since 1985.
- Over the past 25 years, it has a greater than 90% accuracy rate.
from Simon Maierhofer at ETF Guide:
The stock market is lulling investors to sleep. Since early September stocks have gone nowhere but up. Four weeks of steady gains have rekindled optimism and created a state of euphoria not seen in years … since late 2007 to be exact.
The irony of this article is that few investors will feel compelled to read anything that resembles a warning or contains a bearish message. The few that read this piece will probably scoff at it. That’s how bear market rallies work and that’s why they are effective.
The soothing rhythm of the VIX has lulled investors into a state of complacency. If you had to describe investor’s alertness in sleep lingo, a state of REM sleep would probably be the closest comparison.
History tells us that the (bear) market only strikes when least expected.
Based on a variety of sentiment measures, a stock market decline is viewed to be less likely to happen now than in 2000 or 2007.
Investors and traders are content to hold on to massive long positions without hedge. One of the easiest ways to hedge your stock portfolio is via put options. The CBOE Equity Put/Call Ratio has tumbled to the second lowest reading in years. The only time investors hedged less was in April 2010.
Back then, the put/call ratio dropped to 0.45. The lack of hedging is dangerous for prices because the market is without a safety net. The only option for spooked investors without hedge is to sell. Selling causes prices to drop.
On April 16, 2010, the ETF Profit Strategy Newsletter warned of the consequences of a low put/call ratio: “Selling results in more selling. This negative feedback loop usually results in rapidly falling prices. The pieces are in place for a major decline. We are simply waiting for the proverbial first domino to fall over and set off a chain reaction.”
The first domino dropped just a few days later, setting off the May 6 “Flash Crash” and ultimately resulted in a swift 15% correction for the Dow (DJI: ^DJI), 17% correction for the S&P (SNP: ^GSPC), 19% for the Nasdaq (Nasdaq: ^IXIC), and 21% for the Russell 2000 (Chicago Options: ^RUT).
This Time is Different
The spirit of “this time is different” is one of the most fascinating phenomenons known to Wall Street. Investors’ sentiment precisely follows the ebb and flow of stock prices. When prices are up, the future is expected to be bright. When prices are down, the future is supposedly bleak (just think of the 2007 peak and 2009 bottom).
This approach of linear extrapolations feeds the herding mentality, which contrarians use as contrarian indicators. This approach is not foolproof but, nevertheless, is one of the most accurate, if not the most accurate timing tool known to underground Wall Street aficionados.
The chart below illustrates the four most prominent occurrences of extreme optimism, or the “this time is different” effect. The green line connects the price of the S&P with the timeline and various sentiment gauges.
Investors thought this time is different at the 2007 peak, in May 2008, in January 2010, and again in April 2010. The only thing different at all four times was the velocity of the descent, but each period of euphoria was greeted by despair.
Optimism and Bad News
If you have watched CNBC’s 60 Minutes over the past two weeks, you are aware of some serious “Black Swans.”
Scott Pelley’s introduction to Ben Bernanke’s interview couldn’t have been more sobering: “That is the worst recovery we've ever seen. Ben Bernanke is concerned. Chairmen of the Fed rarely do interviews, but this week Bernanke feels he has to speak out because he believes his critics may not understand how much trouble the economy is in.”
The financial media, however, ignored Ben Bernanke’s outright scary assessment of the economy and focused on the silver lining: A bad economy may lead to QE3 and its cousins QE4 and QE5. What’s better, an improving economy or more QE? Apparently QE is just as good as more jobs.
Yesterday’s 60 Minutes focused the next big thing; Municipal and state defaults. In the two years since the “Great Recession,” states have collectively spent nearly half a trillion dollars more than they collected. There’s a trillion dollar hole in their public pension fund and according to New Jersey’s Governor, the day of reckoning is near.
Meredith Whitney, one of the few analysts who foresaw the bubble building in banks (NYSEArca: KBE) and financials (NYSEArca: XLF) believes at least part of the three trillion municipal bond market will unravel within the next year.
For much of 2010 municipal bonds were brewing their own little bubble. As it is common with bubbles, they are rarely foreseen by the public eye. In the case of muni bonds, yield hungry investors ignored the red flags.
On August 26, the ETF Profit Strategy Newsletter warned that it is time to get out of muni bonds (NYSEArca: MUB), corporate bonds (NYSEArca: LQD) and Treasuries (NYSEArca: TLT). The chart below shows what has happened to muni bonds.
Yes, history doesn’t repeat itself but it often rhymes. In 2007, Merrill Lynch’s Global Economics Report foresaw a bright future: “The Merrill Lynch global economics team believes that the economy will continue to grow in 2007 – with no sign of a significant cyclical slowdown.”
According to J.P. Morgan, Barclays Capital and Goldman Sachs (Merrill Lynch failed to foresee its own demise in 2007 and is no more), the S&P will gain between 15 – 20% in 2011 and the “economy will continue to grow in 2011.” No, this time is different, really!
According to history, now is the time to at least be cautious and protect your investments. An ounce of protection is worth more than a pound of cure. Based on long-term valuation metrics the stock market is priced to deliver pain, not gain (see November 2011 ETF Profit Strategy Newsletter for a detailed analysis).
Based on sentiment, the market is overheated and due for a correction at the very least. Timing a top is tricky, but based and support and resistance levels and seasonal patterns it is possible to narrow down when the market is ready to roll over.
The ETF Profit Strategy Newsletter includes a semi-weekly update along with the most recent technical analysis and important support/resistance levels. A break below major support is likely to break the bulls’ spirit and the market’s streak … while most are still sleeping.
Oh, here are the missing lyrics for Rock-a-Bye Baby: “When the wind blows, the cradle will rock. When the bough breaks, the cradle will fall. And down will come baby, cradle and all.” It doesn’t sound like a good night’s sleep.
from Bloomberg Commodities:
Raw sugar rose to a 29-year high in New York on speculation supplies from India and Brazil, the world’s largest growers, won’t be enough to avoid a third consecutive annual shortage. Cocoa prices resumed gains.
Global output will lag behind demand by almost 3 million metric tons in the marketing year that ends Sept. 30, ABN Amro Bank NV and VM Group said Dec. 10, reversing an earlier forecast for a surplus. C. Czarnikow Sugar Futures Ltd. also forecasts a deficit. Raw sugar prices have jumped 23 percent this year.
NYBOT -- new 2010 high
Sugar -- new 29-year high
Cotton -- limit up, new all-time record high
headline from Zero Hedge today:
That's just 4 years and a few days from now!
more from Zero Hedge:
By now everyone has seen and played with the US debt clock via usdebtclock.org whereby anyone who so wishes, can find every little detail about America's current sad fiscal state. The fact that America currently has just under $14 trilllion in national debt should be no surprise to anyone who professes to having an even modest interest in the state of the US economy. Yet a new feature on the "debt clock", namely one which extrapolates future debt at current rates of advancement (instead of one based on the always completely inaccurate CBO estimates), and looks at US debt in the year 2015 will probably make many stop dead in the their tracks. If anyone thought that $14 trillion in 2010 debt is bad, just wait until we hit $24.5 trillion in total US national debt in 2015. And it gets even more surreal: total US Unfunded Liabilities are estimated at $144 trillion, roughly $1.2 million per taxpayer... Was that a pin dropping?
As Zero Hedge has long been predicting, we anticipate roughly $2 trillion in incremental debt per year. Surprisingly we are not far too off from where the "debt clock" sees US leverage in 5 years. At an estimated $24.5 trillion in federal debt, our $2 trillion per year run rate is spot on. Another thing that is spot on: our prediction that the US will need not one but two debt ceiling increases in 2011. And probably 6-8 over the next 5 years.
Some other observations for the US economy in 2015 simply assuming current conditions persist:
- Federal spending will be $3.3 trillion per year, and with federal revenue of $2.3 trillion (this number will be reduced as it also assumes $731 billion in payroll tax, a number which will likely be indefinitely reduced) the result is a budget deficit of $983.7 billion.
- Annual Medicare/Medicaid expenses will be just over $1 trillion
- US population: 326.8 million
- US workforce 131.3 million (and declining)
- Officially unemployed: 19.4 million
- Actual unemployed: 22.3 million
- State/Federal employees: 17.9 million
- People on SSN and other retirees: 72.6 million
- Food stamp recipients: 89.7 million
- Foreclosures: 2 million
- Social Security Liability: $19 trillion
- Medicare Liability: $99 trillion
- Total US Unfunded Liabilities: $144 trillion
- Gross Debt to GDP: 143%
France risks losing its top AAA grade as Europe’s debt crisis prompts a wave of downgrades that threatens to engulf the region’s highest-rated borrowers, with Belgium also facing a possible cut.
Moody’s Investors Service said Dec. 15 it may lower Spain’s rating, citing “substantial funding requirements,” and slashed Ireland’s rating by five levels on Dec. 17. Standard & Poor’s is reviewing its assessments of Ireland, Portugal and Greece. Costs to insure French government debt rose to a record today with the country’s credit default swaps more expensive than lower-rated securities from the Czech Republic and Chile.
“Every sovereign may get penalized in the year ahead,” said Toby Nangle, who helps oversee $46 billion as director of asset allocation at Baring Asset Management in London. “It would be a big deal if France was to have its AAA rating stripped. I don’t think the likelihood of a downgrade is reflected in the market.”
European Union leaders agreed last week to amend the bloc’s treaties to create a permanent debt-crisis mechanism in 2013 in an effort to stem contagion that started more than a year ago in Greece. Government bond yields climbed across the region even after Greece and Ireland were rescued and a backstop facility worth about $1 trillion was created.
“If problems in the euro zone aren’t solved quickly, then the conditions of refinancing will be expensive for these countries and the ratings agencies will do more downgrades,” said Ralf Ahrens, who helps manage about $20 billion as head of fixed income at Frankfurt Trust. “We already see these dynamics in the market. I see France as a risk.”
France’s credit rating is susceptible unless the country makes “meaningful reductions” to its deficit, said Padhraic Garvey, head of developed-market debt strategy at ING Bank NV in Amsterdam. The nation’s banks are the biggest holders of debt issued by the region’s so-called peripheral countries, posing possible “systemic risks,” added Markus Ernst, a credit strategist at UniCredit SpA in Munich.
Costs to insure French government debt trebled this year, reaching an all-time high of 105.5 today, according to data provider CMA. Credit default swaps tied to Czech securities were little changed at 90 basis points and Chilean swaps ended last week at 89.
The credit default swaps tied to the French bonds imply a rating of Baa1, seven steps below its actual top ranking of Aaa at Moody’s, according to the New York-based firm’s capital markets research group.
Contracts on Portugal imply a B2 rating, 10 levels below its A1 grade, while swaps tied to Spanish bonds trade at Ba3, 11 steps below its Aa1 ranking, data from the Moody’s research group show. Derivatives protecting Belgian debt imply a rating of Ba1, nine steps below its current rating of Aa1.
In Belgium, seven political parties involved in coalition talks are sparring over whether to grant more fiscal autonomy for the country’s regions after inconclusive elections in June left it without a government. The public debt of Belgium is close to 100 percent of gross domestic product, and 65 billion euros ($87 billion) of the nation’s bonds and bills are due to mature next year, according to data compiled by Bloomberg.
“Belgium’s prolonged domestic political uncertainty poses risks to its government’s credit standing,” S&P said in its Dec. 14 report that lowered the country’s outlook to “negative” from “stable.”
The European Union agreed in October to establish a European Stability Mechanism to deal with nations struggling to meet debt payments. The finance ministers of the 16 nations sharing the euro said Nov. 28 that “an ESM loan will enjoy preferred-creditor status, junior only” to International Monetary Fund loans.
The statement, which means bondholders rank behind those emergency loans, prompted S&P to warn it may lower the BB+ rating on Greece and A- long-term rating on Portugal. The decision also deepened the crisis, Morgan Stanley analysts said.
“The current stage of the global sovereign debt crisis is the consequence of a demotion of government bonds in the liability structure of governments,” Arnaud Mares, an executive director at Morgan Stanley and former senior vice president at Moody’s, said in a Dec. 6 investor note.
Spanish funding needs for “regional governments and the banks make the country susceptible to further episodes of funding stress,” Moody’s analyst Kathrin Muehlbronner said in a Dec. 15 report.
Moody’s on Greece
Moody’s placed Greece’s Ba1 bond ratings on review last week for a possible downgrade, citing heightened concerns about the country’s ability to cut its debt to “sustainable levels.”
Ireland’s credit rating was cut by Moody’s to Baa1 from Aa2 on Dec. 17 and the company said further downgrades are possible as the government struggles to contain losses in the country’s banking system.
Irish lawmakers voted last week to accept an 85 billion- euro aid package from European governments and the International Monetary Fund to help stabilize the country’s financial system. Greece earlier this year became the first euro nation to seek external support.
from the Chicago Fed website:
Led by declines in employment-related indicators, the Chicago Fed National Activity Index decreased to –0.46 in November from –0.25 in October. Three of the four broad categories of indicators that make up the index deteriorated from October to November, with only the production and income category improving.