April 2010


With an election looming in the UK, here’s a chart depicting various strategies that aim to reduce the deficit. The US is fast heading this way, no major elections due, but, the deficits need to be addressed urgently. Anything look particularly attractive?

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With the spotlight increasingly falling on Sovereign credit risk, the fact overlooked seems to be interest rate risk for the banking system [again] and by extension the rest of the economy and stockmarket.

Interest rate risk is second only to credit risk for banks, so we are moving towards the double whammy for the banking system, and we have already seen how well the banks were previously prepared for a credit risk – where Central Banks could aid them with monetary policy. This time, we’ll likely encounter a credit event on a sovereign, combined with a resulting interest rate event across the markets.

The value of banks assets and liabilities are highly sensitive to changes in levels of interest rates. Forecasting shifts in yield curves accurately with a high degree of statistical condidence is rare. These shifts can be parallel, but very rarely are. There are three major problems:

*Duration matching involves analysing the price sensitivities of assets and liabilities.

*Gap analysis is essentially a method based on pricing assets and liabilities into a time analysis of repricing.

*Risk testing, or sensitivity analysis, involves subjecting the portfolio to stress testing, the kind which we saw in the last panic, as numbers were horribly fudged to avert total melt-down.

Why is this likely to become a major problem during a sovereign credit crisis? For exactly this reason:

The banks have gorged on government Treasury securities, as, of course, their initial securities went toxic in the first leg of the crisis and required massive bailouts in the form of huge liquidity injections. The problem in a sovereign crisis where credit defaults are the primary factor, are that interest rates will rise – no question, and if they do, the banks now have massive exposure in interest rate risk.

In the next few posts I’ll be examining where the risk lies, what the consequences might well be and where you can hide.

There are some, who are advocating the purchase of GS [at initially much higher levels] with an averaging down strategy. This frankly could be hazardous to your wealth, as, this breakdown may not find support on a technical basis until $115-$120 levels.

Should GS hit these levels, then, GS may well be a good speculation based on a technical analysis. Fundamentally, banks etc, are pretty much a black-box, you never really know what the hell you are purchasing.

Some quotes from the film –

Do you want to lend, or do you want to surf?
Charlie don’t lend.
I love the smell of CDS burning in the morning… It smells like nothing else.

flippe-floppe-flye fumbles his way into friday with all manner of egregious happenings.

If you are unaware, Henry Fool fired himself from iBC today, not due to negligence, but sheer stupidity. Here on iBankCoin, I like to uphold a certain level of professionalism, in between dispatching heinous insults to my readers. Because of my standards, I cannot allow someone to blog here, under the distinguished title of “official tabbed blogger of iBC,” and say shit like “BUY IMAX NOW (MOTHERFUCKER OR ELSE I WILL KILL YOUR KIDS AND YOUR PETS) BEFORE THE BELL.”

Nice.

On a far more serious note, no-one [Ragin] seems to have responded to my e-mail offering to offset the $10+ interest that flippe-floppe-flye owes me on a bet that after 2yrs, still awaits settlement, for an iBC Coffee Mug.

Obviously the entire culture of iBC simply consists of liars, thieves, assorted fools and just rather damned rude chaps.

*Wordpress has gone into total meltdown today, so all other posts will probably have to wait over the W/E

CRUS spiked higher, triggering my stop loss, out @ $12.79, a loss of 1.7%

However, I’m reinstating a new Short position @ $13.47.

It is time to take a big picture look at everything: This is a summation of everything we have discussed over the past month and quarter. Where are we in this particular cycle?

Fair enough, let’s take a gander.

Macro-Economy: The economic backdrop seems to be confusing quite a few people. Perhaps its the psychology of the moment. I keep hearing weak, data free analysis. Here is our 7 point overview:

So I’m expecting analysis backed by data.

1. The Economy is recovering; The recession is over: Of that, we have no doubt, as the data is clear. The free fall of 2008-09 is over, and a gradual improvement is seen across the board. Industrial manufacturing, exports, autos, retail sales, durable goods, travel all confirm the economy is “healing.”

So Industrial manufacturing:

How about Exports?

Try Retail Sales:

Durable Goods?

2. But, the recovery is “Lumpy”: — Part of the reason some people doubt the recovery story is how unevenly distributed the improvements are. Geographically, much of the country is still soft. In retail, it is pent up demand plus luxury goods. In technology, its mobile devices and consumer products. Financial firms are taking advantage of the steep yield curve and ZIRP to arbitrage profits, as opposed to actually lending. Profits are not evenly distributed either.

Take the obvious clanger – Banks, does Ritholtz have a clue about Banks? Obviously not.

Banks are not doing business, they are surfing the Yield curve, courtesy of the tax-payer.

3. Government spending is only part of the story: In the midst of the crisis, Credit froze, the consumer panicked, and business spending looked to be going extinct. Uncle Sam temporarily bridged the gap.

Really? What exactly is the rest of the story?

But the argument that government spending is the only game in town is overstates the case. Private sector CapEx spending and hiring is improving (albeit slowly); Consumers have come out of their bunkers and are dining out, going to the movies, hitting the malls, traveling.

Hiring?

We have not returned to the Home ATM days of 2004-07 — and probably wont in our lifetimes — but the present environment is a massive improvement from the 2008-09 contraction.

I’ll accept that one.

4. Weak Improvement in Employment: The massive labor under-utilization is one of the two biggest drags on the economy (RE being the other). Near record low hours worked suggest that employers can simply increase hours rather than make new hires. Thus, I do not look for a V-shaped employment recovery — forget about 400-500k NFP data — anytime soon.

So in the space of three paragraphs, he contradicts himself.

There are 15 million unemployed, and 8 million underemployed — it will take a long time for them to be re-absorbed into the economy. The 2001 recession took 47 months to return employment to pre-recession levels. This recession will likely take 65-75 months to achieve that goal — if not longer.

Pure speculation. Sure you can look at historical data for recessions and via a deterministic extrapolation, project forward. Ritholtz doesn’t even bother with that.

5. Real Estate (Commercial and Residential): We do not believe that residential real estate has found its natural price level yet. It remains over-valued. This is due to artificially low mortgage rates, foreclosure abatements and mortgage mod programs. We are probably 10-15% over valued, when measured by Median Sales price to median Income, Rent vs Ownership Costs, and Home Value as a Percentage of GDP.

Commercial real estate tends to lag residential by 18-24 months. It is still adapting to the downsizing of America, particularly retail. The over-investment in commercial real estate of the past decade will take at least another 5 years to resolve, if not longer.

Again speculative. Where is this vaunted data? Although I do tend to agree with this assessment.

6. Deflation? Inflation?: Well, as my pay Jeff Saut notes, we definitely have “flation.” Just not the type that everyone fears.

As of today, Deflation is a fact, inflation is an opinion. We are still living in a period of falling prices, heavy discounts, wage deflation, asset depreciation and lack of pricing power. The S&P500 is below levels seen in the 1990s; Wages are flat for a decade.

Really. Where is your factual data?

The risk going forward is that the Fed fails to remove the accommodations in time. But they have Japan as an example of Zirp with no inflation. So long as labor under-utilization is near record levels, they can take their time in tightening.

Lots of risks. Labour under-utilisation may well be one, but it most certainly is not a particularly important one. Try expansion of money supply.

7. The rest of the world: Europe is a disaster, and is likely to remain that way for a while. Asian economies are doing very well, helping to pull the rest of the world along — but China’s market is at 6 months lows, something few people are discussing. The risk in China’s real estate and stock markets has been mostly ignored,. Commodity regions and emerging markets still have strength.

Asia is far from fine – but where is your data and evidence? This analysis from Ritholtz can be placed in the nonsense basket – what drivel.

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